Hostile construction environment to persist until infrastructure spend recovers

Hostile construction environment to persist until infrastructure spend recovers

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PRETENSE OF GROWTH While there are several small-scale once-off construction projects, state-sanctioned, large-scale infrastructure projects, the lifeblood of the civil engineering and construction sector, have declined

ROAD TO NOWHERE On average around R300-billion is spent on infrastructure each year, but the dearth of projects suggests that the money is not used in the best possible manner

CRAIG LEMBOE

CHRIS CAMPBELL & NERESH PATHER

15th February 2019

By: Nadine James
Creamer Media Writer

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Construction is a depressing place to be at the moment, says Hogan Lovells partner and construction head Clive Rumsey, citing the lack of large infrastructure projects, resulting from lacklustre economic growth and a backlog in tender adjudication as some of the reasons the sector is struggling financially.

“Of the major players in the construction sector, divisions of Basil Read and the Liviero Group have already gone into business rescue, Group Five is sitting at around 70c a share . . . Aveng around 5c a share,” he comments.

Employees in the professional services space have also fallen on difficult times, says Consulting Engineers South Africa (CESA) president Neresh Pather.

The First National Bank Bureau for Economic Research’s (BER’s) Civil Construction Index has been below 20 since the third quarter of 2017, adds BER senior economist Craig Lemboe.

“This means that the overwhelming majority of civil contractors, especially the bigger firms, are pessimistic about the state of affairs within the sector. Additionally, the last time confidence was this low was between 1998 and 2000.”

FUNDING, FUNDING EVERYWHERE, BUT . . .
In 2009, the Competition Commission initiated investigations regarding allegations of collusion in the construction of the 2010 soccer World Cup stadiums. Based on its findings in 2011, seven construction companies were fined a collective R1.5-billion.

The companies entered into a settlement agreement with government, which led to the establishment of a trust – administrated by the Industrial Development Corporation (IDC) – called the Tirisano Construction Fund.

Rumsey says the idea was that funding would be allocated to promote transformation of the sector while developing a midtier industry, but Pather says the intent was to create a stronger sector by investing in skills and enterprise development.

When asked in 2017 by Democratic Alliance parliamentarian Dr Michael Cardo which projects had been earmarked by the Tirisano Fund for the 2017/18 financial year and which black-owned construction companies were expected to benefit, Economic Development Minister Ebrahim Patel explained in a written reply that the trust was still being established. Moreover, once set up, the allocation of funding would be transparent.

Rumsey, unable to point to a Tirisano project, questions whether this means that the process is not as transparent as proclaimed or if the project has not been approved in the eight years since the commission’s ruling.

The latter proved true in the 2018 Budget Vote speech, when Patel told Parliament that R240-million had been raised for the fund, which would “begin its first project approvals” in 2018.

However, a call for applications on the IDC website suggests that the first projects, part of the Social Infrastructure Programme, will only be approved later this year, as the deadline for applications closed last month.

Moreover, “most of these construction companies are scaling down and trying to avoid liquidation . . . we cannot see where these funds will come from in future”, notes CESA CEO Chris Campbell. Rumsey adds that, to his knowledge, there is no mechanism to recoup funding from the aforementioned companies should they be liquidated.

Meanwhile, government and the European Union have jointly developed the Infrastructure Investment Programme for South Africa (IIPSA), valued at €100-million.

The IIPSA is meant to support the implementation of government’s infrastructure programme and address the constraints to infrastructure development in South Africa and the Southern African Development Community.

The Development Bank of Southern Africa (DBSA) was appointed secretariat and fund manager.

Rumsey says that, in his view, the IIPSA was meant to assist in the implementation of large-scale, local and cross-border projects.

The IIPSA is a proposal-based system, adds Lemboe. “According to the DBSA’s website, funding has only been allocated to five projects so far . . . I think the lack of activity lies in accessing the funds and the regulations regarding who qualifies, against which criteria.”

In his Medium-Term Budget Policy Statement (MTBPS) in Parliament, in October, Finance Minister Tito Mboweni stated that public infrastructure expenditure is estimated to be R855.2-billion over the next three years, with R485-billion allocated to conditional infrastructure grants.

A month earlier, President Cyril Ramaphosa had announced the establishment of a R400-billion South African Infrastructure Fund as part of his economic stimulus package.

Despite prevailing confusion over whether this R400-billion fund is additional to the R485-billion already allocated in the medium-term expenditure framework, Pather, Rumsey and Lemboe believe they are one and the same.

