Built Environment: Outlook for 2022 – Construction

Sadia:
Hello everyone. I'm Sadia McEvoy, counsel in the real estate department at Ashurst, in London. I specialize in construction law, and I'm here today with my colleague and friend, Matthew Bool, who's a partner in the real estate team and another construction specialist.

Matthew and I have worked together for nearly six years. We both love construction, but I should warn you that our conversations frequently diverge into the realms of history and politics. However, for this session we promise we're not going to digress, and instead we wanted to share some of our thoughts and observations in relation to 2022 and the construction sector.

As you may know, this is third and last in our Real Estate Outlook series, and if you haven't already checked them out, can I recommend the previous two excellent podcasts from some of our real estate colleagues? You can find these on Spotify as part of our Legal Outlook podcast series and via our website.

Now, Matthew, do you want to start by giving us a very quick intro on who you are and what type of clients you work for?

Matthew:
Well, thanks Sadia. And hello everyone, I'm Matthew Bool, and I think it's fair to say that I have lived and breathed construction since I qualified as a lawyer just over 15 years ago. And during that time I've had the opportunity to work on a number of fantastic buildings, which have shaped the London skyline, which included the Salesforce Tower, the Broadgate Tower and the Leadenhall Building, or the cheese grater as many of you may know it as. One of my particular favorites is the Broadgate Tower, not only because it's one of the first buildings that I worked on when I qualified, but also because it had a starring role alongside Daniel Craig in the film, Skyfall. And as a Bond fanatic and fan, it's obviously really exciting to see one of your projects appear in a Bond film.

And that's one of the great things I think about construction law, it's really tangible and you get to see the fruits of your labor. And that's particularly the case with the redevelopment of Broadgate, which is another large project that we've been working on. This is right next to our offices and it's in the process of a major redevelopment. Originally it was developed in the late 1980s, early 1990s following the big ban, as a home for a number of large banks and financial institutions, but it's now being transformed by our client, British Land and GIC into a vibrant, mixed use campus for working, eating, and entertaining. I think it's fair to say it's brilliant and it's really impressive.

Sadia:
Absolutely. Thanks Matthew. I completely agree with you. It's been great to watch Broadgate transform over the last few years. Of course, one of the most important elements of British Land's purpose in relation to Broadgate is to make it sustainable. And I think this is probably a good place for us to start in terms of predictions for 2022. On the back of COP26 last month, the builds environment's carbon footprint has really come into the spotlight. What do you think this will mean for the sector next year?

Matthew:
Well, I think the sector is already very aware of the need to reduce its carbon footprint, and clearly sustainability is going to continue to remain at the top of the agenda next year and beyond. What we're already seeing is a greater awareness of sustainability requirements throughout the procurement and development process, and also a more sophisticated approach to the understanding and setting of key targets. Now, when you look at development as a whole, in many ways it's potentially less challenging for new builds than it is for existing stock because you're starting from scratch and you can seek out sustainable options, whereas retrofitting can be much more complex.
But when you look at existing buildings I think the focus will be on two angles in particular. Firstly, energy usage. How do we make our existing buildings more energy efficient and reduce dependence on fossil fuels? And secondly, the promotion of a circular economy where existing stock is repurposed and recycled. Now, obviously retrofitting is expensive, but I think it's increasingly seen as economically worthwhile because if your buildings and existing stock aren't green and they don't meet key sustainability requirements this is likely to have a negative impact on how they are valued in the future, irrespective of their underlying land value.

Sadia:
Yes. And we can't just knock everything down and start from scratch. So we absolutely have to engage with the retrofitting angle. But coming to construction contracts more specifically, what do we think we can do to facilitate the drive towards net zero?

Matthew:
Well, I think that's a really good question, Sadia, and there is an important role for lawyers here. Now, whilst we don't typically get involved in setting the actual standards for sustainability targets, what we've been trying to do recently is raise awareness with our clients that there are incentives and provisions that they can include in their contracts to help facilitate meeting these targets. And we ourselves have been running a number of training sessions to demonstrate the sort of contract clauses that can help. So I think we're definitely going to see a greater appetite to see targets set up, and as lawyers we will need to help our clients see that these can be achieved.

