By Michael Jones

In recent months, we’ve seen a spate of building companies failing in one form or another. The list includes Pro Build, Pivotal Homes and Willoughby Homes to name just a few. How is it that in such buoyant times, this industry is under such stress?

The answer is simple “fixed price contract”. This is fatal where inflation is now undermining profitability. Some commentators have described the current economic conditions in the building industry as a ”profitless boom”.

The economics research provider – Ibis World – has confirmed that insolvencies in the building industry are significantly trending upward and that more collapses are all but certain. Indeed, most banks credit departments have the industry on high alert.

While we are seeing a perfect storm for the industry, it is not a new scenario. And indeed, the current conditions in the Construction Industry may be an indicator of a negative omen for the much wider economy.

Apart from rising prices, the industry faces challenges in relation to supply chain shortages. The key inputs of Steel, Concrete, Fuel and Labour are escalating in price. Skilled labour is particularly short. In fact, the general unemployment rate for the June quarter was 3.4% and to find a lower figure we have to go back to August 1974.

This is where things get interesting. At the beginning of August 1974 Mainline Constructions, a publicly listed building company – one of the largest in Australia, announced to the stock exchange record profit. Two weeks later, Receivers were appointed. It was one of the largest corporate collapses in Australia with debt of over 60 million dollars (real money in those days). Just over 12 months later in November 1975 the unemployment rate had doubled. The Whitlam government was dismissed on 11 November 1975 and Australia then went into a period of stagflation where prices continue to rise as did unemployment.

The other similarity to 1974 is the sharp rise in fuel prices. Back in 1974 it was driven by OPEC. Today of course it is the war in Ukraine. The question is how bad is it likely to get for the construction industry?

Generally the causes of business failure can be put down to one of the following

  1. Poor management
  2. Lack of profitability
  3. Cash flow and liquidity restrictions
  4. Inadequate records
  5. Economic conditions

Although, ordinarily economic conditions rank fifth. At the present time, they are the dominant factor.

The other important special factor in the construction industry is that when a company fails, it has a domino effect causing the failure of contractors up and down the chain.

The key issue for management is to get rid of fixed price contracts. This of course is easier said than done. After the Mainline collapse in 1974, almost all building and construction contracts had “a rise and fall clause”. This enabled the contractor some wriggle room to pass on the rising costs.

These clauses have largely been eliminated due to competitive pressures but will need to be reintroduced if businesses are to survive.

Of course, the situation may correct itself over the next 18 months as the world’s factories start to ramp up again in the supply chain shortages are neutralised, however, in the short and medium term we can expect more collapses in the industry.

If you are in a position that might be impacted by the uncertainty in this industry, it is critically important to get the right advice and understand your options. Jones Partners is here to help. Please contact our office on 02 9251 5222. Help is just a phone call away.