CQS Solutions’ Tim Lloyd explores the current high wire act of balancing cost certainty in contract negotiation with rising prices and short supply.
We’re all scratching our heads over how to handle the impact of our soaring inflation rate and the resulting rise in interest rates. With inflation hovering at the 8% mark and interest rates likely to increase even further, our business of providing cost certainty and improved margins is as challenging now as it has ever been in our 15 year history. Add to that the disruption in the supply chain and shortages in the materials market and it’s not surprising that trying to pin down all those variables in one calculation is practically impossible.
Inflationary environment
Our clients and contractors are familiar with operating in an inflationary environment. Although the current inflation rate is unusually high, there have been several periods in the last 20 years when prices have risen at well over the Bank of England’s two per cent target.
But what makes the current situation so unpredictable is the perfect storm of a shortage of materials, unprecedented demand and delivery delays. That overall disruption in the materials market place has the knock-on effect of pushing up prices and fuelling inflation even further. As a result construction projects have been delayed, construction material prices have continued to rise and construction companies already operating on reduced margins are struggling to complete projects on budget.
And there’s no short term prospect of the situation improving. The Office of National Statistics has forecast a further increase in prices with products such as timber expected to double and cement increasing by up to a third.
It all adds up to the fact that construction projects are costing more and taking longer. But how can we quantity surveyors take all those unpredictable factors into account to give our clients cost certainty.
Factor in flexibility
The simple answer is that at the moment we can’t. However, what we can do is factor in the uncertainty into flexible multi-step contracts with provision for price fluctuations, variations in inflation and material shortages to give our clients the best chance of bringing in projects on time and on budget.
Those involved in and preparing for contract negotiation need to recognise reality and factor in the risk of increased costs and delays. At the design stage this could include specifying materials that are less likely to be delayed and are cheaper to source. Identifying multiple suppliers also helps to share the risk of delays or shortages.
Having a flexible approach to materials is also useful, recognising that some materials may not be available or be too costly and including a clause that allows alternative materials to be used in these circumstances.
Contracts should include a fluctuation clause covering increased costs in materials, labour and energy plus some flexibility in the programme to allow for delays caused by labour shortage or supply delays.
Collaboration is key
At the same time, contract negotiations must recognise that all parties involved face the same challenges and risks. Straightforward initial discussions on the issues involved are vital if contracts are to be future-proof. It is in no-one’s interest if the rigid terms of a fixed, one-stage contract force the contractor or sub-contractor to collapse. And there is also increasing evidence that negotiations over terms and conditions are intensifying and contractors are walking away from negotiations if they feel the contract will leave them struggling to break-even.
Collaboration at all stages of contract negotiation is vital. All those involved are looking for cost certainty. That can’t be guaranteed but the next best solution is to recognise and assess the risks at all stages. Then it can be shared out honestly and fairly in a transparent agreement that provides everyone a fair chance of recovering extra costs or receiving compensation for delays. There may be little in the way of absolute cost certainty, but all of us in the industry can work together to give each project the resilience to survive the tremors and trembles of an unsteady construction world.