In the economic and political uncertainty following the Brexit
referendum, there has been huge speculation about the impact on the
UK's construction industry.
Immediately following the vote we saw housebuilder share prices
collapse, the pound weaken, and concerns surrounding the impact of
Brexit on the supply of already scarce skilled labour. We have also
seen suggestions that the current climate makes the UK property
market more attractive to foreign investors, and that it may prove
to be a boost for the construction industry in the longer term.
Given this uncertainty, developers need to be alive more than
ever to the risk of contractor insolvency. Contractors are
particularly vulnerable to fluctuations in the economy because of
the time lag between pricing and carrying out the building works.
In a period of economic boom, rising prices of commodities and
fixed labour cut into contractors' profit margins. In
recession, although prices may be lower there is often lower demand
and a higher risk of insolvency further up the chain.
Developers can never remove the risk of contractor insolvency,
although it can be mitigated as far as possible by carrying out
initial due diligence and checking the contractor's covenant
strength. However, steps can be taken to reduce the possible
negative impact on the development from a contractor going bust
The bread and butter of a developer's protection will be the
more traditional methods such as performance bonds, parent company
guarantees, and collateral warranties with step-in rights from
sub-contractors (which allow the developer or other beneficiary to
take over the contractor's role in sub-contracts in the event
that the contractor is not keeping up its obligations), and these
will generally be required by funders.
It is important to also consider how the structure of the
development can lessen the potential impact of contractor
insolvency. For example, if there are distinct elements or sections
to a build, can risk be reduced by engaging multiple different
contractors? Developers can consider sharing risk by entering into
joint ventures, with the added benefit of the possibility of taking
advantage of another party's expertise or ability to provide
funding. Using technology such as BIM from the very start of a
project can prove vital in integrating and coordinating work in the
event that a new contractor is drafted in to take over
part-finished work following an insolvency.
Structuring a development carefully and imaginatively of course
has potential benefits far beyond providing protection against
contractor insolvency, and will allow developers to fully take
advantage of their opportunities in the new post-referendum
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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