Big Improvements Come From Managing Rather Than Avoiding Risk

If you think in terms of managing rather than avoiding risk, you’ll find that big improvements can come from simple ideas.

If you think in terms of managing rather than avoiding risk, you’ll find that big improvements can come from simple ideas.

“Risk” is a much-misunderstood word in the A/E/C industry. It is generally viewed as a negative, something to be avoided at all cost. While risk is defined as exposure to possible loss or injury, this does not necessarily mean that the bad stuff will happen. In fact, it rarely does (which is what keeps insurance companies in business). Another way of thinking about risk is that it’s a condition that requires an extra measure of attention in order to achieve the desired outcome. In this sense, if risk is embraced and managed rather than delegated or avoided, the odds of success increase considerably.

Risk is sometimes confused with unpredictability, a related but quite different condition. Things that are unpredictable are not necessarily risky, and vice versa. For example, skydiving may be risky, but it is predictable because you know exactly what will happen when you jump out of a plane: Gravity takes over. On the other hand, next year’s inflation rate may be unpredictable, but it is not risky: You can choose to lock in today’s prices with purchasing agreements for future delivery.

In the A/E/C industry, the concept of risk avoidance is deeply embedded in standard contract language. In fact, the amount of text devoted to risk, liability, insurance requirements, and punitive damages greatly outweighs the language devoted to the basic value proposition of the project (schematic design and design development). Contractually speaking, we are far more concerned about what to avoid than what we are striving to achieve, which is exactly backward. Too much focus on risk avoidance tends to drive a wedge between key members of the project team and often leads to defensive rather than collaborative behavior. This is because traditional contracts assign risk to specific participants rather than to the team as a whole. By accepting individual risk, team members become targets for blame and are motivated to look after their own interests first, whereas with shared risk, the overall team performance is what matters most, and this changes the dynamics considerably.

Managing Risk

Fortunately, with a few fundamental changes, managing the inherent risk of designing, documenting, and delivering buildings can be dramatically improved. In the process, it will be possible to produce better designed, better built projects at less cost. How will this happen?

Let’s start with the owner, who carries the most responsibility and hence the most exposure. There are five generic kinds of risk with which owners must contend: scope, cost, schedule, quality, and what can be called unpredictable disruptive events (accidents, bad weather, natural disasters, labor strikes, supply chain problems, etc.).

Because the owner is in a position to determine the scope of work in advance, it would seem that there should be relatively little risk in that regard. However, scope creep is a frequent occurrence; it’s probably the most common cause of blown budgets and schedules. Project scope can increase for unanticipated reasons (such as hidden conditions uncovered during a renovation project that require additional work), but such instances can be largely avoided with sufficient due diligence before the job is undertaken. With proper research, there is really no reason to be surprised.

Scope increases due to user group interaction are another matter but, once again, well under the control of a competent owner. If proper programming is done before the final project scope is approved, then subsequent changes can be minimized if not eliminated entirely. This requires buy-in from the affected stakeholders, of course. Problems occur if owners bend to internal pressure for changes after the project is underway. When this happens, every proposed deviation from the original approved scope should be assessed for the impact on schedule and budget before being implemented. Once again, there’s no reason for anyone to get caught off guard; all that’s required is to pay attention.

Cost control is probably the biggest risk that owners face. In an attempt to mitigate this risk, owners attempt to shift it to architects (by insisting that any redesign needed to comply with the budget be done at no cost to the owner) or the contractor (by requiring a fixed-price bid). The result is that owners give up a large measure of control, which has the unintended consequence of actually increasing the likelihood of suboptimal results.

All fixed-price bids include a layer of fat, also known as contingency, which is added to the base price for labor and materials. Therefore, the bid price is never the lowest possible price. The owner agrees to absorb the contingency in order to avoid the risk of price increases down the road, essentially paying in advance for something that might not happen. However, fixed-price bidding is no guarantee against future price increases because it invites change orders.

By requiring a fixed-price bid, the owner is basically daring the contractor to make a bet about market fluctuations over the life of the project. Even worse, by waiting until the construction documents are completed to solicit the bids, owners don’t find out until it’s too late what the actual cost of the project will be. If the numbers are not favorable, then value engineering ensues and project scope and quality will suffer.

A better and less risky way of managing cost is to price the job on a continuous basis as design proceeds, using both benchmarking and real-time market data. This takes the mystery out of money. Computer programs can accurately track quantities, and real-time costs for labor and materials can be easily checked on the Internet. Continuous tracking of cost reduces the need for a hefty contingency because purchasing agreements can be put into place that lock in current prices for a specified future delivery date. This benefits not only the owner (who will pay less) but also suppliers (who can plan their production more efficiently, thus keeping costs down).

While competitive bidding is often viewed by owners as the best (and only) way to get the lowest possible price, it actually has the opposite effect. The bid price is almost never the final price. Once the envelopes are opened, scoping sessions are conducted to review and verify the details: This is just negotiation by another name. With continuous cost review, this poker game can be avoided, with the added benefit of eliminating the need for redesign, saving additional time and money as well as protecting project scope and quality.

