Foundations for SuccessPositioning for high performance in the African construction market

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South Africa Construction Growth StrategySouth Africa’s construction industry has experienced a decade of considerable growth. Government infrastructure spending in the mid to late 2000s, including numerous construction projects undertaken in preparation for the country’s hosting of the 2010 World Cup, boosted commercial construction, while a boom in the property market benefitted the residential construction industry as well. But industry forecasts predict the South African construction market will face tough times ahead.

Growth in output is forecasted to slow considerably, from an average of 8.6 percent annually between 2005 and 2010, to an average of 5.1 percent annually between 2015 and 2020. Private-sector investment remains depressed due to low access to financing for customers. Public investment also is slowing from a previously high base and policy uncertainty remains a key concern. Finally, a significant rise in construction costs is predicted. It is estimated that construction costs will rise by 7 percent in 2013 alone.

In a market historically characterized by volatility, revenue growth and profitability of firms throughout the market has been inconsistent, with upward and downward financial swings experienced over short time periods. While engineering, contracting and construction services company Murray & Roberts reported a loss of R736 million for the financial year ended June 30, 2012, it reported a profit of R400 million for the first half of fiscal year 2013. Group Five reported revenue of R8.78 billion in its 2012 fiscal year, but its operating margin dropped from 6.9 percent in 2011 to 3.8 percent in 2012. Aveng Group also reported a significant swing in earnings. The local construction division reported a 4 percent increase in revenue to R9.9 billion in 2012, but earnings were down 265 percent year over year. The company’s performance swung from an R443 million profit reported in the 2011 fiscal year to a loss of R733 million for fiscal year 2012.

Competition in the South African construction market is intensifying as an influx of foreign companies battle with established local firms for market share under fierce market conditions. While four major local firms compete for public and private spending, they are threatened by government-backed Chinese companies that continue to demonstrate their power in this market. Add to this the large European companies that, faced with limited opportunities in their own markets, are positioning themselves in South Africa and Africa, and the competitive dynamics in the construction market become increasingly complex.

In short, Accenture believes the South African construction industry going forward will be characterized by a number of challenges, including subdued margins, increased levels of competition and higher levels of volatility, uncertainty and relatively weak growth. Yet there are rays of sunshine emerging through the clouds. Looking further north, sub-Saharan Africa paints a picture of opportunity that may provide much-needed growth prospects.

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Fuelled by large construction initiatives such as airports, ports, dams, and railway projects—the result of decades or, in some cases, centuries of under investment—numerous countries in sub-Saharan Africa are forecasted to achieve a construction average annual real growth rate of 8 percent to 13 percent between 2013 and 2017. Some of the largest such initiatives on the continent are the following:

• In Senegal, a new international airport on the outskirts of Dakar will be completed at an estimated cost of $1 billion.

• A new oil logistics port will be built near the Jubilee oil field in Western Ghana.

• Nigeria will build an $850 million railway project linking Abuja and Kaduna, finish work on the Mambilla Dam, and complete the rehabilitation of some of the nation’s pipelines.

• A real estate development project in partnership with China will lead to the construction of 100,000 new houses in 14 provinces of Angola.

• Botswana will pursue a $300 million project involving construction of a 300MW coal-fired power plant.

• Mozambique plans a $420 million Airport Hubs in Pemba and Tete and a $1.5 billion Nacala Coal Terminal.

• The Gibe III—soon to be the highest dam in Africa—will be built in Ethiopia at a price of $1.7 billion.

However, this promising potential market growth is accompanied by many challenges and much uncertainty, making capitalizing on such opportunities far from straightforward. Effective legal and political systems are required for business to thrive, and some African countries (such as Madagascar and Mali) regressed on this front last year. Direct contracting is common in many regions, and global construction players—most notably from China—are forming strategic alliances with federal governments for flagship infrastructure projects. Africa as a whole faces dire challenges in skills availability, particularly engineers and procurement specialists. Bottlenecks in the supply system, especially for cement and other key inputs, hamper construction activity, particularly in landlocked countries such as Congo. Factors such as migration, urbanization and population growth are creating a situation where infrastructure is increasingly being overloaded. Finally, sustainability concerns are leading to an increased use of embedded technology in buildings and infrastructure, requiring better telecommunications networks and skilled resources. Hence doing business in Sub-Saharan Africa is far from easy or certain.

