Why do construction projects go wrong?

Chris Binnington, Managing Director of Binnington Copeland and Associates, has been involved in the construction industry for more than thirty years. For the last 20 years, he has focused on the provision of commercial and contractual advice to all segments of the industry and says he has not seen any significant change in the reasons why construction projects go wrong. He lists seven basic reasons: Inadequate Budget; badly scoped project; insufficient time for tender; under-estimation of time/cost; the lowest price syndrome; poor/inadequate resources and cashflow.

1 Inadequate budget

Nothing creates greater potential for conflict and breakdown of the employer/contractor interface than inadequate budgets. Employers, who are not regularly in the marketplace for projects and particularly those involved in a “one-off” construction project, are reliant upon their professional advisors. Unfortunately, many of them also believe that the price disclosed at the time of tender will also be the price for the completed project, a situation which rarely occurs. Contingency budgets are also frequently inadequate, particularly where the original design was badly scoped (see (2) below), resulting in substantial changes and in turn impacting on the time for and cost of construction.

Under these circumstances pressure may be brought to bear on the professional team to “exercise caution” in certifying interim payments or there may well be a failure to meet payment certificates in whole or in part. The cashflow crunch squeezes the contractor who in turn switches off the tap to the sub‑contractors.

The common law does not recognise an employer’s right to unilaterally withdraw from a contract because of a shortage of funds. Such an action would constitute a repudiation of the contract by virtue of the employer evincing an intention no longer to be bound by the terms of the contract. This could lead to cancellation by the contractor together with a claim for damages and the employer being left with an incomplete project.

The unilateral right of the employer to terminate a contract has however been made an express terms of the more modern forms of contract, namely FIDIC 1999 Clause 15.5 and the 1995 New Engineering Contract suite (NEC/EEC) Clause 94.2. Whilst such provisions will assist the employer, they will only provide limited compensation to the contractor and will not cover loss of profit on the residual balance of the work or the lost opportunity cost of relocating resources to new work.

2 Badly scoped projects

It remains a constant source of amazement to me that, in these days of sophisticated computer assisted design capability, even those companies with access to huge resources still put out projects to tender which are only partially designed and expect the project to run smoothly whilst the balance of the design evolves during construction. A number of years ago I referred in an article to the lemming like rush to spend money once the budget had been approved! This syndrome still applies today. Such projects frequently referred to as “fast track” are of course nothing of the sort! Usually they are “slow track” and the consequences of the evolution of the design soon manifests in the time and cost to completion being both over budget and over time.

3 Insufficient time for tenders

The “lemming like rush” syndrome is also reflected in the time periods granted to contractors to tender for work. Frequently employers and their professional teams, having spent months conceptualising, designing and documenting a project, expect tenderers to respond in a hopelessly inadequate time period often ignoring the fact that weekends and public holidays fall within the tender period. Remember that the lowest tenderer is often the one that has made the biggest mistake and pressurising tenderers into premature responses can often exacerbate the potential for error.

Alternatively, the failure to allow tenderers adequate time to carefully consider and price for risks can result in excessively high prices where substantial contingency is allowed by the tenderer to cover a situation he has simply not had time to deal with.

4 Under-estimation of time/cost

The construction industry is permanently plagued by skills shortages. It also has a high turnover of people often resulting in “the Peter principle” predominating (people are promoted to a level of incompetence). In multi‑disciplinary projects the necessity for a proper construction critical path network, in order to both evaluate time and cost necessary resources, is frequently hampered by (2) and (3) above. The result is more guesswork on the part of the tenderer with the further possibility of getting it wrong.

Under‑estimation of time and cost by the euphemistically described “successful” tenderer will generally lead to inadequate performance, the taking of shortcuts to minimise time and cost overruns and a reduction of construction quality.

5 The lowest price syndrome

Competitive bidding drives the industry towards the lowest price through leading to a situation in which there is a high probability of contracting with the bidder who has made the biggest mistake or who has allowed the minimum amount, or no amount, to cover the risk of unforeseen eventualities. Contractors invariably approach bids on the basis of the “2 x Ps” – price and prayer. They price for some of the potential risks and pray that none of the other potential risks. materialise. Since contractors are generally not required to disclose their tender risk allowances, the employer has no way of knowing what, if anything is allowed in the bid to calculate for those situations which the law regards as contractor’s risks.

It is also rare to find a contract, even under lump sum conditions, where the price at time of tender is the price at completion.

The difficulty of valuing variations under lump sum conditions often exposes the weakness in this system.

The public sector has always been price driven through the competitive tender process and under the provisions of the Preferential Policy Framework Act either 80 or 90 points will be awarded for the lowest price depending on the value of the bid. The possibility that someone other than the lowest bidder will be selected is thus slight.

Acceptance of the lowest tender will often result in the necessity for the employer to be extra vigilant and to pay a premium for such vigilance. If there is a cost saving shortcut to be taken the probability is that the contractor will take it often to the detriment of the employer.

6 Poor/inadequate resources

Skills shortages at all levels of the industry are a constant concern. Proper planning and allocation of resources necessitates recognition of the inadequacies and the making of suitable allowances – something which is all too often lacking. Additional supervision, both from the employer’s as well as the contractor’s side, is necessary if defects in the work are to be avoided. All too often the defects are either not identified timeously or manifest through subsequent failure of the structure, sometimes with catastrophic results.

Free market economy principles dictate that labour and management are free to move to those sectors and individual organisations that are prepared to pay a premium for improved skills leaving lower standards behind. This equates to the ability to offer a lower price but at the risk of a sub‑standard project.

The problem is not simply limited to the contractor’s side of the fence but is also frequently evident on the professional consultant’s side.

7 Cashflows

“Cashflow is the lifeblood of industry” is an often misquoted statement attributed to Chief Justice Centlivres in the 1952 case of Linton v Corser. Whilst the quotation may not be accurate, the sentiment certainly is. He actually said:

“… interest today is the lifeblood of finance.”

Perhaps the biggest single cause of projects going wrong can be laid at the door of poor cashflow. Often the first to suffer are the sub‑contractors who are squeezed by the main contractor as his cashflow dries up.

The general elimination of “pay when paid” clauses (these have been outlawed in several jurisdictions although not yet in South Africa) is not going to assist the sub‑contractors where conventional dispute resolution procedures are in place (arbitration or litigation) since these are lengthy and costly and simply exacerbate the situation. FIDIC’s halfhearted attempt to deal with the situation (1999 suite Clause 2.4) is unlikely to be retained by many employers.

Perhaps legislation to provide for payment guarantees or schemes of payment, as in the Australian, New South Wales Act, would alleviate the problems.

Conclusion

Contracting is a risky business. Employers must however recognise that at the end of the day a contractor expects and should be entitled to earn a profit. It is not usually in either party’s interest to have a project built below cost. Although this may seem attractive, the attendant problems will usually rebound on the employer. An employer’s worst nightmare must be to have a main contractor go into liquidation during the construction of a project. The result for the employer will inevitably be increased cost and delay.

Insufficient attention is applied to incentivising contractors to achieve the desired result. The use of penalties to achieve a result will never be as effective as incentivising with a bonus or at least an opportunity to participate in cost under‑runs (see for example the NEC/ECC Target Cost Options C and D).

Successful outcomes require high levels of co‑operation between parties as well as early identification of problems and a willingness to find mutually acceptable solutions.

THE CIVIL ENGINEERING CONTRACTOR SEPTEMBER 2004