The great property boom was driven by sharp practice and Yorkshire companies were in the thick of it. Jim Pendrill reports.
Although bankers may not be flavour of the month, or year for that matter, most people still perceive the business world as an essentially respectable and above board kind of place.
Even in the previously more shady world of construction there is a general feeling that the industry has really cleaned up its act over the last decade as it led the way in the massive redevelopment of our towns and cities.
But that my th was shattered in September after a lengthy Office of Fair Trading (OFT) inquir y concluded that firms in the industry were widely engaged in illegal anti-competitive bid-rigging activities from 2000 to 2006, mostly in the form of ‘cover pricing’.
Cover pricing is where one or more bidders in a tender process obtains an artificially high price from a competitor. Such cover bids are priced so as not to win the contract but are submitted as genuine bids, which gives a misleading impression to clients as to the real extent of competition. This distorts the tender process and makes it less likely that other potentially cheaper firms are invited to tender.
The infringements affected building projects worth more than £200m including schools, universities, hospitals, and numerous private projects from the construction of apartment blocks to housing refurbishments.
The OFT’s inquiry began in the East Midlands but quickly stretched to Yorkshire. As a result a significant number of Yorkshire firms, or firms with significant interests in Yorkshire, formed a large number of the 103 companies who were subsequently fined a total of £129.5m.
The Kier group received the heftiest fine of £17.9m while Interserve was fined £11.6m. Other companies receiving heavy fines included Galliford Try, Ballast Nedam, Bowmer & Kirkland, ISG Pearce and Crest Nicholson, John Sisk & Son, Connaught, Carillion JM, Concentra and Durkan Holdings.
Simon Williams, the OFT’s senior director for the case, said: “Bidding processes designed to ensure clients, and taxpayers, received the best possible choice and price were distorted, creating a real risk of increased prices. This decision sends a strong message that anticompetitive and illegal practices, including cover pricing, must cease.”
Martin McKervey, a partner at law firm Nabarro in Sheffield, says cover pricing was rife because there were so many projects up for grabs during the boom years. “This was not small scale operators, this was major players distorting competition. It effectively shows that the ten-year boom in property was driven in part by illegal and sharp practices. The key driver was to drive competitors out of business.
“For some businesses it was a strategic decision about how they could maintain and grow market share. But in growing share you have to fend off your competitors. This was about excluding in an illegal way other honest businesses who submitted tenders in good faith without any cover pricing. It was a way in which big to medium players could create an environment where they distorted competition so that there was no competition and other companies had no chance of getting contracts.”
However the OFT inquiry creates as many questions as answers. An obvious implication is that local authorities may have overpaid for key public sector projects, while another is that companies who weren’t party to cover pricing may have lost out on contracts and suffered serious financial consequences.
As McKervey adds: “There must have been situations where local authorities overpaid for particular projects and they could now be looking at redress. However the bigger issue is what are they going to do with future tenders. Although the OFT has stressed that procurers of future projects must not exclude those firms who were fined for cover pricing, one wonders whether the inquiry will still influence them.”
However Adam Aldred, a partner at law firm Addleshaw Goddard in Leeds, is appealing against the fines on behalf of several firms and takes a somewhat different view. “We feel we have a strong case. Without good reason some people are facing enormous fines that they will not be able to pay.”
Part of Aldred’s case is that the OFT inquiry only looked in depth at the Midlands and Yorkshire and so it is unfair that firms elsewhere in the country haven’t come under the spotlight.
He says: “The OFT quickly came up with 4,000 tenders where they thought cover pricing had taken place, but it only scratched the very top of the issue because they did not go into other regions fully. This was a completely endemic practice and people in the industry were even taught how to do this at university.”
Aldred insists that cover pricing was driven by businesses wanting to save face gracefully and was not motivated by greed. He uses the analogy of a six-lane running race. “Cover pricing is not bid-rigging in the traditional sense where everyone agrees upfront who will win the contract.
