Mike Ruttell, Development Manager, Madison Property Fund Managers

In addition to clinching an attractive deal with key tenants, expediting approvals through local authorities, making sure power is available to a prospective site, and the level of interest rates; influences of rising building costs must rank as one of the most important factors effecting the feasibility, board approval, and successful roll-out of property developments in South Africa.
 
During the last few years heavy global construction momentum in China, United Arab Emirates, and India, as well as other emerging markets including South Africa, has driven demand for building materials to extremely high levels. This impetus, together with increased oil prices, has been the major causes of increased building industry input costs across the board.

According to Stats SA, the production price of diesel at the coast rose 81.20% in the year to July 2008, reinforcing steel rose by 84.10%, structural steel by 35.80%, cement by 7.90%, face bricks by 11.70%, basic copper by 20.60%, local timber by 14.20% and imported timber by 18.80% during the same period. Additionally building contractors have been faced with sharply rising labour costs coupled with a shortage of skilled manpower.

The well known Haylett Price Indices are composite indicators of price increases on labour, materials, plant and fuel. The year on year rise for Work Group 180 (Lump-Sum Domestic Buildings) was 16.90% in July 2008. Work Group 181 (Commercial and Industrial Buildings) rose by 18.30% during the same period. The consumer price index is used as a proxy for labour cost increases and the annual rate of consumer price inflation rose from a low point of 3.30% in April 2006 to 13.40% in July 2008.

Looking forward, it is expected that WG180 will average out at 14.90% for 2008, tailing off to 9.70% during 2009. WG181 is expected to average 16.30% for 2008, and 10.20% in 2009.

The main implication of increased building costs is of course reduced yields for developers and it has been a constant challenge in recent years to maintain returns at acceptable levels in the face of a rising interest rate market in which tenants have become more and more reluctant to pay increased rentals for premises. The strategic tendering and price fixing of key packages of work (mainly structural steel, roofing, shopfronts, plumbing, & electrical) upfront or very early on in a project has become the order of the day in order to mitigate some of these increased costs, and this is expected to continue for sometime to come.

The situation will change however, as we move through the property cycle. According to Medium-Term Forecasting Associates it is expected that tender prices will rise by an average of 11.40% during 2008, falling to an increase of 7.90% in 2009. The figure for 2010 will surely be even lower.

History is repeating itself. Telephone lines are again starting to ring with contractors looking for work. This news, together with a forecast 5% to 6% reduction in building cost increases during 2009, the probability of lower interest rates, economic underpinning due to continuing Government infrastructural spend, the approaching Fifa 2010 World Cup, and a reasonably healthy 1% to 2% outlook for economic growth in 2009; will all assist the canny developer (along with the usual mandatory capital and tenants!) to take again the risk of initiating selective new developments at better yields. 

The level of new development over the next few years will undoubtedly be much lower than in the recent past, and the micro and macroeconomic events since January this year will force developers to focus very closely on the location, design, funding, construction, and letting of their investments in order to negotiate a successful path through the current global financial crisis as it pertains to South Africa.

Mike Wylie, Chairman, WBHO Construction

Over the past two years we have seen massive price increases in the input costs to building contracts. These were associated with high demand for both building materials and the services of subcontractors, arising from a high level of activity in the residential markets as well as infrastructure development. About a year ago the residential market came off sharply and more recently with interest rate hikes and the global financial crisis we have also seen a slow down in the nonresidential market. This reduced demand for building work has seen a cooling off of the previously rampant price increases. In addition, steel prices have now in fact reduced somewhat from the very high levels seen in mid-2008.

The reduced level of building activity in the non-residential sector is also now resulting in contractors tightening their margins in order to secure contracts.

Given all these factors we do see that building cost escalation will not be as high as over the past two years. The Bureau for Economic Research is predicting that the Building Cost Index will only increase by 11.40% in 2008 compared to 15.30% in 2007, and reducing further to 7.90% in 2009. However we have historically found these BER predictions to be a bit on the optimistic side and feel that actual price increases may be a little higher.

