Sturdy foundations: The sector is demonstrating its resilience following the downturn

The speculation-driven market crash saw property prices in Dubai slump by up to 65% between 2008 and 2009. Despite the shrinking amount of projects throughout the market downturn, the number of construction companies held fast at pre-crisis levels, resulting in strong competition and lower margins. Recent developments nevertheless provide cause for optimism. Construction activity that shifted to Saudi Arabia and Qatar following the crisis has returned to the UAE, and a stream of new and restarted construction and infrastructure projects are expected to boost industry growth through 2020, when Dubai will host the World Expo.

“We are seeing the return of construction activity throughout the region, but particularly in Dubai. It is moving at a more rational pace than before the crash, and the announcement of new projects demonstrates the resilience of Dubai’s property market,” said Riad T Al Sadik, chairman of international contractor Al Habtoor Leighton Group. As a result, growth prospects for established construction companies in the emirate are more positive than at any time in the past five years.

Public Spending

The government of Dubai has invested heavily in infrastructure and development projects to combat the effects of the recent economic downturn and support the needs of a growing population. Large semi-governmental projects, including Meydan Sobha and Dubai Water Canal, have played a key role in boosting recovery across the construction sector. A total of 16% of government spending was allocated for the completion of infrastructure projects in the emirate in 2013, with the 4.8% fall from 2012 partly due to the completion of several projects. Public spending in 2014 is set to rise by 11% from fiscal year 2013, with 17% of it allocated for the completion of infrastructure and developmental projects.

Drivers

The recovery of the construction sector has been spurred by a rise in rental and residential real estate purchase prices. As with the property sector, sustainable growth is driven by strong economic and demographic fundamentals. These include population growth of 100,000 new residents per year, annual tourist arrivals expected to more than double to at least 20m under the Tourism Vision 2020 and healthy GDP growth of 4-5%, according to Dubai Statistics Centre.

The construction sector contributed 7.8% of Dubai’s GDP in the first half of 2013. The net contribution of property and construction to GDP growth was second only to the retail and wholesale sector, according to Dubai Economic Council. Underscoring the revival of the industry in the emirate, the Building Department of Dubai Municipality issued construction permits for 23,243 buildings in 2012, including 12,952 private villas, 1366 commercial villas, 2182 industrial buildings, 2227 facilities, 3339 multi-storey buildings and 1117 floor additions. The department also issued 2421 completion certificates for implemented projects.

Expo 2020

 Event-specific drivers of growth in construction include Dubai’s successful bid to host the World Expo 2020. The development is expected not only to accelerate the pace of implementation of recently announced projects, but also to have a substantial impact on overall infrastructure development. The government will commit an estimated $8.1bn in public funding to the event, the majority earmarked for infrastructure and public transport projects, including plans to ramp up logistics facilities and expand Dubai’s metro, rail and road networks. A report from HSBC estimated that there would be a further $10bn of private sector spending to cover all the costs of putting on the Expo.

The impact on long-term demand is set to produce a sustained period of opportunity for construction firms, particularly those with experience of working on iconic real estate projects and the type of facilities required to stage a high-profile global event. The forecast number of visitors to Dubai in the Department of Tourism and Commerce Marketing (DTCM) Vision 2020, coupled with the Expo, has already resulted in planned investment in the refurbishment of current hotel stock, as well as plans for numerous new hospitality projects, particularly within the vicinity of the Expo 2020 site.

Transport

The government also intends to fasttrack construction of Dubai World Central – Al Maktoum International Airport and the $1.36bn expansion of the Metro’s Red Line from Jebel Ali Station to the airport, which is near the Expo site at Dubai World Central. Mattar Al Tayer, the chairman of Dubai’s Roads and Transport Authority and a member of the Higher Committee for Hosting the 2020 World Expo, said that the expansion will take three to four years to complete and would be the only major transport investment required. “We don’t need major change because the infrastructure is ready or almost ready,” he said.

Investment in new and existing infrastructure will act as a catalyst for development opportunities around newly created transport hubs and the 438-ha Dubai Expo headquarters at the Trade Centre in Jebel Ali. This, in turn, will generate jobs and draw workers in sufficient quantities to require further development of infrastructure and housing to support the influx of labour. Most infrastructure and dedicated housing facilities for the event will be built in the less populated southern part of the city, hastening Dubai’s expansion.