With cover pricing six people start running the race but then the person in lane 2 decides he doesn’t want to win the race so decides to pull out. He turns to the person in lane 1 and asks himself ‘what do I need to do to not look silly?’ The person in lane 1 continues to run the race to win, while people in the other lanes are oblivious to the request from lane 2 and still run the race to win so there is still a competitive element.”
Aldred fears that despite the OFT guidance some local authorities will be reluctant to pursue contracts with those who were fined. “A large number of Yorkshire construction firms are involved in this and if procurers start excluding Yorkshire businesses for no good reason then that clearly isn’t good for Yorkshire business. It is one thing to have to pay fines out of dwindling profits, it is quite another thing if there are no profits at all because you have no business left.”
Aldred says those who think cover pricing is outrageous are not on the inside track. “This is not bid rigging. No-one ever thought it was unlawful. How were these people supposed to know that the stuff they were taught at university and read about in textbooks was unlawful?”
Aldred believes the fines were too harsh too: “The OFT has come up with a system for collecting fines which is very rigid in its application which means there have been winners and losers.
“The average fine was 1.1 per cent of turnover but smaller fines were less than half that, while heavier fines were four times that. Don’t forget this is an industry where margins are typically one or two per cent. If you start fining businesses at this level how are they supposed to pay fines? One client of mine is asking himself how he is going to pay his fine which is five times his yearly profit.”
Aldred says there is no evidence that councils have been overcharged either and thinks they will struggle to make claims too. “Given the high value of construction projects and the increasing awareness that damages may be available, some public authorities may be considering this option. However, to succeed, the authority must show that it suffered a loss and that that loss was caused by the cover price.
“The OFT has not found the existence of any inflated bids as a result of simple cover pricing. It says there might have been higher prices. This will make it harder for public authorities to claim damages from contractors, because the public authority will have to establish that prices were inflated.”
So has the practice now been eliminated? The OFT says companies have co-operated fully with their investigation and most of them have introduced or reinforced formal compliance programmes to ensure staff are aware of their competition law obligations. The industry has also adopted a new code of conduct.
Adds Aldred: “Everyone knows that this practice is now no longer acceptable in the construction industry and that has been encouraged by this investigation. Who would want to do it again?”
However McKervey says the present economic climate, and especially the depressed state of the construction sector, means the temptation to distort the market, and competition, has not gone away. “The wider issue here is that business has a dishonesty angle in all sectors where certain individuals will seek to distort competition. That step from legal to illegal is often a small one. This should be a warning that whatever sector you are in you could fall foul and it could put you out of business.”
The inquiry The OFT started its investigation in 2004 following a complaint received from a health authority in Nottingham. On site inspections at a large number of construction companies in England were carried out between 2004 and 2006. As McKervey says: “The OFT got a very strong smell that there were a number of irregularities across a number of projects involving cover pricing.”
The OFT ended up examining 4,000 tenders involving 1,000 companies but pursued only 100 of those firms. It says that while it had evidence relating to even more firms, a larger investigation would have made it very difficult to resolve the case within a reasonable timeframe and with appropriate use of their limited resources.
The agency found that in 11 tendering rounds the lowest bidder faced no genuine competition because all other bids were cover bids, leading to an even greater risk that the client may have unknowingly paid a higher price.
The OFT found six instances where successful bidders had paid an agreed sum of money to the unsuccessful bidder. These payments of between £2,500 and £60,000 were facilitated by the raising of false invoices. Eighty-six out of the 103 firms who were fined received reductions in their penalties because they admitted their involvement in cover pricing.
However the OFT cautions procurers against excluding the infringing firms from future tenders, as the practice of cover pricing was widespread and those that have already faced investigation can now be expected to be particularly aware of the competition rules.
It says most of the parties to the investigation have instituted compliance programmes and/or cleaned up their act as part of a leniency agreement with the OFT.
“So these companies are perhaps even less likely to engage in bid rigging on future work than some companies that have not been investigated,” said an OFT spokesman.
Also in: November 2009
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