This is the question many are asking, as we see an increase of building companies in trouble.   There has recently been a spate of insolvencies in the building and construction sector, and it is believed that this is just the beginning, with many more likely to follow.   This is a significant concern as the sector is booming, yet builders are going broke.

What are the reasons?

1. Material Costs: one of the main reasons for these insolvencies is the significant increase in material costs.  As one builder recently confided to me, he would tender for a job and by the time tenders were awarded, prices would have increased so much that he would be doing the work at a significant loss.  Builders are being continually placed in a position where they must absorb the costs, as they are under a fixed-priced contract and are unable to pass on the increased cost to the consumer.
2. Labour shortage: there is a dire shortage of skilled labour workforce.  It seems that there are not enough younger workers replacing the older generation who are retiring from the building industry.
3. Supply Chain issues: as we know, COVID has caused considerable supply chain issues.

So, why has the building industry suffered so much?

a) China:  our biggest trading partner, is the biggest supplier to the building industry.  China has suffered severe lockdowns resulting in output constraints.  This in turn has meant that there is a shortage of materials, and as we know a lack of supply means an increase in prices.  Lack of supply also results in delays in completing a project.  Both cause cost pressures and impact the financial viability of builders.

b) Ukraine:  The Ukrainian conflict has also contributed to these issues by increasing oil prices.  This, coupled with inflation and the supply constraints mentioned above, has had devastating effects on the building industry.

With high profile builders entering into administration and conjecture about the financial health of many other builders, there is little confidence in this sector.

Should a client cancel an off-the-plan purchase contract?

I was asked just recently whether a client should try and cancel an off-the-plan purchase contract as the builder had been placed into liquidation.  There is no clear cut answer to such a question.  Part of the answer is commercial considerations such as whether the price contracted is still below the present market value.  If the development is sold and the units completed, there may still be value in the contract.

Other considerations would be future movement in the market and the locking up of the deposit and stamp duty paid, together with the potential opportunity costs of not entering the market should prices increase.  Luckily for most, the deposits are now held in trust accounts and should be recoverable if the contract can be rescinded.

A thorough analysis needs to be made as to the commercial and legal issues before a decision can be made.

Completed property development

What if the property development had been completed but not the sale of your property, and the builder goes into liquidation?  This raises issues in relation to defects and repairs.  This again has an amount of commercial consideration.  A pre-completion inspection report should be commissioned, and any requisite repairs should be detailed together with an estimate to fix.  Then, it is a commercial decision as to the value and cost.

Rescinding the contract

You should also consider legal advice on rescinding the contract without penalty if the repairs are significant, making the purchase uncommercial.  Mascot Towers springs to mind.  The costs of rectification resulted in the apartments in that building being worth less than some of the mortgages secured on the title.  Some owners have been bankrupted as a result.

If you cannot rescind the contract without losing your deposit again, you would have to consider on a commercial basis whether to complete it or not.  Bear in mind, that a building full of defective apartments will significantly adversely impact the value.  Again, legal advice needs to be sought in such instances.

Home warranty

Home warranty is another issue.  Although not applying to apartments, the house buyer will want to ensure they are covered if the builder is insolvent.  This is relevant for defects and for the resale of the property.  Without the home warranty insurance certificate, the property may not be saleable for a certain period of time, which varies depending on the state.

Further, if you get home warranty insurance you need to consider what is covered, for how much and when can you claim.  Often these policies cover only a small portion of costs.  Again, it becomes a commercial decision.

Occupation Certificates

Incomplete building works that need to be completed by a new builder must be done in a way to ensure all existing work done complies with the necessary provisions, so that an occupation certificate can be obtained.  This will often entail significant extra costs to complete, but will be necessary to finish the building project.  The new builder needs to take liability for all the works and be able to issue the requisite certificates to allow occupancy.

Further, given the instability in this sector, precautions must be taken to ensure that the incoming builder has the financial capacity to complete the project and won’t suffer the same fate as the initial builder.  You need to ensure you will get a completed building ready for occupation within the agreed parameters of cost and time.

There is no doubt that thousands of people will be impacted as there are fears that half of Australia’s building companies are possibly insolvent at present.  This applies to larger companies just as much as smaller companies.

There are also many instances where the true financial situation of a company may be disguised as they are possibly showing healthy bank balances due to the collection of upfront payments for houses or apartments.

Right now, it is critical that any new contracts need to be carefully considered and extensive research is an important part of making educated decisions.

Should you wish to discuss any of the above, please contact Riad Tayeh on 02 9633 3333 or mail@dvtgroup.com.au.

dVT Group is a business advisory firm that specialises in business strategy, turnaround, forensic investigations, and insolvency (both corporate and personal).