Busy times: Major infrastructure and housing developments drive the sector

With a number of key infrastructure projects being delivered under the Economic Transformation Programme (ETP) and the real estate market still remaining buoyant, the construction sector in Malaysia is enjoying a relatively busy economic cycle.

DRIVERS: New developments in the oil and gas industry, Iskandar Malaysia, and the mass-rapid transit system in Kuala Lumpur (KL), to name just a few projects, are expected to have both immediate and indirect impact on demand for industrial, commercial and residential buildings. Construction firms are also compensating for the limited size of the domestic market by increasingly seeking overseas contracts in the Middle East, Russia and the growing ASEAN region.

While 2012 and 2013 expectations are broadly positive, it is unclear whether there is the domestic demand or the labour supply to maintain strong growth in the sector over the medium to long term. Moreover, the state-directed, privately operated approach that Malaysia adopted to spur economic growth has raised questions about the connection between government and business, and concerns about ethics and efficacy.

BY THE NUMBERS: The construction sector grew at a modest 4.6% in 2011, slightly lower than the overall economy’s 5.1% growth rate, according to statistics from the central bank, Bank Negara Malaysia (BNM). The latest statistics from the Construction Industry Development Board (CIBD) calculated the total value of projects awarded at RM87.5bn ($28.2bn), nearly identical to the RM87.9bn ($28.4bn) racked up in 2010. All in all, the industry has grown at a fairly consistent compound annual growth rate (CAGR) of 5.3% since 2007, outpacing the economy’s 3.6% performance. During this period, the sector remained a fairly small component of national GDP, contributing just 3.1% in 2011. However, construction remains vital to Malaysia’s job market, as it employs 1.135m workers, or 9.1% of the labour force – a ratio that has remained steady.

Data indicate that the sector may be in for a banner year or two, thanks to a full pipeline of infrastructure and residential projects now coming on-line. The CIDB’s latest data for the first half of 2012 (which likely includes just over half of all projects due to notification delays) show that the value of contracts increased to RM29bn ($9.4bn), a 20% improvement over the same figures from 2011. Reinforcing the trend, Malaysia’s Quarterly Construction survey show activity in the sector rising 14.8% in the second quarter of 2012 over the first quarter, and a full 35% year-on-year (y-o-y). The jump in production over the past year came primarily from an uptick in residential projects and civil engineering, which saw revenues for the past four quarters increase 37% and 45% y-o-y, respectively. In contrast, non-residential construction declined 2.48% y-o-y, despite 4% growth in the second quarter of 2012.

Although the first-half performance suggests that the industry could record upwards of RM100bn ($32.3bn) in contracts in 2012, officials are even more optimistic about 2013. Ahmad Asri Abdul Hamid, general manager of the CIDB’s corporate division, projected a total haul of RM120bn ($38.7bn), driven by ETP investments in the transportation and oil and gas sectors. This would include RM60bn ($19.4bn) for the Petronas Refinery and Petrochemical Integrated Development (RAPID) project in Pengerang and RM40bn ($12.9bn) for the second and third phases of the Mass Rapid Transit (MRT) project in the KL area.

TRANSFORMATIONAL PLANS: Indeed, mega projects connected to the ETP will impact virtually every aspect of the construction and real estate sector for the coming year or two: filling the order books of contractors, boosting property demand in areas connected by the MRT, lifting the prices and lowering the availability of construction workers and materials, and so on. The ETP, launched in 2010, represents Prime Minister Najib Razak’s attempt to break Malaysia out of the middle-income trap and into the sphere of high-income countries by 2020. It consists of 12 National Key Economic Areas (NKEAs), which include the Greater KL Area and the oil and gas sector.

Private investment is intended to drive the ETP, supplying over 92% of the RM1.4trn ($451.6bn) required by 2020, although the government will support the project through public-private partnerships (PPPs) and direct funding on key initiatives. Thus far, Malaysian investors have delivered, registering RM94bn ($30.3bn) in 2011, or 113% of the targeted amount according to the Key Performance Indicators of the ETP.

