An Investigative Study of Risk Management Practices of Major U.S. Contractors

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1 An Investigative Study of Risk Management Practices of Major U.S. Contractors Musibau SHOFOLUWE & Tesfa BOGALE Department of Construction Management & Occupational Safety & Health North Carolina Agricultural & Technical State University Greensboro, North Carolina, 27411, United States ABSTRACT The construction industry, as in any other business, has its own risks and challenges arising from change which is inherent in construction. Because all risks associated with a construction project cannot be eliminated, there is a need for a risk management process to manage and/or control all types of risks. Risk management has been traditionally applied instinctively, with risks remaining implicit and managed by judgment and informed by experience. Despite the importance of risk management in construction business, little is known regarding the industry s response to risk and the techniques employed for risk management. Most of the research studies undertaken in the construction industry have focused on risk allocation, global project risks and other aspects of risk management. No recent study has specifically focused on evaluating and assessing risk management practices and techniques of general contractors in the United States. The objective of this study was to investigate and assess the current status of risk management practices of major general contractors in United States. Keywords: Risks, Risk Management, Construction, Research, Risk Identification, Analysis. 1. INTRODUCTION The construction industry is a significant component of most countries economies. In the United States, the industry accounts for 7.2 million employees more than 5% of the total non-farm workforce and around 8% of GDP, making it one of the largest sectors of the economy [1]. The industry, as in any other business, has its own risks and challenges arising from change, which is inherent in construction. The construction industry is widely associated with high degree of risk due to the nature of construction, business activities, process, environment and organization [2]. Construction work involves risks and uncertainties regardless of its size, but as the size and complexity of a project increase, the risk involved will also increase. Risk has been defined in many ways and assessed in terms of fatalities and injuries, in terms of probability of reliability or in terms of the likely effects on a project depending on particular industry [3]. Since this study dealt with risks in the construction industry, risk was defined within the project context. Project risk is defined as an uncertain event or condition that, if it occurs, has a positive or negative effect on at least one project objective such as time, cost, scope or quality [4]. Similarly, in construction projects each of the objectives will likely be influenced by risk and uncertainty [3]. Risk exists when a decision is expressed in terms of a range of possible outcomes and when known probabilities can be attached to the outcome. On the other hand, uncertainty exists when there is more than one possible outcome of a course of action but the probability of each outcome is not known [3]. The industry is inherently affected by changes in nature and human imperfection. Therefore, the application of risk management allows for effective management of these factors. In addition, since all risks involved in a construction project cannot be eliminated, there is a need for a risk management process to manage all types of risks and to obtain the maximum degree of elimination or control of

2 risks. The increase in size and the complexity of projects have made the ability to manage risks throughout the construction process a central element in preventing unwanted consequences [5]. The objective of project risk management is to increase the probability and impact of positive events and decrease the probability and impact of events that are adverse to project objective [4]. The ultimate purpose of risk management is risk mitigation, which can be accomplished by revising a project plan so that uncertainty can be reduced without any significant effect on the project s objectives [6]. 2. PURPOSE OF STUDY There is no doubt to the fact that risk is inherent in all types of businesses. However, construction industry accounts for a lion share of risks vis-à-vis other large industries such as manufacturing and service industries. Study conducted by Smith, Merna, and Jobling in 2006 shows that construction industry places relatively little importance on technical risks compared to other industries [3]. Similar studies also show that most construction contractors have developed risk management techniques that rely on historical information and previous experience, which help to assess risk but do not help to evaluate the consequences of risk. In addition, most contractors make decisions based on their intuition, judgment or experiences rather than through a formal and systematic risk management process due to lack of familiarity with the concept and methods of risk management [6]. Thus, the purpose of this study was to investigate and assess current risk management practices of major general contractors in the United States. 3. OBJECTIVES OF THE STUDY The study focused on the overall aspects of risk management practices of general contractors. Specifically, the study attempted to gather information on the following factors: Major risks involved in construction projects in the United States Risk management practices and frequency of usage of risk management techniques, including risk identification, risk assessment, risk analysis, risk response and risk monitoring Important barriers to implementing risk management processes. 4. METHODOLOGY This study was conducted to investigate and assess the current status of risk management practices of major general contractors in the United States. The population for the study consisted of top 400 contractors listed in the ENR 2008 publication. Of this population, a sample of 200 participants was randomly selected to participate in the study. A structured survey questionnaire was used to gather information relative to respondents demographics and their risk management practices, including risk identification, risk assessment, risk analysis, risk response and risk monitoring. Also, respondents were asked to indicate what they perceived to be major barriers to implementing risk management system in their organizations. A total of 40 completed questionnaires were returned, yielding a response rate of 20 percent. The data collected was analyzed using SPSS 17 software. Descriptive statistics was used to calculate the mean rating for ranking the important project risks, frequently used risk management practices, and major barriers to implementation of risk management. One-way ANOVA was used to test for significant differences in the perception of project risk importance and perception of barriers to implementation of risk management among contractors with differing work specialty. It was also used to test for significant differences in the practice of risk management techniques among contractors with differing work specialty. To test for any possible relationship between barriers to implementation of risk management and the practice of risk management techniques, a Pearson correlation analysis was performed, using a significance level of 0.05.

