Committee Reports::Report No. 16 - Nitrigin Eireann Teoranta::01 April, 1981::Report

1. Nítrigin Éireann Teoranta (or NET as it is known) is a major industrial company engaged in the manufacture of nitrogenous fertilizers principally for the Irish market. It was incorporated in 1961 with a nominal share capital of £100.¹ The Company’s main objective as stated in its Memorandum of Association was to acquire, erect and operate a nitrogenous fertilizer factory or factories in Ireland. Initially, the Company was authorised by the Government to place a contract for a factory at Arklow to produce sulphate of ammonia and calcium ammonium nitrate and, in addition, certain intermediate products such as ammonia, nitric acid and sulphuric acid. This was financed by way of £6m advances (repayable with interest) from the Central Fund. Under the Nítrigin Éireann Teoranta Act 1970 the Company’s capital was reconstructed to put it on a more acceptable commercial footing, the principal effects of which were,

(b)£3,500,000 of the original advances was converted into ordinary share capital.

(c)A further £1,212,000 ordinary shares were issued to the Minister for Finance in satisfaction of interest on advances which had accrued to 30 June 1967.

(d)The remaining £2,500,000 of the original £6 million advances was to be repayable by way of annuity over 25 years.

2. In 1971 the Minister for Finance injected a further £650,000 equity to provide for working capital.

3. The Nítrigin Éireann Teoranta Act 1975 provided for an increase in the capital base of the Company to finance the Marino Point project. This Act increased the authorised share capital to £27,500,000. An additional £15m in ordinary shares was issued in 1975/76. In addition, the statutory limit on the Minister’s powers to guarantee the Company’s borrowings was increased to £30m. By 1977 this guarantee limit was extended to £100m and in 1979 the issued share capital was increased to £27,500,000.

4. In the period to 1979, the Company expanded its production capacity at Arklow to include a wide range of manufacturing facilities including the following:

5. In addition NET developed a major industrial complex at Marino Point for the manufacture of ammonia and urea. The rationale behind this development was the reduction of NET’s dependence on costly ammonia imports, security of supplies of feedstock for its fertilizer plants and expansion of the Company’s product range to meet expected market growth through the addition of a new nitrogen product urea.

6. The installations at Marino Point Cork comprise an ammonia plant with an annual production capacity of 435,000 tonnes and a urea plant with a capacity of 310,000 tonnes per annum. Bulk storage for 30,000 tonnes of ammonia and 15,000 tonnes of urea is provided as well as bagging plants, boiler units, water treatment and effluent plants. The site is equipped with a jetty to handle ammonia tankers and urea bulk and bag shipments, workshops, engineering stores and welfare buildings. The jetty can handle ships up to 25,000 tonnes capacity.

7. Approval for the project at an estimated cost of £63.51m² was given by the Board in December 1974 and the projected date for completion was January 1978. In the event the project overran significantly in terms of both time and cost. Ammonia production commenced in May 1979 and urea production almost five months later. The final cost is estimated at £137.3m.³

8. Inadequate financing arrangements for these developments combined with ever-increasing trading losses have placed an inordinate strain on the Company’s financial structure. In addition, financial charges arising from borrowings now represent a substantial drain and have seriously undermined the Company’s profitability. The Company has acquired an unsustainable level of borrowings and is now in serious financial trouble.

9. Against this background the Committee directed its enquiries to establishing the reasons for the Company’s problems and focussed its attention on the main issues to be confronted in evaluating the Company’s future prospects. The Committee decided that the considerable cost overrun of the Marino Point Project merited special attention and accordingly it is dealt with separately in Part B of this Report.

A.II MARKET

The Irish Domestic Market—Recent Trends

(a)As straight nitrogen fertilizer such as calcium ammonium nitrate (CAN), ammonium sulphate and currently being developed, urea.

(b)Concentrated compound fertilizers (CCF) consisting of nitrogen applied in combination with phosphate and potassium in various nutrient concentrations.

11. There has been a steady increase in the market for nitrogen fertilizers, both in terms of straight nitrogen and compound fertilizers as can be seen from Appendix 1. The proportion of nitrogen used in the straight form (principally as CAN) as compared with the use of nitrogen in compound fertilizers (CCF) has remained relatively steady, diminishing slightly from 62% of the total nitrogen consumption in 1975/76 to 54% in 1978/79. This underlines the continuing importance of compound fertilizers in the Irish market. There has been a growing importance in concentrated compound fertilizers with a high nitrogen content. Similarly, the importance of straight phosphates and straight potassium has been declining in favour of compound fertilizers. Up to recently the straight nitrogen market in Ireland was supplied mainly by various forms of ammonium nitrate (as CAN) and to a diminishing extent by ammonium sulphate. During the last three years an increasing, though still relatively small, amount of urea was supplied to the market.

Marketing Policy

12. The principal elements of NET’s marketing policy were considered by the Committee under the following headings, viz. “Objectives” and “Product Policy”:—

Objectives

(a)To provide Irish farmers with a continuity of fertilizer supply, in particular nitrogen, at prices competitive in relation to EEC prices.

(b)To sell profitably and distribute efficiently the full production of the Arklow and Cork plants in terms of straight nitrogen, compound and urea fertilizers, preferably within the Irish market.

13. The Committee considers that NET has been highly successful in meeting its first objective but that in seeking to fulfil the second, namely, to sell all its production and that “preferably within the Irish market”, NET has been only capable of achieving this at a “price”. The economic aspects of the Company’s trading are dealt with more fully later in this Report.

Product Policy

14. In pursuit of its policy to supply the Irish nitrogen market, NET has concentrated mainly on the straight nitrogen sector which accounted for 54% approximately of the total nitrogen market in 1978/79. It is the sole producer of straight nitrogen in the State and has been highly successful in meeting competition from imports. Its market share in this sector stands at 90% and a substantial proportion of the Company’s production capacity has been directed to this end.⁴

15. On the other hand, NET has no share of the market in straight phosphate and potassium fertilizers and its share of the important compound fertilizer market is relatively small and diminishing.

16. In terms of the total nitrogen market NET has maintained its overall share at about 60% except during 1978 when a major strike at Arklow seriously restricted supplies.

17. In regard to compound fertilizers⁵ it appears that NET never entered this market in a substantial way but rather used it for strategic purposes in marketing, enabling the Company to expand its share of the nitrogen market through CCF and giving the Company some degree of flexibility in its dealings with wholesalers and distribution outlets. NET’s compound fertilizer market share has always been relatively low, fluctuating around 15% and, in fact, has declined recently in the face of strong competition from imported mon-ammonium and di-ammonium phosphates and in particular from bulk blenders.⁶

18. NET, in evidence, indicated that it has had continuing and serious problems competing in the compound market sector for many years. The economic viability of CCF production has been seriously affected by soaring increases in raw material costs, low levels of plant capacity and problems in plant operation. On the other end of the scale, while there has been growth in the market since 1975/76 it has, in fact, only been recovering to pre-1974/75 levels. The market has again declined by about 15% in 1980 and a further decline is expected by NET in 1981.

19. The Company has indicated that an in-depth study of this sector of the Company’s business has been undertaken by management; and that as a result the Company is likely to cease CCF production in April 1981. It could be replaced by blending.

20. The Company’s excessive dependence on C.A.N. has been seen as a weakness in regard to overall potential for growth and the introduction of its new product urea, which is manufactured at Cork, must be viewed as a significant strengthening of the Company’s product base, provided it meets the requirements of the Irish market.

The Irish Domestic Market—Future Growth

21. There are a number of estimates of the future fertilizer market in Ireland, all subject to a degree of uncertainty. If a view is taken that during the next few years demand will grow at an average rate of 10% per annum for nitrogen and 5% per annum for phosphate and potassium, then the fertilizer nutrient consumption in Ireland in 1984/85 would be,

22. NET’s strategy⁸ for the foreseeable future is to maintain its present level of sales of C.A.N. and to supply the expected increase in demand for nitrogen through its new product urea which is being produced at the Marino Point complex in Cork and which came on-stream in 1979, building up gradually from 65,000 tonnes to its maximum capacity of 310,000 tonnes by 1986.

23. For a number of reasons including protection and possible increase of market share, as well as overall profitability it is important for N.E.T. to sell a large proportion of its urea output on the domestic market.

24. Questions regarding the possible suitability or otherwise of the product to Irish conditions and its potential popularity with Irish farmers were dismissed by N.E.T. management who expressed the view that the strategy for growth based on urea, as yet a relatively small sector of the Irish fertilizer market, was entirely satisfactory from the Company’s point of view.

25. In support of it’s case N.E.T. argued⁹ that farmers can no longer look forward to large price increases from Brussels under C.A.P. and that if they are to recover cost increases they must increase productivity. The only and cheapest way to do this, the Company contends, is through the application of nitrogen on an increasing scale. N.E.T.’s view is that this increased requirement for nitrogen will be satisfied by urea and in support of its case points to market research conducted in 1978 with a sample of 500 farmers to establish farmers’ attitudes to urea and to find out how they felt about it; “Would they be keen buyers?; Would they prefer it to C.A.N.?; Would they prefer it to N.P.K. on their grassland?” N.E.T. says that it has got a positive result. The Company also cited research carried out by the Agricultural Institute over the last four years.¹⁰ The principal conclusions of this research were:

—Urea can be reliably used to replace C.A.N. as a source of nitrogen for grassland from very early Spring onward … application of urea would be reliable until at least mid-April/early May.

—Dry surface conditions may have a bad effect on the efficiency of urea. Mid-Summer application of urea therefore cannot be regarded as reliable.

26. In evidence¹¹ the Company confirmed that the present differential in pricing which makes urea relatively more attractive than C.A.N. had a lot to do with the Company’s optimism about prospects for urea.

27. The Committee considers that on the balance of evidence, including the Company’s past performance and unflagging optimism, it would be prudent for N.E.T. to take a somewhat realistic approach to its projections and to build into its plan some element of contingency in relation to product acceptability and competitiveness. An extensive programme of customer education for example may be required to support the product and to ensure its success. Furthermore, following recent studies by NET it was decided that the imbalance in the price of C.A.N. and urea in favour of urea would require to be corrected. Thus, urea’s price advantage over C.A.N. will be eliminated or substantially reduced in the future.

Export Market for N.E.T. Ammonia and Urea

28. Until N.E.T. manages to develop a relatively high share of the domestic straight nitrogen market it will be necessary for the Company to rely to a large extent on sales of urea, and possibly some surplus ammonia, on the international markets in the foreseeable future. It is important, therefore, to consider briefly the present and foreseeable future state of these markets.

Export Market for Ammonia

29. In round figures, about 5% of the world ammonia demand is supplied by the merchant market totalling some 5 million tons of product in 1978. Over the last few years, this market fluctuated wildly from a rapid growth of movement in the early 1970’s through a cutback in 1973/75 and a subsequent recovery in 1976. The improvement in ammonia price levels in 1978/79 was caused by a number of factors such as the revolution in Iran, the status of Soviet exports and the temporary build-up in the Northern Hemisphere and particularly in the U.S.A. The situation in 1978, where international ammonia prices weakened while the prices for straight nitrogen products increased, appears to have been corrected. Much of the delivered price increase for ammonia, however, has been accounted for by increases in freight and production costs especially for the naptha-based plants in Western Europe, with a correspondingly small increase in profits. The instability of the world ammonia industry is illustrated by the number of new plants commissioned or approaching completion particularly in the U.S.S.R., North Africa, China, South East Asia and the Middle East. The survey carried out in 1979 by the British Sulphur Corporation illustrates that the world excess ammonia capacity will last at least until the early 1980’s. For example, during 1979 new ammonia plants in U.S.S.R. totalled more than one million tons, all probably destined for export. It is believed that the volume of anhydrous ammonia trade has currently reached a maximum and that the growing Soviet shipments make all the downward pressure on prices. At the same time, the production costs continued to escalate depending on feedstock and region. In addition, the normal supply and demand considerations tend, to a growing extent, to be overshadowed by motivations of politics, prestige and other non-economic considerations by national Governments keeping prices under pressure. Taking the longer view, although it has been estimated that the world ammonia capacity will grow from about 45 million tons per annum of nitrogen equivalent (ammonia contains about 82% nitrogen) in 1968/69 to about 110 million tons per annum of nitrogen in 1983/84, of which it is estimated that 30 million tons would be in Asia and 35 million tons in East Europe and only about 20 million tons each in Europe and North America, nevertheless during the latter period the increase in growth in capacity is limited.

Urea

30. Because it is the most economic nitrogen fertilizer, urea enjoys a position of popularity throughout the world. However, because of continuing doubts as to its acceptability on agronomic grounds, its growth and demand has been slow in some areas, such as in North West Europe and parts of North America.

31. Asia is the most important urea consuming region where more than 50% of all fertilizer nitrogen is applied in this form. The most important urea consuming countries on this Continent are China and India, followed by Pakistan, Bangladesh and Sri Lanka.

32. During 1978/79 there was a lively world trade in product nitrogen with movements of urea accounting for an important part of this trade. By far the greatest increment was the growing movement between Asian countries and, in particular, Indonesia/India, Japan/China and other suppliers to China. The volume of contracts placed by the Chinese and Indians seemed to indicate a continuation of this trend in 1980. However, the fertilizer importing countries are continuously expanding their nitrogen production capacity, reducing their purchases from overseas sources. As a result of this, the world export market movement of urea has reduced from about 35% of the total demand in the early 1970’s to about 25% in 1978.

33. For example, the current urea demand in India is about 4 million tons of nitrogen of which about 40% will be imported principally from the Middle East, East Europe and Asian countries. By, at the latest, the end of this decade India will move towards self-sufficiency and also towards a balanced N.P.K. fertilization, reducing the importance of urea.

34. In China, the recent phase of fertilizer plants modernisation is now complete but there is still an imbalance in the demand/supply situation corrected by imports which in 1978 were about 1 million tons of nitrogen. More urea plants are currently being built and others are planned. It is estimated that the fertilizer imports will continue during the 1980’s but with a growth in importance of N.P.K. formulations to correct an imbalance in fertilizer nutrient supply. In Bangladesh the current imports of nitrogen fertilizers (e.g. urea) are likely to give way in the mid-1980’s to a surplus for export.

35. A similar situation is likely in Sri Lanka, but Pakistan is likely to continue to rely on fertilizer imports in the foreseeable future.

36. There is a growth of export orientated urea complexes such as the Arab Gulf suppliers (Iraq, Kuwait, Saudi Arabia, Qatar) and North Africa. U.S.S.R., the East Europeans and Indonesia will have, to a growing extent, a disturbing market influence as a result of political considerations.

37. Furthermore, in the primary markets of Asia, the pace will continue to be set by the Gulf producers (Gulffert) and the Far East because of the advantage of their locations. It may be necessary for N.E.T., therefore, to seek in the near future other, perhaps less attractive, markets for their urea in other parts of the world (Europe and Eastern Seaboard of North America).

38. Ammonia prices showed a significant improvement during 1979 and part of 1980. However, more recent trends evident in November/December 1980 showed a decline in price levels to those obtaining in January 1979.

39. The picture for urea prices was more buoyant with continuous and substantial increase over January 1979 prices, but recently these have tended to flatten out.

Customers in Domestic Market

40. Product is marketed through fourteen wholesalers in the Republic, nine of whom take nitrogenous fertilizers only. Wholesalers are selected on their ability to market large tonnages, to buy in the off-peak season and to store fertilizers and on their ability to add to the existing sales volume. These wholesalers sell to 800 retailers who in turn sell to farmers. In 1977 there were 158,200 full-time farmers in the State.¹²

Distribution in Domestic Market

41. All fertilizers, not just NET’s alone, are sold to farmers through a net-work of agricultural merchants and co-operatives throughout the country. Manufacturers do not sell directly to farmers. Merchants account for more than half of sales and the remainder is sold through co-operatives.

42. Virtually all fertilizers manufactured in Ireland are packed in 50 kilogram plastic bags which are heat sealed. Less than 1% are in bulk.

43. Fertilizer transport from factories to depot, customer store or farm is by road and/or rail. Each year CIE transports about a third of a million tons of fertilizer. In 1974 CIE introduced special purpose-built wagons for palletised fertilizer.

44. NET states that CIE has made a considerable contribution towards reduction of NET handling and distribution costs by providing considerable storage facilities throughout the country.

45. As mentioned later, the NET price system for nitrogenous fertilizer is based on a flat price structure for the whole country, wagon loads being delivered to the nearest railway station. There are now 159 rail delivery points, 40 of which are fully mechanised.

46. CIE transport the greater proportion of NET product. The exception being the ex-factory sales which are usually collected by customer lorries.

Pricing Policy

47. NET instituted a flat national price which offered their product in wagon lots at a flat price delivered to any of the rail delivery points throughout the country. While they did offer a collection allowance for customers buying ex-factory the basic flat price system was a move away from the former pattern whereby national prices increased as one moved away from the ports where prices had been lowest.

48. The wholesalers work on an agreed percentage, for which they offer their commitment to buying NET products and also undertake to purchase a minimum percentage of their annual requirements in the off-season. For these off-season purchases NET offers early delivery allowances and this system helps tremendously towards giving a more even distribution pattern of sales. The Committee has been advised that in 1965 the off-season sales of calcium ammonium nitrate were less than 1,000 tons. In 1979 the sales in the off-season reached 217,000 tons.

Conclusions

49. The Committee found that the Company’s share of the Irish fertilizer market has been predominantly in the straight nitrogen sector. NET has no share in the straight phosphate and straight potassium fertilizer sector. Its share of the important compound market has been relatively low and decreasing and is uncertain in view of the expected shut down of its C.C.F. plant which in recent years has been increasingly uneconomic.

50. The Committee considers that it would be prudent for NET to take account of the possibility of a slower rate of growth in the Irish market for urea than has been projected. It may be necessary for the Company to develop a direct technical advisory service for farmers. In addition, the previous imbalance in the price of C.A.N. and urea, in favour of urea, which is now being corrected by the Company is likely to affect the popularity of urea relative to C.A.N.

