BusinessAugust 6, 2018

How to stop construction companies going under when they should be busy building


In the middle of a building boom, construction companies keep going out of business. Leonie Freeman explains why it’s happening and what we can do about it.

It’s hard for many of us to square: while we seem to be on the brink of a house building boom, construction companies are falling over. It’s like striking famine in the midst of plenty. So what’s going on?

Some huge aspirational targets have been set to fix the housing crisis: Kiwibuild’s target of putting up 100,000 ‘affordable’ houses in the next 10 years (50,000 in Auckland); and Housing New Zealand’s announcement last year of 34,000 new houses for Auckland by 2027.

It’s obvious that demand far exceeds supply. More than 35,000 people registered for Kiwibuild in the first month. Over 7,500 families formally expressed interest in the shared equity schemes offered by the non-profit Housing Foundation. The latest National Pipeline Construction Report estimates that dwelling consents are expected to exceed historic highs, reaching 43,000 in 2023 (with a construction value of $26.6 billion). And the non-residential sector (hotels, offices, retail outlets and industrial buildings, etc.) is forecast to grow to a peak of $8.4 billion in 2019.

With targets like these, how is it that construction companies – big and small, residential and commercial – are going bust when they should be thriving?

First of all: spare a thought for the business owners who have lost their businesses, and the staff who have lost their jobs; the personal impact on the impacted families and their wider communities is huge.

Then, let’s put the blame-and-shame instinct to one side long enough to appreciate that development is risky and complex. Sure, property cycles can mean that one development with perfect timing will make a significant profit but there are many other developments which barely break even or worse.

To achieve a successful development project there are a lot of levers that have to be pulled. And they all need to be pulled at more or less the same time. This requires an unusual skill set.

The skills begin with the commercial ‘smarts’ to conceptualise an opportunity where it doesn’t currently exist. Then, the developer needs to be able to bring everything together – understand demand, develop a concept, lead a strong team of professional experts, ensure that the financials work, work out the master plan, obtain consent, fund deals and oversee the marketing and sales strategy. And that’s all before the construction phase.

To understand how challenging the whole process is, we need to confront the reality of risk, which is the key issue for developers and construction companies. The key risk factors include:

  • Development is a long-term play – particularly for the larger developments which span many years, so developers may have to manage a project through multiple property cycles.
  • Funding can be a challenge for the more complex, long-term, large-scale projects. It’s a capital-intensive process and the challenge is to secure lines of credit over a long-term time frame.
  • And where do you go for the funding? We saw the collapse of a number of finance companies after the global financial crisis. Finance companies were the main source of second-tier development funding. Even now, a decade later, the banks aren’t totally filling that gap.
  • Construction projects are tendered, but cost escalations, shortage of materials, lack of capacity within the construction industry all have the potential to impact the successful outcome of a project.
  • There’s an infinite potential for delays: from consent and sales to weather and contamination. All of these factors have the ability to impact the potential feasibility of a development project.
  • In the housing sector, prefabrication is considered a key initiative to solve the housing crisis. And it is! But the challenges for the sector include meeting compliance and regulatory requirements; consenting delays; financing difficulties; and delays in securing large-scale government projects. All of these have put pressure on the sector.
  • On top of all this is the potential for basic human misjudgement. In a highly competitive market, developers ‘sharpen their pencil’ and quote a fixed price that doesn’t allow for any reverses over the course of the development and may not produce the sort of margins needed to sustain a business. Winning the tender on this basis becomes a Pyrrhic victory – you win but you lose.

Property development is like a messy, real-time Rubix cube: to successfully put big development projects together, everything needs to come into line. A change in one area of the development process can have an impact on many other parts. So to ensure the supply of property this country desperately needs, we need to rethink how the market works and look at models that work for all involved.  

We can find answers to the complex web of challenges associated with large-scale development. Generally speaking, we won’t find them by reflexively pointing the finger of blame. To be clear, I’m not saying we shouldn’t apportion blame when it can be shown that greed or fast practice or incompetence are at work. But our priority has to be to produce solutions that will reinforce the confidence developers need if they’re to commit to the building we desperately need in order to house our people.

I’m convinced that our process has to be based on partnership – meaning everybody in the building and development waka shares ownership of the problems and shares responsibility for coming up with constructive solutions. We’ll start getting somewhere when all the players – government, council, iwi, developers, the community housing sector, and the finance community – focus in a common effort to resolve the barriers and blockages that exist.

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Mad Chapman, Editor
Aotearoa continues to adapt to a new reality and The Spinoff is right there, sorting fact from fiction to bring you the latest updates and biggest stories. Help us continue this coverage, and so much more, by supporting The Spinoff Members.Madeleine Chapman, EditorJoin Members

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