Balfour Beatty has seen a 12% reduction in revenues in its UK construction divison, together with a £60 million profits shortfall, according to its latest financial results.

The international infrastructure group, says that challenging economic conditions and operational issues in UK construction, and a significant downturn in Australia have led to a “disappointing financial performance” in its latest financial results for the full-year ended 31 December 2013.

Strong US construction order intake offset with increased US construction revenue were the key factors which helped the Group to maintain a stable order book at £13.4 billion (2012: £13.5 billion).

According to Balfour Beatty, the UK construction market has been "a challenging environment in which to win and execute work" which had allowed clients to impose increasingly stringent conditions onto contractors, and as a result, placied subcontractors under significant financial pressure. The business underwent a major reorganisation during 2012 and 2013. In January 2013, the operations were streamlined into three business units consisting of:

• Major projects: focused on complex projects in key market sectors such as energy, transportation and heavy infrastructure;
• Regional: civil engineering and building, private and public, including work in partnerships and frameworks to provide customers with locally delivered, flexible and fully integrated civil and building services; and
• Mechanical and electrical engineering: covering all market sectors.

At the end of April Balfour also made changes to the leadership of the business, appointing Nicholas Pollard as CEO of Construction Services UK.

Conclusion of AMP5 work contributes to 11% drop in Support Services order book

The Support Services order book for continuing operations finished the year at £4.1 billion, down 11% from a year ago (2012: £4.6 billion). Balfour Beatty attributed this to a decline in the order book in the power sector as it completed the first yearof the £1.1 billion of contracts with National Grid to upgrade the UK’s gas distribution network, coupled with a reduction in the water sector as the AMP5 regulatory water cycle nears completion in 2015. However, revenue for the year was up 10% at £1,265 million, as a result of strong performance in the power sector – up 18% on 2012.

Underlying profit from continuing operations increased to £55 million (2012: £30 million), resulting in an underlying operating margin of 4.3% compared with 2.6% in 2012. There was a particularly strong performance, accompanied bybetter than expected high volumes on power transmission in the fourth quarter, as well as what the Group decribed as “a small settlement of multi- year commercial issues” in the water sector.

In the water market, the Group said it had continued to perform well on its AMP5 water contracts. As the AMP5 regulatory water cycle draws to a close, Balfour Beatty is now working with a number of water companies to manage a smooth transition to the AMP6 cycle without unnecessary changeover disruption. The firm has already won a three-way joint venture contract worth a potential £1.5 billion with Thames Water. While the 23-month early contractor involvement is in the order book (£10 million), the vast majority of this work is yet to be booked. Yorkshire Water has also extended Balfour’s existing contract AMP5 to 2020 for AMP6, which is worth £70 million.

"Sharp fall" in construction division profits

The company said that the profit shortfall in UK construction, the majority of which occurred in the first half, resulted in a sharp fall in the profits of the Construction Services division.  However,  the Construction Services order book had increased as a result of the growth in order intake in the US and Hong Kong.

In Balfour Beatty’s Professional Services division, the order book and revenue remained stable in the year, but profits were adversely impacted by a significant downturn in the mining and resources sector in Australia. The Group’s business in Australia has been “significantly impacted” by the sudden cancellation of capital projects across the resources sector.

 The company said:

“Throughout 2013 we have taken decisive action to respond to the challenges in our UK construction and Australian Professional Services businesses. In the first half of the year we made major changes to improve operational delivery and profitable work winning capability in UK construction, including strengthening the leadership team and rationalisation of regional delivery units.”

Balfour said that looking ahead there are signs that some of its core markets, such as private US building and parts of the UK construction market are improving,  however, these will take time to feed through fully in terms of financial performance.

“ In addition, we focused the management team on a plan to deliver a high standard in disciplines including planning, tendering, estimating and commercial governance. The actions implemented are taking effect and profitability in the second half of the year improved materially as a result. In Australia swift action was taken to mitigate the adverse impact on profitability, and right size the business in line with prevailing market conditions. “

According to Balfour Beatty, the UK remains an extremely competitive market with margins remaining under pressure despite volumes improving in the highways and rail sectors. The firm is currently delivering aspects of the preliminary design of the railway systems packages for the UK’s High Speed project as well as all three packages for Transport for London’s structures and tunnels portfolio.

UK construction revenues fall 12% and £60m profits shortfall

The construction order book from continuing operations improved in the year to £7.7 billion, up  5% from a year ago. FThe firm said that following a year of very strong order intake in the US, the US order book increased by 10% despite significant revenue growth. It is now over 20% larger than the UK order book, which itself decreased by 3% in 2013 with growth in the regional business “not completely offsetting” reductions in major projects and mechanical and electrical engineering

Revenue from continuing operations increased by 1% during the year to £6,573 million. US revenues were up 12% for the year, driven by a 20% increase in the second half versus the prior year. Revenue in the rest of the world increased by 16%, partially offset by a 12% reduction in the UK.

Underlying profit from continuing operations reduced to £21 million from £119 million in 2012, with the decline mostly due to the performance of the UK business. Balfour Beatty said that while there was an expectation of reduced profitability at the start of the year in light of a declining market , a shortfall of approximately £50 million was announced in April, resulting from” further deterioration in the external environment combined with the impact of an ongoing internal reorganisation. “

While the UK business had “broadly performed” in line with these reduced expectations, a further deterioration at the end of the year resulted in an actual profit shortfall of £60 million.

The Group said that actions taken in 2013 to re-focus the business had left it “better positioned for 2014 and the challenges ahead.”

Only “modest progress” expected in 2014

Commenting on the results, Andrew McNaughton, Chief Executive Officerof Balfour Beatty said:

 “In 2013 we faced challenging economic conditions in several markets and experienced operational issues in the UK construction business.  The remedial actions taken in underperforming areas are delivering results and have positioned us better for the future. Continuing to improve operational delivery and supply chain management will remain a particular area of focus throughout 2014.”

“We are seeing increasing evidence of improving conditions in some parts of our core US and UK markets, although the long cycle nature of our business means that these will take time to feed through fully in our financial performance. Recovery in some parts of our businesses will be largely offset by a reversion to lower PPP investment disposal gains. However, leaving aside the expected benefit from the longstanding contract settlement and the impact of any further adverse foreign exchange movements, we expect to make modest progress in 2014.”

“In the longer term, we remain focused on capitalising on growth in global infrastructure markets by leveraging three key strengths: local presence, asset knowledge and our skills as an investor and developer.”