Review from the CFO

Against ongoing tough markets, the group continued to implement the conservative approach adopted last year in terms of both the quality of the order book secured and its philosophy towards cash preservation to fund activity which will support future profit growth.     Cristina Teixeira

It is thus encouraging to see an improvement in the Construction order book, with a good cash position supporting this strategy. However, the overall group performance and earnings during the period was impacted by a number of factors.

These include:

Delayed Construction revenue due to contract delays and client scope changes Pre-disposal operating losses and further impairments of Construction Materials’ assets Contract losses (including close out costs) and holding costs from the Middle East Impairments of claims due from previously discontinued operations in India

Material group statistics as at 30 June 2012

* Restated by 5 cents, which represents the prior year’s operating loss on discontinuance regarding an India claim.

Financial performance Headline earnings per share (HEPS) decreased by 64.4% and fully diluted HEPS (FDHEPS) by 62.9%. Earnings per share (EPS) and fully diluted EPS (FDEPS) was a loss of 288 cents per share. The material difference between earnings and headline earnings was mainly due to an impairment charge on assets reflected as non-current assets classified as held for sale on the group’s statement of financial position, relating to: The Construction Materials businesses being disposed of A contract claim on a previously discontinued concessions business in India Group revenue from continuing operations remained flat at R8,8 billion due to a reduction in activity levels within the buildings, housing and civil infrastructure markets, client-driven contract delays and the group’s decision to avoid chasing volumes at the expense of margin as far as possible. The losses stemming from the Middle East constitute the single largest reason for the material reduction in operating profit by 45.3% from R605,6 million to R331,4 million.

Included within operating profit is a surplus on the group’s pension fund of R15,8 million (2011: deficit of R2,0 million) as a result of an actuarial valuation assessment. The actuarial gain arose during the year mainly due to the actual investment return of 10.8% exceeding the expected investment return of 9.6%.

Fair value net upward adjustments of R67,5 million (2011) R48,8 million) relating to the group’s interests in Eastern European road transport concessions, as well as the group’s investments in property developments and investment properties, positively affected the group’s results in the period under review.

In line with expectations, group net finance costs of R3,8 million were recorded for the year compared to net finance income of R37,0 million in the prior year as a result of a reduction in average cash and cash equivalents year on year.

The effective tax rate of 32% (2011: 32%) was higher than the South African statutory tax rate of 28%. This was mainly due to a conservative approach adopted to the raising of deferred taxation assets, which was partially offset by liabilities in jurisdictions with lower taxation rates.

During the year, based on the group’s operational and strategic focus, as well as the poor outlook for the construction market in the South Gauteng region, the board of directors of the group resolved to dispose of the businesses that constitute the Construction Materials cluster. The construction materials market in Gauteng, where the group’s Construction Materials businesses are located, has remained heavily over-supplied with insufficient work being available to quarry owners who need to move quality materials at heavily discounted prices. Competitors with the benefit of an integrated offering through the value chain of cement, aggregates and readymix concrete and others with mobile crushing operations that locate from opportunity to opportunity have survived this extended downturn better than fixed quarry businesses.

The group is therefore required to account for the Construction Materials operating cluster as a discontinued operation and transfer its net assets to non-current assets classified as held for sale. Accounting practice requires comparative numbers to be restated to reflect the effect of the discontinued operations on prior periods. The current year’s headline earnings and earnings therefore include operating losses from Construction Materials of R52,8 million net of taxation (2011: losses of R54,8 million).

The group disposed of two businesses within this cluster prior to year end. This resulted in a net profit on disposal of R1,4 million.

It is acknowledged that there has been significant destruction in shareholder value in the group’s venture into this market.

The group is engaging with a number of parties who have made firm offers around the sale of the remaining assets within the Construction Materials cluster. These are currently being negotiated.

Financial position

The statement of financial position reflects the transfer of the Construction Materials cluster to non-current assets classified as held for sale.

Non-current assets classified as held for sale

During the prior year, the group processed a gross impairment of R550 million in its Construction Materials business due to management concluding that the foreseeable market valuation of the aggregate and certain readymix assets was considerably less than the current carrying amount on the statement of financial position. This impairment was in addition to the gross impairment of R326 million taken at 30 June 2010. The prior year’s impairments and operating losses (net of taxation) are now reflected as discontinued losses in the prior reporting period.

An impairment of non-current assets classified as held for sale of R394,1 million net of tax was charged against income at June 2012. R340,8 million of this relates to Construction Materials and R53,3 million relates to the amount carried from contract claims on a terminated Indian toll road contract which continues through arbitration.

The remaining fixed assets were evaluated with reference to external valuations and confirmations to support the reasonableness of carrying values as part of the assets’ annual evaluation. Other than the impairments listed above, there has been no other major change in the nature of the fixed assets of the company and its subsidiaries, nor has there been any change in policy relating to the use of fixed assets.

