The UK Construction Industry: Impact of the Recession
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Chapter 1: Background Information
According to the Department for Business Enterprise and Regulatory Reform (BERR), the UK construction industry has 250,000 firms employing 2.1 million people, and contributes 8.2 percent of the nation's Gross Domestic Product (GDP). Construction companies provide employment for every skill level from labourers to architects as well as the opportunity to work for every size of firm from family run businesses, to major contractors. Its efficient operation and competitiveness is also essential to the fulfilment of the Government's commitment to improve public services and infrastructure. The delivery of new schools, hospitals, affordable housing, eco homes, all depend on the success of the construction sector to deliver.
Key issues the construction industry is facing in 2009
With cut-backs, uncertainty and more red tape it looks as if 2009 will be a challenge. To say the year has been one of turmoil and change is an understatement. The reeling financial markets and the swelling sense of gloom overshadowing the general economic outlook have, naturally, a corollary in the construction industry - always a lag barometer for the economic climate.
And the uncertainty is far from over. If some experts are correct, we may be witnessing just the initial battering of the storm. Mervyn King, Governor of the Bank of England, has admitted it is likely that the country is heading for a “prolonged and painful recession”.
In the last twelve months, the national and global situation has worsened. So in this light, below are the authors' predictions for the biggest issues that UK construction will face.
The recession is forcing employers to look at restructuring and, ultimately, redundancies.
For an industry that has enjoyed a boom for years, this is going to be a massive change of mindset - employers need to be very careful they manage any redundancies properly or we will see an increase in litigation in this area.
However, and perhaps perversely, the industry will continue to suffer major skills shortages, particularly in the South-east, where 2012 is a tremendous opportunity, but one which casts a skills shadow.
This time, project management skills will be in short supply, due to lack of training facilities or lack of investment in education sponsoring from construction companies, rather than labour, where the situation regarding migrant workers who may be returning to their native countries will continue to remain unclear into 2009. Sectors like caring, which still needs a lot of people will attract all the labour force.
Agency workers are soon to be given similar rights to permanent staff. It is proposed that the law will change in 2010. The new law will mean that after 12 weeks on assignment, an agency worker will be entitled to ‘equal treatment' - meaning the same basic working and employment conditions as a comparable permanent employee, including equal pay, notice and holiday entitlement.
For an industry that employs a large volume of temporary workers, this is going to be an administrative and financial challenge that will really make itself felt in 2009.
Health and safety
The recent downward trend in construction-related injuries may well be over, and 2009 could see a significant increase since contractors will be looking to cut down costs on training and overlooking basic safety measures.
There are suggestions that considerably different levels of adherence to health and safety rules are due to the rapid influx of migrant workers. Different people behave and act in different ways although all working for UK construction companies. There are some people who are very meticulous about their work and adhere to each and every smallest safety precautions while there are others who can consider petty measures as time wasting. If evidence of this emerges in 2009, we could expect the industry to experience a crackdown from the HSE.
We expect to see increasing postponement of Local Authority maintenance work, which will hit small contractors and subcontractors the hardest.
The Government is talking about major investment in new schemes. The consequence is that, even allowing for more lending, spend will have to be clawed back from somewhere.
It seems inevitable that this will be from maintenance. This will be counter-productive, as maintenance work - which puts money into the pockets of smaller contractors, quickly - is usually the fastest way to stimulate the economy.
For what seems like forever, the Government has been hugely vocal about its target for three million new homes by 2020 and 10 ecotowns by 2020.
As Construction News reported, housing minister Margaret Beckett is already re-articulating these as “ambitions” and “hopes”, rather than firm commitments. (from www.cnplus.co.uk/story.aspx)
It would seem inevitable that “ambitions” might be downplayed further and become “future aspirations” before long. This will provide more worry for subcontractors who rely on the house-building sector for some of their work.
The fact that the UK is still suffering a major shortage of housing - particularly affordable housing, regardless of falling house prices - does mean, however, that this semantic juggling will only be a 2009 phenomenon.
Top 20 Construction Companies Q2 2009
The Top 20 construction companies' league table, by construction news, ranks the UK's 20 biggest construction companies by turnover and profit, as follows. The table is updated quarterly, and was last updated inJune 2009. New Infrastructure
New infrastructure output in the 12 months to the first quarter of 2009 was 7 per cent higher compared with the previous 12 months and the first quarter of 2009 was 2 per cent higher compared with the previous quarter. The outlook is becoming increasingly gloomy as the worsening economy hits the capital. London escaped the worst of the construction slowdown for much of 2008. Indeed, the value of underlying work starting on site fell by just 3 per cent in 2008.
But construction starts in London fell sharply in the fourth quarter of 2008 as the worsening economic conditions took hold. The value of underlying construction starts has continued to slide during the opening months of 2009, with starts during the three months to February 35 per cent down on a year earlier. With financial and property related firms reducing their workforces, many developers have put planned construction projects on hold.
The value of underlying office starts, which accounted for about a quarter of the value of underlying construction starts during 2007, fell 21 per cent last year. That said, some developers are still pressing forward with major office projects. Tighter mortgage conditions and sustained pessimism in the residential housing market are now severely impacting private housing construction in London.
Having held up well during the first half of 2008, sector starts in the capital are now following a similar trend to the rest of the country. The value of underlying construction starts was £150 million in the fourth quarter 2008, down 73 per cent on a year earlier.
Construction prospects in London are becoming increasingly gloomy. The value of projects in the pre-construction pipeline has fallen away sharply, with underlying planning approvals falling by 36 per cent in value during the fourth quarter of 2008.
