Outsourcing

Outsourcing – a busted flush?

Is the outsourcing model that the UK uses for its public contracts heading for disaster? We look at three examples

Carillion 

In early 2018, UK construction firm Carillion went into liquidation after a government-led effort to arrange further funding with its lenders failed.

It was running debts of around £1.5bn, of which £900m was owed to RBS, Barclays, HSBC, Lloyds and Santander.

Its finance lease and hire purchase liabilities sat at about £16.4m in 2016, with £7.6m payable in 2017 and £8.8m between 2018 and 2022.

In its last accounts for 2016 filed in 2017, its liquidity risk was that “sufficient borrowing facilities were available to fund ongoing operations without the need to carry significant net debt over the medium term” – during 2016 its average borrowing across the business was £586.5m.

“The Group’s principal borrowing facilities are provided by a group of core relationship banks in the form of a syndicated loan facility and bilateral facilities supplemented by private placement financing, convertible bonds, and short-term overdraft facilities,” it wrote.

It suffered spikes on its debt due to problems with contracts, late payments and hold-ups with projects it was involved in building.

The UK government has stepped in and nationalised public contracts while PwC has stepped in to handle its considerable creditors and companies that it owes money to – in 2016 Carillion listed its trade payables at £746.2m.

In the fallout that followed, several key details emerged, including that its external auditors KPMG signed off on its accounts when in fact they were not representative of the health of the company – this in turn led to a government inquiry into the big four accountancy firms.

The Financial Reporting Council then investigated the accounting heads of the company, some of whom had retired prior to the collapse.

A public inquiry into the collapse followed, as did the revelations that a third of Carillion’s £1.5bn (€1.7bn) debt to banking partners was made up of “reverse factoring”, or supply chain finance facilities.

Carillion - reverse factoring

Among major institutes, RBS, Barclays, HSBC, Lloyds and Santander UK were owed around 60% of the construction’s company debt.

The £500m liability was accumulated under Carillion’s Early Payment Facility (EPF) programme, introduced by the company in 2013. Under the facility, Carillion’s banking partners would pay suppliers in the first instance, and then recover the capital from Carillion.

In a July 2017 update, Carillion put EPF utilisation at £412m, already up 6% from 2016. At the time, interim chief executive Keith Cochrane told investment analysts that Carillion would seek to reduce its reliance on reverse factoring.

Though a survey on Carillion’s website claimed the vast majority of suppliers were satisfied with the arrangement, its elements attracted criticism: the maximum payment term was increased from 65 to 120 days, and suppliers would incur a charge from the banks if they requested to be paid earlier. Additionally, the EPF agreement would break down should either party – Carillion or a supplier – become insolvent.

This trickledown effect had several lasting impacts on the leasing market.

  • Santander UK said it lost £91m in bad debt related to the EPF
  • Handelsbanken said Carillion accounted for a “significant part” of its £24.4m losses in 2017

Independent plant hire group Hawk Plant went into administration with the loss of 83 jobs in February 2019. In its 2017 results, filed in November 2018, managing director and majority shareholder Mike Hawkins said that the liquidation of Carillion had disrupted its contract pipeline. “The liquidation of Carillion Plc in January 2018 has meant some timing disruption as contracts previously awarded have had to be rescheduled. Due to the high level of credit insurance in place on Carillion Plc there will be a minimal write-off of balances outstanding at the time of liquidation,” wrote Hawkins.

Interserve

Troubled contractor and construction company Interserve went into administration in March this year after shareholders rejected a rescue package from the UK government in a critical vote.

The result of the vote triggered a “pre-pack” administration of the company overseen by accountancy firm EY.

A ‘pre-pack’ administration saw Interserve’s lenders take 100% ownership of the company and is intended to avoid its total collapse, preserving ongoing contracts and avoiding the major disruption as caused by the failure of Carillion.

Opposition to the deal was led by American investment firms Coltrane and Farringdon, who collectively owned 35% of shares in the company. According to BBC business editor Simon Jack, 95% of all others who voted were in favour of the rescue deal, of which over 16,000 small shareholders were “totally wiped out.”

After dismissing the deal as ‘terrible’ in February, Coltrane offered an alternative rescue plan, which would have given shareholders a 10% stake. The company also expressed dismay at the £76m spent by Interserve on financial restructuring advice and that the company directors supposedly declared they would not invest any of their own money buying new shares.

Shareholders voted 59.38% against the rescue plan, which would have seen their stake reduced to just 5%, with lenders being handed the large majority of the business. As part of the failed deal, banks and hedge funds that held Interserve’s £631m debt would have cancelled £485m of it, in return for ownership of the company’s stock. Following the failure of the deal, Interserve’s lenders are expected to take ownership of the business.

In an interview with The Telegraph over the weekend, chairman Glyn Barker said of the rescue vote: “I am very worried. [if the vote fails] We’ve got nowhere to go, as we’ll run out of money and the banks will exercise their security.”

Interserve

Troubled contractor and construction company Interserve went into administration in March this year after shareholders rejected a rescue package from the UK government in a critical vote.

The result of the vote triggered a “pre-pack” administration of the company overseen by accountancy firm EY.

A ‘pre-pack’ administration saw Interserve’s lenders take 100% ownership of the company and is intended to avoid its total collapse, preserving ongoing contracts and avoiding the major disruption as caused by the failure of Carillion.

Opposition to the deal was led by American investment firms Coltrane and Farringdon, who collectively owned 35% of shares in the company. According to BBC business editor Simon Jack, 95% of all others who voted were in favour of the rescue deal, of which over 16,000 small shareholders were “totally wiped out.”

After dismissing the deal as ‘terrible’ in February, Coltrane offered an alternative rescue plan, which would have given shareholders a 10% stake. The company also expressed dismay at the £76m spent by Interserve on financial restructuring advice and that the company directors supposedly declared they would not invest any of their own money buying new shares.

Shareholders voted 59.38% against the rescue plan, which would have seen their stake reduced to just 5%, with lenders being handed the large majority of the business. As part of the failed deal, banks and hedge funds that held Interserve’s £631m debt would have cancelled £485m of it, in return for ownership of the company’s stock. Following the failure of the deal, Interserve’s lenders are expected to take ownership of the business.

In an interview with The Telegraph over the weekend, chairman Glyn Barker said of the rescue vote: “I am very worried. [if the vote fails] We’ve got nowhere to go, as we’ll run out of money and the banks will exercise their security.”

Kier

Most recently in June 2019, construction, services and property group Kier has concerned investors, suppliers and lenders with a profit warning that has sent its share price through the floor.

Group’s underlying operating profit for the 2019 financial year will be lower than previous expectations, by about £40m.

Shares in the company, which employs 20,000 people and works on major government contracts including HS2 and Crossrail, have fallen 40% as a result of the profit warning.

The share price is now at 167p, less than half the amount Kier was trading at when it launched a £264m emergency fundraising in December 2018.

Speaking to The Guardian, Ian Forrest, an investment research analyst at the stockbroker the Share Centre, said: “The shares are now down 85% over the past year and there are clearly fears in the market that the company could be heading for the same fate as Carillion.”

In a financial year interim results Kier also revealed that is likely to report a net debt position as at 30 June 2019, which would have an adverse impact on its yearly average month-end net debt position.

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