Lower construction costs offer hope to troubled building sector
Building costs are still rising but at the slowest rate since 2021, yet suggestions that struggling builders might be out of the woods are probably premature.
In an era when even the nation’s largest builders are operating on wafer thin margins, there is finally some evidence emerging that construction cost increases are easing.
Supply chains have been operating smoothly for a year and now the cost of raw materials, such as steel in particular and timber, is steadying or falling.
CoreLogic’s Cordell Construction Cost Index (CCCI), which tracks the cost to build a typical new home, returned a quarterly growth rate of 0.7 per cent for the June quarter, the lowest rate since September 2020 and well below the 1.2 per cent decade average.
The price deceleration will be welcomed by builders.
Australia’s construction industry is struggling with the highest rates of insolvencies since 2014.
After years of cashflow management challenges in an overheated market, construction companies are struggling to source capital as the market cools, and some projects are no longer feasible.
Highlighting the struggle to profit from even the largest projects, one builder generated $803 million in the 2022 financial year, only to bank $1.3 million in profit. Another made just $7.1 million in profit despite earning $1.34 billion in revenue over the financial year.
CoreLogic Construction Cost Estimation Manager, John Bennett, said while the national annual growth rate remained high, it was an improvement on last year’s 11.9 per cent, which was the largest annual index rise on record, excluding the impact from the introduction of the GST in 2000.
“While the annual growth figure remains high, it’s the lowest level it’s been since the 12 months to December 2021,” Mr Bennett said.
“The latest index figures will bring some comfort and reassurance to the beleaguered building and construction industry as we’ve seen two consecutive quarters of growth more in line with long-term averages.”
Despite the positive trend, Mr Bennett warned there was ongoing volatility within different product types, however, the significant increases of the past year had subsided.
Speaking to API Magazine, Julian Coppini, CEO – Project Marketing, of residential property developer Oliver Hume, said construction costs needed to come down to reinstate confidence into the industry for several reasons.
“Firstly, we need to give mum and dad purchasers confidence that construction cost pressures are abating, as feedback from our purchasers confirms nervousness that builders - notwithstanding the fixed price contract arrangements - will put their hand out for more money or potentially go bust in a rising cost environment.
“We believe this has been a major contributing factor in the established housing market performing much stronger than the off-the-plan market.
“Secondly, due to the aggressive interest rate rises, we are aware that borrowing capacity has been reduced by more than 30 per cent. This, combined with rising construction costs, increases the shortfall in funds required by a purchaser, therefore, stability in these cost pressures can only be a good thing.
“Thirdly, as noted above regarding fixed price contracts, stability in costs will ultimately mean less builder collapses because the builder will actually be able to complete the construction cost at the agreed fixed price.
“The builders that have gone bust are the ones who were required to fulfil fixed price construction contracts at a cost higher than the agreed fixed price,” Mr Coppini said.
Over the past two years, the cost of building a new home has increased on average by 28.2 per cent. In Brisbane, the worst affected city, this increase was close to 40 per cent.
Labour shortages also continue to blight the building industry.
Nerida Conisbee, Chief Economist, Ray White Group, said while cheaper materials are helping things, labour supply remains a problem with too few workers.
“Over the past quarter there were 33,100 job vacancies in the construction industry.
“This however is a reduction from the 40,000 vacancies 12 months ago.
“The number of jobs being created has slowed down.
“Migration has also helped with labour supply.
“A shortage of labour is likely to continue to be less of an issue over the next year.”
Jose Marco Williams, Client Relationship Manager at Perth-based The HMO Property Co, told API Magazine that Australia needed to be prepared to provide safe, clean, convenient and affordable housing so that it could remain competitive by attracting more foreign workers.
“The current situation was obviously exacerbated by Covid lockdowns and government interventions that allowed businesses to trade while insolvent.
“Many builders incurred significant losses and now are in a position to recoup their profits by increasing their production costs and somewhat justifiably so.
“Stabilised construction costs will play a major role in addressing the industry woes,” Mr Williams said.
Niall McSweeney, President, Cost and Project Management, Asia Pacific at Altus Group, noted that it was still a risky operational environment for builders.
“Tougher economic conditions and tighter liquidity means banks and other creditors are less willing to extend debt and equity funding - at the same time, the Australian Tax Office is actively seeking the repayment of around $45 billion in uncollected tax debt,” Mr McSweeney noted in a company publication.
“But many construction companies are operating on a very risky business model.
“New cash inflows have always paid down old debts but eventually the losses pile up and the liquidators are called in.
“Poor financial management is a key issue for many industry players. Stable construction firms with strong balance sheets will prevail and may pick up distressed projects left behind by those companies less able to navigate the volatile market.”
The combination of low building approvals and a burgeoning population has intensified the demand for residential properties.
Building approvals are currently at a decade low and it will take some time for the pipeline to build.
Queensland had the highest quarterly and annual growth changes of 0.7 and 9.9 per cent respectively, while Western Australia recorded the lowest increase at 0.5 per cent and an annual figure of 6.9 per cent.
“There’s been a significant drop off in dwelling approvals in the year to April, which will flow through to prices. As the level of residential construction work reduces pressure on material costs and labour supply is likely to reduce further,” CoreLogic’s Mr Bennett said.
When asked how important lower construction costs were in stabilising a building industry still beset with company collapses, Urban Development Institute of Australia’s President, Maxwell Shifman, said, “It’s not time to celebrate quite yet.”
“Slowing growth in construction costs is simply things getting worse less quickly.
“More predictability should provide greater confidence for builders and developers when assessing bringing new projects to market, which will be welcome relief after two years of unpredictability.
“But we are only talking about an abatement of cost growth, with minimal likelihood of substantial reduction, so new projects under consideration will need to achieve higher sales prices to be viable.”
Cycle of chronic undersupply
In comments that reflect the national housing conundrum, Damian Collins, Chairman of Westbridge Funds Management, said of the Western Australian market that building approvals went through the roof for a short time when all the COVID grants were put in place.
“Consequently, we also saw dwelling commencements increase significantly also in the period 12 months thereafter, where they averaged over 6,250 per quarter in 2021 (more than 25,000 for the year).
“This should all mean lots more supply shouldn't it? Yes and No.
“Ultimately the housing started will be completed and in the long run, it will mean more supply, however, dwelling completions have barely moved and sit at an average of around 3,600 per quarter (14,400 per annum) over the last two years.
“It is great to have a strong pipeline of work but if the building industry doesn’t have the capacity to deliver those homes in a timely manner, then we will continue to experience a critical housing shortage around the country.
“Without more apprentices and a growth in migration of people with trade skills, we will be stuck in the cycle of chronic undersupply for years and years ahead.”