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Can contractors nail profit growth?

Comment

It is a tribute to the management skills of contractors that they are able to do so much work for so little profit. You only have to look at the latest set of results published by the major contractors over the last few weeks to see that.

Figures from the likes of Balfour Beatty, Amec and Costain show that while margins are improving - profits are between 1% and 3% of turnover - there is considerable scope for a cock up on one project to turn overall profit into loss.

Balfour Beatty increased first half pretax profits from £16M to £35M, but this was on a staggering £1.2bn turnover.

However, it put performance on a par with that of Amec, whose first half pretax profits emerged at £32.4M on turnover of £1.5bn.

On the positive front, contractors have generally kept the construction businesses in profit in the last few years. The current economic upturn has helped, but in recent years contractors have also changed their approach to winning work, no longer chasing turnover at the expense of profit.

Nowadays contractors say they are happy for turnover to remain static, or even fall, if it means that they can improve profitability through selective tendering and going for less confrontational, higher margin, negotiated work. The logic makes sense - in a growing market, clients insisting on judging tenders on a 'lowest price wins' basis will find themselves out in the cold.

But how long can contractors keep this up? Most are stock exchange listed PLCs whose shareholders expect year on year profit growth. At the moment, these investors are being placated by improvement in margin and profits and are reasonably confident that their money will not suddenly be swallowed up by losses.

But now that a degree of certainty has returned to contracting investors may start to expect more, especially if the Government starts to deliver its 10 year transport plan. Further growth might be hard to deliver, even if clients - Government in particular - persevere with partnering and negotiated work, which produce higher margins than traditional competitive tendering.

The omens are not necessarily good. Even contractors like Morrison, for whom 80% or more of workload is negotiated, still operate on relatively low margins. Perhaps it was this and the prospect of static profit growth in the next decade that helped persuade the Morrison family to accept last month's takeover bid from Anglian Water.

The same could also be said for Kvaerner. At one stage the Norwegian conglomerate appeared keen to keep its construction arm, formerly Trafalgar House. Last week it announced the sale of the UK based division to Swedish construction giant Skanska.

Kvaerner Construction has performed well recently. Two weeks ago it announced a doubling of first half profit margins from 1.4% to 2.8%. It will be interesting to see how well its new parent does at producing further improvements.

Andrew Bolton is NCE's news editor

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