Contractors need to get their grip back on soaring costs – these could help

In the past six months, the dice has remained heavily loaded against prices of certain key construction materials, resulting in cost uncertainty on a major scale. If the ongoing global supply chain bottlenecks and the current commodities market are any indication, this scenario may well continue into the summer of 2022 - or even to the later part of the year.

With the onset of the pandemic – that resulted in a sudden slowdown in global economic activities – it was amply evident that commodities would go through a period of market turbulence. What remained a challenge was forecasting what the scenario would be as the global economy was gradually coming out of the crisis despite fears of further disruptions.

The verdict is still awaited, but the hike in prices of prime construction materials like steel, fuel, copper, aluminum and PVC (plastic related) have been ‘steep’ to say the minimum, and unprecedented in the past six to eight years although this surge is expected to remain for some more time.

In the past one year, steel is up 15-20 per cent to $720 a tonne, copper also at 20-25 per cent to $9,200 a tonne, followed by aluminum at 20-25 per cent to $3,400 a tonne, PVC (plastics) items by 22-27 per cent to $2,250 a tonne, and last, but not the least, fuel (primarily diesel) by a whopping 30 per cent to about $1.33 a liter.

Cost of labor too has risen up 3-4 per cent, besides the regular increase, due to the knock-on impact of COVID-19 protocols and its associated costs. This includes costs related to compliance to new protocols like PCR tests, idle time until test results, increased accommodation space for same amount of labor, quarantine facility and sanitation measures. In addition to that, additional labor retention and transportation costs put together has attributed to the increase.

As a rule of thumb, construction materials account for 65-73 per cent of the total project cost, while labor is 35-27 per cent depending on the sector.

The market is advocating a cautious approach, which is not helping clients to finalize new contracts swiftly. Hill International Cost Consulting (India) – formerly Neyo India until its recent acquisition by US-based Hill International – is advising clients to adopt a balanced approach that will incorporate the option of price variability during procurement rather than stick to a mindset of a firm rate given the volatile situation.

This stance will allow both the client and contractor to cope with the market conditions and get a better grip on mitigating risk. The big issue in the construction industry today is who will take the risk: contractor or the client?

Contractors are adopting a cautious policy and hesitating to commit to a firm price, while the client is seeking price certainty to facilitate a final investment decision (FID). This will result in delays in tender finalizations and contract awards. Clients probably would be in a better position to manage portions of volatile material price increase using base rate compensation mechanism while allowing contractors to focus on productivity and managing supply chain effectively.

Although this aspect could be managed reasonably well for new projects through risk mitigating, the claim and additional costs related issues related to COVID-19 on ongoing projects still continues to remain uncertain. Reaching an amicable solution is still underway as the provisions under the existing contracts.