Carillion’s collapse - a painful anomaly rather than a portent of doom

For Carillion’s 20,000 UK staff, the pain is only just beginning as they wait to learn if they will keep their jobs. Likewise its sprawling supply chain. The construction giant’s estimated 30,000 subcontractors and suppliers are set to take substantial hits on their unpaid invoices, as the company went bust with debts of £1.5billion and cash reserves of just £29million.

Meanwhile its construction clients face having to issue new tenders for halted projects, as it’s unlikely other construction firms will want the work under the current contract terms. The collapse comes as construction sector output slows sharply. Activity in the industry fell at the fastest rate in five years at the tail end of 2017, according to ONS data.

And yet Carillion’s demise is no Northern Rock moment. In the summer of 2007, queues formed outside Northern Rock branches in the first run on a British bank in 150 years. Northern Rock became the first casualty of a financial crisis that by the following year had morphed into a long and painful recession that none of us need to be reminded of.

2018 is not 2008

A decade on, things are very different. There is nothing to suggest that Carillion’s failure will be an omen - let alone a reason - for other major contractors to follow suit.

Let’s start with a construction industry reality check. Yes total output is softening, but the residential sector remains buoyant. With the government committed to stimulating housebuilding, demand from developers - and would-be homeowners - remains robust.

British construction remains attractive to foreign investors too. Last year the French giant ENGIE spent £330million to acquire Keepmoat’s regeneration business, in the French firm’s biggest UK acquisition in five years.

Such a large investment was more than an opportunistic purchase while the Pound was cheap; it was also a resounding vote of confidence in UK Plc.

Funding firepower

Carillion’s banks delivered the coup de grace to the doomed company when they refused to lend it any more money. But this was an organisation which last year had to write down £1billion from the value of its contracts, and was groaning under a £900million debt pile and a £600million pension deficit.

Banks’ forbearance is always finite, and if ever a company had it coming, Carillion did. Nevertheless, a decade on from the credit crunch, Britain’s financial system is much better equipped to deal with the strains that a slowdown in a key sector like construction will place on it.

For a start the banks are better capitalised, and their ability to withstand shocks is assured by the Bank of England’s regime of regular stress tests.

In November, the Bank’s latest round of tests found that all Britain’s major lenders coped successfully with a scenario designed to be even more severe than the global financial crisis.

In addition, the lending landscape has been transformed in the past 10 years. An array of challenger banks has sprung up, offering a wider range of funding options both to developers and contractors. That diversity brings strength.

Diligence is key

But the greatest change - and the one which brings greatest reassurance - is the shift in due diligence. Not only is it now a much more thorough business, it is also seen as an ongoing process rather than an event. Whereas in the bad old days a lender would carry out their assessment before agreeing to a loan, but then largely take a back seat as long as the repayments were made, these days lenders view due diligence as integral to the entire project lifecycle.

Specialist monitors now work with lenders and developers to protect the investments of them both, ensuring that work is progressing as it should before the next tranche of funding is released, and that a suitable exit is always maintained.

Used correctly, this sort of financial infrastructure should protect both lenders and clients, as well as minimising the risk of contractor failure.

Clearly this did not happen with Carillion, in part because so much of its work was paid for with funds that came directly from Treasury coffers rather than the banks. No wonder several ministers are already facing questions about why they awarded Carillion £2bn of government contracts after the company issued three profit warnings in just four months last year.

Of course hindsight is a wonderful thing, but the warning signs were there - why else would hedge funds have begun shorting Carillion’s stock way back in 2016, making it the most shorted company on the FTSE 250?

MPs are rightly calling for an inquiry which will determine when - not if - lessons from Carillion’s catastrophic mistakes will be acted upon.

But for all the chaos and pain that its collapse will cause in the short and medium term, Carillion remains the exception rather than the rule; and there is nothing inevitable about the prospect of similar failures, thanks to the depth, diversity and diligence of today’s funders.