I and other Foolish contributors have written several times over the past few months about precisely why the bottom hasn't yet arrived for engineering or mining services companies like Monadelphous Group Limited (ASX: MND) and UGL Limited (ASX: UGL).
The reasons are myriad, ranging from weaker mineral prices reducing exploration and capital expenditure activity, cost-reduction initiatives being implemented, a major decline in the total amount of upcoming projects, and so on.
In addition to all these headwinds, mining services companies are facing massive margin pressure as companies like Rio Tinto Limited (ASX: RIO) and BHP Billiton Limited (ASX: BHP) pull out all the stops to reduce costs.
As reported in Yahoo news this morning, Rio Tinto executives recently met with the company's top 50 suppliers and told them the company would leave 'no stone unturned' in its efforts to further cut costs, while simultaneously warning that safety must not be compromised.
Rio and BHP are both cutting costs in order to reinforce their margins while the iron ore price remains weak, and adding fuel to the fire is BHP's stated ambition to become Australia's lowest cost iron ore producer – a crown that Rio has no intention of handing over.
In addition to asking suppliers to tighten their belts, Rio and BHP are increasing the automation of their mining operations, with Rio reportedly only a stone's throw away from having fully automated ore trains running from its Pilbara operations.
With such pressure to reduce costs, mining services companies will be operating ever thinner margins, particularly given the shrinking pool of work around.
Since cost is a major factor when tendering for a contract, companies like Monadelphous, UGL, Worleyparsons Limited (ASX: WOR) and Ausdrill Limited (ASX: ASL) will be undercutting each other in an attempt to land contracts and keep the revenue rolling in.
It's not a recipe for growing earnings per share and I again warn investors to steer well away from the mining services industry.
