‘Pockets of positivity’ in construction outlook

Despite some of the difficult conditions faced by the construction sector at the moment, there are still opportunities to grow revenue and profits for businesses operating in this industry, according to a recent CreditorWatch paper.

Insolvencies in the construction sector have seen a strong rise during this financial year driven by expensive inputs, higher interest rates and rising labour costs creating challenges for the industry.

Alongside these insolvencies, CreditorWatch chief economist Anneke Thompson said the value of construction work has begun to moderate in most jurisdictions.

“For the year to December 2022, only NSW, Victoria and Western Australia recorded year-on-year increase in construction work,” said Ms Thompson.

The increase in construction work in NSW and Victoria is due to a large pipeline of housing stock still under construction following COVID-19-related government incentives and construction delays.

The report stated while the data appears dismal for areas such as residential construction, “there are still pockets of positivity in the construction sector”.

Australian Small Business and Family Enterprise Ombudsman (ASBFEO) Bruce Billson notes smaller construction firms are busy with a full book of work.

However, there are still concerns from smaller businesses about committing to work well in advance which may ultimately be less profitable than anticipated due to labour and skills shortages, increasing input costs and supply chain constraints.

“Wobbles among larger firms to which they are subcontracting and challenges in terms of timely payment are also concerning,” said Mr Billson.

Supply chain issues are starting to ease but pricing still remains a challenge for the sector.

Mr Billson said despite there being plenty of work around, this is a period of rising cost, margin squeeze and cash flow pressures.

“Firms are fully committed well in advance and many are advising prospective clients they can’t provide a quote in the short term as there is little capacity to lock in commencement dates and have confidence about input costs and trades availability,” he said.

Against this backdrop cash flow is top of mind for construction firms.

“Smaller firms working for other, often larger, companies are using credit assessment tools to reassure themselves about future payment prospects. Some are tightening payment terms in recognition of heightened risk of delayed or non-payment,” he stated.

“Any delay to payments is forcing small construction firms to supplement their working capital or cascade the delayed payment consequences through their own supply chains, to the detriment of other sub-contractors and suppliers.”

In this difficult environment, HLB Mann Judd risk advisory partner Todd Gammel said it is critical operators tightly manage the working capital position between the costs incurred and when payment is received, which is eight weeks or more.

Mr Gammel said construction firms also need to be very clear about costs of a project.

“If funding certain costs is unsustainable for a business, ask for payment or a contribution up front. Another option is for the client to buy the stock or make a working capital contribution on large projects,” he said.

“These tools are particularly critical at the start of a job, when builders often need to make an initial investment to get a project moving.”

Historically, parties to a construction contract have been hesitant to disclose pricing to protect their margins, but are now more willing to be transparent, according to Mr Gammel.

A lot of the larger builders and developers accept they need to work collaboratively for the good of everyone.”

“When there is a material escalation in costs, a specific cost variation in the payment schedule can be proposed. This allows the business to meet its obligations but also remain in business.”

The report also highlighted some of the key warning signs suggesting a project may be in trouble.

Warning signs can include aggressive claims from the constructor, slow progress on site or falling behind schedule and using cheap subcontractors that result in poor performance on site.

The failure to resource the delivery team appropriately, a high turnover of site staff and contractors who have taken on too much risk in a contract such as unlimited wet weather risk, can also be warning signs, the report stated.

Better times ahead

BCI Central chief data and research officer Michelle Aizenberg said while the conditions are difficult right now, the firm is predicting multiple construction booms.

These include in the Western Australian energy and resources sectors, in the NSW/ACT commercial and hospitality industries, in the QLD residential property sector and in the Victorian infrastructure, industrial and transport sectors.

“We are also noting an emerging sector in build-to-rent projects, which are prevalent overseas but relatively new to Australia. In response to the potential for this sector to ease Australia’s rental crisis, build-to-rent developers are receiving increased support from government in the form of regulatory and taxation relief,” said Ms Aizenberg.

While governments at all levels are currently overseeing large capital improvement projects, these projects will likely slowdown in the next few years, as higher interest rates curtail their ability to spend.

“The Victorian government has already indicated it will adjust the state budget to reflect higher interest repayments,” said Ms Thompson.

The large pipeline of engineering work, as well as housing completions, which have taken longer than expected to finish through this supply cycle, are keeping price increases high in 2023.

Ms Thompson said prices are still moderating in comparison to 2022.

Cities with smaller populations, and therefore less depth and competition among builders and suppliers, will continue to have higher construction costs, according to Rider Levett Bucknall’s latest Tender Price Index forecast.

“Brisbane in particular will likely see larger than average increases in tender pricing, as the capital work pipeline remains enlarged due to the 2032 Olympics,” said Ms Thompson.

“Despite these pressures, there is a relatively optimistic outlook for the year ahead, thanks to unceasing demand for residential supply, a resurgence of investment in the retail, office and hospitality sectors and a good stock of industrial, infrastructure, transport, energy and resources projects in the pipeline.”