Sadia:
Yes. And another topic I wanted to touch upon, which is a connected one, is building safety. Obviously this also remains at the top of the agenda. The Grenfell inquiry is currently looking at fire testing and the Government's role. So much is coming out of the inquiry for the industry to learn from and adapt. And meanwhile, we're watching the building safety bill make its way through Parliament. How do you see these factors influencing the sector in 2022?

Matthew:
Well, I think this is going to be a great influence, and it's a really important topic for our clients. Now, as you know, some aspects of the bill only apply to higher risk buildings. In other words, high rise residential. But the ethos behind these new requirements, for example, in relation to the new Golden Thread rules are principles that are good ones for developments to follow. Now, the Golden Thread has two main objectives. Firstly, to produce information that allows someone to understand their building and keep it safe. And secondly, to have in place an information management system to ensure the information is accurate, easily understandable, can be accessed by those who need it, and is up to date.

Now, the Government has mandated that this information has to be stored digitally. Therefore, having a full digital record is going to be required by law and this is going to become essential in terms of realizing the full value of your assets. So I think it's something that we're going to have to engage with as soon as possible, and as part of that, BIM is going to play a really important part. And so over the course of the next few months and years we're going to continue to see an ever increasing engagement with BIM, and in particular, understanding how to use it properly.
Now, another important element of the bill is the proposal that the Defective Premises Act be amended to extend the limitation period for homeowners to claim compensation for defective works from six to 15 years, and this will have retrospective effect. Now, as you can imagine, this is obviously a concern to a number of our clients, and we are working with them to include provisions into their construction contracts to seek to mitigate these risks.

Sadia:
And when can we expect to see the bill become law?

Matthew:
Well, the Government still hopes that it will receive Royal assent in the of 2022, but the provisions will then come into force over the following 12 to 18 months. So in theory, if this timetable holds true, it will have all been implemented by the end of 2023, but we'll see.

Sadia:
Thanks for that, Matthew. And of course there's a lot of interest in the Building Safety Levy and the Residential Property Developer Tax, which is set to be introduced to deal with the costs of remediating defective cladding.

Matthew:
Yes, that's right. And this is again, a very important issue. I mean, the Government is planning to recoup some of the costs of remediating buildings with unsafe cladding, which it had covered through its £5 billion Building Safety Fund in two ways. The first is the Residential Property Developer Tax. Details of this were fleshed out in the Chancellor's October budget and this will come into force from the 1st of April next year. The tax will apply to companies with profits arising from U.K. residential property development, but will only apply if the group's profits from that activity exceed £25 million per year. Any profits in excess of this allowance will then be taxed at a rate of 4%. And the intent of this tax is to raise about £2 billion over the next 10 years.

The second way in which the Government plans to recoup the costs is through the Building Safety Levy. Now, the idea of this levy was introduced in the revised version of the bill published in the summer and the intention is that it would apply to developers wanting to build higher risk buildings in England. Now it's called a gateway two levy because it will be payable when a developer seeks building control approval to start construction of new higher risk buildings. So, you won't be able to start building without paying it. And unlike the Residential Property Developer Tax it doesn't have a 10 year backstop. So as you'll appreciate, there's quite a lot of disquiet regarding the levy, including because it's not capped like the tax, and also because there are other practical issues. For example, you can't start building until you've paid the levy.

But what if you have a legitimate dispute about the amount in question? What do you do then? These are questions which will need to be resolved and worked through. Now, some parties, such as the PPF, are saying that you should put the money in escrow and be allowed to proceed while the dispute is determined. So there are lots of points to consider and this will take some time. There's also the prospect that some developers could be hit with both the tax and the levy, and therefore this could have quite an onerous cumulative effect on their businesses. So again, this is going to present a number of challenges which the sector is going to have to work a solution to.

