Construction Risk Analysis 2015 - Norman Jacobs

Bookmark and Share Print this page

 - Construction Risk Analysis 2015     

Risk allocation in the construction industry is established by the construction contract. The importance of the contract cannot be overemphasized. In the end, the contract serves as a framework of the law between the parties and will establish which party has assumed or negated a particular risk in connection with the project.

Risk is simply the potential for complications and problems with respect to the completion of an activity and the achievement of a goal. For any project to meet the defined goal, risk must be managed, and thus must be  grated into the project constituents, project budget and overall project management approach. Following the identification of the sources and timing of risk, an understanding of the various types of impacts that routinely result from those risks is necessary to facilitate the development/utilization of potential mitigating and managing mechanisms/processes. The astute Project Manager must critique all contracts in order to manage risk.

A place to begin with contract documents and manage risk is to study and examine the General Conditions AIA A201 -2010. Evaluate each word related to risk.


In addition, to facilitate the understanding it is necessary to analyze the life cycle of a typical construction project, concentrating specifically on the processes that are being implemented as well as their relative timing.  This project life cycle knowledge allows a comprehensive understanding of the major sources of risk identified, including the risk timing and impacts.  It is only through this fundamental understanding that potential mechanisms and process for mitigating the impacts resulting from the major sources of risk can be effectively implemented. The perspicacious Project Manager must use a tool such as the project CPM Schedule to help manage risk.

Be aware that risk management is the management of events or activities that may or may not occur, and planning for their possible range of impacts to the project. Due to the probabilistic, futuristic and speculative nature of risk management, many sedulous Project Managers and teams feel uncomfortable with the whole topic and avoid it altogether,

For years, the assiduous Project Managers have been taught to identify, quantify and develop strategies for dealing with risk, yet risk management continues to be one of the weakest areas of project management. In today’s challenging project environment, how can Project Managers manage risk effectively?

Resources and dollars – A risk budget is the time and/or resources [including funds] budgeted to deal with risk once they occur. There are many causes for insufficient “risk” budgets on construction projects, including:

… Insufficient time, funds or resources estimated and budgeted by the Project Manager… Risk budgets cut by management

… Risk budgets mismanaged by the Project Manager and used to cover poor performance instead of identified risks.

This budget to deal with risk can be broken into four major categories:

1. Avoidance – actions taken to prevent the risk from occurring.

2. Mitigation – actions taken to reduce the probability of it occurring, the impact if it does occur, or both. But it does not eliminate either.

3. Detection/Triggering – actions taken to determine if the risk is likely to occur or if it has already occurred.

4. Contingency – actions taken to address the results once the risk event has occurred.

Avoidance requires upfront planning, because many avoidance strategies must be executed just before the start of the project.

Mitigation requires proactive and preventative actions to be taken throughout the life of the project.

Direction, or triggering, is a technique to determine the likelihood of the risk’s occurrence and its potential impact. Often this testing can only be initiated just prior to when the risk most likely would occur.

Contingency plans are not executed until after the risks have occurred; they are contingent upon that event. Contingency often involves cleanup, rework, added manpower, waste and damage. As a result, executing a contingency strategy is often more costly than investing in avoidance or mitigation and detection.

So, to avoid the common causes of insufficient risk budget, Project Managers need to do the following:

1. Avoid just tacking on a percentage of the budget for risk and instead, properly estimate and budget for avoidance, mitigation, trigger and contingency actions.

2. Invest more in prevention than contingency.

3. Allocate the risk budget to specific actions that will be taken to avoid, mitigate, trigger or respond to identified risks in your risk plan.

4. Manage the contingency reserve like a allotted budget and use it only for the execution of the contingency strategies developed for identified risks.

The judicious Project Manager’s risk plan must be integrated with your project game plan. This means the risk budget has to be incorporated into your project CPM Schedule, cost budget and staffing plan. Too many Project Managers have a separate file, tool and process for managing risk apart from the rest of the project. As a result, the risk plans are often forgotten, ineffective or used only for historical purposes or to prove compliance with corporate policy, and they fail to be a useful management tool. Lastly, it is too easy for management to cut a risk budget when it is completely isolated from the project game plan or lumped into one line item on the project budget.

Using a very simple and practical approach, Project Managers can build realistic risk plans and budgets, integrate them into the project CPM Schedule and reduce the probability that management will slash it. Critique the WBS, work breakdown structure and then identify ways to deal with risk.

All construction contracts must be reviewed, critiqued and analyzed before they are signed and requires more than merely verifying that the contract sum is the price that was agreed to between the contract parties. Contract review requires that all parties focus on several provisions which appear in almost all construction contracts and which have potentially the most drastic impact on the bottom line. By focusing on the several key contract provisions, understanding how they work and negotiating them effectively.

Once the contract terms and conditions for the project have been agreed to by all parties, they must “document” the contract, signed by all contract parties, and put into force. One effective tool for minimizing “risk” is to use a well established, preprinted contract format to document the relationship. This should include all of the information that a complete, prudent contract must contain so that the chances of leaving out something critical, such as protection of confidential information or proprietary intellectual property, will be reduced. Every contract needs to include a very clear, unambiguous definition of the scope of work that specifies measurable deliverables and payment terms. A good contract also provides an explicit description of the process to be used if any changes are necessary. Finally, when setting up a contract, minimize the resource “risk” by establishing a “not to exceed” limitation to avoid runaway costs.