Now let’s turn our attention to the schedule. Most complex projects are a multi-year adventure, requiring the participation of dozens of architects, engineers, consultants, suppliers, and subcontractors. It’s relatively easy to create a bar chart that neatly projects the precise start and finish dates of the various phases and sub-tasks, but schedules can go awry when the proper materials do not show up on site, if there is insufficient skilled labor, if there are coordination issues or weather problems, and so forth. Delays can be very expensive, not only in terms of increased cost for extended general conditions and escalation but also in lost revenue when projects open late (especially true for projects that generate monthly cash flow, such as retail, hospitality, office buildings, and dormitories). In a literal sense, time is money.

The responsibility for managing the schedule properly rests with the contractor, who is best equipped by skill and experience to handle the choreography of on-site construction activities. However, it’s important to note that the contractor does not have total control. Timely decisions are needed from the owner, comprehensive and coordinated documents are needed from the designer, and cooperation is needed up and down the supply chain. Schedule control is a team sport: Everybody’s got some skin in the game, which is why schedule compliance is a shared responsibility. This puts the onus on everyone to do their part, thereby eliminating the blame game.

As to weather-related delays, the trend toward off-site prefabrication reduces risk in two ways: first, by producing various building components in a controlled environment and, second, by reducing the time needed for on-site installation. Using BIM technology to model building components and construction logistics helps tremendously in managing the delivery of materials to the site and removing the waste. Some contractors have adopted just-in-time delivery to minimize the need for on-site storage. In addition, a well-managed safety program always saves time by avoiding delays due to accidents. Except for the vicissitudes of weather, the schedule should be managed with a high degree of confidence.

Quality is another source of risk that concerns owners. Will they get the building they expect, properly constructed? This is a critical question because the long-term cost of ownership actually outweighs the initial capital cost by a substantial margin. Sub-standard construction can result in huge exposure over the long term. If the roof leaks or the MEP system fails down the road, repairs can be costly and disruptive, even if covered by warranties. It can sometimes take years for construction-related problems to show up. While the contractor is best equipped to manage activities on the construction site, the architect is best equipped to oversee quality.

To ensure the desired results, it’s important to establish quality standards in advance, making them as objective and as measurable as possible. Benchmarking similar projects is a good place to start. Conducting ongoing quality review is much more effective than “punch-listing” at the end of the job because it’s far better, faster, and cheaper to avoid mistakes in the first place than to fix them later. Also, with today’s complex projects, commissioning is a must, and this process should start well before the building is turned over to the owner.

Another important aspect of quality control is setting up comprehensive training programs for the staff who will operate the project upon completion. Make sure they are familiar with all the relevant manuals, product data, and maintenance protocols. Make sure they can operate the MEP systems as intended (which represent about 35 percent of the capital cost and nearly 100 percent of the operating cost). Don’t forget training programs for the occupants to make sure they understand basic safety procedures.

A building can be well designed and well constructed, but things can still go wrong. Hurricanes, tornadoes, earthquakes, tsunamis, accidents, and labor strikes, while rare, do happen. For these catastrophic events, which are truly unpredictable, insurance is available, and it’s relatively cheap because the odds against such occurrences are so great.

Speaking of insurance, current practice is that each entity involved in the project is separately insured.

This makes sense because each one works on a number of simultaneous projects with entirely different circumstances and participants. This insurance is not free, however; it’s part of each firm’s overhead and is therefore built into the cost of a project. Now imagine that everyone was insured by the same carrier. Should a claim occur, the settlement process would be relatively quick and painless since the insurance company would essentially be negotiating with itself, merely shifting dollars from one pocket to another.

Let’s extend that notion slightly. If owners indemnified the project team members from all liability (except for willful negligence), then the cost of individual insurance policies would surely go down dramatically. The savings could then be used to purchase a project-specific policy that would cover the whole team. Such an umbrella policy would serve to eliminate the defensive behavior that drives people apart when problems occur. Instead of asking “Whose fault is it?” the team would be asking “How can we work together to fix this?” A project-based policy would put everyone on the same side of that question.

Changing the Dynamics

With a few simple tweaks, it should be possible to change the basic dynamics of how risk is managed in the A/E/C industry. Owners need to accept the fact that they are the primary decision makers as well as the primary beneficiaries and therefore carry the most responsibility and the most risk. It doesn’t help to pretend otherwise. Attempting to shift too much risk to others only complicates the proceedings and has the unintended consequence of increasing the likelihood of suboptimal results. There’s really not much mystery to controlling scope, cost, or quality. The schedule can be effectively managed by the use of technology for design, documentation, and site logistics, plus more off-site prefabrication. Project-based insurance policies would eliminate CYA behavior.

The biggest improvements often come from the simplest ideas. Using a single contract that aligns the interests of the owner, architect, and contractor puts everyone on the same side. When everybody has skin in the game, the odds of success go way up because everyone is looking out for each other’s interests. This is the fundamental principal of IPD. Design and construction will always carry some inherent risk, of course, but it’s much better to embrace and manage risk than to try hiding it or shifting it to others. In other words, the more risk you consciously accept, the safer you will be.

Scott Simpson is a senior fellow of the Design Futures Council and a Richard Upjohn Fellow of the American Institute of Architects as well as an overseer of the Boston Children’s Museum. He is co-author of The Next Architect: A New Twist on the Future of Design and a frequent speaker and writer on issues of innovation in design.