51. Export sales of urea are subject to continuing severe competition worldwide and growth of production capacity in gas-rich countries.

52. NET’s direct sales of ammonia as a fertilizer intermediate in Ireland are, in effect, limited to its own processing activity in the manufacture of C.A.N. and urea. Sales abroad are subject to fluctuation on the merchant market and are at present suffering from recession and over-supply. The future outlook is uncertain.

53. Having regard to the significant changes in energy costs in recent years, the Company’s operations in relation to future market strategy in Ireland need to be defined clearly in terms of commercial but also socio-economic considerations,

—Is there a need, nationally, to secure the fertilizer requirements of the agricultural sector of the economy?

This strategy will affect the future of the Marino Point and Arklow operations. The Committee recommends that the Company, in conjunction with the relevant Government Departments, should undertake a study to determine a joint strategy for short, medium and long term development of the Company based on the above considerations.

A.III PROFITABILITY & FINANCIAL PERFORMANCE

54. NET’s stated objectives, by which its sales performance and profitability may be measured, are referred to in paragraph 12.

Sales Performance

(ii)Concentrated Compound Fertilizer (C.C.F.)—comprising a mix of nitrogen, phosphate and potassium.

56. In addition, the Company has recently added to its range its new product urea as a straight nitrogen fertilizer for the market. However, while the Company expects this to be a main product in future years, it became available only for a short period in 1979 and its sales during the period reviewed 1970/79 were minimal.

57. The Company also markets a number of other products such as ammonium sulphate and non-fertilizer products such as sulphuric acid and liquid Co₂ but these are insignificant as a proportion of total sales.

58. NET’s sales performance in the period has been impressive with annual sales increasing from £6.4 million in 1970 to £59.7 million in 1979. Taking account of product mix and price increases over the years this represents in real terms an increase of approximately 9% p.a. on average. With the general uncompetitiveness of C.C.F.’s the passing years have seen a downturn in the importance of this product as a major revenue earner for the Company and the emergence of calcium ammonium nitrate (C.A.N.), as NET’s principal product range, increasing as a percentage of total sales from 45% in 1971 to 62% in 1979.

Profitability—1970/1979

59. The 1970s have been difficult years for the Company. Sales growth has not been matched by growth in profitability. The period 1970/79 has seen a significant decline in its fortunes and the Company is now fighting for its very survival.

60. Even in its early years the Company was a marginal operator, its highest return on capital employed being 8.7% in 1969¹³ while in other years it was more or less minimal. The Company has been loss-making as far back as 1970 when a loss of £82,500 was recorded and in the intervening period has suffered losses in all years except 1971 and 1973.

61. The Committee found that while the Company’s early performance had been poor it took a significant turn for the worse in the wake of the oil/energy crisis of 1973/74 from which it has never recovered, amassing losses of £23.6m during the period to 1979. Judged by normal commercial standards the Company’s performance has been disastrous, resulting in the continuous and complete erosion of the Company’s capital base which, if it had been operating in the private sector, would have led ultimately to its financial collapse in the absence of a massive injection of capital.

62. Trading profits during these years, even before depreciation and interest, have been totally inadequate to meet the needs of the business in terms of rewarding investment, servicing borrowings and funding the Company’s requirements for working capital and fixed assets. Information relating to the Company’s performance is set out in Appendix 2. The net return on capital employed for the five years 1975-79 is as follows:¹⁴

63. Arising from information supplied by the Company the following points emerge:—

(i)The Company’s compound fertilizer (C.C.F.) operations have been losing money on an increasing scale since 1975, suffering cash losses of £8.2m in the period to 1979 before any charge for depreciation. Losses continued on an increasing scale into 1980 although the precise figure is not yet known.

(ii)The Company’s main product C.A.N. has also been unprofitable since 1976 but to a much lesser degree except for 1979 when the operation suffered exceptionally high losses. Accumulated cash losses for the period 1976 to 1979 amounted to £5.4m. This activity continued to be unprofitable in 1980 but on a significantly lower scale than 1979.

64. The downturn in the Company’s profitability has been attributed by the Company,¹⁵ in the main, to the energy crisis of 1973/74 which resulted in significant increases in feedstock and energy costs not matched by a corresponding increase in world product prices which were determined in large measures by producers using cheap natural gas as feedstock. NET had to rely on expensive heavy fuel oil as feedstock for its ammonia. Also world prices of phosphate rock which was used in its C.C.F. plant trebled around that time. Thus, the Company was caught with rising feedstock costs, greater world availability of supply and a slow down in the growth in market demand and prices, due to world trade recession.

65. Following the energy crisis of 1973/74 the Company concluded that it could not regain profitability until the Marino Point complex became fully operational and that there were two main options open to it,

(a)A policy of retrenchment directed to cutting out its main loss-making activity, namely compound fertilizer production,¹⁶

(b)A policy of expansion directed to spreading existing overheads over a higher volume of production thereby reducing product unit costs.¹⁷

66. The Company found the former course of action unpalatable since it was considered that shutting down the C.C.F. plant would not have resulted in a significant reduction in overheads unless a major reduction in manpower was made. This action would have affected not only the C.C.F. plant but also upstream activities such as the sulphuric acid plant, the pyrites roaster plant, the phosphoric acid plant and downstream activity involving Arklow Gypsum which was then in the course of construction and was being developed specifically to manufacture plaster and plasterboard from waste gypsum which was a by-product of the phosphoric acid plant.

67. The Company estimated that the reduction in manpower would have been 600 out of a total of 1,100 on the Arklow site.¹⁸ In addition, the viability of Avoca Mines from which the Company purchased pyrites would have been seriously affected.

68. The Company also contended that an important consideration in its adoption of an expansionist policy was protection of market share since ⅓ of the total output of Marino Point (which was in construction at the time) by way of ammonia was to be used for conversion to C.A.N. at Arklow.¹⁹ NET had expected that Marino Point would come on-stream earlier and at a lower cost than was finally the case. From 1974 onwards¹⁸ Marino Point was seen by the Board and management as providing the necessary strengthening of the Company’s base and the means whereby they could sustain the C.C.F. operation.

69. Thus NET embarked on a policy of trading through this unprofitable period until Marino Point came on-stream while absorbing substantial losses through additional borrowings.

70. In the event, the Committee found that attempts to expand production significantly and quickly in both the C.C.F. and C.A.N. plants failed to meet with success due to on-going technical and plant operational problems, leaving the Company in an increasingly weakened position as outlined earlier.

71. While the Committee recognises that preservation of employment was an important factor in determining the Company’s policy in relation to compound fertilizers, nevertheless, it is of the opinion that this policy was tenable only in the short term since the Company did not possess the financial strength to sustain these losses for any length of time. In the face of increasing competition, continuing technical and plant operational problems and mounting losses this policy was no longer appropriate and corrective action should have been taken to preserve the Company’s asset base and ensure its financial stability.

72. In arriving at its conclusion the Committee has taken consideration of the following facts,²⁰

—The C.C.F. market suffered a serious decline in the post energy crisis period and did not recover until 1978.

—C.C.F. products were becoming increasingly uncompetitive in relation to cheaper blended products.

—While the C.C.F. plant always covered its direct production costs, in most years it made very little contribution to fixed overheads.

—From 1978 onwards it should have been clear that there was a serious risk that the Marino Point plant would have been incapable of generating sufficient profits when it came on-stream to sustain the loss-making C.C.F. operation.

—While preservation of employment is considered a worth-while and laudable objective nevertheless it is subservient to the need to generate sufficient profits to ensure the Company’s financial stability and its survival.

—The resultant loss of revenue in diverting ammonia from use as a feedstock for C.C.F. manufacture to sale on world markets is estimated to be of the order of £0.5m.

Current Trading Position

73. The Committee has been advised that the trading position in 1980 has worsened significantly. Original estimates submitted to the Department of Industry, Commerce & Tourism in November 1979 projected a loss of £13.2m in 1980 and £8.5m in 1981.²¹ Based on a revised evaluation of trading the Company advised the Committee in June 1980 that its expectations were seriously out of line with the previous estimates and that the expected loss for 1980 was then £31m. It was also expected that the Company would continue to make losses up to the mid-1980s at least, varying between £16m and £14m per annum in the absence of any capital injection by the State.

74. The difference between November 1979 and June 1980 estimates is attributed to a number of factors including,

(a)The write-off of the Company’s investment in Arklow Gypsum which amounted to £6.6m in 1980²² and was not provided for in the November 1979 projections at which time its ultimate viability had not been evaluated.

(b)The loss of production arising from a demarcation dispute in March/May 1980 at Marino Point which cost the Company £5m approximately.

(c)Re-assessment of financing charges in the light of continuing high interest rates—£3.5m.

(d)A reduction in the anticipated output at Marino Point in the light of experience—£2m.

75. In the face of these very serious and mounting losses the Board has advised the Committee that it has initiated a programme of action directed to,

(a)identifying the precise nature and extent of its loss-making activities and expectations for the future,

(b)improving productivity and efficiency of the Company’s operations immediately,

(c)assessing the future profitability of the Company in its re-organized form and the amount of permanent capital required to put it on a sound footing.

76. A number of decisions have now been taken and are being implemented which will have a direct effect on profitability,

—The Board has concluded that its recently commissioned Arklow Gypsum plant is not viable. Initial steps to dispose of the Company’s interest and to preserve employment did not meet with success and NET decided to close down this operation. The anticipated loss of £6.6m, which will be reflected in the 1980 results, will be in addition to the £3.4m already written-off in 1979. Job losses will amount to 132.²³

—C.C.F. production which has been loss-making on an increasing scale since 1973/74 is to be discontinued in April 1981. Losses in 1979 were £3m and are expected to be higher in 1980. The shut down of this operation, which is not even covering its direct costs now, will save the Company in excess of £3m. There will be further job losses of 223.

—Productivity is considered extremely low and there is scope for substantial savings. According to NET, output per employee at £28,000 p.a. compares with £42,000 p.a. for UK fertilizer manufacturers.²⁴ The Company is currently engaged in an examination of its operations to determine the extent of overmanning and a saving in excess of £1m could be reasonably expected. A further loss of 120 jobs is expected.

—The current imbalance in the price of C.A.N. and urea, in favour of urea, needs to be corrected. This would give rise to further revenue in the order of £1 million in 1981 rising to £1.9 million in 1984 through increased tonnage sold on the home market in the period. Furthermore, the Company contends that a further £3.5m in price awards has not been applied in the market place and that it is the Company’s intention to clawback as much of this as possible over the next three years.

77. Thus, by this action, belated though it is, the Company is attempting to regain control of its operations. It is entirely regrettable that this will result in substantial loss of employment (total 475 jobs) but the Committee cannot see how this can be avoided as both the C.C.F. and Arklow Gypsum plants are totally uneconomic and are incapable of being sustained by the Company’s remaining operations.

78. In a submission to the Committee in June 1980, NET contended that, assuming a minimum injection of £50m capital in 1981/82 and the implementation of the foregoing actions, the Company was capable of returning to profitability by 1985. The following table summarises its expectations. The projections do not make any provision for currency losses.

79. The most recent information received by the Committee shows, however, that this is not now attainable and losses for 1980 are expected to be significantly higher than those projected last June. When foreign currency revaluation is taken into account the figure is expected to be in the region of £55m.

80. Expectations for 1981 offer little hope of significant improvement. Steps being taken to rationalise the Arklow plant activities, to improve productivity and to rectify serious technical and production problems at Marino Point are likely to absorb management time to a considerable extent in 1981, the benefits from which will only begin to accrue in the latter part of 1981. In the absence of any capital injection, losses of £30m in 1981 are being projected by the Company, before foreign currency profits/losses, if any, are taken into account.

81. High interest charges and foreign currency exposure are now major contributors to the Company’s problems accounting for £44.7m in 1980.²⁵ In this regard the Committee found that, in anticipation of Ireland’s entry into the EMS and the break with sterling, NET did in fact reduce its exposure where possible by converting loans to Irish pounds where it had an option to do so. The Committee also noted that the original loans were negotiated prior to arrangements for Ireland’s entry into the EMS. The Company advised the Committee that it was necessary to raise some of its 1980 borrowings outside the State because of Central Bank Guidelines at the time which restricted availability of Irish pounds, giving rise to further currency exchange exposure.

82. Recent estimates of future profitability submitted by NET, based on the Cork plant and other units running at full output and optimum efficiency and the successful implementation of the Company’s rationalisation programme, indicate that projected losses could be reduced to about £11m before any capital injection or provision for currency exchange risk. The Committee noting the Company’s past tendency towards over-optimism urges caution in consideration of such projections. Many imponderables, some of which are entirely outside the control of the Company, underlie this estimate,

—It is assumed that world market prices will reflect the continuous upward trend in input costs. This has not been the case in the past, even though there has been a general rise in prices during the past year.

—It is anticipated that the serious technical problems at the Marino Point plant will be tackled successfully, and that optimum rates of output will be achieved both there and at Arklow.

—No contingencies have been provided for further plant breakdowns at Arklow or possible disruption of production through industrial disputes as has occurred with serious effect in the past.

Capital Structure

83. NET was incorporated in 1961 with a capital of £100. Its initial project, the building of its Arklow fertilizer plant, was financed by a £6m repayable advance from the Central Fund under the 1963 Nítrigin Éireann Teoranta Act.

84. The period 1966 to 1970 was one of moderate growth being funded, in the main, by accumulated cash flow, though there was a small increase in borrowings of approximately £1.2m.

85. Under the Nítrigin Éireann Teoranta Act of 1970 the Company’s capital was reconstructed to put it on a more acceptable commercial basis. The authorised capital was increased to £7.5m. The issued share capital was increased to £4.7m and advances from the Central Fund reduced to £2.5m. This left the Company with a sound capital structure and a Debt: Equity Ratio of approximately 0.71:1.

86. Further moderate expansion took place in the period up to 1974 with increased investment in fixed assets of £10.9m and working capital amounting to £2.9m. Accumulated cash flow during the period was sufficient to cover working capital requirements but the Company had to resort to additional borrowings of £9m to meet its capital development programme as can be seen from Table 1. There was still capacity within the Company to sustain this level of borrowings but, due to poor profitability, fixed interest cover had declined to an unhealthy 1.7 times. Financial institutions would normally like to see a ratio of not less than four times cover.

87. In the period 1974 to 1979, NET changed radically both in character and size from being a medium sized company with assets of £20m to a major industrial complex with assets of £178m, with plants at both Arklow and Marino Point Cork. The rationale behind its development was to reduce its dependence on costly imports and to secure supplies of its basic raw material ammonia while satisfying further development in the Irish nitrogen fertilizer market through its new product urea.

88. This development has not been without cost and the Company is now in serious financial trouble with its capital base completely eroded and borrowing commitments which it is unable to meet.

89. The source of NET’s financial problems can be traced directly to the decline in its profitability arising in the post-energy crisis period of 1973/74 and weaknesses in the financing arrangements for the development of its ammonia/urea complex at Marino Point.

90. Balance Sheets relating to the years 1970, 1974, 1976, 1978 and 1979 are set out in Appendix 3. The Funding Statement shown in Table 1 below serves to highlight the main points of the Company’s investment and financing policies.

91. Following the energy crisis, in the period from 1974 to 1979 the Company has had to absorb trading cash losses of £12.9m which together with additional working capital requirements of £1.4m gave rise to additional borrowings of £14.3m. Even allowing for the element of losses attributable to Marino Point and included for 1979 this would have given rise to serious financial problems apart from those brought about by Marino Point. The Company’s original capital base would have been eroded and profits generated would have been insufficient to meet interest charges in all years except 1975.

92. Problems caused by the massive level of borrowings relating to the Marino Point project, however, have been the dominant factor in the Company’s worsening financial position. For reasons already stated this project is the subject of a separate review which comprises Part B of this Report. However, reference to it is appropriate at this point.

93. The initiation of the Marino Point project gave rise to a demand for additional capital and the Government provided £17m by way of permanent capital and State grants in 1975/76 towards the cost of financing the Marino Point development which cost £32.5m during the period. Further expansion of Arklow costing £6.7m, working capital requirements of £3.6m, trading cash losses of £0.7m and the shortfall on the Marino Point project costs gave rise to borrowing requirements of £26.5m. At that time the Company’s revised estimate of final cost was £80m and further loan capital of up to £40m was negotiated with syndicates of London and Dublin based banks in December 1976.²⁶

94. Continuing development at Marino Point in 1977/78 cost an additional £75m, additions to Arklow necessitated further expenditure of about £1.3m and NET expanded its investment in Subsidiaries by £3.1m. This was financed to the extent of £12.2m by expanding trade creditors and further borrowings of £68.7m. To meet this requirement the Company negotiated additional loans with the consortium of banks who were party to the 1976 financing agreement and rescheduled the original loans with later repayment dates due to the delay in Marino Point coming on-stream.²⁷

95. The Committee notes that by this stage the weaknesses in the Company’s financial structure were becoming exceedingly apparent. The Debt: Equity ratio had slipped from 1:1 in 1974 to 1.9:1 in 1976, 5.2:1 in 1977 and 7.8:1 in 1978. In addition, interest cover had slipped from 1.7 times in 1974 and by 1976 trading profits did not even cover interest. Bearing in mind industry norms for this type of business of a Debt: Equity ratio of not less than 1:1 and interest cover of around 4:1 the Committee questions why this situation was allowed to deteriorate to such an extent, and why it was not until 1979 that the Board deemed that costs had reached a level in excess of what the project could be expected to carry by way of borrowing.²⁸

96. Continued investment in Marino Point in 1979 cost £28.5m, working capital requirements cost £10m and trading cash losses accounted for a further £7.5m. The Government injected a further £7.1m and the balance was financed by further loans of £39m.

