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class="AuthorsByLine_mck-c-authors-byline__author__XdrlD"><span class="AuthorsByLine_mck-c-authors-byline__no-wrap__Ced0j">Prasad Ganorkar聽</span></span><span class="AuthorsByLine_mck-c-authors-byline__author__XdrlD"><span class="AuthorsByLine_mck-c-authors-byline__no-wrap__Ced0j">Umesh Goel聽</span></span><span class="AuthorsByLine_mck-c-authors-byline__author__XdrlD"><span class="AuthorsByLine_mck-c-authors-byline__no-wrap__Ced0j">Mo Ran<span> 聽</span></span></span><span class="AuthorsByLine_mck-c-authors-byline__author__XdrlD"><span class="AuthorsByLine_mck-c-authors-byline__no-wrap__Ced0j"><a data-component="mdc-c-link" href="/our-people/erik-sjodin" class="mdc-c-link-inline___7DRrt_8032924 mdc-c-link-inline--secondary___YKoOK_8032924"><span class="mdc-c-link__label___Pfqtd_8032924">Erik Sj枚din</span></a></span></span></div><div class="mdc-u-grid-col-md-start-8 mdc-u-grid-col-md-end-12 mdc-u-grid-col-lg-start-8 mdc-u-grid-col-lg-end-11 ArticleContent_mck-c-article-content__share-tools__kWRRw"></div></section><section class="mdc-u-grid mdc-u-grid-col-md-12 mck-u-animation-blur-in-400"><div class="mdc-u-grid-col-md-start-2 mdc-u-grid-col-md-end-12 mdc-u-grid-col-lg-start-3 mdc-u-grid-col-lg-end-11"><div data-component="mdc-c-description" class="mdc-c-description___SrnQP_8032924 mdc-u-ts-5"><div class="mck-u-links-inline">As the COVID-19 pandemic accelerates transformative trends within the construction-equipment industry, companies must rethink their traditional strategies.</div></div></div></section><main data-layer-region="article-body" class="mdc-u-grid mdc-u-grid-gutter-xxl"><div class="mdc-u-grid mdc-u-grid-col-1 mdc-u-grid-col-md-12"><div class="mdc-u-grid-col-md-start-2 mdc-u-grid-col-md-end-12 mdc-u-grid-col-lg-start-3 mdc-u-grid-col-lg-end-11"><div class="mdc-o-content-body mck-u-dropcap"><div data-component="mdc-c-module-wrapper" data-module-theme="default" data-module-background="transparent" data-module-category="" class="DownloadsSidebar_mck-c-downloads-sidebar__iFmyt mck-o-xs-right-span"><div data-layer-region="downloads-right-rail"><h3 data-component="mdc-c-heading" class="mdc-c-heading___0fM1W_8032924 mdc-c-heading--title___5qyOB_8032924 mdc-c-heading--border___K8dj3_8032924"></h3><div><div data-component="mdc-c-link-container" class="mdc-c-link-container___xefGu_8032924"><a data-component="mdc-c-link" href="#/download/%2F~%2Fmedia%2Fmckinsey%2Findustries%2Fautomotive%20and%20assembly%2Four%20insights%2Fdigging%20out%20forecasting%20for%20construction%20oems%20in%20the%20next%20normal%2Fdigging-out-demand-forecasts-for-construction-oems-in-the-next-normal_vf.pdf%3FshouldIndex%3Dfalse" class="DownloadsSidebar_mck-c-downloads-sidebar__download-link__fPqFQ mdc-c-link___lBbY1_8032924" target="_self" data-layer-event-prefix="Download Link" data-layer-action="click" data-layer-report-type="" data-layer-file-name="digging-out-demand-forecasts-for-construction-oems-in-the-next-normal_vf" data-layer-report-name="digging-out-demand-forecasts-for-construction-oems-in-the-next-normal_vf>"><span data-component="mdc-c-icon" class="mdc-c-icon___oi7ef_8032924 mdc-c-icon--size-md___yi5fA_8032924 mck-download-icon"></span><span class="mdc-c-link__label___Pfqtd_8032924"> (13 pages)</span></a></div></div></div></div> <p><strong>The COVID-19 pandemic</strong> threw a wrench into most industrial markets. Many segments saw an immediate drop in demand as governments enforced lockdown measures globally. GDP decreased sharply worldwide in the second quarter of 2020, and the industrial segment suffered an immediate drop in sales. With the relaxation of restrictions and increased economic activity, however, GDP is recovering faster than expected.</p>  <p>The construction-equipment (CE) industry, which depends highly on GDP growth and economic activity, faced the same headwinds as other industrials during the pandemic. Although it has started to recover, recent reports from major CE OEMs indicate that their 2020 sales dropped between 10 to 25 percent across markets. The numbers varied significantly by region, with companies in Europe and North America reporting higher decreases than those in Asia.</p> <p>As the pandemic begins to abate, CE OEMs will face a very different landscape. Much uncertainty lies ahead, making it more important than ever to forecast demand accurately. This article is the first in a series on the CE industry鈥檚 next normal and the implications for CE OEMs. It examines how CE OEMs and other industry players can build robust, fact-based, market-outlook models that will help with both demand forecasting and planning activities.</p> <p>When exploring the next normal for CE, we drew on McKinsey鈥檚 industry knowledge, gained through many years of work with construction and CE OEMs, as well as our expertise across different CE functions. We enriched our analysis by interviewing more than a dozen industry experts.</p> <h2>The global construction-equipment market landscape</h2> <p>Construction represents 13 percent of the world鈥檚 GDP today. Over the past three decades, the sector has delivered subpar performance characterized by robust growth but flat profits. Going forward, we expect the construction ecosystem to experience dramatic shifts that will <a href="/capabilities/operations/our-insights/the-next-normal-in-construction-how-disruption-is-reshaping-the-worlds-largest-ecosystem">redistribute roughly 40 to 45 percent of the industry鈥檚 value across different players</a>, such as contractors and machinery suppliers.</p> <div data-module-category="" class="PullQuote_mck-c-pullquote__DbaQ5 mck-o-sm-left-span"><blockquote data-component="mdc-c-blockquote" class="PullQuote_mck-c-blockquote__6n21p PullQuote_mck-c-blockquote--hide-quotes__CpGpg mdc-c-blockquote mdc-c-blockquote--is-quotes___TozKo_8032924"><p>The construction ecosystem is expected to experience dramatic shifts that will redistribute roughly 40 to 45 percent of the industry鈥檚 value across different players.</p></blockquote></div> <p>A key part of the construction ecosystem鈥攖he market for machine sales and equipment rentals鈥攊s also being reshaped. After all, the CE market is closely connected with the construction and infra颅structure end markets. Commercial, residential, and infrastructure construction projects depend on CE, such as dozers, excavators, and wheel loaders.</p> <p>The CE market contains a vast variety of product categories, with only a few high-volume products. The industry is also fragmented, with ten to 20 large OEMs and a long tail of smaller, local, and niche OEMs. Most large CE OEMs typically focus on one or two core geographies and products, since product and brand preferences vary among regions.</p> <p>The CE industry is inherently cyclical in nature, as shown in Exhibit 1. The global market for CE reached a trough in 2015 and then grew through 2018 before plateauing the next year. It accounted for over one-million-unit sales globally in both 2018 and 2019.<span class="FootNote_footnote-holder__tjRqy"><a aria-label="footnote" href="javascript:void(0);" class="FootNote_footnote-wrapper__AIRwL undefined FootNote_bottom__9aoSL FootNote_inactive__VZfCp" aria-describedby="618a39c5-3be8-4bd5-b6fa-7be72d32654b"><sup class="FootNote_footnotesup__e73z_">1</sup><span class="FootNote_notch-wrapper__b_5NS"><span class="FootNote_notch__omKtY"></span></span><span class="FootNote_tooltip__QtrbA mdc-u-mt-2"><span class="FootNote_footnote-content__r2OVl"><span id="618a39c5-3be8-4bd5-b6fa-7be72d32654b" aria-hidden="true" data-module-theme="light" class="FootNote_footnote-text__VjKgO mck-u-links-inline">Models include articulated dump trucks, asphalt finishers, backhoe loaders, crawler dozers, crawler excavators, crawler loaders, mini excavators, motor graders, motor scrapers, rigid dump trucks, rigid-terrain lift trucks (masted and telescopic), skid-steer loaders, wheeled excavators, and wheeled loaders. </span></span></span></a></span></p> <div data-component="mdc-c-module-wrapper" data-module-theme="default" data-module-background="transparent" data-module-category="" class="mck-c-inline-module-container mck-o-md-center"><div class="mck-c-content-header"><div class="ContentHeader_mck-c-content-header__eyebrow__cBTe_"></div></div><div class="mck-u-inline-module-border-bottom"><picture data-component="mdc-c-picture" class="Exhibit_mck-c-exhibit__image__pyIDm"><source media="(min-width: 768px)" srcSet="/~/media/mckinsey/industries/automotive%20and%20assembly/our%20insights/digging%20out%20forecasting%20for%20construction%20oems%20in%20the%20next%20normal/svg-diggingout-v7-jr_ex1.svgz?cq=50&cpy=Center"/><img alt="Global sales of construction equipment have been rising." src="/~/media/mckinsey/industries/automotive%20and%20assembly/our%20insights/digging%20out%20forecasting%20for%20construction%20oems%20in%20the%20next%20normal/svg-diggingout-v7-jr_ex1.svgz?cq=50&cpy=Center" loading="lazy"/></picture></div><div class="mck-u-sr-only"></div></div> <p>China is the largest market for CE in unit terms, with a 28 percent share of sales in 2019. North America is in second place with 18 percent, followed by Europe at 17 percent. Both China and Europe have seen their share of the global market grow since 2014, with gains of 3 and 2 percent, respectively. The growth period for China (2015 through 2019) was slightly shorter than that for Europe (2014 through 2019). North America experienced a 3 percent decline in global market share from 2014 through 2019, although sales actually increased from 2016 through 2018 before plateauing in 2019.