Carillion plc was a large construction company in the United Kingdom that conducted activities in various locations around the world. Throughout the early 2010s, it grew via a series of acquisitions and public projects. However, concern over impairment losses emerged in 2016, which the company initially dismissed. Auditors that investigated its performance agreed with the assessment and accepted the decision not to take on an impairment charge. The firm then proceeded to hire a new finance director, who identified some accounting problems and conducted a financial statement review. As a result, the company identified a massive impairment loss that caused investor trust to plummet. Its stock value declined significantly, and in 2018, Carillion had to declare bankruptcy. This report will analyse the company’s performance in its early as well as later years, identify some of the causes for the decline, and discuss the roles of the directors and auditors in it.
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The Early Years of the Decline
Carillion was founded in 1999, but this report will review the company in the period from 2010 to its collapse after the review in 2016. 2013 will serve as the point of separation for the early and late decline because it was a flux year for the company, which will be explained below. The company’s revenue was high in 2010 but began steadily declining in the following years. However, its net income and operating margin stayed mostly the same or increased until falling in 2013. Overall, the business had stopped growing despite its trend of acquisitions, such as its purchase of Eaga plc in 2011 (Ridley-Duff and Bull, 2019). Overall, the company began experiencing some financial difficulties and began exhibiting warning signs as early as 2011 or 2012. However, it chose to move ahead without acknowledging these problems, as there was no recognition from the outside.
Carillion may have been trying to mask its issues from shareholders by maintaining a steady tendency to increase the dividends that it paid out despite the stagnation in earnings per share. There was a steady trend of increasing both values until 2010, where revenues declined slightly while dividends continued growing at a faster rate than before. 2013 may be considered a flux year in this regard, with the company giving out almost 75% to its profits instead of the usual 40-50% due to the sharp decline in its profitability. The company likely took action to pacify shareholders and prevent a market panic that they would probably have caused if their income suddenly dropped dramatically. The investors should still have recognised the existence of issues from the company’s financial statements but presumably neglected to analyse them in detail.
Despite these signs, the early period was characterised by indicators of excellent performance, as well. In particular, the company’s liquidity ratios grew up until 2013, representing a steady improvement in its ability to manage its debts. Its assets also kept increasing quickly, only dropping in the same year and recovering afterwards. According to Bhaskar and Flower (2019), this rise can be explained by the company’s trend of continued acquisitions that were financed by debt, which could be made nebulous through different accounting practices. As a result, it created inflated figures that it could display in reports to downplay any concerns that readers may have had. Overall, between 2010 and 2013, the company could have restructured and prevented its collapse. However, driven by shareholder expectations, it chose to take on dangerous practices that generated debt and ultimately worsened the situation to a point past recovery.
The Later Years of the Decline
2013 was a year when the company encountered significant issues that damaged substantial parts of its internal operation. Its revenue began growing rapidly, but the profits stayed mostly the same, declining slightly. The company’s assets recovered after 2013 but proceeded to stagnate until 2016. Bhaskar and Flower (2019) identify the company’s tendency to take on projects with a small profit margin as the reason, noting that the business hoped to have some successes to compensate for the failures of its ongoing projects. The firm also kept increasing its dividends despite the inability of its earnings to recover to their pre-2013 values. Its liquidity ratios began stagnating or declining slowly, though they remained better than they were earlier. Regardless, Carillion began manifesting significant issues during that time that culminated in its overall collapse later on.
Investors were likely aware that the company was facing difficulties at the time, though they may have underestimated the severity of the problems. However, they chose not to involve themselves with the company’s governance until the 2017 impairment loss finding. Moreover, according to Steer (2018), Carillion’s situation was very similar to that of Amey, another British construction company that had to be bought out in 2003. However, shareholders likely expected that a company as substantial as Carillion would not be allowed to damage the economy by failing and that some private entity or the government would bail it out. As such, they waited until it was too late before realising that no rescue would be forthcoming and panicking.
The company’s goodwill and intangible assets represented a substantial part for the reason why its stated assets did not match reality and created a considerable impairment loss. Over the years, they grew alongside the company’s overall assets, consistently representing slightly more than a third of its total resources. Due to the company’s numerous acquisitions, it is possible to assert that most of this figure was taken up by goodwill, with Carillion acquiring new enterprises in the hopes that they can compensate for its losses. However, they did not match the company’s expectations, ultimately delivering substantially less value than was needed from them. As Culkin and Simmons (2019) show, the tendency also took the market by surprise, and the investors who overvalued the company ultimately lost much of their money. Overall, the overreliance on goodwill is the most likely cause for the company’s ultimate collapse.
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The Roles of Directors and Auditors
Carillion’s directors were directly responsible for the practices that resulted in its situation. The new finance director’s discovery of problematic accounting methods implies that the previous one overlooked such practices. Overall, the company’s leadership decided to commit to a risky strategy that would have a high payoff if it succeeded. However, its approach led the company’s situation to deteriorate, to which management responded by further acquisitions, driving the company into additional debt. Instead of being transparent with stockholders regarding the state of the business and seeking assistance promptly, it chose to stay silent until after the situation became unmanageable. Overall, Carillon’s leadership was financially irresponsible, prioritising fast growth over sustainability and destroying the business as a result. However, many directors also acted unethically, using the company for personal benefit even as it approached bankruptcy.
Some directors may have been more interested in immediate benefits rather than long-term performance due to personal incentives. Mallin (2019) discusses the CEO receiving a £1.5 million pay-out that included a substantial bonus a year before the company went bankrupt as an example of how the company’s directors were paid disproportionately well. During the decline period, the management changed somewhat frequently, and so, directors were not incentivised to perform for the company’s benefit. They would be aware that an individual’s efforts would likely not change the company’s direction and chose to extract personal benefits before leaving instead of contributing to their replacement’s career. Meanwhile, the company’s state deteriorated, and it ultimately had to be liquidated.
The auditing firm KPMG, whose representatives agreed that Carillion’s 2016 decision not to note down its impairment loss, has also been criticised for its conduct. On the one hand, raising concerns over such a situation was not strictly part of the firm’s responsibilities. It was more concerned with the integrity of the firm’s accounting and the presentation of its financial statements. On the other, Emma Mercer found some deficiencies in the former. Either KPMG auditors missed them, or there was a difference of opinion between two views of accounting. However, since Mercer was able to identify the company’s precarious state correctly, it would appear that the auditors were wrong. It is also possible to assert that they willfully ignored issues despite suspecting their existence to preserve their profitable partnership with Carillion, but there is not enough information to support such a claim. Regardless, KPMG appears to have failed at its auditing task and contributed to the company’s collapse indirectly.
Bhaskar, K. and Flower, J. (2019) Financial Failures and Scandals: From Enron to Carillion. Abingdon: Routledge.
Culkin, N. (2019) Tales of Brexits Past and Present: Understanding the Choices, Threats and Opportunities in Our Separation from the EU. Bingley: Emerald Publishing.
Mallin, C. A. (2019) Corporate Governance (6th ed.). New York: Oxford University Press.
Ridley-Duff, R. and Bull, M. (2019) Understanding Social Enterprise: Theory and Practice (3rd ed.). Thousand Oaks: SAGE.
Steer, T. (2018) The Signs Were There: The Clues for Investors that a Company Is Heading for a Fall. London: Profile Books.