Construction costs in London are now the third-highest in the world, according to research from consultants Turner & Townsend.
The cost of building in the capital has increased by 5 per cent in the 12 months to April 2016, according to T&T’s International Construction Market Survey, with costs expected to grow by more than 5 per cent over the next 12 months.
The average construction cost for commercial and residential projects per sq m in London stood at $3,550 (£2,430), behind New York ($3,650 / £2,500) and Zurich ($3,700 / £2,530).
The consultant said the capital “remains overheated”, with a strong demand for major projects and “a lack of capacity” in the supply chain to respond.
Tender price inflation in the capital is forecast to stand at 4.9 per cent in 2016/17, down slightly from the 5.1 per cent reported in 2015/16.
On a medium-sized commercial scheme of 5,000 sq m, contractors in London are expected to make a 5 per cent margin, compared with 15 per cent in Qatar’s capital Doha, or 10 per cent in Sao Paulo, Brazil.
Speaking to Construction News, Turner & Townsend global managing director of real estate Steve McGuckin said both clients and contractors needed to be smarter to improve margins.
“There’s four things you have to do well on a project: you have to brief it well, design it well, buy it well and build it well,” he said.
“Irrespective of what the economy’s doing, clients struggle to get from briefing to buying efficiently. My advice to clients is to be rigorous in your requirements and your design. If it’s designed well and you’re not going to change your mind, you can buy it well.”
Mr McGuckin added that reducing provisional costs in construction contracts would be “better for both the contractor and the client”.
“Contractors don’t arrive on site thinking, ‘I want to do a bad job here’; what happens is that they can get on site, things change, designs are incomplete, and everyone argues over the risk,” he said.
Outside London, margins are highest in the North of England, with an average margin of 4.5 per cent, while costs are expected to grow by 3.1 per cent in 2016/17.
In the South, margins are tighter at 4.3 per cent while costs are expected to rise by 4.3 per cent in 2016/17, up from the 3.8 per cent reported in 2015/16.
Contractors are expected to make a margin of only 3 per cent in Northern Ireland – the second-lowest of the 38 markets covered in the survey.
Mr McGuckin said he understood why more firms were taking a “design-and-deliver” approach to construction, especially in the infrastructure sector.
“I understand why companies like the idea of delivery as well as design, as it gives them greater control over the process to maximise their margins and minimise their risks,” he said.
Consultant Aecom set up a UK contracting arm last September, which is targeting work in the residential and commercial sectors.
Mr McGuckin said the design-and-deliver the model was “not always easy to apply in real estate sector” due to its fragmented nature and a more hands-on approach from clients.
Internationally, there has been major cost inflation in Seattle, with costs forecast to rise by 8 per cent in the next 12 months.
At the other end of the scale, costs in Beijing fell by 10 per cent in the last 12 months due to an oversupply of residential schemes and weakening demand.
Two markets are classed as ‘overheating’ – New York City and Seattle – both of which face a shortage of contractors and skills, alongside little competition on bids.
Four markets – Dublin, Kuala Lumpur, London and San Francisco – are classed as ‘hot’ markets that have a large number of projects and less competiton for tenders, which has driven up prices.
Moscow and Sao Paulo are the only two markets classed as ‘cold’, with intense competition among contractors for very little work and a weak economic climate.
Mr McGuckin said a “slightly cooler” London market “might be best for everybody”.
“What a contractor likes is a stable market,” he said. “Going into recession they have too many overheads, and coming out of recession input costs are higher than their tender costs. Boom and bust is the biggest challenge for a contractor, but you can learn to work within a steady market.”