In this article, Stamford Capital’s Domenic Lo Surdo outlines why sticking with trusted advisers during this “perfect storm” of rising rates and construction costs is the clear course of action.
First, it was Privium and BA Murphy. Then Probuild and Condev earlier this year. And less than a month ago, Sydney-based Next filed for administration, the latest casualty to the rising cost of materials, labour, supply chain issues, and lockdown delays.
This trend of insolvent builders is nothing new, and in fact, construction has always had higher levels of failure compared to other industries.
Throughout the pandemic, the sector had largely been propped up by JobKeeper and the moratorium on insolvent trading but without this safety net, which ended March 2021, builders are now facing a correction that we believe will take them past historical trends.
A perfect storm
Headline inflation is currently running at 5.1 per cent with construction sector inflation set to hit 9.5 per cent to June 2022 and 6 per cent over the year to December 2022.
With the perfect storm of rising interest rates and construction inflation wreaking havoc on investor and lender confidence, this could be the sign the sector needs to shake things up.
Builders have traditionally been vulnerable to these risks, working on extremely tight margins—no more than 5 per cent—with no substantial wriggle room for blowouts in costs.
Recently, bankers have acknowledged their role in passing too much risk onto the construction sector in the past, insisting on fixed price and fixed time contracts.
Now with rise and fall provisions in contracts, they’re helping to carry some of that burden. There is definitely a shift in the willingness of financiers to share some of the cost risk with builders and we are starting to see developers softening on this front also.
Our partner company, Spectrum Retail Group, a convenience retail property developer is one such company having open discussions with builders to understand how much costs have blown out.
These are examples of stakeholders coming together to share risk as well as reward.
Complexity of commercial property market
Much has been said about the impact of this cocktail of factors on the residential property market, but how has the commercial property finance market been affected?
We’re still feeling the effects of a heavily liquid market, which is keeping margins and pricing competitive. However, lenders will likely increase rates with compounding risks, reducing the capacity of borrowers to service debts, and leading to asset prices softening—just as we’ve already seen with the residential property market.
Assets that cannot pass on inflation costs due to their fundamental structural issues, such as retail developments in the city, office markets and regional shopping centres, will likely begin to soften.
Banks are likely to begin to pull back on construction deals for lower-risk transactions. We’ll begin to see a flight to quality: lenders will flock to safer deals, less likely to work with inexperienced developers and builders, as well as owners of commercial assets.
Non-bank lenders will push to cover ground where major banks have retreated, but there’s risk for clients if they don’t have enough margins for when liquidity tightens.
The complexity of the commercial property markets means that it’s not only about the best rate—and this is especially true for construction deals.
Due diligence for both lenders and borrowers will be utterly crucial with lenders relying on trusted advisers such as quantity surveyors, valuers and project management firms to assess risk.
Borrowers can lean on their specialised commercial broker for support when navigating this complex market.
Brokers with experience finding finance for construction projects, know the lenders that can weather tightening liquidity and the builders who have passed due diligence.
At Stamford Capital, we have seen many clients affected by the current turbulent climate.
Clients needing more time and additional capital as sudden delays and construction costs increase. Clients needing construction refinancing to ensure they could meet the overall cost of demands after their builder went into liquidation.
We’ve helped clients affected by these challenges meet looming deadlines set by their original financiers. And we’ve continued to build strong relationships with lenders keen to back committed developers and solid projects.
In times like this, you need certainty in commercial property capital.
Stamford Capital is Australia’s leading commercial property brokerage with the national scale, reach and strong relationships across the complete lender market to find our clients the best finance solutions for their needs.
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