For the past five years, construction companies across the region have faced growing financial pressures as a result of the slowdown in new projects and increased competition forcing them to take on work at low bid prices.
The emergence of the Covid-19 pandemic in February 2020 has significantly amplified this pressure.
The spending cuts introduced by governments in response to the economic slowdown and fall in oil revenues, along with the disruption to supply chains and delays to projects, has extended payment periods and further reduced new project opportunities.
In this climate, the biggest challenge for construction companies is accessing working capital to allow them to meet their financial commitments
Construction companies also face rising operational costs as a result of the safety measures required to protect workers from the virus and disruption to supply chain.
In this climate, the biggest challenge for construction companies is accessing working capital to allow them to meet their financial commitments.
The fifth edition of the Mashreq Construction Club Connect Series of live webinars examines what actions construction companies can take to maintain cash flow through the Covid-19 crisis and beyond.
Entitled Cash is King, the webinar featured the expert insights of Yu Tao, CEO, China State Construction Engineering Corporation (CSCEC) Middle East; Johan Hesselsøe, managing director, Atkins UAE; Roy Philip, senior executive vice president and group chief credit officer, Mashreq Bank; and Mohammad al-Shouli, executive vice president, global head of contracting finance, Mashreq Bank.
Let cash flow
“The term ‘cash is king’ always comes under the spotlight during times of crisis,” says Tao. “Covid-19 and low oil prices have introduced serious challenges around cash flow, which is affecting our ability to complete projects.”
It is vital, says Tao, that all companies in the construction value chain take action to ensure that payments are being made and that cash is flowing, rather than adopting a defensive tactic of holding on to cash.
Tao says that the solution to crisis is to move the cash faster from the developer to the contractor, through to the subcontractor and the suppliers, which will help build confidence and ease some of the pressure facing contractors.
Local banks may have a limit on their exposure to risk when financing contractors. Tao recommends turning to export finance as a solution to ease pressures on the supply chain.
“As China State, we are trying to work closely with our developers, to approach banks and insurance companies for additional project finance,” says Tao. “This could be in form of loans or an understanding with banks for payment certificates to release payments to our subcontractors. The subcontractors can obtain cash on the basis of these certificates, thus sustaining the supply chain finance.”
CSCEC Middle East is working with the China Export & Credit Insurance Corporation
(Sinosure), to assess the risk facing the contractor and mobilise cash to support ongoing projects in the region.
However, challenges remain in the form of lesser tenders, slower payment cycles and accurately forecasting cashflow.
“In these difficult times, it is important to stick to our contractual obligations as far as possible,” says Tao.
Play by the rules
“We’re looking at a real downturn in the construction industry,” says Atkins’ Hesselsøe. “Demand has reduced, which is impacting liquidity and everybody in the industry.”
Hesselsøe highlights how this has affected the overall portfolio, reduced pipeline of projects and delayed contract awards.
“We’re also seeing this [challenge] manifest itself on projects that are being executed, in the form of delays in payments and in some cases reduction in payments altogether,” he says. “Many of these are happening outside the contractual boundaries of the project. This is leading to adversarial and confrontational dynamics between different parties in the equation.”
Hesselsøe says that it is important to stay “within the rules of the game”.
“From a consultancy perspective, I recommend to stay clear of adversarial route and the dispute-oriented approach. The only way to do that is to ensure open dialogue and significant transparency around data relating to cash and cashflow.”
Highlights from the webinar
Acknowledging market constraints around transparency, Hesselsøe recommends having proper data management structures in place to encourage a more communicative business environment.
“We are following this with a number of clients, building an ecosystem around how we share data, to ease dialogue. It’s about being transparent with your payment processes so that it’s clear to all the parties, and also so you can ensure clarity through the supply chain around when payments will arrive.”
Hesselsøe further says that the actual payment and tracking of cash is improved through such management tools, improving trust and enabling smoother cash flow.
“Structural challenges around the misalignment of project incentive among owners, design consultants and contractors create adversarial issues in the project. At Atkins, we’re pushing conversations with owners, developers and contractors to rethink the model behind construction projects. It is important to think beyond selfish gains and instead work towards a collaborative model that benefits all parties.”
Solving the problem
Tao lauds UAE government efforts to ease pressures in the industry through steps such as shorter payments cycles and economic stimulus packages. He states, however, that there is still room to improve and payments are still very low downstream.
Banks have a key role to play in providing funding for construction companies and projects. But they too are facing mounting challenges as the worsening economic climate increase the risk of loans not being repaid.
“The Middle East has a two-pronged issue when it comes to the pandemic,” says Mashreq Bank’s Philip. “The first is the health crisis driven lockdowns and economic slowdowns. The second is the low oil price environment, which has widened fiscal deficits for governments.”
Philip notes that delayed payments are impacting not just the contractor but the entire supply chain.
“In financing contracts, we look at the strength of the contractors, project owners, and the cashflow estimate of the contract,” explains Philip. “We always insist that the project cashflows are assigned to the bank. In this crisis, similar to the 2008-09 crisis, disciplined customers who have managed their cash in an objective way and do not have a mismatch in assets in liabilities, are in a better position to survive this crisis.”
Banks are now working with their customers to guide them out of the crisis with as little damage as possible.
“For slowed down payments, we are working with a revised payment cycle to allow the customer more time. We are also [approaching] the government and the central bank to speed up payments from government bodies – which a lot of public entities have already committed to.”
Engineering teams at Mashreq are also tracking cashflow in contracts, consultant reports and payments.
Philip states that in a bank’s assessment, a properly structured contract finance should be self-liquidating, with the bank supporting any shortfall in cashflow. Mashreq is also helping finance suppliers by opening letters of credit and discounting project payment certificates where required.
However, it is important that customers are transparent about their cashflow and liabilities, reciprocating the support that banks are providing in the current situation.
“Customers and banks are in a much better position to deal with the current crisis, carrying lessons learnt from the 2008-09 crisis. There were failures in those times and I hope customers have learnt from the challenges of that period.”
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