Financial commentators are now placing bets on which of the major UK outsourcing firms will be the next Carillion-style collapse. Serco, Mitie, Capita and Interserve have faced unexpectedly sharp declines in earnings and share prices over the past few years. Analysts Company Watch recently pointed out that these companies are in trouble because they have a ‘bankrupt’ business model that is strikingly similar to Carillion’s prior to its collapse.
It is therefore time to ask if Carillion is the Northern Rock of the outsourcing sector? Is it simply the first in a long line of corporate collapses that will decimate the outsourcing sector and lead to a new round of government bail outs?
The business model of firms like Carillion diminishes workers’ rights to fuel ever-rising boardroom bonuses, forking out shareholder dividends based on false promises. If any one of these contractors was to collapse, the impact on workers would be even more disastrous than it was in the Carillion case. Interserve, for example, has 75,000 employees worldwide and 45,000 in the UK. Carillion had 45,000 and 20,000 respectively. We should not forget that Carillion – along with other construction giants of the outsourcing sector – were among the worst of the ‘blacklisting’ firms that illegally excluded known trade unionists from the industry.
In the current climate, workers’ pensions are likely to be under the spotlight. After all, Carillion left a pension liability of £2.6bn. Workers’ pensions added up to around a third of the £7 billion in liabilities left by the firm when it collapsed. It only held £61m in cash. Debt had increased significantly between 2006-2008, as Carillion purchased construction rivals Mowlem and McAlpine. The latter were also notorious for their role in the blacklisting of trade unionists. Debt spiked by nearly £500 million between 2010-2012 to fund the purchase of renewable energy firm Eaga. Each acquisition came with an increase in Carillion’s pension liability. Yet Carillion’s finance director reportedly viewed funding pension schemes as “a waste of money”.
Shareholder dividends were apparently not a “waste of money”. Dividends increased every year from 2012 to 2016, paying out £376 million over this period despite generating only £159 million in cash. Indeed, Carillion handed out a total of £775.8 million pounds to shareholders over its lifetime. In 2016, Carillion paid out £78.9 million in dividends, despite an operating loss of £38 million. Those high dividend payments were in turn used as an indication of the firm’s ‘success’ and thus justified the huge executive salaries and bonuses enjoyed by the members of Carillion’s board.
This bankrupt business model was largely based around ‘goodwill’ or intangible assets that accrued to the company when they acquired other businesses through mergers and takeovers. Also known as ‘fair value accounting’ (FVA), the key risk of goodwill valuation is that it compresses expected future revenues into present values, enabling what are essentially gambles on future revenue to be presented as economic certainties. Despite distinct similarities with practices which played a key role in the downfall of Enron, FVA accountancy was adopted EU-wide in 2005 through the International Accounting Standards Board (IASB) International Financial Reporting Standards.
In the case of Carillion, goodwill asset values enabled the firm to borrow more to fund bonuses and dividends. This in turn required new contract acquisitions for ready cash to pay down lenders due to the lack of revenue from the underlying assets. In this model the solution to underperforming contracts is to bid for more, with a result of ever lower margins as competitive pressures and a ‘win at all costs’ mentality drive tenders down.
Government has been a willing partner in this, outsourcing risk as the price for cheaper service provision. This has been at the expense of workers and service users across huge swathes of the public sector, as the major providers seek to both carve out profit and deliver cost savings. The elephant in the room for the UK government is that this ‘on the never-never’ model of business is aggressively encouraged and ultimately created by government policy. The companies that apply this model do so largely because they are pretty much guaranteed a succession of Public Finance Initiative contracts. This public-private model accumulates contracts on the assumption that the company can find the means to deliver them in the future. The UK government continued to award contracts to Carillion when it was clearly in dire financial straits and it is anticipated that new public service contracts for Interserve are shortly to be announced.
In short, the model is drip-fed by an endless succession of public sector-created markets that rely on compromising workers’ rights and building up enormous liabilities in order to fund bonuses and dividends, their enrichment protected through limited liability privileges when the entire edifice collapsed. Rights which purport to protect workers’ interests under transfers and corporate restructures have been cut back to the point of ineffectiveness. As many Carillion workers found out to their cost, key TUPE rights don’t apply when a business is insolvent, and employment law provisions for consultation were themselves redundant.
Key institutional players started divesting from Carillion in 2015, and major hedge funds won big by short-selling Carillion, with some taking short positions as early as 2012. This is exactly what is going on right now with the other ‘never-never’ companies. The five largest outsourcers have experienced steep falls in share prices over the past four years. Interserve has particularly suffered, with investors making £68 million so far this year placing bets on a falling share price.
The ability of investors to rapidly divest, or indeed benefit from a company’s collapse demonstrates precisely how corporate law acts perniciously to eradicate workers’ rights.
To ensure that workers’ rights, their pensions and their futures are protected, we therefore need to deal with the foundations upon which corporate ownership and shareholding is based. In order to protect workers’ rights, pensions and basic services, we don’t merely need to end outsourcing. To ensure the future protection of workers’ rights in the public procurement and outsourcing sector, we need to look seriously at how we meaningfully restrict shareholders’ rights to profit from financial and social disaster.
An earlier version of this piece was published by the Institute of Employment Rights (IER). Ben Crawford is a PhD student at the University of Liverpool working on a collaborative project with the IER ‘Employment Rights and the Shareholder: Workers Rights vs Owners Rights’. David Whyte is Professor of Socio-legal Studies at the University of Liverpool and a member of the Executive Committee of the IER.