SOP reforms… Something STILL does not add up

Michael Chesterman February 5, 2019
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On 9 October 2017 I published an article entitled SOP reforms… Something does not add up where I stated, in relation to what was then the BIF Bill:

“I am of the view there are very significant regulatory costs that are unavoidable for builders and subcontractors should the Building Industry Fairness (Security of Payment) Bill 2017 (BIF Bill), in its current form, be enacted.

Furthermore, to date, the government has only released cost modelling associated with one (establishment of Project Bank Accounts (PBA)) of the four major SOP initiatives outlined in the BIF Bill.

The BIF Bill imposes a broad range of new or increased regulatory costs on all contractors working in the building and construction industry through the:

  • imposition of new and tougher Licensing Minimum Financial Requirements on contractors;
  • regulating contracts between contractors and subcontractors by mandating certain provisions and prohibiting others;
  • controlling and directing the flow of money between subcontractors and builders with the establishment of PBA;
  • redefining in favour of subcontractors the operations of the Building and Construction Industry Payments Act 2004 (BCIPA) through a number of procedural changes.”

Adopting the same format I utilised in my previous article, I will outline the current position as I now view things in relation to costs to be imposed on contractors as a result of the now enacted Building Industry Fairness (Security of Payment) Act 2017.

NEW COST ONE

Caused by – Imposition of new and tougher Licensing Minimum Financial Requirements (MFR’s) on contractors.

The Department of Housing and Public Works website states that:

“Changes to the requirements are happening in 2 phases:

Phase 1 began on 1 January 2019 through the new Queensland Building and Construction Commission (Minimum Financial Requirements) Regulation 2018 and:

  • re-introduced mandatory annual reporting for all contractor licensees
  • required more stringent reporting of decreases in the assets of higher-risk licensees
  • clarified how assets are treated.

Phase 2 will begin on 1 April 2019 and will introduce higher reporting standards for category 4–7 licensees (larger, higher risk licensees), along with the rest of the reforms.  

This phase will also involve repealing the existing MFR Board Policy and placing its provisions in a regulation.”

Consequently, until details relating to phase two are known it is not possible to determine the total compliance costs contractors will incur in respect to complying with these new MFR’s.   

Conclusion: In my 9 October 2017 article I concluded thatnew MFR and cost modelling has not been released for industry consideration’.  As it presently stands there are significant details relating to new MFR’s that are still unknown. Furthermore no cost modelling has been released for industry consideration.

NEW COST TWO

Caused by – Regulating contracts between contractors and subcontractors by mandating certain provisions and prohibiting others.

The situation in respect to this new initiative is exactly the same as what I outlined in my October 2017 article. In this article I also referred to a previous article entitled What will building contracts look like after Project Bank Accounts (PBAs) come into effect?  where I stated:

“The government has not released any specific details as to the contractual clauses it proposed to mandate or prohibit. There may be some good changes the government has in mind in this regard. The voiding of “pay when paid” provisions in construction contracts is widely acknowledged as an effective “fairness” government intervention in contractual dealings between builders and subcontractors.

However until such time as the government discloses its specific intentions in this regard then it is not possible for builders and subcontractors to make changes to their contracts and inform themselves about the implications of such changes, or train contract administration staff, project managers and superintendents on these changes.”

Conclusion: Intended contractual changes and government cost modelling is not available for industry consideration.

NEW COST THREE

Caused by – Controlling and directing the flow of money between builders and subcontractors with the establishment of PBA’s.

The situation in respect to this new initiative is exactly the same as when I wrote my earlier article and so my views remain unchanged and are just as relevant in 2019.

“The government engaged Deloitte Access Economics to undertake an analysis of the establishment of PBA. In responding to a question from the Public Works and Utilities Committee on 20 September 2017, the department advised that:

“The analysis undertaken by Deloitte Economic Access concludes that even when costs are incurred by head contractors there is a net benefit to Queensland of $4.2 billion over a 20 year period and it will also create up to 2,373 additional jobs by 2036–37.”

However, evidence given at a public hearing into the BIF Bill on 20 September 2017 by representatives of the Housing Industry Association (HIA), Master Builders Queensland (MBQ) and a major Queensland based Contractor painted a very different picture in terms of the costs builders will incur as a result a result of having to conduct their business through the establishment of PBAs based on the current drafting of the BIF Bill.”

Conclusion: It is still not possible to determine with any confidence the costs the industry will incur in the establishment of PBA.

NEW COST FOUR

Caused by – Redefining in favour of subcontractors the operations of BCIPA through a number of BIFA procedural changes.

