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Material costs racing ahead of state price index, putting builders under the gun

Industry group says contractors are being forced out of business as price indexes meant to protect them from volatile markets fail to capture full extent of skyrocketing costs

View of a costruction site in the central Israeli city of Be'er Ya'akov, February 22, 2022. (Yossi Aloni/Flash90)
View of a costruction site in the central Israeli city of Be'er Ya'akov, February 22, 2022. (Yossi Aloni/Flash90)

Official indexes tracking rising costs of building materials are failing to capture the true prices of raw materials, an industry group says, threatening the viability of construction projects from homes to roads.

Prices of building materials have rocketed in recent years, sent skyward by the pandemic and other geopolitical shocks. According to US price estimates compiled by real estate giant JLL, the cost of raw materials for building rose 23.1 percent from August 2020 to August 2021. Steel has risen by 123% over the period, lumber by 111% and aluminum by 35%.

But indexes tracking raw materials for housing construction published monthly by the government’s Central Bureau of Statistics, while reflecting some price increases, showed only a 7.6% rise over the same period, and a 10.3% increase from February 2021 to February 2022, excluding rises in the cost of labor.

Other indexes published by the government tracking the road-building and commercial construction sectors show similarly modest increases that industry experts say fall well short of actual price hikes. The statistics bureau acknowledges that when rising costs of labor are included, the rise in costs is even higher.

According to the Israel Builders Association, some contractors are at risk of going out of business due to the pressures of the price crunch. Some are also considering halting bidding for projects by local authorities because the way in which contracts are often structured shifts too much risk onto developers already stretched by the lag in the price index.

“The indexes need to be corrected. They are inaccurate and do not reliably reflect market volatility,” said Nir Yanushevsky, vice president of the builders association.

Developers rely on the price indexes to protect them from the changing cost of inputs throughout the lifetime of a project. Contracts will typically include a mechanism to allow for rises in costs of materials by linking the final cost of homes or other buildings to the relevant official index, shielding builders from needing to swallow costs due to price volatility.

Construction of new residential buildings in the northern Israeli city of Harish, January 15, 2019. (Flash90)

But prices for raw materials, and for other aspects of construction projects which are not included in indexes, have risen so swiftly and dramatically that the indexes are falling behind, the builders association says. Compounding the problem, delays due to shortages of materials and manpower are stretching out the time it takes to complete a project, exposing builders to more risk and for a longer period.

Nir Yanushevsky. (Courtesy)

A spokesperson for the statistics bureau told The Times of Israel the index is based on raw material costs in Israel and reflects their actual price, with a lag of only a few weeks.

One of the key difficulties for the indexes is keeping pace with rapidly shifting global prices, which is linked to the availability of key commodities. The coronavirus pandemic and ensuing labor shortages had already placed strains on the global supply chain before Russia invaded Ukraine on February 24. Both countries are key global suppliers of metals and other raw materials, and prices are expected to rise even further in the months ahead.

The problem is even more acute in public sector projects, many of which do not include provisions to account for hiked prices of raw materials.

According to Gera Kaushansky, acting head of the infrastructure and contracting division of the Builders’ Association, projects that account for some 40% of the government’s infrastructure budget do not include a clause linking the final price to the index, let alone the actual price.

Construction site of the new National Library in Jerusalem on November 11, 2020. (Hadas Parush/Flash90)

Municipal projects such as schools, kindergartens and sports halls also rarely include provisions to link the final price to raw material costs.

Without changes to contracts, or a way to correct for the lag in the price index, major public projects could struggle to find bidders or face challenges in being completed.

It’s standard for contractors to attempt to factor price volatility and risk into price quotes, but intense market turmoil over the last several years has made it significantly more difficult to estimate how to account for those rapid changes.

Especially in public projects, there is a tendency to choose the lowest bidder, forcing prices down.

But the risks of bidding too low and failing to anticipate the extent of price increases are riskier than ever, as skyrocketing raw material costs could force builders to eat major portions of their profits, threatening the viability of projects.

Meanwhile, homebuyers can expect to see prices tick upwards as the cost index rises and builders attempt to price in the true anticipated cost of raw materials.

The statistics bureau spokesperson said the indexes were designed to protect large and small contractors alike, but could not do so for builders who offer unrealistic prices in order to win contracts, or don’t link project costs to the index.

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