Over the last few months there have been a number of stories about construction firms around the world posting less than expected earnings or reporting lay-offs. Recently we even experienced the bankruptcy of one of the worlds largest construction companies.
Today, I want to share some of those stories and correlate these spectacular failures into actionable items we can perform to help avoid these risks.
Starting with the news about Carillion Plc who’s UK based operations have been ordered for liquidation on the heels of issuing three profit warnings in five months and refusal from the banks to lend any more money to UK’s second largest construction company.
Reportedly, in the months leading up to their demise, Carillion reported reduced earnings of more than £1 billion, according to the Guardian. It also has debts of nearly £1 billion and a £600 million pension deficit.
Carillion’s woes seem to be the result of a firm that overextended itself and took on way more than it should. This led to excessive debt and an inability to pay it’s sub-contractors.
Also in the news last August 2017 New Zealands largest Builder, Fletcher Building reported an 80% drop in it’s reported earnings and has been dubbed a “serial underperformer” by New Zealand’s Shareholder Association.
Fletcher appears to be struggling with a series of underbid projects coupled with an over-extension of the firm. Fortunately for Fletcher, they seem to have caught the problems in time to save the company.
Skanska, Sweden’s largest Builder is also in the news this month reporting that it’s laying off 3000 employees and posting losses of $49.8Million as it pulls out of the power sector in the US.
Skanska’s troubles seem to suggest that the firm overextended it’s reach and is now suffering from under-performing operations in Poland and in the US Power Sector. It seems these failures have triggered a restructuring of the firm.
What this Means for You
These are only the most noteworthy stories of under-performance, over-extension, and losses from some of the largest construction firms around the world.
Separately, these stories are merely examples of the myriad of ways that construction firms can go bad, but collectively these start to show patterns we need to recognize to protect Owner’s from performance risks.
The truth is that there is no silver bullet when it comes to risk of insolvency. I’m sure that the people who awarded Carillion never expected them to go bankrupt. Regardless, there are a number of ways that procurement can guard against these risks. Today I want to share a few of the strategies I use.
Right-size the Contractor to the Spend
When I say right-sizing I’m referring to pairing the contractor’s annual revenue with your project’s spend. Contractor’s tend to have a “sweet-spot” of projects that fit the size and scale of their operations. Finding contractor’s who’s sweet-spot aligns with your project’s spend is a good way to ensure that your supplier pool is well positioned to serve your Client.
Don’t be afraid to ask a contractor for their approximate annual revenue and compare that to your estimated project value.
If your Contractor’s annual revenue is lower than your budget, the job is too large for the firm. If your budget is less than 1% of the Contractor’s annual revenue, the job is too small for the firm.
Right-sizing is a good early method for pairing your project with the right size of supplier.
Run a credit Search
Credit checks are not completely reliable, but they can offer some information to help you evaluate risks.
Unfortunately, a large number of suppliers are either not listed or do not curate their credit information (to ensure accuracy), so anytime I receive credit data, I’m immediately suspicious. This holds true for positive and negative information equally.
Regardless, running a credit check can give you data that you can later validate directly with the supplier.
Even after you have requested a credit check, nothing beats first hand information. Be sure your solicitation asks for at least 5 years worth of financial information.
This need not be an audited financial statement that takes several accountants to interpret. A simple statement that shares assets, liabilities, debt, and revenue can give you information on the health of a supplier. Some suppliers hesitate to share this but if you explain why you are requesting the information and clarify that you simply cannot accept the risk of award without validating the health of the provider, they’ll give in.
Solicit financial information direct from the supplier to ensure financial health.
Once you have the financial information, you need to know what to do with it. There are a number of ratios and tests that an accountant might do, but in very simple terms what you want to see is that assets are higher than liabilities and debt is lower than assets.
Be sure to compare these against all bidders so you can see which one of your suppliers offers the lowest financial risk.
With such noteworthy failures in the industry, you can bet that I will be paying even closer attention to the financial health of all of my contractors.
With the presence of so many uncontrollable risks in a construction project, it seems to me that these simple solutions can be quite powerful strategies to help mitigate financial risk.
I hope you incorporate these strategies into your procurement and you never face the prospect of an insolvent supplier.
What do you think about these strategies? Do you use something similar? Are there other strategies you use? Tell me your stories.
Thanks for reading. If you enjoyed this content, please feel free to browse my previous articles and please like, share, comment, and subscribe. This helps promote my content and is greatly appreciated.