Large projects are a significant feature of construction activity in London. At first glance the preconstruction pipeline for large projects looks promising. However, given the current economic climate, there is likely to be a higher than normal proportion of planned large projects to be either delayed or abandoned. This is due to the fact that the government is planning to spread its restricted allowable budget across several other vital sectors such as education and health. Nonetheless we should breathe a sign of relief when looking at big projects such Cross rail where preliminary works have begun this year and construction starting in 2010. We should also be looking at temporary relief projects such as the Olympics which need to be completed by mid 2012. These important projects are acting like a lifeline for major construction companies, while waiting for the bad economic climate to change a bit. Overall, construction starts has significantly deteriorated in 2009, which has affected small contractors a lot but there is still a glimmer of hope for major firms with very few massive projects.
Chapter 2: History of recession
The word recession has several meanings. The simplest one could be, a recession happens when our neighbour losses his or her job, and it is a depression when we are made redundant. Economic textbooks tell that a recession is what happens when the economy shrinks for six months on the trot. GDP is used to measure the size of the economy, and when the figures go negative for two successive three months periods (or quarters) the technical definition is met (from http://business.timesonline.co.uk/tol/business/economics/article5753844.ece).
When recessions are prolonged past several months, they become depressions. Unlike recession there is no widely accepted textbook definition of a depression, although some say it comes when GDP shrinks by a total of 10 per cent. It will feel distinctly like a depression if a recession goes on for more than a year. After two years, talk of recessions is sure to be replaced by ultra-glum references to depression.
Credit crunch timetable
- In February HSBC gives an early sign of the crisis to come when it warns of higher than expected mortgage defaults in its US business.
- In August BNP Paribas suspends three funds exposed to sub-prime mortgages. European Central Bank pumps €95 billion into the markets.
- In September Northern Rock seeks emergency funding. First run on a UK bank for more than 140 years.
- In October UBS, of Switzerland, is the world's first major bank to announce losses from sub-prime-related investments, totalling $3.4 billion.
- In February Northern Rock is nationalised.
- In March Bear Stearns, the US investment bank, seeks emergency funding and is sold to JP Morgan in a cut-price deal, sparking week of turmoil in stock markets.
- In April Nationwide records first annual house price fall for 12 years.
- In September Lehman Brothers, the US investment bank, goes bust. Bradford & Bingley is nationalised.
- In October The Icelandic banking system collapses. Royal Bank of Scotland, Lloyds TSB and HBOS are partly nationalised.
- In January UK officially enters recession.
- In March Base rate cut to 0.5 per cent.
The credit crunch refers to a sudden shortage of funds for lending, leading to a resulting decline in loans available.
A Credit Crunch can occur for various reasons:
- Sudden increase in interest rates (e.g. in 1992, UK government increased rates to 15%)
- Direct money controls by the government (rarely used by Western Government's these days)
- A lack of liquidity in the capital markets
The recent credit crunch was driven by a sharp rise in defaults on subprime mortgages. These mortgages were mainly in America but the resulting shortage of funds spread throughout the rest of the world.
Steps to 2007 / 08 Credit Crunch
- US mortgage lenders sell many inappropriate mortgages to customers with low income and poor credit. It is hoped with a booming housing market, the mortgages will remain affordable.
- Often there was lack of controls in the sale of mortgage products. Mortgage brokers got paid for selling a mortgage, so there was an incentive to sell mortgages even if they were too expensive and high chance of default.
- To sell more profitable subprime mortgages, mortgage companies bundled the debt into consolidation packages and sold the debt on to other finance companies. In other words, mortgage companies borrowed to be able to lend mortgages. The lending was not financed out of saving accounts, for example.
- These mortgage debts were bought by financial intermediaries. The idea was to spread the risk, but, actually it just spread the problem.
- Usually subprime mortgages would have a high risk assessment rating. But, when the mortgage bundles got passed onto other lenders, rating agencies gave these risky subprime mortgages a low risk rating. Therefore, the financial system denied the extent of risk in their balance sheets.
- Many of these mortgages had an introductory period of 1-2 years of very low interest rates. At the end of this period, interest rates increased.
- In 2007, the US had to increase interest rates because of inflation. This made mortgage payments more expensive. Furthermore, many homeowners who had taken out mortgages 2 years earlier now faced ballooning mortgage payments as their introductory period ended. Homeowners also faced lower disposable income because of rising health care costs, rising petrol prices and rising food prices.
- This caused a rise in mortgage defaults, as many new homeowners could not afford mortgage payments. These defaults also signalled the end of the US housing boom. US house prices started to fall and this caused more mortgage problems. For example, people with 100% mortgages now faced negative equity. It also meant that the loans were no longer secured. If people did default, the bank couldn't guarantee to recoup the initial loan.
- The number of defaults caused many medium sized US mortgage companies to go bankrupt. However, the losses weren't confined to mortgage lenders, many banks also lost billions of pounds in the bad mortgage debt they had bought off US mortgage companies. Banks had to write off large losses and this made them reluctant to make any further lending, especially in the now dangerous subprime sector.
- The result was that all around the world, it became very difficult to raise funds and borrow money. The cost of interbank lending has increased significantly. Often it was very difficult to borrow any money at all. The markets dried up.
- This affected many firms who had been exposed to the subprime lending. It also affected a wide variety of firms who now have difficulty borrowing money. For example, biotech companies rely on ‘high risk' investment and are now struggling to get enough funds.
- The slow down in borrowing has contributed to a slowing economy with the possibility of recession in the US a real problem.
Credit Crunch in the UK
- UK mortgage lenders did not lend so many bad mortgages. Although mortgage lending became more relaxed in the past few years, it still had more controls in place than the US.
- However, it caused very serious problems for Northern Rock. Northern rock had a high percentage of risky loans, but, also had the highest percentage of loans financed through reselling in the capital markets. When the subprime crisis hit, Northern Rock could no longer raise enough funds in the usual capital market. It was left with a shortfall and eventually had to make the humiliating step to asking the Bank of England for emergency funds. Because the Bank asked for emergency funds, this caused its customers to worry and start to withdraw savings (even though savings weren't directly affected)
- As a result of the credit crunch, the UK has seen a change in the mortgage market. Mortgages have become more expensive. Risky mortgage products- like 125% mortgages have been removed from the market.
