Value Engineering and Project Risk

To be successful a project must be based on a sound concept; it needs a well researched and documented design; responsible, competent contractors and during the production life; a competent operator. For these requirements to be achieved a thorough project evaluation exercise must be carried out. This evaluation should commence at the time of initial visualisation of the concept and should continue until completion of the project.

 

Most projects can be subdivided into five basic phases:

  • the concept phase – when the basic need for the project is identified and partially evaluated under a preliminary design study contract;
  • the design phase – when the scheme design is developed and the project is evaluated further; the decision to proceed is taken; the detailed design and planning is finalised and the construction contracts are awarded;
  • the construction phase;
  • the operation phase – when the project is performing and fulfilling its purpose; and
  • the decommissioning phase – when the project has reached the end of its economic life and is ready for demolition (or redevelopment). This phase will generally be considered as a separate project at the appropriate time. It will not be discussed further in this paper save to say that in the case of environmentally sensitive projects, it is essential that the concept and design phases give proper attention to the requirements of decommissioning as they are known at the time.

Each of these phases has its own set of risks and opportunities which are widely understood. Less well understood however, is the importance of giving due consideration to all of these matters during the first two of the above phases, that is, before the commencement of construction.

Once the design is substantially complete, the openings for the management of risk and opportunity are largely lost. Because of this, the project risks and opportunities need to be identified and the appropriate provisions made in the design before it has progressed too far.

The overall success of the project will be determined by what happens during the concept and design phases when the focus of attention should be the evaluation of the project using a method such as Value Engineering.

It is obvious that feasibility studies must be carried out for the purpose of identifying and evaluating all risks and opportunities of any kind that may arise. The Value Engineering method achieves this by drawing on a pool of experience and knowledge provided by a group of experts selected for the purpose. The real advantage of the method is that the experts can be drawn from outside the project group as well as from within and the pool of expertise can therefore be as wide and as deep as necessary to suit the needs of the project. The process can be carried out in various ways – such as for example, under the following headings:

  • information assembly (collection of relevant data, information and especially details of the sponsor’s expectations);
  • creative thinking (group ‘brainstorming’ sessions by selected experts) ;
  • analysis (including cost estimates) and evaluation of alternatives;
  • practical development of ideas including the production of schematic drawings etc.;
  • summary of findings and recommendations for the next step; and
  • approval by the sponsor’s representative.

These steps should be applied continuously to each of the basic phases of the project – especially the early phases. Value Engineering is thus a cyclical process. It should be seen as a management system which will allow the sponsor to avoid problems and to take advantage of favourable opportunities. If such a system is not used, the sponsor may miss chances for advantage and may have to fix problems by using a ‘project repair’ method where remedies are devised and applied after the event.

The concept phase begins with the identification of an idea which seems to have possible commercial prospects or other benefit and it continues with the evaluation of that concept by means of a Value Engineering assessment. It is the purpose of this phase to determine whether or not the concept should be considered further and if so, to enumerate and evaluate the pros and cons and perhaps to compare the merits of the concept with the merits of other unrelated projects which the sponsor may be considering.

The design phase has the following main objectives:

  • to ensure that the design is technically competent;
  • to ensure that the design is functional and as cost-effective as possible; and
  • to fully define all aspects of the project in a manner that can be priced by the tenderers for the works contracts.

The design will proceed in parallel with a succession of cost estimates of increasing refinement which will attempt to verify the worth of the project. The cost estimates should be based on a risk analysis procedure which provides a range of values rather than a ‘most likely’ value plus a contingency based on a nominal percentage.

The following is a selection of topics that are worthy of consideration under the Value Engineering exercise – for any particular project there will be many additional topics.

The Design Contract. The cost of design is comparatively low relative to the total cost of the project. It is therefore false economy to impose onerous contractual conditions on the designer. The use of lump sum design contracts may not be appropriate especially when the scope is not well defined due to the inclusion of an element of ‘study work’. The lump sum contract is not really conducive to the provision of satisfactory design services because the standard of the design service will tend to deteriorate as the designer’s budget runs down. Consequently, lump sum design contracts may result in design deficiencies being carried through into the construction contracts where the financial effect may be very significant. The design contract should provide for the design to be approved by the sponsor’s representative in a succession of stages. This should reduce the likelihood of the design process being disrupted by the sponsor’s representative wishing to revisit design matters that have already been finalised.

