Shares in UK contractor Balfour Beatty fell 4.3% in early trading yesterday after it warned investors that its 2015 results would be hit by a “shortfall” of £120m-£150m.
The profit warning is the seventh in two years, with the turmoil at the company leading to a complete change in its senior management and a forensic accounting investigation headed by KPMG.
CM columnist Staffan Engstrom on the latest profit warning
“I must admit to having been seriously taken aback at the latest profit warning announcement from Balfour Beatty. After a loss from continuing operations in construction of £391m last year, and with the newly installed turnaround team under Leo Quinn in place, the last thing that I had expected was another £120m to £150m of losses to be uncovered.
Let’s be honest, usually one of the first actions of a new management team coming into a troubled construction businesses is to “kitchen sink” the losses that they can see together with a whole bunch more that they can’t. This enables them to build some reserves that they can use to look good going forward, impressing investors with their business acumen as the results keep improving (supported by those very reserves).
Well in this case that doesn’t seem to be happening, as far as I can see. I know the company line is that KPMG has only just uncovered this, and it is all just part of their ongoing review, but surely this further profit warning undermines the efforts of management to draw a line under the losses for investors?
By all accounts Leo Quinn and his new management team are excellent. He has worked with them before, they have a great looking plan, and they seem to be doing lots of good things in sorting out Balfour Beatty.
But one thing worries me: I don’t see enough really great construction people at the top of Balfour Beatty.
Let’s face it, this industry has quite a lot of black art about it. You need people in charge who really understand the pitfalls and challenges of construction, because they have done it themselves at the coal face.”
Staffan Engstrom is an independent business and strategy consultant
The company’s statement announced that in-depth review of the business had “continued to identify legacy issues in the UK, US and Middle East” but added that the UK would account for about two-thirds of the shortfall.
According to the BBC, the City had been expecting Balfour to make a pre-tax profit of £77m for the full-year to 31 December 2015, so the lower-than-expected earnings could eventually push it into a loss greater than the group-wide £59m loss it reported in 2014.
The bulk of Balfour Beatty’s non-performing contracts have so far lain in its UK Construction Services division, specifically the Balfour Beatty Engineering Services division. Last March, in its results for 2014, the UKCS division chalked up a loss of £391m (including another profit write-down of £118m) on a turnover of £7.9bn.
But in those results, Balfour Beatty also acknowledged losses of around £15m on two M&E contracts run by its Middle East joint ventures, with the company saying at the time that difficulties with main contractors on M&E contracts in the region mirrored similar experiences in the UK.
Meanwhile, Balfour Beatty’s Gammon joint venture in Hong Kong has also reportedly hit problems with major delays – partly caused by severe rains flooding underground tunnels – on the West Kowloon Terminus Station North.
But Leo Quinn, group chief executive, sounded an optimistic note, saying: “We are making encouraging progress on the group’s transformation. The positive response of our people to change, the continuing confidence of our customers in Balfour Beatty’s expertise and the first signs of improving cash performance reinforce my conviction in the group’s long-term success.”
Quinn, who has a reputation for turning struggling businesses around, took over his role in January, the same month in which KPMG published its findings of a contract-by-contract review.
It concluded that teams in its UK business won work by “tendering at very low margins with optimistic assumptions and inadequate provisions for risk”.
KPMG also said there were problems with the way Balfour managed legal contracts, including “poor contract administration and optimistic assumptions on contract penalties”.
According to the report, there was “insufficient visibility, control and understanding of actual programme forecasting versus reported contract performance”.
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