</p> <h2>Looking ahead to CE鈥檚 next normal</h2> <p>Shifting geographic demand is not the only big change for CE. The industry is also transforming in response to shifts in customer preferences, product technology, business models, and regulatory developments. These developments, combined with the current economic uncertainty, will likely bring even greater changes to the future CE market, including the competitive landscape.</p>  <h3>Greater demand for convenience and digital access</h3> <p>The pandemic has accelerated the move of business-to-business (B2B) companies toward digital channels. <a href="/capabilities/growth-marketing-and-sales/our-insights/survey-global-b2b-decision-maker-response-to-covid-19-crisis">A McKinsey survey</a>聽has shown that B2B purchasers are increasingly comfortable using online channels for sales and plan to continue to do so. Digital self-service and remote sales-representative interactions will likely become dominant elements of the future B2B go-to-market model when selling to both small and medium-size businesses and large enterprises. CE OEMs should equip their sales teams and dealers for this shift by training them to operate in a digital world. They should also prioritize investments in their e-commerce and digital sales platforms and tools. For instance, remote diagnostics and support might be important, as could training and capability building for dealers.</p> <h3>Increased capital-expenditure conservation</h3> <p>Construction demand is cyclical, with capital investment declining at low points鈥攁nd that means the rental market for machines has often gained share during downturns and volatile periods. In Western Europe, most compact machines are now rented, not purchased, and such rentals are also increasing in the United States. With economic uncertainty continuing, CE OEMs should focus on increasing business in key rental accounts and support dealers in building their local rental businesses whenever possible.</p> <h3>Greater emphasis on aftermarket services, parts, and maintenance repair</h3> <p>When machine sales drop, as is inevitable in the cyclic CE industry, aftermarket offerings provide a balancing countereffect. For example, during a downturn, customers may delay replacements and continue to use older equipment. Sales of aftermarket parts and services will then increase because these machines require additional maintenance and repairs. In addition to offsetting drops in machine sales, a focus on aftermarket offerings can help CE OEMs gain additional revenue streams. CE OEMs may also see margins increase if they increase their aftermarket focus, since this area is traditionally associated with higher margins than original-equipment sales.</p> <div data-module-category="" class="PullQuote_mck-c-pullquote__DbaQ5 mck-o-sm-left-span"><blockquote data-component="mdc-c-blockquote" class="PullQuote_mck-c-blockquote__6n21p PullQuote_mck-c-blockquote--hide-quotes__CpGpg mdc-c-blockquote mdc-c-blockquote--is-quotes___TozKo_8032924"><p>When machine sales drop, as is inevitable in the cyclic CE industry, aftermarket offerings provide a balancing countereffect.</p></blockquote></div> <p>Currently, many customers go outside the dealer channel to save time and costs for aftermarket offerings, resulting in lost revenue for both CE OEMs and their dealers. Addressing customer concerns about convenience and cost could help CE OEMs gain a critical share of service and parts revenues. To do so, CE OEMs must help dealers and sales representatives strengthen their aftermarket offerings, focusing on the period after the warranty expires, and provide a cost-competitive parts network for second owners.</p> <h3>Increased emphasis on environmental, social, and governance topics and regulatory changes</h3> <p>The current crisis has accelerated interest in environmental, social, and governance (ESG) topics. While customers and employees often prioritize social initiatives, regulators and investors are increasingly focused on environmental issues. For example, regulatory mechanisms such as the European Green Deal and climate-law policies now require OEMs to develop carbon-footprint-reduction road maps that include the machines and equipment they sell, as well as carbon-reduction initiatives for their manufacturing facilities and supply chains.</p> <p>As a sector, construction is considered a major driver of both noise and emissions pollution. While CE machines are one of the lowest sources of pollution in this industry, their high visibility at construction sites, as well as their critical role, has created a lot of interest in finding alternate energy sources for them, especially in urban environments. Today, only a small fraction of CE fleets is fully electrified, but this figure should increase as OEMs and operators invest heavily in electrification. Several tailwinds will aid the adoption of electric equipment, such as the lower total cost of ownership as battery prices drop, the improved performance of newer battery technologies, enhancements in charging infrastructure, and stricter emission-control regulations.</p> <p>To take advantage of the electrification trends, CE OEMs must quickly invest in R&D and pilots to define their alternate fuel strategy, since they could see profit pools decline by as much as 25 percent if they do not pursue innovation.<span class="FootNote_footnote-holder__tjRqy"><a aria-label="footnote" href="javascript:void(0);" class="FootNote_footnote-wrapper__AIRwL undefined FootNote_bottom__9aoSL FootNote_inactive__VZfCp" aria-describedby="677c9dab-4112-4a17-84ce-14d1f25e7a1e"><sup class="FootNote_footnotesup__e73z_">2</sup><span class="FootNote_notch-wrapper__b_5NS"><span class="FootNote_notch__omKtY"></span></span><span class="FootNote_tooltip__QtrbA mdc-u-mt-2"><span class="FootNote_footnote-content__r2OVl"><span id="677c9dab-4112-4a17-84ce-14d1f25e7a1e" aria-hidden="true" data-module-theme="light" class="FootNote_footnote-text__VjKgO mck-u-links-inline">Assuming aftermarket makes up 12 percent of revenues and has an earnings-before-interest-and-taxes (EBIT) margin of 35 percent, while the vehicle EBIT margin is 5 percent. Electrified vehicles are assumed to have roughly 50 percent lower maintenance costs.</span></span></span></a></span> At the same time, they should take note of emerging business models that incorporate new technologies, such as site-charging infrastructure, battery swapping, and battery-as-a-service, since these may reshape the CE value proposition. OEMs that take the lead with electrification may gain a first-mover advantage.</p> <h3>Greater importance of local manufacturing networks</h3> <p>Changes in local regulations, combined with supply-chain challenges in many countries, are forcing CE OEMs to expand local manufacturing capabilities. This shift may help CE OEMs participate in infra颅structure projects in countries that stipulate that products must contain a certain amount of local content or that a portion of manufacturing must occur locally. OEMs will also increasingly need local manufacturing networks in countries that have recently raised import duties and tariffs to protect their economies and preserve jobs.</p> <h3>The need for stronger supply chains</h3> <p>As the world changes in the wake of COVID-19, many of the assumptions about global supply chains no longer stand, and companies often bear more risks. In fact, McKinsey research suggests that <a href="/capabilities/operations/our-insights/risk-resilience-and-rebalancing-in-global-value-chains">the average company will lose up to 45 percent of one year鈥檚 earnings before interest, taxes, depreciation, and amortization (EBITDA)</a>聽in a decade because of supply-chain disruptions. In this environment, CE OEMs should focus on strengthening their supply-chain risk-management capabilities and improving end-to-end transparency by using digital and analytical tools, such as artificial intelligence, machine learning, and the Industrial Internet of Things. Companies should also think about building network redundancy for both suppliers and geographies.</p> <h3>Growing demand uncertainty</h3> <p>As the market recovers from the economic effects of COVID-19, demand will be uncertain in different countries. At times, OEMs, dealers, and suppliers may be caught on the wrong foot if the recovery proceeds rapidly, resulting in parts shortages and missed sales.