AACE Chinook Dinner Meeting Calgary, Alberta, Canada Projects, Risks and Contingency
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1 AACE Chinook Dinner Meeting Calgary, Alberta, Canada Projects, Risks and Contingency Riskcore Calgary March 2017.
2 Quotes He who is not courageous enough to take risks will accomplish nothing in life The biggest risk is not taking any risk... In a world that changing really quickly, the only strategy that is guaranteed to fail is not taking risks. Photo by J. Zhao 2011
3 About Me
4 Capital Projects The value of Canada s public infrastructure projects has reached to $157.9 billion including Site C Clean Energy Project (British Columbia), but in Alberta alone, the total investment reached $120 billion back in Now at $36 billion only (2016), the recent mega capital projects such as Suncor Fort Hill and NWR Upgrader are coming to the end in Enbridge Line 3 and Trans-Mountain Pipeline are the only multi-billion dollars projects on the books. In Alberta we never have had good track records to deliver major projects on time and on budget
5 Alberta Employment ,000 full time jobs lost
6 World Oil Imports Coal & Fossil Fuel Nuclear Renewable Energy 46,000 jobs By 2020 AB
7 Alberta Growth June 2013 Fcast Pipeline 6M Pipeline 4M June 2016 Fcast CAPP Report crude oil forecast, markets and transportation 2016
8 Alberta Pipeline Capacity Approved for construction 2016 Approved for construction 2016 It is almost certain that by 2020, the pipeline capacity will exceed the projected oil production in Western Canadian crude supply Pending NEB Approval 2016 oil less than 4M bbl/day 2030 oil less than 5.5M bbl/day
9 Alberta Projects Trends $7.4B $7.5B Oilsands: small sized sustaining projects and maintenance programs Upgraders & Refineries: sustaining and major Turnaround (TA) projects Oil Well Services: slow & moderate drilling for operations & infill wells Pipeline: two mega-projects requiring 30Million to 40Million man-hours Other: infrastructure, renewable energy, mining and power projects
10 Solutions? Key Issue: Big International oil companies are leaving Alberta oil sands, and investments are shifting out and new capitals are not coming in to AB. Hence fewer jobs can be offered. Solution: 1) Change government policies for competitiveness 2) Owner companies lower their compensation structure 3) EPC and GCC to reduce their fees and overheads 4) Improve skillsets and versatility for different industry 5) Temporarily relocate to places where jobs are available 6) Lower your expectations to accept lower wages / rates 7) Enhance your business acumen & go back to school 8) Build network and broadcast your know-hows & skills
11 Alberta Projects Numerous past mega projects in Alberta have experienced significant cost overruns in past two decades, making Alberta one of the notorious places in the world for mega project FAILURES. An Anonymous Quote
12 Project Failures Imperial said Kearl s first development phase will cost $12.9-billion, up from $10.9- billion estimated previously. The latest estimate is 61-percent higher than the original calculation of $8-billion. Alberta 2013 NWR sanctioned the project based on a preliminary estimate of $5.7 billion. While the scope of the project has not changed, the cost estimate has been revised to $8.5 billion due to cost inflation and the inability to capture cost savings. Alberta
13 Estimate and Reality 50% overrun By John Hollmann
14 Cost Overrun Dr. B. Flyvbjerg highlighted the causes of cost overruns for mega projects in his Megaprojects and risk: an anatomy of ambition (2013). Megaprojects paradox indeed exists. 50%
15 Good and Bad Projects 65% 0f the (300) mega projects studied failed to meet their business objectives. And there is an unexpected distribution of success with most project outcomes being very good or very bad with few projects in the middle. - Edward G Merrow (IPA) Conclusions: - No contracting approach guarantees success and most contracting approaches can succeed. - The quality of the people and the effectiveness of the project organization is much more important.