Growth

Recognising that cheap contracts upfront can result in overspending in both the construction phase and life-cycle costs, the market tends to prioritise value-added solutions over low-cost manufacturing. “Due to escalating operating costs, business models built purely on low-cost manufacturing or seeking cost leadership are not so viable in Dubai. Therefore, we have been concentrating on providing high quality and value-added solutions in all price segments in the market,” Biren Arora, general manager at Norwegian firm Jotun Paints, told OBG. As a result, gross construction costs in Dubai tend to be substantially higher than comparable markets, cutting into the bottom line of construction companies with operations in the emirate. A spike in construction activity across the GCC may increase the pressure on these already low margins by driving up prices for labour and material resources. As a result of increased regional and domestic demand, contractors in Dubai are short of available engineers and project managers at a time when consultancy and construction companies are looking to hire additional workers to raise their rating for permits to implement multiple projects. The problem has been compounded by the fact that salaries for skilled labour in India have almost caught up with those in the UAE, incentivising some Indian nationals to remain in their home country. In many cases, Dubai-based firms have had to double salaries to avoid having engineers and project managers poached by foreign companies. To address these shortfalls and guarantee access to skilled labour, many firms are now investing in in-house training programmes.

Foreign Invesment 

Foreign direct investment (FDI) is driven in part by favourable government policies and a tax structure that grants non-GCC nationals access to freeholds and leaseholds in designated areas. Foreign firms looking to establish projects under 100% ownership schemes are required to obtain licences at the federal level from the Ministry of Economy and at the local level from Dubai Municipality. Joint ventures require licences from Dubai Municipality alone. Major recent launches initiated by foreign investors or developers include a $1bn hotel and luxury residential project on Palm Jumeirah from the state-owned China State Construction Engineering Corporation in partnership with Dubai-based SKAI Holdings, the project’s owner. The resort will include a 481-room hotel, 221 suites and 250 serviced apartments. China State Construction Corporation (Middle East) is the main contractor on the project. Separately, Dubai’s Damac Properties awarded a $272m contract for the construction of four towers in its luxury Paramount development to the Dubai branch of Turkish firm TAV Tepe Akfen Investment Construction and Operations. The 33-month contract is the largest in TAV’s history and is expected to be completed by the end of 2015. Dubai-based companies are also actively soliciting work abroad. In September 2013 the construction unit of Drake & Scull International, which specialises in mechanics, engineering and plumbing, announced that it had won a $348m general construction contract to develop a turnkey mixed-use project in Algeria. The company secured more than $1.6bn worth of contracts across the region for the year.

Regulation

There is currently no specialist federal authority tasked with organising the construction market and implementing consistent standards, practices and licensing certification in the UAE. Each emirate exercises regulatory prerogative over construction and specifications for contractors. No objection certificates and building permits are issued by the Building Department of Dubai Municipality.

Along with Dubai Electricity and Water Authority and the Civil Defence Department, the Dubai Municipality Building Department is also responsible for all inspections and approvals. Given the absence in the construction sector of a body with a similar mandate to the Real Estate Regulatory Authority, the UAE Contractors Association has reportedly submitted a request for clarification regarding the possible creation of a federal agency with nationwide regulatory oversight.

Sustainable Building

Dubai Municipality’s regulatory framework has focused on the development stages of construction to pioneer the adoption of new technologies, and sustainable building and energy initiatives. Adherence to Dubai’s new Green Building Code, for example, will be mandatory for all new buildings across the residential, commercial and industrial sectors. The code covers a range of construction features, as well as energy, water and waste efficiency.

“An increased regulatory focus on subsidies, tariffs and price changes will be required for green building to gain real traction among master planners and contractors in Dubai,” Benoit Dubarle, the president for the UAE, Oman and Pakistan at Schneider Electric, told OBG. The ultimate success of these regulations rests with their enforcement. Whatever the merits of designing green building regulations, poor execution will negate the effectiveness and aim of these codes.

Financing For Developpers

 Several other schemes are managed by the Real Estate Investment and Promotion Centre in the Dubai Land Department, which operates programmes that are aimed at reviving stalled construction projects, among them guaranteed funding initiatives (Tayseer, 2010) and schemes aimed at attracting semi-government/private investors on board to get projects completed (Tanmia, 2011).

