Industrialized Building and the Failure of Katerra

Why Modern Methods of Construction Don't Work

Offsite manufacturing, modular and prefabricated building have been transforming construction like nuclear fusion has been transforming energy: they have both been twenty years away from working at scale for the last 60 years. These ‘modern methods of construction’ have a dismal track record. The brutal economies of scale and scope in a project-based, geographically dispersed industry subject to extreme swings in demand have always bought previous periods of their growth and development to an end. 

 

While the history of prefabrication features major projects like the Great Exhibition in 1855 and more recently the Oresund Bridge in 2000, the reality is that prefabrication has only been successful in specific niche markets such as institutional buildings, or house manufacturers like the Japanese and Scandinavian firms Sekisui and Ikea. Failures like Katerra in mid-2021 and the mail order houses sold by Sears Roebuck a hundred years ago in the US are common. In the UK 2017 Industrial Strategy Construction was one of the four Sector Deals along with AI, the car industry and life sciences, with the aim to change the way buildings are created with a manufacturing hub for offsite and modular construction. By 2021 the focus had moved on, to the energy efficiency of buildings and new design standards. 

 

The up-front capital requirements of prefabrication make it a capital-intensive form of production, which brings high fixed costs in a cyclic industry characterised by demand volatility over the cycle. This means macroeconomic events often determine the success or failure of the underpinning business model and the success or the eventual failure of the investment. A batch of new US prefab housing firms failed during the GFC after 2007, for example, demonstrating the importance of the relationship between economic and business conditions and the viability of the business model for industrialised building.

 

Manufactured housing in the US also provides an insight into the institutional barriers to industrialisation in construction that exist in many countries and cities. Although the Department of Housing and Urban Development hasa national code, US cities discriminate against manufactured housing as local and county governments use a variety of land use planning devices to restrict or ban their use, and often place them in locations far from amenities such as schools, transportation, doctors and jobs. Despite these barriers, in 2021 there were 33 firms with 136 factories that produced nearly 95,000 homes. 

 

An ambitious attempt at offsite manufacturing (OSM) and industrialized building was made by Katerra, a US firm that was reinventing construction but has now gone into receivership. The manufacture of building elements and components somewhere other than the construction site has been variously called prefabrication, pre-cast and pre-assembly construction. Types of offsite construction are panelised systems erected onsite, volumetric systems that involve partial assembly of units or pods offsite, and factory built modular components or pods. The degree of OSM and preassembly varies from basic sub-assemblies to entire modules. Katerra manufactured prefabricated cross laminated timber (CLT) structures.  

 

 

Katerra

 

Katerra was a Californian start-up, founded in 2015. In 2017 it reached a $1 billion valuation, The company’s goal was complete vertical integration of design and construction, from concept sketches of a building to installing CLT panels and the bolting it together. On their projects the company wanted to be architect, offsite manufacturer and onsite contractor. This led to issues with the developers and contractors the company dealt with most of whom, it turned out, didn’t want the complete end-to-end service Katerra offered. 

 

The company started by developing software to manage an extensive supply chain for fixtures and fittings from around the world, but particularly China, and then added a US factory making roof trusses, cabinets, wall panels, and other elements. In 2016 the business model changed because architects weren’t specifying Katerra’s products. Katerra would design its own buildings and specify its own products. In 2017 it built a CLT factory that increased US output by 50 percent. The factory shut in 2019. Dissatisfied with design software that didn’t meet its needs, it developed a custom suite called Apollo. This was to be a platform for project development and delivery, well beyond the document control and communication of then available software from Oracle Aconex, Trimble Connect, Procore and SAP Connect. Apollo integrated six functions: 

1.      Report: use an address to find site information, zoning, and crime rates etc.; 

2.      Insight: design with the two building platforms; 

3.      Direct: a library of components used in the building; 

4.      Compose: for coordination between the different groups working on a project;

5.      Construct: for construction management (similar to Procore and Bluebeam):

6.      Connect: for managing the workforce on a project, with a database of subcontractors.

 

One of the company’s three founders was a property developer, and his projects provided the initial pipeline of work that made the company viable. Initially, buildings were designed by outside architects, but in 2016 the company started a design division. A second founder had a tech venture capital fund, the third and CEO did a stint at Tesla. Their ambition was to leverage new technologies to transform building by linking design and production through software, designing buildings in Revit and converting the files to a different format for machines in the factory. 

 

In 2018, after raising $865 million in venture capital led by SoftBank’s Vision Fund, Katerra acquired Michael Green Architecture, a leading advocate of CLT, and over a dozen other architects and contractors. In 2020 the business model changed again, by taking equity stakes in developments to boost demand. Katerra struggled to complete the projects. Accumulating losses and cost overruns during the Covid pandemic overwhelmed the company and in June 2021 Katerra Construction filed for Chapter 11 bankruptcy. 

