How?
The most inevitable reason for the insolvency of construction business is the relatively standard delay between work being carried out and payment being made. Staged and milestone payments, or the ordinary payment cycle as envisaged by the Scheme for Construction Contracts (England and Wales) Regulations 1998 as often implied and/or amended in construction contracts means that payment is often made in arrears and those payments are subject to employer valuation resulting invariably in cashflow issues.
Additionally, as a result of the highly competitive nature of the construction industry, construction businesses often win tenders based on their price being the lowest. The net effect of this is that margins are tight, unavoidable issues such as delays, or increased costs of material and labour for which the contractor is responsible quickly eats up any profit that may have been available.
Complexity and fragmentation in the construction supply chain can exacerbate the risk of insolvency as disputes anywhere along the chain can cause delays and defects, the effects of which can cascade and cause financial difficulties including insolvencies for parties that should otherwise have been relatively financially healthy. One project's supply chain can then therefore affect other projects as, given the industry's reliance on subcontractors and forms of temporary labour, the same party may work on multiple projects at a time and have to suspend works on all or some of them as a result of a single (or limited number) of other parties' insolvencies.
Of particular relevance in the current economic and political climate is the seemingly ever-rising costs of materials (without an uptick in fluctuation clauses featuring in construction contracts), as a result of a myriad of issues including material shortages, shortages of skilled labour, and rising inflation and high interest rates caused by macro-economic factors.
In summary, construction insolvency is sadly increasingly common and an increasing cause for concern, driven by a combination of economic and political volatility, fierce competition, late payments, supply chain complexities, and legal pressures.
When?
Given the threats to a company's solvency mentioned above, insolvency really can arise at any time during the lifecycle of a construction project and on any sized project and so those involved in a construction project should be alive to a number of early indicators which might suggest a company is struggling to maintain solvency:
- unexplained delay and/or failure to meet key contractual milestones;
- unexplained withdrawal of labour / plant from site;
industry rumours; - payment issues: out of character / unusual concern or attention to payment mechanism / out of sync payment applications / failure to pay on time or at all;
- direct contact from sub-contractors asking for payment;
- winding-up petitions being filed at Court.
The above list is not exhaustive and wherever you sit in the chain, maintaining an open dialogue upstream and/or downstream as applicable could be key.
Where?
No contracting entity is immune from the threat of insolvency during the lifecycle of a construction project but there are certainly more common places to look for it / keep an eye out for it. Typically, at the top of the chain, insolvency in developers / employers may be least likely and this is as a result usually of access to funding streams (bank funding, inter-company loans, etc.).
Insolvency then becomes more common the further you look down the supply chain. Main contractors typically have a single source of project funding from the developer / its employer but this funding will be potentially vulnerable to valuation disputes, withholdings, and liquidated damages in the event of delay or other breaches.
As a result, insolvency in sub-contractors is increasingly common. Sub-contractors' applications for payment will be subject to the same valuation and withholding issues as main contractors' applications are, but payment of their applications may well also be susceptible to issues with cash flow upstream.
