Contractor insolvency – twist or stick?

The construction industry accounted for almost a fifth of all UK administrations in 2022 as it continues to struggle with rising material costs, access to labour and a cost of living crisis that has seen lending rates increase and household spending shrink.

Widely considered a bellwether industry, construction businesses are often the first to feel the impact of economic uncertainty and the first to see the green shoots of recovery. And just as the summer this year has been slow to take hold, so too are the cold economic winds continuing to affect the construction sector winds.

Often, the first signs of trouble a developer will see will be with contractors on site. So what are the early warning signs and what steps can a developer take?

Early warning signs

Insolvencies can happen suddenly and without warning, but there are often early indicators that trouble may be brewing. Here are five points to watch.

Site gossip. Keep an ear to the ground for gossip or rumours of contractors not being paid on time, withdrawing labour, or projects being under-priced. Obviously, rumours will need to be substantiated as accusations can easily erode relationships and confidence between a developer and contractors.

Materials going missing. Sub-contractors that are not getting paid will often take matters into their own hands, physically removing materials from site.

Direct payment. Sub-contractors may seek direct payment from the developer or cash up front from their contractor.

Change in payment terms. Contractors may seek changes to payment terms, particularly early or up-front payment for materials.

Frequent changes of site personnel. Contractors in trouble have a habit of moving sub-contractors from one site to another in an attempt to keep clients happy. This can cause delays on a project and should set alarm bells ringing.

These are to be considered potential warning signs, not clarification of insolvency. Developers will naturally need to investigate further.

Twist or stick

Developers who believe a contractor is facing an uncertain financial future need to make some difficult decisions. The temptation might be to delay or hold back payments from the contractor, but that could just accelerate their ultimate collapse.

The question to answer is whether you stick with the contractor and hope they make it through to the end of the project perhaps with your help, or twist, ditching them for a new contractor.

The answer to that question is likely to be best answered by how close to completion the project is.

If close to completion, it may well be prudent to support financially the contractor through the final stages, although measures will be needed to ensure that support is focused on your scheme rather than a contractor taking that lifeline to benefit other projects.

Performance bonds or parent company guarantees may offer some protections. Check whether any exist and if they do, understand their implications.

If the contractor has defaulted on performance and deadlines, does the contract in place allow for termination? Suspicion of insolvency is unlikely to be grounds to terminate. If terminated prematurely, the contractor may be able to claim damages.

Insolvency

If a contractor falls into insolvency, a developer should take swift action. This will likely include:

• Confirmation that insolvency has happened, as early action may have financial implications against the developer.
• Secure site and audit equipment and materials. Whilst contracts may state any plant, equipment or materials belong to the developer, they may be difficult, if not impossible, to recover once removed from site.
• Insurances. Any insurances and health and safety measures provided by the contractor will need to be reviewed and alternative put in place as necessary.
• Contractor payments. It may sound obvious, but ensure future payments are stopped.

Contractor insolvency can be complex, involving specialist construction contracts and insolvency regulations. It is essential you have a specialist on your team to advise and guide you. Contact us today for more information including details of how we can help support you.