</p> <h2>Demand-forecasting models</h2> <p>Demand-forecasting tools are becoming increasingly important as markets get disrupted and rapidly evolve. To thrive amidst these changes, CE OEMs must be able to estimate future demand by using data-driven, analytical models that allow them to make rapid adjustments to production and supply chains. Improved demand-forecasting models drive benefits in multiple areas, including revenue generation, cost control, and capital optimization.</p> <div data-component="mdc-c-module-wrapper" data-module-theme="default" data-module-background="transparent" data-module-category="" class="mck-c-disruptor1up mck-o-md-center mck-u-inline-module-border-top mck-u-inline-module-border-bottom mck-u-screen-only" data-layer-region="disruptor-1up"><div class="mdc-u-grid mdc-u-grid-gutter-md mdc-u-grid-col-lg-12 mdc-u-grid-col-md-12 "><div class="mdc-u-grid-col-md-span-12"><header data-component="mdc-c-header" class="mdc-c-header"><div class="mdc-c-header__block___i1Lg-_8032924"><h3 data-component="mdc-c-heading" class="mdc-c-heading___0fM1W_8032924"><div>Would you like to learn more about our <a href="/industries/automotive-and-assembly/how-we-help-clients">Automotive & Assembly Practice</a>?</div></h3></div></header><div data-component="mdc-c-link-container" class="mdc-c-link-container___xefGu_8032924 mdc-c-link-container--display-column___X0HDD_8032924 mck-c-disruptor1up__content Disruptor1Up_mck-c-disruptor1up__content--links__VV4lE mdc-u-grid-gutter-md"><a data-component="mdc-c-link" href="/industries/automotive-and-assembly/how-we-help-clients/machinery" class="mdc-c-link-cta___NBQVi_8032924"><span class="mdc-c-link__label___Pfqtd_8032924">Visit our Machinery page</span><span data-component="mdc-c-icon" class="mdc-c-icon___oi7ef_8032924 mck-link-arrow-right-icon"></span></a></div></div></div></div> <p>Using such models would represent a big change for many CE OEMs, since they have traditionally relied on forecasts that are based on experience and tribal knowledge. These methods have some benefits, but they lack the accuracy and insights that analytical, data-driven models can provide. While some CE OEMs have looked beyond experience and identified demand drivers, they have typically failed to determine which parameters have a meaningful impact on sales. Instead, they simply made judgment calls when planning for the future.</p> <p>For best results, CE OEMs should transition to statistical models that rely on regression analysis to identify cause-and-effect relationships between sales and demand drivers. These models, which have benefited from advances in machine learning and other technologies, can deliver highly accurate estimates. They also can be applied to massive, complex data sets to identify and learn patterns, even if the information is constantly changing.</p> <div data-module-category="" class="PullQuote_mck-c-pullquote__DbaQ5 mck-o-sm-left-span"><blockquote data-component="mdc-c-blockquote" class="PullQuote_mck-c-blockquote__6n21p PullQuote_mck-c-blockquote--hide-quotes__CpGpg mdc-c-blockquote mdc-c-blockquote--is-quotes___TozKo_8032924"><p>Advanced analytics can help companies identify the drivers that truly predict construction-equipment demand, as well as the strength of the relationship between each driver and sales.</p></blockquote></div> <p>Experience shows that advanced analytics can help companies identify the drivers that truly predict CE demand, as well as the strength of the relationship between each driver and sales. But there are multiple potential drivers, and many CE OEMs lack the capabilities or capacity required to determine the most pertinent ones and perform sophisticated analytics. To assist them, we investigated various models. We first identified the various drivers of demand for CE sales, such as GDP, gross value added (GVA) in construction, construction capital expenditures (capex), and residential housing starts. We then looked at historical data from 2002 to determine which parameters were most strongly correlated with CE sales across business cycles.</p> <p>We found that most individual demand drivers were correlated with CE sales, but the strength of the relationship varied. For example, the correlation was stronger for construction capex than GDP. No single driver had a correlation with CE sales that was powerful enough to be statistically significant. In consequence, we modeled various permutations based on different combinations of drivers. We determined that the combination of construction capex and residential housing starts was highly correlated with CE sales. After interviewing industry experts, we also determined that the correlation was even stronger when inventory correction was also factored in. Within the CE industry, inventory correction is typically seen at the beginning or end of the business cycle. If dealers expect sales to rise, they may get overly enthusiastic and build up inventory to a greater extent than needed. If they anticipate a downturn in sales, they may get nervous and liquidate inventory more than needed.</p> <div data-component="mdc-c-module-wrapper" data-module-theme="default" data-module-background="transparent" data-module-category="" class="mck-c-disruptor1up mck-o-md-center mck-u-inline-module-border-top mck-u-inline-module-border-bottom mck-u-screen-only" data-layer-region="disruptor-1up"><div class="mdc-u-grid mdc-u-grid-gutter-md mdc-u-grid-col-lg-12 mdc-u-grid-col-md-12 "><div class="mdc-u-grid-col-lg-span-4 mdc-u-grid-col-md-span-5 Disruptor1Up_mck-c-disruptor1up__image___2Gc4"><picture data-component="mdc-c-picture"><img alt="The next normal in construction" src="/~/media/mckinsey/business%20functions/operations/our%20insights/the%20next%20normal%20in%20construction/standard-next-normal-construction-1073724268.png?cq=50&mh=145&car=16:9&cpy=Center" loading="lazy"/></picture></div><div class="mdc-u-grid-col-lg-span-8 mdc-u-grid-col-md-span-7"><header data-component="mdc-c-header" class="mdc-c-header"><div class="mdc-c-header__block___i1Lg-_8032924"><h3 data-component="mdc-c-heading" class="mdc-c-heading___0fM1W_8032924"><div>The next normal in construction: How disruption is reshaping the world’s largest ecosystem</div></h3></div></header><div data-component="mdc-c-link-container" class="mdc-c-link-container___xefGu_8032924 mdc-c-link-container--display-column___X0HDD_8032924 mck-c-disruptor1up__content Disruptor1Up_mck-c-disruptor1up__content--links__VV4lE mdc-u-grid-gutter-md"><a data-component="mdc-c-link" href="/capabilities/operations/our-insights/the-next-normal-in-construction-how-disruption-is-reshaping-the-worlds-largest-ecosystem" class="mdc-c-link-cta___NBQVi_8032924"><span class="mdc-c-link__label___Pfqtd_8032924">Read the article</span><span data-component="mdc-c-icon" class="mdc-c-icon___oi7ef_8032924 mck-link-arrow-right-icon"></span></a></div></div></div></div> <h3>Construction capex</h3> <p>Construction capex includes investments in new builds and projects, as well as repair and maintenance work in the construction sector, both of which drive demand for construction equipment. This metric is closely correlated with GDP growth, which has been increasing in the key CE markets of Europe and the United States over the past six years.</p> <p>US construction capex saw strong growth after the Great Recession of 2008 to 2009 (Exhibit 2). It plateaued around 2017 and then dipped slightly. The construction capex in the United States should bounce back strongly post-2020, with more than 3 percent yearly growth expected.</p> <div data-component="mdc-c-module-wrapper" data-module-theme="default" data-module-background="transparent" data-module-category="" class="mck-c-inline-module-container mck-o-md-center"><div class="mck-c-content-header"><div class="ContentHeader_mck-c-content-header__eyebrow__cBTe_"></div></div><div class="mck-u-inline-module-border-bottom"><picture data-component="mdc-c-picture" class="Exhibit_mck-c-exhibit__image__pyIDm"><source media="(min-width: 768px)" srcSet="/~/media/mckinsey/industries/automotive%20and%20assembly/our%20insights/digging%20out%20forecasting%20for%20construction%20oems%20in%20the%20next%20normal/svg-diggingout-v7-jr_ex2.svgz?cq=50&cpy=Center"/><img alt="Construction capital expenditure plateaued around 2017 in the United States but is expected to begin rising." src="/~/media/mckinsey/industries/automotive%20and%20assembly/our%20insights/digging%20out%20forecasting%20for%20construction%20oems%20in%20the%20next%20normal/svg-diggingout-v7-jr_ex2.svgz?cq=50&cpy=Center" loading="lazy"/></picture></div><div class="mck-u-sr-only"></div></div> <p>In Europe, construction capex peaked in 2007 and then dropped sharply in the wake of the 2008 to 2009 downturn (Exhibit 3). The decline continued through 2013, at which point capex had fallen by more than 50 percent from its peak. We attribute this continued drop in capex to the major housing and real-estate troubles in certain European markets, such as Ireland, Portugal, and Spain. Europe鈥檚 recovery since 2013 has also been quite muted in contrast with the strong growth demonstrated by the United States. Post-2020, construction capex in Europe should grow at a rate of 1 to 2 percent annually.