The transition to private-driven growth can be observed in the pattern of construction contracts. Private projects accounted for just 55% of awards in 2008, but this increased to 76% in 2011. Moreover, much of the projected private investment under the ETP involves physical development that will require the construction sector. Of the RM888bn ($286.5bn) in investment which has already been specified, according to a May 2012 research report from Nomura Equity Research, RM323bn ($104.2bn) is related to physical development. Combined with RM411bn ($132.6bn) yet to be specified, the expected spending on physical projects could reach as high as RM735bn ($237.1bn). Assuming 90% of this goes to construction itself, the analysis would suggest an annual order inflow of anywhere between RM29bn ($9.4bn) and RM66bn ($21.3bn).

PUBLIC SPENDING: These estimates of increased private sector construction spending are in line with the Malaysian government’s plans to reduce its own outlays on physical development. While total spending between the 9th and 10th Malaysia Plans is remaining flat, at RM230bn ($74.2bn), the total allocated for physical development drops from 78% to 60%. Still, the pipeline of government-driven projects has a few gems remaining, most notably in public transport in KL.

All eyes are on the three-line Klang Valley/KL MRT system, which will cost RM50bn-70bn ($16.1bn-22.6bn) in total. The project is being headed up by a joint venture of MMC and Gamuda, but a slew of contractors have won work packages, and even more are expected to benefit from residential and commercial demand in the linked-up suburbs. KC Lim, the managing director of Knusford, told OBG, “Expansion of the MRT line has given rise to new hotspots for developers such as Kajang, which is becoming a satellite town to Putrajaya.”

Construction on the initial line, from Sungai Buloh to Kajang, began in August 2012 and is expected to continue through 2017 (see analysis). In addition to the new MRT lines, the state infrastructure body Prasarana has been tasked with distributing RM7bn ($2.3bn) in contracts for the 17.7-km extension of the Ampang light-rail transit (LRT) line. This has enabled some contractors to reduce their exposure to the private sector, which is often unreliable in payment and delivery, in favour of public works. “For several years, there weren’t many contracts coming from the public sector,” Lee Swee Kee, contract director at Pembinaan Mitrajaya, said. “But over the last two years, with mega-projects like the LRT extension, our order book has filled up.”

IN THE PIPELINE: The MRT and LRT are some of the biggest of several major projects either under way or launching soon. In addition to the MRT2 and MRT3, for which it is expected to win the contracts, MMC-Gamuda joint venture is the lead on the electrified double-tracking project for the northern portion of Malaysia’s main rail line. Construction on the RM12.5bn ($4bn) project, which will connect Ipoh with Padang Basar in the north, began in 2008 and is expected to finish by 2013. But electrification and double-tracking of the southern stretch, from Seremban to Johor Bahru, is proving more difficult. While the short stretch from Seremban to Gemas is under way, with a $1bn contract awarded to Indian infrastructure giant IRCON, the award of the contract for the long track from Gemas to Johor Bahru has been delayed for nearly a decade.

The prime minister promised Chinese premier Hu Jintao in 2009 that the RM8bn ($2.6bn) award would go to a Chinese firm, but the tender has not been announced despite years of reports that the decision was right around the corner. The indecisiveness has reportedly perturbed the Chinese bidders, and sector figures have privately suggested that the project could use a project delivery partner model similar to that employed for the MRT. While the MRT has raised worries of cost overruns and contracting favouritism, even the government’s opponents concede that it has stayed more or less on schedule and within its budget.

More hopeful is the anticipated announcement of the high-speed rail (HSR) link between Singapore and Malaysia, for which a feasibility study is due in early 2013. Introduced as Entry Point Project 3 (EPP 3) in the KL NKEA of the ETP, the link would stretch 300-400 km, ending either in the island city-state itself or in the opposing Malaysian city of Johor Bahru. The feasibility study and subsequent discussions with Singapore are expected to determine the exact specifications, as well as the number of stations and whether to use the expensive but super-high-speed maglev technology. According to Azmi Abdul Aziz, the Land Public Transport Commission’s chief development officer, the HSR will not be financed on a traditional turnkey basis, but through private finance or a PPP. Costs are still unknown, but estimates have ranged from as low as RM8bn ($2.6bn) to a high of RM30bn ($9.7bn), from CIMB.

