Analysis & Excel


Adapted from IMA


ISSN 1940-204X Forge Group Ltd Case Study (A)The Revealing Nature of Numbers

Suzanne Maloney University of Southern Queensland Toowoomba, Australia, 4350. [email protected]


In 2012-2013, Forge Group Limited had more than 2,000 employees working across

eight countries on four continents. The pride in the growth story is evident, as Forge

Group’s 2012 Annual Report (released in September 2013) lists accomplishments in

what is described as a groundbreaking year. The main milestones give a snapshot of

the types of projects the company was involved in (see Figure 1). At the time of listing

(June 26, 2007), Forge Group Ltd (FGL) shares traded for $0.56. (All monetary amounts

discussed herein are in Australian dollars. To convert to another currency, visit www.x- The shares peaked at $6.98 on March 6, 2013, valuing the company at

$600 million. In less than a year, FGL was placed in a trading halt (February 11, 2014).

Voluntary administrators and receivers were appointed.



The engineering and construction sector provides significant economic activity in many

countries. Large-scale engineering and construction projects—including highways,

bridges, railways, airports, harbors, production facilities, and office and apartment

buildings—provide employment opportunities and attract large capital investment. The

quantum of resources employed in this industry and the profound affect they have on

society means that there are strict compliance, regulatory, environmental, and tax

requirements on those operating in the sector. The governments of many countries

publicly funded a number of large-scale infrastructure projects in the aftermath of the

Global Financial Crisis (GFC) to stimulate the economy.

Joint ventures and public/private partnerships are common in the industry to reduce the

risk of large-scale projects and to ensure adequate capital and expertise. Major

contracts generally involve a number of different companies with primary contractor and

sub-contractor status, all tendering and quoting on various stages of work in a project.

This makes the industry highly competitive, and therefore it is vital to have appropriate

costing and project management expertise.

Mining companies also took advantage of the cheaper finance post GFC and the

upswing in demand for minerals and resources. Large-scale mining projects have been

the driving force for some economies, especially in Australia. But with the construction

of a number of the large projects nearing completion (and moving into production

phase), there is a drop in engineering and construction spending. In Australia in 2013-

2014, engineering and construction spending was $128 billion, dropping $1 billion from

the previous year. This increased competition in the sector and, therefore, demand for

lower-priced contracts and shorter completion times.

The market value of engineering and construction companies are based partly on their

future secured order book. “Order book” is a term used in the engineering and

construction sector to capture the company’s future work and the dollar value of the

work. The future work is contracted through the normal selling of services and through

“tendering” for large-scale works needed by governments and large private companies.

If a project is very large, it may be divided into segments with a separate tender process

for each segment. Companies have to carefully consider the risk attached to each

segment of the larger project and the interrelationship of each of the segments. A

company can be held liable to another company if their segment completion is delayed

and the other company cannot complete its work on time, as per their contract, because

of the delay. For example, when building a tunnel, the riskier segment may be blasting

the rock and strengthening the actual tunnel. Excavating the ground and surfacing the

road may not carry the same risk but could be held up if the blasting and strengthening

is not completed on time.

In comparison to a retail or manufacturing concern, the products being sold are large

capital works that tend not to be completed within a neat 12-month period. This means

that there needs to be payment points built into the contracts. These are called

“milestones.” Once a project milestone is reached, it triggers a point when the

engineering and construction company can invoice the purchaser and recognize the

revenue in its accounts. The product cost (Cost-of-Goods-Sold) expensed against this

revenue will contain material, labor, equipment costs, and sub-contractor costs. These

costs are all capitalized into inventory at the time they are incurred but not expensed

until they reach a milestone. A lot of dollars, long-term time horizons, subjective

milestones, and the application of large capital equipment costs contribute to the overall

business risk in the sector. Many companies have suffered as a result of stalled

projects, unforeseen circumstances or problems, poor costing of the work, and

mismanaged cash flow.