</p> <div data-component="mdc-c-module-wrapper" data-module-theme="default" data-module-background="transparent" data-module-category="" class="mck-c-inline-module-container mck-o-md-center"><div class="mck-c-content-header"><div class="ContentHeader_mck-c-content-header__eyebrow__cBTe_"></div></div><div class="mck-u-inline-module-border-bottom"><picture data-component="mdc-c-picture" class="Exhibit_mck-c-exhibit__image__pyIDm"><source media="(min-width: 768px)" srcSet="/~/media/mckinsey/industries/automotive%20and%20assembly/our%20insights/digging%20out%20forecasting%20for%20construction%20oems%20in%20the%20next%20normal/svg-diggingout-v7-jr_ex3.svgz?cq=50&cpy=Center"/><img alt="Construction capital expenditure in Europe dropped after the Great Recession." src="/~/media/mckinsey/industries/automotive%20and%20assembly/our%20insights/digging%20out%20forecasting%20for%20construction%20oems%20in%20the%20next%20normal/svg-diggingout-v7-jr_ex3.svgz?cq=50&cpy=Center" loading="lazy"/></picture></div><div class="mck-u-sr-only"></div></div> <h3>Housing starts</h3> <p>Residential construction is the second main driver of CE sales, especially for smaller equipment such as mini excavators, skid-steer loaders, and backhoe loaders. Housing starts鈥攖he number of new residential construction projects that begin during any particular month鈥攕erve as a key indicator for growth in this sector. A housing start is counted when construction begins on the footers or foundations of a residential structure. This metric offers a good estimate of construction-machinery use, which is a strong indicator of both replacement and new machine demand.</p> <p>The US housing market hit its peak in 2005 but then suffered a major decline and shrunk nearly 75 percent by 2010 (Exhibit 4). The market then began to recover, driven by growth in housing prices and a strong economy. Analysts believe US housing starts will drop 8 to 10 percent in 2020 but will recover and grow at an average of 3 to 4 percent through 2024.</p> <div data-component="mdc-c-module-wrapper" data-module-theme="default" data-module-background="transparent" data-module-category="" class="mck-c-inline-module-container mck-o-md-center"><div class="mck-c-content-header"><div class="ContentHeader_mck-c-content-header__eyebrow__cBTe_"></div></div><div class="mck-u-inline-module-border-bottom"><picture data-component="mdc-c-picture" class="Exhibit_mck-c-exhibit__image__pyIDm"><source media="(min-width: 768px)" srcSet="/~/media/mckinsey/industries/automotive%20and%20assembly/our%20insights/digging%20out%20forecasting%20for%20construction%20oems%20in%20the%20next%20normal/svg-diggingout-v7-jr_ex4.svgz?cq=50&cpy=Center"/><img alt="New construction dropped in the United States in 2020 but is expected to rise." src="/~/media/mckinsey/industries/automotive%20and%20assembly/our%20insights/digging%20out%20forecasting%20for%20construction%20oems%20in%20the%20next%20normal/svg-diggingout-v7-jr_ex4.svgz?cq=50&cpy=Center" loading="lazy"/></picture></div><div class="mck-u-sr-only"></div></div> <p>The European housing market was at its peak from around 2005 through 2007 but then began to decline and was down nearly 55 percent by 2013 (Exhibit 5). The market began recovering at that time, with steady growth through 2017, followed by a plateau. Analysts expect European housing starts to be down 1 to 2 percent for 2020 and remain at that level through 2022.</p> <div data-component="mdc-c-module-wrapper" data-module-theme="default" data-module-background="transparent" data-module-category="" class="mck-c-inline-module-container mck-o-md-center"><div class="mck-c-content-header"><div class="ContentHeader_mck-c-content-header__eyebrow__cBTe_"></div></div><div class="mck-u-inline-module-border-bottom"><picture data-component="mdc-c-picture" class="Exhibit_mck-c-exhibit__image__pyIDm"><source media="(min-width: 768px)" srcSet="/~/media/mckinsey/industries/automotive%20and%20assembly/our%20insights/digging%20out%20forecasting%20for%20construction%20oems%20in%20the%20next%20normal/svg-diggingout-v7-jr_ex5.svgz?cq=50&cpy=Center"/><img alt="New residential construction in Europe remains down from its 2007 peak." src="/~/media/mckinsey/industries/automotive%20and%20assembly/our%20insights/digging%20out%20forecasting%20for%20construction%20oems%20in%20the%20next%20normal/svg-diggingout-v7-jr_ex5.svgz?cq=50&cpy=Center" loading="lazy"/></picture></div><div class="mck-u-sr-only"></div></div> <h3>Inventory corrections</h3> <p>We also considered inventory corrections in our model, since dealers build inventory when an up cycle is beginning and liquidate when difficult times commence. We also considered product-mix changes related to market fluctuations. Inventory corrections usually occur whenever a market has been growing for a few years, and the industry expects a cyclical downturn. Such corrections typically occur when the market sees three years of continuous growth.<span class="FootNote_footnote-holder__tjRqy"><a aria-label="footnote" href="javascript:void(0);" class="FootNote_footnote-wrapper__AIRwL undefined FootNote_bottom__9aoSL FootNote_inactive__VZfCp" aria-describedby="aacbd0fc-6dc8-462a-978e-1e7cf4264a36"><sup class="FootNote_footnotesup__e73z_">3</sup><span class="FootNote_notch-wrapper__b_5NS"><span class="FootNote_notch__omKtY"></span></span><span class="FootNote_tooltip__QtrbA mdc-u-mt-2"><span class="FootNote_footnote-content__r2OVl"><span id="aacbd0fc-6dc8-462a-978e-1e7cf4264a36" aria-hidden="true" data-module-theme="light" class="FootNote_footnote-text__VjKgO mck-u-links-inline">Our analysis, which is based on historical sales data, suggests that an inventory correction will occur if capex growth is positive for three years, with no inventory correction in the prior two years, and the average capex is greater than 6 percent.</span></span></span></a></span></p> <p>As an example, between 2011 and 2013, US construction capex increased by an average of 14 percent every year, but the growth in CE sales was much lower because of inventory corrections (Exhibit 6).</p> <div data-component="mdc-c-module-wrapper" data-module-theme="default" data-module-background="transparent" data-module-category="" class="mck-c-inline-module-container mck-o-md-center"><div class="mck-c-content-header"><div class="ContentHeader_mck-c-content-header__eyebrow__cBTe_"></div></div><div class="mck-u-inline-module-border-bottom"><picture data-component="mdc-c-picture" class="Exhibit_mck-c-exhibit__image__pyIDm"><source media="(min-width: 768px)" srcSet="/~/media/mckinsey/industries/automotive%20and%20assembly/our%20insights/digging%20out%20forecasting%20for%20construction%20oems%20in%20the%20next%20normal/svg-diggingout-v7-jr_ex6.svgz?cq=50&cpy=Center"/><img alt="US construction capital expenditure increased from 2011 to 2013, but growth in construction-equipment sales was lower because of inventory corrections." src="/~/media/mckinsey/industries/automotive%20and%20assembly/our%20insights/digging%20out%20forecasting%20for%20construction%20oems%20in%20the%20next%20normal/svg-diggingout-v7-jr_ex6.svgz?cq=50&cpy=Center" loading="lazy"/></picture></div><div class="mck-u-sr-only"></div></div> <h3>Model outputs</h3> <p>We found that CE OEMs can predict long-term market demand with decent accuracy by using models that consider construction capex, residential housing starts, and inventory correction in combination. The output of these models tracked more closely with actual results than did models that used one or two of these variables, or just GVA, when we compared them with demand for CE for the years from 2002 through 2019 in the United States; the same held true for Europe over the same period (Exhibit 7). When paired with market intelligence from customers, dealers, and sales teams, such models can also help estimate in-year and medium-term demand.</p> <div data-component="mdc-c-module-wrapper" data-module-theme="default" data-module-background="transparent" data-module-category="" class="mck-c-inline-module-container mck-o-md-center"><div class="mck-c-content-header"><div class="ContentHeader_mck-c-content-header__eyebrow__cBTe_"></div></div><div class="mck-u-inline-module-border-bottom"><picture data-component="mdc-c-picture" class="Exhibit_mck-c-exhibit__image__pyIDm"><source media="(min-width: 768px)" srcSet="/~/media/mckinsey/industries/automotive%20and%20assembly/our%20insights/digging%20out%20forecasting%20for%20construction%20oems%20in%20the%20next%20normal/svg-diggingout-v7-jr_ex7.svgz?cq=50&cpy=Center"/><img alt="The model that combined three demand drivers most accurately reflected demand for construction equipment in both Europe and the United States." src="/~/media/mckinsey/industries/automotive%20and%20assembly/our%20insights/digging%20out%20forecasting%20for%20construction%20oems%20in%20the%20next%20normal/svg-diggingout-v7-jr_ex7.svgz?cq=50&cpy=Center" loading="lazy"/></picture></div><div class="mck-u-sr-only"></div></div> <h2>Construction-equipment market outlook</h2> <p>To provide more clarity about future developments, we modeled CE sales based on capex, residential housing starts, and inventory correction for both the United States (through 2024) and Europe (through 2022). In both cases, those were the last years for which data were available.