Contractor insolvency is a perennial problem in the construction industry and the topic generates a regular flow of articles for CL, such as one by Ebony Alleyne on p 17 of this issue. Many contractors may still be tendering at negative margins and could possibly be just one major dispute away from the brink, she warns.
After such a damaging recession those who have survived to reach this stage in the business cycle might be fancied to be well placed to benefit from recovery in the wider economy. But this recovery has been strangely muted, and although surveys suggest its base is broadening away from just housebuilding there is still a widespread problem of low margins against a background of rising materials and sub-contractor costs. Skill shortages are becoming acute – try getting hold of a bricklayer in the South East let alone the construction professionals that a significant construction recovery will need.
All the problems facing main contractors have been well enough publicised and analysed, but a new report from KPMG highlights that the full strength of the impact of the problems is still to be felt – and may be about to hit contractors soon.
The KPMG report starts with an encouraging title: Construction Barometer: Recovery in Sight?, implying that it might be. Those hopes are quickly dashed though when KPMG reveals that its analysis of the 14 largest Tier 1 UK contractors shows that their cash positions have declined to half of what they were three years previously and margins are unsustainably low.
Operating margins have crashed, from 2.8% in 2010 to an average of 1.2% in 2013. Even the 2010 margin would be regarded as unacceptable in most other industries, but at 1.2% against the rising costs background they might prove to be unsurviveable for some. Profit warnings have already been issued by some contractors and industry household names are looking vulnerable to takeover – the problem soon may be that no buyer would dare take some of them on.
Cash generated from operations has dried up in the past few years and cash balances have been propped up by asset sales. KPMG implies that the problem is going to get worse before it gets better.
The survivors however have a brighter future to look forward to, which the headlines about the report failed to capture. The report talks of a ‘tidal wave of future work’ coming and says businesses should be investing now in their supply chains and technology to be able to take advantage of it. The tidal wave should reach order books in about a year when supply and demand for sub-contractors and labour will come into balance.
Contractors need to hang on until then. Some might not be able to however, as it is often the wind of recovery that finally snuffs out struggling companies. Meantime, many clients will be tempted to try and lessen their own exposure to the problem of contractor insolvency by insisting on performance bonds or guarantees, thereby increasing the cost burden of already hard pressed contractors. Ebony Alleyne’s article points out the problems with that approach.
Extensive vetting and in depth financial risk assessments of contractors should be carried out as a matter of course by wise clients – but what to do when they are all in the same boat?
Nick Barrett
Editor