In an environment that will exhibit disruption and change, being nimble is a necessity. The concept of being flexible rather than ridged in the face of change is one that for many industry participants is counter intuitive. Bruce Lee might have said it best when he suggested the following: “Empty your mind, be formless. Shapeless, like water. If you put water into a cup, it becomes the cup. You put water into a bottle and it becomes the bottle. You put it in a teapot, it becomes the teapot. Now, water can flow or it can crash. Be water, my friend.” Those leaders who adapt, change and are nimble in the coming decade will thrive while those who remain ridged will be ground down the way water cuts a canyon.
Nimbleness is necessary for firms in the underground utility sector. Continuum Advisory Group’s 2015 utility outlook provides a comprehensive look into the underground utility markets including these segments:
- Gas & Electric Transmission and Distribution
- Water Supply, Sewage and Waste Disposal
Exhibit 1 demonstrates that after a period retraction in 2009-2011, the underground utility markets in total have returned to more stable growth. This growth is unbalanced however as it is primarily in the Gas & Electric Transmission and Distribution sector and secondarily in the Communications sector. Water and Wastewater are demonstrating very modest growth.
Continuum had been predicting a short and shallow economic slowdown during the first half of 2015. This is no longer mathematically possible, and the earliest that our next down cycle can begin is late 2015 or early 2016. Our current forecast anticipates this slowdown in late 2016 and early 2017 and is responsible for the slowing spending in this period. Overall, the long-term prospects for underground utility construction are very good, and in the following pages we describe the drivers of growth for each sector.
Electric & Gas Transmission and Distribution
The most viable and growing utility market is the electric and gas, transmission and distribution market. The long-term prospects are robust. In the 10 years since 2003, spending has increased from $14 to $63 billion and Continuum forecasts continued spending growth (Exhibit 2). Traditionally, construction markets produce 5- to 7-year cycles that coincide with economic cycles. This market has resisted these cycles because growth is not solely derived from economic factors, but a combination of economic and “derived demand” factors. Derived demand is produced through government regulation, safety, environmental or other factors. These drivers of electric and gas growth include improving housing starts, tax credits, continued pipeline replacement, pipeline safety regulation, environmental regulation and concerns, distributed generation,1 electric transmission expansion and the beginning of an industrial and power generation renaissance.
Drivers of Growth
The most disruptive driver of growth, and the one that represents the greatest challenge to forecast, is distributed generation. Why does distributed generation impact the transmission and distribution segment? Simply put, it will reshape how the entire electric industry operates and, secondarily, impact pipeline activity.
In Exhibit 3, an Energy Information Administration (EIA) study describes the range of possible outcomes for distributed solar on buildings alone is significant with anywhere from 17 to 75 gigawatts (GW) of generation potential.2 As a frame of reference, U.S. electricity consumption in 2012 was 4,069 terawatt hours (tWh)3 and the typical U.S. home consumes 10,837 kilowatt hours (kWh) of electricity annually.4
Pipeline spending is primarily driven by replacement activity in the first half of our forecast period and subsequently by an industrial and power generation renaissance that will result in the strengthening of systems across the country and particularly in regions where shale oil and gas are located. This activity will also include new transmission and high pressure distribution spurs. The long-term prospects and spending rational are detailed in Exhibit 4.
Water Supply & Sewage and Waste Disposal
Spending in the water/wastewater segment that languished since the recession has yielded only one year since 2008 with positive spending growth, and in 2010, this growth was entirely due to stimulus related dollars. As the effects of the recession lessened on the economy in general by 2011, the poor condition of state and local budgets continued to push spending lower. 2013 and 2014 are showing signs of spending stability and we forecast very modest growth until 2017 when pent-up demand, deferred maintenance, flush state budgets, faster economic growth and other positive factors unleash spending growth (Exhibit 5).
Water Supply, Sewage and Waste Disposal Trends
The challenges facing the water/wastewater industry remain funding related. Aging infrastructure remains the largest challenge; the Northeast and Midwest are the areas of greatest concern. The shutdown of the City of Toledo, Ohio’s, water system in August of 2014 illustrates some of these concerns rising to the surface. Fixing challenges like what Toledo experienced will require both massive investment and unprecedented coordination. A combination of factors including Toledo’s aging water treatment system, wastewater and storm runoff from cities like Detroit, which has its own ongoing funding crisis, and agricultural runoff, are all contributors to the challenge.
We concur with the researchers at Black & Veatch, where in its report highlighting the Top 10 concerns for the water and wastewater industries, several of the highlights are:
- The industry is committed to the massive undertaking of updating infrastructure.
- Management of capital expenses, operational costs and funding or availability of capital continue to challenge the industry.
- Regulations, government mandates, adapting to new technology, water scarcity and water loss all present tremendous challenges for this sector.
The American Society of Civil Engineers estimates that the U.S. need for drinking water investment will rise from $13 billion annually today to $30 billion annually by 2040. On the wastewater side, it is estimated that $300 billion in investment5 is needed over the next 20 years; current spending levels are only half of that amount on an annual basis. The breakout of this spending need for wastewater infrastructure over the next 20 years is defined in Exhibit 6.
|Category||Billions||% of Total|
|Secondary Wastewater Treatment||$ 59.9||20.1%|
|Advanced Wastewater Treatment||$ 45.3||15.2%|
|Infiltration/Inflow Correction||$ 8.2||2.7%|
|Replacement/Rehabilitation of Sewers||$ 33.7||11.3%|
|New Collector Sewers||$ 21.4||7.2%|
|New Interceptor Sewers||$ 19.4||6.5%|
|Combined Sewer Overflow Correction||$ 63.6||21.3%|
|Storm-Water Management||$ 42.3||14.2%|
|Recycled Water Distribution||$ 4.4||1.5%|
Profits and performance in this market are unbalanced, sporadic and not widespread. Picking the right markets, right customers and right timing will be critical and only the nimble will find success.
