UK Market Intelligence Q2 2018: Construction industry facing capacity crunch as Brexodus begins

2018 began with a whimper, not a bang, for Britain’s construction industry.

Economic overview

Official data shows that total construction output fell by 0.8 percent in the first three months of 2018 – the sharpest decline since 2012.

The industry’s contraction was also blamed for pegging back Britain’s economy as a whole, with the ONS suggesting it was a key reason UK GDP grew by just 0.2 percent in Q1 2018.

Nevertheless there are signs that Q2 has got off to a stronger start, with the sentiment-led Construction Purchasing Managers’ Index rising to 52.5 in both April and May, up from a 20-month low in March.

There is a note of positivity too in our most recent market intelligence survey, which detected an uptick in sentiment on the construction front line during Q1 2018.

Nearly a third (28.4 percent) of contractors we interviewed felt the market was warming up, the highest level since Q1 2017.

In many ways, the economic backdrop is benign. Interest rates remain close to record lows and sterling’s improving fortunes have eased cost increases of imported materials.

Our price data showed that the yearly movement of construction materials and components increased at its slowest pace since Q1 2016.

The picture is less rosy on the labour front however. Surveyed contractors expected labour cost inflation to increase by an average of 4.0 percent over the coming 12 months, with skilled labour a particular concern.

Carpenter/bricklayer costs are expected to see the greatest increase at 4.3 percent, while general labourer costs are set to increase by a more modest 3.9 percent.

Figure 1: Turner & Townsend tender price index annual percentage changes

The data shown above is representative for the UK as a whole and costs may vary substantially between regions. For further assistance on cost assurance and inflation analysis in your area, please contact Turner and Townsend 

Despite the sector’s fall in demand, there has been little let up in contractors’ sense of how stretched they feel. Across the industry, we found contractors to be operating at an average of 86.2 percent of capacity in Q1 2018.

Figure 2: Turner & Townsend contractor survey Q1 2018, what capacity is your company currently operating at? (100% = full capacity)

 

While this is lower than the figure recorded in Q4 2017, it is still 1.9 percentage points higher than Q1 2017 - a year earlier - suggesting some of the inflationary pressure is structural rather than merely cyclical.

In summary, the industry remains caught in a double bind – weak demand as clients defer investment decisions, and a long-term skills shortage which is driving up labour costs and slicing into contractor margins.

Two years on from the Brexit referendum, the skills shortage is at a turning point. An exodus of foreign-born workers and a demographic time bomb threaten to shift the skills crisis from serious to chronic.

This edition of the UK market intelligence report will look at how clients and contractors can identify and mitigate the threats posed by the skills shortage, and consider how the industry as a whole must step up to prevent it doing lasting damage.

 


Construction by numbers

Figure 3: Turner & Townsend tender price index, annual percentage change

 

Key indicators

  • Materials: The worst of the inflationary impact seen from the devaluation of sterling looks to have passed through the industry, however, cost increases are being seen with global demand for construction material and components rising.
  • Labour: As the level of migrant labour reduces in the UK, labour costs continue to be placed under further duress as skills shortages persist.
  • Overheads & profits: OH&P’s over the past three months appear to have stayed the same across the UK.
  • Preliminaries: Movement in the level of preliminaries has been minimal in the past three months with figures remaining unchanged.

Key numbers

  • Construction employment recorded no growth on the quarter and decreased by 0.3 percent on the year as of Q1 2018.
  • Vacancies in construction decreased by 2.4 percent on the quarter and decreased by 8.9 percent on the year, as of Q1 2018.
  • New orders decreased by 4.6 percent on the quarter and 6.6 percent on the year in Q1 2018. This is the second success fall on both quarter and year.
  • Total new company insolvencies in construction have increased for the third consecutive quarter, increasing by 16.9 percent on the quarter in Q1 2018. New company insolvencies also increased on the year by 4.5 percent.

 


Brexodus begins

While still a trickle rather than a flood, the direction of travel is clear.

Thousands of EU-born workers are leaving the UK and not being replaced. In the first three months of the year, just under 2.3 million nationals of other EU countries were working in Britain, 1.2 percent fewer than a year before.

The fall – the first recorded in eight years – was driven mostly by the departure of workers from the eight eastern European countries which joined the EU in 2004, whose numbers have fallen by 9.1 percent over the past year.

The construction sector is feeling their loss more sharply than many. With one in eight UK construction workers born overseas, ours is an industry especially exposed to the danger of such migrant workers choosing to leave.

