Construction sector has historically shown high correlation with ongoing sentiments in the economy.

The following are the macroeconomic factors that will determine the growth of construction sector in
India

High GDP Growth

The high economic growth we have seen in the last decade has brought a lot of changes in the structure
of Indian economy. There has been a consistent decline of primary sectors like agriculture, forestry and
fishing and instead non-primary sectors like services and manufacturing has gained prominence. This
along with population growth and expansion of economic activities has created a lot of strain on India’s
physical structure. These changes demand a significant investment in India’s infrastructure as India
currently is facing huge infrastructural deficit in terms of capacity and efficiency of delivery.

These are the major sectors which have witnessed tremendous growth in this changed economic
scenario and in turned have fueled the growth of construction sector

a) Growth of services sector – Services sector has more than two-third contribution
towards the GDP and has grown a very healthy rate. This growth has not only created a strong middle
class but has also contributed significantly in terms of office space. The burgeoning outsourcing and
information technology (IT) industry and organized retail is leading the growth in commercial office
space requirement. For example, IT and ITES alone is estimated to require 150 million sqft across urban
India by 2010. Similarly, the organized retail industry is likely to require an additional 220 million sqft by
2010. The growth in tourism has created demand for recreational construction such as hotels and
resorts. India's medical tourism is expected to grow from US$350 million (at current prices) in 2006 to
US$2 billion in 2012—17.5% growth. The robustness of the sector is visible after the current recession.
The IT industry has again gone in the hiring mode and has announced plans to develop commercial
office space. Hence, the service sector is turning out to be the major driver for construction activities
and is expected to do so at a very healthy rate in the future.

b) Burgeoning Middle Class – Another area where the service sector growth has
contributed is the rise in the income level of young people and this has led to the growth of real estate
market in the country. India has a large and growing middle class population of 300 million people.
Rising income level of a growing middle class along with the increase in nuclear families and the change
in the traditional mindset of saving to buying on credit has significantly boosted the housing demand.
The growth in income level is also visible by the fact that a decade earlier average age of home owner
was 45 years and is now changed to 31 years in the current times.
Indian real estate market is growing by 30% and is expected to reach $60 Billion dollar by 2012. It is
expected that price of houses are going to rise high because India will face shortage of over 26 million
houses by 2012. According to Pranay Vakil Co-chairman of FICCI Real Estate Committee $1.2 trillion
investment will be needed to meet the rising demand for urban development .
The average profitability of construction sector is 18% which is almost double of the same in US. This is
one of the reasons why foreign investors are lined up to invest in this sector.
Real Estate is the second largest employing sector in India and is linked to about 250 ancillary industries
like cement, brick and steel through backward and forward linkages. It is estimated that a unit increase
in expenditure in this sector has multiplier effect of five times on the overall economy.

Government Initiatives

The Government of India has recently launched several reform measures to unlock the potential of the
sector and to meet the demands of changing demographics.

 100 per cent FDI allowed in realty projects through the automatic route.
 In case of integrated townships, the minimum area to be developed has been brought down to 10
hectares from 40 hectares.
 Large no. of states has repealed the Urban Land (Ceiling and Regulation) Act, 1976 (ULCRA)
 Special Economic Zones norms have been simplified to get the tax free benefits
 100% FDI is allowed under the automatic route in development of Special Economic Zones (SEZ)
 Minimum capital investment for wholly-owned subsidiaries and joint ventures stands at €9 million
and €3 million, respectively.
 Full repatriation of original investment after three years.
 51 per cent FDI allowed in single brand retail outlets and 100 per cent in cash and carry through the
automatic route
 The government of India has permitted FDI up to 100% for development of integrated townships in
India
 India, at present, allows FDI in single-brand retailing to the extent of 51 per cent, and 100 per
cent for cash-and-carry wholesale trading.
 If the government were to allow FDI in the retailing sector for multi-brands, it would result in a
dramatic increase in retail sector growth

There is a huge potential in Indian Construction Sector. These reforms and initiative by the government
are giving further impetus to Indian construction sector

Relaxation of FDI norms

With the significant investment opportunities emerging in this industry, a large number of international
real estate players have entered the country. The entire construction sector, including roads and
highways, attracted FDI equity of $2.86 billion in the fiscal year 2009-2010
Benefits of FDI to construction sector
 It will act as a source of funds for the funds- starved sector
 It will bring in professional players equipped with expertise in real estate development
 The demonstration effect of foreign players will led to the introduction of latest technology and
quality designs in the real estate developed by the local players.
 It will provide cost-benefits in the long run
 It will generate employment and revenue and will provide us with much needed quality
infrastructure