The dominate trend in communication spending, as always, is volatility … the trough in 2003, the peak in 2007, the trough in 2012. We enjoyed a mini spike in spending in 2013, and we are now forecasting growth in spending that is accelerating in 2015 and 2016. The growth in these years is driven by a single factor — competition between Google, AT&T, Verizon and CenturyLink, among others, to bring fiber and high-speed service to major cities in the United States. This competition is the sole driver of growth in 2015 and 2016, while the underlying growth rate in spending is below 3 percent. We also anticipate this competition to conclude by 2017, reducing the spending growth rate. Beyond 2018, we anticipate faster spending growth associated with the still undefined 5G technology as well as anticipating faster U.S. economy and housing growth that will approach a cyclical peak around 2020 (Exhibit 7).
The communication industry may predict the path of the electric market. Beginning with the breakup of the Bell system in 1982, the industry has experienced 30 years of rapid change involving technology, ownership structure and customer demands. Organizations that were not nimble simply do not exist anymore. This fact should serve as a warning to electric utilities that are just beginning a period of fundamental change and disruption.
The build out of the 4G infrastructure is nearly complete nationwide, and the underlying short-term future for spending growth is related to incremental improvements in capacity. The rejection of the Sprint/T-Mobile merger signals an end to industry consolidation. This lull in typical activity won’t last if Google is effective at sparking competition for faster internet connections. Google is currently rolling out Google Fiber in Kansas City, Kan., Austin, Texas, and Provo, Utah. The company has further indicated plans to expand into an additional 34 cities. Jason Armstrong, an analyst with Goldman Sachs, estimated the company could spend approximately $1.25 billion annually to connect 7.5 million homes through 2022.6
Google Fiber is not really an effort to become a major player in the Internet Service Provider (ISP) market, but more of an effort to create competition among traditional broadband providers including AT&T, Verizon and CenturyLink to offer faster service.7 The growth we are forecasting in 2015 and 2016 is solely related to this Google spending on its fiber program in conjunction with some spending by traditional ISPs in response to the competition.
Beyond 2016, the underlying growth is driven by data management. The Telecommunications Industry Association states that:
“Big data is driving the accelerating investment in the U.S. market. Growing consumer demand for data led to a double-digit increase in spending on wireless telecommunications equipment last year, as carriers rolled out long-term evolution (LTE) networks. Meanwhile, specialized services that rely on, and protect, data — including cloud services, machine-to-machine communications (M2M) and cybersecurity — all saw large spending gains in 2013. In fact, spending on cybersecurity grew faster in 2013 than in any recent year and has shown significant increases in each of the last three years.”8
By 2020, we expect the development of a 5G technology that will again create a construction spending spike focused around helping customers achieve faster speed and greater capacity. Currently, there is no clarity on what this new 5G standard will look like with many arguing that looking at previous generational transmission for guidance is mistaken. For one, Michael Peeters, the CTO of Alcatel-Lucent, recently argued that “the current talk about 5G development was ridiculous because it was focused on the old issues of technologies to increase capacity and bandwidth, whereas the real revolution would come from an architecture which was open, federated and invisible. Yet with many physical network technologies approaching their limits, the real challenge is to enable a host of different platforms to work together as a seamless whole, largely software-controlled and flexible enough to support any usage pattern from low bandwidth smart meters to future generations of super-HD video.”9
This concept of an ever-growing number of devices — be they consumer, industrial, commercial or government owned — operating on a network of networks means the industry is about to get a lot more complicated. Only the nimble will wind their way through these changes and transitions.
The long-term prospects for the underground utility market are very good. They are, however, unbalanced in both sector and geography. Firms that are ridged, short-sighted, backward looking and traditional will be cut the way rock is cut by running water. Success in these markets requires that organizations learn how to adapt. As water flowing over, under, around or even through an obstacle, the firms that will thrive in these markets must be nimble by nature.
Mark Bridgers and Nate Scott are Consultants with Continuum Advisory Group, which provides management consulting, training and investment banking services to the worldwide utility and infrastructure construction industry. They can be reached at 919.345.0403 or MBridgers@ContinuumAG.com and followed on Twitter at @MarkBridgers. For more information on Continuum, visit www.ContinuumAG.com.
1 Power produced at the point of consumption. Examples include: solar panels installed on the roof of a home or business; diesel fired power generated at a remote or rural setting; wind power generated at a commercial or industrial site; natural gas fired power generated at a commercial or industrial site.
2 “Modeling distributed generation in the buildings sectors,” U.S Energy Information Administration. August 2013, pg. 7.
3 International Energy Agency (IEA) Key Energy Statistics, 2014, pg. 56.
4 1 Megawatt (MW) = 1,000 Kilowatts (kW); 1 Gigawatt (GW) = 1,000 Megawatts (MW); 1 Terawatt (tW) = 1,000 Gigawatts (GW).
5 “2013 Report Card for America’s Infrastructure” American Society of Civil Engineers. 2013.
6 Akerman, Elise, Google Fiber Could Reach 8 Million Homes By 2022, Forbes, June 14, 2013.
7 Gustin, Sam. “Google Fiber Issues Public Challenge: Get Up To Speed”. Time.com. September, Sept. 14, 2012.
8 “2014 ICT Market Review & Forecast”, Telecommunications Industry Association. June 2014.
9 “Alcatel-Lucent techie: Race for ‘5G’ technologies is ‘ridiculous’”, theregister.co.uk. Sept. 25, 2014.