The situation in respect to this new initiative is exactly the same as when I wrote my earlier article in 2017 where I identified:

“In my article “QLD Security of Payment is a minefield… but it might surprise you who is in danger”, I outlined six unintended consequences, five of which are BCIPA related, resulting in increased contract administration work that subcontractors and builders will have to undertake. These unintended consequences are:

  • Every claim gobbles up a reference date and this may include such things as a subcontractor responding to a variation request to perform a variation. This may constitute a payment claim. In these circumstances subcontractors may unintentionally use a reference date which means that they will be forced to proceed to adjudication on a claim for payment of a variation. Alternatively, they will have to delay pursuing monies owed to them until the following month, because they don’t have any more reference dates for that month.
  • Less scope for Settlement. By eliminating the opportunity for builders to provide a “2nd chance” payment schedule when they fail to provide an initial payment schedule in response to a payment claim from a subcontractor, there is no legislative “last chance” opening for the parties to negotiate a settlement.
  • More disputes for subcontractors. I expect many builders will alter their contract administration practices and treat every payment claim as leading to a potential adjudication application. This will result in a practice where builders will have detailed template payment schedules that records a broad range of possible reasons for withholding payment that the Subcontractor will be required to meet. This will put pressure on the relationship from a very early point and require the subcontractor to also step up its administrative process.
  • Supersized Payment Schedules. BIFA limits the size of adjudication responses in respect of payment claims <$25,000. Builders will respond to this change by providing more comprehensive payment schedules as a means to ensuring their position is fully documented for an adjudicator to have regard to. In other words, the payment schedule will take on the significance of an unrestricted adjudication response. In these circumstances, subcontractors will be faced with having to evaluate a detailed payment schedule in deciding whether to proceed to adjudication if the builder signals an intention to pay less than the claimed amount. This will add to the contract administration responsibilities of subcontractors.
  • Subcontractors will be involved in more litigation. I believe that there will be an increase in the number of adjudication applications lodged.  Parties are going to very quickly lock into “dispute mode”.

Conclusion: Government cost modelling of BCIPA/BIFA related changes has not been undertaken for industry consideration.

Will the Building Industry Fairness Reforms Implementation and Evaluation Panel count up the costs at last?

The Government has established a Building Industry Fairness Reforms Implementation and Evaluation Panel:

“to work with government and the building industry to assess the implementation and effectiveness of the suite of 2017 building fairness reforms.”

The Panels terms of reference are to evaluate:

  1. The effectiveness of the government’s implementation of the suite of building industry reforms.
  2. The effectiveness of the legislative framework in achieving policy intent.
  3. The opportunities to realise improved security of payment outcomes for industry prior to the commencement of PBAs in the private sector.
  4. The indicative economic impacts and outcomes of the building industry reforms. (underlining emphasis added).

The Panel has released a Discussion Paper where it is stated:

“As noted above, this paper discusses the following suite of reforms:

Part 1—project bank account reforms;

Part 2—changes to progress payments and dispute resolution using the adjudication process;

Part 3—new requirements which will apply to all building contracts which provide for retentions or security for performance;

Part 4—timing for commencement of the suite of reforms.

The reforms relating to MFR and improving the fairness of contract terms will not be considered in this paper as at the time of preparing this paper, the regulations relating to these reforms had not been released. (underlining emphasis added).

Unfortunately, the Discussion Paper sheds no light in terms of new costs 1, 2, 3 and 4 that I previously identified in my article dated 9 October 2017 as critical information contractors should have been provided before the BIF Bill passed through Parliament on 26 October 2017.

Final thoughts

I would encourage all participants in the industry to provide a response to the Discussion Paper by 5 PM on 15 February 2019.  However, without the benefit of realistic estimates of the regulatory costs for ALL these SOP initiatives for industry participants to consider, I am of the view that responses will be of limited real commercial value.

I also believe that counting the regulatory costs must include the new financing costs contractors will incur as a result of having to comply with all SOP initiatives.

In so far as builders are concerned, the greatest financial challenge, in my opinion, will be finding new forms of finance as a result of not having access to subcontractors cash retentions due to the PBA requirements.

It should be noted that I have always opposed builders utilising cash retentions from subcontractors to finance their daily business operations. Cash retentions are money’s retained by a builder as part of a progress payment to a subcontractor up until an agreed retention value is reached. It is money earned by the subcontractor through the progressive completion of work and held by the builder to secure the subcontractor’s performance obligations under the construction contract.  The cold reality is that it has a well-established history of supporting builder’s cashflow.

In an article entitled RIP Statutory Construction Retention Bond/Trust Scheme, I make the case for:

“the establishment of a statutory retention scheme because of the fact that it will ensure cash retentions cannot be misused and that such monies will only be released by agreement between the parties or the result of a dispute resolution process such as Adjudication.”

It is a simple reality that to date builders have been able to operate with full use of retentions and to essentially ‘flick a switch’ and deny them this ability overnight will cause many of them financial hardship.

The issue is not – preventing builders from using cash retentions for finance purposes. I agree that this is a good and very worthy legislative objective. Rather, the issue is that there has been no information released detailing refinancing options builders may explore, the costs relating to each and whether there should be an extended transitional period afforded to builders to restructure their businesses in these circumstances.  But why is this the government’s responsibility – because good reform should factor in the commercial impact on the industry it is intended to protect.

Also, I have heard it said that builders who have utilised subcontractor’s retentions in this way in the past and cannot obtain or afford refinancing options “are exactly the type of builders the industry does not want.”  I do not agree with such a sentiment. While such builders will have to adapt to changing SOP requirements, providing they have a ‘clean’ licensing and corporate behaviour record, I believe they are entitled to be afforded the opportunity to restructure their business if suitable financing options are available and affordable.

I would be interested in your thoughts.

Not intended as legal advice. Read full disclaimer.
Michael Chesterman February 5, 2019

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