- UK Banks continue to face problems. HBOS (Owner of Halifax) struggled to finance its balance sheet. Like Northern Rock, it financed an expansion of lending by borrowing. Now money markets have frozen up, they couldn't raise enough money to maintain liquidity.
- Falling House prices. Now that mortgages are difficult to get, demand for houses has slumped. Therefore, house prices have fallen. Lower house prices mean many face negative equity. Therefore, mortgage defaults now cost banks even more (because they can't get back the initial loan.
- Bradford & Bingley was nationalised because it couldn't raise enough finance. The B&B had specialised in buy to let loans, which are particularly susceptible to falling house prices.
How long will the Credit Crunch Last?
The credit crunch could last a long time. This is because:
- House prices are still falling in the US, reducing the value of mortgage loans
- Many homeowners still face rising interest rates, when their introductory periods come to an end
- It can be difficult to regain confidence in the financial markets
- A recession in the US and global downturn could cause a further rise in bad loans
- The cheerfully named Profile of Depression shows the fall in UK economic growth, as measured by GDP, following some ofthe key slumps of the past century. It compares these to today's crisis.
- It illustrates the level of fear among experts about the financial hurricane that has disabled Britain -the ‘Noughties' bust had, until very recently, actually been worse than the Great Depression of the 1930s (although it was less ‘Great' in Britain than it was in the US, where GDP shrank by more than 25%).
Chapter 3: Effects of recession on UK construction Industry
- First of all, some uncomfortable facts and figures:
- 4,500,000 - people on council house waiting lists
- 300,000 - construction jobs in danger across the sector
- 90,000 - predicted job losses for Small and Medium Enterprise (SME) builders
- 71 percent - fall in workload for the Federation of Master Builders (FMB) private house builders
- 61 percent - FMB companies expecting lower workloads in 2009 quarter one
- 60 percent - FMB companies reporting fall in workloads for fourth consecutive quarter
- 52 percent - FMB builders warning they will be making staff cuts over the coming months
- 16 percent - house price fall to date
- 8 - construction companies going into insolvency every day
- 7.5 percent - fall in building prices in the last quarter of 2008.
The construction industry has been particularly badly hit as a result of the credit crunch and the down turn in the housing market. The industry is facing its biggest challenge for many years. The indicators are that many will struggle to survive in the current market, with the Royal Institution of Chartered Surveyors (RICS) predicting the loss of over 300,000 jobs within the industry and with 52 percent of FMB members warning that they will be making staff redundant over the coming months.
There is currently a crisis in the housing market with many first time buyers unable to get a mortgage let alone afford a first home. Alongside this there are more than 90,000 families living in temporary accommodation and 1.6 million families on council house waiting lists; the case for building new homes is therefore very clear. However, news from the National House Building Council shows new home starts being at their lowest level since 1924.
The authors feel that current proposals to deal with this desperate situation don't go far enough in tackling the real problems affecting the UK construction industry and the wider housing sector. If the UK construction industry is to have any realistic chance of surviving this recession, these 10 key issues need to be addressed to kick start the building industry.
The effects of the recession are affecting all aspects of the UK national economy. In December 2008, the construction sector shrank at its fastest pace since records began. The most considerable decline was registered in house building, while the civil engineering and commercial sub-sectors also fell at record rates during that month.
As well as the decline in the housing construction sector, the housing market has also slumped. According to the Halifax, house prices fell 16.2% in 2008, the biggest annual decline since it began keeping records in 1983. This has made buying a home more affordable when set against earnings than at any time since April 2003. However, getting a mortgage is difficult for many. Data from the Bank of England showed the number of mortgage approvals fell to 27,000 in November 2008, representing at least a nine-year low (from BBC News, 2 January 2009, www.news.bbc.co.uk).
Roy Ayliffe, Director of Professional Practice at the Chartered Institute of Purchasing and Supply, said: Once again, the housing sector bore the brunt of the crisis as purchasing managers reported significant reductions in new business. Amidst a climate of doom and gloom, firms were forced to axe more jobs in preparation for what is set to be another year of trouble and turmoil. (from Times Online, 5 January 2009, www.timesonline.co.uk)
The UK government has plans for public spending and it is hoped that these will include major construction projects, such as roads, schools and other public buildings. This would help the construction industry and those companies that supply the construction industry to ensure continued employment for many.
Businesses in the construction industry therefore need to ensure they remain competitive during this difficult economic climate. At the same time, they need to prepare the business to be able to take advantage of any future upturn in the market.
Everyone knows the downturn has hit the industry badly. But research commissioned by The Construction News from Emap Glenigan shows the true extent of the contraction, how it breaks down by sector and region, and what the likely outcome for the rest of the year will be.
Parts of the industry - private housing, offices and industrial - are badly affected by the deteriorating economic conditions and the credit crunch. The situation is brighter for those with jobs in infrastructure and the Olympics, although neither of these will be enough to sustain overall industry activity.
Historically, economic growth below two per cent has been associated with falls in construction output. Last month, GDP growth for the second quarter was revised down to zero. Consensus forecasts suggest prospects for growth will slow even further in 2009.
The gloomy economic conditions have led to a sharp fall in the flow of new projects in the pre-construction pipeline. Glenigan expects construction starts in the UK will fall by five per cent in value during 2009.
Private housing has been most affected by the credit crunch. The reappraisal of risk by the banking sector has arguably led to more appropriate criteria for accessing credit. However, as a result the asset price bubble in the housing market has burst.
This is causing a long-term contraction in demand since prospective buyers can no longer borrow as much to finance house purchases. Inevitably, those in private housing construction will have to find a way to either cut per unit costs or, more likely, adjust to a new, much lower, level of housing demand.
The impact of the credit crunch on other private sector parts of construction - industrial, offices, retail and hotels - is different. These sectors have not suffered from the asset price bubble evident in private housing. However, investment in each of these sectors is affected by the prevailing economic conditions.
