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Building Materials Shortages and Increased Prices: A Practical Guide

  • United Kingdom
  • Construction and engineering
  • Litigation and dispute management

11-06-2021

Introduction

In previous articles, issued in the first year of the pandemic, we highlighted the possibility of construction materials increasing in price due to global shortages and increased demand.

As the world begins to lift COVID-19 restrictions, inflation continues to rise steadily. Construction industry bodies in the UK and around the world have recently begun warning that there are major challenges ahead linked to material shortages and increased prices.

Last month the Construction Leadership Council issued a statement which highlighted the increased pressure on availability, lead times and prices of materials, which are being felt most acutely in a number of key areas; timber, steel, pitched roofing and paints/coatings. They also noted that bagged cement and electronic components were ‘growing areas of concern’.

It was reported last month that the cost of shipping a 40ft container from Asia to Northern Europe increased from $1,500 in summer 2020 to more than $8,300 in May 2021.

On 12 May 2021, British Steel unexpectedly announced that it would temporarily close its order book and stop taking new orders. These measures are understood to be temporary, but are an indicator of the pressure which the sector is under. British Steel has not yet announced that it is ready to take new orders.

The Timber Trade Federation has reported that Sweden’s timber’s stocks, which supply almost half of the structural wood used in the UK, are at their lowest levels for over 20 years.

In addition, the Brexit arrangements require that, from 1 January 2022, all new construction products on the UK market must be branded with a UKCA marking, rather than the previous CE marking regime. The switchover to a new system has led the Construction Products Association to warn that the industry could ‘run out of construction materials’.

This is all in the context of an extremely buoyant UK construction market. Last week, IHS Markit reported that construction works are at their highest levels since September 2014.

Well advised parties to construction contracts will have considered the impact of material unavailability and increased cost at the outset. Some may have hedged their exposure by widening their supplier base or had the foresight to enter into a long-term pricing agreements with their suppliers. The longer and more complicated a construction project is, the greater the risk that these factors will have an impact on the project’s time for completion and eventual cost. 

In this article, we will discuss how the risk of increased price of construction materials are generally dealt with in construction contracts, and provide some practical guidance for parties faced with this issue.

Allocation of risk on construction projects

Some construction contracts will expressly allocate the risk of price increases in construction materials. These may entitle the contractor to claim an increase in its prices based on changes to its actual costs, or by reference to an external barometer (e.g. the rate of inflation).

Where no such clause exists, the risk for price increases will generally sit with the contractor, and the employer will enjoy a relatively strong contractual position.

We set out below the four main methods of procuring construction projects, identify where the risk will generally lie under these forms of procuring works, and give examples of these contracting arrangements.

 

Method of procurement

Party usually bearing the risk of price fluctuation

Example form of Contract

Lump Sum/Fixed Price

Contractor

JCT Design & Build Contract 2016

 

Target Cost

Both parties – depending on the pain/gain mechanism

NEC4 Option C Engineering and Construction Contract

 

Cost-Plus

Employer

IChemE Green Book (fourth edition).

 

Engineering, Procurement and Construction (EPC)

Contractor

 

(although it is common to have index linked provisions in long-term construction contracts and/or contracts in locations with a history of currency or inflation rate)

FIDIC Silver Book 2017

 

 

Even where a right to recover additional costs exists, Contractors will still need to consider whether there are any mitigation strategies available, and should communicate and document any decision making process in this respect.

Commercial risks

For the reasons set out in the section above, it seems inevitable that in the short to medium turn, the price of construction materials will continue to rise. This price rise will in turn give rise to greater commercial risks, which could be in the form of:

1.   Increased insolvency risk. Given the difficult economic climate and already tight margins, an increase in the price of materials will increase the insolvency risk at all levels of a construction project; and

2.   Increased cost claims: either brought under express contractual mechanism (discussed below); or within claims for additional costs arising out of delays or variations.

 Our view is that it is in the interests of all parties on the project to seek to resolve the issues as early as possible to avoid conflict.

Material shortages

In extreme circumstances, material shortages (in contrast to mere price increases) could result in site closure or shutdown. In these circumstances, it may be possible for a contractor to seek relief under the force majeure provisions of the contract, or argue that the contract has otherwise been frustrated. However, in order to successfully claim relief, a contractor will likely be required to demonstrate that it is impossible for them to progress the works, due to circumstances outside of their control. This situation seems unlikely given that most construction sites in the UK have successfully (and in many cases impressively) been able to remain open despite the pandemic.

In our view, in all but the most extreme circumstances, material shortages will merely push up prices, leading to claims for additional costs, as identified in the sections above.

Advice to Employers and Contractors facing increased costs

Stakeholders at all levels will hope that the shortage of materials in the construction industry eases in the short term future.

For those about to enter into construction contracts, consider how the drafting of your contract operates when important materials are unavailable or there are significant increases in the price of those that are available.

An extended period of increased materials prices will lead to contractors pricing an increased allowance for material price increase into their tenders and a huge amount of pressure being placed on sub-contractors further down the chain, who may already find themselves between a rock and a hard place of having to pay exorbitant prices for materials or risk turning down work in a difficult financial climate.

For those parties already working on existing projects, facing potential cost increases and material shortages, there are a number of practical steps to consider:

1.   review the contract, in order to identify where the risk of cost increases lie, and whether there are any steps that need to be taken before a claim can be raised (e.g. notices)

2.   consider mitigation strategies, and whether alternative materials can be sourced for cheaper

3.   keep records, of any cost increase or potential cost increases, including documents and correspondence which highlights changes in unit prices