16 Most Impactful Factors on Major Projects Impact Factor Name Ranking Comments Inadequate size, skills & experience of project management team % (interface & integration plan) Underperforming Contractor or key subcontractors (EPC or GC) % (clear scope & contract model) Optimism Bias % (complacency) Unavailability of qualified labor force % (in good time) Logistical Challenges % (multiple sites) Successful Delivery of Mega-Projects by Construction Industry Institute 2015
17 Why did Mega Project Fail? 1. Sponsors is not to share risks and rewards with others. 2. Unrealistic schedules for engineering and construction. 3. Insufficient preparation of investment proposal & definition 4. Insufficient upfront investment planning and preparation. 5. Unrealistic budget reduction / cost estimate cuts. 6. The contractor should carry the RISK; Most of the time, however, relatively little risk is actually passed but a substantial premium is paid nonetheless. 7. Beat up project managers for overruns - Edward G Merrow (IPA)
18 Prescription for Solutions Construction driven by a high performance owner organization with clear vision and defined outcomes. Accountability for decision-making and supporting execution of such decisions to satisfy stakeholders Structured for consistency but agile for changes that drive the integrated task force team to the success Plan the execution per the defined Scope of Work and carry out by highly qualified contractors Encourage professionals to challenge mpossibilities, to explore opportunities & to excel their expertise for project success. Play the rules of the game during the game.
19 Against the Gods The revolutionary idea that defines the boundary between modern times and the past is the mastery of RISK:
20 Risks and History Pascal and Probability (mid 17 th Century): -Theory became a branch of mathematics -Rising of insurance industry (trans-ocean ships) Modern Probability Theory (1900 and WWII): - Debate on definitions (uncertainty vs. risk) -Manhattan Project in 1942 (Stanislaw Ulam)
21 Influence Curve - Risks RISKS RFO Risks are inherent in all projects, the longer you wait - the higher your risk response action costs; - the less your risk manageability;
22 Is Project Risk Management useful? PRM is useful only when you Believe In it. - Risks are subjective and often heuristic based; - You must be very disciplined to apply PRM practice; - PRM is a complex multi-disciplinary interface process; - It is interpretive, combining sciences and some arts; - QRA is not a mathematic calculation but simulation.
23 Risk in Action Reactor may be late arriving to site causing MC delay The delivery of the reactor from Japan to site (exposure) will be likely (probability) delayed (hazard) due to inability to book production with 36 months lead time (trigger) resulting in postponement of MC by 6 months (consequence). Probability (P?) x Consequence (C?) + Manageability (?) + Vulnerability (?) =?? Background: Kuwait Refinery booked 40+ reactors in 2007 / 2008 from Japan for their 600,000 BBL refinery; the engineering was in FEED phase. Risk Response Action (chosen): 4) Mitigation: A) Engineering house to accelerate FEED study and to book reactors using preliminary design data B) To pay Japan expediting fee and cut into queue
24 High Probability Action Residual Risk Risk: Incomplete modules may be shipped for offshore installation due to lack of stringent onshore QC resulting in increased costs. Initial Ranking: P5 x C4 =20 P Workable I Unacceptable Action: A dedicated QC inspector will reside in module Fab Yard for checking / signing off. Monitor: Effectively lowed risk. Residual Ranking: P2 x C4 = 8 Acceptable Contingency R Residual risk level is now acceptable to project team. A cost contingency is also included. High Impacts C
25 Contingency contingency is generated to cover the costs of intangible and uncertain items that objective and deterministic calculations may not be able to yield any meaningful answers; and it is produced through stochastic simulation method, which by definition is based on subjective judgements and good senses of heuristic factors.
26 Contingency Explained - Adding contingency to an estimate does not improve estimates expected accuracy or change estimate classes (AACE 18R-97); - Adding contingency to an estimate however does increase the probability of project s cost underrun or confidence of underrun; - Contingency could be positive or negative amount to an estimate though it is a rarity to take money out of the estimate / allowances; - The contingency at chosen confidence level represents a project team s risk tolerance level or risk attitude; P50 represents risk neutral position but most owner firms choose to sanction projects at higher confidence level, e.g. >P70 - With contingency at P50 added to an estimate, the final actual cost should fall within the expected accuracy range for the class of the estimate IF the quantitative risk analysis is rigorously performed.
