Leighton faces long-term potential structural problems.
In essence, Leighton, like many other big builders, has priced itself out of many markets but changing Leighton’s way of doing business to adapt to the new lower cost environment will be difficult. In a strange way, and under entirely different circumstances, Leighton is in danger of being caught in a Harvey Norman style structural trap (Go Harvey Norman, where? August 7).
Yet on the surface Leighton has every reason to be optimistic. It has $47 billion in work on hand, most of which should been signed up on good terms, and its problem contracts are behind it.
Yet Australia faces the likelihood that $200 billion in mining construction projects will be cancelled (Australia to world: "Do not invest here", July 31).
Leighton would have won construction tenders for a big chunk of those contracts. The cancellations are being caused by the fall in mineral prices and the ballooning costs of construction.
One of the main reasons construction costs have ballooned is that on most major jobs the agreements set up by the big industrial relations lawyers give enormous power on site to the unions. In times of labour shortage, this balloons costs.
Leighton’s skill base is to find a way to work with union power and pass that cost onto the unfortunate client. In boom times no-one worried. But we are not in boom times and the rules are going to be changed, and changed dramatically, so Leighton is in danger of being caught as a high-cost builder.
In the non-mining sector, only West Australia and Victoria are in budget surplus and are in a position to award big contracts. Victoria believes it can cut the cost of construction by at least 25 per cent by using building regulations to drastically reduce the power of unions on building sites. The new Victorian building regulations have been designed very skillfully and already, in a small way, benefits are being felt. Unions, not surprisingly, are protesting in the streets (Dodging mining sector mothballs, May 2 and Readying for an IR showdown, July 18).
Working under these new rules requires entirely different management and work place agreement skills to those used by Leighton (plus other big builders) and its advisers. Under the new regulations, management power is no longer based in the industrial relations department. Site managers rather than unions run the jobs. In Victoria, Leighton and other builders with similar management styles will not be able to gain work unless they change their agreements and practices. In fairness to Leighton, their subsidiary John Holland has experience in this lower cost style of management but many Holland people have left Leighton.
The West Australian government is looking hard at the Victorian regulations as the only way of curbing the enormous mining project cancellation rates. Meanwhile, Gina Rinehart is determined to push ahead with the Roy Hill iron ore project despite some nervous bankers. The bankers fear that the unions will use the power they are being given in the contacts drawn up by the big industrial relations lawyers to teach Rinehart (and the banks who back her) a lesson.
Many believe Roy Hill should be delayed until Victorian-style regulations are introduced into West Australian government contracts, which, in time, will spread to the miners and slash the construction costs. But of course Roy Hill has big iron ore export contracts so Gina Rinehart and her banks might just have cop it sweet.
It is possible that by the time the federal election is held, all states will have followed Victoria enabling the Commonwealth to follow, should there be a change of government. We will then be able to afford many more hospitals, roads and mines. It would mean that the current industrial relations departments and IR lawyers would have to completely change their ways.
Footnote: Leighton should do well in the next couple of years but in the half year to June 30 it recorded an operating cash deficit of $245 million despite selling and leasing back $328 million worth of assets. Its borrowings rose from $2.1 billion to $2.9 billion. Part of that increase in borrowing was used to pay the dividend.
Digging Leighton out of a hole
Construction companies like Leighton will soon have to confront a new IR reality as rules curbing union power are likely to spread from state to federal law.
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