As such, the immediate outlook is bleak but, with the Olympics on the horizon, construction prospects for the sector should start to improve in the latter half of 2009, when all major works will need to be started in order to be ready for 2012.
The Government has had an ambitious construction-related spending programme across a number of sectors. Education and health in particular will benefit from an increase in the value of construction projects this year.
But the Government is not immune to the economic slowdown. The absorption of Northern Rock has already put the Government's finances under pressure. Falling retail sales, rising unemployment and a decline in the profitability of UK firms will reduce tax receipts and add to its difficulties.
Looking forward, the poor state of Government finances may jeopardise some of its proposed construction schemes. Major infrastructure projects will continue to help buoy the UK construction industry. Projects such as the widening of the M25 motorway and Crossrail are set to provide a boost to the sector. Ongoing projects such as Thameslink and the Edinburgh tram line will continue to contribute to the sector's workload for some time yet. Outside transport, the sector should also benefit from increased capital expenditure by water and electricity utilities.
At present, the macroeconomic and sector-specific conditions are having a much bigger impact on the UK construction outlook than regional factors.
Differences in the composition of construction sectors within each region explain much of the variation in the region's respective prospects.
For instance, regions where industrial construction is relatively significant, such as the West Midlands and Yorkshire and Humberside, will see the value of construction starts contract this year. The North-east, which has relatively less exposure to private housing than other regions, is faring better.
Construction orders down 9% as property market slumps
New orders in the British construction industry have continued to plunge as building firms are battered by the credit crunch.
The Office for National Statistics said that orders fell by 9% in the three months to November, compared with the previous three months. They were 27% down on a year-on-year basis.
The figures showed that new construction orders were particularly weak in November itself, diving 38.6% year-on-year.
The private housing sector was a major casualty, with new orders down by 55% compared with a year ago. All the UK house builders have dramatically reined in their activity and cut jobs as the housing market has slumped.
Howard Archer, chief UK and European economist at IHS Global Insight, said the data showed that the construction sector's recession deepened markedly in the fourth quarter of 2008. He sees little prospect of conditions improving soon.
“With housing market activity and prices likely to remain depressed for some considerable time to come and the commercial property sector in dire straits, the construction sector looks set for extended weakness, despite some support from the government bringing forward some public construction activity and infrastructure spending as part of its fiscal stimulus package,” Archer said.
Accountants Grant Thornton said that the construction and property sector was set to be the worst casualty of the economic downturn in 2009, plummeting by 75% in profitability and 71% in turnover from the same period last year.
Clare Hartnell, head of property and construction at Grant Thornton, said: “Profitability and turnover within the construction and property sector are significantly driven by sales and market value; 2008 was a turbulent year as credit dried up and confidence plummeted, causing house prices and the number of properties sold to fall sharply. The decline in the residential market consequently has had a knock-on-effect on the construction sector, where problems have been exacerbated by huge debts as many proposed developments have been put on hold.”
The year 2009 is set to be a trying year to say the least. Part of the reason for this is the current state of the economy. Lack of available credit will have an adverse effect on the ailing construction and property sector.
The June Glenigan Index reveals that promised government funding has finally begun to filtering through to project starts. In particular a rise in educational, health and social housing projects starting on site have helped steady the Index, cutting the year-on-year decline to 20%.
Workload trends: Infrastructure
Infrastructure saw the value of underlying planning approvals (covering schemes under £100M) fall sharply last year. Whilst the fall appears to have dampened the flow of project starts, with the value of underlying project starts during the first five months of 2009, 13% down on a year earlier, the overall prospects for the sector are bright. With the help of the new infrastructure planning commission, it is hoped that new planning consents for key projects can be accelerated.
Impact of the recession on supply chain
The construction industry has got the largest supply chain, compared with other industries. It ranges from mere nails to large modular constructions. It has been a major contributor since the dawn of this industry and has risen in vigour and strength over the years. Its integration with our industry has created a revolution that triggered the rise of new technologies powered by their contribution. This general introduction, gives us a fair knowledge of the value of supply chain to the construction industry.
When this unexpected recession struck the markets with tremendous force, the construction industry felt the tremor, and its repercussions were felt throughout its branches. As the properties and developments went down, demand dropped, which in-turn left the developers with no option but to suspend majority of their works. The great “feeders” - supply chain took its toll. Demand for their products vanished. Then the only rule of law that applies is “Survival of the fittest”, i.e. the one who could bring best deals could survive (both in price and Quality) and others would go bust. By and large the prices soured.
Illustration with an example would clearly explain what the authors are trying to convey. Major components of our industry are cement, ready-mix, rebar and structural steel. Their price variation could indicate the trail recession took.
All major supply resources have dropped in price dramatically one or the other time, to merely survive this recession rather than making profit. One of the major suppliers, now are for the ODA. Even they are experiencing the crunch. All the pre-allocated works, which assured definite return, are re-examined to align with the new prices. This has created friction, and even few of them moved on for adjudication. ODA has awarded contracts to around 1036 suppliers, most of which are small to medium sized businesses. This is a government initiative to prop up the middle class players, and there-by securing best deal contracts. Similar public investments could be seen in the health and education sectors, which form large part of the construction order-book and keep the pressure off.
The main issue here is the growing trend of irresponsible pricing to win the scarce bids. That is, pricing below the cost. Many experts have warned of the return of industrial dispute culture of the 1980. This could ruin the objective.
Recessionary impact was clearly felt when private investments dried up and forced the government twice to dip into the contingency budget. Due to this ill demand, there has been deterioration in construction product manufacturing. All heavy side manufacturers and 91% of light side manufacturers reported that sales had fallen; unprecedented results have been collected, research shows.
Key research findings are:
- 62% of building contractors report that output fell in Quarter 1 compared to Quarter 4 in 2008 and 60% report that output will fall further in the next quarters.
- 100% of heavy side manufacturers reported that sales were lower than in the previous quarters.