You must do a lot of planning to control construction “risk” and know the way to measure risk probability and consequence of not achieving a defined project goal. Most people agree that risk involves the notion of uncertainty. Risk management is the art or practice of dealing with risk. It includes planning for risk, assessing [identifying and analyzing] risk issues, developing risk handling strategies, and monitoring risk to determine how they have changed. Proper risk management is proactive rather than reactive.

It is important that a risk management strategy be established early is a project and that risk be continually addressed throughout the project life cycle. Risk management includes several related actions, including risk monitoring and analysis.

Risk analysis begins with a detailed study of the risk issues that have been identified and approved by decision makers for further evaluation. The objective is to gather enough information about the risk issues to judge the likelihood of occurrence and cost, schedule, and technical performance consequences if the risk occurs. It is important that only approved risk issues be analyzed to prevent resources from being expended on issues may not actually be risks.

Quantitative risk can be analyzed by using the Monte Carlo process, as applied to risk management, is an attempt to create a series of probability distributions for potential risk items, randomly sample distributions, and then transform these numbers into useful information that reflects quantification of the associated cost, performance, or schedule risks.

Know Project Risk Management Methodology. The Contract Administrator or the Project Manager must define the methodology to be used to identify the methodology to be used to identify and manage such events or risk that threaten accomplishing the goals of the project; one of the methodologies usually used in the construction industry is Monte Carlo risk simulation, which could be an optional tool for the meticulous Project Manager to be implemented in the development of the RMP.

Develop a Risk management Schedule with milestones, taking as a reference to the CPM Schedule. The  Risk Management Schedule should include such references as reviews, meetings, assessment milestones, and other significant events are included in the Risk Management plan development. Then too, analysis circadian rhythms as related to human resources. 

Several risk response strategies are available. The strategy or mix of strategies most likely to be effective should be selected for each risk.  Risk analysis tools, such as decision tree analysis, can be used to choose the most appropriate responses. Then, specific actions are developed to implement that strategy. Primary and backup strategies may be selected. A fallback plan can be developed for implementation if the selected strategy turns out not to be fully effective, or if an accepted risk occurs. Often, a contingency reserve is allocated for time and cost. Finally, contingency plans can be developed, along with identification of the conditions that trigger their execution.

Study and examine strategies for negative risk or threats. Three strategies typically deal with threats or risk that may have negative impacts on construction project objectives if they occur. These strategies are to avoid, transfer, or mitigate risk.

Risk avoidance involves changing the project management game plan to eliminate the threats posed by an adverse risk, to isolate the project objectives from the risk’s impact, or to relax the objective that is in jeopardy, such as extending the schedule or reducing scope. Some risk that arise early in the project can be avoided by clarifying requirements, obtaining information, improving communication, or acquiring expertise.

Risk transference requires shifting the negative impact of the risk, along with ownership of the response, to a third party. Transferring the “risk” simply gives another party responsibility for its management; it does not eliminate it. Transferring liability for risk is most effective in dealing with project time and money. Risk transference nearly always involves payment of a risk premium to the party taking on the risk. Transference tools can be quite diverse. Construction contracts may be used to transfer liability for specified risks to another party.

Risk mitigation implies a reduction in the probability and/or impact of an adverse “risk” event. Taking early action to reduce the probability and/or impact of a risk occurring on the project is often more effective than trying to repair the damage after the risk has occurred.  Adopting less complex processes, conducting more test, or choosing a more stable management program are examples of mitigation actions. Mitigation may require prototype development to reduce the risk.

The cognizant Project Manager must manage all risk and construction problems, even those related to the adversarial position between the Architect and a contractor. Could this adversarial relationship become a frenemy? 

All contract parties must obtain copies of all insurance required by contracts and critique the exclusions in each policy. Note that all insurance certificates in construction have expiration dates and the Project Manager must keep a record and obtain new insurance certificates as the old ones expire.

Always weigh the risk when you review and examine warranties to see if they are express warranties or limited warranties.

Know the project safety and security requirements and hold meetings to inform personnel of same.

Construction risk parameters include but not limited to:  1. Documentation,  2. Insurance coverage, 3. Specifications, 4. Unforeseen soil conditions, 5. Weather, 6. Untrained people, 7. Government regulations, 8. Top management, 9. CPM schedules and updates. Does your Project Manager have an updated risk management plan?

Construction Law and the Project Manager – Construction Law is becoming a risk issue for the Project Manager. In the event of litigation, the Attorneys will depend on complete records for either defense or prosecution of a claim. This documentation must include contracts, -  daily reports, - submittal log, insurance policies, - weekly labor reports, - monthly billings, - visitors on site, -strikes, - depositions, - material delivery problems,  -WBS work breakdown data, - videos, -  all correspondences, - CPM schedule information including each monthly update, - meeting minutes, - change orders, - payrolls, - request for information [RFI’s], - Architect’s status visits reports, - equipment log, - bid estimates, - testing reports, - time extension request and approvals, - photos, - updated schedules, - expert witnesses, knowledge of specifications, - weather records, - warranty responsibilities, acceleration cost, - time impact studies, - forensic schedule analysis, concurrent delays, - float time, - records of labor inefficiencies, - analysis of delays,  -record of disruptions and interferences, - early completion rights, awareness of schedule milestones, - and people involvement in daily CPM Schedule activities of the project.

 THINK “Construction Problem Avoidance”

Norman F. Jacobs, Jr., CSI, CPE, SAR, PMI, AACE, IIE