Wednesday, 25 January 2023

Delays to national projects could hit the construction industry

Delays to national projects will challenge construction players whose portfolios aren’t diversified: Earlier this month the government announced new curbs on construction spending as part of a package of cutbacks aimed at alleviating the country’s shortage of foreign currency. In a policy switch announced by Prime Minister Moustafa Madbouly, new projects that require significant amounts of FX will be delayed until at least the end of the current fiscal year in June in a move that could hit the local construction industry.

The rules: Under the directive, any new national projects that require significant FX expenditure, and where construction has yet to begin, will be delayed. Any FX spending by ministries and associated state authorities will require the sign-off of the Finance Ministry. This comes as part of the government’s recent loan agreement (pdf) with the IMF, under which it committed to slow spending on public projects.

It’s all to help plug a USD 17 bn shortfall in external funding: The cutbacks to national projects come alongside reductions in “non-urgent spending” that will curb government spending in an effort to mitigate a shortfall of foreign currency. The fallout from the war in Ukraine and deteriorating global economic conditions prompted investors to pull USD 22 bn from the local debt market last year, while rising borrowing costs and higher food and energy prices have increased pressures on the country’s balance of payments.

We don’t know which projects will be impacted: There has been little clarity from the government about which projects could be delayed as a result of the decision. Sources from the Housing Ministry told us that the cuts will depend on the priority of planned projects, the outcomes of feasibility studies and the percentage of the USD component. The government was planning to spend EGP 357 bn (USD 12 bn) on national projects in FY 2022-2023 though it’s unclear how much of this was allocated to developments requiring FX.

But we know some which will continue unaffected: Electricity ministry sources tell us that power infrastructure projects won’t be impacted by the decision. The Defense Ministry has also been ring-fenced from the cutbacks, indicating the projects being handled by the military will continue.

Non-strategic, private-sector-led projects could take the hit: “We would expect projects in non-strategic sectors that are being driven purely by private-sector interest and funding to slow down or be paused,” Jack Kennedy, head of the MENA desk at S&P Global Market Intelligence, told Enterprise. The delays can be expected until there is more clarity as to the “overall impact of the currency devaluation…and to what extent IMF-backed reforms are fully implemented”, he added.

As could some key national projects: The move “is likely to reduce the scope of projects connected to the new administrative capital and will probably delay short-term development progress around the El Dabaa nuclear plant,” he said.

The impact is expected to be large: Estimates from the Egyptian Federation of Building and Construction Contractors indicate that the sector could face losses in the range of EGP 40 bn (USD 1.34 bn) as a result of the cutbacks.

The good news: Construction giants have a healthy pipeline of projects. Orascom Construction reported (pdf) having a USD 5.7 bn backlog as of September and USD 3.1 bn of new awards. Around two-thirds of the backlog were projects in Egypt and almost three-quarters were for public-sector clients. Meanwhile, Hassan Allam Holding has a current backlog of more than USD 7 bn, it said (pdf) earlier this month and Elsewedy Electric announced a EGP 86.9 bn backlog in its 3Q earnings release (pdf), more than 25% of which was outside of Egypt. It also reported EGP 20.9 bn in new awards, almost all of which were in Egypt. Orascom declined to comment when we reached out. Representatives of Hassan Allam could not be reached.

Big players such as OC, Hassan Allam, and Elsewedy will have a bit of a cushion against the delay in new projects given the work they do outside Egypt. Contractors purely focused on the domestic market will be more impacted.

Economic conditions are tough for the industry right now: Liquidity problems, shortages of raw materials, soaring prices and rising borrowing costs are all weighing on the sector, prompting industry players to ask for longer deadlines and expedited payments.

Compensation is on the way: Late last year President Abdel Fattah El Sisi signed into law legislative amendments that allow contractors who have suffered losses on state projects due to recent economic reforms to receive compensation from the government. The upcoming round of compensation is expected to be around EGP 40 bn. The government also gave companies working on government projects a bit of breathing room by granting them a two-month extension on their deadlines.

The government has been on a construction spree: The state has spent bns of USD on new transport links, cities and power infrastructure in recent years, helping the construction sector to become one of the largest contributors to economic growth. The large FX spend on these projects has contributed to the current liquidity squeeze and pushed up inflation, leading to the government committing to cutbacks in talks with the IMF.

The cutbacks could be good for private-sector investment: The large amounts of public spending may have negative effects on Gulf investment interest in Egypt, S&P Global Market Intelligence Senior Economist Yasmine Ghozzi wrote in a recent report. “Gulf states are unlikely to facilitate additional investment into the private sector unless the government rationalizes un-costed, large mega projects.” Gulf interest in Egypt has picked up significantly over the past year, with sovereign wealth funds and private companies targeting a range of infrastructure projects including ports, energy facilities, and desalination plants.

Your top infrastructure stories for the week:

  • Real estate developers asked the government for a package of measures to help them overcome the economic crisis, including more favorable lending terms and looser rules for delivery times.
  • A Transport Ministry plan to hike the price of train tickets has been put on hold by President Abdel Fattah El Sisi.
  • Planned tenders for the Tenth of Ramadan dry port and a 20-MW solar plant in Hurghada have both been postponed to give bidders a chance to revise their figures.
  • Heliopolis Housing is putting its Heliopark project back out to tender after scrapping an agreement with Mountain View, citing higher real estate valuations.
  • President Abdel Fattah El Sisi defended government spending on national development projects in a speech on our recent economic challenges.

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