Construction Contracts: Identifying Early Warnings of Underperformance

Construction Contracts: Identifying Early Warnings of Underperformance

In this blog, we look at some of the factors affecting underperformance in construction projects. As project managers, how can we spot these early? How can we guard against the risk of our project underperforming?

The key lies in hitting the right amount of governance and control. Projects with excellent systems of governance and control, established and monitored from the very start, have a higher likelihood of success.

In their 2019 Global Construction Survey [i], KPMG identify 3 areas of governance and control good practice:

• Fit-for-purpose management practices, processes and controls, applied consistently and monitored for effectiveness in terms of project outcomes
• Agility to respond and change course in the face of evolving conditions and risks, based upon accurate, real-time reporting
• A flexible approach to megaprojects, acknowledging their unique capital requirements, eclectic mix of third parties and demands on internal resources

The pandemic has shown us that a deterministic approach to planning carries high risk. We are no longer confident we can predict with any accuracy what kind of risks and uncertainties could occur to cause a project to underperform.

The advice from the KPMG guidance is clear – we need enough rigour and framework to apply fit for purpose control to our project, whilst allowing sufficient flexibility to respond to changes in its context and requirements.

Procurement Drivers and Choices

What does this mean when it comes to procurement and the initiation stages of contracts? Ultimately underperformance mostly manifests itself in relation to one of a project’s triple constraints:

Cost underperformance – will the project exceed the approved budget, or fail to deliver the value promised from the cost investment?

Time – will the project fail to deliver the value promised in time, or when it is needed?

Design or quality – do the outcomes of the project meet the quality and design criteria that were agreed?

It falls to the contract management controls to protect all parties by considering challenges up front and providing a framework that will allow the construction project to continue and succeed despite divergence from what was originally foreseen.

Uncertainty in Scope of Work

Where there is uncertainty around the scope of the work, this needs to be allowed for in the contract terms. In this situation, a fixed price, fixed scope, contract is unlikely to be an effective way forward as costs cannot be predicted. However, a purely time and materials based contract could feel too loose for the clients, and their investors may insist on tighter guardrails around possible costs. The PRINCE2 Agile contract focus allows for fixed price, but permits a dynamic scope. Clients have the confidence of certainty around the final cost, but there is flexibility around the specifics of how the budget is spent within that. If a new requirement is introduced, another feature of the build will need to be withdrawn to release budget and resources to the new element.

A fixed price, dynamic scope foundation helps to keep agreed scope realistic and deliverable.

Collaboration and Negotiation

The higher the level of uncertainty, the greater the need to collaborate and negotiate as the project progresses through its lifecycle.

Establishing a solid relationship with contractors from the start is essential. Perhaps the elements of the contract itself can be the subject of collaboration? Where does the bulk of the risk lie? The design risk? The financial risk? Sense-test the contract by applying hypothetical what-ifs, and discuss these where possible to check the protection the contract is providing.

What is the organisational appetite for risk, and how can risk be fairly and effectively distributed?

The NEC Engineering and Construction contract (ad-hoc) advises:

The parties to the construction project will act in a spirit of mutual trust and co-operation

KPMG acknowledges ‘a renewed spirit of collaboration’ between owners and contractors in their 2021 construction industry report. When all eyes are on systems and processes, the relationship aspects can be overlooked. It is this collaborative approach that can be an effective foundation for construction project success.

[i] KPMG Global Construction Survey 2019