Mega construction projects are popping up everywhere in the Middle East: towers, hotels, shopping malls, artificial islands and space age luxury dwellings are appearing, not only the GCC countries, but in the Levant and North Africa as well. This boom in real estate comes hand in hand with a cost explosion for construction materials from steel and cement to bathroom fixtures and ceramic tiles.
The huge cost increases, which have tripled or quadrupled expenditure projections for some major industrial construction projects in the region, are partly related to international price pressures stemming from demand in China and elsewhere. But they are also linked to local supply bottlenecks and insufficient production capacities that have led to a region-wide race for building new state-of-the-art construction material factories to service the demand.
“Shortage of material is why construction prices have increased dramatically for the last couple years,” Elie Kfoury, the managing director for DG Jones’ Dubai branch, told Executive. DG Jones is one of the biggest construction cost control and quantity surveyors in the region. “Projects are becoming bigger and bigger—the Middle East has had a big boom in the last two years. Factories weren’t expecting this.”
Last year, regional business information platform Zawya estimated that ongoing MENA real estate investments totaled $387 billion compared to the regions’ combined GDP of $804 billion—a 48% ratio. Supply is at maximum capacity in most Middle Eastern countries, with demand swelling due to population increases and growing foreign direct investments.
As rising energy costs and increasing construction demands strain construction material supply in the Middle East, more local factories are being set up to slash import costs and to stabilize the growing prices incurred from undersupply. Syria opened up its cement sector in 2005 to private investments and granted licenses to private operators, which are expected to begin operations by 2009.
Steel prices have doubled in the GCC since 2003 with transport costs rising as much as 200% in recent years, prompting Oman to step up investments in steel factories to bolster production over the years. The region’s largest steel making group, Egypt’s Al Ezz Steel, also recently said it is looking at building a $700 million steel mill in Algeria, in addition to significant capacity expansions in Egypt.
But considering that many countries are building their own construction materials factories to service local demands and that exporting these bulky goods is costly and an integral reason why local factories are emerging, who will benefit from an oversupply once construction stops?
Challenge for the Levant
For the Levant, the challenge is to keep Gulf cement and other materials out of their market as GCC factories receive subsidized energy, feeding lower production costs.
“The imbalance between supply and demand should not last much longer as many new cement plants are emerging in Jordan and the GCC. Within 18 months, I think there’ll be an oversupply in the region independently if the construction boom stays strong or weaken,” Pierre Doumet, CEO of Cimenterie Nationale (CN) cement company in Lebanon, told Executive. “Then, I think, the regional cement prices will decrease because there will be an oversupply.”
Apart from capitalizing on the short term opportunity that undersupply currently presents, the long term gain for CN and other companies is securing future competitiveness.
“We are using the boom years we have now to renew our equipment and be ready for the bad years, that’s why we are [expanding] our site. We are building a state-of-art site and reducing operational costs—especially energy—to withstand the lean years,” Doumet says.
CN is the second-largest cement producer in Lebanon, but will soon be the first, Doumet says, with factory expansion and energy-efficient plans near completion.
Energy prices for production are the main concern of building materials manufacturers. Other than cutting down on this cost via alternative energy sources, quality is the only other advantage.
“If we want to be competitive across the Gulf and Middle East, it’s not easy anymore. Gulf prices are cheaper but the quality is not good,” said an official with a Lebanese ceramic company who wished to remain anonymous. “What we are trying to do is improve quality and design and convert to cheaper energy to keep Gulf products out of our market.”
To remain competitive, companies are becoming creative in the energy department. Jordan Cement Factories (JCF) is looking into shale oil production as a way to trim down operational costs. Shale oil is a sedimentary rock with enough organic minerals that when distilled, yield oil for energy uses. JCF hopes to start tapping into its shale reserves by the end of 2007, once it receives a permit from the Ministry of Environment.
Turning to diesel and heavy fuel
For Lebanese construction material factories, diesel and heavy fuel are replacing natural gas to slim down costs for the likes of the Lebanese Ceramic Industries Company (Lecico).
The rising costs of exporting local production are also burdening oil-poor Levant countries. Rising oil prices are stimulating increased freight fares for bulky cement exports and growing energy production costs.
Lebanon is one of few MENA countries with an oversupply of cement, but exporting to multiple destinations is not monetarily feasible. The county does export to neighboring Syria and Iraq. But Syrian cement demand is so strong there’s a thriving black market for Lebanese cement, which Lebanese producers say account for 40% of their product.
For other countries, liberalization is a necessary step to keep up with already open and booming markets. Syria liberalized its cement sector to cut down on rising cement import costs. Syria’s cement sector has reached its maximum capacity of 5 million tons per year (tpy) but demand is at 8 million tpy with 5% increases per annum. Hassan Al Osh, production director at state-owned General Organization for Cement and Building Materials said last month that Syria hopes to become a cement exporter by 2010-2011.
In contrast to the Levant, the plan for the GCC is not only to satisfy domestic demand but to export elsewhere.
Gulf advised to invest more than $5 billion
The Gulf Organization for Industrial Consulting released a report last March advising GCC countries to invest more than $5 billion in iron and steel industries in the next three years to meet growing regional demand—as they expect imports to increase 19.6% annually until 2010—and then begin exporting. The report stated that the GCC supply-demand gap for iron and steel will persist until 2008. The 2008 surplus will lead them to find external markets due to internal saturation, to become a global center for iron and steel production.
“Factories have been under pressure from his highness in Dubai and in Abu Dhabi to focus on factories as real estate is situated in a way where it cannot be sustained for a long period unless there is a continuation of work from exports, imports and factories. So the UAE is very heavy on the drawing plans for glass, steel and aluminum factories,” Kfoury said. “This is the second thought—the first was to build up a tourist country and now it is to turn the tourist country into an industrial country.”
These countries can sideline the energy worries of the Levant by subsidizing the energy costs associated with producing and exporting such bulky materials. Saudi Arabia accounts for just over half of all GCC cement, but the country faces local shortages as exporting regionally yields higher prices and transportation costs are minimal due to oil wealth. Saudi’s largest export market is now Japan, mainly for refined oil products but also for commodities like cement.
Undersupply slowing down work
For most of the Middle East, current local undersupply is currently stimulating construction lags.
The CEO of the construction materials company Madar Emirates, Sameh Hassan, said at a company event in April that the biggest challenge for construction companies is getting raw materials on time. Hassan said he expects construction prices to increase by 30% this year.
Also, with the competitive edge the euro has over the dollar, many steel and wood imports go to service the construction boom in Europe, increasing the costs of these materials regionally.
As the construction materials industry is both capital-intensive and highly cyclical, whether or not building or revamping factories to bolster production will pay off has yet to be seen. Certainly, construction material costs need to go down and one way to do so is through government subsidies. Lebanese contractors threatened to suspend projects in April, unless the government alleviated some of their costs. At the moment, the burden of these rising costs rests squarely on the shoulders of all Middle Eastern construction companies.
Levant to GCC: Keep out
As building material factories swell in scope, GCC factories’ dreams of exporting large quantities throughout Asia may be not be as fruitful as they hope. As oil prices continue to rise, and East Asian countries experience further construction booms, they may have to seek local construction material alternatives.
Yet with a close-enough proximity, the Levant may have to keep an eye out for GCC competition, unless they can tap into alternative energy sources such as shale like Jordan, or for all regional countries, the undeveloped solar energy sector. The latter is not a saving grace, but any slight reduction in energy costs can help the Levant battle GCC products out of their turf.
