Restructuring has shaken the industry’s foundations, and health service work may not be the longed-for panacea. Neil Doyle reports.
The biggest issue facing the construction industry at the moment is the government’s Private Finance Initiative. Crippled by recession, the industry is only now showing very tentative signs of recovery. Hopes of a return to prosperity hinge on the PFI. It is predicted that next year orders secured through this route will provide a boost to the industry after six hard years of slump and over 500,000 job losses. But deep scepticism remains over its success.
Although the health sector was seen as a potentially rich vein of PFI work, week after week construction firms have been dropping out of consortia bidding for large hospital schemes around the country. Among the reasons given, the bureaucracy of NHS Trusts -which inflates the costs involved in setting up projects and arranging finance – and unacceptable contractual risks are top of the list.
The situation was brought into even starker contrast with Making the PFI Work, a joint report by Contract Journal and construction consultant James R Knowles. Based on a survey of 200 organisations – clients, contractors and financiers – it found that 75% believe that the private sector will be unable to fund bids to meet the government’s £14bn programme of PFI schemes. This is a worrying indication that the flow of work in 1997 will be weaker than expected.
Despite the gloom in the industry, building and construction shares during the past few months have outperformed the stock market. Although shares in this sector have increased in value by nearly 28% against the FTSE index rise of close to 13%, they are still far below the levels seen in the early 1990s.
Stockbrokers agree that the surge in share price has been due to optimism in the housing market, but as activity slows, the outlook for share prices is uncertain. Kevin Cammack, housing analyst with Merrill Lynch, says: “The recovery is being driven by housing and the market is taking the view that prices will recover as well as volume. But share prices are still much lower than five years ago: in relative terms, Amec shares are only half what they were in 1992.”
Within the overall picture, some contractors are doing markedly better than others. Amec has outperformed the index by 150%, Barratt Developments by 60% and Berkeley Group by 70%.
Mark Hake, analyst with UBS, says: “Some companies are doing better because of where they are geographically placed; for example the South is doing better than the North East or North West. Land acquisition and strategy is also important, particularly to create the low housing price inflation market that is needed. Companies who acquire good land for good prices will have a better margin than those who don’t.”
Restructuring was 1995’s watchword, with major firms turning to niche markets and overseas work, while some bailed out of building altogether. But the costs of restructuring were high. Although the shake-up still has a considerable way to go, some of the effects have shown up in contractors’ annual results.
Last year proved difficult for most contractors, with the local UK construction and housing markets causing particular problems. While the picture is by no means uniform, the main trends are: an increased reliance on partnering arrangements or negotiated work with clients, as opposed to work won in open tender; a continued push by major contractors to reduce their exposure to the UK market by increasing the amount of overseas work; restructuring of many companies, especially in their building divisions; and an increase in specialised work or niche markets.
Most major contractors suffered losses or reduced profits. Competition is frighteningly fierce and margins are negligible. As a result, some contractors have decided to hive off non-core or unprofitable parts of their business and concentrate on specialist areas.
Sir Alfred McAlpine and Wimpey have taken this to extremes by pulling out of building completely. McAlpine now concentrates on major civil engineering and PFI projects and housebuilding. The decision did not come cheap – McAlpine posted a pretax loss of £24m for 1995, compared with an £11m profit in 1994: involved were £7.3m of closure costs on top of a £6.8m operating loss.
The Wimpey-Tarmac asset swap earlier this year boosts Wimpey’s position as the UK’s number one housebuilder and gives Tarmac a strong position in the aggregates market. But 1995 was tough: both showed substantial falls in pretax profit. Wimpey dropped to £16m in 1995 (£45m). Tarmac slumped to £20m (£107m), largely owing to exceptional charges.
Taylor Woodrow’s profits dipped a little to £46m (£51m), but it was unable to keep its UK construction division out of the red. The division incurred a £9m loss as restructuring and redundancy costs ran to £8.3m. John Laing was able to maintain its pretax profit at much the same level as 1994, but it, too, had to reorganise its construction division at a cost of £11m. This led to an operating loss of £2.3m.
Exceptional charges battered John Mowlem into a £30m loss (£5m loss in 1994). These included the £14m incurred as a result of losing a case in the High Court (John Mowlem Co v Eagle Star Insurance Co). Mowlem’s construction division just scraped into a £300,000 profit and Balfour Beatty’s profits before exceptionals sunk to £18m from £43m in 1994. The company was hit by the decline in major civil engineering projects and the cost of the tunnel collapse on the Heathrow Express project.
Two exceptional charges also knocked Higgs & Hill into the red by nearly £8m compared with a pretax profit of £1.3m in 1994. Again the cost of restructuring, prompted by the fall in construction workload, was a major cause. Merging its southern construction division with design and management cost £4.2m.
