Building Lifestyle Through Investments

Explaining the increasing costs of house-building

by Jun 28, 2022

We are all aware of supply chain issues over the last few years. Most of us will have first-hand experience from our local supermarkets. Supply chains impacted by, for example, factories having to shut during the global coronavirus pandemic and the effects of massive demand left the shelves empty of toilet rolls, rice, flour and other staples.

The house-building industry has been severely impacted by worldwide shortages of materials, increased prices, a shortage of skilled tradespeople, and the consequent increase in labour costs.

With the problem exacerbated by fluctuations in demand for house builders, some major construction companies have gone bust and nearly all are struggling.

This article will examine the problems faced by the construction industry, its suppliers and customers. We will suggest what the future of the sector may look like.

How did we get here?

How did we get here?

Some major events over the last few years have led us into a “perfect storm” for the housebuilding industry.

COVID-19 and supply issues

The Coronavirus was already rampant in China, Europe and elsewhere when it reached Australia and lockdowns began in March 2020. Within months, most of the world was in some form of “lockdown”. This involved working from home and/or social distancing to prevent the spread of infection.

Closed borders

Australia became isolated, with borders closed and immigration almost stopped completely.
Consequences of the pandemic lockdown
Many workplaces closed and people began working from home. In the case of manufacturing industries, the factories shut and production ceased. Materials used in the house-building industry, such as steel, timber products and other metal products were no longer being produced.

In Australia, construction work practically ceased, with tradespeople depending on government help to feed themselves and pay their employees.

The pandemic and increased demand

During the period when most people were in lockdown, Australia experienced a mini-housing boom.

People forced to work at home and spend most of their time at home had more money available and more time on their hands. They wanted better homes, since they were almost housebound, with demand for renovations to outdoor areas and “home offices” soaring.

New Homes boom
In the second half of 2020, the Australian Government introduced the ‘Homebuilder Grant’. This was a substantial cash sum awarded to those who signed contracts to build a new home during 2020 and early 2021. Lending interest rates were at record low levels and Australians rushed into the building market. The ABC News organisation reported over 137,000 Australians took advantage of the incentives and the construction industry, and associated trades began a major boom.

Problems for the house-builders

For the house-building industry, what should have been a boom time was becoming a disaster!

The impact of the closed border policy was starting to be felt, with no migration of skilled workers. TAFEs and technical colleges had closed during the lockdowns across Australia and there were no new skilled trades entering the jobs market.

A shortage of skills such as bricklayers and carpenters/joiners was already causing the costs for the in-demand skills to increase and new house builds were delayed.

The shortage of construction materials meant many building projects were delayed, sometimes for months.

The situation today

Problems for the house-builders

The construction industry

Shortages of building materials and skilled trades remain, made worse by the housing boom triggering soaring demand within Australia. Costs for both materials and labour continue to increase.

Materials and Labour Costs still increasing

The cost of most materials required for home-building increased in the year to March 2022.

Products such as steel beams and reinforcing steel, or any steel products increased in price by over 40 per cent over the year. Structural timber increased by almost 40 per cent while other wood products increased by over 20 per cent.

All labour costs increased as demand far outstripped supply. The cost of hiring bricklayers, painters and carpenters all jumped by over 10 per cent over the year, with the cost of all other trades increasing by 3 to 9 per cent. The shortage of materials and skilled tradespeople is causing delays to many construction projects with the knock-on effect of potentially even higher costs when they become available.

Will the Russian invasion of Ukraine affect the construction industry?

Both nations are major providers of energy and raw materials, globally. The sanctions imposed on Russia and the conflict itself may affect the supply of certain materials in the long term.

Some of the products likely to be impacted include:

  • Oil – fuel, lubricants, plastic
  • Bitumen – roofing, hard surfaces such as roads, plastic
  • Aluminium Ore – needed for heating and air conditioning, door and window frames
  • Copper – electrical wiring, pipes for plumbing

The soaring cost of fuel, another by-product of the Ukraine war, is causing transport costs to rise, worldwide.

Some building contracts have a “Force Majeure” clause which may mean they could vary the price if their costs are affected by, for example, war or a natural disaster.

Home buyers

The Reserve Bank of Australia (RBA) has increased the base lending interest rate this year in an attempt to curb the high rate of inflation. Some analysts believe the interest rate, which has been close to zero for some time may be raised as high as 3 per cent by the end of this year.

Would-be homeowners, who took advantage of the government’s “Homebuyer grant” and record low-interest rates to sign a contract to build a new home, in 2020 and 2021 are now facing a financial problem of their own.

They may have been carried away by the house-buying frenzy around them and borrowed more than they should have. The lending interest rate increases this year may mean financial struggles for many and the forecast interest rate increases may cause some to default on their loan repayments.

The Fixed Price contract issue

Fixed price contracts for new homes are widely used in the building industry. Customers prefer to know exactly what they will pay with the confidence of no “hidden extras”. Many construction companies with a fixed price contract for a new home or renovations signed during the housing boom of 2021 are now facing major cash flow issues.

The contract would have been costed, and price and profit calculated based on the costing information available at the time. Now building costs have greatly increased, home-builders face major cash flow problems with some not having available funds to cover the increased cost of materials and labour.

Contract regulations

Problems for the house-builders

Understanding the dilemma facing many home-building companies, the Australian Housing Association (HIA) has a guide explaining how house-building contracts could handle the issue of rising costs.

The popularity of fixed-price (or lump sum) contracts means many building companies face greatly reduced profits or even losses on current house-building projects. The HIA guide confirms a fixed price contract puts the risks on the housebuilder. They are expected to price the contract in anticipation of material and labour cost increases.

If the house-building project will result in a financial loss for the builder, HIA explains a court is unlikely to help the builder.

This leaves us in a situation where many construction companies are expecting profits to be down or even to make a loss on several projects. Inevitably, more home-builders will become insolvent, putting themselves into voluntary administration or straight into liquidation.

The contract will remain unfulfilled and the customer will not get the keys to their dream home.

What will happen next?

Not one medical expert has declared the end of COVID-19 and nobody knows the consequences of the ongoing war in Eastern Europe.
The shortage of building products is a worldwide issue. Supply shortages are expected to continue and the price of materials is expected to continue to increase.

It’s likely fixed-price contracts will need to change or be used less in the building industry, at least as long as uncertainty remains over building costs. One possible change, to help protect building companies and their employees may be the inclusion of a “rise and fall” clause enabling the price to be adjusted if material costs increase or decrease.

Another, less likely, option would be to use “cost-plus” contracts in which the customer agrees to pay the actual costs of construction plus an agreed “profit” for the builder. These types of contracts are unpopular because the customer won’t know the true price of their home until it is complete.

What can I do, as a home-building customer?

If you suspect the construction company with the contract to build your house may be struggling financially, you could meet with them. If they are in danger of becoming insolvent and the company being wound down then your home won’t be finished and any money spent to date may be lost. It might be in your best interests to discuss the possibility of meeting the higher construction costs or negotiating a new contract, to ensure the construction of your new home continues to completion.

Be patient with your home builder and don’t be tempted to move from the top-quality company you have to a cheaper, potentially “cowboy” builder. In the long term, a quality home always increases in value.

If you would like to discuss any aspects of the home-building process, contact Acrow Investments.

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