News Article

Sector Analysis

Construction sector resilient but more tough times ahead

By CreditMan Thursday, July 26, 2012

Performance in the construction industry was stronger than expected in 2011, but sales across the industry are being maintained at the expense of unsustainable cuts to margins, according to new construction industry research from Baker Tilly and Company Watch, the financial health monitoring specialists.

The research focuses on construction SMEs with an annual turnover of between £2m and £25m. It shows that although sales figures for 2011 dropped, the decline was not as big as in previous years.

27% of main contractors reported a decline in sales of at least 10% in their 2011 filed accounts, with 19% cent seeing sales fall by over 20%.

This is an improvement on last year’s research, which saw 41% of construction SMEs suffering a fall in sales of at least 10% and 27% seeing a fall of at least 20%.

For sub-contractors, the 2011 figures were marginally better than main contractors, with 24% suffering a sales decline of at least 10% and 13% seeing falls of over 20%.

Administrations lower than expected

The latest administration data from the Insolvency Service paints a similar picture in terms of the sector’s resilience. It shows that 83 main contractors went into administration between 1 January and 30 March 2012 - the lowest level of Q1 administrations for four years.

This is 17% down on Q1 2011 (101) and compares to the 120 companies that went into administration during Q1 2009. However, it is slightly more than Q4 2011 (71 companies).

“These positive figures were unexpected and suggest that construction companies are showing more resilience than businesses in general across the economy,” says Mark Wilson, partner at Baker Tilly Restructuring and Recovery and an experienced construction industry specialist.

Sales maintained at the expense of profitability

In terms of profits, however, the news is not so good, amid signs that most construction companies are being forced to cut margins heavily to win sales.

Almost one-quarter (24%) of construction industry contractors saw profits before tax (PBT) plummet by 50% or more during 2011, with 41% recording a fall of between 10-20%.

It was a similar story for sub-contractors, where 25% saw profitability collapse by more than 50%, and 38% saw a fall of between 10-20%.

“The fact that profits are falling at a faster rate than sales suggests that companies are being hit hard by a double whammy of rising costs and falling margins, as they face an ever more desperate fight for sales,” says Mark.

Short term debts cause concern

Distress indicators in the research also support these findings. Over one in six companies (16%) would not be able to pay off their immediate debts if required to do so by their creditors. This is the proportion that has a current ratio of less than 1, suggesting potential difficulty in the repayment of short to medium-term debt liabilities.

The Probability of Distress figures also show that one in 39 contractors is likely to fall into financial distress over the next 12 months.
Margin pressures mean short term gain but long term pain

“Cutting margins to the bone might win more work in the short term, but it is very risky and in the long term it is counter-productive, as shown by the drastic fall in profit levels,” says Mark.

“As London 2012 approaches, a lot of infrastructure work is tailing off, certainly in the South East, and the appalling weather hasn’t helped. Construction continues to bear the brunt of the downturn and the extended, slow recovery means it is still very much at risk,” he says.

Source - Baker Tilly