The dangers of suicide bidding in a post-Carillion and Brexit world

Paul Barber

Partner

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The dangers of suicide bidding in a post-Carillion and Brexit delayed world

Updated: 11th April 2020

Suicide Bidding: Lessons from Carillion

Put simply, suicide bidding is the practise of contractors submitting tenders for jobs at relatively low prices in an effort to compete in an increasingly squeezed economic landscape. This bidding war results in contractors agreeing to take on work which will see them breaking even, or even making a loss but maintain turnover and keep its’ skilled labour working. As the name suggests, this practise can be ruinous to the future viability of a company should it continue to operate in this way.

In a stretched and uncertain environment where cost versus quality may be a deciding factor, or overall demand is stagnating then many contractors may find they have little alternative but to aggressively reduce their bid in order to secure contracts and keep work and money coming in, in the hopes that things will improve in the future.

A necessary evil?

Some contractors are finding themselves faced with the prospect of either winning contracts at a low price, or missing out on securing work altogether; for many they feel it is better to acquire a job with tight margins than failing to obtain work at all and risk losing their workforce as a result. However, with profit margins so lean, there is little room for error; should problems be encountered during the contract the company’s financials could be placed under extreme pressure. RBR Advisory’s Paul Barber commented:

“When competing for jobs, often work is price sensitive. In many cases, charging the lowest price might seem the best option for gaining a contract at that time. But the old adage that ‘turnover is vanity, profit is sanity and cash is reality’ can be overlooked.

“Subcontractors should go into these projects with their eyes open. They need to ensure that their costings are absolutely accurate, their terms and conditions are tight enough to take account of unforeseen circumstances, and that they maintain strict financial management throughout.”

The construction industry in a post-Carillion world

The collapse of Carillion should have been a wakeup call, serving as a stark reminder of the precarious nature of the industry, and how continually shaving costs is an unsustainable business strategy in the long-term even for huge companies.

While the issues Carillion were dealing with were numerous, at least a portion of their problems can be traced back to a trend of engaging in suicide bidding. Paul explains:

“In simple terms failures like Carillion were down to them running out of cash. This should be a warning to other contractors engaged in the dangerous act of suicide bidding; if the low price contract does not have enough profit in it to start with, or should an unforeseen circumstance arise during the work thereby causing further costs, then you can very quickly run out of cash. Once this happens, the situation can turn sour very quickly, cash flow difficulties being a common cause of business distress and indeed insolvency.”

“While the government is good at picking up the pieces when something goes wrong, it has not been so good at putting prevention plans in place. We feel that it could take a more pro-active approach to support small firms and deal with issues at an earlier stage.”

The government and outsourcing

Carillion, like Interserve another recent high profile failure, held key government contracts including providing cleaning and catering services to hospitals and schools, as well as infrastructure projects such as the construction of hospitals, smart motorways, and HS2.

In fact it is estimated that more than £34bn a year is awarded to subcontractors for government projects. Paul believes the government should do more to help stamp out the culture of suicide bidding, starting with leading by example.

“Many thousands of subcontractors rely on indirect payments from government projects – however, these subcontracts are not always the prize they may seem.

“Margins are usually very tight so it is easy to make a loss, and ultimately small firms rely on the main contractors to pay them. £34bn is a significant chunk of the economy and clearly this money supports thousands of businesses and jobs.

An uncertain future

Suicide bidding not only increases the risk on an individual firm-by-firm basis, it also puts the future of the industry as a whole at risk. Low margins can lead to corners being cut, low quality output, and over time, this risky business model can lead to the collapse of the company as cash flow dries up.

But any large company insolvency has a habit of starting a domino effect down the entire supply chain particularly in industries such as construction where work is often conducted through a connected network of contractors and subcontractors. Therefore when a contractor goes under, those subcontractors relying on the contractor for work can find themselves quickly struggling.

Latest Q4 2018 figures from Red Flag Alert show 2,599 construction companies were experiencing significant financial distress at the end of last year, up 4% from the previous quarter. These figures support the fact that 2,594 construction companies entered formal insolvency procedures during 2018, giving the industry the dubious honour of being responsible for the highest number of company liquidations compared to any other sector.

Paul advises firms which are owed money after the failure of a contractor or any other creditor, should contact the appointed administrator or liquidator. He added: “Subcontractors are usually classed as unsecured creditors, and come behind banks and employees in the queue for payment. Many small subcontractors do not have cash reserves to fall back on which will allow them to trade out of a financial black hole.

“Those which might be at risk should take professional advice as soon as possible.”

About the author

Paul Barber is a partner at RBR Advisory, part of Begbies Traynor Group. A licensed insolvency practitioner and Chair to the R3 North West Committee, Paul has over 25 years’ experience assisting companies with turnaround and restructuring strategies.