The implications of the high level of building cost escalation experienced over the past two years is that building costs are now making many marginal developments unfeasible. Together with other factors such as the current level of interest rates and uncertainties arising from the global financial situation, these factors combined are having the effect that developers are putting the brakes on certain developments. However we are still seeing some exciting major projects taking shape, so it is not all doom and gloom in the nonresidential building sector.

Rinus van der Sluys, Managing Director, J van der Sluys

In the present economic markets the underlying factors that add to increased construction costs should become even more crucial to control, manage and limit. From a contractor’s perspective, these factors may include, but are not limited to, the following opinions that are felt to be common knowledge within our Industry, but are rarely dealt with and addressed by all parties involved:

Tender information:
It is commonly found that the design of a building, at tender stage, is not finalized. This leads to “provisional” Bills of Quantities, increase alterations to designs, and increased changes to the works during construction. If the designs by the architects and engineers are more final, then it may result in tender prices being more accurate.

Incomplete documentation:
Certain construction documents which are received from the consultants are generally incomplete. Bills of Quantities are provisional, or incorrectly measured. Drawings are incomplete or without dimensions or details, etc. Once the details are resolved, the resultant costs are deemed as extras to the contracts.

Information flow:
During the construction process, the flow of required information is too slow. As most contracts begin with the minimum information, the application of the ever-present ‘fast track’ requirements results in increased conflict between contractors and consultants to provide the necessary information timeously. Delays and “extension of time” claims usually result from these, which increase costs for the client.

Changes during construction:
Clients, developers, architects and engineers begin implementing changes to many aspects of the contract throughout the construction process. With more planning and consultations, these changes should be limited.  However, this often does not occur. Changes result in extra building costs, and extra time claims and associated costs too -- most of which is unnecessary.

Design:
By attempting to create buildings that are, by their design, more ‘basic’, the costs of construction can be reduced. Complicated designs, circular forms, basements, height, all contribute to increased costs. Over-designs of structures assist with the safety and structural integrity, but drastically increase costs. Conventional designs also can be re-designed to include for simpler and/or newer techniques that have become available to assist with the construction processes, and in doing so reduce time and costs.

Material supplies:
The suppliers of numerous basic components to any building have the market monopolies, which serve to keep costs higher. Price fluctuations to cement, fuel, and steel (as primary examples) result in additional costs being incurred.

Training:
There is a complete lack of consistent and adequate training within the building industry. Very little visible effort is being exerted through the Government to improve the situation for training of artisans, and general skilled labour. Only through certain individual construction companies are efforts been made, but this is hopelessly inadequate for the industry as a whole. Without the skills, work is of an increasing lower quality and production. In order to deliver a quality product to a client, construction companies must train their own labour, at increased internal costs, which translates to increased premiums being paid. Through improved formal training facilities and incentives being offered through the local Governments, skilled workers will equate to benefits for the full spectrum of industry bodies.
Imported Products
South Africa imports too many products. While we continue to export base materials and minerals, we also then import expensive and specialized products. An increase in the efforts to support local manufacturers of products and machinery, obviously aimed at the construction industry, will result in increased opportunities and eventually reduced costs to the end user.

Infrastructure:
The lack of quality infrastructures and the effective usage of such, has an influence on increasing costs. Public transport needs to be greatly improved to enable the man on the street to attend work at regular and convenient times. Transport of materials can be improved with organized roads and traffic and railway systems. The electricity supply concerns have reduced the number of potential projects from proceeding and associated load-shedding has greatly affected the normal production and effective working procedures. Contracts are delayed due to extremely long waiting periods for basic services (water, sewer, roads, telephones, data, etc).

Local authority:
The approval processes that a development must undergo has become a major stumbling-block for many potential Contracts. The local authorities, unfortunately, are seemingly unable to deal with the volume and time frames that such projects require.  It is a common occurance that many Contracts are put on hold for months while ‘plan-approval’ is reached.  These delays result in increased costs to the Client.

Co-operation:
It needs to become standard and common practice that Contractors become involved with the design process of any contract or development. With co-operative designs, the costs will be reduced on the overall contract due to practical and cost-effective solutions to be determined before contracts begin. Earlier identification and appointment of the Building Contractor, together with the Architects and Engineers from the very beginning, would result in many of the above mentioned ‘problematic areas’ being resolved for a smoother and more cost effective Development.