Laing O’Rourke financial director Stewart McIntyre has told Construction News contract prices have been forced too far down and that risk allocation between contractor and client is “skewed the wrong way”.
“When you look at the margins and returns it’s getting versus the risk the construction sector takes on, it is skewed the wrong way. The risk reward is unbalanced”, he said.
Speaking exclusively to CN, Mr McIntyre said contractors should price in profit margins that represent the level of risk on a project, not what they think the client will tolerate.
“I think they should be looking at margins that represent the risk,” the FD said.
Last year’s CN100 showed the top 10 contractors had an average pre-tax margin of -0.5 per cent.
Mr McIntyre said he believed contractors were partly to blame for the state of margins, though, due to turnover-focused business strategies.
“Generally the sector seems to have had a track record of chasing volume, and if you’re chasing volume then pricing and margins come under pressure” he told CN.
“There’s been a history, perhaps, of contractors chasing volume to make sure that their order book and pipeline remain intact. And I just think that’s the wrong way to go in any sector.
“The key is to make sure you’re controlling your margin, controlling your overheads, and controlling the work that you embark on.”
Mr McIntyre said Laing O’Rourke were “not going to chase volume growth” and he expected the company’s turnover to increase “by RPI, or thereabouts”.
Discussing the collapse of Carillion Mr McIntyre said he was “surprised at the speed” of its demise and said a change to contractors’ approach to business was “inevitable” as a result.
He said: “If you look at the Carillion situation I think that the impact on the sector will be much wider than we imagine.”
Mr McIntyre said the immediate impact on the industry since the firm’s collapse on 15 January has been on the provision of trade credit, with some providers reducing their exposure or pulling out of the sector altogether.
He said: “I think the provision of trade credit insurance in the sector is more challenging, definitely.
“And that’s a direct result of Carillion and the speed of the change in Carillion.”
However, Mr McIntyre added the industry could ultimately be improved as a result of Carillion’s collapse.
“I am a passionate believer that from bad can come good,” he said.
“I think the opportunity to have more robust challenges around pricing and margins in this sector will be a good thing in the long run.”
Mr McIntyre said Laing O’Rourke now placed greater importance on scrutinising risk.
“We’re much more robust on assumptions built into a bid, whether that be design risk, inflation risk, execution risk,” he said.
“For the last two years we have been really robust around this. Every single bid has to come up to chief exec and group FD for approval.”
One way the company has reduced its risk exposure is by stepping back from PFI contracts.
Mr McIntyre said: “We are very robust in our views of risk assessment and risk transfer to contractors on any bid, and that’s one of the reasons why we’ve not entered into any new PFI contracts in the last 18 months.
“The overall risk package that goes on a PFI contract is quite a challenging set of circumstances, and I think that environment is going to have to change.”
Laing O’Rourke suffered significant losses from its involvement on the Centre Hospitalier de l’Université de Montréal PFI contract in Canada, with delays on the job contributing to £312.5m of pre-tax losses reported in 2016 and 2017.
For Laing O’Rourke to get back into the PFI arena, Mr McIntyre said they would want to see changes to “the duration of contracts, the structure of the liabilities taken on, funding, fixed pricing – we’re entering a time where inflation is creeping, we can see signs of that at the moment.”
Last week Arcadis Europe and Middle East CEO Alan Brookes who told CN the industry needed to changed how it “does business and manages risk”.