</p> <p>Between 2020 and 2022, experts predict that US housing will likely bounce back, while construction capex might remain flat. During this time, CE sales growth could be higher because of pent-up demand (Exhibit 8). After 2022, growth in CE sales will be moderate, in line with moderate growth in construction capex and housing starts.</p> <div data-component="mdc-c-module-wrapper" data-module-theme="default" data-module-background="transparent" data-module-category="" class="mck-c-inline-module-container mck-o-md-center"><div class="mck-c-content-header"><div class="ContentHeader_mck-c-content-header__eyebrow__cBTe_"></div></div><div class="mck-u-inline-module-border-bottom"><picture data-component="mdc-c-picture" class="Exhibit_mck-c-exhibit__image__pyIDm"><source media="(min-width: 768px)" srcSet="/~/media/mckinsey/industries/automotive%20and%20assembly/our%20insights/digging%20out%20forecasting%20for%20construction%20oems%20in%20the%20next%20normal/svg-diggingout-v7-jr_ex8.svgz?cq=50&cpy=Center"/><img alt="Sales of construction equipment are expected to increase in the United States." src="/~/media/mckinsey/industries/automotive%20and%20assembly/our%20insights/digging%20out%20forecasting%20for%20construction%20oems%20in%20the%20next%20normal/svg-diggingout-v7-jr_ex8.svgz?cq=50&cpy=Center" loading="lazy"/></picture></div><div class="mck-u-sr-only"></div></div> <p>Between 2021 and 2022, experts expect European housing starts to be flat and construction capex to be moderately positive. This will result in moderate growth in CE sales (Exhibit 9).</p> <div data-component="mdc-c-module-wrapper" data-module-theme="default" data-module-background="transparent" data-module-category="" class="mck-c-inline-module-container mck-o-md-center"><div class="mck-c-content-header"><div class="ContentHeader_mck-c-content-header__eyebrow__cBTe_"></div></div><div class="mck-u-inline-module-border-bottom"><picture data-component="mdc-c-picture" class="Exhibit_mck-c-exhibit__image__pyIDm"><source media="(min-width: 768px)" srcSet="/~/media/mckinsey/industries/automotive%20and%20assembly/our%20insights/digging%20out%20forecasting%20for%20construction%20oems%20in%20the%20next%20normal/svg-diggingout-v7-jr_ex9.svgz?cq=50&cpy=Center"/><img alt="Sales of construction equipment in Europe are expected to rise." src="/~/media/mckinsey/industries/automotive%20and%20assembly/our%20insights/digging%20out%20forecasting%20for%20construction%20oems%20in%20the%20next%20normal/svg-diggingout-v7-jr_ex9.svgz?cq=50&cpy=Center" loading="lazy"/></picture></div><div class="mck-u-sr-only"></div></div> <h2>Application of the demand models</h2> <p>As the global economy recovers from the economic effects of the COVID-19 pandemic, market growth will vary by country, with some beginning to improve earlier than others. Regardless of location, CE OEMs across the value chain can use demand-driver models to achieve important benefits, including the following:</p> <ul> <li><em>Revenue enhancement.</em> CE OEMs can use models to pressure test sales plans and set the right expectations, as well as to modulate production to avoid running out of stock in up cycles and excess inventory in down cycles. Models can also further enhance their ability to manage product mix proactively when capacity is constrained.</li> <li><em>Cost control. </em>Driver-based models can help CE OEMs determine whether forward-buying of materials is necessary to mitigate inflationary risks. They can also assist with capacity planning, resulting in fewer rush orders and lower freight costs.</li> <li><em>Capital optimization.</em> With more accurate forecasting, CE OEMs will have the right finished-goods inventory at the right place and right time, avoiding both stock buildup and obsolescence. CE OEMs will also be able to right-size supply inventory and safety stocks.</li> </ul> <p>Analytical, demand-driver-based models can also be applied at the state and regional level. In addition to CE OEMs, other stakeholders across the value chain can deploy them. For instance, suppliers can apply them when formulating strategic plans and determining where to invest in capacity. Similarly, dealers could use the models when considering how to scale their inventories up or down, or when developing sales strategies and capabilities. For investors, demand-driver-based models can help as they pressure test their investment thesis on assets. Of course, any outputs from demand-driver-based models should be triangulated with market intelligence, including input from dealers, customers, field sales, and industry experts.</p> <hr/> <p>Over the longer term, as CE OEMs deal with the new normal, they will need to develop a comprehensive plan across each element of next normal to address the fundamental changes that are reshaping the industry. We plan to cover topics on each of these trends in detail in future articles in this series.</p></div><div class="container-placeholder"></div></div></div><div class="mdc-u-grid mdc-u-grid-gutter-xl"><section role="contentinfo" data-layer-region="article-about-authors" class="mdc-u-grid mdc-u-grid-col-md-12 AboutAuthor_mck-c-about-author__nRJzu"><div class="mdc-u-grid-col-md-start-2 mdc-u-grid-col-md-end-12 mdc-u-grid-col-lg-start-3 mdc-u-grid-col-lg-end-11"><h5 data-component="mdc-c-heading" class="mdc-c-heading___0fM1W_8032924 mdc-c-heading--title___5qyOB_8032924 mdc-c-heading--border___K8dj3_8032924 mdc-u-align-center"></h5><div data-component="mdc-c-description" class="mdc-c-description___SrnQP_8032924 mdc-u-ts-8 mck-u-links-inline mck-u-links-inline--secondary mdc-u-mt-5"><div><p><strong>Prasad Ganorkar</strong> is an associate partner in McKinsey’s Philadelphia office, where <strong>Umesh Goel</strong> is a partner; <strong>Mo Ran</strong> is a consultant in the Chicago office; 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type="application/json">{"props":{"pageProps":{"locale":"en","dictionary":{},"sitecoreContext":{"route":{"name":"Digging out Forecasting for construction OEMs in the next normal","displayName":"Digging out Forecasting for construction OEMs in the next normal","fields":null,"databaseName":"web","deviceId":"fe5d7fdf-89c0-4d99-9aa3-b5fbd009c9f3","itemId":"175b0778-50d8-427e-ae27-b26e9ac9b56f","itemLanguage":"en","itemVersion":1,"layoutId":"ae753eb4-a035-40b4-83bf-4b4438df6742","templateId":"683910db-02ba-40ba-92e7-726c880160a9","templateName":"ArticleJSS","placeholders":{"jss-main":[{"uid":"232bb7e9-289f-492d-a916-2b6185e44a84","componentName":"ArticleTemplate","dataSource":"","fields":{"data":{"articleTemplate":{"title":{"jsonValue":{"value":"Digging out: Forecasting for construction OEMs in the next normal"}},"sEOTitle":{"value":""},"description":{"jsonValue":{"value":"As the COVID-19 pandemic accelerates transformative trends within the construction-equipment industry, companies must rethink their traditional strategies."}},"sEODescription":{"value":""},"displayDate":{"jsonValue":{"value":"2021-04-28T00:00:00Z"}},"body":{"value":"[[DownloadsSidebar]]\n\u003cp\u003e\u003cstrong\u003eThe COVID-19 pandemic\u003c/strong\u003e threw a wrench into most industrial markets. Many segments saw an immediate drop in demand as governments enforced lockdown measures globally. GDP decreased sharply worldwide in the second quarter of 2020, and the industrial segment suffered an immediate drop in sales. With the relaxation of restrictions and increased economic activity, however, GDP is recovering faster than expected.\u003c/p\u003e\n[[Audio 1]]\n\u003cp\u003eThe construction-equipment (CE) industry, which depends highly on GDP growth and economic activity, faced the same headwinds as other industrials during the pandemic. Although it has started to recover, recent reports from major CE OEMs indicate that their 2020 sales dropped between 10 to 25 percent across markets. The numbers varied significantly by region, with companies in Europe and North America reporting higher decreases than those in Asia.\u003c/p\u003e\n\u003cp\u003eAs the pandemic begins to abate, CE OEMs will face a very different landscape. Much uncertainty lies ahead, making it more important than ever to forecast demand accurately. This article is the first in a series on the CE industry\u0026rsquo;s next normal and the implications for CE OEMs. It examines how CE OEMs and other industry players can build robust, fact-based, market-outlook models that will help with both demand forecasting and planning activities.