Project Delivery Risks: Theory and Reality

        The Need to Better Identify and Manage Risk

        What is Risk?

        What is a Project Delivery System?

        The Real Risks

        Understanding Prerequisites for a Successful Use

        Rationally and Objectively Evaluating a Delivery System

        Rational and Project-Specific Identification and Allocation of Risk

        The Opportunity

        Bob Smith is a senior shareholder with the national law firm of Wickwire Gavin. He is based in the firm's Milwaukee, WI, office. His practice emphasizes problem avoidance and resolution through better contracts and risk allocation. He can be reached at 608/257-5335, fax: 608/257-2029.

        The Need to Better Identify and Manage Risk

        Construction project delivery systems are proliferating today. Design/build is the current hot subject, along with its subset of bridging. Many other methods exist, including turnkey, conventional, construction manager (CM) at risk, CM as agent, and build-own-operate-transfer (BOOT). Compensation measures include cost plus, guaranteed maximum price (GMP), and "hard money." Participants in the construction industry have become more conscious of the need to better identify and manage risk. Yet, they tend to generalize when considering the risks of project delivery systems.

        What is Risk?

        Let's review just what we are talking about when we say risk. I define it as exposure to possible economic gain or loss as a result of involvement in the construction process. By this definition, owners, design professionals, and contractors are all exposed to risk.

        Next, what are the different types of risk? I divide them into two main categories: construction and contractual. Construction risks relate to the project's site and execution, while contractual risks are those allocated (or sometimes unfairly imposed) by contracts.

        What is a Project Delivery System?

        My definition of a project delivery system is very expansive. The project delivery system is the contractual structure and compensation arrangement the owner uses to acquire a completed facility that meets its needs. This definition encompasses design as well as construction services. It could be conventional design-bid-build, with a GMP. It could be a design/build for a lump sum. There are many possible permutations. Getting back to the big picture, textbook theory and conventional wisdom characterize project delivery systems as follows:

        • Traditional design-bid-build:
          high risk to owner
          (design deficiencies, changes, delays)

        • Construction management:
          Some risk goes to the CM,
          who is rewarded for successfully
          assuming and managing it

        • Multiple prime:
          high risk to owner
          (need to coordinate bid
          packages and contractor)

        • Design/build:
          more risk to the contractor,
          less to the owner (the joy
          of single-point responsibility)

        In my view, these traditional assumptions are neither complete nor accurate (nor for that matter very helpful). For example, I've seen (and prepared) conventional design-bid-build contracts that assigned an enormous amount of construction and contractual risk to the contractor. I've also seen contracts where the owner, in the interest of more competitive bids and a more constructive relationship, rationally assigned risks and in many instances retained them.

        Similarly, the so-called "CM at risk" contract doesn't necessarily place the CM at much financial risk if the target numbers were fat from the outset. Finally, some owners plunge headlong into the use of design/build because it's the sexy delivery system of the 1990s. In doing so, they often blindly or naively assume enormous risk by not recognizing that they need to provide or obtain appropriate design and performance criteria. Thus, the traditional paradigms don't really hold up because the analyses are superficial and based on generalizations and assumptions.

        The Real Risks

        The real risks in construction project delivery systems today--clearly all risks of the owner--are:

        • Not understanding the prerequisites for the successful use of a given delivery system (that's a nice way of saying theres no perfect delivery system, just as there is no such thing as a free lunch)

        • Not rationally and objectively evaluating a delivery system (putting the cart before the horse; more on this subject later)

        • Not investing in a rational process of identifying and allocating risk for a given contract

        Understanding Prerequisites for a Successful Use

        Determining and creating an appropriate project delivery system is a very project-specific decision. The selected method can have a bearing on such things as project performance time, responsiveness to changing owner needs, the ability to use a team approach, whether contractor input during design is possible, cost-savings incentives, and alternate financing methods.

        Unfortunately, there is no software program into which an owner can enter priorities and parameters and receive as output arecommendation for an ideal delivery system. Among the prerequisites that the owner--the ultimate beneficiary of the project--should consider are:

          Level of sophistication

          Is the owner experienced, or will it require a good bit of outside advice?
          Multi-prime, design/build, and turnkey projects actually require the greatest
          experience/ sophistication/advice, while BOOT is at the other end of the scale.

          Internal staff capabilities

          What are the owner's staff capabilities? Multi-prime and traditional require a
          great deal of staff effort from the owner, while CM and BOOT require much less.

        Rationally and Objectively Evaluating a Delivery System

        My experience is that any given delivery methodology has its promoters. Naturally, CMs promote CM, just as design/builders will advocate design/build. Understandably, their presentations will em-phasize the advantages and downplay the negatives. Remember that every system has its pluses and minuses. The decision should not be made based on the most effective advocacy, slickest presentation, hearsay comments from an another owner, or a success story in a trade journal.

        The project delivery system should be selected based on a careful evaluation of the process and its consistency with the owner's needs, priorities, and capabilities. Just as a hospital owner wouldnt select a sports facilities architect for an ambulatory care addition, an owner shouldn't select a delivery method without an objective analysis to identify a system that best matches its needs.

        In the life cycle of the project, the delivery system should be selected before other project activities ensue. It will determine the scope of work for the A/E, e.g., performance specs and design criteria in the case of design/build, final plans and specs in the case of traditional design-bid-build, and multiple coordinated bid packages for fast-track delivery.

        Rational and Project-Specific Identification and Allocation of Risk

        The next overlooked area (and therefore yet another opportunity for cost and time savings) is a systematic and rational allocation of risk for a given contract. The allocation of risk has a significant effect on total project costs as well as relationships. Interestingly, rational allocation of risk can be performed for any delivery system, and often the allocation of risk turns out to be the same.

        For example, acts of God or force majeure events are always best shared, with the contractor and owner both absorbing their respective dollar consequences of the delay, and transferring property damage risk to insurers for a fixed premium. In managing such a risk in the contract documents, the most important thing is to include a clear and complete listing of force majeure events.

        The assignment of risk for design adequacy, on the other hand, varies depending on the type of delivery system. In traditional design-bid-build, the owner warrants the adequacy of the design and can manage that risk through retaining a highly qualified design professional and providing adequate scoping information and fair compensation.

        In design/build, while the ultimate design is prepared by the design/builder, the owner also has some design risk. If its performance specifications or design criteria are inadequate or incomplete, its expectations probably won't be fulfilled. Thus, the owner needs to recognize the need to invest in this effort up front.

        The basic rule is that risk should be allocated to the contracting party that is in the best position to assume, manage, or bear the risk. It is also well recognized that every risk has an associated cost that must be borne by one party to the process or another. The clearer and fairer the risk allocation, the more effective the project delivery system. I use a simple computer checklist of about 200 risks for analyzing projects. After becoming familiar with the project and identifying risks that should be analyzed, I determine which party should be assigned the risk and then draft appropriate language.

        The Opportunity

        Project delivery system analysis and risk allocation represent a new service that can be marketed and provided to owners. Those firms that can provide well informed and objective recommendations will be most successful.