Nor is rail getting all the attention. Seven highways worth up to RM15bn ($4.8bn) are included in the 10MP, although the first of these is just getting off the ground now. News media reported in July 2012 that Kumpulan Europlus (KE uro) was expecting to finalise the concession agreement for the 316-km West Coast Expressway within two months, however, no official announcement of the agreement has been made as yet. The project has attracted controversy, as its sticker price has risen from RM3bn ($967.8m) to RM7bn ($2.3bn) and its toll concession length from 33 to 60 years since the initial announcement. The planned length has also increased 100 km from the original plan.

Additionally, KE uro will receive a RM2.2bn ($709.7m) government soft loan and subsidised interest on commercial loans for 22 years, while the government will bear the RM1bn ($322.6m) land acquisition cost. The contract’s terms even alarmed Malaysia’s attorney-general, Abdul Gani Patail, who put the project on hold in February 2012 due to reservations that the deal would not be in the public interest. While the details have yet to be ironed out fully, the debate serves as a reminder that the contracting process in Malaysia can be delicate and fraught with political significance.

Finally, there are a few major infrastructure plans outside of transport, including Petronas’ RAPID refinery and petrochemical complex, which will be built in Pengerang, Johor. Petronas will be tendering the first packages for the RM60bn ($19.4bn) project in the second half of 2012, with two earthworks contracts worth around RM1.5bn ($483.9m) up first, and many more in the pipeline. The Tun Razak Exchange – KL’s bid to become a major financial centre – will also kick off construction in 2013, starting with infrastructure contracts worth RM2bn ($645.2m). Contractors are hoping to benefit not only from the initial development of the 28.3-ha property, but also from the office blocks and residential areas expected to locate here.

RESIDENTIAL & COMMERCIAL: While major contracts in transport and energy will fill larger contractor’s order books for the next several years, the sector is looking to capitalise on the indirect effects of state-led development. Housing growth is already on a major upswing. The average rate of quarterly housing approvals rose 32% in 2011 and another 70% through the first half of 2012, leading to a record 77,541 approvals in the second quarter of 2012, according to BNM’s quarterly construction indicators. Similarly, housing starts rose 11% quarter-on-quarter to hit 32,083 units in the second quarter. The residential sector was hoping to get an additional boost from the My First Home initiative, which aims to provide young workers with 100% financing on the purchase of their first home. However, the response to the programme, which is aimed at people earning less than RM3000 ($968) per month, has been tepid, with just around 1000 applications and a one-third approval rate. Putrajaya is reviewing the programme for potential changes in the 2013 budget .

The Klang Valley bias of many major infrastructure plans has drawn focus to this central region, which accounted for 40% of housing starts in the second quarter of 2012. But Klang Valley presents a double-edged sword. Its popularity has driven up land prices, pushing new developments far away from the city where public transport options, at least for now, are scarce. So property developers are casting a wider net, looking especially at Johor, which is receiving major investment through the Iskandar Malaysia initiative. “We are looking at exploring beyond the Klang Valley, especially in designated areas such as Iskandar Malaysia and Penang,” C Y Ng, the general manager at boutique property developer Trinity Group, told OBG. “These are going to be high-growth regions with good infrastructure and a strong demand for quality projects – not only from the locals, but also from an international audience, especially investors from Singapore, Japan and China.”

Iskandar Malaysia, which aims to develop the industrial and property sectors of the southern city of Johor Bahru, should be a steady source of both commercial and residential projects. The project has five major “flagship” zones, including Johor Bahru city centre, two new industrial zones, a commercial zone surrounding Senai airport and the Nusajaya property development. The latter is dominated by property developer UEM Land Holdings, which has launched several projects in IM such as the retail-focused Gerbang Nusajaya and the tourism-oriented Desaru development.