 

In six years Katerra had grown to a 7,500 person company. That growth cost both money and focus, of the total US$2.2bn raised, SoftBank invested $2bn between 2018 and 2020. Without a clear focus, Katerra didn’t have a target customer base and got distracted by software and developing internet-of-things technology. The executive team was dominated by industry outsiders, but Katerra hired architects and engineers from traditional firms. Tension was inevitable. The fatal problem was execution, Katerra didn’t vertically integrate acquisitions into a company that did everything. It was fragmented and didn’t have a product platform or Apollo ready in time.   

 

With Apollo, Katerra was actually behind other companies developing platforms that manage design and construction in various ways. These platforms are at the technological frontier, a fourth industrial revolution technology for OSM with automated production of components. Other firms have developed different approaches to digital manufacturing and restructuring of firm boundaries to Katerra, integrating design and construction through development of digital platforms that provide design, component specification and manufacturing, delivery and on-site assembly. 

 

For example, in 2018 Project Frog released KitConnect, bringing together a decade of development into prefabrication and component design, and integrating BIM with DfMa and logistics. US start-ups in the wake of Katerra like Junoand Generate also don’t build factories but outsource assembly. Outfit offers homeowners a DIY renovation from its website, then orders and ships the materials and provides step-by-step instructions for completing the work (the Sears model again). Also in 2021, the IPO for PM software company Procore raised $635 at a valuation near $10bn, a record for construction tech. Rival Aconex was bought by Oracle in 2017 for $1.2bn. Platforms are in the process of becoming a basic part of construction tech. In the UK Pagabo launched a procurement platform in 2021, mainly for the public sector, using framework agreements for building work valued between £250k to £10m. Australian 2021 procurement IPO Felix had local start-ups Buildxact, SiteMate, Mastt, Portt and VenderPanel with competing platforms.  

 

 

Conclusion

 

The idea of construction as production was based on OSM, but after decades of development has yet to become a viable business model. There have been successes in manufactured housing, but often macroeconomic factors undermined their viability. Niche markets exist in institutional building, or wherever it is the most effective or efficient piece of technology available. This manufacturing-centric view of progress in construction, endorsed by numerous government and industry reports, is the end point of the development trajectory from the first to the third industrial revolutions.

 

The technological base of OSM is a mix of those from the first industrial revolution, like concrete, with second and third revolution technologies like factories and lean production. Despite all efforts this has not become a system of production because OSM does not deliver a decisive advantage over onsite production for the great majority of projects. Instead, construction has a deep, diverse and specialised value chain that resists integration because it is flexible and adapted to economic variability. Policy makers may neither like nor appreciate this brute fact, but economies of scale are the economic equivalent of gravity and OSM has not delivered. 

The constraints of OSM have outweighed the drivers and benefits. At this stage the market share of OSM remains small and niche, estimates are low single digits of total construction work in the UK, US and Australia. Success elsewhere is restricted to a few specific markets and project types. The problem is not the technology, which can be made to work, but the expected economies of scale are difficult to achieve because of a range of factors. Some of these factors are internal to construction, but others are external. In particular, macroeconomic events like financial crises or energy and commodity price changes can quickly undermine a business model. 

Norman Foster said in an interview ‘A building is only as good as its client’. With industrialized building the client is the producer, which is not necessarily a bad thing, however this has restricted its use to niche markets. How to apply the technologies of the fourth industrial revolution so they work with the economies of scale for onsite production in construction, beyond the OSM paradigm that has been followed for years without success, is the challenge

 

 

 

 

A Macro View of Australian Property and Construction 2018

This year I got to do a class on the Commonwealth Government's 2018-19 Budget in the context of the state of play for Australia's construction and property industries. This is a top-down overview, the budget is like an annual scorecard of current economic performance, so all the data is at a national level and follows the budget focus on the ongoing transition from the end of mining boom two in 2012. The lecture looked at the macroeconomic role of increased government spending on infrastructure and the change in roles of residential building and non-residential construction in the business cycle. The slides from the lecture follow, PDF here, the idea is to let the data tell the story. I also do a class that goes through the Budget aggregates in their macroeconomic context, with a bit of history, the PDF of Budget 2018 - A Macro View is here.

