Balfour and Carillion - deal or no deal?

Major construction mergers, it seems, bear an uncanny resemblance to buses. After a long wait, and hot on the heels of the news of the Aecom-URS and Galliford Try-Miller Construction deals, we now have the third, and most attention-grabbing, proposed tie up in a month - between Balfour Beatty and Carillion.

The revelation that the UK’s two largest contractors are in discussion over a potential merger stunned both the City and the industry: even with Balfour’s current difficulties, rumours that it would become a takeover target had previously centred on international companies trying to gain a foothold in the UK sector.

However, the two contracting giants actually courted each other three years ago, with a coy approach from Carillion rebuffed by Balfour’s board. It’s an intriguing backstory to the current negotiations, but, more importantly, it shows that Carillion’s interest is not just an opportunistic move on a company in difficulty. The fit between the two firms has, apparently, been a long time under scrutiny.

After being hit by a string of profit warnings and putting its most lucrative business unit - Parsons Brinckerhoff - on the market, a deal offers Balfour a far quicker fix than having to fathom out its own problems and build itself a new direction

So, what are the advantages of a deal? From Balfour’s perspective, there are many. The fact it knocked back Carillion’s earlier approach, but is seriously considering a tie-up now, is yet further evidence of the dramatic shift in the company’s position over the last two years. After being hit by a string of profit warnings and putting its most lucrative business unit - Parsons Brinckerhoff - on the market, a deal offers Balfour a far quicker fix than having to fathom out its own problems and build itself a new direction. In the short term, it means it would not just retain, but grow, market share, at a point when commentators were forecasting it would, in a best case scenario, be relegated from UK construction’s shining light to an unremarkable contracting firm.

For Carillion, the deal offers the possibility of trebling its turnover overnight, and rapidly expanding its presence in infrastructure markets. But despite the obvious allure in doing so, there are some serious issues that the proposed deal also throws up. Carillion is currently by far the more profitable business, and for a deal to happen it would need to be satisfied that it has got a proper hold on the extent of problems at Balfour (there will be some within the company, no doubt, who are still haunted by its troubled Mowlem integration back in 2006, which entailed it making £90m of writedowns). There is also the question of what it does with Balfour’s sizeable building contracting presence (as distinct from infrastructure and support services) - a market which Carillion has moved focus away from in recent years, in a move that has boosted its own profitability.

For reasons like these, together with the anticipation that other companies are now more likely to make a play for Balfour, some City analysts have forecast the probability that a deal will go ahead to be as low as 50-50. If it does, however, there are set to be more advantages than disadvantages for the wider sector.

Balfour Beatty is already far out of reach of its rivals when it comes to turnover, so adding Carillion’s revenue into that mix is unlikely to make it more of a threat in terms of scale to other contractors than it already is - if anything, it puts it further into a different market, for larger clients with different needs, or those that would prefer to deal with a single entity rather than JVs.

Of greater significance is the fact that the combined scale of the company would make it a contender against larger overseas contractors - particularly in infrastructure markets.

So from a UK plc perspective, this marriage - should it go ahead - looks to be one to celebrate.

Sarah Richardson, editor