A few contractors did manage to buck the general trend of falling profits on the construction side. Birse bounced back after four loss-making years, largely thanks to its building division. Chairman Peter Birse declared his lack of enthusiasm for more roadbuilding. Building activity rose from 45% to 60% of the group’s turnover for the six months to October 1995. Birse is aiming to increase this to 70%.
Tilbury Douglas also affirmed its commitment to the UK building market. It posted a 9% rise in pretax profits to £17m, with the construction division showing a £5m operating profit. Despite late payment difficulties, Galliford’s latest interim results saw operating profits rise by 29% to £420,000, largely thanks to a return to profit by its construction arm.
The difficulties still being encountered by contractors in the open tender market led several into a resolute drive for more negotiated work. Birse has partnership deals with Sainsbury, Asda, Rover Group and Southern Water, and Tilbury Douglas now pulls in half its work through negotiated, design-and-build and facilities maintenance contracts. M J Gleeson secured £45m worth of partnering work last year, enough to double the size of its order book. Gleeson and Tilbury Douglas signed an agreement with Thames Water, which will see them share £100m worth of work.
Negotiate and survive
Costain, Mowlem, Balfour Beatty and Tarmac have all disposed of their housing divisions in the past two years. Martin Laing, chairman of Laing Group, boldly announced that only Laing and Taywood would be left as contractors with a housing division by the end of 1996. This was hotly denied by Graeme McCallum, managing director of Alfred McAlpine Homes, who said that the firm would continue to expand, either through organic growth or acquisition. But there is much evidence to back up Martin Laing’s prediction.
Trafalgar House has sold Ideal Homes to Persimmon; Bovis is to float off Bovis Homes in 1997; and much speculation hangs over Amec’s Fairclough Homes, although a sell-off has been denied.
Major contractors are increasingly relying on overseas markets in an attempt to cut down their exposure to the moribund UK market. Laing intends to build on its strategic alliance with NCC of Sweden, Strabag of Germany and GTM Entrepose of France. Overseas turnover sits at 20% at the moment, but the group intends to push this to 50%.
In Tarmac’s asset swap with Wimpey, one of the attractions was Wimpey’s overseas interests, which have lifted international turnover to 30%. Chief executive Neville Simms is keen to expand in the US, France and the Pacific Rim.
Both Costain and Trafalgar House have concentrated on winning overseas work, though Costain issued a profit warning after running into problems here for the second year running. Malaysian contracting group Intria Berhard has now come to Costain’s aid, underwriting more than half of a £74m rescue package.
Trafalgar House has been taken over by Norwegian giant Kvaerner. It is interested in the group’s offshore, civil engineering and international expertise. A question mark remains over the UK building business.
For many firms 1996 is likely to be a year of consolidation. Will the strategy of concentrating on select market sectors produce the desired results? The next two years will tell.
Neil Doyle is news editor of Contract Journal.
UK Construction Results: 1995
| Company turnover | Pretax profit | |||||
|---|---|---|---|---|---|---|
| 1995 | 1994 | % change | 1995 | 1994 | % change | |
| Amec | 2.5bn | 2bn | +25 | 15m | 20m | -20 |
| Balfour Beatty | 1.7bn | 1.7bn | 0 | 18m | 43m | -58 |
| Birse | 202m | 154m | +31 | 0.34m | -0.68m | – |
| Bovis | n/a | n/a | n/a | 30.4m | 24.2m | +25 |
| Galliford | 89.9m | – | -8.4 | 0.42m | – | +29 |
| Gleeson MJ | 90.9m | – | +7 | 3.5m | – | +7 |
| Higgs & Hill | 350m | 290m | +20 | -7.7m | 1.3m | – |
| Kier | 291m | 291m | 0 | 2.7m | 2.7m | 0 |
| Laing | 1.2bn | 1.1bn | +9 | 20.1m | 23.8m | -15 |
| Lovell | 300m | 250m | +20 | -32m | 4m | – |
| Alfred McAlpine | 760m | 930m | -18 | -24m | 11m | – |
| Mowlem | 1.4bn | 1.3bn | +7 | -30m | 5m | – |
| Tarmac | 2.5bn | 2.5bn | 0 | 20m | 107m | -81 |
| Taylor Woodrow | 1.2bn | 1.2bn | 0 | 46m | 51m | -10 |
| Tilbury Douglas | 456m | 406m | +11 | 16.5m | 15.1m | +9 |
| Trafalgar House | 790m | 830m | -5 | -4m | 13m | – |
| Try | 137m | 130m | +5 | -4.4m | 0.62m | – |
| Wimpey | 1.6bn | 1.7bn | -6 | 16m | 45m | -64 |
