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Contracting: “Twas always thus”…

Contracting: “Twas always thus”…

The story unfolding at Carillion is a tragedy for many - for shareholders, bondholders, staff and contractors. It is also a tragedy for the reputation of private sector involvement in public contracts. This latter impact may, unfortunately, be the most enduring.

However, it is also worth bearing in mind, at least in the contracting world, that perhaps “twas always thus”.

When you watch Scotland playing Wales in the Millennium Stadium next weekend, spare a thought for John Laing Construction. Building the stadium was a major factor in the demise of John Laing Construction. Most would agree that the crucible of Welsh rugby is one of the finest sporting stadia in the world, The incumbent CFO of John Laing agreed, saying “The stadium has been a superb project”, before ruefully adding: “…but with a very poor financial outcome for us”. That outcome was worse than even he had then feared; the company eventually lost not only its independence but all of its value, and the construction business was sold to O’Rourke for the princely sum of one pound. As we have seen so many times before, overenthusiasm in the bidding process, coupled with underestimates of the attendant risks, proved calamitous for the company and its shareholders.

Younger readers will marvel at the wonderful Channel Tunnel – surely one of the engineering marvels of the late 20th century. But older readers will remember the financial angst that plagued anyone involved with the project. It was only the arm-twisting skills of Sir Alastair Morton, the co-chairman of Eurotunnel, who ensured that good money followed bad after costs spiralled from £5 billion to £10 billion. In this instance the actual engineering complexity proved to be the least of the company’s problems. It was the financial complexity – that is, the desire to complete the project without public sector involvement, that was a major sticking point. That, allied with unanticipated safety and environmental costs, ate away at the initially rosy outlook for returns.

Finally, it is also worth casting our mind back to the bid that Carillion made for Balfour Beatty in 2014. At that time, Carillion was taking advantage of a company on the back foot - caused by, would you believe it - poorly-managed construction contracts. A review by KPMG on behalf of Balfour Beatty confirmed what the stock market had already realised - that contracts had been tendered for at prices that were too keen, and that these contracts had subsequently been poorly managed. The result? A loss of £317 million, writedowns of a further £118 million and a passing of the dividend.

A contractor is making assumptions about the complexity of the task at hand, guessing his own costs, adding a small margin and pricing the job…a potentially poisonous cocktail.

And so where from here? There will undoubtedly be enquiries aplenty following the demise of Carillion – as there should be. Management mistakes should be called out, and all those involved should be held to account. However, the enquiries need to differentiate between mistakes made specifically by Carillion, and the nature of contracting businesses in general. Contracting is a low margin endeavour, with little capital required and with low barriers to entry. Ultimately a contractor is making assumptions about the complexity of the task at hand, guessing his own costs, adding a small margin and pricing the job. Add in some leverage and this becomes a potentially poisonous cocktail.

Lessons will be learnt from the Carillion calamity – but it seems unlikely that the nature of these businesses will change. If we wish it to do so, this will necessitate an even bigger change of collective mind-set among government, shareholders and managements than we have seen to date following the demise of Carillion.

Image credit: Phillip Roberts Photography / Alamy Stock Photo

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