Can building contracts protect you from Covid, product shortages and rampant inflation?
The building contracts most residential builders depend on have provided good protection from the unpredictable disruption caused by Covid-19. But there are more turbulent times ahead, and you will need to adjust the way you work.Building contracts legal specialist Geoff Hardy says standard form contracts provided by New Zealand Certified Builders and Master Builders have allowed builders to complete projects without significant legal issues – despite strict lockdowns, long delays to work schedules and an acute shortage of building materials.
Delays, cost increases
Even when a contract specifies a fixed price and fixed completion date, there are clauses in the standard contracts that allow for changes on both counts.
“There are a number of provisions that allow for an extension of time. The most pertinent one concerns ‘any laws passed or government regulation’ which affects your ability to get on with the job,” says Geoff.
“Another big question is, can builders pass on the increased costs that Covid gave rise to? In a fixed price scenario, there are a number of ways that the price could be adjusted.
“For example, any provisional cost or PC sum where both parties have agreed that there was uncertainly about the cost of a specific component of the build, means the builder can pass on any increased cost above the PC estimate.
“Likewise, if the builder could not get a fixed price from a subcontractor or supplier when he first priced the job, then, if the contract contains a cost fluctuation clause, the builder should be able to pass on that increase to the owner as well.”
Due to worldwide supply chain disruptions, shortages of many building products continue to be an issue. However, the standard contracts have clauses that allow for substitution of the product specified initially (with conditions), if that product was unavailable.
Geoff says that while it’s reassuring that existing contracts provided good protection under extraordinary circumstances, “there were one or two possible areas of exposure, so I wrote a special set of Covid clauses to plug any remaining loopholes.
“In the case of NZ Certified Builders, the original contract pretty much covers 90% of exposure, and the additional clauses cover the remaining 10%.”
Master Builders chief executive David Kelly says their standard contract “has been developed as a best practice contract for the New Zealand market and includes a provision for price fluctuations.” Nevertheless, he stresses extra caution and encourages frank dialogue when builders and clients discuss projects.
“We are experiencing global disruption, creating unpredictable and rising material costs. This makes it very difficult to determine exactly how much a build will cost. The key for builders is to communicate and be upfront and honest with their customers”.
Banks won’t lend unless it’s a fixed price?Geoff Hardy believes banks are out of step with the new market realities the building industry is facing.
“Let’s be honest, in this day and age, if someone chooses to start a building project, it’s ludicrous to think you can lock a builder to a fixed price or completion date knowing the costs are going to escalate rapidly and materials aren’t going to be available.
“The banks are quite naïve, and they lack a commercial understanding of the realities of the market at the moment.”
Is the option of including a large contingency in the contract a possible solution?
“The banks understand that, and it is reasonably common. It always worked in the past when we were in a normal environment, but we’re not in a normal environment anymore, because the cost increases are horrendous.”
Geoff believes most successful builders are “pretty resourceful and are getting by these days doing business on a simple basis: I’ll order the materials now, sign the contract now, the materials won’t arrive for nine months or whenever, that’s when we can start the project.
“Most customers are waking up to the reality of the situation, and they’re going with that.”
NZCB chief executive Grant Florence has seen an increasing prevalence of a 'buy now' culture in contracts to ensure projects can get some certainty.
“I’ve seen contracts requiring the builder (or client) to purchase the materials upfront right now and lock that section of it in. If the owner or the builder has the cash flow to do that, then that’s a great solution, but small builders and most clients don’t have the cash flow to work that way.”
There will be those who say I can’t do this anymore; it’s too hard. My concern is that they’ll leave the industry, and we can’t afford that.
What happens to your workforce when you can’t work?If your project comes to a halt because you (or your subcontractor) can’t get the materials you need, who pays the wages?
“If the builder doesn’t have another site to deploy employees to, or if the second site is on hold as well, there’s no option but to make redundancies,” says Geoff.
"Many of the builders I talk to are planning to scale down their operations. They’re finding this Covid situation and shortage of materials is way too demanding to manage. So instead of having four projects on the go, they’re cutting down to two.
“There will be those who say I can’t do this anymore; it’s too hard. My concern is that they’ll leave the industry, and we can’t afford that.”
“That will mean putting off staff. Other builders will snap them up because the demand is so high, so I don’t see any mass redundancies in the industry.
And for some, the option of relocating to Australia will be attractive given the higher wages there.
“So there’ll be fewer resources here to meet demand, and that will be an ongoing problem.”
Grant Florence has the same worry: “We’ve had nearly five great years of good solid demand, and a lot of builders expanded their geographic reach, having different gangs working outside their traditional area, but we’re seeing them scaling back now.
“Builders are going to have to look at how they plan their jobs, be flexible and do things out of schedule. Having said that, there will be those who say I can’t do this anymore; it’s too hard. My concern is that they’ll leave the industry, and we can’t afford that.”
Product shortages criticalNew Zealand Certified Builders did a survey in February among their regional leaders in the network, asking them to rate materials supply availability across the country.
“We asked them to rate materials supply from 1 to 10... 1 being all good, 10 meaning jobs have stopped and all progress has halted,” says Grant Florence. “The results came in across the country at 7.5, so it’s a substantial issue.
“I think builders are fairly innovative, and they need to be. They will have to constantly review their building schedule, shift to another part of the construction and do stuff out of sequence to keep their teams going.
“There’s been a lot of finger-pointing at the merchants, but they’re in the same difficult situation as everybody else. Supply shortages… anybody that tells you they know when it’s going to finish is talking rubbish. I don’t think anyone really knows.”