黑洞社区

Construction is back in rude health, judging by the industry鈥檚 latest CIPS confidence survey, which shows that firms are more bullish about their prospects than at any point since 2004.

The latest 黑洞社区 magazine annual Contractors and Housebuilders Top 150 list should provide a few more reasons for high fives in the sector鈥檚 boardrooms.

It shows that the industry鈥檚 bigger hitters recorded a combined turnover of 拢89.6bn last year - a 6.9% increase on the 拢83.1bn of revenue recorded last year. This increase, which is based on the latest available set of financial results for each company, represents a near trebling of the 2.5% rise seen in 2014.

However, this increase is, to a large extent, buoyed by the performance of the housebuilders, which outshone their contractor peers. The turnover for the 20 biggest contractors on the list, in contrast, was up by just 1.1% from 拢44bn to 拢44.5bn, reflecting order books recovering slowly after the long recession. This slow but steady performance was achieved despite being dragged down by the 拢1.3bn decline in revenues recorded by Balfour Beatty, which remained by far the UK鈥檚 biggest construction company despite its ongoing woes. But satisfaction at this slow growth is being more than tempered by a worsening position on margins, with big losses racked up by a number of contractors, pushing the average profit down sharply on last year. So what picture does the detail of the tables reveal for the UK鈥檚 bruised contracting sector?

By revenue the top three contractors remained the same - with Carillion and Laing O鈥橰ourke sitting behind Balfour Beatty. However, Laing O鈥橰ourke鈥檚 slow growth of just 0.21% in turnover means that Interserve is now snapping at its heels.

Interserve鈥檚 21% growth in turnover to 拢3.3bn saw it swap sixth place for fourth with Kier, despite Kier itself recording growth of over 10%. Morgan Sindall dropped out of the top 10, replaced by housebuilder Persimmon and Amey, which saw its turnover rise by 17.4% to 拢2.4bn. Mitie meanwhile fell two places but just clung on to its perch in the top 10.

Simon Rawlinson, head of strategic research and insight at EC Harris, says the top 150 turnover figures are evidence of renewed vigour across the construction industry. 鈥淚t鈥檚 good that the industry is getting back to health. We would expect to see contractors seeing significant increases in turnover over the past 12 months,鈥� he says, before noting that this increased workload will pose its own set of challenges. 鈥淐onstruction relies on cash so if you increase work, you increase your cash flow but you are being paid in arrears. It鈥檚 very important that clients pay promptly, particularly at a key point in the cycle like this.鈥�

Because while turnover may be reviving, margins have yet to respond. The average pre-tax profit for the top 150 contractors and housebuilders as a whole was 4.9%. 鈥淭his is the first encouraging sign that the industry is rebuilding its balance sheets and getting margins to where they should be,鈥� says Rawlinson.

However, this headline figure is again distorted by the stellar performance of the top housebuilders. Of the 10 companies that recorded the biggest increases in margins last year, six were primarily developers or housebuilders. The average margin of those firms in the top 150, which are primarily contractors as opposed to developers or housebuilders, was just 1.2%, representing slippage on the previous year鈥檚 already unimpressive 2.9%.

As Rawlinson gloomily observes, these kind of returns are on a par with the rock bottom rates on offer from instant access ISA accounts, so hardly make a compelling story for investors.

For Kevin Cammack, construction analyst at Cenkos, the figures illustrate how tough conditions remain for contractors. 鈥淚t still feels like you are picking your way through a minefield, although you can take longer strides to get through it.鈥�

The driver behind value is not moving at the same speed as the driver behind costs. People鈥檚 profits are being eroded

Simon Rawlinson, EC Harris

Nigel Brooke is head of construction and infrastructure at Kier, which made a pre-tax profit in 2014/15 of 2.45%. Nevertheless, he agrees 鈥渕argins are still tight and stable鈥�.

