Consulting Engineers South Africa’s (CESA) latest Bi-Annual Economic and Capacity Survey June to December 2014, indicates that after a more optimistic 2013, conditions in the first six months of 2014 appeared to have been less satisfactory.The level of satisfaction amongst firms was revised lower in the first half of 2014 and again, this time more aggressively, in the second half of 2014, with little hope of an improvement in the next 12 months. Confidence fell from 87% satisfied in the first six months to 46% in the last six months of 2014 (against an expected 96%), and averaging around 50% for 2015.
“This is the weakest level since the 1998/99 financial crisis. There was a notable shift in the opinions expressed by larger firms in this survey. In the June 2014 survey, larger firms were unanimous in their views that the outlook for business conditions is satisfactory over the next 12 months, but this changed to just 22% of larger firms expressing satisfactory outlook for the next 12 months. Larger firms expressed more depressed working conditions compared to medium and smaller size firms,” says CESA Acting CEO Wally Mayne.
After reaching 82% following the completion of the build up to the 2010 Soccer World Cup, capacity utilisation of technical staff improved to an average of 90%, since 2011, with no real change reported on a survey to survey basis. Since 2009, majority of respondents largely expect utilisation rates to remain unchanged, and although there was an increase in the number of firms that expected levels to improve between 2010 and 2011, this was reversed with currently only 21% expecting higher utilization rates in the next six months.
Challenges
Mayne adds that many of the challenges were noted before including the Department of Water and Sanitation, which recently announced the appointment of 34 Cuban engineers, which caused a stir amongst local engineering firms. Skills are now being imported at a price that could have employed double the number of locally, equally if not better qualified, professionals. Of further concern is the fact that Cuban engineering skills are not recognized by the Engineering Council of South Africa, because they are not part of the Washington Accord that governs international engineering qualifications.
With significant spare capacity available locally, the use of imported skills needs to be addressed.
Regulation issues, including the procurement of consulting engineering services, remain one of the biggest challenges faced by the industry. Procurement is currently based on price and broad-based black economic empowerment points, with functionality or quality having a minimum threshold, thus being largely price driven. This is affecting tender prices, as firms sometimes tender below cost in view of the diminished availability of projects.
Unrealistic tendering fees remain a concern for members, while the extended time it takes in which to finalise a proposal is affecting profitability in the industry. The quality of technical personnel is argued by some firms to have deteriorated, putting greater risk on the built environment sector. Skills shortage is regarded as one the most significant institutional challenges faced by the private and the public sector. CESA has offered their services to government to procure and implement projects.
Fraud and corruption are affecting the ethos of our society, with a lot of talk and little action accompanying the growing evidence of corruption. CESA is aware that members are under pressure from contractors and corrupt officials, to certify payment for work not completed. This is regarded as an extremely serious matter for members and CESA will be relentless in holding those in power accountable.
Unlocking greater private sector participation is seen as a critical element to fast track delivery which will support engineering fees and as such engineering development in the industry. Private sector participation in this context refers to involvement on a more technical level (and not as a client), to improve municipal capacity and efficiency.
Government must create an environment for the private sector so that it can play a much bigger role in infrastructure delivery. Many of the projects highlighted in the National Development Plan can be carried out by the private sector through public-private partnerships. Service delivery, especially at municipal level remains a critical burning issue. The consulting engineering industry is threatened by incapacitated local and provincial governments. As major clients to the industry, it is important that these institutions become more effective, more proactive in identifying needs and priorities and more efficient in project implementation and management.
A further challenge to the industry is to find a way to standardize the procurement procedures applied by the different government departments. Procurement procedures should be standard for the country, or at least for the specific tier of government.
Adapting to a low growth environment as outlook for infrastructure spending is hampered by poor economic growth, lower than expected revenue by government, international economic instability and price volatility, and low private sector confidence.
Outstanding payments
Mayne states that the overall value of outstanding payments, not yet invoiced, for confirmed appointments in firms’ order books increased by 2% in the last six months of 2014 compared with the first six months, following a reported increase of 7% in the previous survey.
“The ratio between prevailing order books and current earnings stabilised at 1:6 in the last two surveys, from 1:3 in the December 2013 survey. The outlook for medium size firms based on their order book values has improved since the last survey. The order book to income ratio improved from 1:3 in the June 2014 survey to 2:3. This means the value of outstanding income for confirmed appointments are more than double their current income.”
For larger firms, the ratio moderated slightly to 1:5 in the current survey from 1:7 in the June 2014 survey. Larger firms expect only a marginal increase in earnings during the first six months of 2015, (3%), compared with an expected 27 increase in earnings by medium size firms. Smaller and micro enterprises expect much weaker conditions in the first half of 2015, with earnings expected to contract by an average of 18%.
Profitability
Profitability moderated to 12,2%, in the current survey, from (revised) 13,7% in the previous survey. The average profit margin for firms employing more than 100 people fell from 11% in the first six months to just 4,3% in the current survey.
Medium size firms managed to maintain profit margins at around 14%, while smaller firms increased margins from 11% in the previous survey to 18%.
Contrary to previous surveys majority of larger firms (60%) now expect margins to recede in coming months, while about 25% of medium size firms expect margins to improve. The majority of medium size firms expect margins to remain static.
Not surprising, majority of larger firms (60 percent) are dissatisfied with prevailing margins, compared with only 25% of medium firms reporting unsatisfactory levels.
Payment is becoming a more serious issue. About 24% of fee earnings were outstanding for longer than 90 days, compared with (revised) 17,4% in the previous survey, including income outstanding/ earnings from foreign clients, compared to 22% and 9,9% in the previous two surveys. This translates to an estimated R5bn outstanding in fee earnings.
Foreign clients represented 60% of earnings outstanding for longer than 90 days (21% in June 2014), followed by 16% owed by central government, 11% by the private sector, 8% was contributed by local municipalities while provincial and SOE’s each contributed 2%.
Larger firms were more exposed to poor payment from foreign clients, and as a result reported an average outstanding payment >90 days of 46,4% of earnings. Medium size firms reported an average of 6,6%, small firms 13,6% and micro firms 3,3%.
As a percentage of earnings, private clients owed 13,5% for longer than 90 days, followed by 17 2% by local authorities and 6% by State owned enterprises and 37% by central government.
Tendering
Competition in tendering generally eases during a time when the availability of work increases and intensifies during periods of work shortages. An easing of competition will generally lead to an increase in prices, while price inflation is capped during periods of work shortages due to the fact that an increasing number of firms tender on the same project.
“The tendering process is costly and time consuming, and higher levels of competition significantly increases the risk for the engineering firm. Firms continue to mostly report on keen to fierce competition, but did report some level of moderation from a peak of 96% in June 2013 to 85% by December 2014. This is still above the average of around 80% reported during 2007/08. Furthermore since 2010, between 50 and 70% of firms reported competition as fierce,” argues Mayne
This in itself suggests much tougher working conditions, and supports the notion by firms to discount more aggressively. There is a clear correlation between the level of discounting and competition. As competition started to intensify after 2009, the propensity to discount also started to accelerate. It is interesting to note however, that in this particular survey, discounting increased to an average of 25,8%, while fewer firms (but still more than 80%) experienced keen to fierce competition.
The average discount being offered to clients increased marginally from 15% in 2007 to 25,8% by December 2014, the highest level since the inception of this question into the survey. Discounting has gradually increased in line with the tougher tendering conditions experienced by firms. Discounted rates are benchmarked against the ECSA Guideline fee.