\u003c/p\u003e\n\u003cp\u003eWhen exploring the next normal for CE, we drew on McKinsey\u0026rsquo;s industry knowledge, gained through many years of work with construction and CE OEMs, as well as our expertise across different CE functions. We enriched our analysis by interviewing more than a dozen industry experts.\u003c/p\u003e\n\u003ch2\u003eThe global construction-equipment market landscape\u003c/h2\u003e\n\u003cp\u003eConstruction represents 13 percent of the world\u0026rsquo;s GDP today. Over the past three decades, the sector has delivered subpar performance characterized by robust growth but flat profits. Going forward, we expect the construction ecosystem to experience dramatic shifts that will \u003ca href=\"/capabilities/operations/our-insights/the-next-normal-in-construction-how-disruption-is-reshaping-the-worlds-largest-ecosystem\"\u003eredistribute roughly 40 to 45 percent of the industry\u0026rsquo;s value across different players\u003c/a\u003e, such as contractors and machinery suppliers.\u003c/p\u003e\n[[Pullquote 1]]\n\u003cp\u003eA key part of the construction ecosystem\u0026mdash;the market for machine sales and equipment rentals\u0026mdash;is also being reshaped. After all, the CE market is closely connected with the construction and infra颅structure end markets. Commercial, residential, and infrastructure construction projects depend on CE, such as dozers, excavators, and wheel loaders.\u003c/p\u003e\n\u003cp\u003eThe CE market contains a vast variety of product categories, with only a few high-volume products. The industry is also fragmented, with ten to 20 large OEMs and a long tail of smaller, local, and niche OEMs. Most large CE OEMs typically focus on one or two core geographies and products, since product and brand preferences vary among regions.\u003c/p\u003e\n\u003cp\u003eThe CE industry is inherently cyclical in nature, as shown in Exhibit 1. The global market for CE reached a trough in 2015 and then grew through 2018 before plateauing the next year. It accounted for over one-million-unit sales globally in both 2018 and 2019.[[Footnote 1]]\u003c/p\u003e\n[[Exhibit 1]]\n\u003cp\u003eChina is the largest market for CE in unit terms, with a 28 percent share of sales in 2019. North America is in second place with 18 percent, followed by Europe at 17 percent. Both China and Europe have seen their share of the global market grow since 2014, with gains of 3 and 2 percent, respectively. The growth period for China (2015 through 2019) was slightly shorter than that for Europe (2014 through 2019). North America experienced a 3 percent decline in global market share from 2014 through 2019, although sales actually increased from 2016 through 2018 before plateauing in 2019.\u003c/p\u003e\n\u003ch2\u003eLooking ahead to CE\u0026rsquo;s next normal\u003c/h2\u003e\n\u003cp\u003eShifting geographic demand is not the only big change for CE. The industry is also transforming in response to shifts in customer preferences, product technology, business models, and regulatory developments. These developments, combined with the current economic uncertainty, will likely bring even greater changes to the future CE market, including the competitive landscape.\u003c/p\u003e\n[[MostPopularArticles 5]]\n\u003ch3\u003eGreater demand for convenience and digital access\u003c/h3\u003e\n\u003cp\u003eThe pandemic has accelerated the move of business-to-business (B2B) companies toward digital channels. \u003ca href=\"/capabilities/growth-marketing-and-sales/our-insights/survey-global-b2b-decision-maker-response-to-covid-19-crisis\"\u003eA McKinsey survey\u003c/a\u003e\u0026nbsp;has shown that B2B purchasers are increasingly comfortable using online channels for sales and plan to continue to do so. Digital self-service and remote sales-representative interactions will likely become dominant elements of the future B2B go-to-market model when selling to both small and medium-size businesses and large enterprises. CE OEMs should equip their sales teams and dealers for this shift by training them to operate in a digital world. They should also prioritize investments in their e-commerce and digital sales platforms and tools. For instance, remote diagnostics and support might be important, as could training and capability building for dealers.\u003c/p\u003e\n\u003ch3\u003eIncreased capital-expenditure conservation\u003c/h3\u003e\n\u003cp\u003eConstruction demand is cyclical, with capital investment declining at low points\u0026mdash;and that means the rental market for machines has often gained share during downturns and volatile periods. In Western Europe, most compact machines are now rented, not purchased, and such rentals are also increasing in the United States. With economic uncertainty continuing, CE OEMs should focus on increasing business in key rental accounts and support dealers in building their local rental businesses whenever possible.\u003c/p\u003e\n\u003ch3\u003eGreater emphasis on aftermarket services, parts, and maintenance repair\u003c/h3\u003e\n\u003cp\u003eWhen machine sales drop, as is inevitable in the cyclic CE industry, aftermarket offerings provide a balancing countereffect. For example, during a downturn, customers may delay replacements and continue to use older equipment. Sales of aftermarket parts and services will then increase because these machines require additional maintenance and repairs. In addition to offsetting drops in machine sales, a focus on aftermarket offerings can help CE OEMs gain additional revenue streams. CE OEMs may also see margins increase if they increase their aftermarket focus, since this area is traditionally associated with higher margins than original-equipment sales.\u003c/p\u003e\n[[Pullquote 2]]\n\u003cp\u003eCurrently, many customers go outside the dealer channel to save time and costs for aftermarket offerings, resulting in lost revenue for both CE OEMs and their dealers. Addressing customer concerns about convenience and cost could help CE OEMs gain a critical share of service and parts revenues. To do so, CE OEMs must help dealers and sales representatives strengthen their aftermarket offerings, focusing on the period after the warranty expires, and provide a cost-competitive parts network for second owners.\u003c/p\u003e\n\u003ch3\u003eIncreased emphasis on environmental, social, and governance topics and regulatory changes\u003c/h3\u003e\n\u003cp\u003eThe current crisis has accelerated interest in environmental, social, and governance (ESG) topics. While customers and employees often prioritize social initiatives, regulators and investors are increasingly focused on environmental issues. For example, regulatory mechanisms such as the European Green Deal and climate-law policies now require OEMs to develop carbon-footprint-reduction road maps that include the machines and equipment they sell, as well as carbon-reduction initiatives for their manufacturing facilities and supply chains.\u003c/p\u003e\n\u003cp\u003eAs a sector, construction is considered a major driver of both noise and emissions pollution. While CE machines are one of the lowest sources of pollution in this industry, their high visibility at construction sites, as well as their critical role, has created a lot of interest in finding alternate energy sources for them, especially in urban environments. Today, only a small fraction of CE fleets is fully electrified, but this figure should increase as OEMs and operators invest heavily in electrification. Several tailwinds will aid the adoption of electric equipment, such as the lower total cost of ownership as battery prices drop, the improved performance of newer battery technologies, enhancements in charging infrastructure, and stricter emission-control regulations.\u003c/p\u003e\n\u003cp\u003eTo take advantage of the electrification trends, CE OEMs must quickly invest in R\u0026amp;D and pilots to define their alternate fuel strategy, since they could see profit pools decline by as much as 25 percent if they do not pursue innovation.[[Footnote 2]] At the same time, they should take note of emerging business models that incorporate new technologies, such as site-charging infrastructure, battery swapping, and battery-as-a-service, since these may reshape the CE value proposition. OEMs that take the lead with electrification may gain a first-mover advantage.\u003c/p\u003e\n\u003ch3\u003eGreater importance of local manufacturing networks\u003c/h3\u003e\n\u003cp\u003eChanges in local regulations, combined with supply-chain challenges in many countries, are forcing\nCE OEMs to expand local manufacturing capabilities. This shift may help CE OEMs participate in infra颅structure projects in countries that stipulate that products must contain a certain amount of local content or that a portion of manufacturing must occur locally. OEMs will also increasingly need local manufacturing networks in countries that have recently raised import duties and tariffs to protect their economies and preserve jobs.