Cash flow

Capital expenditure

Refer to page 78 for details on the group’s capital spend in the year under review, its capital management processes and its intended capital expenditure spend by cluster for F2013.

Business combinations

There were no business combinations during the current financial year

Operational overview

Group

For comparative purposes, we provide both the group’s total operating margins as well as the operating margins per segmental report which is net of non-core/headline transactions such as pension fund surpluses and deficits and profit/loss on sale or impairment of subsidiaries. We refer to the latter margin as the core operating margin, and as it reflects the underlying operating performance. Both margins exclude the impairment of non-current assets adjustment and the restatement of Construction Materials to discontinued operations but includes the fair value upward and downward adjustments on Investments and Concessions, as these are within the control of the cluster.

The group’s operating margins are reflected below.

The total operating margin percentage is defined as operating profit including fair value adjustments (but before impairment adjustments) as a percentage of revenue.

Core operating margin percentage is defined as total operating margin percentage adjusted for the non-core transactions listed above.

Investments and Concessions consists of Infrastructure Concessions and Property Developments. This cluster contributed 7.4% (2011: 6.3%) to group revenue.

This segment demonstrated a strong performance despite the continued effects of the deep recession across the European region and the absence of new concessions awards in South Africa.

Revenue, which consists primarily of fees for the operation and maintenance of toll roads, increased by 19% from R522,9 million to R619,9 million. The core operating profit margin increased from 20.2% to 23.2%, with core operating profit of R143,7 million (2011) R105,6 million). This core operating profit includes net upward fair value adjustments of R56,6 million (2011: R33,1 million).

Going forward, the timing of awards in the South African public sector buildings and healthcare PPPs, renewable energy IPPs and transport concession markets remains uncertain in light of current delays and unconvincing government policy and commitment. The outcome of the government’s deliberations on the resolution of the Gauteng Freeway Tolling impasse, the dispute over the N1-N2 Winelands concession and the work being done by the Presidential Infrastructure Coordinating Commission will be crucial in providing more clarity to the construction sector and job creation. African concession opportunities are set to remain attractive, with further new projects under development in transport projects and power.

Therefore, as expected, Property Developments’ revenue decreased by 12% from R31,8 million in F2011 to R27,8 million. The business recorded a core operating profit for the year of R10,1 million (2011: R5,1 million). This core operating profit includes net upward fair value adjustments of R10,9 million (2011: R15,7 million).

Manufacturing consists of the fibre cement building products business, Everite, as well as BRI and Group Five Pipe. Manufacturing contributed 11.7% (2011: 9.9%) to group revenue.

Revenue increased 18% from R867 million in 2011 to R1 024 million. The reported core operating profit for the year was R46,5 million. This was 82% higher than the prior year of R25,5 million, resulting in a core operating margin of 4.5% (2011: 2.9%).

An increase in volumes traded in Everite and BRI during the reporting period lifted the Manufacturing performance from the last reported results. The Fibre Cement business achieved their returns through product range and export and local market extension, whilst continuing to improve production efficiencies. The modular housing systems business Advanced Building Technologies (ABT), created within Everite, is making an increasing contribution. Group Five Pipe remains tied to large water transport project demand. This business unit has long term prospects, but in the short term continues to experience some loading unpredictability due to uncertain tender award timescales.

During the year the Construction cluster comprised the business segments of Building and Housing, Civil Engineering and Engineering. Engineering incorporates the businesses of Projects and Engineering and Construction (E+C).

Construction continued to be the largest cluster in the group. It contributed 81.0% of group revenue in the year under review (2011: 83.8%).

Construction revenue decreased by 3% from R7,4 billion to R7,1 billion and core operating profit decreased by 74% from R471 million to R121 million due to short term events in the second half of the year. These are discussed in the segmental review. The overall Construction core operating profit margin percentage was 1.7% (2011: 6.4%). Over-border work contributed 26% (2011: 27%) to Construction revenues.

In addition, the group purposefully continued to carry costs related to its investment in future opportunities and capacity building in renewable power, nuclear readiness, postponed local and new over-border PPPs, as well as oil and gas and geographic expansion. The benefits of these initiatives were not expected to be realised before F2013.

Building and Housing revenue remained flat at R2,1 billion (79% local) (2011: 70% local). The segment reported a 61% decrease in core operating profit from the prior year, from R134,5 million to R52,1 million. This resulted in the overall core operating margin percentage decreasing from 6.3% to 2.5%.

During the period, the private sector property market for buildings remained weak and overtraded, with inherently low margins and unattractive cash flows. This has been coupled with the slowdown in government’s promised infrastructure spend and the lack of awards of certain PPP concession projects, including large public buildings, healthcare and correctional services. The group has been declared the preferred bidder on some of these projects. The coastal region performed well, although margins were constrained.

