By Dana Taylor, Executive Vice President, MCABC
A perch at MCABC in front of a computer screen is probably not the best place to observe, let alone comment on, the world of construction but it does reveal some useful information that in turn may evoke some commentary from you the reader who has to run a business in that building world. It seemed this was the right place to throw out some notions and at least ask the question: “What is your experience?” A computer screen can conjure some information about how the world of contracting works but its veracity can be attested to only by those with actual experience. Here again we rely on you the reader to validate or refute the stories told.
For years I have held the opinion that our construction industry lacks sufficient research to properly tell the story of industry performance and behaviors. I believe this to be the case in part as a consequence of its very nature. Construction is a kind of manufacturing process in public view. That is, the process and structures built are mostly visible to the onlooker. While much of the detail is obscured, once a structure is enclosed, most people have an idea of what will be included in the final product by virtue of the simple fact that people use and occupy the structures built. What you see is what you get – what more do you need to know?
Less well known is the business behind what is built. It’s here that I want to touch on the construction procurement practices and industry trends and raise the questions of how these issues impact your contracting businesses. Unfortunately, going back to the issue of research, there seems to be little published on the subject of trends in the Canadian industry media and so I have relied on US sources for much of the following. FMI (Fails Management Institute) is a leader in construction management consulting and research in North America and is my principal source on this topic.
Construction projects getting bigger
The FMI Construction Outlook 2015 reported a significant change in the size of projects: From 2005 to 2009, there were only 87 projects over $1 billion in size in the U.S. versus the 2010 to 2014 period, which saw 336 projects over $1 billion. Conversely, nonresidential put-in-place spending from 2005 to 2009 totaled more than $3 trillion versus $2.8 trillion for the 2010 to 2014 period. In other words, as the overall market was shrinking in size, the number of mega-projects was exploding. Since the vast majority of contractors lack the size or scale to compete for these mega-projects (which therefore go to mega-firms and large joint ventures), the implication is that many firms were fighting for fewer and smaller projects.
This would of course require changes in strategy for that ‘vast majority’ of companies not pursuing mega-projects. Faced with the competition, for some, that might just mean closing the doors. What emerged from this new reality was a movement towards “cross-firm collaboration”, a form of joint-venturing. The suggestion is larger projects create more complex owner demands, one result being for mid-size and smaller companies to either collaborate or disappear. Cross-firm collaboration brings with it a whole new set of demands on contractor management. And this is only the beginning.
For trade contractors, including mechanicals, apart from the general shortage of trained and skilled tradespersons, their biggest challenge may be in managing the company and projects. FMI reports: “For many trade contractors that did not pursue a talent and leadership pipeline strategy years ago, the options for finding and hiring management succession candidates are limited.” These are the generalities, but what does today’s ‘contracting’ world look like? There are two major industry disruptors at work today, one being the state of the industry, the other procurement practices. I’ll first address the former by identifying emerging and established trends.
In 2013, FMI identified four industry-altering trends that will be predictably active over the long term impacting the construction services business model. They are: a low-bid commodification mentality, technological innovation, plentiful and affordable domestic energy resources, and the integration of design with construction.
The challenge for all construction firms – civil and commercial, general and specialty – “is to understand them and adopt strategically sound, competitive responses that will position their companies to thrive in the construction industry of the 21st century.” The question you must ask yourself is: How prepared am I to respond?
Construction as Commodity – Squeezing the Lowest Price
While many treat the manufacture of structures as commodity production it remains a poor analogy. Yet everything from online reverse auction to persistent traditional price peddling still dominate some markets, this while their own interactions “FMI regularly hears contractors and owners caution against blindly focusing on low price for construction projects….”
Nevertheless, a common refrain applicable to many to the question ‘why contractors price at extremely low levels’ was: “To keep their men working and maintain cash flow.” Certainly this is a recipe for disaster. FMI asserts that Standard Structures attract more competitive bidding thereby pressuring project owners to treat construction procurement as a commodity simply because these highly competitive structures are characteristically less complicated to build, due to standard designs and prototypes, and several builders can build them. Housing (residential and multi-family), warehouses, chain stores/retail, office buildings (excluding high-rises and skyscrapers), lodging, and schools are examples of standard structures.
Complex structures are less likely to be treated as commodities because of unique designs, innovative technology, difficult building conditions, mission-critical delivery dates, or are significantly large in scope. Owners tend to be looking more for best value, thereby avoiding the risk of poor quality and missed schedules for these large, unique projects. The negative effects of price-squeezed buildings are cut corners, increasing the cost and number of change orders, and billing for extras.
Most noteworthy in this environment is FMI’s announcement that “Some markets will continue to place value on quality services provided by competent contractors.” There was a time when there was a shared belief that ‘all markets’ placed a value on quality services. That’s certainly been our job as a trade association advocate of best practices. FMI notes further: “Increasingly, however, market conditions are pushing contractors to reduce fees, and it will be difficult to reorient project owners who have become conditioned to view construction services as discounted. These two factors continue to drive the market to the lowest common denominator – a vicious cycle that will be slow to reverse.”