The Sub-Saharan Opportunity and Challenge

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Clearly the African business environment is more complex and shifting faster than ever. Yet the traditional strategy formulation approach most companies take is based on past trends and current thinking; as such, it fails to take into account alternate possible futures. South African construction companies considering pursuing the numerous growth opportunities elsewhere on the continent need greater flexibility in strategy. But even that is not sufficient.

What South African construction companies need are more resilient strategies. Developing such strategies requires new tools and approaches to augment the traditional strategic planning process to respond to greater uncertainty and complexity—in other words, to “future-proof” their strategies by planning for the feasible

alternative futures. This involves a “scenario envisaging” exercise to identify possible futures that could unfold.

Utilizing our research on the market forces in the industry as well as third-party research, Accenture followed a structured methodology to develop a plausible set of future scenarios (Figure 1) for the sub-Saharan Africa construction market. Our analysis suggests four potential futures could materialize in the next five to 10 years as a result of fluctuations in market opportunities and shifts in the ease of doing business.

Tough but fertile. This scenario is effectively the natural evolution. The African marketplace is generally regarded as attractive, but South African construction companies continue to struggle to penetrate due to inherent obstacles.

Free for all. The market is very attractive and under-penetrated, and there are beneficial changes that make it easier to operate in the marketplace. There are few deeply entrenched competitors, thus making it a “free-for-all.”

Tough and scarce. The market is unattractive and barriers to entry are high due to ongoing economic and political stability concerns.

Easy but scarce. The market is less attractive due to limited construction work or deeply embedded competitors that already have a strong presence and delivery track record. But beneficial changes make it considerably easier to operate in the marketplace.

While there are no guarantees of what the future will hold, inferences from the available information strongly suggest a future bounded within these four scenarios.

Tough but fertile

Tough and scarce

Free-for-all

Easy but scarce

Opportunities

EasierMore

challenging

Less opportunities

Ease of operations

Mar

ket

oppo

rtun

ities

Figure 1. Possible Future Scenarios

Building a Future Proof Strategy

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Given these four likely futures, how should South African construction companies create a strategic investment plan? While uncertainty as to which scenario could evolve will persist, companies should strategically position themselves to minimize risk, remain flexible and capture the opportunities that arise. Several strategic options are available (Figure 2). Doing nothing is not an option because opportunities will be missed. Likewise, investing in all eventualities is impractical.

Placing a small set of strategic bets through full-scale investments is a more practical option, but is fraught with risk. A company could be very successful in one or more possible future scenarios, especially if it “guesses right” and builds its capabilities in such a way that it has a huge head start over competitors when the anticipated opportunities materialize. But this approach is a big

Figure 2. Strategic Options

Investment

Invest in “No Regret Moves”

Invest in all eventualities

Invest in strategic bets

Build on the foundation

Do nothing

Risk

+

+

–

–

1

3

5

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gamble. Executives must have a very strong belief that the big-bet investment is the right move to balance against the risk it might not pay off if that future scenario does not unfold.

Given the shortcomings of the preceding three approaches, we recommend a company first invest in what we call “no regret moves” to establish a solid foundation for growth, and subsequently build on that foundation with a series of selective small-scale strategic investments that prepare company to move if opportunities arise without exposing the firm to undue risks if they don’t.

Taking Actions to Future Proof

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Enterprise risk managementOperating in an uncertain context requires anticipation. By establishing a governance model for risk management supported by processes and a system to manage strategic, financial, regulatory and operational risks in a systematic way, construction companies will be able to anticipate and mitigate the major risks that contribute directly to project overruns and margin erosion. Indeed, the absence of effective risk management processes and systems is one of the main causes of project cost overruns that, in some cases, can account for more than double the initial project budget (as was the case with Gautrain, King Shaka Airport, and Transnet Durban-Johannesburg Pipeline).

A systematic approval process of tenders—which should include, from an operating perspective, different factors such as required expertise, geographical market, contract type and size, and resources availability—can substantially contribute to an operating margin increase.

Furthermore, construction companies should define standardized processes for risk management during the construction/execution phase. Such processes will give companies a standardized and integrated view of the project’s status (schedule, costs and variance) at any given time and enable them to identify mitigation plans for potential deviations.

Finally, because claims are one of the major sources of losses for construction companies in South Africa, construction companies should have in place at the outset of a project a process for claims management that should include well-defined policies for document retention.