ONS data shows that between the time of the EU referendum and the end of 2017, the number of migrant workers as a share of the UK construction workforce fell by 1.0 percentage points.

Migrant labour gravitates towards regions of high construction activity. The industry’s exposure is greatest in London, which has by far the heaviest reliance on foreign labour of anywhere in Britain.

Figure 4: Regional construction output vs. the proportion of migrant labour

Source: ONS Labour Force Survey & construction output - Q4 2017

Migrant labour gravitates towards regions of high construction activity. The industry’s exposure is greatest in London.

By the time of the 2016 EU referendum, half (49.6 percent) of the capital’s construction workforce had been born abroad. Since then this proportion has plunged by 7.0 percentage points – the fastest 18-month decline seen in 15 years, sharper than that seen after the 2008 recession.

Figure 5: The number of migrant workers as a share of the London construction workforce, proportion of migrant workers within the construction industry

 

Source: ONS Labour Force Survey

While the UK government has made clear that citizens of other EU countries already living in the UK will be welcome to stay after Brexit, formally triggered in March 2019, it’s clear that fewer European workers are choosing to come to the UK and some of those already here are opting to leave.

Whether they are doing so because of Brexit concerns or Britain’s softening economy is moot. Brexodus has begun and the loss of skilled workers is pegging back capacity and driving up labour costs across the construction industry.


Demographic timebomb

The other key driver of Britain’s construction skills shortage has been years in the making.

The construction workforce is steadily ageing, and the industry is struggling to attract sufficient numbers of school-leavers and younger workers.

At the end of 2017 nearly half (46.5 percent) of the labour force was aged between 45 and 64. Such older workers, who are typically the most highly skilled, appear in Figure 6 as a demographic bulge at the higher end of the age spectrum.

Figure 6: UK construction workforce age profile distribution, proportion of construction workers

 

Source: ONS Labour Force Survey - Q4 2017 data

In the past 15 years, that bulge has grown by 8.6 percentage points, as middle-aged workers form a steadily larger proportion of the workforce.

By contrast, the share of younger workers in the labour force has fallen sharply. During the same time period, the proportion of school-leavers (i.e. 16-19yrs) in the workforce has slumped by nearly half – and they now account for barely two percent of construction workers.

The cohort of workers aged 20-44 has shrunk too, with its share of the total workforce falling by 6.5 percentage points. The industry’s increasing reliance on older workers has two major implications. In the short term it is inflationary, as highly experienced and skilled staff typically command the highest wages.

But in the longer-term, their dominance represents a demographic time bomb. With many of these workers likely to retire in the next decade, there are insufficient numbers of younger staff to replace them – and the resulting net loss of talent could prove problematic.

However there is one notable ray of light as the industry’s reliance on older workers varies substantially by region. Interestingly, some of the regions with the highest reliance on older workers have the lowest exposure to migrant workers.

For example in North East England, 53.9 percent of the labour force is aged 45 or over, yet 5.9 percent of workers are migrants.

By contrast in London, there is an abundance of younger workers and barely a third (35.3 percent) of the labour force is middle-aged. But there’s a fly in the ointment – nearly half of the workers aged 20-44 are foreign-born migrants.

Figure 7: The number of migrant workers as a share of the regional construction workforce, aged 45-64

Source: ONS Labour Force Survey - Q4 2017 data

For most of us in the industry, whether these two threats end up magnifying or cancelling each other out is really of just academic interest.

Of far greater concern is the risks they represent – wage inflation in the immediate term and ultimately the danger that the tight labour market could be stretched to breaking point.

To meet these challenges, it’s essential that the construction industry attracts and retains more young talent. So far, efforts on this front have had mixed results.


The recruitment fightback

The resurgence of apprenticeships in the past 15 years has provided a significant injection of young blood into construction.

In the past five years alone, the number of people beginning apprentice courses in construction, planning and the built environment has risen by 54.4 percent.

However, although almost 22,000 people entered the industry this way in the last academic year (2016-17), this figure remains well shy of the nearly 28,000 who did so a decade before in the pre-crash year of 2006-07.

Figure 8: Apprenticeship starts in construction, planning and the built environment, total apprenticeships

Source: Department for Education

Equally there are encouraging signs from the number of workers attaining qualifications – at all levels – in construction, planning and the built environment in Q4 2017, which increased by 26.1 percent on the year before.

