Group Five CEO says immunity after disclosing bid rigging was worth “hundreds of millions” to his business

Mike Upton has had a lot to deal with in the six years since taking the helm at construction business Group Five. What he

discovered when moving into the executive suite concerned him so much that he convinced his directorate to back him and report tender abuses to the Competitions Commission. What followed was the uncovering of a bid-rigging scandal that led to almost R1.5bn in fines being levied. Upton’s decision gave Group Five the first mover advantage and immunity from the worst of the fines, saving his business “hundreds of millions”. He also had to deal with one of the dumbest business decisions of recent years – the massive investment by Group Five into construction materials. Around R1bn was spent building a portfolio anchored by a R750m purchase of Quarry Cats in 2006. The remnants of that division are being disposed. Total recoupments were merely a quarter of what was invested. These issues take some of the sheen off the financials for the year to end June which, admittedly off a low base, were much improved. They provide the backdrop for the wide-ranging CNBC Africa interview (with transcript below) which Lindsay Williams and I had with Upton this week.  

ALEC HOGG: Group Five has reported a good set of numbers for the full year to the end of June.  Profits were up 88% to 333c per share.  Dividends had been grown by a similar amount for the full year – 67c, but a big jump in the final dividend from 14c last year to 35c this time.  With us in the studio is Mike Upton, Chief Executive of Group Five.  Mike, good to have you in the studio at last.

MIKE UPTON: Thank you, Alec.

ALEC HOGG: At last we can talk to you about the Competition Commission and your move into it, but we’ll do that a little later.  Let’s talk about these numbers first.  A big improvement; but I guess you’ve had your challenges.

MIKE UPTON: It has been a big improvement but I think we should recognise also it’s off a lower base, you know.  We had a big sort of clean-up in 2012 in the infamous construction materials business and also in the Middle East when we took some hard decisions on what that might look like. Those have panned out more or less in line with what’s been a trading result since.  The aspects of the strategy are beginning to show through in terms of power, oil and gas and that’s sort of moving into Africa and so on, we’re satisfied.  There’s a lot to be done still.  The markets are quite fragile, these results are the sum fragility in the market in terms of what the future holds, but from a South African perspective – weak markets.  But our fortunes, in the next sort of 12 to 18 months would be more outside the country and in those new sectors that we’re well-positioned for.

LINDSAY WILLIAMS: Mike, it’s Lindsay in Cape Town.  Well done on those numbers.  I reiterate what Alec said, but as you quite rightly pointed out, you’ve got to be conservative because this is off a low base.  The market was expecting it.  Your operating margins, group-wise, are up to 5% which is also good.  You use words like ‘conservative’ in looking at the quality of the order book which is probably a different approach, to say, pre-2010.  On the one hand, you might be a little bit hamstrung by that sort of approach, but on the other hand it might save you a bit of money in the longer term because there have been instances of – I don’t know whether it’s your company, but certainly across the sector – people going into contracts that actually ended up then losing money. So this conservative approach, in the long run, actually might be beneficial.

MIKE UPTON: Thank you, Lindsay.  Yes, we were not very popular when we said we were going to look at the balance sheet and the margins at the expense of revenue and I do think that what’s come out in the last 12 months or so has been that I think we made the right calls.  We haven’t seen huge growth in the top line, but we have got a very good balance sheet.  We’ve preserved margins in a weak market and we’ve spent money wisely in terms of new positioning for the future, so I think we’re satisfied that we did make the right decisions although it was criticised some time ago.

ALEC HOGG: Conservatism is also shown in your dividends – four times cover dividend, even though it’s up quite a lot in the last year.  Is that a policy that you’re going to maintain into the future? Is that something that you just have to have in construction?

MIKE UPTON: One needs cash in construction but equally of course, four times cover has been our standard for a number of years now and we do review that every year with the Board. They were quite happy to go with a four times sort of cover on their baseline earnings whereas in the past we’ve also taken only cash earnings into account.  So I think we were fairly generous this year.

ALEC HOGG:  It’s just that I’m wondering a bit about whether the market expected more.  I know you have.  It’s known that that’s the kind of high-dividend cover you like, because your share price started off level peg.  Again it’s dropped; it’s down by 3.5% at the moment.  In a rising market that tells us that somebody doesn’t like your numbers.

