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n 2020, we expect construction sector growth to be depressed considerably as a result of the COVID-19 outbreak. Postponement of a number of construction projects, both infrastructure and property projects, is the major contributing factor behind the decline in the construction sector. Construction, over the past decade, has grown above the national economic growth rate but with a declining growth trend. In 2011-2019, on average, the construction sector grew 6.58 percent year-on-year (yoy) while national economic growth stood at 5.33 percent yoy. Construction sector growth fell from 9.02 percent yoy in 2011 to 5.76 percent yoy in 2019.

The COVID-19 outbreak has reduced construction activity this year in both the private and public sectors. In the private sector, both the wholesale and retail segments, and companies and households that initially wanted to develop or renovate buildings will opt to allocate the budget to other more priority needs in maintaining their business under uncertain conditions because of COVID-19. In addition, in the public sector construction activity is also decreasing mainly because the 2020 state budget has been reallocated to overcome the COVID-19 epidemic.

Furthermore, there are several factors that have caused a decline in construction demand. First, the imposition of large-scale social restrictions in several regions. According to Health Ministry data, as of April 20, two provinces and 18 municipalities or regencies had imposed regional quarantines. A majority of these regions are in Java, such as Greater Jakarta, Bandung, Sumedang, Cimahi and Tegal. The construction sector in Java contributed 57.4 percent of the total national construction sector, and Jakarta contributed 19.3 percent of the total national construction sector, in 2019. Therefore, the declining construction activity in Java will have a serious negative impact on the national construction performance in 2020.

Second, the government has reallocated the 2020 state budget to deal with the COVID-19 epidemic. This policy has caused delays in a number of infrastructure construction projects. Infrastructure is the second-largest sector in terms of budget cutbacks. The total budget cut in infrastructure-related ministries, such as the Public Works and Housing Ministry and the Transportation Ministry, is 18.8 percent. The budget of the Public Works and Housing Ministry was slashed by 20.4 percent, from Rp 120.2 trillion (US$7.98 billion) to Rp 95.7 trillion and that of the Transportation Ministry was cut by 14.2 percent from Rp 43.1 trillion to Rp 37 trillion. The infrastructure budget cuts, of course, have an impact on the cancellation of construction projects that have not been put out to tender. It also forces construction projects that were initially planned for a single year project in 2020 to become multiyear and multiyear-construction projects to be extended to the following year.

As a result, a number of construction companies will experience a reduction in the acquisition of new contracts in 2020. Government projects contributed around 15 percent of the new contracts of big four state-owned enterprises (SOEs) focusing on construction in 2018-2019. Besides the decline in new-contract revenue, the value of ongoing projects will decrease as a result of the extension of project contract timelines, from a single year to multiyear projects, and the extension of multiyear projects’ contract timelines. This situation will certainly have a negative impact on the revenues of state-owned construction companies in 2020.

Besides the decreasing revenues, the extension of project contracts and delays in ongoing projects will cause cost overruns at construction companies. As a result, construction costs will rise. Raw materials for construction will be more expensive in the coming years. This will be exacerbated by the depreciating exchange rate of the rupiah in recent months, which will make the price of raw materials for construction more expensive. Raw materials for the construction industry have high import content, such as steel.

In addition, scarcities in the supply of raw materials for construction will also be a factor in causing delays in construction activities. Besides regional the quarantine policy, which limits the mobility of goods and people, a scarcity of building materials can be seen from the volume of steel imports, which dropped by 22 percent yoy in January-February 2020. The largest iron and steel exporter, China, has been hit by COVID-19 since January 2020.

The decreasing revenues and cost overruns will adversely affect construction companies’ cash flows. Financial liquidity in construction companies has become tighter and financial burdens are increasing. In recent years, the financial performance of construction companies has been fairly leaden as shown by the declining revenue growth of construction companies and a rising debt burden.

Going forward, the main challenge facing construction companies post COVID-19 is limited sources of financing. Banks will be more stringent in the provision of infrastructure financing in the future because of tighter banking liquidity conditions. Bond financing will also be increasingly difficult because the market is not conducive. Other sources of financing, such as selling assets or divestments, will not be easy given the market conditions.

Therefore, construction companies need to make efforts to overcome cost overruns and increasing financial burdens. Some efforts that can be made include efficiency measures so that cash flow is maintained, accelerating claims against government infrastructure projects that have been undertaken, and hedging. We believe infrastructure development through build, operate and transfer (BOT) in the future will be less attractive to investors because of liquidity problems.

The government has provided tax incentives for some sectors affected by COVID-19 including the construction sector. The construction subsectors that will get tax incentives include 59 business classifications (KLU). This policy should reduce the negative impact of COVID-19 on the construction sector, especially in overcoming cash flow and liquidity problems.