- 56% of specialist contractors reported that order books fell in the first quarter of 2009, indicating that output was likely to fall further.
Chapter 4: Trend Analysis of five major UK construction firms
Let us now compare the effects of the credit crunch on 5 of UK's top construction companies. Figures have been taken out from the respective annual reports.
This chart from Balfour Beatty's official report clearly shows the weakening of almost all assets in the first half of 2008 which was at the peak of recession. The total assets have dramatically fallen from 4544 to 4016 during this period. None of them were exempted from the consequence of this recession.
By analysing the above figures, we could again come to the reality of situation. The significant fall of revenues for both PPP (from 451 to 180) and infrastructure (from 553 to 222) is a clear indication of the force of this economic turmoil. Belfour Betty which is considered as the top construction company in UK has not been left unaffected.
The figures on INVESTMENT INCOME clearly show how far it has been eroded on its transition from 2008 to 2009. At 43m in 2008 and on reaching 2009 it has been devalued to 17m. The figures clearly shows the fall from 19- 17. It's all bad news for the employees after all. No income means, no money to circulate and there-by lesser new projects to take on.
Now let's analyse the costs incurred in 2008 through to 2009. From 24m in 2008 to 38m in 2009. That's all bad news; here the efficiency of the company is at stake. Recession has taken its toll on efficiency.
Deferred tax has shown a significant rise from 8 to17 during its transition from 2008 first half to 2009 first half. And Tax payable in comparable periods has reduced as a consequence of reduced revenues.
The effects of recession could be clearly visible in the order book of this particular company. A 14% reduction in the order book is a bad-news. It signifies the drastic reduction of future work loads. Companies ace sectors like building services has not been left untouched. 1 % reduction was felt it as well.
Share Price chart
Due to the effect of the recession, the share prices of Balfour Beatty have declined considerably (see Fig 4.3). And the company's P/E ratio's has bore the crunch of it too as shown in the graph below. There has been a considerable decline in the price earnings growth (PEG) ratio from the year 2006 to 2008. This portrays the slowing downturn of the economy. The Return On Capital Employed (ROCE) is another function which illustrates the performance of the company. It has tried to maintain the investors hope by bolstering up the Return on Capital Employed values. This could be taken as a desperate measure to retain the investor hopes. There has been a rise in turn over per share which can be explained by the declining share prices. Due to the recession market prices of shares have been very low. The gearing is increasing as the company seems to be having cash flow problem. So they have to borrow in order to finance the company. Balfour Beatty's quick ratio is a clean indicator of the company's short term liability. Higher this ratio, better the position of the company. It determines the company's ability to meet short term obligations with its most liquid assets. There has been a constant decline in the quick ratio values from 0.84 to 0.68 over the period of 4 years.
Now let's have a comparison between 2007 and 2008 for Kier group, and analyse the effects of recession on this major organisation.
Kier Group is a leading construction, development and service group specialising in building and civil engineering, support services, private house building, property development and the Private Finance Initiative. The Group employs over 11,000 people worldwide and has annual revenue in excess of £2.4bn.
Underlying pre-tax profits during 2008 is just £26.4m while in 2007 it is almost double the amount peaking to £35.6m.
In 2007 the underlying EPS was a whooping 90.3p, and in 2008 it went into a slide reaching just 51.1p.
Net cash at 31 December was accounted at £82.2m whereas in 2007 it was hovering at an amazing figure £3.20b.
6 months to 31 December
From the pie chart we can clearly infer that the revenue from construction, support services and partnership homes are having an upward trend, except developments. It has drastically shrunk from 5% to 2% which indicates that there are less new developments and thereby less work in the coming future.
It is the KPi's (Key performance Indicators) which gives a clear insight of how the company had performed. So in this analysis, most gives a good impression except the Order book, which is an important yardstick for future projects. Bad order book indicates a bad future. So the recession has pinned down the growth, and desperate measures should be in place to pull it on track.
The Kier Group is thriving to sustain by the forthcoming PowerStation opportunities due to strong track record. It is mainly concentrating on PFI projects which could lock in some large projects for the future and there-by survive this economic turmoil. Excellent public sector awards and opportunities coming through for support services and construction. The figures have clearly demonstrated that the property markets are fallen, so its focus relies on network rail joint venture and UK Supreme Court. These proposals could enrich their order books and enlighten the path towards success.
A lesser price per earnings ratio signifies higher earnings. There has been a three fold increase in price per earnings ratio for the Kier group from 30/06/08 to 30/06/09. This increase in price per earnings ratio from the year 2008 to 2009 may be explained as a considerable decline in earnings with less change in share prices. It demonstrates the dire situation of the construction industry at the moment. A drastic decline of the return of capital employed can be seen from the year 2006 onwards. This shows how the return on capital has been declining throughout the years, nevertheless to mention the destiny.
Due to the recession Kier's group turnover has decreased from the year 2008 to 2009 that is what explains the decline in TPS. The operating margin is a measure the company's pricing strategy and operating efficiency. Higher the margin, the better it is for the company. But in this case it has declined from the year 2008 to 2009 due to the decline in operational income.
Interserve plc is based in the UK and is a FTSE 250 company. It has revenue of £1.8 billion and a workforce of 50,000 people worldwide. It is a services, maintenance and building group operating in the public and private sectors in the UK and internationally. They offer advice, design, and construction and facilities management services for society's infrastructure and provide a range of plant and equipment in specialist fields.
The company's overview has shown robust performance with all key figures in positive track, Now lets observe the growth nature and sector-wise contributions, to track the footprints of recession and how each performed albeit this great downturn.
