This sharp increase in building materials costs affects the delicate nature of the housing sector, with severe implications to homebuilders and development finance lenders.
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According to the Office for National Statistics, prices for wood, cork, straw, and plaiting materials have been on the increase since April 2020. The construction materials price index is at its highest point since records began in 1996. On top of the supply chain crisis, HGV-driver shortage is adding to delivery problems and hitting the supply of materials like cement, concrete roof tiles and bricks. This significant uptick in building materials costs affects the delicate nature of the housing sector with severe implications to homebuilders who commit to contracts months in advance of price changes. So, how are development finance lenders adjusting to navigate this?
Our lending manager and senior underwriter, Daniel Netzer, explains that “in an ever-changing climate of rising building material costs, lenders should pay very close attention to the contract between the borrower and the contractor. Ultimately, rising material costs threaten homebuilders’ ability to complete the project while maintaining a profit.”
Thinly capitalised developers may not be able to, or want to, absorb additional costs under ‘fixed-price’ contracts, particularly in high-demand markets where there’s an incentive to just walk away for more profitable works.
Generally, there are three ways lenders have adjusted and changed their lending criteria in the face of this problem to navigate the new more uncertain price environment. “The first way is to require higher contingencies and contingency reserve accounts,” highlighted Daniel. “The second way is more integration on supply chain and materials used on site (eg where are the bricks made? Are tiles made in Turkey or in the UK?) The third way is by an increased focus on the financial standing of the borrower’s main contractor.” So, our advice to borrowers right now would be: make sure you are using a contractor of fixed price and that you are comfortable they can deliver. In addition, ensure that your risk as a developer is one that you are comfortable with and, finally, and most importantly, check that your numbers are strong enough to sustain sudden and unforeseen price rises.