Engineering & Construction Midyear Update: Firms Continue to Stand Tall
- midyear update
The engineering and construction industry began 2021 from a position of relative strength. After the industry was deemed essential in the early days of the pandemic, projects resumed relatively quickly. The result was that most firms finished the year either flat or positive compared to 2019, and that’s continued through the first half of this year.
A year ago, when the roads were mostly empty, several states—with the help of federal stimulus money—asked contractors to accelerate their work, moving up projects slated for the next two years. While there was concern the rescheduling could cut into revenue from 2021 and 2022, that hasn't happened so far.
In fact, this year is shaping up to be even stronger than last year as firms across the board continue to get work and generate cash. Meanwhile, margins are either staying flat or trending upward. Not surprisingly, infrastructure projects have been strong, as have education and residential construction.
On the downside, I don't anticipate seeing a lot of new large office tower construction anytime soon, but, more than likely, there will be projects to reconfigure the interiors of existing offices to meet the demands of COVID-era workspaces.
Logistics, Talent Challenges
When projects restarted last year, many firms found themselves dealing with logistics issues in getting materials to job sites. It’s a problem that is getting worse due to spikes in commodity prices and supply chain issues. The price of a newly constructed house has gone up significantly in some areas because of the cost of wood alone. Steel and copper prices have also risen dramatically.
Firms involved in projects that will take two or three years are trying to hedge their input costs either by purchasing all their materials upfront or making sure the pass-through clauses in their contracts are air-tight. Certain municipalities, however, won't accept pass-through clauses, and many firms are simply walking away from those projects rather than taking the risk.
As with most industries, finding talent has been a challenge. This has been a longstanding issue within the engineering and construction industry, in that there's a shortage of engineers, architects and project managers. Many such workers left the industry after the 2008 financial crisis and never returned. Plus, there’s the fact that very few people enter college with the construction industry as their main objective; they’d rather work in tech, engineering or finance. That might be why few colleges offer a degree in construction.
Tech, Succession Trends
A positive development in the industry is that many firms are using technology much more efficiently. Previously, if you wanted to inspect the roof of a building, you had to put up scaffolding and physically climb up and inspect the surface. Today, firms can use a drone with infrared capabilities and conduct the inspection in a fraction of the time. A vast number of firms are also using tools like virtual design to a much greater degree. This is just one example of how tech advancement could help solve the labor issue. Instead of needing a crew to erect scaffolding, firms can make good use of a drone.
Another trend worth watching is that a large portion of the industry is converting to employee stock ownership plans, or ESOPs. The vast majority of firms are owned by individuals or families. At one time there may have been a natural succession to the next generation; now, it’s becoming more uncertain that the owners’ children will want to, or can, work in the family business. The leaders of these companies are getting older and they’re looking for ways to diversify their holdings while giving their employees a stake in the business.
Liquidity Will Always be Critical
One of the biggest issues facing contractors is liquidity. One bad job or delay in a large receivable could significantly impact a firm’s liquidity. That’s why companies with good balance sheets will always do well, and they're doing well now.
It's also crucial to pay attention to the amount of debt a firm carries. This is a volatile industry, and companies should not carry debt beyond a certain level, in our opinion—typically no more than 2.5 times EBITDA, plus or minus a few points. As always, the companies that have engineered their balance sheets to maximize liquidity are the ones that are going to be in great shape going forward.
A Positive Outlook
All told, the initial concerns about the second half of 2021 have turned out to be somewhat muted, and it looks like 2022 is shaping up to be a strong year as well. We expect decent margins to continue, and projects in large metropolitan areas like New York that had been delayed by the pandemic will start to come to fruition in the second half of the year, which should help 2022 get off to a strong start. Finally, any type of infrastructure plan that Congress passes this year will benefit the industry.
Managing Director, Head of Engineering & Construction
Shahrokh Shah is Managing Director of the Engineering & Construction group at BMO Harris Bank. Based in Chicago, Shahrokh is responsible for leading a t...(..)View Full Profile >
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