PwC Construction & Housebuilding Outlook H2 2023

Our forecast and perspectives are triangulated across publicly available information, 3rd party reports and our regular touch points across the built environment value chain. Please do not hesitate to contact us via Samuel Edwards if you have any observations or questions. The next iteration of our outlook will be published in January 2024.

Contraction expected in 2023, with limited real growth 2019-25

UK total construction output forecast
£bn, 2018-2025F (2019 constant prices)

Construction output recovered to pre-pandemic levels in 2022, but overall 2019-22 presented a period of stagnant real growth of 0.8% due to reduced site access, labour shortages and high energy & material inflation driven by the Russia-Ukraine conflict. During this period, construction prices increased by +8.5%, driving higher profits in some material and product OEMs that were able to pass on cost+ increases, and distributors that benefited from stock value arbitrage. Recent public results in the sector indicate that we may have entered a period of price deflation that is impacting financial performance and quelling M&A appetite.

In 2023, we expect a real overall decline in construction spend of -5% before returning to growth in 2024 and 2025. Taking the period as a whole, the UK’s construction market may have only demonstrated +0.5% p.a. real growth from 2019-25, testament to the multitude of challenges faced by the sector. We note that the economy continues to be a moveable feast that may lead to variance in the forecast period that we have presented as an uncertainty range.

Repair & Maintenance output remains more resilient than New Build activity

UK total construction output forecast by New Build (NB) vs. Repair & Maintenance (R&M)
Annual % growth, 2018-2025F (2019 constant prices)

Repair & Maintenance (R&M) spend has historically proven more resilient to downturns. This was demonstrated again during COVID and we expect this to continue in the coming years. Continued higher relative growth in R&M spend is supported by recent consumer confidence and lower property transactions, leading to greater demand for home improvement from those that continue to be able to afford to do so.

New Build construction output expectation varies by sector, with Residential output most negatively affected, while a strong infrastructure pipeline and demand remains

UK new build construction output by residential vs. non-residential sectors
£bn, 2018-2025F (2019 constant prices)

A -21% decline expected in new build residential output in 2023

The -8% 2023 decline in total new build output will be primarily driven by a -21% decline in residential output. As the Bank of England has increased the base rate for the 14th consecutive time, the cost of borrowing for mortgages is now at its highest level since 2008. Consequently, the increase in borrowing costs is leading to fewer sales enquiries and slower decision-making among prospective homeowners. As the path to homeownership is complicated, we expect to see housebuilders continuing to be selective on new starts on sites, focussing on areas where there is greater confidence of realisable demand. We anticipate more will lean into providing alternative tenures such as affordable housing and private rental where partnerships with institutional capital are likely to continue growing.

Commercial and Industrial output also impacted but to a lesser extent

Commercial and Industrial spend will also be impacted in the forecast period, driven by tension between office utilisation uncertainty and increasing cost of capital for landlords. We also see a reduction in warehousing new build activity due to excess capacity from a period of overbuild and subsequent reduced consumer demand.

Other non-residential spend (e.g. health, education) returning to growth after a deflated period

Spend on other non-residential buildings has been depressed in recent years, but is expected to return to growth over the forecast, driven in particular by requirements in the health, education and custodial sectors. We note that public finance challenges remain and that Government are seeking cost-efficient solutions, such as the MOJ’s approach to the use of standard designs and modular build of prisons.

Infrastructure spend to remain strong for the long-term

Infrastructure spend will remain robust, supported by a strong pipeline of ongoing and planned projects (e.g. HS2, Hinkley Point C), as well as significant investment requirements to combat aging infrastructure and the increase in pace required towards 2030 decarbonisation targets.

• Electrification (a key pillar of the UK’s decarbonisation roadmap) is creating grid reinforcement and connection demand in the Power sector
• Sewage contamination and financial issues have been heavily commented on recently in the Water sector and are expected to lead to increased spend in the 2025 AMP8 cycle
• Roll-out of fibre-to-the-home continues at pace, with some softening vs. expectations due to increased financing costs and lower customer uptake in the Telecoms sector

Overall, the UK’s infrastructure spend demand is expected to be one of (if not the) highest in Europe, and we see continued strong appetite from investors to deploy capital in the sector.

Challenges start to bite, with increasing insolvencies across the sector

Volume of > £10m turnover insolvencies by industrials sector and wind-up approach
#, H1 2023

The first quarter of 2023 shows a fall in new UK construction project starts and an increase in insolvencies across the sector, as construction businesses continue to face operational challenges and cost pressures.

There has been a marked increase in the number of larger, higher profile failures when compared to other industries. The increase in insolvencies has largely been driven by the impact of significant input price inflation on fixed price contracts. However there are also a number of smaller insolvencies (turnover under £10m) being driven by Creditors Voluntary Liquidations which are often used by businesses that are unable to pay their debts (97.5% of all insolvencies in H1 23 were businesses with a turnover of under £10m).

Reduced housing starts are compounding cash flow challenges

Volume of housing starts by quarter
#, Q3 21 - Q1 23

A reduction in housing starts is a challenge for contractors, especially those that are managing cost overruns on historical projects. As construction projects usually receive cash in advance, if there are irrecoverable cost overruns on specific projects, contractors can get into a pattern of using the working capital on new projects to meet cash flow requirements of existing projects. Reduced starts can accelerate cash flow challenges when there are fewer projects to offset historical losses.

Our credit risk forums highlight that suppliers are seeing increasing requests for payment plans, extensions to terms and credit limits, together with a higher number of insolvencies. Whilst most of the insolvencies remain at the smaller end of the market there have been some notable exceptions, such as Buckingham Group, Henry Construction Projects Ltd, Tolent Construction Ltd and Metnor Group Ltd. Suppliers are actively reviewing creditor lists of insolvent companies to determine where working capital may be impacted. Feedback also notes that there are often limited warning signs for these types of insolvency.

Given this, suppliers are taking a tougher stance on credit risk and are less willing to allow payment delays without action, such as putting accounts on stop or requesting pro forma payments until old debts are settled. The impact of this on the working capital of some businesses could be significant. Main contractors are also finding it harder to obtain credit limits, partly due to price inflation, and are looking to the contractors further down the chain to give them access to credit.

Due to the impact the insolvency of a contractor has on a development, we are seeing a trend towards increased diligence on major contractors by developers before entering long term contracts, both when the project is taken on, but also in an ongoing monitoring of the risk and financial resilience of their supply chain. Corporates are wanting to be more agile at managing their risk, giving them more time to propose a solution or intervention to avoid failures by implementing a contingency plan.

Navigating the challenging outlook and taking advantage of disruptive opportunities

As is typical, variance exists in sector outlook by commentator, but there is strong consensus on the direction of travel, enabling contractors, housebuilders and the wider value chain to plan for the challenges and opportunities ahead.

Across the board, a lot of energy is being spent on reinforcing supply chain resilience and managing exposures to detrimental profit / working capital swings. This includes seeking competitive advantage via efficiencies in planning (via early contractor involvement), purchasing and deployment (via digitisation) and modern methods of construction (such as product standardisation and greater use of off-site modular build).

Complying with the evolving landscape of ESG legislation also remains a top priority, while progress against more ambitious decarbonisation targets (particularly re. scope 3 emissions), which often comes hand in hand with increased costs, is slower than hoped given the softer, cost-focused demand environment.

We believe that greater collaboration between stakeholders in the construction value chain will be key to unlocking its productivity potential and wider targets in e.g. decarbonisation. Our ambition is to help organisations and the wider sector achieve this by facilitating connections and sharing best practice.

Please do not hesitate to get in contact if you would like to join the conversation.