Falling resources prices, sharp declines in the value of oil, and stagnating growth are impacting on global confidence, but Australia is weathering the storm and the outlook is positive for 2015.

However, what does it mean for construction costs on the east coast of Australia?

Key underlying factors for Australia in the medium term include:

• Slowing yet steady growth
• Strong falls in the engineering construction sector
• Increased resource production tempered by falling commodity prices
• Falling Australian dollar increasing competitiveness and bringing tourism back on the table
• Increasing competition and capacity

 Across the board, confidence in the residential construction sector remains strong in the short term with tourism and accommodation the next sectors to watch. Outside of that there are pockets of activity with retail, clubs and pubs, and retirement living being sought after in different locations.

Even with the increases in activity, the residential tender market across Australia remains intensely competitive and contractor margins remain low. But why is this the case?

One factor is that we are increasingly being exposed to both a nationalised and globalised workforce. This has been happening in the supply chain for years as firms have competed in their ‘local’ markets against interstate, and more recently, international materials.

Suppliers fought back by moving manufacturing offshore and participating in new markets in order to compete and gain economies of scale. More recently, consultants have followed a similar track and found both opportunities in exporting Australian know-how and expertise and unease as they compete for homegrown projects against international brands.

In the major project and infrastructure space, we have been seeing significant international competition amongst contractors and have also had Australian firms leading the charge across the globe. Post-GFC, the most recent phenomena has been the mobilisation of both contractors and subcontractors at the national level with an increasing number of contractors and subcontractors looking outside of their original states for work.

While the impacts of this shift are felt across the board, one area they are having a positive impact is in increased capacity in ‘hot’ markets. Developers operating across states now have the ability to tap into known and trusted contractors even when they are far from home themselves. Local ‘preferred’ contractors have to compete not just with age-old foes, but also with new rivals who are attracting both tender opportunities and key personnel to provide local credentials.

Key underlying factors for Queensland include:

• Strong falls in the engineering construction sector
• Modest increases in residential construction
• Increased resource production tempered by falling commodity prices
• Strong growth in housing in high population areas
• Tourism on the rebound in the medium term
• Oversupply of office space in key markets
• Growth in hotels rooms and student accommodation
• Subdued confidence as a result of the change in government and uncertainty over the future of marquee projects and follow on projects
• Price differentials between Brisbane and the southern states continuing to fuel demand

Using history as a guide, we should have seen significant increases in construction costs over the last 12 months. While there have been increases across in-demand trades such as tiling, costs on average have increased only marginally, in the two to three per cent range.

Key pressures keeping a lid on higher increases are competitiveness and capacity. In south-east QLD, developers are finding no problems filling their tender panels. New entrants and challengers to the preferred contractors are putting pressure on the front runners to bid competitively and we continue to see tenderers bidding with margins unsustainable in the long term.

On residential tower projects, the key difference between tenders are occurring in:

• Preliminaries (ranges of 17 to 23 per cent)
• Margin (ranges of 0.5 to five per cent, depending on project value)
• Trades with varying levels of unionised sub-contractor labour

According to the Department of Housing and Public works, 91 per cent of contractors reported having no trouble finding subcontractors. Furthermire, 65 per cent of contractors expect labour costs to remain the same over the coming months.

While the mining ‘boom’ towns are feeling the cyclical pinch as mines move from construction to production, there is increasing confidence in north QLD with the lower Australian dollar and the anticipated increase in tourism. While the high AUD is most often cited for its negative impacts on exported goods, the other impact has been the reduction in overseas and interstate tourism. Confidence in this sector will result in increases in accommodation.

Changes to the product mix (e.g. a switch from primarily investor stock to some owner occupier), and tweaks to finishes to make apartments stand out continue to have more of an impact on per apartment costs than escalation. Our cost forecast remains for further four per cent growth per annum through till the end of 2015 and average cost per unit on residential tower projects in the $280,000 to $290,000 range.

Residential approvals in NSW continue their strong growth driven by both houses and apartments. The growth in greater Sydney is being driven by strong approvals in the Hunter and Illawarra regions. Extremely strong growth in the residential multi-unit sector alongside large scale projects such as Barangaroo and the Convention Centre continues to put upward pressure on labour costs.

Summary of NSW Projects Commenced (or Due to Commence):

Summary of NSW projects commenced

With the victory of Premier Mike Baird’s Coalition government in the recent NSW election, funding of a number of large proposed new projects can proceed through the sale and privatisation of NSW poles and wires. It is expected that these new projects would enter the construction phase mid-2016, and this may lead to further upward price pressure on trade prices.

Unlike in QLD, NSW financiers are reporting a large number of owner builder funding arrangements. Owner builders are in a better position to time the letting of trades to avoid periods of high competition. They are also able to offer savings in the areas of project preliminaries and site labour.

We continue to see tight overheads and profit margins and contractors competing to keep their work books full. This will keep cost escalation to a manageable level of between three and four per cent for the remainder of 2015.

There also appears to be a greater demand in larger apartments with higher specification finishes around city fringes and smaller boutique blocks driving up the average per unit construction cost. The average apartment costs are in the range of $250,000 to $400,000. As is always the case with using a per/unit cost comparison method, costs will vary greatly depending on the building’s design, location and procurement method being adopted to deliver the construction project (i.e. a fixed price lump sum contract, a design and construct contract, or an owner builder arrangement).

Key underlying factors for Victoria include:

• First home buyer demand stabilising somewhat from previous months
• Low housing interest rates appear to be still fuelling rising demand, particularly for investors.
• Steady increases in residential construction
• Population growth is steadying, however, stacking up against other states
• Residential construction continuing to strengthen within the inner city ring
• Steady amount of office space in key markets
• Subdued confidence as a result of the change in government

Victorian approvals remain strong, particularly in the housing space and the greater Melbourne area. Whilst Melbourne accounts for over 65 per cent of housing approvals across the state, it also accounts for 95 per cent of apartment approvals. High density apartment approvals surged in the December quarter, reporting a 51 per cent rise, while the calendar year total of 15,175 dwellings is up by 32 per cent on the previous year. Medium density approvals in Victoria were relatively flat in December quarter 2014, although a healthier rise (13 per cent) on the previous 12 months was recorded in the 2014 calendar year.

The change in government has also impacted on several projects, most recently the East-West Link with the new Labor Government reaching an agreement with the East West Connect and paying the Consortium $339 million to cover costs incurred up to that point. Removal of rail crossings remains on the cards as one of the Andrews Government’s election promises.

As with NSW, we also continue to see tight overheads and profit margins and contractors competing to keep their work books full.

Investor activity appears to be prevalent in purchasing Melbourne properties. Many types of investors exist within Melbourne’s property market, including property syndicate funds, foreign investment and owners looking to negatively gear.

We expect cost escalations for VIC to be three per cent over 2015.