Overview of company:
- Double-digit earnings growth
- Excellent cash generation, net debt reduced to £85m
- Record future workload, improved forward revenue visibility
- Confident of robust near-term performance
- Executing on long-term growth strategy
- Interim dividend increased to 5.5p (H1 2008: 5.3p)
The share price chart clearly shows how it has slumped over the years due to this lasting recession. From mid 2008 it starts dropping and has been experiencing a freefall from 516, 40 nearing to 156, 40. This steep fall has eroded investor interests, and locked away in these dire circumstances. The only survival option for them as well as the company is to harness the government potential. And PFI projects are a good source of income.
The above pie charts clearly mention how the revenue has been distributed among various sectors and its contribution by type. The analysis of the revenue buy sector shows, the largest contribution was towards the defence sector about 22%, where government is the client. So it's the public money that leveraged the company from sliding down. And the least contribution was attributed by industry (just 5%) which indicates the pathetic condition of industrial sector, mostly owned in private hands. Our government has taken the right measures by investing in education, commerce, health etc to bolster up this economy.
Revenue mix by sector clearly shows the government initiative on spending rather than spending cuts. A whopping 64% of revenue came from Public hands and the private and privatised together holds just mere 36%.
FIG: 4.13 Hire VS Sales Mix:
Customer confidence can be clearly noted from the above figures. During 2008 there were more sales than hires, but when it came to 2009, the uncertainties led to more hires than sales. Customers became more cautious on spending,
The authors of this dissertation have tried to contact several construction professionals in a view to obtain more up to date information on the real effects of the recession on the construction industry but due to various reasons, they have been unable to get to concrete direct conclusions. Therefore all information has been taken out from official annual reports.
Interserve plc's price per earning has decreased from the year 2007 to 2008 due to the decrease in share prices and also due to increase in earnings. The recession has affected the share prices, but the earnings are increasing due to project maturing in later years. The company's turnover per share is increasing too due to an increase in turnover and decrease in share prices. The gearing is decreasing due to higher finance from the public, and this can be explained by lower share prices. Public are buying more shares and are making more profits. Hence higher dividends are obtained. Another possibility could be, to maintain demand in this economic slump, companies would prefer more dividends to attract more investors. This temptation to purchase shares with higher dividends could prop up the company value. The dividend per share is increasing due to the decrease in share prices due to lesser demand.
Carillion plc is one of the UK's leading support services and construction companies, employing around 50,000 people. They have annual revenue of around £5bn and operations across Britain and in Europe, Canada, the Middle East, North Africa and Caribbean.
It has a portfolio of award-winning work in areas vital to society: health, education and regeneration, road, rail, defence and commercial property. From first concept to ongoing facilities management and support services, they provide high quality, cost effective and sustainable solutions, tailored to the needs of their customers.
Carillion is one of the few companies which has performed well during this severe slump. It has been experiencing an amazing growth over a decade, and there was no significant barriers as resistance, except this current downturn.
It is the Order book which shows the amount of future work secured by the company. The order book for the year 2008 was for a total of £20.4bn whereas the order book for the year 2009 is £19.7bn, which amounts to a difference of £0.7bn. This minor difference is not that bad as compared to other multi national companies which have been affected by the credit crunch. And the other encouraging figure is the 31% increase in underlying profits from operations to £72M. This shows that although the order book has decreased by a small amount, the profit has been increased by a considerable amount, which benefits the company.
- There has been 10% increase in underlying operating profits. Revenue has leaped 8% from 2008 figures.
- The underlying operating profit has risen 10% from 2008 figurers.
- Reported operating profit has shown an amazing jump of 65% from 2008 numbers.
Public Private Partnership Projects:
- Striking 23% increase in underlying operating profit, midst of this recession.
- Revenue has surged 9% from 2008 figures.
- A similar 23% rise has triggered in reported operating profits.
The above share price chart for Carillion clearly demonstrates the fall of economy, through the difficult terrain it has been manoeuvring. September 2008 has seen the worst fall in years. The recovery is not expected soon. It would take years to acquire similar level of projects, but the helping hand form government should be utilised to its full potential.
FINANCIAL AND OPERATIONAL HIGHLIGHTS:
- Total Revenue: +13% £2.7 bn (2008:2.4 bn)
- Underlying Profit before Tax: +17% £62.2m (2008:£53.6m)
- Underlying Earnings / Share: +11% 12.8p (2008: 11.5p)
- Interim Dividend: +12% 4.6p (2008:4.1p)
- Reported Profit before Tax: +92% £51.9m (2008: 27m)
- Reported Earnings / Share: +60% 11.2p (2008: 7p)
All the above figures have been taken from Carillion's annual report and the figures have been shown diagrammatically on the following pie charts.
Carillion's price per earnings ratio is decreasing from the year 2006 to 2008 as the firm's earnings is increasing, but share prices are decreasing. It could be attributed to the current economic slump. Maturity of projects can be the only viable reason for higher earnings mentioned. The company's turnover per share has increased form the year 2006 to 2007. Its gearing has also increased form the year 2006 to 2007. This may be due to cash flow problems.
More finance might have been needed and debt was cheaper than public funds. Also it has decreased in the year 2008 since more cash was available and this helped to pay off debts. The quick ratio has increased from the year 2006 to 2007 as there was more cash available due to high borrowings. Bit it was reduced in the year 2008 as cash were used to pay debts which in turn reduced the savings.
Morgan Sindall is a star UK construction and regeneration business employing over 8,000 people and engaging in the commercial and public sectors. Its six main operating divisions are Fit Out, Construction, Infrastructure Services, Affordable Housing, Urban Regeneration and Investments.
The above graph clearly shows the share price collapse it has faced after peaking at around 1800 during 2007/08 period to just 400 while its transition to 2009.
The above figures clearly demonstrate how hard the economic slump has hit the company. The revenue has fallen dramatically from £1.24m to £1.14m. Another key indicator- Profit before tax has taken a nose dive from 2008 figures to hit at £20.5m.But the dividend figures remains the same; as in the previous year.
The earnings/share figure has fallen significantly. From 50.1p in 2008 basic earnings per share has floored to just 34.6p. This shows the inability of the company to release the funds to its shareholders. The company needs to prop up using the available funds and invest wisely to sail through this economic storm.