Other relevant posts are:
Construction in the Australian Economy here
The Australian Construction Industry After the Mining Boom here 

Cities and Built Environment Policies here

Construction Productivity here

UK Launches New Industrial Strategy

Construction gets one of the first Sector Deals

Industry policy has been out of favour for the last couple of decades, especially in countries like the US, UK and Australia. Partly this is ideological, a view that it is about government intervention and picking winners, and partly because some issues traditionally addressed by industry policy (like tariffs and market access) have moved into negotiations around trade policy, at both the global level with the WTO rounds and in the increasing number of bilateral trade agreements. Mainly though it is because few industry policies have really been successful, and many have been expensive failures. Traditionally manufacturing was the focus for industry policy, but these days the approach is more about coordinating a wide range of policy to achieve objectives across the economy and society.

There is also the problem that results take time to happen and thus take longer than the electoral cycle to develop, so there is little benefit to the government of the day even if a policy is working. While it is a fact that governments can have major impacts through regulation, tax, and R&D these policies are spread across departments, and although many inquiries have recommended leveraging purchases of materials, machinery and equipment and buildings and structures to policy outcomes there are significant institutional constraints on government buying power. What history generally does show is that it is hard to get industry strategy right, implementation is difficult and outcomes are uncertain in dynamically evolving economies.

Given this background it was a notable occasion when, on the 27^thof November 2017, The UK Government launched their new Industrial Strategy, “setting out a long-term vision for how Britain can build on its economic strengths, address its productivity performance, embrace technological change and boost the earning power of people across the UK.” In the prolix way of such documents there is much talk of innovation, partnerships between industry and academia, preparing for the future, high tech industry clusters and next generation technologies and so on, all of which are well-known elements of a modern economy. Nonetheless, combining them into an overall policy backed with funding and resources as this strategy has done may become something of a template for twenty-first century industry policy, in the same way Australia has followed the UK with PPPs and City Deals for infrastructure.

The industry strategy includes four Grand Challenges, five productivity foundations, and various sector deals. The Grand Challenges of the future are artificial intelligence (AI) and data, low carbon/clean energy growth, health and ageing, and transport and infrastructure. Productivity depends on people, places, ideas, infrastructure and the business environment. No surprises in those lists, and the paper includes a great deal of conventional thinking and hand waving on those topics. There will be more funding available for technology start-ups through the British Business Bank, which gets a £2.5bn fund from money that would have gone to EU investment programmes, and changes to pension fund rules will allow them to invest in small companies.

A proposed national industrial strategy council will have oversight of implementation of the proposals, and theoretically will hold this and subsequent governments accountable for progress. The strategy includes establishing several new councils and offices and renaming others, like the new UK Research and Innovation body, which brings together all the research councils, and Innovate UK, the operating name of the Technology Strategy Board, a non-departmental public body. This plethora of initiatives means the strategy lacks clarity and a meaningful target, with the potential for much energy and money to be spent on process rather than outcomes.

Construction is one of the four Sector Deals (along with AI, the car industry and life sciences) launched in the strategy, and there is a lot of discussion about housing in the context of affordability and energy efficiency: ‘The government and the construction sector, through the Construction Leadership Council, have agreed a Sector Deal to transform the productivity of the sector benefiting the wider economy. The deal will substantially boost the sector’s productivity, through greater investment in innovation and skills, creating new and well-paid jobs and maximising its export potential. This will also reduce the environmental impact, improve the efficiency and reduce whole life cost of new projects and buildings to help build the houses, schools, hospitals and major transport projects we need.’

The Construction Leadership Council is a heavyweight group of senior industry executives that promotes off-site manufacturing and increased digitisation in construction, and appears to have had significant input into the industry strategy. The key points in their 2013 publication Construction 2025 have been included, often using the same language, in the Industrial Strategy paper, and the Council given a leading role in the implementation of the sector deal. There is a recent video of a speech to the Council (16^th November, 60 minutes) by Ann Bentley, Chairman of Rider Levett Bucknall, which argues for change and puts her view of industry development (digitisation) and policy options (value based procurement). While the ideas are not particularly original they are cogently argued and very relevant, and probably representative of the viewpoint of management in the UK industry. She discusses industry potential around three ideas:

• Use outcome-based procurement to drive capital delivery and lifetime performance.
• Increase transparency on the performance of suppliers and assets.
• Improve procurement efficiency and get the basics right

 There are some big numbers attached to the industrial strategy, mainly through the Industrial Strategy Challenge Fund which will invest £725 million in a range of new programmes to ‘capture the value of innovation’. (These programmes are not the same as the four Grand Challenges but are obviously linked). This could amount to serious money if it materialises, although the funding included in the strategy is spread thinly and seems low given the scale of the challenges and the ambition of the strategy. The Challenge Fund ‘aims to bring together the UK’s world-leading research with business to meet the major industrial and societal challenges of our time.’ There is a lengthy list of challenges on their page:

