Given the low level of construction work in South Africa, Group Five made a strategic decision some time back to diversify its contracts outside of South Africa. The subdued level of economic activity in South Africa was the driving force to generate revenues and profits from fast growing economies in Africa.

The recent announcements then by Group Five and its Ghanaian based client Cenpower Generation, that the $410m Kpone project has been terminated must have come as a big shock to shareholders.

In their 2015 annual report Group Five listed all the lengths it had gone to identify and manage all the risks associated with the Kpone project. These included country, logistic, regulatory, procurement, credit and operational risks. In their 2017 financial year Group Five then reflected a loss of R33million on this project. This has now escalated to the staggering figure of R1.3billion in 2018. It highlights the myriad of risks that arise from such a project and the potential extent of the implications of these.

With the project being over a year late and with continual contract performance delays still being experienced, the contractual breach was finally triggered. Cenpower Generation has asserted that the delays have caused damage of $62.7 million.

What then should have been all the risk considerations associated with such a large project?

These extend much further than just the direct risks associated with the management of the specific project. Was the risk of potential termination fully factored in?

While contract management and supply chain controls form a key element of financial risk control, they are insufficient in isolation to deal with the complexities of a project failure of this magnitude.

Apart from direct oversight, management of project and contract risks require the maintaining of comprehensive documentary audit trails. The logs of incidents and delays require meticulous recording. As part of managing regulatory and legal risks, parties need to also be acutely aware of all their contractual terms, rights and obligations as well as the potential claims against them and/or potential liabilities arising out of non-performance, breach and/or under-delivery.

As part of its contract requirements, Group Five had been required to provide performance guarantees to Cenpower Generation. Up to a point this represented no more than a contingent liability to Group Five.

Following the non performance, the performance guarantees were subsequently presented by Cenpower Generation to the issuers, Standard Chartered Bank and HSBC. Apart from the legal rights to interdict this and the likely implications, Group Five should have considered the risk to its balance sheet if this were to happen.

Immediately the question of funding risk would have kicked in as this claim would not only hit the income statement and balance sheet, but it would have to be funded out of cash resources or credit lines. Group Five has conceded that the maximum delay damages could never exceed $62.5 million, but did they factor in a worst case scenario for this eventuality?

Taking a few steps back it is assumed that Group Five assessed not just the country risk and regulatory environment of Ghana (the most likely country of jurisdiction), but also the risks associated with contracting with a “special purpose vehicle” counter party such as Cenpower Generation. The key stakeholder in the special purpose vehicle is the African Finance Corporation, a Lagos based infrastructural financing organisation. The board of Cenpower Generation comprises mainly executive employees of the African Finance Corporation. It is not clear how well capitalised Cenpower Generation is other than for all the loan and debt funding and whether this was assessed by Group Five, should they have wanted to or need to sue them?

With the Ministry of Energy (‘MOE’) being  the body ultimately responsible for development of energy policy for Ghana and supervision of all entities in the sector, it had to be assumed then that Cenpower Generation would then always enjoy the support of the Ghanian government even if they had no direct ownership interest. It is not clear what dispute resolution processes were agreed by the parties.

The accusations of non delivery and under performance on this contract will seriously harm Group Fives reputation as a regional civil engineering contractor.

While the contract was priced in dollars, providing a hedge in terms of potential rand home currency weakness/depreciation, at the current exchange rate, the $63 million due in damages amounts to around R900 million. With Group Five reflecting losses of R1.3 billion, this implies that there have been nearly R400 million further losses directly associated with this project. At this stage it is not clear whether Group Five hedged any of its potential currency risk associated with potential liabilities under the contract and/or the performance guarantees.

It is also not known what reliance Group Five may have placed on the performance of sub contractors to fulfill the contract, or what recourse, if any, Group Five may in turn now have to these parties.

Another specific area is whether Group Five held any insurance for performance delays which were as a result of events beyond their control such as natural disasters and/or weather related or political events.

Don’t be surprised if the losses associated with this contract don’t escalate further.