\u003c/p\u003e\n\u003ch3\u003eThe need for stronger supply chains\u003c/h3\u003e\n\u003cp\u003eAs the world changes in the wake of COVID-19, many of the assumptions about global supply chains no longer stand, and companies often bear more risks. In fact, McKinsey research suggests that \u003ca href=\"/capabilities/operations/our-insights/risk-resilience-and-rebalancing-in-global-value-chains\"\u003ethe average company will lose up to 45 percent of one year\u0026rsquo;s earnings before interest, taxes, depreciation, and amortization (EBITDA)\u003c/a\u003e\u0026nbsp;in a decade because\nof supply-chain disruptions. In this environment, CE OEMs should focus on strengthening their supply-chain risk-management capabilities and improving end-to-end transparency by using digital and analytical tools, such as artificial intelligence, machine learning, and the Industrial Internet of Things. Companies should also think about building network redundancy for both suppliers and geographies.\u003c/p\u003e\n\u003ch3\u003eGrowing demand uncertainty\u003c/h3\u003e\n\u003cp\u003eAs the market recovers from the economic effects of COVID-19, demand will be uncertain in different countries. At times, OEMs, dealers, and suppliers may be caught on the wrong foot if the recovery proceeds rapidly, resulting in parts shortages and missed sales.\u003c/p\u003e\n\u003ch2\u003eDemand-forecasting models\u003c/h2\u003e\n\u003cp\u003eDemand-forecasting tools are becoming increasingly important as markets get disrupted and rapidly evolve. To thrive amidst these changes, CE OEMs must be able to estimate future demand by using data-driven, analytical models that allow them to make rapid adjustments to production and supply chains. Improved demand-forecasting models drive benefits in multiple areas, including revenue generation, cost control, and capital optimization.\u003c/p\u003e\n[[disruptor1Up dis1]]\n\u003cp\u003eUsing such models would represent a big change for many CE OEMs, since they have traditionally relied on forecasts that are based on experience and tribal knowledge. These methods have some benefits, but they lack the accuracy and insights that analytical, data-driven models can provide. While some CE OEMs have looked beyond experience and identified demand drivers, they have typically failed to determine which parameters have a meaningful impact on sales. Instead, they simply made judgment calls when planning for the future.\u003c/p\u003e\n\u003cp\u003eFor best results, CE OEMs should transition to statistical models that rely on regression analysis to identify cause-and-effect relationships between sales and demand drivers. These models, which have benefited from advances in machine learning and other technologies, can deliver highly accurate estimates. They also can be applied to massive, complex data sets to identify and learn patterns, even if the information is constantly changing.\u003c/p\u003e\n[[Pullquote 3]]\n\u003cp\u003eExperience shows that advanced analytics can help companies identify the drivers that truly predict CE demand, as well as the strength of the relationship between each driver and sales. But there are multiple potential drivers, and many CE OEMs lack the capabilities or capacity required to determine the most pertinent ones and perform sophisticated analytics. To assist them, we investigated various models. We first identified the various drivers of demand for CE sales, such as GDP, gross value added (GVA) in construction, construction capital expenditures (capex), and residential housing starts. We then looked at historical data from 2002 to determine which parameters were most strongly correlated with CE sales across business cycles.\u003c/p\u003e\n\u003cp\u003eWe found that most individual demand drivers were correlated with CE sales, but the strength of the relationship varied. For example, the correlation was stronger for construction capex than GDP. No single driver had a correlation with CE sales that was powerful enough to be statistically significant. In consequence, we modeled various permutations based on different combinations of drivers. We determined that the combination of construction capex and residential housing starts was highly correlated with CE sales. After interviewing industry experts, we also determined that the correlation\nwas even stronger when inventory correction was also factored in. Within the CE industry, inventory correction is typically seen at the beginning or end of the business cycle. If dealers expect sales to rise, they may get overly enthusiastic and build up inventory to a greater extent than needed. If they anticipate a downturn in sales, they may get nervous and liquidate inventory more than needed.\u003c/p\u003e\n[[disruptor1Up dis2]]\n\u003ch3\u003eConstruction capex\u003c/h3\u003e\n\u003cp\u003eConstruction capex includes investments in new builds and projects, as well as repair and maintenance work in the construction sector, both of which drive demand for construction equipment. This metric is closely correlated with GDP growth, which has been increasing in the key CE markets of Europe and the United States over the past six years.\u003c/p\u003e\n\u003cp\u003eUS construction capex saw strong growth after the Great Recession of 2008 to 2009 (Exhibit 2). It plateaued around 2017 and then dipped slightly. The construction capex in the United States should bounce back strongly post-2020, with more than 3 percent yearly growth expected.\u003c/p\u003e\n[[Exhibit 2]]\n\u003cp\u003eIn Europe, construction capex peaked in 2007 and then dropped sharply in the wake of the 2008 to 2009 downturn (Exhibit 3). The decline continued through 2013, at which point capex had fallen by more than 50 percent from its peak. We attribute this continued drop in capex to the major housing and real-estate troubles in certain European markets, such as Ireland, Portugal, and Spain. Europe\u0026rsquo;s recovery since 2013 has also been quite muted in contrast with the strong growth demonstrated by the United States. Post-2020, construction capex in Europe should grow at a rate of 1 to 2 percent annually.\u003c/p\u003e\n[[Exhibit 3]]\n\u003ch3\u003eHousing starts\u003c/h3\u003e\n\u003cp\u003eResidential construction is the second main driver of CE sales, especially for smaller equipment such as mini excavators, skid-steer loaders, and backhoe loaders. Housing starts\u0026mdash;the number of new residential construction projects that begin during any particular month\u0026mdash;serve as a key indicator for growth in this sector. A housing start is counted when construction begins on the footers or foundations of a residential structure. This metric offers a good estimate of construction-machinery use, which is a strong indicator of both replacement and new machine demand.\u003c/p\u003e\n\u003cp\u003eThe US housing market hit its peak in 2005 but then suffered a major decline and shrunk nearly 75 percent by 2010 (Exhibit 4). The market then began to recover, driven by growth in housing prices and a strong economy. Analysts believe US housing starts will drop 8 to 10 percent in 2020 but will recover and grow at an average of 3 to 4 percent through 2024.\u003c/p\u003e\n[[Exhibit 4]]\n\u003cp\u003eThe European housing market was at its peak from around 2005 through 2007 but then began to decline and was down nearly 55 percent by 2013 (Exhibit 5). The market began recovering at that time, with steady growth through 2017, followed by a plateau. Analysts expect European housing starts to be down 1 to 2 percent for 2020 and remain at that level through 2022.\u003c/p\u003e\n[[Exhibit 5]]\n\u003ch3\u003eInventory corrections\u003c/h3\u003e\n\u003cp\u003eWe also considered inventory corrections in our model, since dealers build inventory when an up cycle is beginning and liquidate when difficult times commence. We also considered product-mix changes related to market fluctuations. Inventory corrections usually occur whenever a market has been growing for a few years, and the industry expects a cyclical downturn. Such corrections typically occur when the market sees three years of continuous growth.[[Footnote 3]]\u003c/p\u003e\n\u003cp\u003eAs an example, between 2011 and 2013, US construction capex increased by an average of 14 percent every year, but the growth in CE sales was much lower because of inventory corrections (Exhibit 6).\u003c/p\u003e\n[[Exhibit 6]]\n\u003ch3\u003eModel outputs\u003c/h3\u003e\n\u003cp\u003eWe found that CE OEMs can predict long-term market demand with decent accuracy by using models that consider construction capex, residential housing starts, and inventory correction in combination. The output of these models tracked more closely with actual results than did models that used one or two of these variables, or just GVA, when we compared them with demand for CE for the years from 2002 through 2019 in the United States; the same held true for Europe over the same period (Exhibit 7). When paired with market intelligence from customers, dealers, and sales teams, such models can also help estimate in-year and medium-term demand.