From data to early diagnosis and precision medicine

Healthy ageing

Prospering from the energy revolution

Transforming construction

Transforming food production: from farm to fork

Next generation services

Audiences of the future

Quantum technology

Robotics and artificial intelligence in extreme environments

Accelerating innovative healthcare and medicines

Faraday Battery Challenge: clean and flexible energy

Driverless vehicles

Manufacturing and materials of the future

Satellites and space technology

Transforming construction is one of the Challenges, and there is potentially £170 million (around AUD$300m) allocated, with the aim to change the way buildings are created. This means manufacturing and will be targeted at off-site and modular construction, which in turn is linked to other Challenges in energy, robotics and manufacturing. It may take some time to see how this works in practice and there are no details on the how or where this investment will happen. In the Challenge Fund at the Transforming Construction link above it says:

The way we create our buildings has not changed substantially in 40 years and needs a drastic overhaul if it is to deliver the buildings that the UK needs. Construction is currently expensive, and too many buildings waste energy.

We need to transform construction so that we can create affordable places to live and work that are, safer, healthier and use less energy.

By taking a lead in the UK, we can also increase our ability to export: global demand for efficient buildings is rising rapidly, due to the pressures of urbanisation, affordability, and the need to cut emissions.

 Export potential is clearly the motivation behind many of the strategy’s ideas, because post-Brexit the UK will be looking to expand into new markets to replace as much as possible of the 43% of trade currently done with the EU. It is worth noting here that UK imports of building and construction products have doubled in the last decade, much of it materials from the EU and wood from Sweden. On the other hand, importing materials and exporting higher-value off-site construction products and methods may turn out to be a great strategy.

The strategy also promises more spending on education and training, infrastructure and urban development, extending a wide range of existing programmes and adding emphasis in areas like STEM teaching, including ‘a £64 million investment for digital and construction training’. There will be a new regulator, the office for students, to address employer and student needs, and a national retraining scheme targeting skills shortages in key sectors: ‘We will provide £34 million (AUD$60m) to expand innovative construction training programs across the country, including a program in the West Midlands, focused on supporting the country’s housing needs and building upon existing good practice’. However, there are no details on what this actually is or how it will be implemented, and this is a criticism that can be levelled at almost every initiative proposed in the strategy. Skills policy, business support and planning are policy areas in the strategy that are devolved, and thus the responsibility of administrations in Scotland, Wales and Northern Ireland. The recent Final Report of the Industrial Strategy Commission argued strongly for ‘further and faster’ devolution in the UK. (This was another major source of the ideas and initiatives in the strategy).

The document presents policy ideas like a prospectus, with breakout boxes of examples and endorsements to support the strategic initiatives, most which are not new and were flagged in the January 2017 Green Paper that led, after the rounds of submissions and discussion, to this November White paper. For example, the strategy links to a previously announced boost to R&D, with a target of 2.4% of GDP by 2027, and an existing teacher recruitment and retention scheme. Proposals like a new office for AI have no funding attached, and any discussion of Brexit is absent.

On the one hand, delivering an ambitious and comprehensive industrial strategy is a laudable achievement and there is no shortage of issues and challenges to be addressed in the UK and elsewhere. If nothing else, developing a comprehensive policy like this focuses minds and involves many participants. Government policy does not have to be original or innovative to be useful and effective, so the lack of new ideas or perspective is not the problem. It is probably better to have a strategy that brings together issues around productivity, innovation, skills and technology, than not have one at all.

However, on the other hand, a policy that lacks credibility or substance is not helpful. There is a lot of rhetoric in the strategy, embellishing the very many ideas and initiatives included. Many of the proposed initiatives are to be implemented through various regulatory and funding bodies, some existing and some new, with much of the thinly spread funding being channelled through current programmes, but details are lacking. There are no firm commitments to invest in any of the challenges, or to any specific investments in the sector deals. Local and regional governments, universities, regulators and industry bodies have all been given significant but generally unspecified roles, and their engagement will be an important determinant of any successes.  

How the UK Government moves into the next phase of their industrial strategy will tell whether this is a serious effort at industry development or a publicity policy, aimed at announcements and PR but lacking support and commitment. At some point next year the challenges and sector deals should lead to expressions of interest and applications for funding of new projects, which will be the litmus test of the substance of the strategy. Establishing the proposed national industrial strategy council and other offices should provide a stream of positive events and announcements in 2018, but achieving the strategy’s goals will require a great deal of coordination, determination and long-term commitment, qualities not always associated with government industry policy.