Trend and Outlook for Construction Tender Prices in Ireland

Recent market commentary has highlighted[1] the continued increase in tender prices in the Irish market through Q2 and Q3 - these increases have a knock-on cost impact on projects because of delays. With increases noted of 13% - 16% from early 2017 to early 2019 the tender price increase has potentially raised the forecast out turn cost of projects such as the National Maternity Hospital by €50m to €350m. The quantum of potential increase in tender prices emphasises the importance of providing for future tender inflation in feasibility studies and development cost planning – calculation of an appropriate allowance needs to be a key part of financial risk planning for a project. This allowance should be based on four things:

1. The estimate of project costs (including contingencies) at current market prices;
2. The pre-construction and construction period for the project;
3. The procurement and expenditure profile over the design and construction life of the project;
4. Anticipated market conditions.

 
Amounts provided for tender inflation should be identified separately in a budget and should be incorporated into the individual cost components at various project review stages. This post lays out a prediction for future tender inflation illustrating a clear estimation methodology (see link) .

Our estimate of tender inflation through the period to 2020 has been calculated with the following assumptions:

1. The general rate of CPI inflation is forecast at 1.1% in 2019 (0.7% 2018). Thereafter it is assumed that CPI inflation is in line with the 2.0% target set by the ECB;
2. Inflation in building and construction materials is expected to rise by 4% in 2018 and then by 3% in 2019 and 2020;
3. Labour cost rise by 10% in 2018 and then by 2.5% in 2019 and 2020;
4. It is assumed that the weighted building and construction cost inflation rate will be made up of 60% materials and 40% labour costs;
5. Competitive tendering conditions.

 
A forecast of cost and tender price indices has been calculated using the following formulas:

Cost Index Forecast = 60% x Equipment and Materials Inflation + 40% x Labour Cost Inflation

Tender Index Forecast = Cost Index Forecast x Expected Change in Tender Margin
 
These calculations indicate that after peaking in 2018 at a rate of 7.8% our forecast is for tender inflation to moderate from 2019 on to c. 4.6%. We have examined the sensitivity of tender prices to changes in labour costs and margin recovery - this indicates that increases above 6.4% in tender prices would require a mark-up on costs increase of 10% (from current estimated levels) and a wage increase of 5% in 2019. Given the increases experienced to date in 2018 we estimate that it is likely that price increases will moderate in 2019 given competition.
 
In summary, amounts provided for tender inflation should be identified separately in a budget and should be incorporated into the individual cost components at various project review stages. The linked article looks at the current trends in material and labour costs and, based on an assessment of the level of competition in the market, lays out a prediction for future tender inflation. After peaking in 2018 at a rate of 7.8% our forecast is for tender inflation to moderate from 2019 on to c. 4.6% based on the assumptions made.
 
Our iOS App to estimate a construction cost range for your project and appropriate inflation allowances based on your programme can be downloaded from the APP STORE here.

[1] Source: Irish Independent 7th August. Irish Times 7th August. Sunday Times 19th August, 2018, p3.