#022 Risk Management (Part 1) 📈
In this post, I'm reviewing Level 1 of the Risk Management competency. I struggled with this during my early APC days because all I was doing at the time was measuring and estimating. You may get some risk management experience in that environment, but it will be minimal.
You will get more experience for this in a post-contract role, where change is more than likely and you will have to work with the PM and the contractor in order to minimise the risk!
DISCLAIMER: The following is not an exhaustive set of notes, but it's an attempt to help those who, like me at the beginning, did not know where to start! Please feel free to let me know if I have said anything incorrect or out of date!
So what is Risk Management all about?
The RICS describes this competency in the following way:
This competency covers the management of risk on construction projects, including the benefits to be gained and the techniques and processes used to manage risk. They should have a detailed understanding of how risk is dealt with on their projects.
Level 1 is all about the following:
Demonstrate your knowledge and understanding of the nature of risk and, in particular, of the risks associated with your area of business/practice.
The principles of risk management
Risk Management refers to the process of identifying, assessing and mitigating risks. That was a very basic definition but it generally explains the concept.
We need to 'manage' risks because they can be detrimental to our construction projects. In this context, a risk is anything that impacts time, cost or quality.
This is a key part of a QS's role but it's not a solo task. You will have to work with the PM, the design team and the contractor in order to be effective.
The Project Manager will usually run a risk register from the pre-contract stage all the way up to the final account. Pre-contract risks may take the form of overspend on design activities, or a risk that planning permission may not be given. Post-contract risks maybe things like anticipated variations whereby the contractor has found something in the ground which was not picked up by surveys, the removal of which may impact the completion date and/or cause an additional cost.
The design team need to be able to identify design risk for the proposed asset. This is especially important where the proposed asset is NOT built using a traditional procurement route, i.e. where the design is complete prior to tender. This is because we must assume the client may not be aware of the technicalities of the construction project, therefore the onus is on the design team to assist them in identifying potential risks.
The contractor's role is to identify and mitigate risks that they may find on-site as they proceed through the construction phase. In my experience, good contractors work with the client to mitigate the risk as efficiently as possible. As client-side consultants, we must remember to be fair and reasonable. There are some things that are out of the contractor's control, and if they are asked to do extra work, they have to be fairly compensated. In the same vein, the contractor should not seek to take advantage of the client by using the risk to make an excessive profit. During the tender process, aspects incidental OHP and key rates should be identified in order to be fair to both parties.
How the various procurement routes deal with risk
When we talk about risks during procurement routes we are talking about how the contracts will deal with change post-contract.
In the Traditional route, the risk generally lies with the client. The point of this route is that everything is designed and quantified by the client, all the contractor has to do is follow the design, supply the materials and construct the asset. Therefore, in a post-contract variation situation, if the quantities are not accurate, the employer will pay for the extra cost.
In the Design and Build route, in theory, the risk is shared 50/50. The way a D&B works is the employer does an outline design which forms part of the employer's requirements (EP). The contractor develops this and produces the contractor's proposals (CP). The employer is responsible for everything in the EP, and the contractor is responsible for the (CP). As the design develops the employer approves the contractor's developing design via the design submission process. Anything from this process has a 50/50 risk share.
D&B is a difficult one to discuss because the textbook definition above rarely occurs in reality. Instead what tends to happen is something called the halfway house. This is where the employer does a bit more than an outline design and produces definitive details for things that are important to them. This might include specifying the types of material/finishing used. They leave the structural detail to the contractor, after all, the contractor has to build something which complies with the building regulations and all the client needs to say is "I want a 200-bed hotel, which meets 4* requirements and has the following materials used". The contractor can then run with this and produce a CP that meets that requirement.
There is also something called Design and Dump, whereby the employer fully designs everything, calls this the EP. The contractor notices this and is concerned as to why a client who has already designed everything is asking for this to be further designed, they become cautious and then risk price everything to cover for the possibility of post-contract variations.