Division of Design Responsibility. The design risk will usually be increased when the design is split between a number of designers. This should be avoided where possible as the introduction of design interfaces increases the chance of difficulties being carried over into the works contracts.

Local Design Expertise. Where the design is to be performed by expatriate consultants, it is desirable for local consultants to be included in the design group. The local technical people will have a better understanding of local conditions and problems than do expatriate consultants from a different economic, cultural or climatic zone.

Constructability Review. The Value Engineering assessment of the design should include a periodic ‘constructability review’ to ensure that the designer is not creating a design which will prove to be difficult, slow or expensive to build. Whilst overall design will usually be competently performed it is not uncommon for the engineering design to be a little impractical in some respects. This frequently arises because many designers are not sufficiently familiar with construction methods. It is surprisingly common for designers to be quite unaware of the difficulties that they ‘design-in’ to projects whereas they should be sparing no effort to ‘design-out’ problems. It is therefore important that the design is reviewed at an early stage in the design process (and at intervals thereafter) by persons skilled in construction technique. This should identify any details or features of the design that are unnecessarily difficult, expensive or time-consuming to build. Difficult construction details will impair to some degree, the contractor’s ability to perform efficiently. If the contractor is aware at time of tender of ‘designed-in’ problems, the tendered price will be higher than would otherwise be the case. If the these problems are not noticed at time of tender then the contractor will be under additional cost pressure during the course of the work. This leads the contractor to apply itself more enthusiastically to the identification and pursuit of claims. An adverse effect on the project as a whole will result. Hence, the designers should make a real effort to ensure that technical problems are ‘designed-out’ rather than inadvertently ‘designed-in’ or deliberately ignored and passed off as ‘construction matters’ or ‘site matters’. It is preferable for such reviews to be carried out by persons who have had experience working for contractors rather than those whose experience is limited to the role of construction supervisor on behalf of designers and sponsors. The knowledge of those who have had, as their prime responsibility, experience in physically putting work into place, is invaluable.

Standardisation of Details and Methods. Designers should where possible, utilise construction materials and items which are of standard manufacture rather than specify ‘specials’ which are usually inordinately expensive. ‘Specials’ should certainly be avoided where the numbers required are low as the cost of these will be especially high. In addition it may be expensive to verify the quality of ‘specials’ as they present a management problem for both the contractor and the supervisors from the view-point of approvals, inspection and testing. Where possible the design should make use of the services of specialist subcontractors rather than impose innovative designs which call for new techniques to be developed by the contractor followed by approval and testing.

Partnering. Partnering is becoming more commonly adopted and some favourable results have been reported. However, for partnering to be successful it is essential that the designers make a real effort to produce a good design and clear documentation and ensure that doubt and confusion are reduced to a minimum. With the best will in the world, no contractor will happily adhere to a partnering policy if it is going to endanger its survival. Survival comes first – partnering may follow.

Fixed Price Lump Sum Contracts. The ‘fast-track’ method is often used to reduce the debt servicing charges by compressing the overall design and construction time. This is done by carrying out parts of the design concurrently with construction. To achieve this, it is necessary to go to tender with the engineering design in an incomplete state and the inevitable result is a contract which does not truly provide for the requirements of the final design. This is likely to result in claims from the contractor for additional time and/or payment. The sponsor needs to understand that the ‘fixed price lump sum’ contract cannot provide relief from claims which result from changes to the scope of the contract.

Disputes. Engineering designs and contract documents should be produced with the intention of avoiding disputes rather than winning them. In a dispute – both sides lose. Even the winning side loses because of the monetary cost and loss of management time in winning. That is, the cost of meetings, fees, and general disruption to the mainstream line of business. One way of reducing the likelihood of disputes is to ensure that the design is completed as far as possible before going to tender and that the documentation is carefully drafted. Many disputes arise from misunderstandings of the documents due to lack of clarity. Clarity in the contract will assist greatly in the reduction of the numbers of disputes.