The Building and Housing segment established an over-border capability in new markets, which will mitigate some domestic market decline. In the short term the Building business will be under pressure while markets are further developed and while new awards against tenders under adjudication are awaited. The Housing business has, however, seen a recent marked improvement in domestic mining and affordable and RDP housing work load.

Civil Engineering       Year ended     (including Infrastructure Concessions and Property Developments)   Audited 2012   Audited Restated 2011     Revenue (R’000)   2 997 747   3 548 361     Total operating margin %   (1.1)   6.4     Core operating margin %   (1.3)   6.4   Civil Engineering includes the group’s civil engineering activities in South Africa, the rest of Africa and the Middle East. Civil Engineering reported a 16% decrease in revenue from R3,5 billion (85% local) to R3,0 billion (83% local), while core operations reported a loss of R37,5 million for the year (2011: R227,7 million profit). The Civil Engineering result has been impacted by revenue and margin shifting out in time due to late contract awards and hence delayed starting times, as well as scope changes on several large South African contracts.

Unfortunately the good underlying performance was severely impacted by the losses reported from the Middle East relating to downward carrying value adjustments and additional provisions raised resulting from the de-risking action taken in preparation for final commercial close out of long standing legacy and lossmaking contracts in the United Arab Emirates (UAE). Additional losses were incurred in the rectification of a pipeline contract in Jordan. This has now been completed. Costs for commercial resources deployed in Dubai continue until the contractual and commercial finalisation and cash collection of these completed, as well as terminated, contracts are finalised.

Although tendering activity is high and increasing, both locally and in Africa, with awards currently infrequent, the order book has shown some signs of recovery in favour of African expansion. The business is proactively mitigating domestic market conditions by progressively rebuilding its African order book in geographies in which the group has prior operating experience and where growth opportunities are stronger.

The Engineering cluster is the group’s engineering, plant building and industrial services segment and incorporates the Projects business and the Engineering and Construction (E+C) business.

During the year, revenue increased by 23% from R1,7 billion (52% local) to R2,0 billion (56% local). Core operating profit decreased marginally by 2.4% from R109,3 million to R106,7 million. The core operating profit margin percentage decreased to 5.2% (2011: 6.6%).

Although the underlying contract margins are still good, they reflect increased competition. The margin for the period was also impacted by the high costs incurred in bidding for the many renew- able energy projects against the renewable energy programmes and building capacity in nuclear. The margin retraction on higher revenues is temporary and should improve over the next 12 months. The E+C business has bid with a number of the power plant developers who have pre-qualified under the renewable energy in de pendent power programme (REIPP) and expect to be awarded several EPC contracts, should the programme run as indicated by government.

Shareholder spread

The shareholding of the group has remained relatively unchanged in the year.

Refer to page 122 for additional detail on the group’s analysis of shareholders at year end.

The group’s share trading activity decreased during the year with 43 million shares (2011: 52 million) traded in the year, representing a value traded of approximately R1,1 billion (2011: R1,7 billion) at an average price of R25 per share (2011: R33 per share). Our market capitalisation at year end was R2,5 billion (2011: R3,6 billion). The percentage of shares held by South African residents remain unchanged at 86%. Refer to page 123. Below is an extract of the trading activity for the F2012 year.

			Traded price (cents per share)
	Market capitalisation (R’000)		2 518 292
	Value of shares traded (R’000)		1 083 159
	Value traded as % of market capitalisation		43%
	Volume of shares traded (R’000)		43 234
	Volume traded as % of number in issue		39%
	Number of shareholders		5 071

Share capital

The movements in share capital for the year under review are summarised in the statement of changes in equity on page 117 of this report.

The authorised and issued share capital is as follows:

Authorised:		Issued:
150 000 000 ordinary shares of no par value.		110 645 521 ordinary shares of no par value (2011: 121 477 858).

All shares have been fully paid up. On 19 October 2011 and 29 June 2012, 93 304 shares, at a price of R25,96 and 90 318 shares at a price of R29,72 respectively, were issued in terms of the group’s BBBEE external ownership transaction. This involves the issuing of shares in lieu of dividends. No shares (2011: 92 699 shares) were issued during the year in terms of the provisions of the company’s share incentive schemes.

Reduction in issued share capital in the year

The group announced in June 2009 that its BBBEE ownership transaction with the iLima Consortium portion of the iLima Mvela Transaction would unwind and that this would entail the return of the shares held by the iLima Consortium to the group. In line with this, Group Five made an application to the Johannesburg High Court in September 2009 for an order compelling the return of these shares due to iLima not fulfilling certain conditions and/ or breaching certain terms to which the original transaction was subject. The judgement handed down by the Johannesburg High Court in April 2010 found in favour of Group Five. The result of the judgement is that the 11 015 959 Group Five shares held by iLima was returned to Group Five and cancelled in the current year. The capital of the group has been reduced.

