In India, Construction is the second-largest economic activity (next to agriculture), which contributed 8.5% to the countrys Gross Domestic Product (GDP) in FY 08. In the past, the multiplier factor between growth rates of construction industry and GDP has been about 1.5x-1.6x. Essentially, construction activity is labour intensive but over the past few years the construction companies have been focusing on mechanisation. This is evident from the dip in YoY growth in the quantum of labourers employed by the construction industry from 1.6% in FY 04 to 0.9% in FY 08.

The cost structure of the construction industry is dominated by raw material cost which accounts for about 30-50% of the total cost followed by subcontracting cost which account for 20-40%. Since raw material cost accounts for chunk of total cost, unprecedented rise in prices of key raw materials like steel and cement has a direct impact on the margins of construction companies. Price escalation clauses also turn futile if increase in prices of raw materials is higher than rise in Wholesale Price Index (WPI). "In FY 08, rise in prices of raw materials, especially steel, had been more than rise in WPI" said Ms. Revati Kasture, Head - CARE Research. Construction, being working-capital intensive, increased cost of borrowings in the current year is also an issue. Going forward, construction companies have to tackle this key challenge of input cost to sustain margins.

Construction industry to a great extent is dependent on the investments in infrastructure, industrial and real estate sectors. Increased spending by the government in infrastructure and buoyancy in industrial sector since the past couple of years has resulted in bulging order book position of construction companies. Planning Commission has envisaged an outlay of about US$500 bn during the Eleventh Five Year Plan for infrastructure development in the country.

Based on investments planned by the key driving sectors, CARE Research has estimated an effective investment in the construction industry of above Rs.10,000 bn in next 4-5 years. But with the expected slowdown in the economic growth, awarding of infrastructure projects by the government may be delayed. Also, deferment of expansion projects by manufacturing sector and lull in real estate can subside these investments and in turn, the order inflow to construction companies. "Eventhough, the strong multiple of order book to sales of 2x to 4.5x at the end of FY 08 projects a decent growth for construction companies, the slowdown in the order inflow can hamper the revenue growth in future" said Mr. D.R. Dogra, Deputy Managing Director, CARE.