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The recession has hit the construction industry hard in
many markets. And, while demand is starting to pick-up, rising
costs and reduced inventories may well slow down the level of new
leasing business written this year. Vicky Meek
reports.
The construction industry is a bellwether of the broader
economy. It is hardly surprising, then, that the sector has faced a
difficult two-and-a-half years in many markets.
As confidence and property prices
crashed in the wake of the financial crisis in countries such as
Spain and the UK, once vibrant construction industries faced
disaster.
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By GlobalDataYou only have to look at the sudden
collapse of companies such as UK social housing maintenance
specialist Connaught in 2010 to see how the reining in of public
spending has affected the sector. Meanwhile, many private projects
have either been delayed or abandoned.
The depressed state of the industry
in many European countries clearly has an impact on demand for
construction equipment leasing as well as on funders’ willingness
to provide finance for it. The past two years has seen a number of
funders exit the construction market.
National
trends
“A lot of local leasing companies,
such as the leasing arms of some UK banks, have stopped leasing in
construction,” says Neal Garnett, vice-president for Eurasia in De
Lage Landen’s construction team.
“Prior to the global financial
crisis, we also saw some local players expand internationally: many
of these have now retrenched.”
Yet it is hard to point to uniform
trends across Europe at the moment. As some countries are seeing a
return to growth, others are stuttering or still seeing declines in
construction activity.
“Construction is currently an
interesting market in that it has changed considerably,” says
Garnett. “Just 18 months ago, it was possible to talk about
European trends; now, national trends are more important.
“For example, Germany is surpassing
our expectations in terms of business opportunities. Germany has
been very much an ownership market, and now we are seeing leasing
activity in all ticket sizes.
“Meanwhile, markets such as Spain
are very flat. In Italy, demand is patchy. We are seeing more
business at the mid to larger end of the market in equipment such
as cranes and aerial work platforms, but there is less at the
smaller end.
“Overall, the recovery in the
sector appears to be patchy.”
Construction data and forecasts
back this up.
In the UK construction output is
set to fall over the next two years, according to the Construction
Products Association. It is forecasting falls of 0.8% in 2011 and
2% in 2012, as private sector construction fails to match the fall
in public sector spending.
Lower output implies lower demand
for new equipment in the sector. Yet in Germany, as Garnett points
out, the picture is very different. Last year, the German
construction equipment and building material machinery saw a 13%
increase in turnover, pointing to greater demand for these
products, with further growth of 10% anticipated for 2011,
according to the German engineering industry association, the
VDMA.
Economic recovery drives
sector interest
Despite this patchiness, lessors in
the sector, including start-ups like Hitachi Capital Business
Finance, which set up a UK construction division last year, see
opportunities in most markets.
“During the economic downturn there
was an understandable drop in business and asset investment in the
construction sector,” says Alexander Baldock, managing director of
Lombard.
“However, there has been some
evidence of recovery from this position and today construction
investment indicators demonstrate a steady growth in Finance and
Leasing Association funding.”
Baldock adds: “In terms of outlook,
economists are forecasting overall growth of 2% in the UK.
“However, the longer term outlook
for investment in construction industries is expected to be higher
at 4-5%, rising to 7% in future years.”
BNP Paribas Leasing Solutions also
expects an uptick in business.
“Demand in Western and Southern
Europe has reduced by more than 60%, but we have outperformed this
industry pace,” says Bertrand Negrier, head of farming,
construction and materials handling at BNP Paribas Leasing
Solutions.
“Construction equipment bottomed
out in early 2010 and we expect an increase of 15% in 2011 versus
2010.”
At the same time, some funders are
looking at the sector with renewed interest.
One broker says: “Construction has
been deeply unpopular with many funders for the last two years. Yet
we are seeing signs of a renewed confidence in the sector as the
realisation dawns that there are some strong credits out there.
“Some construction businesses have
gone bust, but we are left with the strongest players.”
“Take scaffolding companies, for
example,” adds the broker.
“They were given a massive black
mark, but lenders are starting to be more receptive to providing
finance even here. We are seeing a gradual warming up to
construction in 2011.”
DLL has also noticed a general thaw
in lenders’ attitudes towards the sector.
“Credit tightened significantly in
2009 and 2010 and we saw a lot of people exit the asset class
because they did not have the money to lend,” says Garnett.
“We are now in a phase where credit
committees are more comfortable with the asset class and so we will
see more funders in the market.”
However, the increased appetite
among funders appears – so far, at least – to be concentrated at
the smaller end of the market for equipment such as small
excavators, rather than at the big ticket end for equipment such as
cranes.
“On a Europe-wide basis, there is
more competition at the smaller end of the construction equipment
leasing market than at the larger end,” says Garnett.
“That may be a symptom of the
constraints on funding that has continued to affect some lessors.
So, at the smaller end, prices are keener and the differentiating
factor for funders tends to be the speed of a decision – dealers
and end-users are expecting more rapid decisions now.”
Yet some are looking across the
spectrum for business. DLL is one lessor that will fund large
assets and it is here that creative structuring on leases is being
seen currently as vendors and manufacturers seek to win new
business.
“The terms and structures of big
ticket items can vary – much more so than at the smaller end,”
explains Garnett.
