The construction industry is one of the largest sectors in Australia, contributing significantly to economic growth and infrastructure development. The construction industry is highly dependent on robust, resilient supply chains. Whether a company is sourcing skilled labour, raw materials or equipment, the effectiveness of a project’s supply chain can significantly influence costs, timelines and overall project success.
In this article we discuss some of the many supply chain challenges faced by project participants and strategies for managing and mitigating those risks.
Supply Chain Risks
The construction industry faces significant supply chain issues. The complex and now international nature of many construction projects makes them highly susceptible to external economic conditions, cost overruns, and cash flow issues. Economic downturns and supply chain disruptions can have significant impacts on project profitability and even lead to insolvency.
Some current supply chain challenges in the construction industry include:
- Labour Shortages: The Australian construction industry has been grappling with a shortage of skilled labour for years, particularly for large-scale and regional projects. This shortage drives up wage costs and contributes to budget overruns.
- Raw Material Shortages: Construction projects require a constant supply of a wide range of raw materials. The industry has been experiencing shortages and price spikes for many of these raw materials. Factors contributing to these shortages include disruptions in production, transportation bottlenecks, and increased demand.
- Increased Material Costs: In recent years, the volatility of the prices in essential materials like steel, concrete, and timber have affected construction budgets. The combination of material shortages and high demand has led to significant price increases. Contractors will be reluctant to hold this risk under a fixed price contract.
- Quality Concerns: Supply chain issues can lead to compromises in quality. When there are material shortages, contractors may have to resort to using lower-quality materials. Additionally, rushed project timelines can result in workmanship that is not at the agreed standard.
- Global Trade Disruptions: International trade plays a crucial role in the construction industry’s supply chain. Trade tensions, import/export restrictions, and disruptions in global shipping have affected the timely delivery of materials and equipment. Congested ports, shipping bottlenecks and revised shipping routes have caused delays, cost escalation and logistical challenges, further aggravating the supply chain issues.
Any combination of the above means projects are likely to be delayed, almost always negatively impacting costs and straining relationships.
Managing and Mitigating Supply Chain Risks
The consideration of how to manage or mitigate supply chain risks involves implementing strategies and measures to minimise the impacts of supply chain disruptions.
A significant consideration is appropriate contractual risk allocation and proper due diligence. Whilst specific terms will vary depending on the project and parties involved, following are some commonly relevant key contractual provisions:
- Delivery milestones: Parties should clearly define the agreed delivery timelines for materials, equipment, and services, and specify circumstances under which time extensions can be granted, especially for delays caused by supply chain disruptions.
- Liquidated Damages: Parties may include liquidated damages provisions that stipulate the amount to be paid in the event of non-performance or delayed deliveries. Liquidated damages can serve as a financial deterrent and provide compensation for project delays however must be a genuine pre-determined estimate.
- Quality standards: Parties should specify the required quality standards for materials and workmanship, including clearly outlining the quality control measures. Contractors should understand from the outset whether these standards are achievable.
- Performance Guarantees: Parties may consider including performance guarantees or warranties to ensure that suppliers and contractors deliver to or meet the specified requirements. This could involve guarantees on performance, durability, or functionality.
- Supplier Qualification and Approval: Parties should conduct thorough due diligence to select reliable suppliers and contractors who have a track record of delivering quality materials and services on time. Principals may wish to include a clause requiring suppliers or contractors to meet specific qualifications before engaging in the supply chain. They may also nominate preferred contractors who have delivered consistently before. This helps ensure the robustness of the supply chain, and helps to ensure that suppliers have the necessary capabilities, resources, and financial stability to fulfill their obligations. On the flip side, it may also be important principals have the right to reject subcontractors proposed.
- Alternative Supplier Engagement: Parties may seek to reduce reliance on a single supplier by diversifying the supply base, and engage multiple suppliers for critical materials or components. This can ensure continuity of supply in case of disruptions, eg. production issues or delivery delays associated with a single source. Parties should also include provisions for notification of such substitutions, ensuring that the substitute meets the necessary quality and performance standards specified.
- Price Adjustment: Contractors may seek to insert a clause that allows for price adjustments in material costs, or other supply chain-related factors beyond the contractor’s control. This clause must clearly outline the mechanism for calculating and documenting adjustments.
- Change Management: Parties may address the impact of unforeseen events or circumstances through force majeure clauses. Clearly define the events that qualify as force majeure and outline the procedures for notification, suspension, or termination of the contract. This is important for contractors because it can protect against disruptions in the supply chain and provide relief from liquidated damages. Additionally, change management provisions are important to address any necessary modifications to the contract due to unforeseen events or changes in project scope.
- Insurance Requirements: Parties must clearly outline and reasonably request insurance coverage, including general liability insurance, professional indemnity, and workers’ compensation. Think about the need for additional insurances to cover business interruption or supply chain, to protect against risks and disruptions.
- Remedies for Non-Performance: It is important to clearly specify the remedies available in the event of non-performance by a party or their supply chain. This can include stepped cure plans, ultimate termination rights, the ability to engage alternative suppliers, or the right to seek damages for delays or additional costs incurred. Such provisions may also include for transition to alternative suppliers in the event of significant supply chain disruptions or a supplier’s persistent failure to meet contract obligations.
In closing, we highlight that strong relationships in the construction industry foster collaboration and typically lead to smoother, more successful outcomes. Clear communication is essential for managing risks, resolving issues as they arise and ensuring projects stay on schedule and within budget. Keeping relationships between the parties positive will mean challenges, including those that arise in the supply chain, are easier to navigate.
Caroline Beaumaris is an internationally renowned commercial and project director with experience across an array of construction projects worldwide. Caroline has won awards to recognise, honour and promote outstanding achievements in the field, including in project management, thought leadership and for excellence in actively promoting and encouraging the participation and career progression of women in the construction industry. Caroline is the Director of Advisory at Cahill Advisory and chairs the Board of the Society of Construction Law Australia (SoCLA).
Melissa Koo is a specialist construction lawyer at Squire Patton Boggs with extensive experience in representing clients on major Australian and international construction, energy and infrastructure projects. She has advised on high value disputes involving complex legal, engineering and construction issues and has experience acting for Australian and international clients in all dispute resolution forums. She is also experienced in drafting suites of contracts and advising on and negotiating contracting issues arising out of bespoke and Australian and international standard form contracts.
