Producing approximately 9% of Australia's gross domestic product, the construction industry generates $360 billion in revenue annually and has been under significant strain in recent months. Insolvency is now one of the biggest issues facing the construction world and could cause immeasurable detriment to the industry.
There are a number of factors which may cause a company to become insolvent. Below we briefly address two significant factors, fixed price contracts and supply chain delays, which are likely to be large contributors to a number of Australian companies potentially becoming insolvent.
Fixed Price Contracts
Many construction contracts are 'fixed price' in order to make the lending process slightly easier. However, this has led to construction companies not being able to pass on any increase in their costs to complete a project without breaching an essential contract term.
In recent months, due to lowered supply and increased demand, prices for building materials have skyrocketed. The Master Builders Association of NSW reported that the cost of materials has increased by 4.2% during the first quarter of 2022, putting the total increase of price 15.4% higher than it was in 2021. Yet, many of the contracts were agreed last year and have no leniency for CPI increases.
Victoria and Western Australia do not allow inclusion of contract clauses which soften the impacts of an economic rise or fall and whilst the remaining Australian states allow them, lenders often won't unless the buyer/homeowner assumes the risk.
Fixed price contracts can be beneficial for the consumer by providing them with price certainty, but on the other hand detrimental for the supplier who bear all the risk of increases in the cost of building materials. Such contracts have been one of the lead causes of construction companies becoming insolvent in recent months, and the cost increases being borne by construction companies is not expected to plateau anytime soon.
Supply Chain Delays
In addition to the impacts of COVID-19 causing dramatic labour shortage, international conflict has also had a significant impact on supply chains.
A number of crucial Russian structural timber can no longer be imported to Australia and with Ukraine being the source for 30 per cent of wood for pallets, building companies have needed to outsource their products, often coming with a price increase and a significant delay.
Further, being responsible for 60% of Australia's building materials, China's on-again, off-again lockdowns are delaying progress on Australian projects. It is important to note that the building supply chain is a sensitive one.
Following a release from COVID-19 lockdowns, the demand for construction in Australia is already at 10% growth as of May 2022 and if adequate supplies of building materials cannot be obtained or delivered, this impacts thousands of individuals per project.
Insolvency
It has been called the "construction industry bloodbath", where a number of construction companies in Australia are closing up shop, leaving their projects unfinished and attempting to repay millions in debt to creditors, employees and third parties.
The tricky thing about insolvency is that it often lags behind the emergence of the above factors. Construction giant Oracle, which services New South Wales and Queensland, showed a distinct period of growth displaying a 35% increase in revenue in the 2021 financial year (apparently surging on the back of the federal government's HomeBuilder scheme). However, in August 2022, the company went into liquidation with an estimated $14 million in liabilities.
Due to fixed price contracts and Australian building companies suffering from supply chain delays, a significant number of companies have gone insolvent and the experts suggest it is likely that this will continue.
In the last 6 months, countless building companies have been either involuntarily or voluntarily placed into liquidation with millions of dollars of debts to repay. This includes some large players such as Probuild, Condev and Snowdon Developments.
Takeaways
Whilst building companies can increase their margins or include CPI adjustments into contracts to safeguard themselves, this is not seen in a positive light by lenders and thus finance is hard to obtain.
A director has a duty to prevent the company from incurring debts when the company is insolvent or would become insolvent as a result of incurring the debt, and at that time, there are reasonable grounds for suspecting the company is insolvent or would so become insolvent. A breach of this duty will render you personally liable to the company for any loss or damage suffered by the company as a result.
If you or a related party is experiencing solvency issues or considers that this may be on the horizon, it is best to review your contractual and statutory rights and obligations. Ultimately, it is beneficial to engage legal specialists at the front end to ensure you have protections within your contracts to minimise your risk of loss, and at the back end to navigate all of the available options if insolvency issues arise.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
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