An analysis of the group's revenue and results by reportable segment in the six months ended 30 June 2009 is as follows.
The figures clearly show how the business segments have responded to this economic slump. It is just the infrastructure services which had shown a slight development, since the government funding was eminent during the period. Rest, all the figures were having a downward trend.
One Key Figure that tells us how the recession has eroded the company revenue is the PROFIT BEFORE INCOME TAX EXPENSE: A drop 28.6m to 20.5m is a terrifying figure, which could lead to significant cuts in the workforce.
Cash flow from operating activities:
The net cash outflow has dropped remarkably from 103.3m to a mere 15.2m. This is no good news at all. It is nearly six times less than the 2008 figures. It will have significant impact on the employment figures. No cash to spend means lesser workforce, which in-turn means lesser spending, triggered by unemployment. All in all it's a game of castle of cards; one small fall triggers the total collapse.
P.S. All figures have been taken from Morgan Sindall official website. http://www.morgansindall.com
Due to the effect of the recession, the share prices of Morgan Sindall have declined considerably. And the company's P/E ratio's has bore the crunch too. There has been a considerable decline in the price earnings growth (PEG) ratio from the year 2006 to 2008. This portrays the slowing downturn of the economy. The Return On Capital Employed (ROCE) is another function which illustrates the performance of the company. It has tried to maintain the investors hope by bolstering up the Return on Capital Employed values. This could be taken as a desperate measure to retain the investor hopes. There has been a rise in turn over per share (TPS) which can be explained by the declining share prices. Due to the recession market prices of shares have been very low. The gearing is increasing as the company seems to be having cash flow problem. So they have to borrow in order to finance the company. Morgan Sindall's quick ratio is a clean indicator of the company's short term liability. Higher this ratio, better the position of the company. It determines the company's ability to meet short term obligations with its most liquid assets. There has been a constant decline in the quick ratio values from 0.84 to 0.68 over the period of 4 years.
Brief summary of findings for the above 5 UK construction companies.
So all in all its bad time for construction Industry, a full recovery is not expected until 2012, which means there is a lot to be repaired. Almost all the companies are feeling the pinch of this economic slump. All the leading companies which were at the forefront are melting down with bad debts and weak order books.
Share prices of almost all the companies have floored at unseen depths. But for new investors it is prime time; if we sow now, we could reap huge profits in the near future. While comparing the ratios and gearing of the above mentioned five construction firms, it is clear that most of them have been affected by the financial crisis, but surprisingly enough, all the five companies turnover for the last four years have been increased. This is shown in the graph below. Figures have been taken from the companies respective annual reports and have been attached as appendix to this report. The reason for this rise in turnover could be the completion of numerous projects which were started before the financial crisis or the diversification of the companies' scope of works. These turnover figures are the only encouragement at the time being for these top five UK construction companies.
UK Construction Industry Sectors
The UK Construction industry can be broadly classified into 8 different sectors, namely Education, Health, Housing, Commercial, Retail, Transport, Water and Energy. In addition, there is one more sector, the PFI sector, especially in this bad economic climate, which is now becoming more and more popular among most major construction companies. While the government is tightening the allocated budget for infrastructure projects, the private sector is trying to encourage the development of projects by contributing a major percentage, thus allowing the construction industry to carry on surviving even in the recession.
All the above mentioned sectors are discussed more specifically as follows:
This is one of the sectors which upheld a lot of prospects for the construction industry, for it decides the capability of future generations to come. Better education, in good atmosphere would significantly bring better results. And during the recession, those who could stick out their head are those equipped with better qualifications and understanding. In order to ensure better education for the future generations the government has drawn up a new programme called BSF (Building schools for the future). It is a noteworthy initiative by the government to bring up education on top of all Agenda's in order to bring the UK out of recession.
Numerous proposals are contained in the scheme, which could help the battered industry to bolster up in this recession. This scheme once untied can unleash a wave of revitalization for the industry. Top industry contractors are shelling their expertise in order to bring excellent bid proposals to the forefront, and those winning are securing projects that are worth millions and lasting for years.
This government proposal to improve all the schools in the country is a potential goldmine for contractors. The objectives of this BSF programme is to rebuid or refurbish all the country's 3500 secondary schools by 2023. In order for the ministers to hit the target the level of work should be accelerated or else it will remain behind schedule.
We all know it is another major sector which feeds up the construction industry with Government cash flow on major Hospital projects. It provides high value projects lasting for years and thereby employment to millions in the industry. When compared to other sectors, it is one of the few which has taken the blows without serious damages. The reasons are obvious, medical facilities cannot be considered as a necessary evil at recessions, it's a must to help existing and further generations to maintain a healthy life.
We could simply put in a mathematical expression connecting recession and Health.
Recession (directly proportional) Bad Health.
So in order to compromise this, we need more health facilities, and more funding means more facilities. Any Government, who-ever it may be who seeks the welfare of the society has to comply with the necessities.
Head lines from CN news reads, “HEALTH SECTOR IS SET FOR FULL RECOVERY” should not be a surprise to us. It's a livestock for professionals like us.
The effects of recession on the health sector can be demonstrated through the following statistics.
Even though the number of starts of work on site has improved, the number of plans approved has significantly gone down. That's the sign or epitome of recession. But the difference is not that much alarming since it will undoubtedly pick up sooner than later.
But we should also bear in mind that the media tends to portray, recovery situations in order to resonate to the frequencies of government, which vents out the public outcry. We, educated people should not be deluded by the media, but should try to uncover the true picture, and pose real demands, to bring our industry to lightness.
The housing sector is considered as a leading indicator of recession, which goes down first and early to pick up which indicates the end of recession. Any recession in the construction industry could be easily identified by analyzing the fate of the housing sector, or it's the litmus test for recession in our industry. When compared to the last recession this is worst. Housing starts are in the blues. Even the “green shoots” which we have seen last few months cannot save the face, which shows the housing starts this year set to hit their lowest point since 1945.