\u003c/p\u003e\n[[Exhibit 7]]\n\u003ch2\u003eConstruction-equipment market outlook\u003c/h2\u003e\n\u003cp\u003eTo provide more clarity about future developments, we modeled CE sales based on capex, residential housing starts, and inventory correction for both the United States (through 2024) and Europe (through 2022). In both cases, those were the last years for which data were available.\u003c/p\u003e\n\u003cp\u003eBetween 2020 and 2022, experts predict that US housing will likely bounce back, while construction capex might remain flat. During this time, CE sales growth could be higher because of pent-up demand (Exhibit 8). After 2022, growth in CE sales will be moderate, in line with moderate growth in construction capex and housing starts.\u003c/p\u003e\n[[Exhibit 8]]\n\u003cp\u003eBetween 2021 and 2022, experts expect European housing starts to be flat and construction capex to be moderately positive. This will result in moderate growth in CE sales (Exhibit 9).\u003c/p\u003e\n[[Exhibit 9]]\n\u003ch2\u003eApplication of the demand models\u003c/h2\u003e\n\u003cp\u003eAs the global economy recovers from the economic effects of the COVID-19 pandemic, market growth will vary by country, with some beginning to improve earlier than others. Regardless of location, CE OEMs across the value chain can use demand-driver models to achieve important benefits, including the following:\u003c/p\u003e\n\u003cul\u003e\n \u003cli\u003e\u003cem\u003eRevenue enhancement.\u003c/em\u003e CE OEMs can use models to pressure test sales plans and set the right expectations, as well as to modulate production to avoid running out of stock in up cycles and excess inventory in down cycles. Models can also further enhance their ability to manage product mix proactively when capacity is constrained.\u003c/li\u003e\n \u003cli\u003e\u003cem\u003eCost control. \u003c/em\u003eDriver-based models can help CE OEMs determine whether forward-buying of materials is necessary to mitigate inflationary risks. They can also assist with capacity planning, resulting in fewer rush orders and lower freight costs.\u003c/li\u003e\n \u003cli\u003e\u003cem\u003eCapital optimization.\u003c/em\u003e With more accurate forecasting, CE OEMs will have the right finished-goods inventory at the right place and right time, avoiding both stock buildup and obsolescence. CE OEMs will also be able to right-size supply inventory and safety stocks.\u003c/li\u003e\n\u003c/ul\u003e\n\u003cp\u003eAnalytical, demand-driver-based models can also be applied at the state and regional level. In addition to CE OEMs, other stakeholders across the value chain can deploy them. For instance, suppliers can apply them when formulating strategic plans and determining where to invest in capacity. Similarly, dealers could use the models when considering how to scale their inventories up or down, or when developing sales strategies and capabilities. For investors, demand-driver-based models can help as they pressure test their investment thesis on assets. Of course, any outputs from demand-driver-based models should be triangulated with market intelligence, including input from dealers, customers, field sales, and industry experts.\u003c/p\u003e\n\u003chr /\u003e\n\u003cp\u003eOver the longer term, as CE OEMs deal with the new normal, they will need to develop a comprehensive plan across each element of next normal to address the fundamental changes that are reshaping the industry. We plan to cover topics on each of these trends in detail in future articles in this series.\u003c/p\u003e"},"isFullScreenInteractive":{"boolValue":false},"hideStickySocialShareBar":{"boolValue":false},"desktopID":{"value":""},"mobileID":{"value":""},"desktopURL":{"value":""},"mobileURL":{"value":""},"desktopPaddingPercentage":{"value":""},"mobilePaddingPercentage":{"value":""},"desktopOverrideHeight":{"value":""},"mobileOverrideHeight":{"value":""},"cerosOembedURL":{"value":""},"cerosRenderMode":{"targetItem":null},"cerosBackgroundColor":{"targetItem":null},"hideByLine":{"boolValue":false},"tableOfContentsTitle":{"value":"TABLE OF CONTENTS"},"accessStatus":{"targetItem":{"key":{"value":"RegisteredUsers"},"value":{"value":"Registered Users"}}},"articleType":{"targetItem":{"displayName":"Article"}},"hasSpecialReport":{"boolValue":false},"contentType":{"targetItem":{"displayName":"Article"}},"sourcePublication":{"targetItem":null},"externalPublication":{"value":""},"excludeFromClientLink":{"boolValue":false},"originalPublishDate":{"jsonValue":{"value":"2021-04-28T00:00:00Z"}},"footnotes":{"value":"\u003col\u003e\n \u003cli\u003eModels include articulated dump trucks, asphalt finishers, backhoe loaders, crawler dozers, crawler excavators, crawler loaders, mini excavators, motor graders, motor scrapers, rigid dump trucks, rigid-terrain lift trucks (masted and telescopic), skid-steer loaders, wheeled excavators, and wheeled loaders.\n \u003c/li\u003e\n \u003cli\u003eAssuming aftermarket makes up 12 percent of revenues and has an earnings-before-interest-and-taxes (EBIT) margin of 35 percent, while the vehicle EBIT margin is 5 percent. Electrified vehicles are assumed to have roughly 50 percent lower maintenance costs.\u003c/li\u003e\n \u003cli\u003eOur analysis, which is based on historical sales data, suggests that an inventory correction will occur if capex growth is positive for three years, with no inventory correction in the prior two years, and the average capex is greater than 6 percent.\u003c/li\u003e\n\u003c/ol\u003e"},"contributoryPractice":{"targetItems":[{"displayName":"Industrials \u0026 Electronics"}]},"aboutTheAuthors":{"value":"\u003cp\u003e\u003cstrong\u003ePrasad Ganorkar\u003c/strong\u003e is an associate partner in McKinsey\u0026rsquo;s Philadelphia office, where \u003cstrong\u003eUmesh Goel\u003c/strong\u003e is a partner; \u003cstrong\u003eMo Ran\u003c/strong\u003e is a consultant in the Chicago office; and \u003cstrong\u003e\u003ca href=\"/our-people/erik-sjodin\"\u003eErik Sj\u0026ouml;din\u003c/a\u003e\u003c/strong\u003e is a partner in the Stockholm office.\u003c/p\u003e"},"authors":{"targetItems":[{"template":{"id":"3FBABDB63A094F68B1F8E1BBE1BA124E","name":"Author"},"id":"4B19300238684A0489D294C2EF6E3661","name":"Prasad Ganorkar","authorTitle":{"value":"Prasad Ganorkar"},"description":{"value":""},"thumbnailImage":{"alt":"","src":null},"profile":{"targetItems":[]}},{"template":{"id":"3FBABDB63A094F68B1F8E1BBE1BA124E","name":"Author"},"id":"8302AF8F21C44847AC4FDC5D83454B01","name":"Umesh Goel","authorTitle":{"value":"Umesh Goel"},"description":{"value":""},"thumbnailImage":{"alt":"","src":null},"profile":{"targetItems":[]}},{"template":{"id":"3FBABDB63A094F68B1F8E1BBE1BA124E","name":"Author"},"id":"786452EEF19C47B3BCFA08554E6249BD","name":"Mo Ran","authorTitle":{"value":"Mo Ran"},"description":{"value":""},"thumbnailImage":{"alt":"","src":null},"profile":{"targetItems":[]}},{"template":{"id":"3FBABDB63A094F68B1F8E1BBE1BA124E","name":"Author"},"id":"76FA851B2F934CC3AB88F5BA7E1C32E8","name":"Erik Sjodin","authorTitle":{"value":"Erik Sj枚din"},"description":{"value":""},"thumbnailImage":{"alt":"","src":null},"profile":{"targetItems":[{"standardImage":{"src":"/~/media/mckinsey/our people/erik sjodin/erik_sjodin_standard_profile_1536x1152.jpg","alt":"Erik Sj枚din"},"emailLinks":{"value":"erik_sjodin@mckinsey.com"},"linkedInUrl":{"value":""},"description":{"value":"Creates lasting transformations for leading companies across the construction value chain, with a focus on construction digitization and suppliers, such as construction-equipment OEMs, rental companies, material manufacturers and distributors, and retailers"},"locations":{"targetItems":[{"name":"Stockholm","displayName":"Stockholm"}]},"firmTitle":{"value":"Partner"},"thumbnailImage":{"alt":"Erik Sj枚din","src":"/~/media/mckinsey/our people/erik sjodin/erik_sjodin_headshot_988x741.jpg"},"url":{"path":"/our-people/erik-sjodin"}}]}}]},"nonPartnerAuthors":{"targetItems":[]},"interactiveToUse":{"targetItem":null},"enableArticleComponents":{"boolValue":false},"relatedArticles":{"targetItems":[{"sourcePublication":{"targetItem":null},"publicationSource":null,"externalPublication":{"value":""},"title":{"value":"The next normal in construction: How disruption is reshaping the world\u0026rsquo;s largest ecosystem"},"url":{"path":"/capabilities/operations/our-insights/the-next-normal-in-construction-how-disruption-is-reshaping-the-worlds-largest-ecosystem"},"eyebrow":{"targetItem":{"name":"Article"}},"articleType":{"targetItem":{"name":"Article"}},"contentType":{"targetItem":{"name":"Article"}},"description":{"value":"The COVID-19 crisis looks set to accelerate an overdue transformation of the world\u0026rsquo;s largest ecosystem. 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