Contract Crunch - Saudi Arabian Construction Sector

The Saudi construction sector faces tough two years but may stage a comeback around 2018.

It’s been a turbulent 12 months for the Saudi Arabian construction sector as new work has all but dried up while the kingdom contemplates ways to adapt to the harsh new reality of low oil prices.

Recent analysis shows construction contracts awarded during the first quarter of the year plunged in value by more than half compared to the same period of 2015. Deals handed out in the first quarter amounted to SAR 27.9bn ($7.4bn) against SAR 57.3bn in the first three months of 2015, the sharpest drop since 2009, according to NCB Construction Contracts Index. The total in the three months to 31 March was also 39 percent below the level seen in the final quarter of 2015.

The pain is a result of government belt tightening which has not only led to a drastic drop in the number of contracts handed out for major infrastructure works, but has also seen payments delayed for services rendered, leaving many contractors short of funds and unable to pay their workers, suppliers, subcontractors or even make debt repayments. Inevitably, contractors have had to respond with their own bout of cost cutting.

“The 14 percent reduction in the 2016 budget is likely to have a disproportionate effect on contract awards for new infrastructure projects. As a result, scaling down and further cancellation of planned projects may be unavoidable,” according to NCB. “Contractors are already facing increased competition as a result of the slowdown in spending, delays to project timelines and slow contract payments.”

The liquidity crisis has already claimed a number of high profile casualties in Saudi Arabia – including the $16bn Mecca Metro and the 1km high Jeddah Tower – which both recently announced delays due to financing issues. Other projects are likely to be shelved indefinitely or cancelled altogether, experts say.

It remains to be seen whether the reforms detailed in Saudi Arabia’s recently announced National Transformation Plan (NTP) will have the desired effect of attracting more private investment to at least partly make up for the drop in government spending. There has been much talk of public private partnerships (PPP) finally gaining momentum across the region as a result of the current conditions. But while some Gulf countries have introduced PPP laws the NTP does not provide specific legal mechanisms for private investment.

Saudi Arabia accounts for 39 percent of the $2 trillion worth of projects planned in the GCC, it was revealed last month at the MEED Construction Leadership Summit (MCLS) hosted by Deloitte in Dubai. However these projects are at the pre-execution stage and considering current conditions there must be considerable doubt over when, or even if, they will ever see the light of day.

MEED thinks it could take another two years until the construction industry stages a recovery, aided by an improvement in crude prices to $60 a barrel by 2018. By that time government finances will also have been lifted by the introduction of VAT across the GCC.

While infrastructure investment will suffer in the meantime, experts say huge project investment is still likely to be needed across the region between now and the end of the decade as economies will require improved infrastructure to serve growing cities. But in order to maintain the momentum in the regional project pipeline and in the face of austerity concerns, Cynthia Corby, Partner, Middle East Infrastructure and Capital Projects Leader, Deloitte told delegates at the MCLS that it will be “necessary to innovate, perhaps with a drive towards privately financed solutions”.