97. Thus by the end of 1979 ever increasing losses had almost wiped out the Company’s capital base reducing it to £8.6m including capital grants of £5m while borrowings had reached £155.9m, of which approximately 56% were subject to foreign currency exposure and £30m was in the form of short term borrowings.²⁹

98. The situation has deteriorated further during 1980 when, the Committee understands, the Company had to resort to further short term borrowings to meet cash losses from trading and loan repayment commitments. In addition, currency exchange losses gave rise to a revaluation of foreign loans and by 31st December the Company’s borrowings had risen to £205m, a substantial portion of which is now in the form of short term finance.²⁹

99. The Committee has been advised by NET that proposals for capital reconstruction have been submitted to the Department of Industry, Commerce and Tourism and the Company is at present awaiting the Department’s decision in regard to its proposals. It is the Committee’s understanding that the proposals contained a request for a capital injection of £80m³⁰ by way of equity. In view of the deterioration in the borrowings position since early July when application was made to the Department of Industry, Commerce and Tourism it would appear that a substantially higher figure may now be required to establish an appropriate Debt: Equity ratio and provide sufficient permanent capital to make the Company viable.

Conclusions

100. Judged by purely financial considerations NET’s performance since it was founded has been totally unsatisfactory making cash losses of approximately £7.4m and total losses after depreciation of £24m in the period to 31 December 1979. In addition, in 1980 it is estimated that the Company’s losses will amount to about £55m. Several factors have influenced the situation as follows:

(i)Declining margins in the post-energy crisis period since 1973/74. In the period to date, significant increases in feedstock and energy costs have not been matched by product price increases.

(ii)Substantial losses have been incurred on the Company’s compound fertilizer operation.

(iii)Comparisons with the UK fertilizer industry indicate very low levels of productivity and overmanning.

(iv) The financing of the Marino Point plant and continuing losses at Arklow have given rise to substantial borrowings and the Company’s capital structure is seriously out of line with normal requirements. Interest charges relating to these borrowings have undermined seriously the Company’s potential profitability.

(v)A substantial portion of the Company’s borrowings are in sterling and US dollars and the strengthening of these currencies relative to the Irish pound has resulted in substantial foreign currency losses.

101. The Company has argued forcefully that the main source of its problems is the current imbalance in its capital structure which on the one hand gives rise to substantial interest charges with consequent effect on profitability and on the other hand makes an inordinate demand on cash resources to meet loan repayments as they become due. Central to the problem has been the substantial escalation in cost of the Marino Point project which was originally budgeted to cost £63.51m but eventually cost £137.3m and which was financed mainly by borrowings.

102. The continuing decline in the Company’s situation is of serious concern to the Committee. It is clear that under its present structure the Company’s activities are totally uneconomic and it is incapable of meeting its loan commitments. Expected cash losses, loan repayments and working capital requirements cannot be met without further injections of cash either by way of permanent capital or increased borrowings. The Committee is of the opinion that further borrowings should not be resorted to since they serve only to aggravate the situation further through increased interest charges and foreign exchange risk which the Company does not have the capacity to service.

103. The Company maintains that continued support by the Government can be justified on purely economic grounds and has submitted to the Committee its strategy for survival, the successful implementation of which, the Company argues, would enable NET to break even in 1984/85 although it would be approximately ten years before NET could see a real return on the Government’s investment.³¹ The principal elements of this strategy are set out below and are considered by the Committee in the remainder of this Section,

104. The Committee views the Company’s decision to shut down the uneconomic compound fertilizer operation at Arklow as a necessary, albeit very regrettable, first step in NET regaining control over its operations and costs. There was clearly no possibility of this activity being sustained by any of the Company’s other operations.

105. The Committee welcomes steps now being taken to improve overall productivity in the Company’s operations and questions why overall standards were allowed to deteriorate in the first instance.

106. Stabilisation of plant output at optimum levels is seen as a major objective and one of the key factors in any assessment of the Company’s future profitability. Both the Arklow and Cork plants are at present suffering from technical and operational problems which will need to be resolved if the Company is to achieve the output levels envisaged in its latest projections.

107. NET has advised the Committee that opportunities exist to increase revenue through adjustment of selling prices. Specifically it is proposed to correct the imbalance in the price of C.A.N. and urea which currently favours urea and also to clawback £3.5m in prices that have already been approved by the Prices Commission but have not yet been applied on the home market.³³ However, the Company has previously made the point strongly to the Committee that home market prices are in fact controlled by overseas competitors and also that the relative price advantage of urea in relation to C.A.N. is an important factor in the potential popularity of urea. The Committee questions, therefore, what factors have changed to allow this strategy to be adopted now.

108. The Committee believes that the single most important question to be considered now is the future viability or otherwise of NET and the advisability or otherwise of further Government investment in this loss-making company. The Committee accepts that NET is perfectly right to make projections and to give its best estimates of the various inputs into these projections. However, it is vitally important that these estimates can be relied on with confidence. In the Committee’s view this has not been the case in the past.

109. The Committee is deeply concerned about the margin of error that is possible since, if the projections are incorrect, the additional funds required will be insufficient to meet the Company’s needs. The Committee recommends therefore that careful consideration be given to each assumption that is made, when evaluating the Company’s request for additional funds. Accordingly, the Committee has focused on the key factors to be taken into account when arriving at a decision, viz.

A.Two factors of crucial importance in NET’s projections are the envisaged growth in the Irish nitrogen fertilizer market and the Company’s total dependence on its new product urea to fill this growth in demand in the future since C.A.N. sales potential is limited to existing capacities.

The Committee considers that it is not unreasonable to place a fairly high degree of confidence in NET’s ability to forecast future overall market growth in view of its past success in this area. However, the Committee considers (as stated in paragraphs 21 to 27 dealing with the domestic market) that it would be prudent to take account of the possibility of a slower growth rate for urea in the Irish market than has been projected as it is still a relatively new product to the Irish market and will require further technical advisory support. It is quite possible that the farmer will continue to look to C.A.N., in part or in total, for growth in his future nitrogen requirements and may resort to imports in the event of NET being unable to supply his needs. It will be necessary therefore for NET to develop an alternative strategy to meet this possible threat.

B.The successful implementation of the Company’s proposed rationalisation programme will depend to a large extent on the goodwill and co-operation of all NET trade unions and employees at both Marino Point and Arklow and will, therefore, require considerable industrial relations expertise on the part of the Company.

The Committee is acutely aware of the grave hardships to employees who have lost or who will lose their jobs and in this regard noted the following extract from the NET Board Resolution of 5 February 1981:—

“The Board has also undertaken to give sympathetic consideration to the provision of alternative employment to displaced workers in any activity which can be determined as viable. To this end, the services of all appropriate Government Agencies will be fully utilised. Furthermore, the question of the utilisation of any redundant equipment for other viable commercial operations will be fully and expeditiously examined.”

C.The levels of output and efficiency that can be achieved and maintained at the Arklow and Marino Point plants are key factors in the Company’s profitability. Due consideration must be given to development of an appropriate industrial relations strategy. Exisiting technical and operational problems at both plants need to be carefully evaluated.

D.The following guidelines should be borne in mind when considering the level of funds to be introduced by way of equity:—

(a)The amount introduced should be sufficient to restore the balance in the Company’s Capital Structure. A Debt: Equity relationship of not less than 1:1 would be a normal banking requirement for this type of industry.

(b)The reduction in interest charges should be such as will allow an adequate build up of cash flow to meet the Company’s loan repayment commitments.

(c)Where possible, capital introduced should be applied in reduction of borrowing subject to exposure to foreign exchange risk.

E.The projections should contain a margin sufficient to allow for slippage in achievement of any of the key factors listed above.

110. The Committee considers that the task facing the Company in its attempt to restore profitability and achieve an appropriate capital structure is substantial. Initiatives to rationalise the Company’s loss-making activities combined with a substantial injection of equity may not be sufficient to resolve the Company’s present difficulties. The Committee recognises that the very large sum of capital required would have a substantial impact on the Public Capital Programme. The Committee recommends therefore that, before any major injection of capital is provided, an independent study be undertaken to quantify the risks involved, to assess the Company’s potential for success in achieving its targets and to establish if NET has the necessary management resources to carry its plans through. This study should be undertaken as a matter of priority.

A.IV SUBSIDIARY AND ASSOCIATED COMPANIES

111. In addition to its investment in the plants at Arklow and Marino Point, NET has investments in two subsidiary and two associated companies.

112. Details of the financial structure and the trading performance of these companies were treated on a confidential basis by the Committee at the request of NET as disclosure was considered prejudicial to the interests of these companies.

Arklow Gypsum Ltd.

113. The purpose of this investment was to use chemical gypsum, a waste product of the phosphoric acid plant at Arklow, as a raw material for the manufacture of plaster and plasterboard for profitable sale on home markets. Prior to this the chemical gypsum was dispersed at sea by pipeline.

114. The company is a wholly owned subsidiary with an issued share capital of £100 fully paid up. It was financed, in the main, by a permanent convertible loan and advances from NET of £500,000 and £5,830,000 respectively at 31 December 1979, as can be seen from the following table:

115. Significant problems were experienced by the Company in commissioning this plant and for accounting purposes it was not deemed to have commenced trading until 1979. Its performance since has been highly unprofitable, making a loss of £2.1m in its first year. This amount together with preliminary expenses £3,555 and one-third of pre-trading expenses £1.3m making a total of £3.4m, has been written-off the amount owing to NET as already indicated.

116. As with fertilizers, the Company has stated that it has been unable to match product price increases with rising costs. A detailed review of the Company’s operations undertaken in 1980 by the Board showed no prospect of a return to profitability but rather continuing substantial losses and accordingly it was decided to shut down this plant at a total cost to the Company in the region of £9m.

117. Written and oral evidence received from NET and representatives of the workforce involved in this project from the subject matter of Part C of this Report. That Part also includes the Committee’s analysis and conclusions in relation to this project.

Joe Sefton Ltd.

118. Joe Sefton Ltd. is described by NET as the Company’s marketing arm in the North of Ireland. The Company uses it for strategic purposes in marketing its products both in Ireland and the UK and it employs three people.³⁵

119. It is a private wholly owned subsidiary of NET with a Share Capital of £15,000 fully paid up which was purchased by NET at a total cost of £98,530.

120. The company has no formal loans and draws the bulk of its working capital from NET.

121. After making profits in 1976 and 1977 the company has been unprofitable for 1978 and 1979. However, lack of product due to the prolonged strike at Arklow in 1978 was the reason attributed by NET for the loss in that year since Joe Sefton Ltd. had to purchase product from other sources to honour its commitments. The company showed a substantial recovery in 1979 with a very small loss for that year.

NET—Ketjen Company Ltd.

122. Up to 1979, when NET’s ammonia plant at Arklow was shut down, the gasification of fuel oil to make hydrogen for ammonia manufacture produced highly activated carbon as a by-product. Originally, this presented problems of waste disposal. However, NET entered into a joint venture with AKZO of Holland who had developed a process for recovering this material and a plant was commissioned in 1972. With the closure of the ammonia production unit the company is continuing in business by importing the slurry from Finland and processing it at Arklow.

123. After mixed results in the early years with accumulated losses forward to 1975, the company has made consistent profits over the past four years and is making a very satisfactory return on capital employed. NET holds 49% of the issued share capital.

Irish Plastic Packaging Ltd.

124. NET holds a 20% interest in the ordinary share capital of this company and a further 19% of the preference share capital, the purpose of the investment being to ensure an adequate and reliable supply of plastic bags.

125. The company is in a very healthy state and has performed well in the six years reviewed by the Committee up to 1979 with exceptional results in that year. During this period the company has pursued a very conservative dividend policy and ploughed back a substantial portion of its profits into the company.

A.V MANUFACTURING FACILITIES—ARKLOW

126. The Arklow Complex includes a multiplicity of plants, some small, including four nitric acid plants, an ammonium sulphate plant, two ammonium nitrate plants, a small phosphoric acid plant etc. It also includes a relatively small sulphuric acid plant based on pyrites, and a number of by-product plants with an apparently marginal profitability. In simple terms the ammonia was used for the production of ammonium nitrate, ammonium sulphate and nitric acid. The sulphuric acid was used for the production of ammonium sulphate and of phosphoric acid, which was employed for the production of the compound fertilizers.

127. The history of the complex was one of continuing growth by the addition of relatively small plants as the reaction to market growth. Briefly, the first plants for the production of 39,000 tons per annum of ammonia, 70,000 tons per annum of sulphuric acid from sulphur, 33,000 tons per annum of nitric acid, 65,000 tons per annum of 26% calcium ammonium nitrate and 85,000 tons per annum of ammonium sulphate were completed in 1965. By 1967/68 a small 26 ton per day (as phosphorus equivalent) phosphoric acid plant and a 200 ton per day (66,000 tons per annum) nitric acid plant were added.

128. Subsequently, the phosphoric acid plant was expanded to 36 tons per day (phosphorus equivalent 9,000 tons per annum) and the C.A.N. plant was expanded to 130,000 tons per annum. A 300 tons per day compound fertilizer plant was added.

129. By 1973 a third nitric acid plant of 300 tons per day and an ammonium nitrate plant with nominal capacity of 250,000 tons per annum (finally converted to produce 27½% calcium ammonium nitrate because of Government policy) were built. The ammonium nitrate plant continued to give operating trouble and is a continuous source of pollution. Since its commissioning the plant was subject to a dispute between NET and the contractor. This action has now been settled.

130. A fourth nitric acid plant of 400 tons per day was added in 1976. The sulphuric acid plant was converted to use pyrites as the feedstock in 1971. The uneconomic ammonia plant was shut down in March 1980 and the complex now relies on ammonia from the Marino Point site.

131. In addition to consisting of a multiplicity of relatively small production units the Arklow site is subject to draught limitations for shipping which effectively limit the size of deliveries of ammonia, fuel oil and other raw materials. The Committee understands that the choice of Arklow as the site for fertilizer production was dictated by its relative proximity to market centres and source of pyrites for sulphuric acid manufacture.

A.VI ORGANIZATION, STRUCTURE AND CONTROL

Corporate Objective

132. The Company’s main objective as set out in clause 3 of its Memorandum of Association was to acquire, erect and operate a nitrogenous fertilizer factory or factories in Ireland.

133. In the Explanatory Memorandum to the Nítrigin Éireann Teoranta Bill 1962 it was stated that the Company could make nitrogenous fertilizers available without subsidisation or protection at prices at least as favourable as the prevailing import prices, to ensure guaranteed supplies to meet Irish farmers’ requirements of nitrogenous fertilizers. NET states that there has been no change in this overall corporate objective since the Company was established.

Board of Directors

134. Responsibility for the overall conduct of the Company’s affairs rests with a Board of 12 Directors, 8 of whom are appointed by the Minister for Industry, Commerce and Tourism after consultation with the Minister for Finance. Four of the Directors are elected by and from the staff of NET (and appointed) in accordance with the provisions of the Worker Participation (State Enterprises) Act 1977. One Director is appointed Chairman of the Board by the Minister for Industry, Commerce and Tourism after consultation with the Minister for Finance. The Company’s Managing Director (or Chief Executive) is a member of the Board.

135. In the case of Worker Directors, elections must be held every three years. Other Directors are subject to retirement by rotation and are eligible for re-appointment. The Managing Director is not subject to retirement by rotation.

136. The main duties and responsibilities of the Board are stated by the Company to be as follows:

(i)Furnish yearly to the Minister, as soon as may be after the end of each accounting year, a Balance Sheet, Profit and Loss Account and Report of the Directors to the Shareholder.

(ii)Appoint (with the consent of the Minister for Industry, Commerce and Tourism and of the Minister for Finance) the Managing Director and direct him and through him the management on general Company policies, by interpreting Government policies in relation to the Company. The Board delegates to the Managing Director the day-to-day execution of these policies and strategies.

(iii)Measure Company results and performance against budgets and general Company policies.

(iv)Ensure good reporting systems to direct and control business of the Company.

(v)Exercise overall (as distinct from detailed) financial control, e.g. final approval of major expenditures, setting of priorities for expenditure.

(vi)Ensure sufficient capital resources for the operation and development of the Company.

(vii)Ensure that legal and statutory requirements are met and ensure compliance with the Memorandum and Articles of Association of the Company.

137. The Board meets monthly but in certain circumstances Board meetings can be summoned in the interim to deal with special business.

138. In regard to the Board’s relationship with Government Departments, under the Nítrigin Éireann Teoranta Act 1963, the Board reports to the Minister for Industry, Commerce and Tourism. Accounts and Reports of the Directors to the Shareholder must be furnished to the Minister and laid before each House of the Oireachtas. In addition, the Company shall, if so required by the Minister, furnish to him such information as he may require in respect of any Balance Sheet, Profit & Loss Account or Report of the Company, or in relation to the policy and operations of the Company. The Board does not have any formal relationship with any other Government Department and all enquiries from such Departments are channelled through the Department of Industry, Commerce and Tourism. The Comptroller and Auditor General acts as the Company’s auditor.

139. Board policy is communicated to senior management along the following lines. Senior management attend Board meetings as required. The practice has been to circulate copies of the Minutes to senior management for any action required. It is now proposed to alter this practice and circulate Minutes to Board members only. The Managing Director would in future assume responsibility for ensuring that Board decisions and policy are communicated to senior management.

Executive Management Structure

140. Responsibility for the day-to-day management of the Company is delegated to the Managing Director to whom the General Manager reports directly. Reporting to the latter in turn are seven function heads as follows: Assistant General Manager, Technical; Assistant General Manager, Development; Assistant General Manager, Commercial; Assistant General Manager, Sales; Assistant General Manager, Finance; Assistant General Manager, Personnel and the Company Secretary.

Planning Activities

141. The Company prepares ‘annually’ a comprehensive plan covering sales, production, manpower and capital and financial requirements in line with its overall strategy. This is finalised in an annual operational budget prepared by the Financial Division.