Examples of FDI in real estate

 Foreign investors have put in their money in total 1614 projects in India out of which 412 are in
Mumbai, 316 in Delhi, 225 in Bangalore, 105 in Hyderabad and 68 in Chennai.
 The largest FDI in the last five years remains in the construction of a technology park at Bandra Kurla
Complex in Mumbai. In this case, $372 million has been brought in through a foreign collaborator
based in Mauritius.
 The largest numbers of foreign collaborators working with Indian real estate firms are based out of
Mumbai
 Merrill Lynch & Co bought 49 per cent equity in seven mid-income housing projects of India's largest
real estate developer DLF in Chennai, Bangalore, Kochi and Indore for €243 million
 Gulf Finance House (GFH) has decided to invest over € 1 billion in a Greenfield site close to Navi
Mumbai

Although implementation of these projects still remains a problem for a foreign firm owing to
bureaucracy and political problems. Hence the preferred route for FDI investors is through a tie-up
or a joint venture with a local developer.

Monsoon Season

The impact of this factor is limited because of the limited contribution of agriculture in the Indian
GDP. However, the second quarter of a fiscal is normally the weakest for the construction
companies on account of the poor execution of projects due to the monsoon rains. Thus, the
revenue growth of the construction companies is expected to be subdued on account of slower
order execution.
However, bad monsoons usually dampen the mood of the economy and it might have a bad impact
on the construction sector if the problem persists for a longer duration. Though bad monsoons
might prompt government to spend more on rural infrastructure to support the rural economy and
it might cover these losses to a certain extent
Interest Rates

This is one of the major factors that influence the performance of construction companies. It
influences both the supply side and the demand side. High Interest rates makes it difficult for the
developers to close the financing for their projects. It also increases the price of the real estate. On
the buyer side it increases the cost of owning the property and hence reduces the demand. So
higher interest rates causes twin problems for the developers and reduce the attractiveness of
starting new projects.

Inflation
Higher inflation leads to hardening of interest rates and hence slows down construction activity. It
also increases cost of raw materials. But usually the impact is not significant as compared to other
drivers and hence can be ignored.

Ancillary Industries
Almost 5 per cent of GDP is contributed by the housing sector, and in the next few years it is expected to
rise to 6 per cent. Moreover, the construction sector has also been responsible for the development of
over 250 ancillary industries such as cement, steel, paints, brick, timber, building materials, etc. A study
by a credit rating agency ICRA shows that the construction industry ranks third among the 14 major
sectors in terms of direct, indirect and induced effects in all sectors of the Indian economy. A unit
increase in expenditure in the real estate sector can generate a fivefold increase in income.

Talent Availability
Talent shortage is one factor that undermines the efficiency of Indian firms in executing these projects
successfully. Both engineering and blue-collared skilled workers are in short supply. Skilled workers like
fitters and welders are not available in the required numbers. The industry also needs mechanical
engineers who have worked in capital goods industries. Even skilled project managers are not available
and it is hurting all infrastructure builders. In order to overcome these shortcomings developers have to
increase their capital expenditure to buy machinery to execute these tasks and hence the project
becomes dearer.

Market Risks in Construction Projects

 India has a favorable business and political atmosphere and the risks of investing in Indian
infrastructure for one and five year projects are less than the worlds average
 The sector also presents lower risks then other sectors of the Indian economy
 There have been significant improvements in the legal and regulatory environments to bring the
clarity and consistency in the system, especially in the area of foreign investment
 However, the large backlog of cases and the inherent inefficiency in the judicial system that result in
delay of closure of cases pose some risk
 Tax system also has seen many reforms but there is still scope for inclusion of more scientific and
efficient methods in the tax collection process
 The problems of corruption and security are still prevalent in the country and consume substantial
resources in terms of time, investment and money

Increased Government Spending

The increase in the share of construction sector in GDP has primarily been on the account of increased
government spending on physical infrastructure in the last few years, with programmes such as National
Highway Development Programme (NHDP) and PMGSY/Bharat Nirman Programme receiving a major
boost recently.