The Fear
There is a huge fear in the building industry of being caught part way through or at the end of a project and the builder goes into liquidation.
This fear seems to transcend all else.
The reason is that a sudden loss of income means that the trade contractor has to find the money to pay its suppliers for materials delivered to site and the wages of employees or second tier trade contractors. These debts can be relatively large amounts of money.
This can be sufficient debt to cause the trade contractor to become insolvent in its own right, significantly restrict the amount of business it is able to undertake over the next 2 years or cause the owners of the business to seek employment with other trade contractors.
For these reasons it is understandable that there is significant concern about the possibility that the builder a trade contractor is working for may become insolvent.
The Problem
One of the most significant problems with predicting whether or not a builder will become insolvent is the long period of time between the commencement of a project and its completion. There can also be significant risk buried in the contract between the builder and the developer which will cause insolvency despite the builder looking like a solid proposition at the start of the project.
To demonstrate the difficulty in predicting insolvency it is interesting to look at the spectrum. There was the case of a large multinational company that was well run, profitable and a good company for a trade contractor. It was in good shape on the Friday but insolvent on the Monday when the overseas owners simply decided that it was not making enough profit and put the company into administration without any notice, warning or discussion.
At the other end of the spectrum are the builders that are badly run, cannot organise a site, always late in paying, not good to work for and on any assessment you would be sure that they are going to go into liquidation tomorrow. But the problem is they carry on this way for decades.
Even the so called perfect small to medium sized builder that is good to work for and pays on time is a potential liability. Things that are likely to cause the perfect builder to go under are:
| 1) | Insolvency of the developer; |
| 2) | The builder running into problems getting paid because he has not engaged in appropriate contract administration and the developer takes advantage of the situation to avoid paying as much as possible; |
| 3) | Economic downturn; |
| 4) | Injury or death caused by a car crash; |
| 5) | Death or disability caused by illness; |
| 6) | Divorce; |
| 7) | Retirement. |
None of these events can be predicted by a trade contractor.
The bottom line is that every trade contractor is confronted with the risk of having to deal with the insolvency of the builder no matter who they are working for.
The Solution
The trick then is to have a strategy to survive the effects of the insolvency of a builder when the inevitable happens.
The first point is to look at where a trade contractor is in fact making the most loss. While losses due to insolvency seem to be about 1% of total income over any period of time whereas the losses due to poor contract management or being messed around in site are at a minimum of 6%-8% of the contract sum and it goes up from there to the extent that in some cases people are losing as much a 30% of the contract sum.
What is obvious from the information above is that a sloppy builder is more of a danger to the profit margin and survivability of a trade contractor than a builder that goes into liquidation. The reality is that sloppy builders are the culprits that stop a trade contractor building up sufficient resources to deal with the insolvency of a builder when it occurs.
The key steps to avoiding the consequences of insolvency are:
| 1) | Do not work for builders that conduct their sites poorly and are lousy payers because they cost you more than a builder that goes into liquidation; |
| 2) | Make like the big boys and make provision for bad debt by creating a fund from 1%-2% of income as a survival buffer. You may need to take financial advice as the best way to invest this fund so that it is available in the event of economic downturn; |
| 3) | Make up that 1%-2% and more by engaging in contract administration and ensure that you get paid for variations and the even more significant losses caused by delays and being messed around on site; |
| 4) | Use contract management to make sure that if the builder does go into liquidation you are owed as little as possible because you have been claiming payment for every item of work completed along the way; and |
| 5) | If you are having trouble or do not know how to administer the contract do the survival course. |