“Opportunities”. The performance of Value Engineering during the construction phase sometimes highlights opportunities which seemingly offer openings for savings or other benefits. We should be very careful in taking ‘advantage’ of such perceived opportunities. If these are identified after tender and after the commencement of construction then a change of programme and perhaps a change of construction method will be required. This is likely to have significant disruptive effect on the construction process and is more likely to be a potential source of loss rather than a worthwhile opportunity for gain. Changes should be made only when there is a very clearly defined advantage in doing so.

Contractor Insolvency. One of the major risks to any project is that of contractor insolvency. It is essential that the tenderers are screened prior to tender to ensure that they are financially sound. It is also important to establish that they can execute the works for the price tendered – there is no point in accepting a tender which is clearly under-resourced if it is likely to result in the contractor being unable to complete the work. The cost of terminating one contractor and appointing another is likely to be very high and will also result in exessive delay to the project. The calling-up of the performance bond and the application of liquidated damages will provide only a partial remedy for loss of money and no remedy at all for loss of time. In the event that a contractor is in genuinely difficult circumstances there can be advantages in the sponsor making ex gratia payments to the contractor in return for a controlling role in the contractor’s management. This may achieve completion of the project with minimum distress to all.

The Contractors’ Share of the Risk vs. the Tender Price. There is sometimes a tendency for sponsors to transfer as much risk as possible to the contractor. It must be realised that this will result in higher tender prices. It may be to the sponsor’s benefit to remove or lessen the risk level by providing better information at time of tender. For example, in projects where ground conditions are an important factor, there may be very significant advantages in providing a more detailed geotechnical survey.

Construction Monitoring. In order to avoid the difficulties mentioned in the above topics, it is necessary to pre-empt them by the use of the Value Engineering method applied during the concept and design phases as outlined briefly above. Regardless of the success or otherwise of this, the construction phase of the project must be monitored by a suitable monitoring system. It is likely that the project lender will require the sponsor to provide reports (perhaps produced by independent specialists) periodically as a pre-requisite to funds drawdown. If the sponsor is not obliged to provide such reports then the lender should engage a consultant for that purpose. The use of an independent auditor for the purposes of project reporting can have very real benefits. It reduces the likelihood of reports being unreliable or misleading which can otherwise be the case.

The Project Report. The project reports should be compiled from reliable information collected from the construction site and they should monitor the two key components of construction risk – cost and delay. Cost monitoring will usually be handled by calculating for each month, a figure for the estimated-final-cost which is then compared with the relevant part of the project budget. The delay status of the project will generally be monitored by a critical path method. To be effective, the project report must be very clear and easy to understand. If it is complex and difficult to understand, there is a very good chance that it will never be read. A graphical presentation if designed thoughtfully can ensure that the cost and delay status of the project is easily and quickly seen.

The Reporting of Unbudgeted Costs. The inclusion of estimates of the unbudgeted costs (in respect of weather, ground conditions, delays etc.) in the project report should ensure that the sponsor becomes aware of their existence at the earliest opportunity. A delay in the recognition of unbudgeted costs may result in the loss of an opportunity to recover from a potentially serious situation.

Construction Quality and Operation Phase Difficulties. The operation phase may yield a few problems such as:

  • higher-than-expected maintenance costs;
  • lower-than-expected production rate;
  • unsatisfactory product quality;
  • low sales; and
  • problems with the supply of raw materials.

These are all matters that should be examined during the concept and design phases by Value Engineering and those involving quality should be covered in the construction contract by means of quality assurance provisions. It is essential to achieve the specified standard of construction in order to keep future maintenance costs to a reasonable level. The implementation of a quality assurance system should be an obligation of the contractor and a system of independent quality audit should also be imposed.

 

Conclusion

A successful project is one that works to the benefit of all parties involved. If any one of the project’s participants suffers a loss for any reason there will be some undesirable effect on the project as a whole and on the other parties – even if they are not directly connected to the loss.

Developing a new project and bringing it to fruition is never easy. However, the success of the project will certainly be enhanced if adequate evaluation is provided particularly during the conceptual and detailed design phases which are of immense importance.

The Value Engineering method can be of considerable assistance in setting up a project so that it is more likely to satisfy the expectations of all participants.

 

Reference from Daniel W M Boyd

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