Sadia:
Yes, I agree. The industry's facing a lot of challenges at the moment. What do you think 2022 holds for us in terms of the supply of construction materials and plant and labor issues? Obviously these have been in the press a lot recently.

Matthew:
Well, I think the sector will continue to be impacted by important export costs, the ongoing impact of COVID as we hopefully emerge from the worst of the pandemic and the additional administration to be managed post Brexit. I'm also hearing that shortages in certain materials will continue well into 2022. Suppliers of timber, for example, which have been a major issue for some of our clients, is expected to remain uneven going well into the new year. Inflation is also a cause for concern, and rising energy prices will also impact material costs. For example, steel, cement, bricks and glass, which are all seeing significant increases compared to previous years. And of course these issues have all been compounded by problems with the logistics and shipping.

Sadia:
Yeah. And the other shot of all this is that we're seeing tender prices increase by up to 10%. We're also seeing fluctuation clauses being reintroduced to building contracts, having not seen them for years. And the effect is that contract prices can be adjusted to take account of changes in the price of labor, materials and other costs.

Matthew:
Correct. And in terms of labor, I don't see a quick fix solution to this. I mean, a lack of access to European labor is going to exacerbate the shortages here. I think that the long term solutions can only come from attracting more domestic labor to the sector with investment in schools, colleges and apprenticeship schemes, and then also from digital solutions.
Offsite manufacturing, for example, has been slow to take off, but it's not going to go away and I definitely think that stakeholders will continue to look at offsite as a means of mitigating against labor shortages. I mean, I was reading recently about a week project in Bristol where brick slips were made in a factory and then attached to a framing system, which effectively negated the need for any brick layers. So there's lots of potential solutions which can be explored. Offsite also ticks many boxes because it has sustainability benefits, and is also one of the answers perhaps to the housing crisis.

Sadia:
I completely agree with you. And one final point I wanted to cover is the insurance market. It's become increasingly difficult over the last couple of years. Do you see any light at the end of the tunnel?

Matthew:
Well, I'm afraid I think it's going to continue to be quite tough over the course of the next year or so. At the moment, any works involving fire safety or cladding unsurprisingly remain extremely difficult to ensure. At the same time premiums for work within existing buildings continue to increase, which is a challenge, particularly when you're looking to reuse elements in order to achieve net zero.

More generally, the capacity of the insurance market continues to be limited, particularly for contractors or risk coverage, which is also pushing premiums up. There are fewer players in the market and the response times remain slow. So, it's going to be a continual challenge.

Sadia:
Yeah, I agree. One important piece of advice, I think that we can give to our clients is to look for coverage early so that you've got adequate time to try and find some.

But turning to wrap up thoughts, I'd like to end on a more positive note. Personally, I don't think the future is all doom and gloom. First, the market's busy and there is loads going on. The sector's also shown remarkable cohesion and resilience during the worst of the pandemic. And I think that's given the industry encouragement that there is potential for us to act collaboratively, to meet the challenges of climate change, of technology, inflation, et cetera. For example, I do see more receptiveness to the idea of alliancing, to a means of contracting that puts greater emphasis on collective goals, and more balanced risk sharing. Would you agree?

Matthew:
Yes, I'd agree with all of that. And I think if you look back at the past two years, I mean, it's been really quite heartening to see how resilient the construction sector has been. It's been able to adapt to phenomenal challenges caused by the pandemic, and it's a tribute to the hard work of everyone involved that these challenges have been overcome. And for those reasons, I think we can be very optimistic that the sector can meet all of the future challenges that we've been discussing this afternoon.

Sadia:
Thank you, Matthew. And that's the end of this podcast series. The Ashurst real estate team wish you a peaceful Christmas break, and we'll be back and see you in 2022.

Speaker 3:
If you enjoy Ashurst Legal Outlook, why not check out our other two podcast series as well? Ashurst Business Agenda tackles the big strategic issues that business leaders face, and ESG Matters at Ashurst reveals how business leaders are rising to mounting environmental, social and governance challenges. You can listen and subscribe to Business Agenda and ESG Matters wherever you get your podcasts.