Financial Crisis and Construction Sector - Case Study Example

Financial Crisis and Construction Sector Financial crisis affected two sectors most i.e. the financial services and the property market because both the sectors were directly linked in the way the financing of the property projects were done. With the start of the financial crisis, financial institutions started to witness the mass default on the payments on their subprime mortgage loans. Subprime mortgage loans were given to the borrowers with relatively poor credit rating however they offered higher return to the financial institutions because it simply looked attractive to the banks. However, when the borrowers started to default, firms have to repossess the houses and ultimately started a chain reaction which forced the prices of the housings down and as such the whole sector started to look vulnerable to the low prices and lack of demand. Construction Sector in UK Two major players in UK market include Taylor Wimpey and Persimmon Plc- both the firms are leading players in UK. During the current recession, the overall demand for the products of both the firms were significantly affected owing to high cost of operating and low demand. What is also evident that both the firms were affected by the level of debt they have acquired and were able to rationalize the same during the financial crisis period? Both the firms announced the job cuts as well as further announced the plans for drastic cost reduction as well as the rationalization of their debt level. Taylor Wimpey’s stocks significantly declined during this period as depicted in following graph1: The above graph shows the movement of the firm’s share prices since Dec 2009 and indicates the overall fluctuations in the prices. These trends indicate that the firm’s prices started to decline during the later half of the period. Recently firm has also bought back some of its bonds thus indicating that due to increase in the bond yields. A closer look at the performance of the firm also indicates that over the period of last five years, the key financial indicators are depicting negative trends.2 Five years sales growth is negative and so is the negative reduction in the capital spending by the firm. Similarly the Persimmon Plc is also going through difficult period as its profits are shrinking and the overall demand is suppressed. However, there are signs of recovery in the UK markets as the number of first time buyers is gradually increasing thus removing the uncertainty from the market. Share prices of Persimmon Plc started to decline from the start of 2007 when financial crisis actually started to take its roots. Over the period of last one year, firm’s share prices fluctuated within the range of 335-444 indicating that the overall sentiments of the investors towards this company are not favorable. 3 Construction Sector in US It is also important to note that most of the construction firms in US are privately owned and as such data is relatively not available to make an analysis. However, general trends indicate that the construction firms are not performing well due to the suppressed demand as well as the low credit extension in the market. Overall level of employment in construction sector is increasingly slowly however, it is still lagging behind. (Hurst, 2010). Balfour Beatty is one of the largest construction firms in US, though primarily based in UK, however, due to the financial crisis; its overall financial performance was not satisfactory also. A closer analysis of the trends of the equity prices of the firm would suggest that the firm’s prices started to decline during the later half of 2008 and since than firm’s prices are almost in the same range. It is also important to note that the firm has been able to register a consistent increase in its sales over the period of last 2 years however, still the firm’s share prices have remain stagnant during the current phase of financial crisis. A closer look at the five year’s performance of the firm would suggest that its revenues continuously increased however; there has been a significant drop in the profitability of the firm.4 This reduction in profitability may be attributed to high cost of operations as well as the general reduction in the demand. Similarly the performance of Taylor and Morrison – US subsidiary of Taylor and Wimpey is also not performing well in the current crisis. What is also significant to note that the firm’s performance has been relatively good during the pre-financial crisis period however, from 2007 to 2009, there has been a considerable decline in the operating performance of the firm. Construction sector in China Construction sector in China remained well guarded against the financial crisis as most of the firms relied heavily on the domestic growth rather than on the international growth opportunities. It is also important to note that most of the construction firms either work under the government control or privately owned therefore the data is relatively insufficient to comment on any of the performance indicators of these firms. A general look at the construction industry of China would suggest that the sector started to formalize and structure itself since 2002 as a result of the government’s efforts to weed out the irregularities. It is also important to note that there are strong indications that the Chinese construction sector is going through an asset bubble wherein the prices are becoming more inflated due to higher level of demand at domestic level. This has been mostly due to strong domestic for residential sector of the industry wherein it comprises of 21% of the total industry. There is a considerable emphasis on the building of the luxury housing units as the overall income level of ordinary Chinese workers has started to increase due to strong industrial growth in the country. Construction sector has also became booming owing to the fact that new industrial cities are being developed or the existing infrastructure of the cities is being upgraded as a result of which there is an strong demand at domestic level. It has also been anticipated that the China may need the help of international firms in order to support its growth in its infrastructure such as building of new highways and fulfill the water requirements of the cities. As such Chinese construction sector is booming and may result into inflation in prices of the assets at very rapid pace. ( Cheung, Hexter, & Lin, S 2004). Chinese firm Shimao was one of the top level property developers in the country which tapped into the international bond market and issued $500 m bond issue at a price which offered relatively reasonable yield to the investors. This single example indicates that the Chinese firms are expanding at a rapid speed at the global level to meet the demand arising from domestic market.5 References 1. Cheung, R, Hexter, J & Lin, S (2004). Building on China's construction boom [online]. [Accessed 26 November 2010]. Available from: . 2. China's Construction Sector Becomes More Structured [online]. (2002) [Accessed 26 November 2010]. Available from: . 3. Hurst, T (2010). Despite Recession, US Green Building Sector Soars [online]. [Accessed 26 November 2010]. Available from: 4. Will China's Construction Bubble Weigh Down Industrial Metals? [online]. (2010) [Accessed 26 November 2010]. Available from: . Read More