While the centre has reportedly signed agreements with Wasl Properties, Emaar and Mohammed Bin Rashid Housing under the Tanmia initiative, none of the major companies has taken over any project to date. Private developers that have taken over projects include India’s Pacific Ventures, with claims to three or four projects under the initiative. Al Manal Development’s Lakeside Residence in Jumeirah Lake Towers is the only project to be completed so far under the Tayseer scheme.

Mid-Market Hotels

 The government also plays a role in promoting specific sectors and market segments in Dubai. For example, as a means of encouraging the growth of mid-range hotels in an underserviced market segment, the DTCM exempts eligible hotels from a 10% municipality fee that is levied on daily room rates.

The move is expected to boost Dubai’s supply of three-star and four-star properties. “There is a gap in the hospitality market that is currently not catered for,” said Helal Saeed Almarri, director-general of the DTCM. “Hoteliers need to start focusing less on five-star accommodation and more on mid-scale and budget accommodation to realise Dubai’s tourism growth vision.”

The wave of new hotel construction is also expected to prompt some of the operators to undertake renovations of their older hotels in order to maintain the quality of the offering and remain competitive. Consultancy EC Harris has estimated that more than 10,000 five-star hotel rooms in the emirate are now in need of refurbishment at a cost of around Dh325,000 ($88,000) per room. The pipeline for construction projects is indicative of a strong market for subcontractors in 2014, according to Talal Saeed, managing partner at Fino International Interior Finishing Contractors.

“Construction subcontractors are continuing to see a steady flow of work. Many of the hotels built during the early stages of Dubai’s property boom are making major capital expenditures for new design projects and refurbishments,” Saeed told OBG.

Major Projects

Dubai has experienced huge investments in the construction industry from public and private enterprises over the past two years. Philippe Dessoy, Middle East general manager at Six Construct, underscored the impact of restored investor confidence for growth in the industry: “After a period of scarce liquidity, the banking sector is beginning to once again ramp up lending to developers and contractors as forecasts continue to improve,” he told OBG.

Among the biggest projects announced was the June 2013 launch of the $17.4bn, 6.5m-sq-metre Dubai Creek Harbour, a joint venture between Emaar Properties and conglomerate Dubai Holding. Emaar and Meraas Holding also announced the addition of the Dubai Hills Estate development to Emaar’s master-planned communities in Mohammad Bin Rashid City (MBR City). MBR City itself was launched in November 2012 and will include an estimated $100bn of residential projects by completion, according to the Middle East developing a waterfront city along Dubai Creek within MBR City. At the heart of the 6m-sq-metre development is the iconic mixed-use Dubai Twin Towers.

Nakheel’s new project pipeline includes Nakheel Mall and Hotel, The Pointe at Palm Jumeirah, the extension of Dragon Mart and Ibn Battuta Mall, and residential projects such as Palma Residences, Palm Views, Jumeirah Park, Jumeirah Village, Warsan Village, a new phase of Al Furjan and International City.

Luxury

 In other high-value projects, Meraas Holding unveiled plans in February 2013 for the $1.6bn Bluewaters Island project off the coast of Jumeirah Beach Residence, and luxury developer Damac revealed plans for the $2.5bn Akoya by Damac residential enclave and the $1bn Damac Towers with Hollywood film studio Paramount in downtown Dubai. “As prices continue to rise, it is a great time for investors looking for healthy returns – luxury serviced living is proving time and again to be the driving force of the real estate market,” said Damac’s managing director, Ziad El Chaar.

The emirate’s return to building iconic projects nevertheless reflects a different approach to the last cycle. Recent announcements are largely focused on additions to existing master-planned developments rather than greenfield investments.

Craig Plumb, the head of MENA research for Jones Lang LaSalle, said that many of the “new” announcements represent merely the dusting off of old plans under a new guise. He noted that some projects remained “firmly on hold”, such as Jumeirah Garden City by Meeras and Nakheel’s Trump Tower, Waterfront, Palm Jebel Ali and Palm Deira.

