Gareth Kiernan says the Mainzeal failure could hurt Q1 GDP by 0.14% but calling for direct government intervention is 'one of the worst reactions I've seen'

Gareth Kiernan says the Mainzeal failure could hurt Q1 GDP by 0.14% but calling for direct government intervention is 'one of the worst reactions I've seen'
Gareth Kiernan explains why the Mainzeal collapse is different to the finance co industry collapse in '08/09

By Gareth Kiernan*

The rise and fall of firms is part of a changing and dynamic economy, with labour and capital shifting to industries and areas where it can be most usefully, efficiently, and profitably employed.

So the collapse of construction company Mainzeal is something that happens on a daily basis, albeit usually on a much smaller scale.

The worst thing about Mainzeal’s collapse is the disorderly fashion in which it has occurred.

A gradual reduction in staff numbers and productive capability would give workers time to adjust, retrain if necessary, and find new employment. It wouldn’t be a painless transition – change is never comfortable – but it would arguably be preferable to the situation we’re confronted with now.

If we assume that Mainzeal’s projects represent 10% of non-residential construction in New Zealand, and there’s no work done on these sites between the Waitangi Day receivership and Easter, the direct effect could be about a 3% hit to nationwide construction activity and a 0.14% knock to GDP.

Projects such as the new Manukau Institute of Technology Campus ($95m), the Campus Hub at Victoria University ($62m), and the Coastlands Aquatic Centre in Kapiti ($21m) are in limbo.

It has been suggested that receivers will be keen to get these projects finished to recoup some value for creditors, but organising that will be a slow process, taking weeks or months rather than days.

The lumpy nature of construction work, particularly non-residential construction, represents a significant difference between the industry and many other parts of the economy.

From the customers’ points of view, the receivership of Feltex in 2006 mostly resulted in demand for carpet simply shifting to other manufacturers and suppliers, with limited disruption. It’s not as easy to take a partially completed building project and get someone else to come in and finish the job.

We’ve also got presumably profitable subcontracting firms likely not to be paid for work they’ve completed, a sudden hole in their pipeline of work with nothing happening on Mainzeal’s building sites, and even a lack of immediate access to their tools that could prevent them from moving on to other projects.

This recipe could see some smaller firms go to the wall as well.

Dialogue is all that's needed from the Government

One of the worst reactions I’ve seen is the assertion from Colin Espiner that the government must get involved.

He almost implies that this nasty situation with Mainzeal should be mitigated in any possible way.

Perhaps the government could buy all affected subcontractors a plane ticket to Christchurch, throw a bag of new tools in their luggage, and provide them with a month’s accommodation to do some earthquake repair and rebuilding work.

Or maybe the government could buy out Mainzeal’s partially completed contracts so that everybody can get back on site by next Monday.

There are some important differences between the government’s decision to backstop the banking sector in 2008/09 and the current Mainzeal situation.

• The potential failure of one of the banks during the global financial crisis would have resulted in other banks failing, as scared investors withdrew their money. But Mainzeal’s failure is not going to adversely affect the ability of Fletcher Building or Hawkins Construction to keep trading.

• The banks are a vital intermediary in the modern economy, and their collapse would have massive flow-on effects beyond their direct share of the economy. In contrast, Mainzeal operates in a highly competitive industry with limited implications for the economy outside the construction sector.

• The causes of the potential banking crisis were mostly offshore, and the fact that other governments were taking similar action left us with little alternative but to act.

At most, the government needs to be in dialogue with banks to try and ensure that subcontracting firms affected by non-payment and suffering cash-flow problems have appropriate access to credit over the next six months and are being dealt with sympathetically.

There has clearly been overcapacity in the building industry since activity was hit by the finance company collapses and the global financial crisis in 2007 and 2008. Colin Espiner wonders “how a company in the construction sector managed to find itself in this position in the middle of what is supposed to be a boom in the industry”, but there is definitely no boom in the construction industry at the moment.

Nationwide construction activity fell by 33% between the end of 2007 and its low point in September 2011.

The collapse of Mainzeal will ultimately help restore profit margins in the industry, which have reportedly been very thin over the last few years thanks to fierce competition for contracts.

It may also help divert more construction labour resources to meet demand down in Christchurch, which is set to increase substantially over the next two years – the promise of the boom that is yet to properly materialise.


By Gareth Kiernan is the managing director at Infometrics, an economic consultancy and forecasting service, and he manages the forecasting team. You can contact him here »

(Corrected. Short introduction from home page referred to a 1.4% hit to GDP. The correct figure of 0.14% was in the headline and the full article. The introduction has been corrected)

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Very well structured argument in this article ... well written with good points
Firstly , in a free market economy , business can and should be allowed to fail , its shows the system is working as it should
Secondly , Keirnan is correct in his assertion that the State should not intervene , this is both foolhardy and would waste taxpayer funds , Government is neither  the Banker nor the Mother or the manager of last resort to the business sector 
Lastly , Keirnan is also correct when he asserts that Mainzeal management could have mitigated the effects by downscalaing operations and reducing staff in non-critical areas , after all they obviously knew what was coming before all the stakeholders , staff , shareholders , etc .

This of course is the Austrian the case of Mainzeal I the case of banks, un-fortunatly if they fail we dont get to buy food, kind of a bad situation.
In terms of the economy overall public spending in a recession when private spending has withdrawn so as to soften the social impacts and gain public infrastrucure at good prices is a pretty proven well performing tool...but only in that specific zero bound trap.

If Mainzeal were drastically undercutting the quotes of others to get contracts, which I have been advised was the case, then how are those uncompleted or unstarted projects going to remain viable if contruction costs are suddenly ramped up 10-20%?
Hawkins next to fall.

Be careful of sour Ive heard that claim so many times (under-cutting) over 20 odd years that I doubt its substantially true.  If costs do rise 10~20% well thats always a risk in any business endevour, I guess if the business isnt viable at that extra cost you simply stop and dont do it, there is then no point in trying to complete especially as at the moment costs should be razor thin.

I have absolutely no interest in property in any way so I can't be affected :-) According to my source Mainzeal haven't been profitable for 10 years or so although I haven't done my homework on that. If this is the case then it has artificially pulled down construction costs over that time. If others are using the same model then they also risk failure.

You are right - you havent done your homework. If they were "artificially pulling down construction costs" then their tender win rate would have been much better than it was.
And dont feel too smug about not being affected - if this is indeed a $50 - $100m receivership then the ripple effect is going to be huge

I personally doubt Hawkins will fail. Three big players was too many, 2 should be OK.
What I am wondering is when one of the big consultancies in NZ - GHD, AECOM, MWH, URS - will pull out of NZ. Anyone of those goes and thats circa 400-500 jobs. Far too much competition in that field, with more boutique firms now undercutting business. Also, those consutancies tend to align with the big construction companies, with one of the big players out, whoever (don't know who) aligned with Mainzeal will be in trouble 

Hawkins next to fall
Got any evidence ?

It will be more than 0.14%. That might be roughly the direct effect, but the flow on effect on confidence will be greater.
I reckon circa 0.3 - 0.5% impact in Q1