Another UK Outsourcing Giant Teeters, Collapsed Shares Add to Woes of Woodford Fund that Just Froze Withdrawals

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Kier shares are one of the biggest holdings of Woodford Equity Income fund.

By Don Quijones, Spain, UK, & Mexico, editor at WOLF STREET.

UK construction and services giant Kier Group, with 20,000 employees, is on the ropes after issuing a profit warning, amid worries about its debt, that sent its shares spiraling down 40% on Monday and a further 2% on Tuesday, and another 4% so far today to 154 pence. The stock is down 56% over the past month and 85% over the past year and is now worth less than the price it opened at on its first day of trading back in December 1996.

Kier is one of the UK government’s top external suppliers of public services. It builds and maintains highways, railway tunnels and houses, among many other things. It even fixes domestic plumbing for local authorities, housing associations and private landlords.

But it has been struggling for years as profits shrink on the back of falling revenues from its key highway construction, home maintenance and construction businesses. At the tail end of last year, the firm announced it was planning a rights offering at 409 pence a share, in a desperate bid to raise new funds. But when push came to shove, investors — mindful that Kier just had had to revise up its levels of debt by £50 million due to an “accounting error” — purchased a meager 37.6% of the shares offered, leaving the firm with just £265 million of new funds.

That, apparently, wasn’t enough. On Monday, Kier warned of higher than expected costs and lower than expected revenues and earnings, and that it would probably report a net debt position as of June 30, just months after having forecast it would be in the black.

Kier’s latest lapse is particularly bad news for one of the UK’s largest asset management funds, Woodford Equity Income fund, for whom Kier stock is one of its biggest holdings. The fund, run by former hedge-fund star Neil Woodford, has been performing woefully for the last two years, dropping around 28% from its peak in early 2017.

Clearly bad bets were made, resulting in big losses, which in turn triggered a slow-motion run on the fund as growing ranks of investors pulled their money out. The total amount under management at Woodford has shrunk by almost two thirds since 2015, from £10.2 billion to £3.7 billion. Over the past four weeks the outflow of investors has picked up, resulting in the withdrawal of around £560 million from Woodford’s flagship equity income fund.

The final straw came this week with the decision by Kent County Council, a longstanding backer of Woodford since his days as a star fund manager at Invesco Perpetual, to request the return of approximately £250 million. This prompted Woodford to block further redemptions from his equity income fund, meaning that investors who hadn’t yanked their money out by Monday, including Kent County Council, will not be able to do so, at least until or unless the block is lifted.

“I am extremely sorry that we’ve had to take this decision,” Neil Woodford told these beaten-up investors in a video posted to YouTube. “We understand our investors’ frustration. All I can say in response to that, of course, is that this decision was motivated by your interests, our investors.”

“This is one of the bigger events for the UK asset management industry of the last decade,” a veteran fund manager who has known Woodford for more than 20 years told the Financial Times. “A bonfire of reputation and a terrible moment for investor confidence.”

Kier’s latest woes have also compounded investor fears that something is seriously amiss in the UK’s outsourcing sector, which has been rocked by scandal and controversy since the disorderly demise of industry stalwart Carillion in January 2018. Carillion’s free-fall collapse shook the foundationsof Britain’s construction and outsourcing industry, triggering the bankruptcy of hundreds of supply firms, wiping out shareholders and leaving the British government holding a tab for at least £148 million.

In March this year, another industry giant, Interserve, hit the wall. This time the collapse was a bit more orderly, as employees and providers were shielded from the worst of the blowback. After a pre-packaged bankruptcy-type process, the firm’s assets became the sole property of its lenders, including HSBC and RBS, and bondholders. The firm’s shareholders, after rejecting a last-ditch debt-for-equity swap with Interserve’s creditors that would have diluted their shares to nearly nothing, ended up with nothing.

Interserve’s demise lent credence to the notion that Carillion’s collapse last year, rather than being a one-off episode, was in fact the swan song of a deeply flawed and dying business model — the outsourcing of public projects through so-called Private Finance Initiatives (PFIs) — that has made a very few, including some of the UK’s biggest banks, fabulously rich while saddling future generations with huge amounts of debt for increasingly shoddy public services the private sector is no longer able to provide.

Each time a big outsourcing firm gets into trouble, the British government lends a helping hand by giving them more and more public sector contracts to keep their balance sheet ticking over. If things get really bad, the banks stop lending the firm money, as happened with Carillion, or investors refuse to part with any more funds, as happened with Interserve.

Now, in an exquisite irony, some of the same banks that feasted on the absurdly high interest rates the UK government agreed to pay on its Private Finance Initiative deals — at times as high as 3.75 percentage points higher than the cost of government borrowing — are now themselves, thanks to Interserve’s collapse, public service providers. The question on many investors’ minds is whether a similar fate awaits Kier. By Don Quijones.


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