Supply Chain OptimizationWith an expectation of a significant rise in construction costs (primarily due to the high demand for raw materials to satisfy the construction need in countries such as China and India), and considering that procurement costs can account for 60 percent of project’s budget, an optimized sourcing and procurement function in construction companies is more important than ever. By defining a well-balanced sourcing and procurement operating model, with both local and global dimensions and a total cost of ownership approach, construction companies can achieve significant improvements in EBITDA, often exceeding five percent.

The global dimension should take into account the global purchasing strategy and enable consolidation and negotiation of frame agreements for the most relevant categories. At a local level, the purchasing department should be aligned with project managers and other internal clients. The local purchasing organization should support global sourcing by enabling the consolidation and sharing of information through analytic capabilities that deliver an accurate overview of purchasing activities across the entire company, facilitate spend analysis and decision-making, and reduce prices through economies of scale.

Talent EnhancementAnother great challenge faced by construction firms in Africa is a shortage of talent, mainly in engineering and management areas. There are various reasons for this trend, including high demand for engineering skills in emerging markets due to infrastructure projects, local rules for preferential employment, technological developments that require staff to learn new skills, and insufficient appeal of professional career paths and salary conditions in the construction industry. In addition, because of the cyclical nature of the industry’s business, staff numbers must be reduced in periods of less dynamism, leading to a sense of instability and a drain on knowledge resources.

To address these challenges, construction companies should define and implement talent strategies that allow them to hire, develop and retain the best talent and make them operate globally by improving their multi-lingual capabilities. Furthermore, to ensure critical business and job knowledge is retained and shared effectively, companies should define and implement processes to enable knowledge exchange, document management and collaboration.

First step: “no-regret moves”No-regret moves are investments that are required and are “future-independent”: enterprise risk management, supply chain optimization, and talent enhancement. These are moves that all construction companies require to lay a solid foundation for growth and should make regardless of which future ultimately unfolds.

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To build on the foundation laid by the no-regret moves, companies need to make selective small-scale strategic investments. These are cautious investments made for future competitive advantage. If the market turns favourable, they can be followed by large-scale investment more quickly than if the company had waited for a particular development to occur. Small-scale investments enable the company to get a head start on emerging opportunities over competitors, and do so with less risk than if the company placed an “all-in” bet on a scenario (which may not come to pass). Small-scale investments apply to at least one scenario, but not all four of them (if they did, they would be a no-regret move).

Examples of small-scale investments include hiring financially and legally oriented key resources to be prepared for more complex contracts; being prepared to “go downstream” by hiring key experienced resources in specific services areas such as waste, infrastructure management or transportation; partnering with incumbents to play a subcontractor role relating to specific capabilities; or researching, defining and being ready to enact a differentiated customer value proposition.

Next: Build on the Foundation

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Conclusion Achieving high performance in the African construction industry starts with defining one’s growth and investment strategy. Three moves, in particular, must be made regardless of a company’s ambition: establishing a governance model for risk management, optimizing the supply chain, and enhancing workforce skills.

Once these “no-regret” moves are made, a company should then future-proof its strategy to identify other investments that may help spur growth. In the highly dynamic and competitive African market, strategy “future-proofing” helps engineering and construction companies build more robust strategies that allow them to respond to a range of alternate futures. The process requires a detailed knowledge of the challenges and essential trends in each industry sector, together with the tools and methods to effectively envisage possible scenarios and the resulting investment options.

To be sure, no strategy guarantees a company success. However, the approach to future-proofing one’s strategy we have discussed is one of the best tools a company has to create the flexibility necessary to excel in highly uncertain and complex environments. It can help companies not only overcome today’s obstacles, but also to be prepared to move quickly to capitalize on new opportunities as they arise.

Accenture can offer all sectors its knowledge of the challenges and essential trends in the industry, together with the expertise it has built up working with leading enterprises throughout the world. It can develop the best tools and processes and the most suitable methods to help companies in the construction industry not only overcome today’s obstacles but to be prepared for the opportunities offered by the immediate future.

ContactsWayne G. Borchardt E: wayne.g.borchardt@accenture.com T: +27 21-408-1312

Nuno Sousa E: nuno.manuel.sousa@accenture.com T: +27 11-208-3083

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About Accenture

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