Management Contracting is an interesting one, generally speaking, the client retains the risk for the outline design, however, the management contractor (MC) also holds risk for the developed design. The MC also takes a further risk as the sub-contractors are linked directly to them (instead of the client), therefore if they fail to perform the MC will face the repercussions.
Construction Management is the riskiest for the client. The client will appoint a Construction Manager (CM) who will manage the design and the contract packages. The difference between this version and management contracting is that the package contractors are in a contractual relationship with the client, not the CM which puts the client at risk.
I've got an easy acronym for this one: STARR. These 5 mitigation strategies you should be aware of:
Risk Sharing: This is where the client and contractor share the risk, an example of this is a provisional sum. The client takes the risk for the quantity as it's to be determined and the contractor takes a risk for the rate applied.
Risk Transfer: You can transfer the risk to the contractor. I had this once where we had an unexpected amount of unused excavation spoil, there was a possibility some of it could be contaminated. The client paid the contractor a lump sum to remove it all. The contractor agreed to a price at their risk, it could be the case that the amount they received was not enough to cover the cost of disposing of that soil but they agreed to the price offered by the client therefore they obtained the transferred risk.
Risk Avoidance: You can try to avoid the risk entirely! For example, let's say the contractor has a plot of land, but 10m2 of it has terrible ground conditions. Avoid the risks associated with that by not building on it or anywhere near it. Obviously, that's a massive exaggeration but it gets the point across for this example.
Risk Reduction: Let's say there's a potential risk that the ground conditions on our plot might be poor. If they are poor we might have to use piles which are more expensive. To reduce this risk we can do a site investigation to get a better understanding of the risk.
Risk Retention: The client can choose to retain the risk. If we go back to the contaminated spoil example above, my client did consider retaining the risk and getting rid of the spoil themselves with the hope that it would cost less than transferring the risk to the contractor.
The techniques used to quantify risk
There are various methods used to quantify risk. In the sector I work I've seen sensitivity analysis and the Monte-Carlo/probabilistic method used most.
A sensitivity (or what-if) analysis is used to identify the impact of variances to the quantities and rates of a work breakdown structure within an estimate. For example, for train stations, one of the last things that get designed is the station communications i.e. the cameras, sensors, fire alarms etc. In a sensitivity analysis, you would note that the quantities are highly sensitive because the design is to be determined. At the estimate stage, the QS would have probably assumed some quantities based on discussions with the design team and experience on previous projects. The rates had a medium level of risk because although we may have had rates from previous rates, changing (newer) technology impacts the costs which therefore impacts the level of risk.
Probabilistic methods are used especially in large infrastructure projects within the UK. They provide a 3 point estimate at various risk profiles (low, medium and high) based on assumptions provided by the project team and in some instances the contractor also. For more info check page 3 of this document.
Please check the RICS guidance note for further info on risk quantification techniques.
The effect of risk on programme and cost
The RICS guidance note references something called a 'schedule quantitative risk analysis'. I must admit I have not seen this methodology used extensively in the projects that I have worked on.
In the larger projects, I was involved, after the risk was calculated, the same assumptions were used to provide best/worst case programmes. I'm talking about projects which are nearly 20 years long, I wasn't too involved in this from the client's perspective but we (as the quantity surveyors) had to consolidate all the assumptions which were used to calculate risk and pass them on to the programming team. They would then in turn provide us projected completion dates which we used to calculate forward inflation. On twenty-year programmes which cost billions in terms of direct, indirect and employer costs, the inflation figure would run into hundreds of millions.
The point I'm trying to make here is that risk obviously impacts the cost of construction in terms of unforeseen (or foreseen) activity costs, but there is also the hidden cost of inflation that also needs to be considered.
How the NRM deals with risk
The NRM categorises risk in 4 sections:
Design Development Risks
Employer Change Risks
Employer Other Risks
That's it for this post folks, as always, any questions give me a shout.