PwC report: SA's construction industry still under pressure

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“The tough economic conditions in 2016 did not spare the construction industry, with lower revenue, decreased spend on projects, and a long term industry settlement," said Andries Rossouw, PwC Assurance Partner. “However, there has been some improvement in companies’ performance as the year draws to an end, with signs of an increase in profitability and market performance.”

PwC’s fourth edition of ‘SA Construction, 2016’ highlights some of the trends in the South African construction industry. The study’s findings are based on the financial results of the leading construction companies listed on the JSE for financial year ends to June 2016.

The South African construction industry

The 2016 financial year saw a decline in market capitalisation and financial performance. Seven of the nine companies reflected a decrease in market capitalisation. In aggregate for the nine companies analysed, market capitalisation decreased by 3% to R25bn as at 30 June 2016 (R25.9bn as at 30 June 2015). After 30 June, there was a market capitalization recovery of 11%.

Actual government construction expenditure increased by 5% in 2015, with total expenditure amounting to R258bn. A promising development for the industry is the Government’s infrastructure plan, which aims to address South Africa’s needs over the next few years. However, this will require input from and co-ordination with the construction sector for it be successful.

The private sector is also a significant contributor to capital expenditure in the construction sector, with the mining sector being one of the biggest players. Due to severe pressure in the sector, however, with shrinking margins attributed to volatile commodity prices, exchange rate fluctuations and labour unrest, there has been a decline in demand from this sector.

The secured order book has shown a declining trend since 2014. A decrease in order books was observed across six of the nine construction companies analysed. The secured order book cover of 1.5 times current-year-revenue, showed a marginal increase on 1.24 in the prior year. The increase was as a result of an even bigger decrease in revenue.

Financial performance of the industry

Total revenue decreased by 9% to R117.4bn on the prior year mainly as a result of a decrease of R9bn from Aveng, a R3.9bn decrease from Murray & Roberts and a R0.9bn from Stefanutti Stocks, partially offset by a R1.9bn increase from WBHO and a R0.5bn at Raubex. These decreases were largely as a result of the weaker economy, in particular for commodity markets with a notable decrease in revenue from energy, oil and gas projects. Disposal of non-core businesses also contributed.

Total operating costs decreased considerably by 12% in response to lower revenue. Staff costs continue to represent a significant component of operating costs constituting 29% of total operating costs (2015:30%). A number of retrenchments took place in the industry in 2016 as construction companies could no longer maintain their staff investment.

Cash generated from operations decreased by 23% on last year from R4.4bn to R3.4bn. It is positive to note that solvency and liquidity ratio continue to remain reasonably strong and in line with those of the prior year at 1.8 and 1.3 respectively.

Integrating risk for performance

Risk management continues to be a vital component of effective management for the construction industry having regard to the recent economic climate and more harsh operating conditions.

The common risks identified by construction companies include monitoring and compliance with the B-BBEE codes; health, safety and environmental sustainability; industrial action; liquidity risk; talent management and staff retention; growth expansion and operational performance; the macro-economic environment; tender risk; and compliance with legislation and regulation.

Tax developments

Key players in the construction industry have taken steps to review their group structures with a view to streamline their operations into a more consolidated group. However, this requires careful consideration of tax planning. The Income Tax Act contains a number of group roll-over provisions which may assist corporates to restructure and simplify their operations and structures in a tax neutral manner. It should also be noted that the legislation does not prohibit the use of tax loss companies as part of restructuring.

Improving value to stakeholders

The construction industry adds significant value to South Africa and its people. The monetary value received by various stakeholders is often summarised by companies in their value-added statements.

Seven of the nine companies included in the construction industry analysis, representing 72% of the revenue for all companies considered, provided readily available value-added statements.

The value received by heavy construction employees represented 77% (2015:83%) of the value created. This is a significant contribution to the labour market. According to Stats SA, more than 1.38 million people are employed by the construction industry, either on a contract or permanently.

The state received 11% (2015:9%) of value created in the form of direct taxes. However, the reality is that the state receives significantly more if one takes into account the tax on employee income deducted from employees’ salaries and net indirect taxes like VAT.

Rossouw concludes: “While several years of weak performance have resulted in weaker construction companies, we nevertheless believe that the industry is well positioned to support the country’s development goals.”