黑洞社区

November brought not just a sudden chill to the weather but to the climate in the construction sector. The recent spate of trading statements from the quoted contractors contained more than a spattering of what looked on the surface like modest profit warnings, but, reading between the lines, were far more ominous. Especially in the case of the sector鈥檚 doyen, Balfour Beatty, which lost a fifth off its share price, and Morgan Sindall, which lost its chief executive.

It was not only that the US order book had shrunk, but also a quadruple whammy in the UK that got analysts cutting their forecasts for profits and, more worryingly, cash

Balfour鈥檚 8 November interim management statement, covering the 拢11bn-a-year group鈥檚 third quarter trading, contained none of the language of a classic bells-and-whistles profit warning. There were no nightmare contracts, no uncovering of 鈥渁ccountancy discrepancies鈥�.

The consultancy, services and PFI investments divisions were 鈥減erforming well and in line with our expectations鈥�. Not so the construction division: 鈥淯S construction markets remain depressed, and the performance of our UK [division] is weaker than anticipated.鈥� As a result, profits for 2012 would be 鈥渟lightly lower than expected at the time of the half-year results鈥�. Not great, admittedly, but hardly the end of the world. But the shares fell 18% on the day and ended the week down 22%.

The real problem (echoed in Morgan Sindall鈥檚 statement) wasn鈥檛 2012, but next year鈥檚 outlook. It was not only that the US order book had shrunk, but also a quadruple whammy in the UK that got analysts cutting their forecasts for profits and, more worryingly, cash. 

The division was seeing 鈥渇urther deterioration鈥� in the overall market, one of the main causes of the group order book sliding from 拢15bn in June to 拢14.4bn in September. Meanwhile, larger, complex contracts were being rapidly replaced by smaller ones, which are generally marked by greater competition, commoditisation and less visibility. Not good for revenue or profit. More worryingly, the group was finding it harder to 鈥渘egotiate terms [with its supply chain] that match the worsening market conditions鈥�. In other words, subcontractors were living such a hand-to-mouth existence that they were incapable of sharing any more of the pain with main contractors. This also appeared to suggest pressure on the bigger firms to pay more quickly rather than risk failures on site.

This was one reason that the group had moved from a hefty 拢292m net cash position at the end of June 2011 to an average net debt of 拢15m in the nine months to this September. The group had flagged many months issues such as a normalisation of the favourable working capital position resulting from the 2009 acquisition of Parsons Brinckerhoff, but the degree of deterioration in UK cash levels was probably more marked than anticipated.

Subcontractors were living such a hand-to-mouth existence that they were incapable of sharing more of the pain with main contractors

Balfour was not alone. Morgan Sindall said 2012 profits would be 鈥渟lightly below previous expectations鈥� and conceded that a 12% fall in secured orders 鈥渉as impacted the short-term outlook for 2013鈥�. Like Balfour it was having to undertake a hefty restructuring, which would cost 拢10m, and had parted company with chief executive Paul Smith.

Kier鈥檚 statement read more reassuringly, at least in terms of its profitability, which it predicted would still meet investors鈥� expectations in the current financial year, albeit more weighted to its second half to June 2013. However, it echoed Balfour, cautioning that 鈥渢he working capital position in construction will remain challenging鈥�.

It also signalled 鈥渁 further review of our construction operations鈥�. Another repetition of the phrase 鈥渟lightly below expectations鈥� appeared further down the league table, in North Midland Construction鈥檚 IMS. 鈥淐ash collection is becoming increasingly difficult,鈥� was a familiar refrain.
Perhaps ironically, two companies that have had their share of profit warnings in recent years appeared to buck the trend. Costain said it was trading in line with expectations, its order book was unchanged, tendering activity 鈥渞emains high鈥� and there was no change in the strong net cash position.

Costain鈥檚 repositioning over the past few years towards big spending infrastructure and utilities clients seems to be coming good.

And, markedly in contrast to Balfour, ground engineering group Keller saw improvements in its most important market, the US, which 鈥渁s a whole continues to show solid growth鈥�. As a result, it signalled that 2012 profits would be 鈥渟ignificantly above鈥� market expectations鈥�. A rare positive surprise, which saw its shares jump 10% on the day. Arguably, Keller, which is at the grimier end of the construction cycle, was earlier into the US downturn and earlier coming out. But one suspects that similar upgrades elsewhere in the sector are going to be as rare as swallows in autumn.

Alastair Stewart is a construction analyst