“The MTBPS, which occurred after the announcement of the infrastructure fund, upped its amount to just under R480-billion. So, it is my opinion that the infrastructure fund will largely consist of already allocated funds,” notes Lemboe.

He comments that, given the President’s announcement of the establishment of an Infrastructure Executive Team in The Presidency – which will “assist with project design and implementation” – it is difficult to say what the involvement of the Presidential Infrastructure Coordinating Committee (PICC) will be.

The PICC, established under former President Jacob Zuma, has a similar mandate.

Pather believes that the PICC was never constituted correctly, as it should have been independent of government departments, and of State entities, and managed by skilled infrastructure professionals. He hopes Ramaphosa allows organisations like CESA to advise on the structure and mandate of the new Presidential panel.

Pather notes that, for infrastructure funds in general, “making the money available is one thing, but making the money available and having the right people manage the infrastructure delivery process is what’s vital”.

He adds that, on average about R300-billion is spent on infrastructure each year. “It’s not about spending more money, because there isn’t any more to spend . . . it’s about spending money correctly, and the only way you can do that is to employ the right people.”

Rumsey adds that having multiple funds available, and given the need for projects, the fact that there has been little to no measureable results is unconscionable. “The money must be used to create a steady pipeline of projects, keeping the sector ticking over, providing jobs, and growing the economy.”

Only 31 infrastructure-related public–private partnerships (PPPs) have been completed since 1998, despite government calling for more private-sector involvement in infrastructure development.

Rumsey cites the National Treasury’s 2017 Budget Review, which stated that, in 2017, PPPs accounted for 1.7%, or about R16-billion, of the total planned public-sector infrastructure spend for the next three years.

Pather states: “One cannot simply look at the number of PPPs undertaken, because, often, PPPs are selected that are inappropriate. The primary issue is that the selection of PPPs needs to be vetted.”

He notes that there are two types of infrastructure: commercial and social; the latter typically falls to government because, while it is necessary for societal wellbeing, there is, typically, no return on investment.

Pather states that problems arise when the State asks profit-based companies to take on enormous amounts of risk on a project that may never generate monetary value.

Campbell adds that success also hinges on good relations between the public and private sectors – these have been strained by “wrongdoings” on both sides, which have created mistrust.

Ideology is also an issue. “You have to bear in mind that much of government’s economic policies tend toward socialism. PPPs involve privatising public infrastructure, albeit for a fixed term, which means that, initially, private companies operate these facilities.”

Campbell notes that private companies, when running these facilities, focus on maximising profits, even if it means cutting staff. Government entities typically prioritise employment over efficiency and profitability, because of its economic policies.

Lemboe believes that, to some degree, the need for PPPs has diminished. “Infrastructure investment grew at an average of 2.1% – in real terms – between 2011 and 2017 – higher than overall gross domestic product growth over the same period. Relatively speaking, therefore, infrastructure spending from public-sector coffers was robust, possibly adding to the lower incidence of or the need for PPPs.”

He notes, however, that, theoretically, infrastructure investment could have improved more dramatically over the period had there been more PPPs, but this would have depended on the State’s capacity to effectively manage its end, and is thus debatable.

He believes that, given the state of public finances, more PPPs will be needed in future.

The dominant PPP model in South Africa – and therefore the most successful – is one where the private sector designs and builds the infrastructure and then manages it for a fixed period. “In return, they are remunerated either directly from the Budget or indirectly through earmarked taxes or levies,” Lemboe says.

WAY FORWARD
Pather states that a programme of investment into new projects for implementation must be embarked upon immediately.

“CESA believes an infrastructure advisory committee needs to be established to manage this roll-out and ensure that balanced delivery and development of the sector is achieved.”

Lemboe says that, given fiscal constraints, there is little that the State can do directly with regard to its infrastructure spending, barring addressing underspending by local municipalities.

“However, the State could support the sector by ensuring a policy environment conducive to greater private-sector involvement.

“[Also], a framework allowing private capital to be used for public infrastructure would be useful. Corporate South Africa has a substantial amount of savings which could be used – not in a prescribed way – for infrastructure.”

Rumsey states that government needs to plan ahead. “It needs to figure out what infrastructure is desperately needed over the next three years, find a way to budget for that, ringfence that money and then expedite the tender and procurement processes in a manner that is legal and practical.”

Campbell cautions that, without investment in the short term, the sector will be irrevocably crippled, while Lemboe advises that, in the absence of new infrastructure investment, companies will have to make tough decisions in order to remain competitive or face closure.