142. In addition, the Company has two computerised financial models covering five and ten year periods which are used to examine the effects of various strategies in relation to sales, product mix, production capacity, and methods of finance. Individual managers supply information for the overall planning assessments and are also involved in planning their own departmental and divisional requirements. The information developed in these planning studies is generally presented to the Management Committee by either the Assistant General Manager, Finance or the Assistant General Manager, Development in assessing the individual strategies to be pursued and the course of action to be adopted.

OPERATIONS

Communications

143. The Company’s communications system commences with the attendance of senior management as required at monthly Board meetings at which management present regular monthly reports on finance, production and sales, as well as detailed reports on issues affecting Company policy.

144. The Company is managed by the Management Committee, consisting of the Managing Director, General Manager and Assistant General Managers. The Management Committee meets regularly, at least fortnightly but more often as required, and minutes of the management meetings and decisions are recorded and circulated. Sub-committees of management examine special areas of day-to-day management, for example personnel, costs, budgetary control. Recommendations for decisions are referred by the sub-committees to the Management Committee. Management decisions for action evolve through the Assistant General Managers to Factory Managers and analogous grades to departmental manager level. Communication meetings at this level are held regularly and minutes are recorded and circulated. Each Department manager is reponsible for control of the activities that the Company assign to him and a monthly report of his department’s activities is made to the Management Committee.

145. The Committee understands that recently this management structure has been under review.

Controlling Process

146. The basis for controlling the operations of the Company is the annual budget which is set to cover all aspects of the Company’s business, including forecasts in relation to volume of production, sales, quantities and costs of raw materials, intermediate products and other capital expenditure. Budgets are prepared setting out the expected outgoings on additions to and replacements of fixed assets.

147. A standard costing system is in operation and accounts are prepared monthly to analyse performance against budget and to provide a systematic and continuous feedback of actual performance. Variances from the budget are analysed and reported on and corrective action is decided on where necessary. These accounts are reported monthly to the Board and management to provide assessment of performance against targets set down in the budget.

Conclusions

148. The Committee concluded that while individual strategic planning exercises are carried out on an ongoing basis by individual departmental heads, overall long term corporate policy and expectations in relation to the Company, its field of business activity, financial and growth objectives have not been clearly defined in a policy document such as a corporate plan formally approved by the Board of Directors in the past.

149. In addition, there appears to have been some serious lack of dimension in the overall planning expertise within the Company which has given rise to continuing and substantial differences in projected costs and profitability, over short time intervals. Projections appear to be based on the most optimistic view without proper allowance for contingencies which might arise.

150. In the light of the Company’s performance to date and the task immediately facing it, there may be need for a more formal approach to formulation of long term corporate policy within the Company and the development of a planning process which will act as a framework within which current investment decisions and strategies can be evaluated and actual performance measured in relation to long term objectives and strategies.

151. It would be difficult to avoid the conclusion that serious deficiencies existed in the overall control and central direction of the Company’s operations.

PART B—MARINO POINT PROJECT

B.I INTRODUCTION

152. Over the years as the demand for nitrogenous fertilizer grew, it eventually surpassed NET’s capacity at Arklow for producing ammonia. Thereafter the balance of ammonia needs was imported. By 1972, when the amount of imported ammonia had become substantial, and looked like continuing so, NET perceived problems with a policy of continuing and increasing ammonia imports. It was becoming more difficult to locate sufficient supplies for their growing needs, prices were rising and moreover there was a limit to the size of ship that could be handled in Arklow port. These problems made the future security of supplies for the Arklow plant uncertain, and as a consequence NET commenced an investigation of the possibilities of producing additional ammonia. The investigation examined three possible feedstocks, namely: naphtha, fuel oil, and natural gas, and included possible plant locations other than Arklow.

153. The discovery of natural gas off Kinsale, notified to the NET Board in September 1973, settled the questions of feedstock and location. The allocation to NET by the Government in January 1974, of 52 million cubic feet per day of natural gas settled the plant size, namely 1,350 tons per day of ammonia output.³⁶

154. Thereafter job specifications were prepared and issued to three selected bidders, tenders were received and evaluated, and a report on the project prepared and issued to the NET Board in November 1974. This report put the total capital cost of the project at £63.51 million, recommended proceeding with the project, and the appointment of Kellogg as main contractors. On the basis of that Report, NET Board on 2 December 1974 gave approvals to proceed with the project, and to appoint Kellogg as main contractors, all subject to satisfactory financial arrangements being made.

155. On 12 December 1974, NET authorised Kellogg to commence work on the project by means of a Letter of Intent. The scheduled period for completion was agreed with Kellogg as 36 months from 1 January 1975. Thus, the agreed completion date was 1 January 1978.

156. Thereafter, the plant was constructed and completed. Ammonia was first produced in May 1979 and urea in September 1979. The delay in completing construction amounted to 15 months over the original schedule. The final capital cost was put at £137.3 million, amounting to £74 million above the figure approved by the NET Board in December 1974.

157. To date, 1st April, 1981, the ammonia plant has met most but not all of the performance guarantees specified in the contract job specification. In addition, tube failures have occurred in the reformer furnace and in the Benfield reboiler. The Committee understands that the cause and treatment of these failures are under investigation at present and repairs are planned for completion during the next scheduled shutdown in the autumn of 1981. Hence the ammonia plant has not yet been formally accepted by NET under the contract, and the performance penalties (liquidated damages) and the bank guarantees, held in lieu of retention monies, in relation to that part of the plant remain in force. The Company formally accepted the urea plant, under the contract, in March, 1981.

B.II CAPITAL COST ESTIMATES AND APPROVALS

158. In this Section the Committee deals with the whole matter of the various capital cost estimates for the project, their validity, their use in obtaining Government approval and in the securing of Government investment in the project. These matters are examined in detail because this was an important area, and one that received much public comment. Consequently, the Committee spent a considerable amount of time and effort in order to establish correctly the events that occurred, their relationship and their sequence. So as to facilitate the understanding of these matters and as a reference to support the conclusions drawn by the Committee, a historical resumé of the relevant events is contained in the following pages, with comments as appropriate.

Historical Resumé

159. [18.5.1972] The earliest reference to ammonia and urea manufacturing projects contained in the information submitted to the Committee is to a Development Programme prepared by NET. This listed eight potential projects which were currently under investigation by NET, “to establish in each case if it satisfies the three criteria—commercial, financial and technical feasibility”. This list included, inter alia, projects for the manufacture of ammonia and for the manufacture of urea.

160. [21.2.1973] Meeting was held by NET management with representatives of Industry and Commerce and of Finance,³⁷ with the purpose, according to NET, “to ascertain if there was agreement in principle to a Capital Development Programme for NET, and, if so, to discuss ways and means of making equity capital available from State funds …”. It was noted that “the ammonia project was central to the whole programme”. NET made their case for an ammonia project on the basis that their ammonia requirements were growing, that they were currently importing substantial quantities of it, that their import requirements would increase, that problems were anticipated in the availability of imported supplies and that the port of Arklow had physical limitations in its ability to handle the quantities anticipated. Urea was seen as a downstream new product development from an ammonia plant. The capital investment needed for the ammonia project which was “originally estimated at £6 million might have risen to £10 million by the time the final scheme will have been developed”. The meeting recognised Finance’s view that the Capital Development Programme would have to go to the Government and noted Finance’s criteria for the investment of equity capital by the State. NET agreed to put in hands immediately the preparation of a new presentation of the whole Development Programme which would provide for the issue of equity capital, and which the NET Board would submit to the Minister for Industry and Commerce.

161. [13.4.1973] NET’s submission for additional equity capital to finance its Capital Development Programme was sent to Industry and Commerce and to Finance. The main item in the programme was an ammonia plant with a capacity of 600 tons per day estimated to cost between £11 million and £15 million, or alternatively an ammonia plant of 900 tons per day capacity plus a urea plant of 500 tons per day capacity estimated to cost together between £14 million and £18 million. The programme also listed projects for: wallboard, urea formaldehyde, liquid nitrogen and formic acid, with a total capital cost of over £5 million for these latter items.

NET’s proposal was for an immediate subscription by the Minister for Finance of £2.14 million (to bring the issued share capital up to the then authorised limit of £7.5 million) followed by an increase in both authorised and issued share capital to £25 million requiring a further subscription of £17.5 million by the Minister for Finance.

The submission noted that investigations, both technical and economic which had been put in hands, had not yet reached a stage where formal tenders could be invited, and that the capital costs could only be established after obtaining competitive tenders. It stated that the capital costs could be of the order given above. It also noted that the capital costs would vary with selection of raw material, i.e. fuel oil, naphtha or natural gas.

Comment: The above submission was short (8 pages), related to proposed developments at Arklow, contained no information on cash flow or profitability, no economic or technical justification, and no other detail of the source of the estimate of capital costs other than that which is given above. It stated NET’s equity requirements as they themselves perceived them.

However, it served as the initiation of NET’s endeavour to negotiate with the Government Departments concerned and ultimately with the Government through its Departments and Agencies, a financial package which would include State equity for the proposed ammonia/urea projects. The subsequent negotiations lasted almost two years with many meetings and submissions and culminated in the Government decisions of 26.11.1974 and 6.1.1975 to support the project.

For conciseness, only the relevant submissions and meetings are referred to in the following paragraphs.

162. [September 1973] The discovery of natural gas off the Irish coast by Marathon was notified to NET.

Comment: This news settled the choice of feedstock (natural gas) and the choice of location (Cork).

163. [September 1973] NET Management Report (September 1973) issued. This Report proposed a 900 ton per day ammonia plant and a 500 ton per day urea plant to be located at either Arklow or Whitegate and put forward two feedstock options, namely naphtha and fuel oil. The capital cost (including working capital) based on naphtha as feedstock was estimated at £18.25 million and on fuel oil at £25.4/£26.4 million. These estimates were based on prices obtained from four potential contractors.

Comment: This Report had already been overtaken by events by the time it was issued. The discovery of natural gas off Cork gave rise to a number of basic changes in the project under consideration. The location was confirmed as Cork, thus requiring additional expenditure on site acquisition, site development and infrastructural development. The feedstock was confirmed as natural gas with the consequent dependence of operating costs and profitability on the cost of the gas, and with, in addition, some changes in technology. Thus, the economic and technical data contained in the September 1973 Management Report were no longer fully applicable.

164. [November 1973] Following consideration of the September 1973 Management Report, and in the knowledge that the discovery of natural gas would affect feedstock, location and economics, NET Board gave approval to management to proceed with the investigations on the ammonia/urea project so that tenders could be invited at the appropriate stage.

Comment: This approval was for study and design only, and stopped short of capital expenditure or contract placement.

165. [29.1.1974] Government allocated 40% of the then output of Kinsale Head field to NET. This was sufficient for a 1,350 ton/day ammonia plant.

166. [7.3.1974] Management Note (2 pages) to NET Board updated the September 1973 Report consequent to the discovery of natural gas. This proposed an ammonia/urea plant of increased capacity namely 1,350 tons/day ammonia and 1,000 tons/day urea, based on natural gas as feedstock and located in Cork. Capital cost, based on figures from the selected bidders, was estimated at £31 million (excluding inflation and contingencies) plus £3 million for NET working capital, totalling £34 million. The estimate included amounts for site purchase, infrastructure development and jetty construction, with urea storage and export facilities. The note stated that the estimates “should be treated with extreme caution”.

Comment: The increase in plant capacity was the result of a “decision to expand the scope of the project” arising from size of allocation of natural gas.

167. [29.3.1974] Tender documents issued to three final bidders: Kellogg, Uhde and Foster-Wheeler. Gas price negotiations commenced with Marathon.

168. [30.6.1974] Bids received from all three tenderers. Kellogg bid, dated 21.6.1974 amounted to £42.195 million as a “NON-BINDING BUDGET PRICE ESTIMATE”. This excluded contingencies, escalation, non-contract items (such as some infrastructural development), and NET’s own project costs (such as preproduction expenses, working capital, interest on capital).

169. [5.7.1974] NET submitted application (4 pages) to IDA, for grant towards project estimated at £34 million including £3 million working capital, but excluding interest. It was noted on the application “however, it is now expected that the final capital cost will be substantially greater than those figures”. Tenders were being evaluated by NET and final figures would be available “in two months time”.

Comment: This was subsequently updated by NET to a capital cost of £42 million.

170. [5.9.1974] IDA Board recommended to its Authority that Government approval be sought for grant of £5 million, subject to satisfactory financial arrangements, at a project cost of £42 million.

171. [21.10.1974] Industry and Commerce issued Memorandum to Government. Capital cost estimated at £42 million.

172. [26.11.1974] Government gave approval in principle to following proposals:

(ii)To increase facility to borrow under Ministerial guarantee from £2 million to £7 million,

Comment: This Government approval did not provide for the issue of any further equity capital by the State.

173. [November 1974] NET management report (November 1974) issued. This gave an estimate of £63.51 million as the total capital cost of the project. This was compiled from the Kellogg bid of 21.6.1974, amounting to £42.20 million for items within the contract, excluding escalation. Scope reductions brought the Kellogg figure back to £39.70 million. To this was added £1 million for an L.P.G. facility and £10.50 million to provide for escalation, thus bringing the amount for items within the contract to £51.20 million including escalation. Non-contract items, namely NET’s own project costs, pre-production expenses and interest on capital, brought the total of the estimate to £63.51 million. There were several significant factors in this estimate:

(i)The report stated “we have been unable to negotiate a firm fixed-price contract …” and “we are obliged to operate on a basis of reimbursable cost for the major proportion of the capital cost …”

(ii)Kellogg’s bid of 21.6.1974 was for a “NON-BINDING BUDGET PRICE”. The management report noted that “a definitive estimate of total project cost will be prepared [by Kellogg] six months after contract award” and “This estimate will have an accuracy of + 7% to-5%.”

(iii)The price to be paid for natural gas had not yet been agreed with Marathon, and the management report stated “… negotiations on price have now reached the point where only a narrow range separates the two sides”; and “… financial calculations show that the profitability of the Cork project is relatively insensitive to the price to be paid for this gas …”.

Comment: The cost of gas is a substantial element of total cost. The price used in the profitability calculations was 40 pence/10⁶ BTU³⁸

(ii)KIC-Kellogg International Corporation of London should be appointed as the main contractor.

This Report still left several important matters unresolved—namely, the uncertainty over the amount of the capital cost, the price to be paid for natural gas, and hence the ultimate profitability of the investment. In addition, the financial package had not yet been agreed with investors and lenders. As regards the capital cost, the definitive estimate expected within 6 months would still be a budget, and not a fixed figure since the contract was to be on a reimbursable basis.

174. [2.12.1974] The NET Board considered the Management Report; noted total capital cost of £63.51 million, and noted also the terms of the Government approval of 26.11.1974. The Board resolved:

(i)That approval be given to proceed with the Marino Point Project as set out in the Report dated November 1974.

(ii)That the contract be awarded to KIC-Kellogg International Corporation on the basis of their tender documents as amended in negotiations.

(iii)That these decisions are subject to satisfactory arrangements being made to finance the capital outgoings on the project.

In addition, it was agreed that the Company should seek immediate issue of the “£2.1 million balance of authorised share capital” and should pursue with the Government the request for a minimum equity investment of £15 million.

175. [3.12.1974] Meeting of NET with Industry and Commerce and Finance to discuss the financing of the project. According to NET’s notes on this meeting and to the evidence submitted by their former Managing Director their priority was to discuss the provision of State equity. The November 1974 Government decision to increase the authorised capital of NET, made no provision for the actual subscription of additional State capital and hence did not really help them. Their position was that the contractor, who had been standing by for some time, might terminate the validity of his tender and might disband his team if he did not get an immediate go-ahead, and that the provision of natural gas was already in train to coincide with plant completion, which was in itself dependent upon an immediate start. However, NET held that without further State equity they could not raise other borrowings, and hence they could not commence the project. Thus, according to NET, without State equity there would be no Marino Point and hence no market for the gas.

NET stated that neither EIB nor any of the other lenders would commit themselves unless State equity and Ministerial guarantees were provided. The outcome of the meeting, according to NET was agreement that “additional equity was required and that it appeared necessary to go back to the Government as an absolute priority to get approval for the equity participation …” i.e. £15 million plus approval for the issue of the balance of the previously authorised capital of £2.14 million; plus an increase in Ministerial guarantee on borrowings from £7 million to £20 million.

176. [12.12.1974] NET issued and Kellogg accepted Letter of Intent confirming the NET proposal to conclude contracts with Kellogg for the design, engineering, procurement, construction and financing of the Marino Point Project.

(i)Letter of Intent was to serve as NET’s authorization to Kellogg to commence work, including the placement of orders for plant and materials.

(iii)Scheduled completion date for plant was 36 months from 1.1.1975 i.e. 1st January 1978.

(iv)NET would make schedule of monthly payments to Kellogg amounting to £4 million approximately, against fixed amounts and in addition would reimburse Kellogg for costs incurred (i.e. payments for plant and equipment ordered) and for cancellation charges should they arise.

(v)NET reserved the right to terminate if satisfactory financial arrangements were not concluded.

Comment: This Letter of Intent committed NET to a course of action incurring outgoings, increasing substantially thereafter as time progressed.

177. [6.1.1975] Government gave approval in principle to the taking up by the Minister for Finance of £15 million share capital at £5 million per year for 1975, 1976 and 1977.

Comment: NET had now obtained, after nearly two years, agreement for most of the State equity participation which it had sought since April 1973, and could now proceed with negotiations for the balance of the financial requirements.

178. [10.2.1975] NET requested an increase in Ministerial guarantee on borrowings to £30 million.

179. [10.3.1975] Kellogg issued Initially Approved Cost (I.A.C.) amounting to £55.29 million for items within the contract including escalation.

