The flaw that broke the construction cartel's back | Business

8/20/2019 The flaw that broke the construction cartel's back | Business

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player in the R1.5-billion main Coega construction contract.

The affidavits put before prosecutors show that losing bidders, which intentionally priced themselvesout of contracts but nonetheless competed to provide a semblance of reality to the tender process,were regularly paid the cost of submitting "fake" tenders.

"[In the case involving Concor] all money that was due through the process had to be written off byall the participating contractors," said one company official in an affidavit, apparently leavingcompanies out of pocket for research and work done on their submissions.

Normal practice was that the successful contractor would pay other participating contractors theagreed sum once the contract was awarded. In some cases the payment was not made in the form of cash but was set off against other fee deals. The practice continued until at least 2007.

Loser fees

On July 18, a participant in the cartel G Liviero & Son told the Competition Tribunal that it had listedpayments to losing bidders as "plant hire" in company accounts. The practice of hiding these fees inthat way was confirmed by other companies.

How much Concor was due to pay fake bidders is not clear. In some instances, statements byinvolved executives show, loser fees ranged between 1% and 3% of the contract size, which wouldmake the Coega payment a substantial amount.

In another case, an executive details a "loser fee" of R300000 each to two other bidders, with arange as high as R5-million paid to as many as six different intentional losers.

Nonetheless, the payments were dwarfed by the illicit profit the scheme generated for thecompanies, even though the exact quantum is likely to be subject of complex and protracted legalaction.

"Quantification is always an issue," says Lee Mendelsohn, the head of anti-trust for law firm ENS(Edward Nathan Sonnenbergs).

"The courts use the 'but-for' test, which measures what the price would have been but for thecollusion. But that never happened, so it is very difficult to count the cost."

Those are the arguments groups such as the South African Local Government Association and itsconstituent municipalities will have to put before a court if they pursue civil claims. Despite thedifficulty, such claims seem inevitable; various role-players this week cited reasons both ideologicaland monetary for pursuing all avenues of restitution open to them even if it means spending yearsand millions of rands.

For others, the road to damages may be shorter. Various experts say shareholders could,theoretically, claim the damages paid by the companies they part own from the directors who,through ignorance or active involvement, allowed the cartel to flourish.

Graphic: John McCann

Substantial profits



Organisations not in need of a strict measure of damage use rules of thumb, such as the 10% excess American authorities ascribe to cartel behaviour. By that measure, taxpayers would have directlycoughed up R2.8-billion in extra costs on these deals, and the cartel itself would have benefited tothe tune of about R4.7-billion.

But the 10% figure is very conservative. In cartel cases around the world, the behaviour has beenconclusively shown to have increased prices by as much as 30%, and the illegal mark-up rarelydropped below 15%.

"In this kind of collusion, where big projects were involved rather than consumer goods, the mark-upwas likely higher [than 10%], also because the losers had to be compensated and that was built intothe mark-up," says Corruption Watch's David Lewis, who is also a former competition regulator.

The profits were substantial enough to keep the illegal collaboration operating even as somecompanies became increasingly concerned about the practice being uncovered.

Even amid those fears, though, some construction companies held meetings in 2006 to discussdividing work related to preparation for the 2010 World Cup, because of concerns that winningbidders might not have had the resources to complete the work allocated to them. Instead of leavingthe matter to chance or the vagaries of tender adjudication, the companies discussed divvying up theavailable work among them.

At least two companies in settlement agreements with the Competition Commission have admitted tosuch meetings.

The companies also told the tribunal that in some cases they had not had the capacity to take oncontracts, so an agreement was reached over who would take which project.

Though the breakdown in trust among participants may ultimately have led to the cartel unravelling,it was suspicions of overpricing on World Cup stadiums and surrounding infrastructure thatlaunched the investigation into the cartel.

In 2011, the Competition Commission and the National Prosecuting Authority decided to investigatethe construction sector after complaints were made about the cost of the stadiums, with suggestionsof a huge discrepancy between prices and what was delivered.

The commission launched a fast track process, encouraging construction companies to come cleanand make submissions to the commission in return for leniency in some cases and reduced fines.Fines eventually imposed on the companies ranged from between 1% and 7%, rather than the full10% allowed.

Cartels rule but nailing them is not easy

From a bread cartel in South Africa to a road cartel in Poland and public-sector bid rigging in theUnited Kingdom, the world is awash with cartels divvying up work and rigging prices in everything

from chemicals to pencils.

"The returns on collusion are very, very great," says Corruption Watch's David Lewis. "It happenseverywhere, all the time, because it is a rational form of profit maximisation, even if it is illegal."



It is nearly impossible to tell how big the problem is. Although cartels and price-fixing distortmarkets in what should be recognisable ways, detecting their activity remains a tricky problemunless somebody breaks the silence.

"Though there have been various attempts over time, it is fair to say that economic analysis whetherit occurs in government, academia or private consulting has largely been a nonplayer in thediscovery of cartels," wrote Joseph E Harrington of Johns Hopkins University in the United States ina 2005 paper. "Economic analysis can be instrumental in making the prosecutorial case and isessential in assessing damages but it has not been a standard tool for detecting cartels."

Economists and analysts have made various stabs at the problem by using data to raise cartel redflags, as is done with great success by credit card companies and tax collection agencies looking forfraud. But the results have been mixed at best.

"You can look for certain patterns, say the rotation of bid winners or consistent wins by certaincompanies in certain geographic areas, but none of it is definitive," says James Hodge of Genesis

Analytics. "You can try to detect the rules [by which cartels] operate, but people cheat."

Even seemingly obvious signs of collusion are not foolproof. Companies may come up with startlinglysimilar prices for projects when using the same suppliers of raw materials, for example.

Instead of market surveillance or the comparison of large amounts of data, cartels are mostcommonly uncovered by way of a snitch. A breakdown of trust as appears to have happened in the

construction cartel can create unease within the group and make participants look for an exitstrategy.

With leniency for full disclosure and a first-through-the-door immunity offer, that exit plan oftenconsists of selling out former co-conspirators. Phillip de Wet

Phillip de Wet is an associate editor at the Mail & Guardian.

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The flaw that broke the construction cartel's back | Business