The building products market forms the very foundation of our economies yet remains one of the most fragmented—and least digitized—industries in the world. Thousands of product categories span raw materials such as cement, steel, and glass, along with finished items like windows, doors, and air conditioners—as well as everything in between. Adding to this complexity, a plethora of market participants includes large manufacturers, niche players, and one-step and two-step distributors, as well as the hundreds of thousands of dealers and contractors that manage the sale and installation of these products. Many of these players continue to rely on handshakes and fax machines to do business.
Meanwhile, the recent pandemic has fundamentally reset the short-term supply-and-demand relationship for the entire building products industry. Supply chain disruptions, raw-materials price volatility, and labor shortages have exposed cracks in companies’ operations. Although the market has been able to paper over these cracks with multiple price increases, when the price environment normalizes, many companies may find that recent outperformance of their long-range plans turns out to be a mirage. As such, the sector is ripe for innovation.
It’s perhaps no surprise, then, that executives in the industry are responding to the current dynamic with a renewed focus on innovation and digital transformation. More surprising is the degree of unanimity in this regard observed in McKinsey’s 2022 global survey of over 500 executives in the building products sector.
Validating many of the themes we discuss with our clients, we heard:
- Some 70 percent of executives are planning to increase their investment in innovation and R&D.
- The top three ranked trends are digital or tech-oriented in nature, as are six of the top ten—this is significant in such a stubbornly analog industry (Exhibit 1).
- Distributors are feeling this pressure on multiple fronts and see significant disruption on the horizon, including through further consolidation.
Accordingly, we decided to dive a little deeper into the views and future plans of two of the key industry groups: building products manufacturers and distributors.
Building products players are looking to ‘get smart’
We see a number of areas where executives would be well advised to invest and make changes over the next five years in order to stay competitive, and business model innovation is high on the list. In fact, faced with seven choices in our survey, including “going lean” to achieve productivity gains, “doubling down” on core markets, or “looking wide” to find growth in adjacent markets, executives were clear: building products players are looking to “get smart” by increasing their investments in innovation and R&D (Exhibit 2). Moreover, when we asked executives to rank how important certain changes were perceived to be by their organization, 70 percent ranked “get smart” as one of their top two choices—more than any other option (see sidebar “‘Get smart’ by the numbers”).
Digital and innovation-linked trends are at the forefront of many industries, and frequently rise to the top of our building products CEOs’ agendas. Indeed, themes including digital design tools such as building information modeling (BIM), software solutions such as jobsite management, and automation even outranked sustainability trends in our survey. It’s clear that many people see opportunity in innovation, with executives from every category choosing digital manufacturing as the biggest such opportunity: improvements to tools, processes, and efficiency can boost quality, lower costs, and increase customization—all changes that benefit the entire value chain, and further threaten those that refuse to adapt.
The growing threat of digital disruption: Distributors in the crosshairs
Another particularly interesting finding of our survey is that despite market perception of the need for innovation, executives still see digital as more of a threat than an opportunity. Making radical changes to traditional ways of working requires taking uncomfortable risks. Across all four categories of respondent (buyer/contractor, designer/specifier, manufacturer, and distributor) two-thirds of digital trends were scored as net threats, with the biggest threats seen as being those from supply chain transparency and distribution efficiency (Exhibit 3).
The effects of these transparency and efficiency trends will be felt most acutely by distributors, whose role in delivery and fulfilment is important, but whose margin is acutely under pressure as routes to market condense. In fact, the only group of respondents not to select innovation and R&D as their top priorities were building products distributors; rather, their preferred option is to “reinvent” themselves, with strategic and operating-model implications.
The reasons for the need to reinvent seem clear: competitive threats from all sides, including new platforms and direct-to-consumer sales channels, a looming shift to modular, and the expectation of continued consolidation in the industry. Specifically, however, the number-one digital threat distributors recognize is supply-chain transparency, and especially price discovery. Unsurprisingly, those with the most to lose from price transparency see the biggest threat: contractors, who can capture a higher margin when product and labor are bundled, and distributors, whose ability to dynamically set prices is essential. Indeed, there are many disruptors seeking their share of the billions at stake in this market: one industry venture capital investor recently told us that they see “a new procurement platform every week” seeking capital to scale their solution.
However, we believe the bigger challenge will actually be in channel management for manufacturers. As both buyers and distributors adjust to new ways of working, manufacturers will need to maintain downstream access and adapt to changing routes to market without letting unavoidable channel conflict impair their business in the near term. In fact, the market agrees—this was the highest-scoring digital threat across all categories (–13 percent net threat). This transition will require bold actions, and involve real risks, to stake out the next winning position.
Three ways for building products players to ‘get smart’
What then are the options for executives to adapt to this impending disruption? We see the following three ways.
- Set a clear (and bold) North Star aspiration. It’s hard to innovate in a vacuum and, without a clear innovation target, leaders often won’t shift resources to pursue the big moves that create change. To make progress it’s important to articulate the objectives for innovation with a bold but plausible aspiration. Such objectives can range from delivering net new growth, improving customer experiences, or operational and value-chain improvements. One of our clients set an aspiration to deliver top-quintile total shareholder returns (TSR) over five years, but then realized that this would imply expanding the performance of its largest division beyond anything ever achieved by any player in the industry. The gap between what is realistically achievable through routine interventions (cost programs, marketing and sales initiatives, and so on) and the bold aspiration is what we call the “green box” (Exhibit 4): this identifies and sizes a clear target for innovative and disruptive growth.
- Stay focused downstream. Great innovation concepts come from the intersection of three lenses: customers, technology/capability, and business model. At the end of the day, they must serve a clear downstream customer need. For manufacturers, this means understanding use-case applications and developing solutions that can alleviate contractors’ main pain points (such as qualified labor challenges or price volatility). A roofing manufacturer could, for instance, choose between investing in a different granule technology or developing an easier-to-nail shingle design. While both directly improve the product, one is likely to have far higher impact for contractors, and therefore ultimately create more value in the ecosystem. For distributors, this means understanding contractors’ evolving ways of working and meeting them where they’re at, including expanding value-added services like pre-assembly, and further integrating with tech tools like jobsite management platforms.
- Adjust your investment portfolio approach. A traditional product-development approach that delivers large investment dollars based on milestones may not work in a rapidly changing environment that requires more iteration and incremental steps to scale. When we recently looked at one manufacturers’ product portfolio, we saw that fewer than half of the products had “earned the right to grow” via accelerating investment. The remainder would benefit from cost improvements or market repositioning in order to maximize value creation. Some even warranted outright cancellation, given the inefficiency of capital expenditure required to maintain their position. Managing this broad portfolio of concepts, each with a differentiated approach to investment, requires a much more agile approach to resource allocation.
Getting smart—investing in innovation and R&D—is going to be the key differentiator for the market over the next three to five years. Building-materials players that do not adapt to these trends will be left behind, but those who embrace the future through innovation will succeed in turning the experiences of the past three years into a new growth trajectory.