Quality, Consequences and the Construction Industrial Complex (part 287).
I am saddened by the recent collapse of Katerra, the multi billion dollar US based construction firm backed by SoftBank.
Trouble has been brewing for a while with 3 CEO’s in the last two years plus the pandemic to deal with. However, long story short, they ran out of investors money and sprinted head first into the horizontally configured, property industrial complex’s inability to change. Yes, there is a “complex” in the property industry consisting of construction establishment lobbying, licensing boards, unions and politicians.
The property design and construction sector is a major employer in any economy, employing over 7 million people and building $1.3 Trillion of structures annually in the USA alone. This $1.3 Trillion is why occasionally, outside investors think there is an investment opportunity.
Katerra are note worthy because they tied to vertically integrate the design and delivery of buildings via application of total design, technology, scale and off site prefabrication technics. In MBA case study theory, this all makes perfect sense.
However, vertical integration is hard because you take on all the risk, you become responsible for the whole product. Think of Apple, they deliver a flawless product and take full responsibility for its performance and your experience.
If your iPhone was produced by the construction sector it would have multiple defects on delivery and it would be acceptable to fix defects over 1 year with no real warranty and no single entity responsible for performance.
Consumers of buildings accept this level of nonsense for two reasons:
- There is a government manufactured shortage of new building stock leading to horrible, second hand buildings selling for ridiculous values.
- We have all been trained to accept property industry consumer abuse and poor quality the same way we have been trained to accept poor service at pharmacies and doctors offices.
So what are the takeaways:
- There is no money in property design and construction. Most construction firms make 1% net profit in a good year. Money is made in property via capital gains on appreciating land and building values plus upward only leasing agreements. It is a rentier business model.
- The property industry is difficult and requires deep knowledge plus real skills and the ability to navigate the property industrial complex i.e. lobbyists, licensing boards, unions, politicians and local municipalities having jurisdiction.
- Modular off site construction only works if the design process starts with this in mind. In my experience, building designers do not think about construction methods to that level of detail. This requires the “Katarras” to impact path dependency, design processes and dogma.
- IMHO, the best opportunity to vertically integrate construction and produce at scale is via residential housing. This requires local governments to commit to developing housing, particularly brown field sites, and drastically reduce the fees and time required for permitting.
- I believe, vertically integrated construction firms that deliver housing as a consumer product with warranties on quality and performance should be rewarded with tax breaks.
- IMHO, nothing will change until there is a buyers strike. We have to stop playing the game of buying horrific second hand properties.
The larger consequence of Katerra’s collapse is it that Wall Street, The City of London et al, have yet another reminder, in addition to the collapse of Carillion, that there are is no money to be made in construction. Unfortunately, I fear this means the next “Katerra” seeking investors will have a hard time securing funding.
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