The unwinding of the BBBEE transaction with iLima Consortium is a disappointment to Group Five as the group remains committed to the advancement of broad-based black economic empowerment. The group has excluded the iLima shareholding from its current BBBEE scorecard and confirms that its scorecard has not been adversely affected. The group’s BBBEE status is currently a level 2.

In prior years, it has also been reported that the group entered into a formal enterprise development arrangement with iLima. The iLima Group is the majority shareholder of the iLima Consortium. Group Five had previously provided iLima bonds and guarantees to allow them to grow their order book. iLima leased various items required on some of their contracts from Group Five’s plant business, for which rentals were charged at marketrelated rates. In addition, direct financial assistance was provided to iLima Group (Pty) Ltd.

The total capital amount outstanding on loans due by iLima Group (Pty) Ltd to the group as at 30 June 2011 amounted to R118 million. The total indirect financial assistance provided to iLima, in the form of bonds and guarantees, which remain in issue, amounts to R54 million (2011: R54 million). The direct financial assistance, reflected as a current asset at 30 June 2011, was set off against the return of the group’s shares by iLima, as described above.

The indirect financial assistance remains reflected as a con tingent liability until the guarantees are either returned or cancelled. The favourable close out of these outstanding guarantees remains a focus area for the group’s commercial and legal team as a call on these guarantees would obviously affect both cash and earnings for the group.

Estimates and contingent liabilities

The group makes estimates and judgements concerning the future, particularly with regards to construction contract profit taking, provisions, arbitrations and claims and various fair value accounting policies. The resulting accounting estimates and judgements judgements can, by definition, only approximate the actual results. Estimates and judgements are continually evaluated and are based on historical experience and other factors, including expec tations of future events that are believed to be reasonable under the circumstances.

Total financial institution guarantees given to third parties on behalf of subsidiary companies amounted to R4 310 million as at 30 June 2012 (2011: R4 537 million).

Refer to page 78 of the financial management spread for details on the group’s capital spend in the year under review, its capital management processes and its intended capital expenditure by cluster for F2013.

Competition Commission

As announced on SENS on 1 February 2011, the group adopted a proactive stance in respect of the ongoing investigation by the Competition Commission into alleged anti-competitive behaviour within the construction industry. The group co-operated with the Commission for the last two years in the interest of determining if it had any exposure and to take advantage of the Commission’s leniency programme to limit the risk of any penalties and/or fines.

Memorandum of Incorporation

The group is required to update its Memorandum of Incorporation (MOI) before May 2013. In compliance with this requirement, the group has, during the current year, reviewed the Memorandum of Incorporation approved in 2003 with the primary aim of adhering to the transformed regulatory and legislative requirements. The board has accordingly presented its proposal for amendments of the MOI to shareholders for consideration and adoption at the forthcoming annual general meeting. A salient features extract of the MOI highlighting the changes made on this governance instrument is attached as Annexure 1 of the notice to the AGM.

Going concern

The directors believe that the group has adequate financial resources to continue in operation for the foreseeable future. The financial statements have accordingly been prepared on a going concern basis. The board is not aware of any new material changes that may adversely impact the group. The board is not aware of any material non-compliance with statutory or regulatory requirements. The board is not aware of any pending changes in legislation that may affect the group in any of the major countries in which it operates.

Prospects

The group’s total secured Construction order book stands at R11,3 billion (30 June 2011: R8,8 billion and December 2011: R10,3 billion) The Construction one-year order book stands at R8,3 billion (30 June 2011: R5,9 billion and December 2011: R6,4 billion) The value of the group’s target opportunity pipeline stands at R148 billion, up from R134 billion in June 2011 and R144 billion in December 2011, with activity in all its markets

The Investments and Concessions cluster is delivering annuity business growth, with group-wide opportunities in active infrastructure sectors in increasing geographies. Manufacturing has been re-focused and its performance is improving on higher sales volumes to a broadening number of markets. The disposal of the loss-making Construction Materials cluster will relieve the cash drain from this part of the group and improve returns once completed.

Based on the group’s positioning in the key infrastructure growth sectors of power, mining, oil and gas, water and transport and in the concessions and PPP market for specific projects, as well as the progress made in terms of improving the group’s internal efficiencies, management expect a slow recovery in group activity levels.

This should support some improvement in the group’s trading performance from F2013. The timing of this recovery is dependent on the timing of awards on visible projects.

Appreciation

I thank my finance team for their hard work in an extremely difficult year for the group. I acknowledge the long hours you have put in. To our CEO, Mike Upton, a special word of thanks for his leadership and support and to the board a note of appreciation for the guidance and assistance they provided in a challenging year.

Cristina Teixeira
3 August 2012