Comment: This compares with the figure of £51.20 million for items within the contract, including escalation, used in compiling the total capital cost figure of £63.51 million as given in the November 1974 Management Report. Consequently, the total capital cost estimate of £63.51 million was out of date from the time of receipt of the I.A.C. of March 1975.

180. [9.4.1975] Meeting between NET and Industry and Commerce to discuss further the financing of the Marino Point Project. In the course of this meeting the Projected Capital Cost at £63.51 million was referred to, as having been contained in a confidential Memorandum submitted by NET to Industry and Commerce. According to NET, this Memorandum was submitted to Industry and Commerce “sometime between” 10.2.1975 and 9.4.1975.

According to Industry and Commerce’s own report of the meeting of 9.4.1975, the document was noted to have been “recently received” from NET. The first formal notification received by Industry and Commerce of the £63.51 million figure was at the meeting of 9.4.1975.

181. [28.4.1975] Finance received their first notification by minute dated 28.4.1975 that the Marino Point Project might cost £63.51 million.

182. [16.5.1975] Finance in letter to Industry and Commerce questioned why they had not previously been informed of the increase from £42 million, as submitted in Memorandum to Government of 21.10.1974, to the current level of £63.51 million.

183. [23.7.1975] Minister for Industry and Commerce informed Dáil that “the total cost of project could be as high as £63.5 million”.

184. [19.9.1975] NET notified Industry and Commerce that total capital cost of project was estimated at £71.86 million.

Comment: This estimate was compiled using Kellogg’s Initially Approved Cost of £55.29 million issued on 10.3.1975 for items within the contract.

185. [October 1975] Kellogg issued Check Estimate (Revision 1) amounting to £64.63 million for contract items.

Comment: This was the “definitive estimate” promised to be ready six months after contract award, and referred to in the NET Management Report of November 1974. It was the first estimate of capital cost for contract items built up from a detailed analysis of the specification of the scope of the work. Previous estimates, up to and including the Initially Approved Cost (I.A.C.) of 10.3.1975, contained “budget” figures for many of the cost areas.

186. [2.3.1976] NET Board noted that EIB Loan Agreement for £17.2 million was to be signed on 16.3.1976.

Comment: This was the first of the loans to be agreed and was to be followed by loans/plant credits from ECGD, NCM, and COFACE, totalling altogether £38 million including the EIB Loan. These were negotiated at various times in 1976 and 1977. The first Bank Syndicate facility for £40 million was arranged.

187. [August 1976] NET adopted Check Estimate of October 1975, with some savings due to reductions in the scope of the work for materials handling equipment. Total capital cost was estimated at £80 million.

188. [10.3.1977] Industry and Commerce notified NET of Government approval to increase Ministerial guarantee of borrowings to £85 million.

189. [4.7.1977] NET notified Industry and Commerce that estimate of total capital cost was now £87.24 million. NET suggested that an increase in Ministerial guarantee to £100 million would be more appropriate, and also requested that Minister for Finance might seek Government approval to take up the outstanding balance of the authorised but unissued capital amounting to £7.138 million (authorised share capital was £27.5 million).

Comment: The financial package excluding bank overdrafts by now arranged comprised:

190. [16.3.1978] Industry and Commerce requested information from NET on their capital requirements in 1978 as result of receiving the NET Report giving estimated total capital cost of £98.63 million.

191. [27.9.1978] NET commenced submission of quarterly reports to Industry and Commerce, with initial report for period to 30 June 1978, predicting total capital cost of £109.21 million.

192. [1978] The second Bank Syndicate facility for £22.5 million was arranged.

193. [14.3.1979] NET reported to Industry and Commerce that estimate of total capital cost was £119 million.

194. [16.4.1979] “GAS-IN” i.e. natural gas was introduced into ammonia plant. Precommissioning was completed. Commissioning was underway.

195. [May 1979] Construction work was tailing off, precommissioning of urea plant and commissioning was progressing, with adjustments and modifications being undertaken as they arose. Acceptance testing commenced.

197. [31.7.1979] NET reported to Industry and Commerce that estimate of total capital cost was £128.82 million.

199. [1979] The third and fourth Bank Syndicate facilities were arranged for £26.4 million and £17.8 million, the latter to be taken up in 1980.

200. [31.12.1979] Date adopted by NET Board as completion date for accounting purposes.

201. [30.4.1980] NET reported to Industry & Commerce, putting final figure for total capital cost at £137.148 million.

Conclusions

202. Following the study of this information, the documentation submitted and the evidence given at the hearings, the Committee has formed five conclusions which are dealt with in the following pages and which are summarised at the end of this Section of the Report.

Conclusion No. 1

203. From its inception, NET have argued strongly that if an ammonia/urea project were to go ahead it would require the investment of about £20 million of State funds, made up of equity capital of about £15 million plus an IDA grant of £5 million. They opened discussions on this matter with the Departments of Industry and Commerce and of Finance in February 1973 and have contended in evidence that no progress was made for almost two years. NET, according to their former Managing Director in his submission of 15.10.1980 and in oral evidence, perceived official policy as “that while Government Departments will approve a development programme, as they did in our case, they will strongly contend that no Exchequer finance should be involved” and “from the outset the Marino Point Project had the problem that the Department of Finance was not prepared to accept NET’s request that equity capital should be made available in respect of the capital investment which would be required.”

204. Eventually, the investment of additional State equity in NET was approved by Government in January 1975. This, again according to the evidence of NET’s former Managing Director, was after matters had been brought to a head at a “vigorous” meeting with the Departments concerned on 3.12.1974, during which NET “made it clear that [otherwise] the project would have to be abandoned”.

205. The Committee feels that a negotiating period of almost two years was long by any standards, particularly as the amounts originally requested were eventually approved. On the face of it, there would appear to be some justification in NET’s expressed frustration at the delays in approval. In an endeavour to establish reasons for the delay in the approval of State investment, the Committee examined thoroughly all of the many items of correspondence, notes and minutes of meetings, submissions and feasibility studies available to it, together with the oral evidence given. It seems to the Committee that the various estimates of the capital expenditure to be incurred, and projections of future profitability were not sufficiently supported. Therefore, the Department of Finance did not seem to have sufficient information on which to base a positive decision during the two year period concerned. The September 1973 Management Report referred to a smaller plant with different alternative feedstocks. The November 1974 Management Report (on which Board approval was based) was not apparently submitted to either Government Department in advance of Government consideration and approval of the project.

206. The Committee has formed the opinion that the submissions and feasibility studies presented to the Government Departments concerned did not provide sufficient justification for the project.

Conclusion No. 2

207. The Committee’s opinion regarding the adequacy of the earlier estimates of capital expenditure stems from the fact that the estimates in question related to smaller plants, using different feedstock, or excluded allowance for much of the necessary infrastructural expenditure, or were based on summary plant costs, on one occasion at least obtained by telephone or telex.

208. The estimate of £42 million was totally inadequate and was misleading since it excluded a whole variety of cost elements.

209. Even the estimate of £63.51 million was inadequate as it contained overall budget figures which proved to be very understated for sub-contract work which had not been properly defined, and also because it contained substantial underestimates by NET of the items outside the contract.

210. The earliest estimate of capital cost, based on a reasonably adequate definition of the scope of the work was that of £80 million, compiled from the check estimate issued by Kellogg in October 1975. However, by the time that this estimate was adopted in August 1976 the project was well and truly on a flight path and there was little anyone could do about it.

211. It is the Committee’s opinion that none of the estimates of capital cost prepared prior to that contained in the November 1974 Management Report was adequate for the project, as subsequently undertaken. Their use was misleading.

Conclusion No. 3

212. The Committee considers that the time taken, from when vital capital cost information became available until it was transmitted to the Government Departments concerned and on occasions to the NET Board, was too long.

213. For instance, NET management was aware during November 1974 and the Board was aware by 2 December 1974 that the projected capital cost was £63.51 million. This information did not each Finance until 28.4.1975 (about five months later) and Industry and Commerce until some date between 10.2.1975 and 9.4.1975 (according to NET) and until “shortly before” the meeting of 9.4.1975 (according to Industry and Commerce).

214. Another example of such delay in transmitting vital information occurred following the issue by Kellogg of their Initially Approved Cost (IAC) on 10.3.1975. This revision was apparently not transmitted to Industry and Commerce until 19.9.1975, namely 6 months later, when NET notified the Department of the increase in total capital cost to £71.86 million based on the I.A.C. of £55.29 million. This increase added £4.09 million to the non-binding budget price and hence to the figure for total capital cost of £63.51 million used in the November 1974 Report.

215. Consequently the capital cost figure of £63.51 million was already out of date by the time of the meeting of 9.4.1975 between NET and Industry and Commerce. It was also out of date when Finance were notified of it on 28.4.1975, and when the Minister for Industry and Commerce notified it to the Dáil on 23.7.1975.

216. A third instance arose in the case of the Check Estimate (Revision 1) issued by Kellogg in October 1975. This brought the amount for items within the contract from the I.A.C. figure of £55.29 million to £64.63 million. NET did not adopt the Check Estimate until August 1976 when they incorporated it into their estimate of total capital cost of £80 million.

Conclusion No. 4

217. From the Committee’s examination of the evidence presented, it would appear that NET management were premature in proceeding with the execution of the project by issuing the Letter of Intent to Kellogg on 12.12.1974. The Board Resolution of 2.12.1974 gave approval to proceed with the project, and to appoint Kellogg as contractors, both subject to satisfactory financial arrangements being made. Very little of the required financial package had been secured by 12.12.1974. The only items approved were the IDA Grant of £5 million, and an increase from £2 million to £7 million in Ministerial guarantee on borrowing. The major item, namely the State equity investment of £15 million was still to be approved. The EIB Loan of £17.2 million and the plant credits of £20.8 million which were dependent on the State equity, were still over twelve months away from approval.

218. However, the Committee notes that while the Letter of Intent gave NET the right to terminate if “satisfactory financing arrangements are not concluded,” the cost of such termination would be very substantial. It would include scheduled payments to Kellogg, unspecified amounts of initial down payments and maybe progress payments for plant and materials ordered, and unspecified cancellation charges should they arise. These could amount to many millions of pounds in very little time. In relation to the signing of the Letter of Intent, NET management stated that they “thought it had been decided at the meeting on 2 December [i.e. 1974] and that it was all in good faith”.³⁹ It would seem to the Committee that the Board, in making their Resolution, intended that satisfactory financial arrangements should already have been made by the time the decisions to proceed was implemented.

219. NET have also indicated in evidence that resulting from the meeting with representatives of both Departments on 3.12.1974, they understood that the provision of State equity was being recommended to the Government.

Conclusion No. 5

220. The Committee has established to its satisfaction that there was a serious misunderstanding between NET on the one hand and the Government and the relevant Government Departments on the other hand as to the amount of the estimated capital cost of the project during the critical period covering Government approval and NET’s authorisation to Kellogg to proceed. This misunderstanding would appear to stem from NET’s omission to notify the Government Departments (and through them the Government) until the project was well under-way, that the estimated capital cost had increased by 50% to £63.51 million. By the time that Industry & Commerce and Finance were made aware of the increase, the project was well under-way and it would have been extremely costly to terminate it.

221. As far as the Committee can ascertain, the Government and the Government Departments concerned had before them a figure of £42 million as the estimated capital cost of the project, throughout this period, that is from the submission of the Memorandum to Government on 21.10.1974 until at the earliest “shortly before” the meeting between NET and Industry and Commerce on 9.4.1975. Finance are quite specific in that they were notified for the first time on 28.4.1975 that the capital cost of the project had increased from an estimated £42 million to an estimated £63.51 million. In fact, by this time, the estimate of £63.51 million was already out of date as a result of the issue of Kellogg’s Initially Approved Cost on 10.3.1975.

222. The Committee has established that there was ample opportunity during the period concerned for NET to notify the Government Departments that the estimated capital cost was £63.51 million. This point was examined carefully and at length by the Committee during its hearings. The project was approved by the NET Board on 2.12.1974 at an estimated capital cost of £63.51 million. On the next day (3.12.1974) NET management met representatives of Industry and Commerce and of Finance to discuss the method of financing the project and the need for State equity. Subsequently, NET, according to their own documentation submitted to the Committee, communicated with Industry and Commerce on the matter of financing the project on many occasions and with Finance on at least one occasion up to 10.2.1975 (i.e. the earliest date by which Industry and Commerce could have been notified of the figure of £63.51 million). The figure of £63.51 million is not contained in any of the documentation submitted.

223. The Committee put to NET several questions as to why either the figure of £63.51 million or the increase of 50% were not mentioned in any of the correspondence or minutes of meetings. NET’s Chairman replied (Evidence, Question 561) “Deputy … has said that the figure of £63.5 million does not appear in that document [i.e. notes of meeting of 3.12.1974]. That is true. I was not at that meeting, I have to reply on this document. I would be surprised though if that figure of £63.5 million was not mentioned at that meeting …”. Also, in evidence in relation to the same matter, NET’s Chairman stated “I cannot find a document which conveys the figure of £63.5 million to the Department of Industry and Commerce between December 1974 and April 1975. However, it is incomprehensible to me how senior officials of the two Government Departments concerned could come away from the meeting of 3 December 1974 believing the total figure to be £42 million” (Evidence, Question 569). Later, two questions were put by the Committee (Evidence, Questions 606, 607) namely:

“Can you now confirm, as was suggested last week, that the figure of £63.51 million representing the then current capital cost estimate of the project, was specifically referred to in the discussion of 3 December [i.e. 1974]?”

“Can you confirm that the figure [i.e. £63.51 million] was referred to in any subsequent communication, apart from the memorandum, to the Department of Industry and Commerce or to the Department of Finance prior to 9 April 1975?”

“Again, I cannot confirm that. I do not know whether any of my colleagues can answer that”.

224. In the course of giving evidence NET made a number of points as set out in the following paragraphs.

225. NET’s former Managing Director stated (Evidence, Page 104) “I have mentioned to the Committee previously about Government Memoranda, and that we did not know what was in the first one”. This referred to the Memorandum to Government dated 21.10.1974 and which was reported to contain an estimate of the capital cost of the project of £42 million. Later (Evidence, Question 559) he stated “I was not aware that the Departments of Finance and Industry and Commerce had gone back to the Government with the sum of £42 million”.

226. In the subsequent course of the hearing (Evidence, Question 583) the Committee’s Acting Chairman put the following question and received the reply quoted:

“Is there any information about, or could anybody throw any light on why the Department of Industry and Commerce and the Department of Finance thought that the total figure was £42 million? Was that figure as such put to them?”

“That figure was put to them by the IDA. It was put to them I believe in connection with a submission to the Government about a grant. The IDA must have written or spoken to the Government about this major grant. We would say that we decided on that figure as the actual cost of the eligible equipment for a grant. It has a different meaning from the total capital cost or the total finance required for the project. I think that is where the misunderstanding of our decision arose”.

227. In the course of a number of questions put to establish the relationship between the £42 million and the £63.51 million both of which NET maintained referred to the same estimate of capital cost, the following information was given by NET’s Assistant General Manager, Finance, (Evidence, Question 572):—

“The £42 million is made up of the basic engineering equipment plus stocks which amounted to £39.7 million plus £2.1 million which is £41.8 million. On to that, to arrive at the £55 million, was added a figure for escalation estimated at that time as being £10.5 million together with some site civil works of £2.7 million to give us a figure of £55 million”.

228. From other evidence submitted, the Committee can attribute the balance of the £63.51 million to: an LPG facility (£1 million), interest (£4.19 million) and NET pre-production expenses (£3.32 million).

229. In the Committee’s opinion, the above explanations do not relieve NET of responsibility for their apparent omission to notify any of the parties concerned that the most up-to-date estimate for the capital cost of the project was £63.51 million prior to the critical events of authorising Kellogg to proceed and of the Government giving approval of its investment. Consequently, the Government did not have the opportunity to review the feasibility of the project in the light of the most up-to-date estimate of capital cost, at the time of reaching their decision to invest £15 million of State funds on 6.1.1975. In fact, NET had gone ahead and issued their Letter of Intent some three weeks in advance of the Government decision, thus committing the Company to a course of action that would require substantial funds in any event, even if the contract were subsequently to be terminated.

Summary of Conclusions

(i)The Committee considers that the submissions and project feasibility studies undertaken and presented by NET to the Government Departments concerned did not contain a sufficient justification for the project. This seems to the Committee to be the main reason for the delay in obtaining Government approval.

(ii)It is the Committee’s opinion that none of the estimates of capital cost prepared prior to that contained in the November 1974 Management Report amounting to £63.51 million was adequate for the project as subsequently undertaken. Their use was misleading.

(iii)The Committee considers that the time taken by NET Management to transmit vital capital cost information to the Government Departments concerned, and on occasions to the NET Board, was too long.

(iv) From the Committee’s examination of the evidence given, it would appear that NET Management were premature in proceeding with the execution of the project by issuing the Letter of Intent to Kellogg on 12.12.1974.

(v)The Committee has established to its satisfaction that there was a serious misunderstanding between NET on the one hand and the Government and Government Departments on the other hand as to the amount of the estimated capital cost of the project during the critical period covering Government approval and NET’s authorising of Kellogg to proceed.

B.III SELECTION OF MAIN CONTRACTOR

231. NET, according to their submissions, adopted a two stage procedure for the selection of the main contractor. Initially, in late 1973, eight selected contractors were invited to make pre-qualifying submissions. These were: Kellogg, Uhde, Foster-Wheeler, Snam Progetti Consortium, Humphreys & Glasgow, Bechtel, Heurty and Power Gas. Subsequent to evaluation, three of these, namely: Kellogg, Uhde and Foster-Wheeler were selected to be final bidders.

