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Flexibility on costs needed as client plans go back to the drawing board post-Brexit

Gleeds partner Stuart Senior analyses how clients, developers and the supply chain will react to the Brexit vote.

For construction, the UK’s decision to depart the EU has come as a hammer blow to many who had spent the past eight years climbing out of the pit of recession.

Gleeds research – carried out prior to the referendum – shows that just weeks ago the outlook for construction was actually fairly positive.

Indeed, in the month leading up to the referendum, just under half of those surveyed expressed positive sentiment around current and future workload. There were, however, also those already expressing caution, given the decision which lay ahead.

From optimism to uncertainty

At the time, contractors were reporting that order books remained healthy and bidding activity continued to be strong, despite some being of the opinion that a number of clients and developers were holding off making commitments to new schemes.

When it came to their predictions of what a potential post-Brexit landscape would look like, views were mixed.

“We’re not seeing scenes reminiscent of 2008 when sites were padlocked within hours of the Lehman brothers collapse”

Some were optimistic that conditions would in fact improve, citing possible boosts to the UK’s trading position, closer controls surrounding the supply chain, a freedom from certain bureaucracy associated with the OJEU tender process, and a greater ability to focus on better training for a UK workforce.

However, there was also an overwhelming sentiment among many contractors that uncertainty would blight the industry for some time in the event of a vote to leave.

Now that the UK has voted for Brexit, it is simply too early to gain strong empirical evidence of a slowdown or a halt to projects and other more specific impacts.

What is already clear, however, is that material prices have continued to rise as sterling has plummeted to a 30-year low. While prices were already rising before the referendum, the increased weakness of the pound will make importing more expensive, potentially accelerating these price hikes.

Over the past six months, our index shows that 70 per cent of the supply chain reported materials prices generally increasing, while 35 per cent of the supply chain said lead-in times for certain materials had risen.

London at risk

Just as London has seemed almost immune to recession, this time it could well be the first to be hit. For funders in the capital looking to hire contractors, the nervousness is palpable.

For instance, the developer behind the Make-designed £400m 40 Leadenhall office project in the Square Mile has decided not to progress the scheme speculatively in the wake of the EU referendum result.

They join Axa and Lipton Rogers’ 22 Bishopsgate skyscraper, UOL Group’s 150 Bishopsgate hotel tower and two Crown Estate projects, all of whom, it has been speculated, could press the pause button.

According to our pre-Brexit report, commercial development offered more construction opportunities than any other sector. Since the referendum, however, investors have started to cool on commercial property.

Standard Life, Aviva and M&G Real Estate have all suspended trading on their multi-billion-pound UK property funds after a rush of withdrawals from investors, while one of Singapore’s largest lenders, the United Overseas Bank, also suspended its loan programme for London properties.

This is not a panic response, however, and we are not seeing scenes reminiscent of 2008 when sites were padlocked within hours of the Lehman Brothers collapse.

Single-stage set

What we are seeing is a more considered and drawn-out verdict. We are being told that clients are not saying ‘never’; what they are saying is, ‘Not now, not until we get clarity on what Brexit means’.

For contractors, this could see a return to single-stage tendering where the client is not prepared to take on risk. City property is most exposed to the ‘Brexit effect’ because it may make investors think twice about putting their money there.

On the one hand, they have just been proffered a huge price reduction based on the weakness of sterling, but weighed against that is the likelihood of anchor tenants from financial services moving their operations away to mainland Europe.

“Contractors could see a return to single stage tendering where the client is not prepared to take on risk”

Hence, vacancy rates could increase, rents will come under pressure and the value of properties will fall.

In the regions, the most pronounced effect could be on residential building. Again, it is too early to judge with any certainty, but with major housebuilders’ stocks dropping and confidence teetering, is it really the time to go out and buy a property?

There is the likelihood of another interest rate cut, though the Bank of England chose not to cut interest rates which remain on hold for July at 0.5 per cent.

A cut may well stimulate demand at the lower end of the market, but with hikes in stamp duty announced in the last Budget and the buy-to-let market ravaged by tax increases, the demand-led buoyancy evident at the start of the year has already dissipated.

No better time

Of course, the corollary to all this is that there has never been a better time to buy. The need to build around 350,000 houses per year for the next seven years still exists if we are to even make a dent in the housing crisis.

The fall in sterling will hit material costs in the short term but may well ease the possible inflationary pressures we were facing pre-Brexit.

It will be at least the autumn before we get any real data on the effects of the slowdown. However, there has never been a better time for public investment to fill the gap left by private investors.

There is a long pipeline of infrastructure projects and with a new chancellor in situ we may at last find someone in the role who takes advantage of being able to borrow cheap money to fund much-needed road, rail, energy and prison-building schemes.

For contractors, the biggest post-referendum issue could well be balancing the need for profit against their regard for future pipeline.

The lack of a skilled labour force has not gone away – indeed, if immigration curbs are introduced we could find labour costs increasing.

Already cost plans are being re-written for projects that have not yet been given the green light. There are some big increases heading down the track and there is not a great deal of confidence among property investors currently looking at where to put their funding.

There will need to flexibility on both sides if we are to avoid being dragged into a long, deep recession.

Stuart Senior is a main board partner at Gleeds

 

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