Robert Gottliebsen: Porter Davis crisis could force building finance review

QBE is cutting back on its exposure to these contracts and Porter Davis was one of those builders that suddenly found it very difficult to get QBE insurance for their suppliers.

Australian banks have responded to the problems of overseas banks and the disastrous collapse of Porter Davis with a much tougher set of rules for funding new dwellings.

APRA would have almost certainly been involved in the toughening attitude.

I am told by developers of mid-sized apartment projects that before they can gain bank funding, the builder they have chosen needs to pass an exhaustive credit check.

But another top four bank is so petrified by the financial state of so many builders that it has suspended all lending on new homes to be built. These extreme actions indicate some banks have losses ahead. Banks finally understand that they contributed to this crisis by insisting on fixed price building contracts as a criteria for mortgage financing. That will now be changed.

Meanwhile, the builder final examination will include a detailed examination of all the builders’ contracts, including commencement and finishing times, variations and disputes.

All properties held by the builder must be examined as well as their outstanding debtors and payments to the ATO.

This exhaustive examination policy has been adopted by one of Australia’s larger home bank financiers and will almost certainly be followed by the others.

Given the state of the building industry relatively few medium sized and larger builders will be able to pass such test leaving the field open too smaller builders who did not get caught in the crisis.

The next logical step for banks is to apply these builder credit tests to individual home contracts.

If banks take that step builders selling to individual dwelling developers will need to get a bank builder clearance before they can sell a dwelling to an individual family with a binding contract.

Builders that can’t get that bank approval will go out of business.

The amount of new housing contracts being signed has declined rapidly in recent months but this action will push new dwelling building down even further.

So, we have a bizarre situation where there is a huge shortage of dwellings, rents are going through the roof and the amount of home building that is going to take place is set to be severely contracted by the banks’ tough line on builders, the reduction of the number of builders and the tight credit for home buyers.

On top of that we are stepping up migration during this time of building chaos.

The Porter Davis collapse is being classified in the same way as other big building collapses, but in many ways it is different.

The equity backers of Porter Davis last year looked at their books which, of course, had a large number of contracts where the cost of completing the building had risen above the contract price.

But on their calculations they could get through this and substantial amounts of equity were injected as part of that process.

That money has been lost.

Porter Davis Homes Group, the nation’s 12th largest home builder, has collapsed after a last-ditch rescue plan failed.

The building group was forced into liquidation for a series of reasons that are endangering other builders that might otherwise survive.

Porter Davis building contracts, like most building contracts, require a level of work to be achieved before a payment is made.

Porter Davis outlaid funds to achieve part that payment trigger but couldn’t complete because they couldn’t get subcontractors to do the work or materials were unavailable.

And of course, if subcontractors were available they often wanted cash upfront before they do the work.

So the company found itself with large outlays which they couldn’t recover from homeowners.

Most suppliers to builders attempt to get insurance to back the credit they give in supplying components.

QBE is cutting back on its exposure to these contracts and Porter Davis was one of those builders that suddenly found it very difficult to get QBE insurance for their suppliers.

In the building industry there is considerable bitterness over this latest crack down by the banks because they have played a big role in the disaster that has taken place in dwelling building.

They demanded builders sign fixed price contracts because it made it easier for their mortgage book but that left the builders exposed.

They lowered their credit standards by showering potential home buyers with loan money to boost profits which caused an avalanche of contracts that the builders couldn’t handle.

And of course, government and councils deliberately push up the price of buildings with long approval delays and bureaucratic difficulties.

This crisis may trigger a review of the way we conduct the building industry and clearly more risk will need to be shifted to the developer now that the banks are cracking down on builders.

Meanwhile none of this is good for the profits of banks that rely on housing.