232. The selection of the three final bidders was made, according to NET, on the basis of an evaluation of pre-qualifying submissions, of plant visits, and of discussions with other operating companies. The principal factors taken into account in the evaluation were:

233. In the course of their investigations NET established to their satisfaction “… that the stamicarbon process [i.e. for urea manufacture] was the best proven and most widely used and therefore it should be the one to be used by NET” and “As it happened the three contractors who were selected for final tenders were all in a position and experienced to offer the stamicarbon process”.⁴⁰

234. Tender documents, comprising a six volume job specification (including site information and proposed co-ordination procedures) and a 100 page proposed form of agreement (i.e. proposed contract) were issued to the three final bidders on 29 March 1974. All three bids had been received by 30 June 1974. These were on the basis of a lump sum to cover contractor’s ‘home office’ costs, construction overheads, and profit and the remainder to be re-imbursable. This format was accepted by NET after considerable discussions with all three bidders who were unwilling to risk bidding lump sums for the entire job.

235. The submission of bids, according to NET, was followed by “… an extensive programme of plant visits and discussions with operating companies …”⁴¹ and by a series of bid clarification discussions with each bidder. In all 15 plants were visited during this period—comprising 6 Kellogg installations, 5 Uhde plants, and 4 Foster-Wheeler reforming furnaces—located in the UK, Germany, France, Holland, Belgium, Czechoslovakia and the US.

236. The basis adopted for evaluating the proposals was related to the proportion of the total capital expenditure likely to be incurred on various aspects of the work, and also on the factors most likely to have a pronounced effect on future profitability. Thus, because the capital cost would be largely re-imbursable, NET identified the following four headings as forming the foundation of their evaluation:

(i)The capability, efficiency and geographical spread of each bidder’s procurement organisation. This was selected because expenditure on plant and materials was likely to form the largest single element (at 55%) of total expenditure.

(ii)Construction capability in the context of a major and complex operation with about 1,000 men on site at peak, and with a mixture of sub-contract and direct hire work. Construction and commissioning formed the next highest element (at 30%) of anticipated total expenditure.

(iii)Performance record in adherence to schedule. This factor was selected since delays in completion, particularly with a re-imbursable contract, would have a very substantial effect not only on capital cost, but also on cash flow and profitability.

(iv)Record in constructing plants with high on-line time and reliability. These are key factors in future profitability on account of high fixed costs.

237. As a result of NET’s evaluation of the three bids, Kellogg were selected for appointment recommendation to the Board of NET. Although the Kellogg bid was not the lowest, the difference was small and their record in procurement capability and in constructing plants with good on-line time and reliability, as assessed by NET, weighed the balance in their favour.

238. The recommendation to appoint Kellogg as main contractor was made in the NET Management Report of November 1974 and approved by the Board at their meeting on 2 December 1974. Kellogg were authorised to commence work on the project by Letter of Intent issued and accepted on 12 December 1974.

239. NET had the assistance of Scientific Design Company of London who acted as consultants in contractor pre-selection, in the preparation of tender documents, in the negotiations on contract terms with the final bidders and in the final bid evaluation. It is understood that this consultancy assistance took the form of the provision of advice as distinct from actually undertaking the work under those headings.

Conclusions

240. The Committee considers that the overall procedure used was appropriate for the pre-selection of potential bidders, their evaluation and subsequently for the evaluation and selection of the main contractor. The original list of eight potential contractors was sufficiently representative.

241. The Committee considers that, in the circumstances of a re-imbursable contract, NET were correct in basing the selection of tender on other matters in addition to cost.

242. The Committee also considers that the parameters used in the selection of tender were appropriate, namely: procurement capability, construction capability, performance record in relation to adherence to schedule, and in relation to constructing plants with high on-line time and reliability. In fact, the crucial importance of these parameters was to be amply demonstrated in the light of experience in the execution of the project.

B.IV CONTRACT TERMS

243. NET entered into two contracts with Kellogg for the design, engineering, procurement, construction and commissioning of the Marino Point Plant. One contract was with Kellogg International Corporation of London and generally covered the work to be undertaken outside Ireland, i.e. design, engineering and procurement, which would be done from Kellogg “home offices” in London and Amsterdam. The other was with Kellogg Construction Ltd. of London covering generally the work to be undertaken on-site in Ireland, i.e. construction. The contracts were otherwise similar, and for simplicity in this Report, they are not subsequently referred to separately.

244. The contracts with Kellogg are re-imbursable type contracts as distinct from lump sum fixed price type contracts. This distinction requires some clarification.

245. In the more commonly understood lump sum fixed price type contract, the client prepares (or has prepared for him) a detailed specification of the work to be done, and the contractor quotes a lump sum price for undertaking this work. This lump sum price is usually subject to adjustment for escalation (i.e. for specific and documented increases in wage rates and in the prices of materials that have occurred since the date of tender). It is normal also for the lump sum price to be adjusted for changes from specification in the scope of the work and for variations from specification in the method of undertaking the work.

246. With a re-imbursable type contract, the contractor gives an estimate of the total cost, an estimate of the total time, plant performance guarantees and a schedule of rates. Thereafter he is entitled to payment of all costs for materials, labour, services and overheads as they are incurred in executing the work. Neither the time estimate nor the total cost estimate is binding on him. Thus, a re-imbursable type contract is similar to what is more popularly known as a “time and materials” contract.

247. The main intrinsic difference between these two basic types of contract is that in a lump sum fixed price contract, the contractor is fully responsible, both contractually and commercially, for total cost, whereas, under the re-imbursable contract he bears no contractural or commercial responsibility for total cost, which therefore becomes the responsibility of the client.

Applications, Advantages and Disadvantages

248. It is worth commenting briefly on the suitability for various applications of each type of contract and on their advantages and disadvantages from the client’s point of view. The lump sum contract requires a detailed specification of the scope of the work to be made available by the client at the enquiry stage and requires a considerable time allowance for bid preparation. In cases, therefore where the technical expertise needed to prepare a detailed specification is available and where the time to do this and also to await bids is available then a lump sum contract is preferable. If the project cannot be defined in detail at the start either through lack of expertise or time or both or because it is a prototype plant or for some other reason, then a re-imbursable type contract may have to be accepted.

249. The main advantages of the lump sum contract have already been indicated, namely it permits the client to forecast in advance, with very little uncertainty, what his eventual cost will be, and also it places responsibility for the satisfactory execution of the project fully on the contractor. It has disadvantages of cost and time in preparing a detailed specification in advance of tendering, and of time in waiting longer for bids than in the case of a re-imbursable contract.

250. The re-imbursable contract has the advantage of the need for minimum project definition and hence minimises time and cost to the client up to commencement of construction. However, for the client it has a number of disadvantages. The contractor is under no contractual or commercial pressure to minimise cost or time and hence the client has no assurance of the amount of final cost. The client is totally dependent on the contractor’s management skills and efficiency, and has very little sanctions available in the event of these falling below his requirements. The client is exposed to any underestimates made by the contractor in his budget price. The client normally has to re-imburse the contractor for his errors in design, in drawings, and for defective workmanship and for defective materials unless he can prove negligence.

251. Another relevant consideration applicable to re-imbursable contracts according to the NEDO Report is the fact that—“the more flexible forms of contract may permit contractors to be less effective as planners, or less disciplined on overall site control and labour supervision, and this may further aggravate the problem of inadequate construction performance.”.⁴²

252. The NEDO Report finds furthermore that time overruns tend to be longer in cases where construction commences before design work is completed, than in cases where the project is fully specified by the time construction commences. In fact, they find that as the amount of design work done before construction decreases, the time overrun increases. Therefore, since one of the reasons for using a re-imbursable contract is to get an early start on construction, re-imbursable contracts tend to have a greater chance of a longer time overrun.

253. In practice there are many variations between a fully fixed price lump sum contract on the one hand and a fully re-imbursable contract on the other hand. In these variations responsibility for total cost is shared by making some of the cost elements fixed. In these circumstances the contractor undertakes progressively more responsibility as more cost elements become fixed and as the contract becomes further removed from a fully re-imbursable one. Thus, in the case of the NET-Kellogg contract the cost elements comprising home office costs for design, engineering and procurement were fixed. Also fixed were the licence fees and the contractor’s profit. All other costs were re-imbursable, namely: plant, materials, and all site costs including construction (both direct hire and sub-contracts), plant hire, services, supervision of construction, and commissioning. The arrangement resulted in the fixed portion amounting to £6.3 million in a total payment to Kellogg of about £99 million, and in a total capital cost of the project of £137.3 million.

254. In NET’s various submissions and at the hearings, they have made it clear that their priority was to select the most reputable contractor capable of handling this major ammonia/urea complex. They state moreover that fixed price contracts were not available from such contractors during the period concerned. This is borne out by the NEDO Report which states—“fixed price contracts are more frequently employed abroad”; “the construction part of the contract is nearly always let on a reimbursable basis in the UK”; and “clients in the UK who wish to let a fixed-price contract for construction or design and construction have difficulty in finding contractors who will undertake them”. Although these remarks refer specifically to the UK, they can be taken to apply to a considerable extent to Ireland also, particularly as it was Kellogg’s UK organisation that was mainly concerned with this contract.

255. The essential aspects of the relevant terms and conditions of the NET—Kellogg contract are summarised below:

(i)There is no liability or sanction on the contractor in relation to the total price of the re-imbursable elements. He was obliged to produce a “Contract Price Budget” six months after award of contract and is required to “exert all reasonable efforts” to maintain the eventual price to within + 7% and -5% of that figure.

(ii)The contract contains a “Schedule Completion Date” but there is no contractual or commercial obligation on the contractor to adhere to it, nor is he penalised if he exceeds it.

(iii)Liquidated damages for the contractor’s own mistakes or for defects in workmanship, or materials are specified under various headings, and are limited to a total of approximately £150,000.

(iv)The contractor bears no liability for mistakes or defects by others i.e. by sub-contractors. If however, he recovers costs in rectifying such mistakes; he is obliged to credit NET. Thus, apart from the liability limits, NET are obliged to re-imburse Kellogg for the cost of rectifying all mistakes and defects.

(v)Penalties for failure of the plant to meet its guaranteed performances are also specified under various headings. The total liability on the contractor under both “defects” and “performance” is limited to £650,000 approximately.

(vi)There are no retentions under the contract, but there are bank guarantees totalling about £650,000 which can be drawn down on the authorisation of a NET Director.

(viii)The appropriate contract schedules give the re-imbursement rates for the various categories of Kellogg personnel who may be assigned to the work.

These rates were applicable up to 31 December, 1975. Thereafter, they were subject to adjustment for inflation, but no price adjustment formula is contained in the contract.

Thus, after 1975 NET had no real control under the contract of the contractor’s hourly rates.

256. However, it is apparent from the evidence submitted that NET did, in fact, endeavour to negotiate better terms for their contract with Kellogg. They proposed specifically a clause which would have imposed a financial penalty on Kellogg for overruns on the agreed schedule, and on the other hand provided a bonus to them for early finishing. This clause, in common with many others in the draft agreement, was deleted by Kellogg. Of the original 100 page draft agreement submitted by NET with their tender documentation, Kellogg’s bid contained amendments on 60 of the pages.

257. As evidence of the normality of their contract with Kellogg, NET have submitted in evidence copies of the Institution of Chemical Engineers publication (1976) entitled “Model Form of Conditions of Contract for Process Plants Suitable for Re-imbursable Contracts in the UK”, the UNIDO third draft (1980) of “Model Form of Cost Re-imbursable Contract for the Construction of a Fertiliser Plant”, and the NEDO Report (1976) already referred to.

258. The Institution of Chemical Engineers’ Model Form, which was submitted to the Committee by NET and which was extensively quoted from in evidence, sets out a model form for a fully re-imbursable contract, applicable to the construction of process plants. It is complementary to a similar document produced by the Institution of Chemical Engineers setting out a Model Form for Lump Sum type contracts. In fact the document submitted was brought out because the Institution of Chemical Engineers were encouraged by the rapidly increasing use being made of the earlier document on lump sum contracts.

259. The document submitted does not advocate the use of re-imbursable contracts as against lump sum or any other type of contract. Thus, it cannot be regarded as providing an argument in favour of the use of a re-imbursable contract as against any other type. In fact it tabulates a number of variations between fully re-imbursable and fully lump sum type contracts. The contract between NET and Kellogg is not fully re-imbursable and falls into one of the categories of partly re-imbursable contracts as listed in the tabulations referred to. Thus, a comparison of the Kellogg contract with the Institution of Chemical Engineers’ Model Form for fully re-imbursable contracts is not strictly a like-with-like comparison.

260. The main features of the Institution of Chemical Engineers’ Model Form of fully re-imbursable contract relevant to the matter in hand are summarised below:

(ii)Contractor’s liability for the cost of delay, by means of liquidated damages may be included, although the Institution of Chemical Engineers considers that this would be more appropriate to a lump sum type contract. If penalties for delay are included, then there should likewise be a bonus for early finishing.

(iii)Contractor’s liability for the cost of rectifying mistakes and defects in workmanship or materials is not usually included unless negligence can be proved or unless by way of liquidated damages for specified circumstances.

(iv)Contractor’s liability for failure to meet performance guarantees are usually catered for by specified liquidated damages.

261 Thus, the essential features of the NET-Kellogg contract conformed reasonably closely with the Institution of Chemical Engineers’ Model Form, although the latter applied to a fully re-imbursable contract which the NET-Kellogg contract was not. The main difference is that the Institution of Chemical Engineers’ Model Form, while not advocating it, permits the inclusion of cost liability for delay, through liquidated damages, and suggests further that this should be taken in conjunction with a bonus for early finishing. The NET-Kellogg contract placed no liability on the contractor for the cost of delay, although NET initially sought this provision.

262. The UNIDO draft form has not yet been adopted as far as the Committee is aware. Moreover, the draft submitted to the Committee for examination was prepared by an international group of contractors. As such its terms are significantly protective of the contractor’s interests. For this reason and also because, as far as the Committee is aware, it has not yet been adopted by UNIDO, the Committee considers that a comparison, while interesting, is not very relevant to its present enquiry.

Conclusions

263. The real question as far as the Committee is concerned is not so much the extent to which the NET-Kellogg contract conformed with various Model Forms, but instead, whether the contract as it stood was more favourable to one party than to the other. It is the Committee’s conclusion, having considered the mass of submissions and arguments advanced, that the contract favoured the contractor to a considerable extent. The Committee is supported in this conclusion by its consultants who are of the opinion that the type of contract conditions between NET and Kellogg appeared to be heavily weighted in favour of the contractor. In reaching its conclusion, the Committee has noted the comments of NET’s consultants, Scientific Design Co. Limited of London, “The main contract agreement with Kellogg was not biased in favour of either party and would have been quite satisfactory had no delays occurred”. However, the delay that occurred was one of the major causes of the increase in the capital cost of the project. Therefore, since delays are by no means rare the omission of any liability on the contractor for the cost of delay was a paramount point taken into account by the Committee in reaching its conclusion.

264. If a lump sum type contract had been available, it would not necessarily have followed that Marino Point would have cost significantly less than it did. However, it would have forced the preparation of a very much more detailed job specification so as to enable the bidders to quote lump sum prices. These in turn would undoubtedly have been considerably higher than the bids received in June 1974 on which were based the capital cost estimate of £63.51 million. Thus, the capital cost estimate submitted for approval to the NET Board, to Government Departments and to the Government would have been higher than £63.51 million. In that case the project might not have gone ahead at all. If it had gone ahead then the extent of the eventual escalation in cost would have been considerably less than it was.

B.V DELAYS

265. The three final bidders quoted schedule periods ranging from 30 to 33 months from contract award up to the commencement of commissioning taken as “gas-in” date. This schedule period covered: design, procurement, construction, plant erection and pre-commissioning. NET, taking account of the need to have a realistic rather than an overoptimistic schedule, while recognising that it was not in their interests to fix a schedule longer than what would be appropriate for the job, agreed a schedule of 36 months with Kellogg. This period is stated in the Letter of Intent of December 1974.

266. The schedule to commissioning overran by 15 months (42%) to give a total schedule period of 51 months. This overrun not only caused an increase in capital cost, but the delay had a serious effect on the original cash flow forecast for the project.

267. From the evidence submitted, we do not know the extent of the period originally allowed for commissioning. However, it would seem that this has also taken longer than was anticipated, particularly in the case of the urea plant. We do know, for instance, that urea production commenced almost five months later than ammonia production and that the entire plant had an extended shut down time in October and November 1979 for modifications to rectify excessive steam consumption and for other adjustments. Delays in commissioning would entail less additional direct costs than delays during construction, since most of the labour force and the hired construction plant would have left the site. However, NET’s own costs and the financial costs would continue to mount up from the delay in generating a positive cash flow.

268. The actual schedule duration of 51 months and the validity of the originally planned schedule of 36 months, can be evaluated in the context of performance on other comparable projects. A substantial amount of documentary evidence was submitted to the Committee on this matter, but did not yield much useful information on comparable project schedules.

269. However, some conclusions can be made. Authorities on the matter are agreed that considerable differences in performances can be expected between,

(i)sites in industrialised areas of developed countries where full infrastructural facilites and services already exist,

(ii)sites in developing countries with some infrastructural facilities and services,

Industrialised areas of North America, Western Europe and Japan would fall into the first category, with India and Bangladesh being in the second category.

270. The Committee’s consultants, from their knowledge of a number of projects, indicate a schedule period from award of contract up to commissioning of from 3 to 3½ years for an ammonia/urea complex in industrially developed sites and a period of from 4 to 5 years under more difficult conditions in a less industrialised country.

271. NET, in their own submission,⁴³ quote percentage increases of actual schedule over the planned schedule for seven other Irish projects. However, due to the fact that the original or actual time taken is not given, the information is of limited usefulness. The projects are Asahi, Courtaulds, Gaf, Irish Distillers, Merck, Mitsui (Cork) and Syntex. The percentage overrun on schedule on these varied from 28% to 83% with an average of 59%. None of these were ammonia-urea projects and hence were not closely comparable.

