New Zealand property data company OneRoof recently reported that far more companies would be liquidated in construction this year than in other industries. Although exact figures for failed builders have yet to be released, insolvency industry body Ritanz says construction accounted for 25% of company liquidations from January to May this year, more than double the 12% recorded by food and accommodation services, the industry with the next-highest rate. Figures provided to the media by New Zealand's Ministry of Business, Innovation and Employment (MBIE) show that 120 companies registered with the Companies Office under construction industry codes were liquidated in the first half of this year. For the corresponding period in the previous three years (1 to June), the figures were 128 in 2021, 95 in 2020 and 123 in 2019.
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Speaking on The Front Page podcast, New Zealand Herald property editor Anne Gibson said a combination of factors had created a perfect storm for the construction industry. She identified 6 different drivers: inflation, material shortages, exceptionally high workloads, labour shortages, difficulties accessing finance and the continuing effects of the pandemic. Together, these have exacerbated longstanding problems lurking beneath the surface. Even as the industry booms, their impact has left many businesses struggling to stay afloat. Media coverage so far appears to reveal only the tip of the iceberg of the industry's difficulties.
Bolen Ng, regional manager of MBIE's business registries division, recently said that around 89,469 companies currently registered with the Companies Office had selected construction industry codes. Construction companies liquidated in the first six months of this year represented less than 0.2% of that total. These businesses include residential and non-residential builders, heavy and civil engineering companies, and companies involved in land development. Ritanz chair John Fisk said there was no doubt New Zealand's construction industry was under pressure, and construction-related insolvencies were "quite high" compared with the past. Often, the risk arises because large construction contracts are undertaken by people with little capital to begin with. Once they secure substantial contracts, any problems can quickly leave them short of funds and lead to insolvency, so these failure figures are unsurprising. Fisk said rising construction costs, supply chain difficulties and labour issues were putting the industry under greater pressure. He put it bluntly: this could be a period when construction suffers more than other industries.
Advice for buyers
Fisk advises home buyers to thoroughly investigate builders' and developers' operations before signing a construction contract. When a building company collapses, it can trigger a domino effect, as subcontractors are also affected by the insolvency. Buyers need to understand who they are contracting with, including obtaining information about their financial position. That information may sometimes be difficult to obtain, but this is part of the risk: once a contract is signed, it is rather late to start investigating the builder's finances. Fisk also recommends carrying out credit checks beforehand and choosing builders with the strongest reputations or the lowest debt relative to their assets. Buyers can use the Companies Office to see which other companies the business's principals own or are associated with. A company search on its website readily shows whether a company is in liquidation or receivership, or has previously been removed from the register. If a principal owns companies that have been liquidated while continuing to operate others, buyers should investigate whether those liquidated companies were solvent. Builders often set up so-called special-purpose companies for individual construction contracts to manage risk. For example, a builder undertaking a NZ$20,000,000 project may register a new company to run it, reducing the risk of problems at any stage dragging down the entire business. Sometimes, they opt to enter liquidation after the contract has been completed.
Auckland lawyer Joanna Pidgeon said the accepted practice when buying off the plans is to hold the deposit in a solicitor's trust account. If the company fails, buyers can still recover their deposit, but they are back at square one. Prices may have risen in the meantime, leaving them without the benefit of buying earlier. She also warned that recovering a deposit could take time if a developer is liquidated, as the liquidator may want to sell the project as a going concern, "so you may not be able to simply cancel the agreement and walk away".
A construction contract with a builder differs from an agreement with a developer: buyers pay the builder a deposit and construction costs in stages. Pidgeon advises buyers against paying everything upfront, so they retain enough money to finish the build if their builder becomes insolvent during construction. She believes buyers should carry out due diligence beforehand, including checking the builder's industry reputation and credit history. Buyers need to understand that companies of any size can fail, large or small. For a construction project, they need answers to questions such as: does the company have licensed building practitioners? How much building experience does it have? How many employees are available to complete the project? Once construction begins, she recommends visiting the site regularly to check progress and talking to subcontractors. Subcontractors not being paid on time is often an early warning sign of a builder's insolvency. She also suggests that people without construction experience consider hiring an independent project manager to oversee progress payments and effectively monitor the project's delivery.
Although Pidgeon said none of her clients had faced these situations so far, independent economist Tony Alexander believes the construction industry is undergoing a "correction and review". Too many people have thrown themselves into property over the past few years. Although councils have issued record numbers of building consents, he believes soaring material costs mean many projects will not be built.
Advice for builders
To discuss the difficulties currently facing New Zealand's construction industry in greater depth, YIJU again spoke to Frank Xu, president of the New Zealand Chinese Building Industry Association.
Q: What do you see as the biggest difficulty facing building companies at present? Are there effective solutions?
Frank Xu：The biggest difficulty building companies currently face is market risk, caused by a combination of material shortages and price rises, shortages of skilled workers, a weak property market and falling house prices. As the saying goes, know yourself and your opponent, and you will never be defeated. Building companies should work from their own circumstances and characteristics, build on their strengths, address their weaknesses and fully understand market risks so they can manage them sensibly. This includes finding ways to avoid construction cost increases caused by shortages of materials and skilled tradespeople. They also need to understand the difficulties buyers and developers face, make sound judgements and adopt appropriate approaches to collaboration and management to get through the current challenges. For example, councils responded to material shortages by quickly approving a range of alternative products for builders to use. During the recent GIB shortage, several companies imported plasterboard from other overseas markets and quickly obtained government approval. This will help local businesses manage the risk of material shortages.
As mentioned, the government and authoritative industry bodies can help businesses through difficult times, but most risks still need to be managed by the businesses themselves. Take contracts: it would clearly be unwise for builders to keep signing fixed-price contracts with fixed completion dates when material shortages and price rises could leave them bearing all the risks. Builders therefore need to minimise risk from the contract stage and manage it effectively throughout the project. Why not sit down with your clients and draw up a practical long-term plan, identifying which materials might be in short supply and how far in advance they need to be ordered? Plan ahead.
To sum up, builders need to fully understand and make good use of new government policies and emergency measures to help them through these difficulties. They also need to manage risk from the contract drafting stage and put their plans into practice effectively.
Q: If, in 2022, more construction companies face insolvency, what is your outlook for the industry in 2023?
Frank Xu：The years from 2022 to 2023 are extremely challenging for New Zealand construction businesses. But I believe opportunities and challenges coexist. Businesses that improve their management and ability to withstand risk will be able to navigate this exceptionally difficult period. It will also be a process of industry consolidation. In fact, every cyclical downturn in property brings a reshuffling of the industry.
As a strong source of support for New Zealand's Chinese construction community, we at NZCBIA hope to provide the most effective help through our seminars, practical articles regularly published on YIJU's WeChat official account, and events such as next month's building expo. We want to help everyone recognise these risks and learn how to avoid and manage them sensibly. We welcome you to Vodafone Event Centre on 19–20 August for this annual gathering of New Zealand's property and construction industries. I believe you will find the answers you are looking for at the expo.