Inflation in the Construction Industry – Insurance Considerations
It is well known that contractors operate on slim margins and are facing phenomenal challenges in the current climate. With the current inflation rate at a 40 year high, with a rate of over 10%, the bidding process is being severely impacted. It is becoming increasingly difficult to estimate future costs, add to this supply chain issues and frequent delays in getting materials to site, estimating the timeline to completion becomes particularly challenging.
Rates of inflation are not limited to the UK; this is a global problem and construction companies everywhere are feeling the effects. Timber prices have risen as high as 45% and fabricated steel 66%. This has been driven by material shortages and supply chain issues caused during the Covid-19 pandemic and new challenges from the Russia/Ukraine conflict. Government led infrastructure activity also has an impact, although HS2 and Hinkley Point have not escaped these problems either.
The increase in fuel prices has affected everyone, but construction sites run a lot of heavy plant including cranes, bulldozers, and dumper trucks so this increase has put further pressure on site budgets.
Staffing in the construction industry is not a new problem. In 2016, Mark Farmer undertook a review of the UK Construction Labour Model and wrote the ‘Modernise or Die’ report which identified key failings including more people set to retire or leave the construction industry than join it. Brexit and the rising cost of living has exasperated the effects. This in turn has driven up demand for staff and wage costs. Labour amounts to around half of the build cost, so is having an enormous impact on overall budgets.
Funding for projects is becoming increasingly challenging, with rising interest rates and lenders becoming more cautious over increasing build costs and project duration. This is particularly true of complex schemes.
As insurance brokers it is our job to guide you through the impact these increases will have on your insurance policies.
The first and most important consideration is setting sums insured on contractors all risks and latent defect policies. The estimated contract value needs to be set at the beginning of the project, but this needs to be reconsidered over the life of a CAR policy, especially if the project is due to run for several years. Compounded inflation can mean a substantial increase in build costs and subsequently premiums and this needs to be budgeted for (any inflation provision in the policy may not be adequate). While it may seem financially painful it would not compare to a loss where there was underinsurance and an average clause applied.
Latent defect insurers base the initial quoted premium on the estimated contract value, and some include the gross development value. Most insurers will ask for an actual contract value prior to final certificate sign off at the end of the project, which can mean an uplift in premium, some insurers work on the sales values for costing so if these rise from initial estimates, the difference in premium will be charged.
Latent defect policies have an uplift clause on the sum insured which will apply annually from inception of the defects period, usually the increase will be in line with the RICS Building Index or 5% per annum compound. In the current climate this cannot necessarily be relied upon.
Sadly, with these inflationary rises, it has of course increased the risk of construction companies going into administration or becoming insolvent. According to the Governments insolvency service, 4,165 construction firms became insolvent in the 12 months ending 31st March 2023. This amounts to nearly 1 in 5 UK insolvencies. These casualties range from SME home builders to large scale developers and construction firms.
At Vista Insurance Brokers we can assist with the structural warranty provision which may become void if the contractor fails mid project. We can consult with your insurer to try and find a solution or source a new retrospective warranty if needed. While it is a UK Finance requirement for warranties to be in force on residential contracts, quite often commercial projects rely on Professional Indemnity Insurance and Collateral Warranties. A commercial latent defect policy would provide protection from inherent defects from completion, therefore offering investors and developers more secure protection for their investment over the first 10 or 12 years.
Whatever your construction insurance requirements we have the expertise to ensure your project is fully protected and the best possible terms and premiums are sourced from the market.
To find out more on how Vista can help, get in touch with Sam Ferneley at firstname.lastname@example.org, Ross Hayden at email@example.com or give us a call on 0161 393 7111
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