17 January 2018

Boost Britain’s small businesses to avoid another Carillion

By Chris Poll

The collapse of Carillion points to a fundamental flaw in the way the UK Government procures suppliers for public sector projects. Rather than using outsourcing to harness the best the market has to offer, ministers have allowed Government procurement to become a cartel. Carillion’s demise is devastating evidence that this policy is failing both the public sector and UK taxpayers.

The crisis should have come as no surprise. Only last year, the Cabinet Office’s Crown Commercial Services (CCS) – the Government body responsible for improving government commercial and procurement activity – was the subject of a scathing report by the National Audit Office (NAO). The report looked at five key areas of CCS’s procurement process – and gave the CCS the lowest possible performance rating in all but one of them. In its damning conclusion it claimed the Cabinet Office did not:

  • prepare a full business plan to support the creation of CCS
  • prepare a single implementation plan
  • manage the risk that procurement data was unreliable
  • predict the likelihood that unclear governance would contribute to services failure.

The Civil Service and Cabinet Office reacted – in a fundamental change to Conservative policy – by excluding small and medium-size enterprises (SMEs) from direct public-sector contracts. Instead it decided to channel public-sector procurement through what is effectively a cartel of 30 or 40 prime suppliers. As Carillion’s failure illustrates, this significantly heightens risk by putting all the Government’s procurement eggs in one basket. It would make far more sense to spread risk by directly procuring services from a multitude of UK SME suppliers.

But as things stand, the Government relies on these major suppliers to sub-contract work to SMEs so it can meet its SME procurement policy. This process can result in the abuse of SME suppliers if invoice payments are withheld or delayed.

There is a way out of this mess – one that I first proposed more than three years ago. It’s a solution that would increase direct government procurement from SME suppliers. This would reduce the risks of another Carillion and set more of the UK’s SMEs on the path to success – which would deliver substantial knock-on benefits for the economy.

Right now, far too many of our SMEs go under. The vast majority of these failures are caused by lack of day-to-day working capital. According to OECD data, we have the third highest number of start-up SMEs in the world, but we fall to 13th when the numbers that last three years are counted.

So what is the solution? It’s the creation of a Purchase Order Finance scheme to provide flexible low-cost working capital to cash-starved UK SMEs. It would come with an insolvency wrap for public sector suppliers who passed the Government’s due diligence tests. It would reduce risks in the public-sector supply chain by lessening the chances of suppliers becoming insolvent because of cash-flow shortages. The buyer receives compensation if the insured supplier fails.

Better still, it wouldn’t cost the Treasury a penny. It would fall outside the suppliers’ existing Banking and Alternative Finance credit limits so it is net new finance. It would cost suppliers between 3 per cent and 6.5 per cent for a 12-month facility. It complies with EU state aid rules and would help the public sector get value for money for the services it procures.

Suppliers would first have to apply to the commercial insurance market for supplier insolvency insurance – a bulletproof way of helping the Government control procurement risk. If commercial insurers won’t insure a supplier then the public sector should reject that supplier. If they can get insolvency insurance, the Government is still covered against another Carillion-type situation even if they go under.

The Carillion disaster demonstrates that existing internal public sector risk assessment processes require immediate and significant reform. My solution instantly corrects these deficiencies by incorporating proven external commercial risk assessment mechanisms.

If this solution had been adopted by Cabinet Office, it is probable Carillion would not have been approved as a supplier – last year, the commercial insurance market was already expressing concerns over some major government suppliers, including Carillion. And even if it had been approved, then any bailout would have been paid for by the insurance companies – not by the UK’s taxpayers.

The collapse of Carillion has put the construction of crucial public services – including a major new hospital – under threat. This solution would make sure all public services were protected.

Despite all these benefits, the Cabinet Office rejected the Purchase Order Finance solution “because of the fundamental changes arising from new risk analysis on all bidders (not just the successful ones) and pan-Government change in purchase order process.”

Presumably these “fundamental changes” were driven by the National Audit Office’s January 2017 report. The million dollar question is: did those changes mean the Cabinet Office improved its due diligence checks on its main suppliers?

Carillion’s demise is likely to spark a chain reaction that pushes its many SME suppliers, who it cannot now pay, to the brink. Is it possible that Carillion went to the wall and these SME suppliers now risk insolvency because government did not conduct proper due diligence on its 37 key suppliers?

Purchase Order Finance would track all contract and invoice procedures. It’s adoption will prevent another Carillion-type situation.  In other words, the government could have avoided the present crisis. And the means to prevent another one are ready and waiting.

Chris Poll is a serial entrepreneur who jointly created the UK’s USM – now Alternative Investment Market (AIM) – in 1980 to provide new sources of finance to young businesses. He is the chairman of Doing Business Together.