Playing Footsie with services

Anyone following the business headlines over the past 12 months could be forgiven for thinking that every other construction or property company wants to get into the ever popular support services business.

In the past year, two contractors listed on the stock exchange in the construction and building materials sector, Amey and Jarvis, have reclassified to the support services sector. Similarly property consultant Lambert Smith Hampton got its stated wish for a sector shift granted last year when it was snapped up by multi-disciplinary engineering firm WS Atkins for £50 million – taking it into support services.

And in the past two months a new batch of building-related companies have made it clear they are chomping at the bit to follow the trend. Both Tilbury Douglas and Peterhouse Group have said publicly that they want to re-classify to support services.

On paper all that will happen is that these companies’ names will be written up on the right inside back page of the Financial Times instead of the left. And their share prices will be listed in the same column as the likes of facilities management giants Capita and Serco.

So what are the underlying reasons for the trend? And why is it that every other listed builder and property company suddenly seems mad keen to be seen as a big player in support services such as facilities management?

The first thing to note is that property and construction are seen as the two Cinderellas of the stockmarket. In construction the reasons are well-documented. The building and civil engineering market has too much overcapacity and so average margins are tiny – about 1-2 per cent for most players. And property development, like building, is a highly cyclical businesses. Both are strongly linked to economic confidence: for instance, if a manufacturer or retailer is sure that their profits will improve for the next three years they are likely to spend their extra profits on expanding their facilities. In a downturn such plans are more often than not shelved, and the construction and property markets suffer.

Construction is hit by a double whammy because, even when times are good, contracting is still perceived as a risky and litigious business by the stockmarket. Laing, one of the UK’s oldest contractors, was reminded of this last year when it was forced to announce a provision of £26 million to cover losses on its contract to build the Millennium Sta-dium in Cardiff.

Similar unexpected losses by other construction companies over the past 10 years have led investors, who like to see reliable dividend payments and a gradual rise in the value of their investment, to avoid the sector as a whole.

‘The stock market doesn’t like shocks. So if it finds a business capable of avoiding them it will give the company a higher rating,’ says Stuart Lee, finance director of Tilbury Douglas, one of the current crop of firms planning to relist.

Facilities management companies can prosper even if the economy has a downturn: The whole concept of outsourcing is to reduce costs and get better economies for the client

In a bid to counter these problems, Tilbury Douglas has followed in the footsteps of Amey and made concerted pushes into the facilities management market. Amey jumped sectors last year and Tilbury announced its intention in February. It will have to apply to the FTSE (pronounced Footsie) reclassification committee for approval.

Both of these business were formerly driven by lump sum building and civil engineering contracts but have acquired and developed facilities management divisions in the hope of riding out economic cycles. The theory is that a company which gets a £50 million facilities management contract over five years is assured a reliable, steady income, whereas a builder who gets a £100 million one-off project is not.

And, says Lee, facilities management companies can prosper even if the economy has a downturn: ‘The whole concept of outsourcing is to reduce costs and get better economies for the client, so if there is a downturn it may even become a more attractive option for clients to consider.’

Another reason for the move into support services is the attraction of higher margins for less risky work.

And then there is the trend for government and businesses to outsource non-core functions. The likes of Capita and Serco have reaped the benefits of this in recent years – helping their share prices to gain high ratings. And the market shows little sign of slowing up. Geoff Allum, support services analyst at Investec Henderson Crosthwaite, says that international growth will be the key driver: ‘The outsourcing trend is fundamentally and permanently changing the western world – it is a market that will continue for decades,’ he says.

Speaking of analysts, who advise large investors such as pension fund managers on which stocks to buy and sell, many companies say that the main advantage of reclassification is they get an unjaundiced set of eyes looking at them, as finance houses tend to group their analysts by sector.

Lee admits that ‘a fresh pair of eyes’ is likely to help a company’s rating. Support services analysts are less jaded by the upsets of the construction sector and may give the shares of a genuinely support service-based business a new lease of life.

However, the benefits of this may not be as great as they seem. One construction analyst says he is not alone in starting to follow companies that have moved sector to support services. ‘I’ve got to go with the times in the interests of my job,’ he says. ‘After all, there are a lot of former textiles analysts out there who are now driving cabs.’