When compared with last year's 130,000 CPA (Construction Products Association) expects public and private housing starts to hit about 98000 this year, which shows significant decline. 1992 which showed housing starts at recessionary low (156,000), were even better if weighted against current recession. It is the housing sector which went into recession earlier than the rest of the economy in 1990, or just before, and came out earlier.
By the fourth Quarter of 1988, this sector had already shown two quarters of negative growth in output, while the economy did not go into recession officially until the fourth quarter of 1990.
From these we can see the centrality of housing sector in putting recession under radar, and could see more ink being spilt on speculating what will happen to the housing market.
During the economic recession the commercial sector, mainly offices and retail is slower to react, but much quicker to fall, while sectors like housing shows an early decline. Double digit decline has been shown by private housing, 2 years before commercial saw any negative growth in the first quarter of 1991- two quarters after the recession began. Commercial sector only exited recession nearly three years after economy recovered.
Such history gives us a proper guide on trends toward economic recovery in different sectors. Lessons should be learned from the past and exit strategies should be drafted in order to make star-studded come-back.
As we all feared the fall is worst this time- from positive growth to double-digit decline in the last quarter of 2008. -25.8 per cent shift has been recorded during first quarter of 2009 and the record book doesn't look great either.
Order books in 2006 and 2007 were good so output in the first half of 2008 was still reasonably high. But sharp falls in new orders are going to filter through this year and next year. The CPA (Construction Products Association) anticipates an output of £9.7bn for 2011 - a fall of £7bn from the sector's record high of £16.7bn in 2008.
The retail sector overall has taken a whooping in recent months. When compared to last year like-for-like sales have dipped 7% in march this year. Most of the decay was in non-food sales with a like-for-like of -4.3 per cent. People are still flooding the shops but they are spending money on food and drink rather than furniture and other home wares - indeed food like-for-like sales were up 4.7 per cent on this time last year. As global commodity prices continue to ease, supermarkets may become more confident with their construction plans.
“Food is more resilient than non-food. Supermarkets are responding to the recession. They are trying to offer ever better value than normal and keeping up with their expansion plans,” says a spokesman from the British Retail Consortium. Food retailers constitute eight of the top ten retail clients and subsequently this year they have spent nearly £500 million on construction - Tesco chairs the charge with 11 new stores. Glenigan estimates there will be £406 million worth of construction starts for quarter three this year, up 21 per cent on a year ago.
According to the authors, the discounters would come out in force. For discounters, the recession represents a once in a lifetime opportunity in the UK and US. We believe that now is the time for the likes of Aldi, Lidl and Netto to pounce.
The transport sector is rationalising during recession. Probability is that the road transport industry will have been pruned by the time the European economy emerges from recession. However, according to Transport Intelligence chief executive John Manners-Bell, the state of the sector “could be worse”, as it has deflected a “catastrophic meltdown” over the past year as oil and financing costs have fallen. He acknowledged that “the European road freight market is in crisis”, with bankruptcies rocketing in response to falling volumes in recent months, caused by a slump in economic output.
This can forecast that many small and medium-sized road freight companies would be unable to survive the slump larger companies however will be in a stronger position acquiring market share as the sector rationalises. Figures published by the DFT in May disclosed that total freight traffic through UK ports fell by 3.3 per cent last year to 563 million tonnes.ADNFCR-8000176-ID-19289462-ADNFCR
Explanation with examples would give a better insight on the effects of recession in the transport sector.
Glasgow Airport rail link Axed by Scottish government:
The £400 million Glasgow Airport Rail Link project has been scrapped by the Scottish Government due to public spending cuts announced as part of the country's £35 billion budget plans. This decision clearly shows the measure the government is bringing out to rescue the country in light of recession. Even though the government is the biggest source of finance for construction, is feeling the sting.
There are 4 major modes of transportation namely road, rail, air and water. None of them had secured a shield form this current economic slump.
During this recession the road traffic has significantly reduced due to a reduction in unwanted travel, which has remarkably also reduced the greenhouse emissions. The figures released by the government have shown the reduction could be matched with 2005 figures. So that's a boon in a tragedy.
Secondly let's shed some light on railways. Latest news from ‘times online' tells us why the government is gearing up for any fare rise? The number of employees sacked from London city is so high that the current number of passengers is not enough to support the railways in generating income. Such a fall in train commuters can reduce the new rail works, and thereby lesser income for the sector.
We have seen large number of budget airlines filing for bankruptcy. Even few weeks back a European flight stranded its travellers at various airports by cancelling and filing for bankruptcy. Even the biggest airlines have taken severe blows. BA has reduced the salaries of its employees and all of them have suffered huge losses. All major airlines have reduced its workforce. Air Mauritius, the main airline company in one of the authors' native country has reduced its flight destinations by 20%. Last year, there was 7 direct flights from Mauritius to London weekly as compared to just 3 direct and 1 non-direct flights this year. This shows the extent that the credit crunch has hit the air transport.
It is one of the utilities sectors where the government influence is significant. Almost all major companies are engaged in PFI projects which bring revenues and growth for the company and nation. Water is essential for human beings to survive, and its providers are considered as the unchanged for years. But this economic recession has even eroded the most secured sector. People of this sector is hard to be moved to other sectors; since they are different game players standing in construction. Fresh training is necessary for them to move on.
Let's flip through the current news and analyse the situation of this safest sector.
Is the water sector really recession-proof?
When recession hit, environmental consultancies looked around and thought ‘water'. But as economic conditions have worsened the water industry has sought to distance itself from any suggestion that it can single-handedly support the country's increasingly idle engineers, designers and environmental consultants.
On 7 April, the UK's water companies submitted final business plans for the 2010-2015 periods to the regulator Ofwat. Although Ofwat is expected to give some indication of its response to each company's plan in July it will not be until November that final decisions are mad
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