Additionally, state investment company Khazanah Nasional, together with its Singaporean counterpart, Temasek Holdings, announced plans in July 2011 to jointly invest in $9.8bn in projects in Johor and Singapore. Only RM3bn ($967.8m) would go to Malaysia itself, but these would focus on homes and retail offerings. Moreover, Iskandar Malaysia will benefit from its proximity to the bustling city-state, as land for industrial or residential property is around 8-10 times cheaper in Johor Bahru than in Singapore. A rapid transit system connecting the two cities, which is planned for 2018, would help immensely, allowing residents to live in Johor but commute to Singapore for work. Already, Johor is Malaysia’s second-fastest-growing residential property market, with 5924 housing starts in the second quarter of 2012 compared to 3424 a year earlier.

RUNNING LOW: The sheer volume of work over the next several years is expected to put pressure on the supply of construction materials and workers. Virtually all major cement producers hiked their prices in July 2012, led by Lafarge Malayan Cement, which raised prices by 6.25%, to RM320 ($103) per tonne. The increase was sudden enough to draw allegations of industry-wide collusion and calls for an investigation, although an analysis from RHB argued that the price hike should be properly seen as “a reflection of an improving demand picture in the local cement industry backed by key public infrastructure projects”. If this is the case, the increase has yet to fully manifest itself, as cement prices in July 2012 were just 4.9% higher than those of December 2011, while the cost of steel bars had risen between 2.5% and 4.5%. Residential building costs, meanwhile, were less than 1% in the first half of 2012, and still below those of the pre-crisis period.

LABOUR: More worrisome for the industry than rising costs is the potential shortage of labour, driven by increasing demand, as well as a fickle government approach toward foreign workers. According to an annual report from BNM, the number of vacancies in the construction sector increased dramatically over the past two years, from 111,622 in 2009 to 250,820 in 2010, to an estimated 388,241 for 2011.

Moreover, the majority of those who do work in construction are foreigners, sometimes illegal. “Human capital is a major problem, and the government doesn’t seem to have a firm policy on labour migration,” Lee told OBG. “We can’t get local workers to work in construction, so we rely on labourers from Indonesia, Bangladesh, Vietnam and other countries in the region.”

The sector’s worries stem in part from the 6P programme, a recent crackdown on the illegal and unregistered immigrants who make up two-thirds of Malaysia’s 3.1m foreign workers. By April 2012, the government had legalised nearly half a million illegal workers and induced another 150,000 more to leave, with around 700,000 workers in a legal grey area. It also briefly suspended applications for foreign worker quotas, through which contractors can get legal workers. “We would support the government legalising workers once and for all,” Kwan Foh-Kwai, president of the Master Builders Association Malaysia (MBAM), told OBG. Additionally, he said, “The government should allow us to bring in more workers from countries with higher skill sets.”

Kwan recommended that, at a minimum, the government should allow foreign workers who have been trained in Malaysia to stay there rather than forcing contractors to import new unskilled labourers. He also pointed to the ageing domestic workforce, 35% of which will turn 50 within the next seven years. To help them stay in the workforce longer, MBAM is collaborating with Open University Malaysia on several training programmes that will prepare older workers for supervisory and managerial positions.

Another strategy is to increase mechanisation, which could ameliorate the shortfall. Capital intensity – the ratio of net capital stock to net employment – has dropped more than 50% in the construction industry since 1990, while agriculture and manufacturing have seen two- and three-fold increases, according to the BNM. MBAM and CIDB have endorsed lowering the import duties for machinery, which are the highest in the ASEAN region, from nearly 25% to 5-10%.

OUTLOOK: The glut of major infrastructure and housing projects indicates that the short-term outlook for Malaysia’s construction sector is clear, with 7% growth expected in 2012 and similar figures for 2013. Beyond that, however, the prognosis depends on how much demand is stimulated by new infrastructure and housing and by the country’s economic transformation plans. If the country can attract 100 of the world’s top companies to set up offices, and if Iskandar Malaysia can position itself as an attractive, affordable complement to Singapore, contractors will have plenty of work.

The challenges will be in the often contentious process of determining who gets those jobs as well as in finding workers. Malaysia’s largest construction firms will see increasing value in seeking contracts overseas, where they are already involved in projects in the Gulf, Russia, and ASEAN (see analysis). For the biggest contractors, the infrastructure push may be just a warm-up for the major markets in which they hope to play.