Within the industry, there is usually significant take-over activity. This is driven in part by

companies not performing well and/or insolvency and also by normal merger and

acquisition activity. Smaller companies find it difficult to compete with larger companies

for the larger projects and generally need to combine or merge in some way or stay

small. This adds further risk and places the financial statements and the order book

under increased scrutiny as business valuations rely on this information.


The company was a success story. It listed on the Australian stock exchange on June

26, 2007, from a private construction company called AiConstruction. It was a well-run

company that needed access to more capital if it was to continue to grow. Within a year,

it made its first acquisition by taking over Abesque Engineering. The company survived

the Global Financial Crisis and leveraged to the subsequent mining and construction

boom led by China’s appetite for minerals and resources. Over the next few years, the

company grew organically and in April 2010 another construction company called

Clough bought 13% (10.5 million shares) of FGL ordinary shares, thus becoming the

largest shareholder. Clough continued to purchase shares in FGL until it divested its

total holding of 35% in March 2013. Clough management explained its divestment by

indicating that expectations of joint ventures between the two companies did not

eventuate, and, therefore, the equity holding was cashed in to allow the pursuit of other


In January 2012, FGL undertook a major acquisition by purchasing CTEC Pty Ltd. In essence, the acquisition meant taking over two major projects. The Diamantina Power Station (DPS) Project in Queensland, Australia, and the West Angelas Power Station (WAPS) Project in the Pilbara region of Western Australia. It was expected that these

major projects would add $7.5 million and $10.8 million to earnings before interest, tax, depreciation, and amortization (EBITDA) in 2012 and 2013, respectively. The purchase price was $16 million up-front with further payments due on the meeting of specified performance targets (total paid was $32.26 million). This increased FGL’s order book significantly, and FGL’s share price rose in response. In June 2013, FGL acquired Taggart Global for $43 million. This purchase meant that FGL was now diversifying into asset management and into other economies.


The historical share price chart since listing is shown in Figure 2.

The market closing prices, major announcements, and significant shareholding changes are listed in chronological order in Table 1.


In the wash up of the demise of FGL is the attention being paid to two main contracts:

The Diamantina Power Station (DPS) Project in Queensland, Australia, and the West

Angelas Power Station (WAPS) Project in the Pilbara region of Western Australia. Both

projects were acquired after FGL took over CTEC Pty Ltd on January 13, 2012. The

purchase of CTEC was to change the business model by bringing sub-contracting work

in-house with the intended consequence of taking out the “middle man” and thereby

increasing earnings (by negating sub-contractor margins). The CTEC purchase

payment terms required an up-front payment of $16 million with subsequent payments

conditional on meeting performance criteria (possible further payment of $40 million in

total). CTEC’s prior year (June 30, 2011) EBIT was $2 million, with expected EBITDA at

year end 2012 and 2013 to be $18.4 million and $24.8 million, respectively. The DPS

and WAPS projects were to increase this expected EBITDA by $7.5 million in 2012 and

$10.8 million in 2013.

Instead cost overruns and poor budgeting meant that the projects’ revised 2013 estimates showed a $61 million project margin loss for the DPS project and a $41.7 million project margin loss on the WAPS project. The cost overruns on these two projects lead to the profit downgrade and contributed to the resulting shortage of cash.

Added to that was the discovery of an early payment to the vendors of CTEC Pty Ltd

before its performance conditions were met. Further, the payment of bonuses to the

previous Managing Director, Peter Hutchinson, of $375,000 was made for a successful

acquisition and integration. These payments are the subject of further investigations by

the liquidator.

DPS AND WAPS COSTING AND BUDGETING In any business the costing and budgeting systems are critical to success. The FGL administrator report for 2013/2014 (year ending January 2014) shows that the:

• Actual work-in-progress income for the period was $126 million below management forecast. • Labor costs were $70 million over budget. • Material costs were $55 million over budget. • Work-in-progress overheads were $22 million over budget.


The financial statements for 2010-2014 are presented in Tables 2-5 in your Excel