Impacts of Technology
FMI concludes that technological innovation in construction methods is lacking in the USA (North America) despite the industry boasting some of the most industrious, innovative, and creative professionals. Meanwhile construction tools and technology are changing dramatically as evidenced by broadband mobile communication and handheld processing power in use by specialty contractors and GCs, thus radically altering the way projects are delivered.
Reference the list of tools and capabilities that accompany smartphones and tablets:
- Laser scanners that render accurate, multi-dimensional “as-built” drawings in minutes
- 3D printers that can fabricate a permanent building element in a matter of hours
- Paperless project sites where drawings, change orders, claims, and dispute “paperwork” are transmitted from office to job site to owner using integrated applications.
The impact of these technology tools adopted in the field has altered the expectations of services that contractors provide to owners. The efficiencies of information sharing and processing demand that businesses change.
Should contractors be shopping for ‘the next best technology’ (NBT) or addressing the important issues that relate to the culture and structure of an organization and its flexibility to incorporate technology that ultimately improves the value proposition for customers? Will your NBT being considered do any or all of the following?
- Improve the building process for owners
- Increase coordination with upstream and downstream subcontractors and trade partners
- Provide a stimulating environment for innovation
North American Energy Revolution
Given my reference study was produced in 2013 and since the turmoil in world oil production has occurred, it probably isn’t useful to spend a lot of time on this trend except to underscore the main effects. With US (and Canada) possessing some of the world’s largest reserves of oil and natural gas, and the recent focus turning to extraction, construction is impacted in two significant ways: 1. More construction resources are diverted to building this sector; and 2. The lessened dependency (in the US) on foreign fossil fuels and the relative lower cost of these fuels supports economic growth for petrochemical industries, utilities and industrial manufacturers.
In 2013 FMI reported “The implications of these energy-related trends for the U.S. engineering and construction industries are significant. Design firms, pipeline contractors, and multi-trade industrial firms are growing as much as 50% per year.” This leads to a growing level of concern about how to address shortages of skilled labor in western Canada and the U.S. Gulf region, a situation that affects all areas of construction.
This North American ‘energy revolution’ has lost some steam since 2014 but the fundamentals remain in place. “Tremendous access to untapped energy reserves, increased access to cost-effective alternative energy resources, and a renewed focus on energy efficiency are some of the components of this revolution,” says FMI.
FMI concludes that “seismic shifts in this ‘energy space’ will ripple through the construction industry for years.” The prime directive for contractors is to diversify strategies to enable further energy market participation.
Convergence of Design & Construction
FMI Observations: Over recent years there is “…a continuing trend in which architectural, engineering, and construction firms are conjoining through a variety of efforts.” What seem to have precipitated this phenomenon are foremost owner demands, and the need for businesses to grow and thrive. The rise of integrated A/E/C firms is reflected in mergers and acquisitions (M&A), partnerships, consortia, and organic growth. Perhaps as an offset to Mega Trend 1, characterized as “faster, better, cheaper,” has been the rise of design-build and related delivery methods in recent decades in response to the need to reduce project completion times. It is also suggested that these new delivery methods also tend to address improvements in project collaboration and conflict reduction.
What are the new construction delivery methods? Design-bid-build to design-build, construction management and program management, and the most recent entrant, integrated project delivery (IPD) are all captured under the rubric of ‘new’ whereas these are perhaps better described as in more frequent use.
If in fact the delivery method selected is a response to specific owner needs then contractor firms will reply with marketing elements to differentiate themselves from competitors. Project owners continue to identify and pursue greater collaboration. Will they find it by continuing to press for the lowest price and still get best value and on-time delivery? A recent FMI study of owners indicated that, although they are taking advantage of a low-bid environment, owners are not abandoning their approach to best-value procurement.
Consolidations both on the design and contractor sides appear to be on the increase creating a greater divide between larger and smaller firms. ENR (Engineering News Record) reported that in 2011 22% of the Top 500 design firms took in 82% of the revenue with 16 firms with over $1B in revenue accounting for 52% of the Top 500 revenue. In 2006 13 firms over $1B represented only 37% of total revenue.
On the contractor side ENR’s Top 400 in 2006 46 firms with more than $1 billion in annual revenue represented approximately 54% of revenue, while in 2011, 54 firms represented more than 60% of total Top 400 revenue. The suggestion is that, “Changes in revenue distribution between these two years show that only a few firms in the middle moved up due to natural growth and mergers, while many more moved down.” Also noted is that while consolidations are occurring among contractors, it is not as prevalent as it has been among design firms, but it is coming.
So you’d be right to ask ‘what are the drivers?’ Trends indicate:
- More, larger projects;
- More, large owners will be looking for full-service firms or groups of firms that can work together seamlessly, as with IPD contracts;
- More transactions of design firms buying contractors and contractors buying design firms.
In today’s construction landscape owners are seeking new services and capabilities and A/E/C firms prepare strategically for future market changes. FMI provides a recommendation: “Contractors must be vigilant to observe the actions within their industry and ensure that their suites of engineering and construction services are compelling to owners relative to the competition.”
This article identified two major disruptors focusing first on the current mega trends and how they may be affecting your market place. More needs to be said about the second – procurement methods. I will save that discussion for a future article as I believe it is this aspect of a changing landscape that will most dramatically impact the specialty trade contractors, namely you, the mechanical contractor. Meanwhile, I hope this outline will provide some food for thought.