Raw Materials

As major development and infrastructure projects come back on-line, the building materials and equipment leasing industries are rebounding to meet the spike in demand. A number of large building materials suppliers that exited the market during the economic downturn have returned to capitalise on improved investor confidence. “The result has been stronger growth across the top line, but momentum suggests that profitability will also improve in 2013 with projects coming back on-line,” said Rizwan Sajan, the chairman of building materials firm Danube Group.

Similarly, many construction equipment leasing companies that suspended or migrated operations during the downturn are returning to Dubai, amid signs of sustainable growth and a broader resurgence in the GCC construction sector. Companies that remained in the emirate through the crisis tend to be larger and more established, dominating a market where rentals of ready-mix trucks and tower cranes, for example, can cost up to 30% more than in Europe, given the different fees and agencies involved.

Supply Chains

 Potential inhibitors of growth for construction materials suppliers include the possibility that extra demand generated by regional projects could put pressure on supply chains, driving up the cost of raw building materials. According to estimates provided by Emad Azmy, the president of Al Shafar General Contracting, roughly 70% of project costs for contractors are tied up in materials. Rising prices thus have a direct impact on the bottom line of construction firms. The group chief operating officer of Arabtec, Mark Andrews, suggested that the re-emergence of the construction industry is pushing up costs and squeezing margins. The result has been increased competition between contractors and materials suppliers on quality, service provision and upstream efficiencies. “Key distinctions between contractors have come down to factors such as honesty, transparency, determination to see projects through to completion and flexibility in realising outcomes,” Sadik told OBG.

Others promote the benefit to clients of being able to go as far upstream as actually importing raw materials, manufacturing specific products and constructing projects, essentially from dust to development. “For contractors, the key is efficiency if you want to compete,” said Al Shafar General Contracting’s president, Emad Azmy. “Efficiency does not refer only to costs, but also delivering on hard deadlines, which is particularly important for large, commercial properties.”

Steel

The recovery in Dubai’s construction sector and the increasing number of infrastructure projects in the broader GCC region are driving growth in the domestic steel industry. Oil and gas, shipbuilding, petrochemicals and other infrastructure projects are also shaping demand dynamics. The domestic market for iron rods, wire rod products, direct reduced iron and steel-reinforced bars (commonly used in building materials such as reinforced concrete) showed significant signs of growth in 2013. Projects brought forward as a result of the Expo 2020 victory are expected to increase demand for each of these products over the short to mid term, reducing the steel supply overhang and driving up prices.

Cement

Demand for cement in Dubai is driven by an altogether different set of dynamics. While a number of projects scheduled to commence in 2014 should ease local reliance on cement exports, excess production capacity and the issue of delayed payments will likely continue to have a negative impact on industry growth.

The market remains saturated due in large part to capacity additions that were authorised at the height of the construction market in 2008, and were immediately followed by an unprecedented contraction in demand. Cement companies experienced a utilisation rate of less than 50% of production, according to a recent report by Ventures Middle East, “Cement Market in UAE’s Building & Infrastructure Sectors”.

The UAE’s cement supply capacity of 44m tonnes, including 25m tonnes in clinker, dwarfs the current demand of just 9m tonnes cited by Graham Russell, the CEO at the UAE regional office of Cemex, one of the world’s largest building materials suppliers.

Faced with conservative local demand, approximately 50% of cement produced by the 17 active plants in Dubai is exported to regional markets, including Oman, Qatar, Kuwait, East Africa, Iraq and Saudi Arabia. Competition in these markets has been intensifying in recent years, with Oman developing its own capacity and Saudi Arabia banning cement imports and releasing large quantities onto the market thanks to prolific production. The net effect of increased competition in the domestic cement production industry has been to drive the price of the product down and increase the likelihood of consolidation in the industry.

Outlook

 As with Dubai’s property sector, the indicators for sustainable growth in the construction industry are more positive than at any time over the past five years. Building on strong economic and demographic fundamentals, the government is currently investing heavily in the recovery. In addition, the emirate’s successful bid to host the World Expo 2020 is expected to have a substantial impact on overall infrastructure development in the years to come. As major development and infrastructure projects come back online, the building materials and construction equipment leasing industries are rebounding to meet the spike in demand, while the ongoing recovery is also driving significant growth within the domestic steel industry.