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The increasing interest rate and the Construction industry

Despite ongoing Brexit-related uncertainties, in an attempt to relieve the squeeze on living standards and due to some signs of an improving economy, the Bank of England at the beginning of the month increased the interest rate for the first time in 10 years. The rise of 0.25% is a reversal of the emergency rate cut introduced by the Bank of England in August 2016 made necessary by the result in the Brexit referendum.

In his speech on 15 November 2017, the deputy governor of the Bank of England, Ben Broadbent hinted towards another rise in the base rate far sooner than many expected.  It is thought that the damage of Brexit could force the Bank of England to raise rates more quickly to keep inflation under control.

As it stands at the moment, a 0.25% increase to the interest rate will not have an immediate impact on the construction industry. There has been a gradual increase in property prices since the 2009 recession and they have nearly reached the peak they were at in 2008. Businesses however need to be aware of the potential consequences, should the interest rate continue to rise as it is predicted.

The cost of borrowing is one of the first issues to impact businesses. When interest rates rise, banks charge more for business loans. Many construction projects are reliant on a bank funder in order to be able to get the project out of the starting blocks.

An increase in interest rates on borrowing will mean a decrease in profits; businesses will need to use more of their own money to pay the increased interest on the loans. This may also have an adverse effect on the companies’ ability to secure future funding due to their reduced probability. If interest rates rise dramatically, new projects maybe put on hold which will in turn effect the economic growth.

When it comes to borrowing, higher interest rates will filter through to higher borrowing costs: businesses with fixed rate loans will not be affected right away. However, business owners with fluctuating interest rates may take a hit if they continue to rise.

There is an increased need to keep on top of cash flow  and businesses are going to need make sure they have enough working capital to function. Many construction projects tend to operate with limited cash flow. Those engaged on projects rely upon prompt payment mechanisms and cannot easily accommodate late payment of invoices. If payments are made late, businesses may not be able to meet their repayment costs. The most obvious step going forward is to make sure invoices are correct, sent out on time and are chased when they become overdue. This is where the 2011 amendments to the payment provisions in the Housing Grants Construction Regeneration Act 1996 (“HGCRA”) can become useful if contracts and invoices do not have sufficient payment mechanisms.

If a construction project is programmed for longer than 45 days, the contract must provide for interim payments and for every payment, a mechanism for calculating the sum due; a mechanism for calculating the due date; and a mechanism for calculating the final date for payment. If these are not sufficiently set out in the contract, they are implied into it under sections 109 and 110 of the HGCRA. Should a business get in to a situation where by they are due money under a contract and the paying party has a cash flow issue, the receiving party may want to suspend works (after giving the relevant notice) in accordance with their section 112 rights. This would disrupt the entire project for both sides so is worth bearing in mind when dealing with unpaid invoices.

In terms of thinking ahead, it may also be a good idea to consider trying to fix prices with suppliers. Increasing interest rates could cause suppliers to raise their costs to cover higher overheads.

In conclusion, in the immediate future the recent increase in the base rate will not have a dramatic effect on the construction industry, but with the chance it may continue to rise, businesses may want to take precautionary measures to protect their businesses.

 

These notes have been prepared for the purpose of an article only. They should not be regarded as a substitute for taking legal advice.

 

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