“The amount of deposit, additional
collateral from the lessee and whether we have recourse to the
vendor or dealer changes from deal to deal and on the bigger sales,
partners are much more willing to share in the risk.
“There are also creative structures
that can be written into the lease in areas such as break terms.
But it requires a good knowledge of the market to structure the
deals attractively for customers but also appropriately for the
lessor.”
Hitachi is targeting all assets in
the sector in the UK and is hoping to attract business in an
environment where many have exited.
“We are seeing demand pick up in
all areas, from the smaller end right the way up,” says Hitachi
Capital Business Finance head of sales Marie Dunkley.
“A lot of people withdrew from
construction finance and the market has been depressed for the last
two to three years, so we feel there is a good space in the market
for us.”
Japan natural
disasters
Yet, even despite the increased
willingness of some funders to lend to the sector and signs of
increased demand, there are issues that may thwart the ambitions of
lessors – at least in the short term.
Japan has historically been one of
the largest suppliers to the construction equipment market and the
earthquake and tsunami that hit the country earlier this year is
affecting manufacturing lead times.
Mining and construction equipment
manufacturer Komatsu, for example, had its production and parts
procurement businesses severely disrupted by the natural disaster.
Hitachi Construction Machinery also suffered damage to some of its
buildings and production facilities, although it was able to resume
activity relatively quickly.
While others, such as Caterpillar,
were not directly affected by the quake and tsunami, ongoing issues
with power supply and damage at logistics hubs such as the Ibaraki
Port, mean that production and transport of equipment and
components have been delayed.
“The impact of the Japanese
disaster has been significant,” says Dunkley. “Inventories have
reduced and where manufacturers don’t have stock, lead times are
going out tremendously.
“They are now between six and nine
months for many items and 12 for some.
“The biggest problem we see in the
market is supply and demand. So, even if there is increasing
demand, customers can’t get a lot of the equipment they need.”
Some dealers are attempting to
shorten lead times by making pre-emptive orders on behalf of their
clients.
“Construction equipment assets are
currently suffering from longer delivery delays partially caused by
the sourcing problem in Japan,” says Negrier.
“But we are seeing dealers start to
order units that are not yet allocated to a client [known as
precautionary orders]. This reinforces the stocking needs of the
distributors. We have designed solutions to handle such needs, and
so think will have a competitive edge in the coming months.”
Another issue is the increased cost
of raw materials as commodities prices spike. Coupled with short
supply, this factor means that factory gate prices are rising.
While, in some respects, this should increase the attractiveness of
leasing as a finance option as customers seek to spread the cost of
their payments, it also means second-hand equipment becomes a more
viable option for some.
“Demand for second-hand equipment
is huge right now,” says Dunkley.
The effect of this, and other
factors, such as lower supply to the second-hand market because of
lower primary market sales, means that residual values are now high
on good quality equipment and look set to remain so for the
foreseeable future.
“We expect, with relatively low
levels of new sales and extended replacement cycles throughout the
downturn, there will be a shortage of low hours/used equipment,”
says Baldock.
“As a result, RVs [residual values]
should remain healthy at the top end of the market, while RVs for
older equipment will remain depressed but stable.”
“Residual values fell significantly
in 2009, but they improved through 2010 and 2011 is improving
further on this front,” adds Garnett. “A lot of larger rental
companies have started buying again and, as buyers of good quality
second-hand equipment as well as new, this clearly affects used
equipment prices, positively.”
Rise of emerging market
manufacturers
The issues in Japan may also be
accelerating a shift that has become apparent over recent years:
the rise of emerging market manufacturers, most notably in
China.
Growth in demand for equipment has
largely been driven by markets such as China over the last few
years as these countries power ahead with the infrastructure
projects necessary for economic development.
Naturally, domestic demand has
given rise to domestic manufacturers. Yet many of these are now
looking closely at export markets, with Europe firmly in their
sights.
“Our Asian business was originally
set up to follow the US and European vendors as they expanded in
Asia, but actually, we are now seeing many Chinese and some Korean
manufacturers start to target Europe aggressively,” says
Garnett.
“I think that will be a defining
trend in the way the construction market develops over the next few
years – many saw the arrival of newer, largely Chinese, Asian
manufacturers in Europe coming, but it is happening much more
quickly than expected.”
The impact of this on funders is it
could well mean they need to form new relationships with different
manufacturers.
Brighter looking
prospects
Overall, challenges still remain in
the construction leasing market, particularly in the short
term.
While funders may be warming to the
sector once more, writing new business looks set to be an uphill
struggle for some time to come. At the same time, structural shifts
may mean a change in the relationships they forge.
However, over the longer term, the
prospects look brighter as the construction industry recovers more
uniformly. The Construction Products Association forecast a 3.9%
growth rate for the industry in the UK by 2015.
There is also the need for
construction companies to renew their equipment as it becomes
outdated and costly to maintain.
Possibly one of the biggest pushes
for companies to invest in new equipment will be changing
environmental legislation on a European level in exhaust emissions
with some new standards already being phased in.
“Manufacturers are expecting some
clients to move investments forward as they decide to go for the
ultra-modern and environmentally-friendly machines,” says the
VDMA.
“In any case, clients in Europe and North America will have to
go along with this [as new equipment is phased in].”
See also: Changes in demand
in the construction industry