27 Escalation Defined Different from CPI (commodity Price Index) driven inflation, which is defined as a persistent rise in the prices associated with a basket of goods and services that is not offset by increased productivity, the escalation refers to a persistent rise in the price of specific commodities, goods, or services due to a combination of inflation, supply/demand, and other effects such as environmental and engineering changes. Project contingency is technically subject to escalation. The cashflow projection of contingency's use should follow the draw-down plan, not the overall project cash-flow curve. And the escalation however is NOT subject to the contingency AACE RP 58R-10; 68R-11
28 Escalation Escalation, therefore, comes from the interplay of changes, real or anticipated, in input costs, perceptions of risk, and perceptions of the competition.. More often than not, however, it comes from the formation of market opinions, which may or may not have a basis in fact. CSC.06.2 AACEi 2006 Cost Escalation in the construction market is real. Project owners need to become more flexible and more willing to work with contractors to absorb some of the risk of the rapidly fluctuation construction materials markets, and project teams must become more collaborative and more able to deal with risk and changes quickly and effectively.
29 Contingency Basis Certainty: Facts are known to decision makers - mathematical calculation - management decision Risk: Only partial facts are known - decision tree or risk based KT - simulation technique (Monte Carlo) Uncertainty: Little or no facts are available - regretting Table - utility theory / delay decision-making
30 Estimate as Basis for Contingency Dr. B. Flyvbjerg If a cost estimate is questionable and deceptive, the estimated Total Installed Cost (TIC) will not be reliable REGARDLESS of rigorous quantitative risk analysis process and contingency.
31 Estimate Elements
32 Specific Risks - Range Estimate P10 (the best case) Compared to the base estimate ($1M), there is 10% chance that only $0.85M will be spent (15% less than budget); Probability $1M P90 (the worst case) Compared to the base estimate ($1M), there is 90% confidence that the budget will not exceed $1.4M (40% over-run); P10 $0.85M Base Estimate P90 $1.4M Cost P? (the most likely case) The base estimate, that professional cost estimators think, will be most likely to achieve (including contingency).
33 Systemic Risks - Risk Register Using discrete distribution, simulated sum of independent risks will yield an aggregated project contingency. - Systemic risks are identified in the project register - Probabilities are ranked in numbers - Mitigation costs are quantified - Risks are generic and systemic in nature having impact the whole project.
34 Monte Carlo Demystified A - Identifying Risks or Variables B - Assigning Probability Ranges for the variables C - Conducting Monte Carlo random simulation D - Determine Contingency Amount at selected risk tolerance level (P70)
35 Risk Practice in Tendering Project team prepared the base tender estimate of $187.5M After risk analysis, it is decided to add contingency to cover the risks Do they add $19.9M for P50 or $23.4M for P80?
36 The Schedule Risk Analysis Procedural Steps of SRA For Capital Projects Output of SRA Probability vs. finish date Tools: Primavera Risk Analysis (PertMaster), Polaris, Acumen, Safran, etc.
37 Riscor Modelling
38 Riscor Quantification. Quantifying the probabilities of a project or an overall program schedule delays would provide the Leadership with an assurance and planning for necessary risk mitigation actions. Critical risk drivers would be identified through the QRA process to offer the most effective risk mitigation strategy; appropriate contingency and escalation amounts simulated for risk profiles.
39 Management Reserve John Zhao Palisade Conference Calgary 2015 presentation
40 Projects, Risks and Contingency - Capital projects all aim to complete on time, under budget and to meet project business requirements. - But all projects have inherent risks; understanding and managing these risks successfully are the PM s primary responsibility. - We often accept the project risks or the residual risks, it would be one of the risk response strategies as long as we have contingency (funds and plans) in place.
41 Project Risk Analysis
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