Infrastructure projects during a downturn
Listening to the rhetoric, many may think now is the time to build infrastructure. It’s a common belief that when the economy is in a downturn, most elements of a project are less expensive. But that’s simply not true. And because income streams are shallow right now due to low commodity prices, capital projects must be executed very carefully.
While things like material and labour typically have a set price tag, the biggest determinant of the overall cost of an infrastructure project can often be time. Time can be harder to quantify and is difficult to constrain if – or, in many cases, when – the unexpected happens. Time is, and should be, a constant concern from the beginning of planning until project completion. In order to mitigate time-related costs, you need to start with a good business case, and translate that into a development plan.
Once that’s established, project management must then be as efficient as possible. When you introduce delays, that will be the biggest driver of increasing costs.
In Canada, the time required to build new projects is getting longer. Projects must now complete extensive environmental assessments and go through a lengthy regulatory approval process. They also need to ensure a social license from the public. All of this takes time, which, ultimately, equals money.
During this downturn, we’re seeing many junior miners holding off on capital projects because they simply don’t have the money. But bigger companies who can take a longer-term view may have the luxury of time to start these processes for a project that will have a lifespan of 30-40 years.
Savings versus increased costs There is reason for the common belief that there are savings to be had in a downturn. Some costs are less expensive: Commodities. Producers have more inventory which they sell for less.
Rates of escalation. Runaway pricing is less likely to be a worry in the current market, which can stabilize budgets.
Construction bidding. An advantage right now is construction companies are bidding more aggressively, since they don’t have as much on their books.
However, on the flip side, some budget items cost more: Equipment. With the weaker Canadian dollar, equipment costs can be much higher, since often these items come from the US.
Labour costs. Infrastructure projects are always constrained by the quality of the people you can attract. For mining projects in remote areas, this can add expense.
Despite all this, savings are still possible. But those who expect 20-30% savings will be disappointed. No matter what the economic environment, project managers must be diligent and careful to weigh all costs before committing to a project – or risk any potential savings going down the drain.
The makings of a successful project Regardless of when a project begins there are some key factors that increase the chances of success. First, you need a well thought out and solid business case, and then once that’s established, you need strong leadership. People who are committed to a long term implementation of capital will help keep the project on track and closer to budget. Those who can see beyond the short term know that commodity fluctuations don’t matter if the other elements of the project aren’t in place.
The middle of a downturn can, indeed, be a good time to start new projects, including environmental processes and upfront planning work. But before you break out the shovels, make sure the due diligence is done in all areas of the project – or your potential savings could turn into losses.
Michael Kennedy, is Infrastructure Advisory Partner with EY.