The UK timber industry has performed well over the past 18 months despite its fair share of economic and political upheaval. But, the depreciation of Sterling, rising global timber prices and falling consumer confidence will soon start to take their toll on business cash flow, and we can expect insolvency levels to rise.
Input costs have undoubtedly surged for UK timber firms over the past year – increases that have been exacerbated by the rise in global timber prices as demand has grown across Africa and the US. The value of Sterling plummeted following the Brexit vote, pushing up the costs of imported timber and materials by almost 20% and leaving businesses with the significant challenge of passing them on.
But, despite the difficult trading conditions, insolvency levels have remained comparatively low. We saw recorded late payments in the sector fall for the second consecutive year in 2016, and although trades working in close proximity to construction – from joiners to timber frame manufacturers – were at increased risk, performance across the industry has been largely buoyant.
Businesses across the timber supply chain have generally been successful in passing on price rises, and many have been protected from the currency fall by hedging policies. Consumer confidence has also played an important role. Despite plunging after the referendum, it recovered unexpectedly in the second half of 2016 and better than expected sales have certainly helped companies to offset rising input costs.
BUSINESSES WILL SEE MARGINS TIGHTEN
However, these positive market conditions are built on weak foundations. There are certainly concerns about the impact of expiring hedging policies. These agreements will be expensive for businesses to replace, particularly given the possibility of the UK leaving the EU without a Free Trade Agreement.
But, in the short term, the greatest threat comes from the continued fall of the pound, increasing global timber prices and weakening consumer spending. Margins across the sector are already tight, and it’s highly probable that we’ll see rising insolvency levels over the next 12 months as cash flows come under greater strain. We’ve already seen several in the last couple of months, including small timber frame builder Roy Homes.
Businesses currently at most risk are those in the ‘squeezed middle’ of the supply chain, notably manufacturers fighting the dual pressures of rising input costs and end-users strongly resistant to price increases. Without the scale and strength in negotiations that some of the larger timber companies have, small to medium-sized businesses will potentially have to give up more of their margin. Companies are also far more vulnerable to these pressures where there is over-reliance on one customer as negotiating options are massively reduced. There will also be increased risk for those businesses working close to the construction supply chain. While the outlook for housebuilding and civil engineering remains strong, particularly with the recent Government commitments to new infrastructure projects and increased support for prefabricated housing, other sub-sectors are set for a challenging trading environment in the medium to long-term.
There are concerns for the thousands of smaller contractors, from fit-out to cladding, as this work tends to complete towards the end of a project when available cash is depleted, while main contractors continue to stretch payment terms.
Falling levels of Foreign Direct Investment (FDI) will increasingly impact commercial construction activity in particular, arguably creating new margin pressure as competition for work increases.
The economic outlook is deteriorating and the next 18 months will undoubtedly be challenging for timber companies as they look to adapt.
Those businesses who can find new avenues to pass on increasing costs will certainly fare better, particularly those adding real value in the supply chain or a where they command a market leading position as these attributes will better protect margins. Despite this, every company would be wise to keep a close eye on market trends affecting import prices and maintaining an attentive approach to their credit books to spot problems further down the supply chain that could leave them vulnerable. Rising numbers of insolvencies could produce a ‘domino effect’, so businesses will need to be vigilant.
