Shareholders wiped out, 14 Months after competitor Carillion Collapsed.
By Don Quijones, Spain, UK, & Mexico, editor at WOLF STREET.
Shares in UK outsourcing giant Interserve, which employs over 65,000 people worldwide including 45,000 in the UK, were suspended today after almost 60% of the firm’s shareholders, led by the US hedge fund Coltrane Asset Management, rejected a last-ditch debt-for-equity swap with Interserve’s creditors that would have diluted the shares of current stockholders to nearly nothing, leaving them just 5%. The company has thousands of government contracts, including for hospital cleaning, probation services, school meals and the maintenance of military bases.
Interserve now faces a “pre-pack” administration that — it is hoped — will see its various divisions and 45,000 UK staff insulated from the fallout. The firm’s lenders, including HSBC and RBS, and bondholders, will agree to write off £485 million of Interserve’s crippling £631 million debt and inject £110 million of additional funds, in return for ownership of the company’s stock. By Friday’s close, all of Interserve’s business and assets are expected to be transferred to a newly-incorporated company, which will be owned by the existing lenders.
Current stock holders are out of luck. They’d already seen the stock tumble 96% over the past two years, will now be wiped out altogether. That includes Coltrane, which owned 28% of the shares and has threatened to take legal action for unfairly favoring lenders over shareholders.
Interserve said the deal was “the best remaining option to preserve value, protect the jobs of employees, and ensure the Group can carry on as normal with minimal disruption.” Once the pre-pack is in place, Interserve should be able to continue trading, thus mitigating potential disruption to the key public services that Interserve manages for the government. At least that’s the plan.
Interserve had been working on this contingency plan in advance of the vote to prevent a possible repeat of the disorderly collapse of Carillion in January 2018, which shook the foundations of Britain’s outsourcing industry, triggered the collapse of hundreds of supply firms, and left the British government holding a tab for at least £148 million, of which an estimated £50 million will go to auditor PwC for its work in the liquidation.
A Cabinet Office spokesperson said the Carillion debacle will not be repeated. The announcement of the pre-pack administration “will not affect jobs or the provision of public services delivered by Interserve,” he said. “We are in close contact with the company and we are confident a positive way forward will be found.”
Ironically, just three months ago the same UK government was confidently assured that Interserve would not be another Carillion and was even awarding the company fresh tenders — whatever it would take to keep the company solvent. It clearly wasn’t enough.
The question now is whether Interserve’s new management will be able to turn the company around. While Carillion’s collapse was largely the result of Enron-esque accounting that was eventually unearthed by a finance director who was swiftly dismissed for his troubles, Interserve’s decline can be traced back to an ill-advised foray into the waste recycling business, which produced compounding losses that proved impossible to absorb.
In 2017 the company alerted, in the first of a string of profit warnings, that those problems had spread to its core UK businesses, almost all of which were under-performing. Like many in the UK’s outsourcing sector, the company was unable to reverse thinning margins on major contracts — a result of fierce competition and belt tightening by the UK government in the wake of crisis. Those margins are unlikely to grow in the months ahead.
More importantly, Interserve’s demise lends credence to the notion that Carillion’s collapse last year, rather than being a one-off episode, was in actual fact the swan song of a deeply flawed and dying business model that has made a very small few 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.
A scathing parliamentary inquiry last year accused successive British governments of using the Public Finance Initiative (PFI) to keep many of its current liabilities off balance sheet, Enron-style, while also awarding well-connected businesses and investors lucrative public work contracts. Even if the government doesn’t enter into any new PFI-type deals, it will end up having to pay private companies almost £200 billion, including in interest to lenders, until the 2040s for existing deals, in addition to some £110 billion already paid. That’s for 700 projects worth around £60 billion.
What’s not clear is how many of those businesses will still be around in the 2040s to pick up the bill. Research last year by the weekly publication Construction News revealed that the average pre-tax margin for the 10 biggest UK contractors fell for the fifth consecutive year, to -0.9%, while their combined debt rocketed 24% year-on-year to €3.9 billion. Dividends have also been slashed, as evidence emerges of firms tightening their belts ahead of Brexit.
To make matter even worse, banks and investors that had already incurred large losses on Carillion and are now having to take over Interserve’s business are likely to be even more reticent about backing the industry, particularly as it faces greater scrutiny from regulators as well as the rising risk of local authorities taking contracts back in-house. The ultimate irony is that some of the same banks that feasted on the absurdly high interest rates the UK government agreed to pay on its PFI 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. By Don Quijones.