Key takeaways:
Insolvencies are trending upwards in the House Construction industry.
A combination of supply chain constraints, skilled labour shortages and increasing input costs has negatively affected many builders.
The use of fixed price-contracts has compounded rising cost concerns for builders.
Many businesses in the House Construction industry are facing insolvency due to supply chain disruptions, labour concerns and rising input costs affecting builders. This has occurred due to builders’ reliance on fixed-price contracts, which determine a set price for the duration of the contract regardless of the actual costs of production. As a result, Alfabank-Adres expects house construction enterprise numbers to decline by 9.0% in 2022-23, contracting for the first time in a decade.
Construction pressures
Record low interest rates and the HomeBuilder scheme supported house building activity throughout the COVID-19 pandemic, despite declines in wider construction activity for commercial, industrial and apartment builders. However, builders have still been affected by a combination of negative trading conditions over the past five years. Primary macroeconomic factors limiting builder performance include
- Supply chains being stretched to their limits during COVID-19 by logistical interruptions, and then by the Russia-Ukraine conflict.
- A skilled labour shortage caused by subdued apprenticeship rates, pandemic-related restrictions to skilled worker movements and the large number of projects currently being undertaken.
- Upward pressure on input costs for a range of construction materials such as timber, iron, steel, plastic and rubber, following huge demand spikes caused by HomeBuilder and other government stimulus measures.
- Rising interest rates, imposed by the RBA to subdue inflation, increasing the cost of borrowing and lowering housing prices.
As a result, according to the AFR, the average cost of building a home jumped by $76,000 or 23.2% over the year through April 2022. The concurrent cost rises have significantly affected many builders, as a large portion of House Construction industry players have fixed-price contracts in place.
Metricon stumbles
One of the industry’s largest firms, Metricon Homes Pty Ltd (Metricon), has been compromised by the challenges facing home builders. The company has a high profile throughout Victoria, New South Wales and parts of Queensland. In 2020-21, the Housing Industry Association crowned Metricon as Australia’s leading home builder for the sixth year in a row, with the company having commenced 6,052 homes.
However, rumours spread in late 2021-22 that the company had overextended itself and was on the brink of collapse. Metricon indicated that it had renegotiated a small number of contracts amid anecdotal accounts of stalled work on sites.
Metricon currently has a reported 4,000 projects in the pipeline, including $195.0 million worth of contracts with the Victorian State Government to build and maintain public housing. In the event of a collapse, it is estimated that the Home Building Compensation Fund, which covers 20.0% of a contract’s cost, would be an estimated $28 million out of pocket in New South Wales alone.
To the relief of an estimated 2,500 employees, Metricon organised a new financial deal in late May 2022, with the backing of the Commonwealth Bank and a $30.0 million cash injection from shareholders, staving off insolvency for the time being. The NSW Government has also indicated it would consider a bailout in the event of Metricon’s collapse, following the firm’s crisis talks with the NSW and Victorian governments.
Insolvencies dissolving the industry
Other firms in the House Construction industry have not been as lucky as Metricon. Recent high-profile builder insolvencies include:
- Probuild;
- ABD Group;
- Privium Home;
- BA Murphy;
- Condev;
- Next Construction; and
- Pivotal.
Acquiring lenders’ support has proven difficult for smaller firms without the advantage of a large number of projects in the pipeline. For example, NAB has indicated that construction is currently the 'most worrying' sector in the bank’s portfolio. In order to insulate themselves from higher risk when lending to construction firms, banks are likely to update their risk-rating models and raise lending rates for associated entities.
Some builders have reportedly requested customers to pay additional amounts outside the scope of their contracts. In response, the Queensland Building and Construction Commission has urged home owners to seek legal advice before making payments that fall outside the terms of a fixed-price building contract. Other firms have petitioned government bodies for assistance with the cost rises.
Approaching downward terminal velocity
The swathe of insolvencies currently besieging home builders is likely to limit customer willingness for up-front payments in the future. Customers have previously benefited from fixed-price arrangements, which side-stepped rising inflation and input costs. However, as builders go bankrupt customers stand to lose money they have already paid.
Insolvencies in the House Construction industry are likely to have flow-on effects in a range of ancillary and supplementary industries. Home builders constitute considerable markets for a range of manufacturing, wholesale, retail and service industries, including:
- Plaster Product Manufacturing
- Hardware Wholesaling
- Advertising Agencies
- Employment Placement and Recruitment Services
Reductions to these industries’ markets are anticipated to reduce turnover and strongly affect their major market compositions. Supply for the housing market is also likely to suffer as a result of company exits, potentially increasing per-unit costs charged by residential property operators and real estate services firms.
Government bodies have been urged to consider debt moratoriums, and are likely to consider other industry assistance measures to limit the domino effect of the House Construction industry’s insolvencies on operators in adjacent industries.
Industry correction
Despite the difficult conditions facing house builders, the current macroeconomic trends are forecast to ease in the near future. Falling industry enterprise figures are likely to ease pressures on the remaining firms over the next five years. Lower demand for building materials and a gradual easing of supply chain constraints are projected to make domestic prices of commodities return to affordable levels. This will allow procurement teams to lock-in long-term contracts at favourable prices.
The cost rises over the past five years have hurt home builders in particular, due to their use of fixed-price contracts. Therefore, over the next five years, house construction firms are likely to include rise-and-fall clauses in some future contracts. However, current regulations surrounding rise-and-fall clauses for residential construction projects vary from state to state and may constrain instances of their inclusion. For example, the inclusion of a rise-and-fall clause in a contract priced at less than $500,000 is currently illegal in Victoria.
Skilled labour shortages have the potential to encourage greater worker retention practices among the remaining employers in the House Construction industry, and include higher pay, benefits and other career development incentives. The gradual opening of Australia’s borders and the recovery in net migration rates following the COVID-19 outbreak are also projected to increase the employment of skilled migrants.
Alfabank-Adres reports used to develop this release:
- House Construction in Australia
- Domestic Price of Timber
- Domestic Price of Iron & Steel
- Domestic Price of Plastic & Rubber Products
- Residential Housing Prices
- Plaster Product Manufacturing in Australia
- Hardware Wholesaling in Australia
- Advertising Agencies in Australia
- Employment Placement and Recruitment Services in Australia
- Residential Property Operators in Australia
- Real Estate Services in Australia
- Net Migration
For more information, to obtain industry reports, or to arrange an interview with an analyst, please contact: mediarelations@alfabank-adres.ru