272. NET also give data on 4 western European chemical projects, 3 from UK and 1 from Italy. These are ammonia-urea (Montedison — Italy), Acrylonitrile (Monsanto—UK), Ethylene/propylene (ICI/BP— UK) and offshore gas processing (Phillips—UK).

273. The Italian ammonia/urea plant was the most comparable of these to Marino Point and had an actual schedule duration of 48 months, including a 60% overrun on the originally budgeted 30 month schedule. The three UK processing plants had actual schedule durations of 54 months, 60 months and 84 months, including overruns respectively of 50%, 67% and 75% on original budgeted schedules of 36, 36 and 48 months.

274. The data submitted by NET on world fertiliser projects list 13 plants in either developing or underdeveloped regions on which the percentage overrun on the originally planned schedule varied from 7% to 97% with an average of 55%. Neither the actual time taken nor the original schedule is given, and this limits the usefulness of the data.

275. The UK National Economic Development Office (NEDO) Report on Engineering Construction Performance of December 1976 was also submitted by NET to the Committee for consideration. This comprehensive 88 page report has already been referred to. It sets out to examine the allegation that plant construction projects in the UK are subject to greater delays and take longer to complete than elsewhere. The Report examines in depth 18 projects in three areas, namely, UK, Western Europe and US, covering 5 industries namely, ethylene plants, distiller plants, refineries, methanol plants and power stations. Thus, the information coming from the Report is limited in its relevance in that it refers to projects other than fertiliser projects, and is confined to industrially developed countries, i.e. the first of the categories mentioned earlier.

276. For seven UK plants, the actual project time varied from 28 months to 87 months with an average of 51 months. For 7 Western European projects the actual time varied from 24 months to 50 months with an average of 33 months. For the US the four projects examined took from 29 months to 50 months to complete with an average time of 37 months.

278. The main conclusions of the NEDO Report were that UK projects take longer than comparable projects elsewhere, and the overruns on the original schedule are greater in the UK than elsewhere. There were other conclusions in the Report including one that on projects where the construction work commenced before the design work and preparation of specifications were complete, the overrun was likely to be greater and that the length of overrun was likely to increase as the amount of design work completed at commencement of construction decreased.

Conclusions

279. The actual time taken of 51 months from award of contract to commencement of commissioning seems to be in line with comparable projects for sites in developing countries where some but not all infrastructural facilities and services already exist. The Committee is of the opinion that of the three site categories defined in the available documentation, this one is closest to fitting Marino Point.

280. The overrun of 42% on the planned schedule compares favourably with overruns on other projects in Ireland and with some UK projects and with fertiliser projects in developing countries. It compares poorly with the percentage overruns for other UK and for the Western European and US projects referred to in the NEDO Report. However, very few of these projects were closely comparable with Marino Point. Thus, on balance the effectiveness of preparing the schedule was in line with experience in Ireland and in the UK.

281. The original schedule of 36 months was too short, but was not out of line with the periods being forecast for other projects in Ireland and in the UK. However, there was ample evidence available to indicate that an overrun of up to 50% was quite likely. Therefore, the Committee considers that it would have been prudent at the outset to include for delays of 6 months, 12 months, and 18 months as contingencies in the preparation of the cash flow projections and of the estimate of total capital cost. Had this been done, then the Board of NET would at least have been made aware of the cost and other implications of delays which were likely to occur, and accordingly could have taken this into account as contingencies in the financing of the project.

B.VI COST INCREASES

282. The Check Estimate issued by Kellogg in October 1975 and amounting to £64.63 million including escalation for items within the contract was the “definitive estimate” as required by the terms of the contract to be produced within six months of contract award. This was used by NET to revise the total project cost to £80 million. The Committee agrees with NET (confidential submission of November 1980) that this figure, because it was the first estimate of capital cost based on a reasonably well defined specification of the scope of the work, would provide a “more realistic comparison” with the final cost of £137.3 million. Thus all increases up to £80 million are assumed to be due to underestimates.

283. However, the Committee considers that it is also worth noting that the £80 million estimate was not issued until August 1976, by which time the project was 1½ years underway, and hence very little could be done other than to continue, or to accept very heavy termination charges. One option would have been to attempt to convert the contract to a lump sum basis on the grounds that the work was at that stage reasonably well defined. A “reimbursable converting to lump sum” is a form of contracting actually in use, and is referred to in the Institute of Chemical Engineers’ Model Form of Contract publication dealt with in Section B.IV of this Report.

284. A detailed analysis by cause of the increase of £57 million from £80 million to £137 million is almost impossible because the contract was reimbursable. However, it is possible to summarise the increase by area of work as tabulated below

285. An approximation of the amount of the cost increase that can be attributed to the various basic causes is tabulated below. This tabulation was developed using the NET estimate given in evidence that delays cost approximately £2 million per month and by apportioning to the basic causes the financial cost of increased capital, amounting to £11 million,⁴⁴ for the period concerned.

A. Delays

286. The largest individual cause is delay which accounted for £30.2 million that is for over 50% of the increase in cost from £80 million to £137 million. This was money which was wasted in that no value was received in return for its expenditure. It represented the cost of paying for people and hired plant while they were not working, and of course includes the appropriate interest payments associated with these costs.

287. NET and the consultants to the Committee differ to some extent in attributing causes to the 15 month schedule delay. The result of each assessment is tabulated as follows:

Design and Procurement

288. The allocation by NET of 6 months of the delay to Kellogg as against an allocation of 2.5 months by the consultants is the only difference of significance. In a confidential submission of November 1980 NET state that they are otherwise in general agreement with the consultants’ summary. NET attribute this 6 months to delays in the design work, in the preparation of specifications, in the issue of drawings, and in procurement. This latter cause was not regarded as significant by the consultants and herein lies the difference in the assessments. NET contend that initial slippage in design work by Kellogg amounted to 3 or 4 months schedule delay and subsequently this increased to 6 months due to delays in procurement. A particular and significant cause of delay in procurement according to NET was Kellogg’s error in omitting to place an order for pipe fittings in sufficient time. Kellogg acknowledged this error. One consequence of the initial delay in design work was the letting out of some sub-contracts without a full job specification. This applied to the electrical sub-contract, the instrumentation sub-contract and to some civil sub-contracts. In these cases the sub-contracts were let out on the basis of a schedule of rates and unit costs. Consequently, due to the lack of adequate definition of the scope of the work, the budgeted amounts for such sub-contracts were significantly low.

Industrial Action

289. According to the Committee’s consultants there were 78 separate incidents of industrial action on the Marino Point site between May 1976 and June 1979. During this period the site was affected by industrial action on 448 days. Industrial action is taken to include picketing, work stoppages, overtime bans, work embargoes and work to rule. Every one of the 78 incidents of industrial action recorded was unofficial. It should be noted that NET in evidence have stated that there were “58 and not 76” industrial disputes.

290. Under the terms of the contract Kellogg were responsible for the management of industrial relations. They have been criticised for the manner in which they discharged this responsibility and hence for their poor management of industrial relations. NET seem to disagree with this criticism when they say in their submission of September 1980—

“The industrial relations record of the Marino Point project shows a high level of unofficial industrial action. If Kellogg is to be held responsible for unofficial industrial action, then it might be correct to say that industrial relations was managed poorly”.

“This would place responsibility on Kellogg for inter-Union disputes, demarcation disputes, wildcat actions, and other activities which disrupted and delayed construction. However, it could be considered unreasonable to hold Kellogg responsible in this way, particularly since it has not been demonstrated that the action or inactions of Kellogg were responsible for the unofficial industrial actions which occurred”.

291. In oral evidence to the Committee, NET disagreed with the opinion offered that Kellogg were unfit to handle the type of industrial relations problems which arose because they did not have previous experience in that field. In relation to responsibility a NET witness stated “… you have to decide whether you hold contractors’ management responsible for unofficial action taken by the labour force. I would not subscribe to that point of view”.⁴⁵ Later, in evidence, in reply to a comment by a Committee member that “… Kellogg were anything but capable of fulfilling that role…” i.e. of industrial relations management, NET replied “They were unofficial disputes and I do not know if it is reasonable to hold management responsible for unofficial industrial actions”.⁴⁶

292. Despite NET’s uncertainty on this question the Committee is of the opinion that Kellogg’s contractual responsibility for the management of industrial relations was not set aside on account of the unofficial nature of the disputes, and hence from the record, the Committee is of the view that industrial relations were not well managed.

Excessive Bad Weather

293. Schedule delays in excess of 4 months were attributable to an excessive amount of bad weather. This was verified from the meteorological records. It should be noted, however, that since any project schedule contains an allowance for some bad weather, the delay here is due to an excessive amount of bad weather. According to NET a significant portion of this occurred during the winter of 1977/78, when construction was at a stage when it was very vulnerable to bad weather. A feature of Marino Point, common elsewhere but not in Ireland, is that much of the plant is open so as to economise on building costs.

Excessive Absenteeism

294. As in the case of bad weather, the original project schedule contained some allowance for absenteeism. However, the amount that actually occurred was excessive and was the cause of three months delay on the schedule. A feature of absenteeism was that it applied to front line supervisors almost to the same extent as to operatives. This was to some extent indicative of the attitude or lack of commitment by the supervisors.

Action on Delays

295. NET have no redress against Kellogg under the terms of the contract for any delays. If NET wished to seek redress they would be obliged to have recourse to law.

296. On the question of seeking redress from the contractor for home office delays—particularly those which occurred in the early stage of the contract, NET’s Chairman stated “As far as the question of Kellogg being at fault were delays in design and procurement is concerned, one has to bear in mind the fact that once one has started on a project such as this, one’s main concern is to get it completed. It is not good to get into a dispute situation with the contractor unless it is unavoidable. It was our best judgement that despite this serious defect of failure by Kellogg we should not pursue them formally according to penalties in the contract at that time. We felt it would be wiser to get the project finished and pursue all the deficiencies at that stage”.⁴⁷

297. However, NET in fact did quite a lot in relation to the home office and site delays that came to light around mid-1976. They mounted a campaign of increasing pressure on Kellogg through correspondence and meetings which included the most senior executives on both sides. NET were dissatisfied with progress both in Kellogg’s home office and on site, and in particular, with what they viewed as the inadequate coordination between the two. NET complained repeatedly of the lack of a common-line superior other than the Kellogg President for the Kellogg Project Manager and the Kellogg Resident Construction Manager. NET were quite justified in their attitude, since they could identify no single person within the Kellogg organisation with overall responsibility for the project. Consequently, the NET Managing Director had an extremely forceful communication with the Kellogg President. This resulted in the appointment in January 1977 of Kellogg’s Operations Director Europe as Project Director. Subsequently, Kellogg replaced both their Project Manager and their Resident Construction Manager.

Cost of Delays

298. NET have estimated the cost of stoppages as £2 million per month. This represents the cost of management and other grades, both contractors and NET, the cost of hired plant standing by and the general and financial overheads of the project. The application of the figure to the delays by cause is tabulated below to give the cost of the overall delay and of each individual cause.

Thus of the total cost of delays, amounting to £30.2 million, £5 million (or £12 million if NET’s estimate of 6 months is valid) can be attributed to Kellogg through lateness in preparing designs or in procurement.

299. Excessive bad weather accounted for £8.7 million of delays. Bad weather had a significant effect on the construction costs of this plant because it was largely outdoors. The main delays due to bad weather occurred in the winter of 1977/1978 when the construction workforce was at a peak.

300. The site construction workforce, through unofficial industrial action, and excessive absenteeism, contributed to delays amounting to £16.5 million. It can be argued that some of the responsibility for this cost can be attributed to Kellogg who were responsible for the management of industrial relations. However, NET have argued strongly that they do not subscribe to this view on the grounds that since every single incidence of industrial action was unofficial, Kellogg could hardly be held responsible for this.

B Underestimates

301. The next largest cause of cost increase was £14.4 million attributable to “underestimates, omissions and any construction inefficiencies”. As distinct from the cost of delays, these costs do not represent a loss of this amount. In the case of both underestimates and omissions, value is obtained for the money spent. Any construction inefficiencies that occurred (i.e. such as work taking longer than it should) cannot be isolated, because in the case of an overrun in a reimbursable situation it is not readily possible to distinguish subsequently between a genuine original underestimate and inefficiency in execution. Thus, the loss element of this cost increase of £14.4 million cannot be calculated.

302. The underestimates by Kellogg of items within the contract included: the civil engineering sub-contracts, the electrical, instrumentation and insulation sub-contracts, and in the direct hire labour requirement for mechanical construction. The sub-contracts amounts were underestimated mainly due to not having the work fully defined at the time of budget preparation. It is relevant to note here that civil and electrical engineers did not join NET’s project team until the latter half of 1975, i.e. until the Check Estimate was almost ready for issue. This may have contributed to the budget underestimates through lack of presence in Kellogg’s design office of NET’s own engineers in these disciplines during this design period.

303. The major underestimates by NET of non-contract items were in the cost of insurances (£0.9 million) and of running the Marino Point site (0.8 million); and in paying a premium for early gas delivery (£0.75 million).

C Scope Changes

304. The cost increases attributable to scope changes and extra work do not represent a loss as in the case of delays. In these cases value has been received for the work done.

305. The total for scope changes, attributable to contract items, includes Kellogg’s fee increase of £0.7 million, and a total of £4.6 million for “Extra Work”. This latter category included the ammonia rail loading terminal and associated costs, and such items as the fees for the payroll audit consultants (Irish Site Management Ltd.), the compensation to Kellogg’s resident staff for the excess of Irish income tax over the then norm in their home country, and for insurance claims remaining unsettled.

D Accounting Policy

306. The cost increase under the heading “Accounting Policy” mostly arises from the NET Board decision to capitalise excess costs, over and above standard cost plus 10%, incurred in running the plant, in gas usage and in interest charges for the period up to 31.12.1979. The figure also includes currency exchange loss.

Comparison with Other Plants

307. The Committee has examined the information on cost increases in other plants in Ireland, the UK and developing countries, submitted by NET. The comparative increases in cost have limited relevance to Marino Point for two reasons. Firstly, in no case submitted is the actual basis of the budget known i.e. whether it was a preliminary estimate or a cost based on a detailed job specification or a tender price Secondly, depending on which budget price is taken for Marino Point namely £42 million or £63.51 million or £80 million, the increase varies from 72% to 227%. Each of the above cost estimates can be justifiably represented as the budget. The £42 million estimate was the one on which the Government based its approval. The £63.51 million estimate was the total project cost at the time of appointment of contractors. The £80 million estimate was the first based on a reasonably complete definition of the scope of the work.

308. A comparison of actual costs for plants completed is more useful. From the data submitted, the only ammonia/urea plant for which a cost is given is the Montedison Plant in Italy which is comparable in size to Marino Point, and cost £61.5 million. Mr. W.F. Sheldrick of the World Bank in his paper entitled “Investment and Production Costs for Fertilisers” dated June 1980 forecasts a capital cost of about £150 million for a 1,650 tonnes/day ammonia/urea plant then being commenced in a developing location with some infrastructural facilities and services and due to come on stream in 1983/1984. Marino Point appears to have been expensive to build in comparison with these.

Conclusions

309. The Committee has formed three overall conclusions from an examination of the various cost estimates and the final cost, namely:

(i)The quality of all the estimates prior to that of £80 million was poor mainly because the estimates were based on an inadequate definition of the work.

(ii)The inordinate delays which affected the construction phase of the project were responsible for the major portion of the cost increase that occurred after the £80 million estimate.

(iii)Unofficial industrial action and excessive absenteeism together cost £16.5 million. It is impossible to avoid the conclusion that the construction workforce to a major extent and Kellogg to a lesser extent (insofar as industrial relations were not well managed) bear responsibility for this cost.

B. VII MANAGEMENT

Board of Directors

310. At the time of the authorisation of the Marino Point project in December 1974, the Board of NET consisted of seven Directors including the Chairman. There was only one Executive Director, namely the Managing Director. The other six Directors including the Chairman were non-executive. The background experience of each of these Directors was as follows at that time:

Managing Director—13 years as Managing Director of NET, previously a civil servant.

The other three Board members were either civil servants or former civil servants.

Organisation

311. The Committee has difficulty in identifying a clear organisation structure at senior level for the Marino Point project. From earlier submissions the Committee understood that the Head of Development, whose position subsequently became Assistant General Manager, Development, had overall executive responsibility for the project. It subsequently transpired through the evidence sessions that other members of senior management were involved in executive level decisions relating to Marino Point. These included the Assistant General Manager, Technical, the General Manager and the Managing Director. In the job description dated 1979 for the AGM Technical, it states that “his priority task in early 1979 along with the AGM Development is to ensure that the new ammonia and urea plants in Cork come on-stream without further delays”. It also states that “the AGM Development is responsible for project management during the construction, though the AGM Technical has an overall supervisory role relative to the negotiation and finalisation of major contracts where they have a significant technical content”. In response to the Committee’s request for clarification of the responsibilities of these two positions in relation to the Marino Point project, NET stated that the AGM Technical “was involved extensively in the decision making required on a day-to-day basis on the Marino Point project. He was also part of the senior management team which dealt with Kellogg on major contractual confrontations. In these respects he was complementary and supportive of [the AGM Development’s] overall co-ordinating role”. NET also stated that the AGM Technical “had overall responsibility for the Arklow complex including production until the Marino Point project reached a stage where he was fully involved in the project”. The Committee is also aware, from a study of the minutes of meetings and of correspondence that both the General Manager and the Managing Director on occasions undertook executive responsibilities in relation to the project. Thus, it would seem that there was no one senior position, entitled for example Project Director, which had overall responsibility with defined limits of authority for the Marino Point project and only for that project. The Committee considers that this was a weakness in the organisation for the project.

Management Experience

312. NET in their submission and in evidence have referred to their previous experience in undertaking major contracts for chemical plants. These plants were in Arklow where from 1961 onwards a number of contracts were placed for chemical process plants. However, so as to put this experience in perspective, it should be noted that the Marino Point project entailed capital expenditure about 15 times greater than the largest of the Arklow contracts, namely, that for the Arklow Gypsum Limited plant. Moreover, all except one of the Arklow contracts were of the lump sum type. The remaining one was re-imbursable.