鈥淭he whole tendering situation is still quite fragile. It鈥檚 not easy for anybody,鈥� agrees Stuart Black, executive chairman of Essex-based contractor Lakehouse, which leapt from 77th to 55th in the tables this year, as well as listing on the stock exchange. Black acknowledges this rise has been achieved partly on the back of recent acquisitions which have helped the business to diversify from its contracting roots. 鈥淩ebuilding margins might take longer than in previous cycles. There are still pockets where tendering is still very competitive: the recovery is not widespread enough yet.鈥�

Those contractors which have taken on bigger and longer-lasting contracts may still to be saddled with low margin work picked up during the recession, adds Rawlinson, though much of this work should have washed through by now.

However, Lakehouse鈥檚 Black believes that contractors are at last learning the lessons of the recession, when the chase for turnover tended to trump all other considerations, which often meant not even making a profit. 鈥淭hey are less willing to go in aggressively because they know the consequences.鈥�

Michael Graham, group executive chairman of the eponymous Northern Ireland-based construction company, up four places at 46 on turnover of 拢418m, agrees: 鈥淭he danger traditionally in construction has been trying to keep people busy rather than generating a sustainable business which is what we are really about. We are being an awful lot more selective about what we bid for, more robust about assessing opportunities.鈥�

Tony Williams of consultancy 黑洞社区 Value, meanwhile, notes that there are signs of growing profitability in admittedly niche areas like commercial fit-outs, where anecdotal reports suggest margins are now reaching the mid-twenties on some jobs.

Rawlinson says tender prices in general have been rising for 18 months.

The problem for construction though is that while the economy as a whole is basking in the kind of low price rises last spotted in the early 1960s, the industry remains beset by its own peculiar inflationary pressures coming up from the supply chain.

Construction鈥檚 long-term challenge is how to build margin in this wider environment, where clients will understandably look askance when they are presented with bigger bills. Rawlinson argues the key to improved margins in a low inflation world is greater productivity, such as making a better fist of off-site construction than it has done previously.

However, given the proven difficulty of implementing such changes, he believes that low margins are likely to remain the pattern for at least the next two years, as supply chain costs are rising more quickly than the development values of completed buildings. 鈥淭he driver behind value is not moving at the same speed as the driver behind costs. People鈥檚 profits are being eroded,鈥� says Rawlinson.

鈥淚t鈥檚 getting to the point that it鈥檚 threatening the viability of projects,鈥� he adds, explaining that even in the London housing market, construction and land price inflation is outstripping price rises.

Part of the problem, argues Kier鈥檚 Brooke, is that consultants鈥� estimates are often being outpaced by these rising costs. 鈥淎 lot of the cost information they [clients] are being given by cost consultants is out of date. Consultants should collaborate with contractors at the early stages to ensure that clients are not disappointed,鈥� he says, adding that Kier is reacting to cost inflation by developing deeper relationships with the company鈥檚 supply chain in order to ensure that contracts can be delivered on budget.

鈥淲e are looking at bundling contracts to give them a guaranteed workload if they want to work with Kier,鈥� he says.

黑洞社区 Value鈥檚 Williams, who advises Experian on its construction forecasts, is more bullish, arguing that contractors should have the confidence to push for higher prices. 鈥淧eople working at close to their capacity are being cheeky and asking for a bit extra and in many cases are winning those jobs. Profitability will continue to increase because there is less capacity than demand,鈥� he says.

Brooke says: 鈥淭here鈥檚 a lot of opportunities around at the moment so contractors can be a bit more choosy.鈥�

Williams argues that it is time developers started paying more for their buildings. 鈥淒evelopers have been getting very cheap buildings for seven or eight years: they are
now going to have a sharp intake of breath and pay more.

鈥淚t鈥檚 an educative process but they can afford to pay a bit extra. The cost of building will rise because of cost pressures: there isn鈥檛 endless capacity in this market.鈥�

鈥淚f you keep costs down and don鈥檛 have too much debt, you should prosper over these three years. If you don鈥檛 prosper, you are doing something wrong.鈥�

Contractors will be hoping he is right and that this time next year they are toasting higher margins as well as turnover.