3 5. FINDINGS Respondents were asked to identify their top two work specialty areas. Fig. 1 presents the classification of general contractors according to their work specialties. As can be seen, 50% of the respondents engage in commercial and residential work, with 30% in industrial and Highway and Heavy construction. The rest are engaged in commercial and industrial work. Where: W = weight assigned or scale value of respondent s response for the specified project risk: W=1, 2, 3, 4 and 5; F i = frequency of the i th response; n = total number of respondents to the specified project risk; i = response scale value = 1,2,3,4 and 5 for negligible risk, low risk, moderate risk, high risk, and extreme risk, respectively. Analysis of the findings shows that 5 of the 14 construction project risks were ranked by the general contractors to be very important or severe. These risks include: safety, defective design, quality of work, financial risk and incompetence of subcontractors (in descending order). See Table 1. Project Risk Description Mean Rank Figure 1. Classification of contractors based on work specialties. When asked if they implement any form of risk management practices, an overwhelming majority (95%) indicated that they do. They also indicated that their companies have a formal written procedure for risk management. Respondents were also asked to rank 14 identified project risks based on their importance or severity on a scale of 1 to 5; where 5 represents extreme risk, 4 represents high risk, 3 represents moderate risk, and 2 and 1 represent low risk and negligible risk, respectively. The mean rating values were determined using the following formula: Mean rating = i 5 1 W * F n i Eq. (1) Safety Defective design Quality of work Financial risk Incompetence of Subcontractors Claims and disputes Inflation & sudden changes in price Delayed payment Defective material Differing site condition Labor and equipment productivity Labor, equipment & material availability Force majeure/act of God Site access/right of way Table 1. Ranking of construction project risk based on mean rating value An assessment of the risk management practices shows that site visit, check list, and brainstorming were the most frequently used risk identification techniques. Insurance coverage, financial capability and allocation of risks were factors that were widely considered in assessing the severity of a project risk. Qualitative risk analysis methods were found to be the most frequently used among general contractors. Consequently intuition/judgment/experience and

4 decision analysis were the most widely used risk analysis techniques. In terms of risk, response techniques, insurance, reducing likelihood of occurrence and risk transfer were found to be techniques most often used by contractors. Data analysis also shows that contractors frequently used periodic document review as a risk monitoring technique. Lack of joint risk management mechanism, lack of time, and shortage of knowledge on risk management were found to be the top three barriers to implementation of risk management. The one-way ANOVA result did not indicate any significant difference in the perceptions of general contractors of differing work specialty regarding the top ranked five construction project risks. However, significant differences exist in the perceptions of contractors regarding delayed payment (F = 3.384, P = 0.045) and labor, equipment, and material availability (F = 3.842, P = 0.030). Also, there was no statistically significant difference in the practice of risk management techniques among the different contractor groups. However, significant differences exist in their perception of site visit for risk identification, economic condition of the country for risk assessment and use of Monte-Carlo simulation for risk analysis technique. There was no significant difference between the contractor groups in their perception of major barriers to risk management implementation. In order to assess any correlation between barriers to risk management implementation and various risk management practices and techniques, a Pearson correlation analysis was performed. Several correlations were found, including the following: Use of brainstorming correlates with lack of formal risk management, ineffective risk control and monitoring, lack of expertise in risk management, and lack of time. Using site visit, risk data base and case-based approach were correlated with lack of time, lack of joint risk management and lack of expertise in risk management, respectively. Among risk assessment factors, duration of the work, quality of work, and project location correlated with lack of risk consciousness. For risk analysis methods; using qualitative methods correlated with lack of joint risk management. Use of consulting experts correlated with lack of formal risk management, ineffective risk control and monitoring strategies, and lack of risk consciousness. For risk analysis techniques; using decision analysis, algorithm and Mont-Carlo simulation correlated with lack of joint risk management. Decision analysis was further correlated with ineffective risk control and monitoring. Furthermore, using probability analysis and risk premium correlated with unavailability of sound data. Using algorithm also correlated with lack of time. Among the risk response techniques, only risk transfer correlated with unavailability of sound data. However, the analysis found no correlation between risk monitoring techniques and the barriers to risk management implementation. CONCLUSION This study was conducted to assess the risk management practices of major contracting firms in the United States. The study found that most contractors had formal written procedures for risk management, indicating an awareness of the importance of risk management in construction business. Also, contractors of all various work specialties had similar perception towards the importance of project risks. General contractors did not differ in their practices of risk management techniques, except for the use of site visit in risk identification, consideration of economic condition of the country in assessing risk importance, and use of Monte Carlo simulation for risk analysis. During the process of risk management, contractors use a wide variety of techniques in their practice. However, in risk analysis, traditional method of analysis using intuition/judgment/ experience is still the most commonly used technique. Qualitative risk analysis methods are also widely used. The findings of this study parallel other research findings that suggest that only few techniques were currently being used for risk monitoring. Although there was no single dominant barrier to risk management implementation, the lack of joint risk management, risk consciousness, expertise in risk management, and lack of time need to be addressed in order to improve risk management practices.

5 REFERENCES [1] Simonson, K. (2008). Quick facts about the construction industry. Building Material. Retrieved from agcbuild/downloads/quickfacts.pdf [2] Kartam, N. A., & Kartam, S. A. (2001). Risk and its management in the Kuwaiti construction industry: A contractors' perspective. International Journal of project Management, 19, [3] Smith, N. J., Merna, T., & Jobling, P. (2006). Managing risk in construction projects (2 nd ed.). Oxford, UK: Blackwell Publishing [4] PMI (Project Management Institute) (2004). A guide to the project management body of knowledge (PMBOK Guide). Newton Square, PA: Project Management Institute. [5] Maytorena, E., Winch, G. M., Freeman, J., & Kiely, T. (2007). The influence of experience and information search styles on project risk identification performance, IEEE Transactions on Engineering Management, 54(2), [6] Kim, S., & Bejaj, D. (2000). Risk management in construction: An approach for contractors in South Korea. Cost Engineering, 42(1),