Building on solid ground | How to manage counterparty risk
08 October 2025
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As published in the October edition of Build Magazine.
The Australian construction industry has faced significant turbulence over the past five years, with insolvencies reaching record highs. According to ASIC, approximately one in four corporate insolvencies occur in the construction industry, with rising material costs, labour shortages, and interest rate pressures contributing to the challenges faced by many builders and developers. In this volatile environment, counterparty risk assessments have become a critical tool for mitigating exposure to financial and operational risks.
Counterparty risk refers to the possibility that a party involved in a contract, such as a builder, subcontractor, supplier, or developer, may fail to meet their obligations. In construction, this can lead to significant project delays, cost overruns, legal disputes, or project failure. Given the industry’s reliance on complex supply chains and multi-party contracts, the failure of one entity will often have cascading effects across an entire project.
Thorough counterparty risk assessments help stakeholders including developers, financiers, insurers, and contractors, to make more informed decisions about who they engage with. These assessments typically involve evaluating a counterparty’s financial health, historical performance, legal standing, operational capacity, management capability and reputation.
A best practice risk management framework
Incorporating robust counterparty assessments into procurement and contracting processes can significantly reduce exposure to risk.
Effective counterparty risk assessments should extend across the project lifecycle, with a natural emphasis on the pre-selection and onboarding of contractors. During a review for an international client on a prospective contractor for a large multi-million project in Asia, we conducted a targeted financial risk assessment that uncovered a significant counterparty concern. Although the contractor was offshore, analysis of special purpose financial statements revealed a material intercompany loan owed to a related party (RP). This prompted further investigation into the related party’s financials, which showed signs of potential liquidity stress. Critically, there were no documented repayment terms or contractual obligations governing the loan, creating a risk that the RP could demand repayment at any time. Such a scenario could have severely impacted the contractor’s financial stability and its ability to deliver on the project. Based on these findings, our client made the prudent decision to halt the engagement and explore alternative contractors. This example highlights the importance of tracing financial dependencies and assessing indirect risks when evaluating counterparties, especially in cross-border contexts. Appropriate mechanisms for exiting or terminating arrangements should be included in counterparty risk assessments, as well as ongoing monitoring tied to project stage gates. These safeguards ensure that organisations can manage and mitigate risks across their project lifecycles and longer-term pipeline. Other financial safeguards, such as staged payments, robust variation approval processes, and performance bonds should also be considered.
A best practice counterparty risk assessment involves:
Financial Due Diligence: Reviewing financial statements, cash flow, working capital performance, and debt levels to assess solvency and liquidity.
Credit History Analysis: Checking for a history of defaults, late payments, or prior insolvencies.
Legal and Compliance Checks: Ensuring the counterparty has no pending litigation or regulatory breaches.
Operational Capacity Review: Evaluating workforce availability, project pipeline, supply chain dependencies, and a prior track record of delivering projects of a certain scale or complexity.
Reputation, Management Capability and References: Gathering feedback from the market, past clients, partners and interviewing management and key personnel.
As builders and developers navigate economic uncertainty and policy-driven housing and infrastructure targets, proactive counterparty risk management will be even more critical. These processes can protect individual projects, and promote greater transparency, accountability, and business resilience to strengthen the industry.