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"
Oracle has acquired Primavera Software, Inc.Oracle's Primavera Risk Analysis is a full lifecycle risk analytics
solution integrating cost and schedule
risk management. "
Source : Pertmaster
Successfully Managing Contract Risk
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In Vegas, projects would most likely be described analogous to the games such as roulette or
poker. Interestingly in reality, often the odds of project success are as slim as that of winning such
a game of chance in a casino. Regardless of industry, projects are inherently risky with project
success being dependant upon a project plan accurately modeling the scope of work required to
complete the project on time and to budget. To make matters even worse, most projects involve
subcontracting out large portions of the project to a third party or subcontractor - further adding a
degree of complexity and uncertainty to already muddied waters.
To ensure project success, planners and project schedulers go to great lengths to plan to the
most minute level of detail, produce the most brilliant project plans and cash flows but often the
most important factor when planning and forecasting is forgotten - that is the aspect of
uncertainty. The impact of uncertainty in any project can deem the best laid plans useless and yet
it is arguably the most overlooked aspect of project management both at the planning and
execution phase.
Formalized risk management should be carried out not to necessarily eliminate project
uncertainty (as this would be unrealistic even for the simplest of projects) but instead to plan for
and understand the potential impact of risk events occurring and the best way to plan risk
responses to them. As planners, we should be undertaking a "calculated risk when placing bets at
the poker table" and not blindly betting the farm on the ball falling on red when spinning the
roulette wheel.
Risk management is frequently considered at the project bidding phase and/or during a portfolio
analysis when determining whether a project is a good fit or not for the corporation. Once passed
the initiating phase however, typically little formalized risk management is carried out - this is first
and foremost the leading cause of many of the "best laid plans" falling to the wayside.
When entering a relationship with a subcontractor, the purpose is to employ additional capability
(at a mutually beneficial price) that otherwise would not be achievable internally. This could be
due to lack of sufficient direct resources or lack of specialist skills. Additionally it could also be a
result of a desire to pass on some of the responsibility (a.k.a. "risk exposure") of sharing the work
with another party. As such, when contracting work out to subcontractors it is essential to
determine the degree of risk being transferred to them and how much new risk is being taken on
board by employing the subcontractor. The subcontractor may alleviate a critical resource
constraint but if they cannot complete the required work to a specified quality then the benefit of
transferring the work is diminished by the additional burden of ensuring the work gets done
correctly.
Likewise, for the subcontractor, when agreeing to the contract, it is essential that the scope of
work and the timescale of delivery are both fully understood. In a nutshell, expectations from
both parties need to be mutually recognized and agreed upon - risk management essentially
negates the uncertainty around such expectations. Successful subcontracting is about managing
expectations of all parties involved.
Risk, like responsibility "rolls downhill" in any project with the prime contractor being responsible
for delivering a product or service to the owner or client to a certain specification (time, cost,
quality etc). If this work is itself subcontracted, then some of this risk is transferred to the
subcontractor but is still ultimately managed by the contactor. This waterfall effect (see figure 1)
spreads responsibility across multiple parties but the total degree of risk within a project is still the
same (and in fact can actually increase with the introduction of additional risk brought by the
subcontractor).
The Contactor Standpoint: "Which Work Should be SubContracted?"
From a contractor standpoint, the most important aspect of subcontracting work is defining and
tracking the subcontractor deliverable goals and milestones. When managed under a formalized
risk management methodology, a subcontractor schedule is typically a risk analyzed plan that has
been adjusted accordingly based on the degree of risk present in the scope of work. If the
subcontracted work is high risk then the "baseline" schedule is adjusted accordingly yet the
"incentive" schedule may still be based upon the original schedule. This serves two purposes: it
protects the contractor from cost and schedule overruns by the subcontractor work and also
provides an incentive to the subcontractor to ensure that the high risk areas of work are
completed accordingly. Such schedules are known as "Percentile Date" schedules and are based
upon confidence factors for completing work. A prime-contactor may put work out for tender using
a P50 schedule and yet offer bonuses using a P20 schedule - that is a schedule that has a 50%
chance of being completed on time and a more aggressive schedule that only has a 20% chance
of being completed on time.
Figure 2 shows a typical cost risk histogram showing a projected 47% chance of completing the
project on budget. From this, a detailed P20 and P50 schedule can be determined and used in
the above described context as shown in figure 3.
Percentile schedules can also form the basis for contingency calculations as well. Such a cost
reserve is typically allocated as a lump sum to account for risk events and estimate uncertainty
causing a variation from the planned schedule. Contingency can be derived from comparing the
cost of the deterministic project plan and that of say a P80 schedule. If the deterministic schedule
is calculated to cost $2.5M and the P80 schedule is calculated at $2.8M then a contingency of
$0.3M is needed to ensure that P80 schedule is achieved regardless of risk events occurring.
The Subcontractor Standpoint: "Should We Undertake the Subcontract?"
From the subcontractor standpoint, knowing the chance of achieving the required work on time is
critical to determining whether undertaking the work is beneficial or not. Often a risk analysis will
force a higher bid by the subcontractor which, if backed up by a risk analysis determining why the
work (hence the higher bid) is high risk, will often be the difference between a winning and
loosing bid. More importantly it can be the deciding factor when determining whether to enter a
bid or not.
Additionally, when negotiating incentives and bonuses, being able to determine whether the
proposed schedule is realistic or not is key. The most lucrative bonuses are irrelevant if they can
never be realistically reached. If the schedule is not realistic, then determining which aspect of the
work is the highest risk is very valuable as it then provides additional decision support information
and negotiating power.
Figure 4 shows a typical Risk Tornado chart depicting the key risk drivers in the schedule. In this
example, from a subcontractor standpoint the primary risk responsibly lies with the planning task
2387 from the prime-contractor rather than tasks assigned to the subcontractor themselves. As
such this risk driver would not be a major concern but instead would put the onus on the prime
contractor to ensure ‘Pre-Turnaround Planning was completed successfully - perhaps a useful
clause to include in the contract from the subcontractor standpoint...
Conclusion
Contractors and subcontractors are both exposed to risk within a project and as such it is equally
important to both parties that a formal risk analysis be carried out. Understanding the risks
involved and managing risk response through standard response types such as mitigation or
added contingency further ensures project success. Applying too much contingency and risk
mitigation can be as loss-making as not implementing risk response at all. A fine line to walk but
with the correct tools and methodologies in place, the odds of a win-win relationship between the
contractor and the subcontractor are far higher than that of the poker game or roulette wheel in
Vegas...