313. In addition, from the curricula vitae for senior Management submitted to the Committee, only two senior executives had substantial senior level management experience in the execution of major process plant contracts other than at Arklow.

314. The Committee is of the opinion therefore that the NET “in-house” senior level experience in the planning, negotiation and management of re-imbursable type contracts for major process plants was limited.

315. The Committee noted that consultants, namely, Scientific Design Company Limited of London were used to assist:

The Committee also noted that these consultants provided a cost monitoring service during a portion of the construction period. In the circumstances of NET’s limited previous experience in this type of major process contract the Committee is of the opinion that more use could have been made of suitably qualified consultants in the planning and in the execution of the project.

Administration and Control

316. The Committee through its consultants has examined the various systems for administration and control of the Marino Point Project and has formed the following opinions:

(i)The general system for administration of the procurement function was detailed and comprehensive and entirely appropriate to the requirements of the project and internal control. All major procurements were properly documented, authorised and approved.

(ii)Procedures used for approval and payment of invoices were, in the main, thorough and appropriate to internal control requirements. However, it was evident from evidence submitted that certain weaknesses existed in the overall system. In the case of the Cork site payments cheques were actually issued uncrossed. In the Committee’s opinion all cheques of this nature should have been crossed “Account Payee Only/Not Negotiable”. In the case of payments to Kellogg (Amsterdam) NET’s approach to the retrospective audit showed overall weakness in that only a small percentage of the transactions were audited after July 1977. It is the Committee’s opinion, however, that no loss occurred as a result of these omissions.

(iii)The Committee is of the opinion that the procedures used for the preparation, recording and control of payroll were detailed and comprehensive. The Committee concludes that the project was properly managed and controlled in relation to payroll.

(iv)The basic wage rates for the Kellogg workforce were set by negotiation in accordance with the Site Agreement. The Committee has examined these and is of the opinion that the original Kellogg basic wage rates were not excessive and that they were in line with the construction industry going rates at the time they were set. The Committee is also of the opinion that the overall increase in the basic wage rates throughout the period of construction was completely in line with the nationally permitted increases, namely the relevant National Wage Agreements and the National Construction Industry Award then in force.

PART C—ARKLOW GYPSUM LIMITED

317. The Arklow Gypsum Limited (AGL) project was approved by the NET Board in 1973. The project subsequently went ahead with mechanical completion planned for the end of 1974. However, due to various delays commissioning did not commence until more than 4 years later. By early 1980 not only could a breakeven situation no longer be projected but even cash flow projections were negative. During 1980 NET Management came to the conclusion that the project “had no prospects of ever showing a positive cash flow.”⁴⁸ Under these circumstances they had little option but to close the plant down and, if possible, to sell it. Discussions with potentially interested parties did not come to fruition and consequently the plant was closed down on 30 September 1980.

318. The Committee has not had the opportunity to examine either the original feasibility study, the succeeding ones or the final one on which the decision to close the plant down was made. However, bearing in mind that NET projections have almost always been proved to be over-optimistic and also the fact that on this occasion their final prognosis was made on the basis of “nothing going wrong”, the Committee is of the opinion that NET’s only course was to close and, if possible, to sell the plant. Despite its agreement with NET’s decision the Committee would nevertheless like to record sincere regret that the outcome should be the loss of 132 jobs and of about £9 million of taxpayers’ money.

319. The Committee considers that if lessons are to be learnt from this failure then the questions to be considered are: “Should the project have gone ahead in the first place?” and “In view of the ever increasing delays and mounting losses should the project have been terminated at an earlier stage, thereby at least reducing the amount of the capital loss?”

320. In examining these questions a number of relevant points emerged. These are dealt with briefly in the following paragraphs.

321. The Arklow Gypsum Limited project was based on the use of waste gypsum from the phosphoric acid plant to produce initially, plaster and subsequently, plaster-board. Plaster-board is normally produced from natural gypsum. However, the Arklow project was based on new technology for processing chemical gypsum and plants had been commissioned for this purpose in both Germany and Japan. The German plant technology was selected on the basis that the transfer of the technical “know-how” from the Japanese plant to the Arklow situation would be difficult. However, while the Germans were offering a conventional plaster-board plant, the plan to convert the chemical gypsum into plaster to feed to the plaster-board plant would itself be a prototype plant. Thus, there was an element of development risk in the project from the very start.

322. Another factor that had an important bearing on subsequent events was the omission of inflation from the original feasibility study. Thus, in the original feasibility study it was assumed that the cost of raw materials, services and personnel would increase at the same rate as the selling price. This assumption was made despite the fact that a sensitivity analysis showed that the project was particularly sensitive to product price. Subsequent events showed that this assumption was a serious misjudgement when in the period 1973 to 1979 raw material costs had increased by a factor of 4.3 whereas selling prices obtainable had increased by a factor of only 2.5.

323. It is the Committee’s opinion that the above two matters are the significant factors in the failure of Arklow Gypsum Limited.

324. There were other factors which contributed to the extent of the losses incurred. The principal among these was the time taken to commission the plant. The plant had originally been planned to go into production in early 1975. Due to various problems during commissioning the plant did not in fact go into production until 1979. NET management estimated that nearly a year was lost initially due to design delays by the contractor and late delivery of equipment. Subsequently the failure of the original autoclave, under pressure test, added 1¼ years to the commissioning time in obtaining the replacement unit. There was a further year lost due to “major equipment selection and design faults in the Preparation Plant” and the failure of a “major filtering system.”⁴⁹ NET report that subsequently attempts at full-scale commissioning in 1978 “were bedevilled by multiple equipment failures and shortcomings on both plants.” Finally, when commissioning was ready to commence in October 1978 a further six months was lost due to a strike at the NET plant in Arklow. These delays caused unrecovered pre-trading expenses amounting to an estimated £3.75 million.

325. Subsequent to commissioning, losses of about £3 million were incurred during 1979 and the first six months of 1980.

326. NET have stated in evidence that total cost to mid-1980 of the Arklow Gypsum Limited project amounted to £10.57 million. They estimate that between £1 million and £2 million of this could be recovered from the sale of the plant. Thus, the net loss of the project is likely to amount to between £8½ and £9½ million.

327. In the course of the hearing NET were questioned on several occasions on the technical expertise which they had for the planning, development and implementation of a plaster-board project. The reply received from NET’s Chairman is quoted below:

“We had in the sense that we had the technical expertise of our own engineers at the time we were doing these tests in Germany and Yugoslavia. [The tests referred to were on the processing of 100 tonnes of chemical gypsum from Arklow into plaster in Germany and subsequently into plaster-board in Yugoslavia]. Cement Limited were still interested in the project and we had technical people from Cement Limited involved in these tests, one of whom certainly is still with that company and had worked previously in the plaster-board industry. He was involved in the tests in Yugoslavia. I am not sure whether he was involved also in the tests in Germany. I consider that we did have the technical knowledge adequate for us to be able to assess the results of the pilot tests we were doing in Germany and in Yugoslavia”.⁵⁰

328. No further information was forthcoming on this subject and it would seem to the Committee that NET have not demonstrated that they had adequate product expertise in such matters as production experience, commercial experience, and marketing experience for plaster-board.

329. The Committee questioned NET and AGL management on their actions in keeping the Board informed of the progress of the project in view of the delay and cost escalation that was occurring. In reply NET stated that the submission of feasibility studies to the Board was continued and that these showed that “whereas it had been an attractive project in the first stages, that attraction was wearing away somewhat but it was still there”.⁵¹ In reply to another question the Chairman of NET stated that “to the best of my memory, the Board never formally spent time considering whether it should abandon the project”.⁵²

330. NET have further stated that “It was only in the very latter stages in the case of an assessment carried out in 1979 and early 1980 that it became apparent that the future was negative, in that not only would it not make a return, not only would it not cover its own operating expenses, but there would be no contribution made to NET in respect of its investment. At that stage the final decision was taken in respect of shutting down the operation”.⁵³ Thus it would appear that closure was considered by the Board for the first time in early 1980.

331. In response to questions put by the Committee to NET relating to the plant’s ability to meet its planned and specified performance NET replied “we would say that the performance at the moment in terms of output, quality and raw materials is at or around that originally stated by the contractors”.⁵⁴ This statement was subsequently qualified by references to “continuing problems”. Despite these assurances it seems to the Committee that the plant could hardly have been operating at full capacity for a sufficiently long period to verify its planned output capacity of 8.4 million square metres per year of plaster-board. This would indicate a daily output of 27,000 square metres and a utilization factor of 310 days per year. From the evidence submitted by the Arklow Gypsum Ltd. workforce representatives, it would appear that the plant achieved an output performance of 96% (of its capacity presumably) but that this was maintained for only one week in June of 1980. Their evidence suggests that the plant was subsequently on reduced output due to a reduction in demand for the product.⁵⁵

332. In relation to the question as to whether the plant ever really had a commercially viable product, the following submissions were made by the NET executives:—

(i)“The plant is just not an economically sized unit”. (Evidence, Question 354).

(ii)“It is a high cost plant in terms of energy and it would need much additional expenditure in order to reduce that cost”. (Evidence, Question 355).

(iii)“The technology available in the world, though not necessarily available to us, has also improved quite considerably in the intervening years, particularly in the area of energy usage”. (Evidence, Question 353).

(iv)“The main change has been in the relationship of the price of raw materials to the price of the product, which changed very adversely in the ensuring period”. (Evidence, Question 353).

333. The Arklow Gypsum Limited project was an expensive failure, particularly in the terms of a loss of about £9m of the taxpayers’ money. Much of the cause for this failure must be attributable to the poor performance by NET in assessing the feasibility and in planning this project. The Committee recognises that a portion of the losses can be attributed to equipment failure and performance defects by the contractor which were not the fault of NET. However, it should be realised that while these contributed to the extent of the losses they did not in fact themselves render the project any less viable. The Committee recognises that the major increase in energy costs at the end of 1973 played a significant part in reducing the potential viability of the project. The Committee considers that when the new situation in energy costs became apparent in early 1974, the possibility of abandoning the whole project should have been considered specifically by the Board of NET.

PART D

VARIOUS SUBMISSIONS TO COMMITTEE

Irish Farmers’ Association

334 The IFA’s concern is that the method of financing the Marino Point project mainly by loan capital, gives rise to a very large interest charge, which must eventually be included in the selling price of fertilizer. They estimate that the interest charge alone amounts to a cost of £33 per tonne at full capacity. They contend that it is unreasonable to expect farmers to bear this additional cost in the price they have to pay for fertilizer. The IFA see that the primary beneficiaries of the project were the construction workforce and the NET employees who got ongoing jobs.

335. NET have stated in evidence that as the Irish market for fertilizers is open the selling price for fertilizer depends on the market forces, and is not tied to cost. Therefore, it appears to the Committee that the present selling price does not in any way reflect the full interest costs borne by the Company.

336. The Committee considers that while the full effect of interest charges on price does not arise right now, it is nevertheless a very important matter for the future that must be taken into account in considering any possible capital restructuring.

The Construction Industry Federation

337. The main points raised by the CIF are the extent to which NET have, over the years, brought-in overseas contractors to the exclusion of Irish firms and the fact that NET’s attitude has been unco-operative to the construction industry here. A further point made by the CIF is that, with NET’s agreement, Kellogg awarded itself with the mechanical contract without going out to tender.

338. The Committee has examined the first question raised by the CIF, and finds that in the case of Marino Point all but two of the sub-contracts were awarded to Irish firms. The total value of the sub-contracts let at Marino Point was approximately £28 million.

339. In the case of the mechanical work, comprising in the main plant erection and pipework, Kellogg undertook this by direct hire (or direct labour). As main contractor and under the terms of the contract they were entitled to do so with NET’s agreement. In fact they engaged, and in some cases trained, mainly Irish labour to undertake the work under their (Kellogg’s) supervision, using construction equipment obtained largely from Irish suppliers or hire firms. NET have explained their decision to undertake the mechanical work on this basis as due to the lack of local capacity to undertake the huge amount of pipework involved and lack of experience in the erection of the sophisticated equipment. The Committee considers that NET did in fact let a substantial amount of the work to Irish contractors and that they have made a case for undertaking the mechanical erection by direct hire.

Association of Consulting Engineers of Ireland

340. The ACEI in their submission make a case for the engagement of Irish firms of consulting engineers on projects such as Marino Point.

341. As far as the Committee can ascertain, no Irish firm of consulting engineers was engaged by either NET or Kellogg on this project. In fact it would seem that the extent of the engagement of Irish firms of technical consultants was restricted to the architectural buildings costing about £4 million. On these, an Irish firm of architects was engaged for the design work and an Irish firm of quantity surveyors was used for the preparation of bills of quantities and for the preparation of final accounts.

342. It is the Committee’s opinion that Irish consulting engineers had (and still have) the competence and capacity to undertake a very substantial portion of the work at Marino Point. Their exclusion arose from NET’s decisions taken in late 1973 and early 1974, firstly to engage a main contractor to undertake both the design and the construction of the project, and, secondly, to set up an organisation which catered only for this method of proceeding with the project. The Committee considers that Irish firms of consulting engineers could have been engaged with advantage on substantial areas of the work had there been a little more foresight and planning.

NET Arklow Workforce

343. The NET Arklow workforce make a number of points in their submission dated 23 September 1980. Many of these touch on matters that are dealt with elsewhere in the Committee’s Report. However, the Committee considers it appropriate in this part of its Report to refer to several of the points made by the workforce.

“We present this submission on behalf of the members of the workforce, both union and non-union having contributed to it, to try to influence decisions in the future that may affect the viability of NET Arklow and consequently the investment of the workforce. It has to be based on our experiences in the past. If things continue into the future as they have in the past, particularly in the area of decisions that govern major development, we fear our jobs may be in jeopardy. Although the workforce have no input in the decision making process, they must accept job losses if decisions turn out wrong. These decisions are made far above our heads by management, the Company’s Board of Directors, Government Departments and by the Minister himself, but they affect us and they must be more consistently correct in the future”.

The submission subsequently refers to two major projects, namely the Marino Point project and Arklow Gypsum Limited as projects that failed to meet their specification in terms of cost, date of commissioning and return on monies invested.

“We question, very forcibly, the structures from the Minister through his Department, Board of Directors and senior management, that allowed these mistakes to be made”.

345. The Committee considers that this latter point made by the workforce in their submission is relevant in that the Committee has already concluded in the case of the Marino Point project that there was a serious misunderstanding between NET on one hand and the Government Departments and the Government on the other hand in relation to capital cost estimates. These misunderstandings point up, at the very least, the inadequate communications structure that existed.

“Had we the proper expertise and experience to evaluate, construct and commission projects of the size we were involved in?”

“The credibility of the Company in the industrial relations sphere among the workforce is very low”.

“When decisions are made by the personnel department they are not vested in a particular person but in a group. There seems to be no responsibility or accountability, thus creating dissatisfaction”.

In this regard the Committee has already expressed the view in this Report that due consideration must be given to the development of an appropriate industrial relations strategy by NET.

CONCLUSION

348. The Committee is indebted to all those who provided it with written and/or oral evidence. The written evidence, other than that provided on a confidential basis, is reproduced as Appendices to this Report.

349. The Committee wishes to express its thanks to Mr. Michael O’Kelly, B.E., C.Eng., M.I.E.I., M.I.M.C., M.I.I.E., and Mr. Kieran Ó Broin, B.Comm., F.C.A., M.I.M.C., of Management Consultant Partners and Associates, for their invaluable help throughout this inquiry.

SIXTEENTH REPORT

NÍTRIGIN ÉIREANN TEORANTA

Part A—General

A.I INTRODUCTION

Background

A.II MARKET

The Irish Domestic Market—Recent Trends

Marketing Policy

Objectives

Product Policy

The Irish Domestic Market—Future Growth

Export Market for N.E.T. Ammonia and Urea

Export Market for Ammonia

Urea

Customers in Domestic Market

Distribution in Domestic Market

Pricing Policy

Conclusions

A.III PROFITABILITY & FINANCIAL PERFORMANCE

Sales Performance

Profitability—1970/1979

Current Trading Position

Capital Structure

Conclusions

A.IV SUBSIDIARY AND ASSOCIATED COMPANIES

Arklow Gypsum Ltd.

Joe Sefton Ltd.

NET—Ketjen Company Ltd.

Irish Plastic Packaging Ltd.

A.V MANUFACTURING FACILITIES—ARKLOW

A.VI ORGANIZATION, STRUCTURE AND CONTROL

Corporate Objective

Board of Directors

Executive Management Structure

Planning Activities

OPERATIONS

Communications

Controlling Process

Conclusions

PART B—MARINO POINT PROJECT

B.I INTRODUCTION

B.II CAPITAL COST ESTIMATES AND APPROVALS

Historical Resumé

Conclusions

Conclusion No. 1

Conclusion No. 2

Conclusion No. 3

Conclusion No. 4

Conclusion No. 5

Summary of Conclusions

B.III SELECTION OF MAIN CONTRACTOR

Conclusions

B.IV CONTRACT TERMS

Applications, Advantages and Disadvantages

Conclusions

B.V DELAYS

Conclusions

B.VI COST INCREASES

A. Delays

Design and Procurement

Industrial Action

Excessive Bad Weather

Excessive Absenteeism

Action on Delays

Cost of Delays

B Underestimates

C Scope Changes

D Accounting Policy

Comparison with Other Plants

Conclusions

B. VII MANAGEMENT

Board of Directors

Organisation

Management Experience

Administration and Control

PART C—ARKLOW GYPSUM LIMITED

PART D

VARIOUS SUBMISSIONS TO COMMITTEE

Irish Farmers’ Association

The Construction Industry Federation