MIKE UPTON: I think it’s on low volumes, but ours is not to manage the share price; it’s to manage the company.

LINDSAY WILLIAMS: Mike, I was just looking at something here in some of your highlights and in this case – lowlights – and listening to a conversation this morning on the construction sector on Open Exchange on CNBC Africa. They were talking about the way companies like yours will do business in the future. We have great South African skills and great South African experience but doing more and more business overseas. But it’s not always greener across the fence overseas, is it? It says here, losses of 51M in line with forecasts from the Middle East, deflated an otherwise robust civil engineering segmental performance. Just because you go overseas doesn’t always guarantee success.

MIKE UPTON: Absolutely.  You’re right.  One has to have very robust systems in terms of understanding your markets, understanding your clients, your counterparty risk and your regional risk.  The Middle East was good for us on paper for a number of years but the end game hasn’t been so pretty so certainly some lessons learned there.  But from an African perspective which is our major focus going forward, we’ve done quite well. We haven’t had bad contracts in Africa for a number of years now, because we’ve been robust in what we will and won’t do there.

ALEC HOGG: You’ve learned the lessons.  You’ve learned the lessons on your materials business as well.  What was the total losses?

MIKE UPTON: Gee, it’s a big number, Alec.  We had a billion-rand business there and it ended up as a few hundred million so a substantial loss of value for shareholders.

ALEC HOGG: A few hundred million from a billion.

MIKE UPTON: It’s a big number.

ALEC HOGG: So it’s R800M.  Wow.  Let’s talk about the issue of the moment.  You guys decided to go to the Competition Commission first.  You’ve been quiet up to this point.  I think you did say to us you’d talk to us, but wait for results.  Well, it’s results day.  What sparked it – perhaps you can just take us through your feeling – was it a good thing to have gone in the first place, looking back?

MIKE UPTON: Well, there was a sort of change in leadership around that period of time – around 2006/7. In 2008 the Commission announced its investigation into the industry, as it had been doing through the Supply Chain of the sector, into the steel, the rebar and the precast industries. They eventually got to the pure contracting businesses. On our watch we certainly wanted to have a robust governance environment in Group Five. Supported by the Board we went into a compliance process to make sure we understood our compliance regime in the organisation.  So those early discussions with groups of employees did reveal some questions that were concerning to us which we took that to the Board. They were very supportive of us going big, a deep dive into our organisation. That was long before fast-tracks and all the rest of it.  We did what we think is the right thing and I still think we did, we exposed quite a lot of activities in the industry and in our own organisation going back many years. One doesn’t want to judge but that was the culture of the industry.  We wanted to have a different culture – absolutely – going forward, in terms of a management team of the day so we did a deep dive.  We investigated intensively.  We put lots of people under oath and we extracted a lot of information that wasn’t pretty. We used that to make our submissions to the Commission back to 2009.  Largely, I think quite a lot of what we gave them was information very valuable in designing their process, we’d like to think.  And so their process rolled out – from 2010/11 – The fact that we gave lots of submissions – and they investigated only 25 of our submissions, gave us leniency on all of the matters which we submitted and those which they investigated. Clearly; there was never going to be a guarantee because we may not have found everything.  Quite a lot of people move around the industry.  People have retired, have left or emigrated. So at the end of the day, we we had been called out and where we had no evidence of our own.  We then went into a process with the Commission to see the basis on which we should or shouldn’t pay a fine, given that we obviously insisted on an element of evidence We’re in that process.

LINDSAY WILLIAMS: You were very brave in doing so.  Have you been ostracised by the rest of the industry? Because what you’ve done is not only exposed bad practices – and that’s a kind way of putting it – but also it’s fundamentally changed the way the contracts are competed for and tenders are competed for, etc.  so you’ve probably upset quite a few people.

MIKE UPTON: I have no doubt that I have not been the most popular person in the industry. A number of our peers have said they wish they had had the same support from their Boards as we had from ours, so I do think though, that the industry got to a place where we needed to get to, so that we can could move forward in terms of our interaction with government and our client base.

ALEC HOGG: Just to close off with: What did it save you by going there first, if someone else had gone before you and you had to pay those fines?

MIKE UPTON: You’ve seen the size of fines which are coming through so if you want to measure it in purely monetary terms it will be some hundreds of millions of rand.  But I think also, more importantly is that we cleansed our organisation from within early, which gave great comfort to our employees.