In addition, construction will be one of the first subjects available at T-Level, the Government’s new flagship technical education qualification, when it launches in September 2020. Designed to be on a par with A-Levels, T-Levels will offer a vocational alternative to conventional
academic studies.

Clearly the industry cannot rely on government alone to make the industry more attractive to young people. The sector already has a standard bearer in the Construction Industry Training Board (CITB), but it needs full-throated support – rather than just levy contributions – from construction firms to fulfil its mission to help the industry attract and retain the skills it needs.

Similarly the apprenticeship levy – which was introduced last year, and requires businesses with annual wage bills of £3m or more to pay into a training fund which they can then use to take on apprentices – has so far failed to realise its full potential. While the government is now taking steps to help companies navigate the levy’s complicated mechanics, employers should also embrace the scheme fully; as too much of the funds being set aside remain unspent.

Meanwhile leading players in the industry are taking steps to inspire the next generation of construction professionals by engaging with schools.

Empowering teenage students to build a future in design, engineering and the built environment:

  • Turner & Townsend is empowering over 100 young people to learn about the built environment and gain valuable early GCSE and A-Level qualifications.
  • We are working with three high schools across the UK; in London, Gateshead and Stirling through the Class of Your Own programme.
  • The Design Engineer Construct! (DEC!) syllabus uses project-based learning techniques to apply academic knowledge to the latest built environment practices – including coursework in which students are asked to design an entire building using BIM.
  • Our team is providing mentoring and advice to GCSE and A-Level students and supporting them with class-room and site based activity as they work towards achieving their GCSEs and A-Level in DEC! through to 2020.
  • The scheme is an example of the industry taking proactive steps to change the perceptions of the built environment and infrastructure sectors among teachers, parents and pupils; giving them a flavour of design, engineering and construction’s strategic importance to the UK and highlighting it as a source of interesting and rewarding careers.

 


Pushing for productivity

No single solution will solve the industry’s skills crisis, and even a perfect combination of initiatives is likely to take time to reverse such long-term demographic trends.

The more immediate challenge for both clients and contractors is to identify – and mitigate – the challenges posed by skills shortages before a project begins.

Used correctly, a pre-emptive approach should ensure a ready supply of labour, assure the wage bill and drive maximum productivity from the workforce. Tactics will typically include:

1. Lean in

Lean thinking is a management philosophy which seeks to embed efficiency and flexibility into a project team’s structure and processes.

Though its origins lie in manufacturing, it is increasingly being used in the delivery of capital programmes to save time and labour – and engage the maximum number of people in delivering value.

Our lean specialists have successfully used the philosophy to help clients boost workforce productivity. In practical terms this means ensuring the right skills are on site at the right time, and that skilled tradesmen spend all their working time productively and not waiting for materials of information.

Used correctly, lean is a powerful way for clients to streamline project processes, right from the design into the delivery phase. By securing buy-in across the supply chain, and getting everyone to stick to clear metrics, both delays and the need for rework can be reduced.

2. Off-site construction

Quantum leaps in modular construction technology have long since consigned negative connotations of pre-fab to history.

Off-site construction offers a range of advantages, but for its benefits to be fully realised, the technology needs to be used correctly.

Some benefits speak for themselves, such as the dramatic saving of on-site time, good visibility for clients and project managers, and the consistent, production line level quality.

The cost advantages are less clear-cut, for two reasons; cost saving is in time rather than upfront cost, and the technology’s relative youth means unit costs could fall in the future as manufacturers increase volumes and see economies of scale.

The key to using off-site production efficiently is to get the manufacturer involved early and collaborating well with on-site contractors. Off-site production lines should not be allowed to be out of sight, out of mind, and timing is crucial. Cost savings will quickly be lost if on-site progress gets out of step with the production, or delivery, of modular units. 

Britain’s construction skills crisis predates Brexit. Its roots lie in the last recession; or more accurately in the recovery that followed it.

While the downturn caused a sharp shedding of skills as workers were laid off, the recovery outpaced the industry’s ability to recover those skills.

In the hottest markets, such as London and the South East, contractors quickly built their capacity by importing labour from abroad. Meanwhile in cooler markets such as the North East, the steady rise in demand allowed contractors to continue using a cohort of gently ageing workers.

Markets at both ends of the spectrum now face serious threats to the continued supply of labour. While investor confidence – or the lack of it – is likely to remain at the mercy of the Brexit process, the skills crisis is a clear, present and immediate danger to the construction industry.

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For further information contact:

Kristoffer Hudson
Economist

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