Signs your builder might be facing financial stress; how to recognise and mitigate the risk of insolvency

In the current realm of the Victorian construction Industry, navigating the complexities of project development involves important oversight. With interest rates at an all-time high, construct materials and labour costs going through the roof and suppliers’ lead times blowing out, the impacts of Covid 19 on the industry (just to list a few) there are a lot of financial pressures on Contractors, Subcontractors, Suppliers and through to the Developers.

With the woes of the current economy and the list of builders going bust week by week, recognising the early signs of a builder’s potential financial distress and implementing strategic measures to mitigate these risks is essential for safeguarding your project’s success and finances. This opinion piece draws on the personal experiences of Hub’s Project Managers and delves into these signs and outlines a comprehensive approach to risk mitigation, aiming to serve as a basic guide for construction project stakeholders.

Recognising financial distress

Financial instability in construction projects can manifest through various indicators, each requiring cautious observation and prompt action by the project team:

1. Project delays: Delays in construction projects are not uncommon, but when they become habitual without clear, communicable reasons, they can be symptomatic of underlying financial struggles. Such delays might stem from the builder’s inability to manage cash flow effectively, leading to difficulties in procuring materials or paying subcontractors on time. This may also include delayed letting of subcontractor trade packages. Stakeholders should monitor these delays closely, as they can indicate a builder’s deteriorating liquidity or poor project management capabilities, both of which are red flags.
2. Communication breakdowns: A builder that suddenly becomes less forthcoming about project progress or challenges may be attempting to conceal internal problems. This shift might include less frequent updates, evasive responses to direct inquiries, or an overall reduction in transparency. When communication standards deteriorate, it’s often a defence mechanism against revealing financial instability or operational issues that they are struggling to manage.
3. Project Team – Moving personnel: In construction projects, frequent changes in the builder’s staff, such as site managers, project managers, and contract administrators, are often observed. This turnover can indicate several underlying problems within the construction firm, potentially signalling job security concerns among the staff or other internal issues within the company. Such patterns of departure might provide valuable insights into the company’s stability and forecast possible challenges ahead.
4. Labor and subcontractor instability: The construction site itself offers visible cues to a builder’s financial health. A reduction in the workforce or seeing different subcontractors cycle through a project could indicate problems with paying wages or settling accounts. A messy Construction site is also an indicator. Consistency in labour and subcontracting relationships is typically a sign of stable operations and financial health, making any volatility in this area a concern.
5. Compromised quality and procurement delays: Deterioration in workmanship or material quality, alongside delayed procurement of essential resources, is revealing signs of financial strain. Such practices not only endanger project standards but also hint at attempts to alleviate cash flow pressures. The contractor may also aggressively rush trades to cover up concealed areas that may be of concern this may include as an example rapid plastering across the site to conceal potential issues in trusses, frames, rough-ins walls and ceilings.
6. Delayed payments to subcontractors and suppliers: Timely payments to subcontractors and suppliers are crucial for maintaining a healthy construction environment. Delays or defaults in these payments can quickly lead to a domino effect, causing work stoppages and eroding trust. Regular feedback from these parties can provide early warnings about a builder’s financial woes.

Mitigating risks

To counteract these risks and ensure project integrity, stakeholders must adopt a multifaceted approach:

1. Certifications & warranties: Mandating comprehensive documentation, including certification, and warranties is important to have on hand in the event the builder is no longer solvent. This will ensure a smooth and streamlined process when obtaining a new builder providing confidence and drawing the line in the sand with works carried out to date. At the end of the day, no builder would want to deal with the stress of managing and remedying another builder’s poor workmanship.
2. Transparent letting and procurement schedules: Implementing and enforcing detailed letting and procurement schedules ensures timely engagement with subcontractors and suppliers, reducing the risk of delays. These schedules should outline key milestones and be included in the Principal’s Project Requirements. This information will be important and would allow the Project Manager to closely monitor trade letting for adherence and seek clarification on shortfalls in durations and target dates. Construction Programmes should be submitted monthly to the Project Manager for review. The Project Manager will need to review the programme ensuring no trades are re-sequenced or altered without approval from the Project Manager/Superintendent.
3. Contractual diligence: A thorough review of the construction contract can reveal protective clauses and mechanisms for addressing potential financial issues. These measures may state the Principal’s rights under the contract and what options are present ranging from Principal set offs and contract termination. The Principal must seek legal advice to discuss options when the abovementioned risks present themselves and/or the developer is suspicious of their builder’s financial health.
4. Quality inspections and legal preparedness: Engaging independent defects consultants and project consultants for quality inspections and seeking early legal advice can prepare stakeholders for navigating through potential builder insolvency, ensuring that project standards are uncompromised and legal options are understood.
5. Financial controls and open dialogue: Exercising financial control, such as withholding payments or implementing set-offs where justified under the contract, should be balanced with maintaining open communication with the builder. This dual approach facilitates collaborative problem-solving and helps maintain momentum, even in the face of challenges. This can be guided by a construction lawyer.

In conclusion

The construction industry’s inherent uncertainties demand a proactive and informed approach to project management. By recognising the early signs of a builder’s financial distress and implementing strategic mitigation measures, stakeholders can navigate these challenges effectively and reduce the developer/client’s financial risk.

This comprehensive guide emphasises the importance of good project management practices involving vigilance, transparency, and collaboration in ensuring the success and integrity of construction projects. Through detailed planning, monitoring, and communication, stakeholders can safeguard their investments against the risks posed by financial instability in the construction sector.

If you have a distressed project or after-project management services and would like to discuss your project needs or requirements, feel free to reach out to us at: michaeler@hubpg.com.au or on the mobile: 0435 950 965.

We hope you found this insightful and helpful.