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KPMG says contractors must restructure now to avoid long-term pain

Construction firms must act now to streamline and restructure as they brace for anything from 18 months to four years of severe market pressure, advisory firm KPMG has warned.

KPMG partner in the operations strategy group, Jeremy Kay, adds that radical decisions are required at boardroom level, while firms should reconsider their regional approach and centralise procurement.

The advisory firm this week gives Construction News exclusive insight from its Foundations for Success, which took place yesterday.

KPMG also used the event to launch a new tool for the industry, called Interactive Infrastructure, a GoogleMaps-based platform that will list projects before they reach procurement.

Mr Kay says that any company not adapting to the market “needs to act now”, given that standard execution time to implement sufficient change is around six to 18 months. He says some companies are expecting up to four more years of margin pressure.

Mr Kay suggests that while companies may have addressed discretionary cost reductions, such as volume-related costs and efficiencies, many need to face up to the tougher options, including structural, regional and portfolio changes.

Some companies are still not exploring possible changes at a group level, he says, including cutting duplication and slack in areas such as procurement, business development and health and safety.

“It’s quite hard to keep costs out unless you change structures and processes,” he says.

“There is a question of how far ambition has gone in terms of optimising costs.”

Mr Kay also questions the number of layers between chief executives and workers on site - which he says should be around six, but was 18 in the worst case he seen - and queries whether procurement is better carried out centrally rather than regionally.

In terms of offices, where he says a regional “hub and spoke” approach, which allows a central base for a geographic region with a handful of offices that can move with the market and be ready for an upturn, is a far more efficient approach than closing a handful of offices.

Difficult decisions

Failing to confront these difficult choices now will leave the door open to a “cost boomerang” effect that will see those bills return as the market recovers, he adds.

Partner in KPMG’s strategy practice Robert Browne says pricing will be crucial for firms in the current climate.

“Contractors tend to develop prices assuming the best case scenario for the work, whereas pricing really needs to think through the various outcomes and risks of a project,” he says.

He adds that most firms do not have a pricing strategy or policy in place, or someone fulfilling a central pricing role.

This means that contractors tend to make pricing decisions on an “ad hoc” basis for specific projects or contracts and are using pricing “as a tactical lever to win work and keep business”.

He urges companies to be disciplined in terms of a minimum price and margin threshold. “Be very slow to reduce your prices because it just undermines your long-term value,” Mr Browne advises.

He says companies should define segments of the market and for each segment define a target price and margin, floor price and margin and discount schedule, and also look to give several prices for a job.

He suggests having a centre of excellence for pricing within the business, while ensuring they are central to the bid review process.

Debt issues

A contraction in the construction market has of course meant a contraction in revenue for many companies, which means less cash up front and a rise in debt, says John Miesner of KPMG’s debt advisory team.

He adds: “If revenue continues to shrink, we would expect debt to continue to rise and that will put pressure on the amount of headroom corporates have with their [finance] facilities.”

Banks of course remain the central source of finance for construction, but continue to be under their own regulatory and financial pressure.

“There has been a definite contraction that is putting a lot of pressure on refinancings when they come around,” Mr Miesner says.

But there are signs that some government schemes, such as Funding for Lending, are beginning to feed through to improved supply and lower pricing from the banks that remain in the market.

Among the most notable examples of this occurred last month, when Kier announced it had tapped into a £30m loan under the scheme.

The current market also means banks are “looking to protect their position” through rights to a company’s assets when structuring new deals, he says.

There have been some signs of the alternative debt markets, such as private placements in the US, but these are subject to a minimum of $150m of debt, with the likes of Balfour Beatty, Carillion and Kier all taking part in the last four months.

Other areas that could be an option for construction firms include the high yield bond and retail bond markets, or the specialist fund market, which could potentially open £25-50m of bilateral lending for borrowers in the sector.

Joint ventures cause concerns

Banks are becoming increasingly concerned about the growing number of joint ventures, which sees firms lose direct control of their cash and assets, according to John Miesner, of KPMG’s debt advisory team.

“If you are putting a lot of money into JVs, the underlying business loses control of those assets,” he explains.

“It ties up a lot of capital because you typically need to keep cash in JVs, and you can’t easily repatriate that cash.

“Forming JVs seems to be the only way to win some of the largest contracts, but keeping everything within the direct control of the borrower is quite a high priority for the banks.”

Interactive Infrastructure

A GoogleMaps-based platform showing planned projects is set to give contractors, sponsors, developers and investors a clearer picture of what is coming to the market, says KPMG.

Mr Threlfall says the feedback from the industry has been along the lines of “why would we not want it?”

“The aim is not to replicate the Treasury’s tools,” he says.

“It will focus on projects that have not officially reached procurement. Some of these will be familiar projects and some won’t be. It’s another way to look at pipelines.”

The map is a way of “getting to the parts that other pipelines can’t reach”,  he adds.

The projects will be signposted by region and sector and will then link to relevant websites for full details.

The tool is launching with projects including Welsh Authority plans for the A465; the Leeds Trolleybus; Mainstream renewable power project; Sandwell hospital; the A9 dualling in Scotland.

 

Readers' comments (2)

  • Could you be specific about whether this tool is only being made available to KPMG clients or whether it will be made generally available? There seems to be nothing about it on the KPMG website.

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  • The initiative should be going live in a few months. We'll certainly keep you updated, but KPMG are welcoming any info on projects so they can carry on building up the database. It will be generally available to the market and free.

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