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Highways contractors hit back as volatile market sparks losses

Highways contractors are uniting to step up their demands for changes to contracts that are seeing them lose millions of pounds on existing deals due to volatile oil markets and rising bitumen prices.

Contractors are reporting that the price of bitumen, which accounts for about a third of the cost of constructing a new road, has hit a 25-year high, rising by as much as 60 per cent in the past two years.

The Highways Term Maintenance Association has arranged meetings with major clients, including Transport for London and the Midlands Highways Alliance, to encourage them to use new price indices to reflect changing prices on volatile oil markets in its highways maintenance contracts.

CN understands roads contractors are also approaching local authorities to try and get the price increases accounted for in existing long-term contracts.

The push for new price indices has the backing of main contractors through the Civil Engineering Contractors Association, with several local authorities believed to be willing to renegotiate existing deals.

Companies including Aggregate Industries and Tarmac have said they are now making losses on deals negotiated before the increase in prices resulting from the volatile hydrocarbon market.

The HTMA, CECA and the RICS’s Building Cost Information Service developed a new set of price adjustment indices for highways maintenance last year, which the industry wants to see rolled out across contracts (see box).

Highways contractors are being forced to factor risk into their tenders regarding unforeseen price hikes from the volatile market, and have warned clients that they will potentially lose out should bitumen costs plummet on high-price bids in future.

Tarmac managing director Paul Fleetham said: “As a business, we are already investing time and resource into developing bitumen replacement technologies; however, our options are limited.

“The industry is at a tipping point as it tries to recover these exceptional increases on existing contracts and anticipate the negative impact these may have when tendering for future long-term highway works.”

In its 2011 results posted on Tuesday, Breedon Aggregates cited the volatility of oil prices and concern about the Middle East contributing to a further 15 per cent rise in bitumen prices from 1 March, which it said would be “passed on to customers”.

Aggregate Industries deputy chief executive and chief financial officer John Bowater told CN it would have to carefully consider bidding for contracts with local authorities that do not take cost fluctuations into account.

He said: “We have seen an inexorable rise in the cost of crude oil and although we can make our best estimate in terms of what’s likely to happen, I don’t think anyone has anticipated the scale of the rise in costs.

“We are seeing smaller companies in supply chains falling - good, well-managed companies. Main contractors are seeing that and getting concerned about how much they can have a degree of certainty and security within their supply chains.”

It is believed the rise in the price of bitumen has cost some UK contractors tens of millions of pounds, with the current price at about £500 per tonne and evidence that smaller suppliers are charging up to £600 - a 25-year high.

Both Tarmac and Aggregate told CN they are tied to long-term contracts they now expect to make a loss on due to changes in prices.

CECA director of external affairs Alasdair Reisner said the situation was “potentially fatal” for some companies and something that the industry was extremely concerned about.

The cost escalation is also being driven by a fall in European refinery production. Petroplus, Europe’s largest independent refinery by capacity, filed for insolvency last year. PwC, the administrator of its UK assets which include Coryton refinery, is in talks over its restructuring.

Highways price increase indices are currently inconsistent among clients, with the majority of contracts still based on the Baxter Indices 1990 series, which were developed with specialist and civil engineering works in mind for tracking monthly cost variations.

Research produced last year by a joint working group, which included representation from contractors Amey, Balfour Beatty and Mouchel, found that 79 per cent of highways authorities were using Baxter-type contracts, of which 81 per cent made annual changes to payments, rather than the preferred monthly changes.

Tarmac commercial director Andy Rowley said: “On new contracts we have the opportunity to price things at a current market level, but the problem is that many of our contracts run over several years and might run for another couple where we have no opportunity to re-price them.

“We are locked in on deals while getting back-to-back price increases. We have about 20 to 25 long-term deals affected by this.”

However, the Highways Agency has begun to instigate change on contracts including adopting new price fluctuation mechanisms on its category management deals.

One source told CN there is reluctance among local authorities to change to new mechanisms, as clients believe it will cost them more in the long run.

However, Mr Bowater said that it is difficult to say what prices will be in future, so the company has to take a ‘conservative view’ on risk when tendering.

Successful roll-out for new price adjustment indices

A new set of price adjustment indices was launched for highways maintenance last year and has been successfully rolled out on contracts by Cheshire West and Shropshire.

The Highways Term Maintenance Association is in talks with Transport for London, the Midlands Highways Alliance and the Northern Ireland Roads Service about using the indices on new contracts.

The launch was in response to concerns that adequate price fluctuation for highways maintenance was not covered by the Baxter Indices following the massive spike in oil prices in 2008.

The HTMA working group says the monthly highway maintenance term contract indexation effectively tracks costs to ensure lowest priced bids from suppliers, fair allocation of risk between client and supplier, and accurate cost profiling.

A HTMA spokesperson added: “Where previously the contractor would put in quite a high bid to cover themselves, with the new indices they can be more realistic.

“It is hoped that goes down the supply chain so everyone gets a better deal. The added cost will be built into the contract somewhere, so if this can be better managed and more realistic then there will be greater efficiencies.”

Nine different work categories were covered across 21 resource indices such as equipment, ready-mixed concrete and aggregates in the new plans.

They reflect differences between highways maintenance practices such as greater use of vehicles than operational plant and materials used in maintenance such as bitumen.

Contractors say that due to risk allocation, current price indexes mean that as the cost of bitumen rises they are hit financially by contracts that don’t accurately reflect those price rises.

However, if the cost of bitumen drops, clients can be hit by contracts that have had excessive risk factored into tender prices.



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