Evidence suggests that

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1 CHANGE & CLAIM MANAGEMENT: A Positive Contribution to Profitability? by John Fotherby, Chairman Proposition Contractors current change and claim management practices on complex, international lump sum EPC contracts do not make significant contributions to increases in revenue and project profitability. Change and claim management is largely geared to minimising exposure to delay liquidated damages and other claims against the EPC contractor. Evidence suggests that Empirical evidence suggests that EPC contractors frequently; John Fotherby Chairman, Kingsfield Consulting Our mission is to help our clients deliver their projects profitably Agree with Owners to trade valid changes or claims in exchange for Owners not deducting delay liquidated damages Agree with Owners to leave claim issues until the end of the project to have a balancing between the Owner and the Contractor Discover that baseline schedules and related documents are inadequate for effective delay analysis and / or establishment of disruption claims Agree to attempt to eliminate delay without firstly establishing liability for the delay and (where applicable) do not establish effective acceleration plans and agreements with Owners or subcontractors Take a very narrow view of change (usually confined to technical changes ) instead of considering change and its effects from a far broader perspective, particularly relating to changes to planned work execution Do not identify ALL changes occurring on the project, and even where they do, under-value identified changes Under pressure from Owners, agree to delete schedule impact from change notices to secure Owners agreement to the quantum Receive changes and claims from vendors and subcontractors that they are unable to pass on to the Owner and thus bear the liability themselves Are hampered in pursuing genuine changes or claims against Owners due to the lack of supporting documentary evidence from themselves, vendors or subcontractors Nullify properly notified changes or claims for extension of time by making unqualified statements in monthly reports that undermine them kingsfieldconsulting.com Kingsfield Consulting International Ltd

2 The cumulative impact of these is that entitlement to price and schedule adjustment is reduced or eliminated and unplanned costs are not recoverable. Erosion or eradication of project profitability often is the result. But LS EPC Contracts are here to stay Lump sum EPC Contracts are likely to remain the contracting arrangement of choice for many Owners and their financiers. Severe competition driving aggressive completion periods, thin profit margins and acceptance of adverse contractual terms seems to be the continuing trend for the foreseeable future. Price and schedule adjustments are not a nice to have ; they are a necessity if EPC contractors are to return profits on projects and avoid losses. Adjustments to price and schedule need to take place close to the time the events / impacts occur; not left until the end of the project. So why don t Contractors get paid for what they do? 52% of project failures are due to relational issues (Eaves, Weiss & Visioni, 2001) The main barriers to obtaining equitable price and schedule adjustment are behavioural. Behaviours and relationships exhibited by both Owners and Contractors which obstruct the change process typically include: Owners Behaviours Owners misconception of lump sum EPC contracts, not recognising or understanding their obligations and not knowing what Contractors need for successful project delivery A low level of trust between Owners and Contractors that often declines during the project and unrealised high expectations Contractors Behaviours Contractors desire to please the Owner instead of delivering work to the Owners satisfaction Contractors willingness to commit to costs and / or take risk without any certain means of compensation or relief kingsfieldconsulting.com Kingsfield Consulting International Ltd

3 Owners Behaviours Owners and Contractors do not consider each other as equals whereas neither can exist without the other since Contractors deliver projects that Owners require and Owners provide work that Contractors need Owners viewing changes as cost and not considering the value added Owners belief that Contractors seek to recover estimating errors through change orders / claims Owners misguided belief that they have as a matter of course to reject Contractors changes / claims to protect their commercial position Owners not linking Contractors profitability and cash flow to work performance and delivery Contractors Behaviours Contractors over-promise and underperform regarding what can be delivered for a particular price in a specific time but both Parties buy-into the conspiracy of optimism Contractors willingness to accept reduced profit or project loss as a part of doing business Contractors focus on cost cutting measures and cost recovery but not strategies for increased revenue and profit generation Contractors not explaining the origin of change to Owners, why price / schedule adjustment is necessary and the valueadded value for Owners Contractors general reluctance to address delays, time extension and additional cost recovery with Owners and to do this early enough Owners insistence upon completion dates when achievement is clearly not possible Contractors not providing Owners with the opportunity to cease doing or start doing the things that affect work performance, time and cost Most, if not all, of these barriers could be eliminated were Owners and Contractors to have sensible discussions about the issues in an effective and productive forum. The key is for each party to be aware of and understand the needs, wants and anxieties of the other with respect to project delivery and to build a collaborative work relationship that enables both parties to achieve their respective goals. Change as a Positive Contribution to Profitability Profitability is about a mind-set that balances risk and reward, and identifies every realistic opportunity to avoid unnecessary cost and pursue all genuine possibilities to generate additional revenue; the objective is to preserve or improve margin and deliver a profitable project. kingsfieldconsulting.com Kingsfield Consulting International Ltd

4 Changes and claims are merely vehicles that enable Contractors and Owners to address and agree price and schedule adjustment that regulate the contract to take account of performance, time and cost impacting events and circumstances for which Owners bear responsibility. Technical and contractual / legal completeness and competence alone are not sufficient to secure entitlement to price and schedule adjustment. There are SIX essential foundations that support successful change and claim resolution. These are illustrated below:- The combination of the six foundations is greater than the sum of the individual ones While each foundation stone has the capacity to influence price and schedule adjustments as contributions to profitability, it is the combination of all six that is greater than the sum of the individual parts in terms of achieving profitable delivery; ALL six need to be present. Planning Owners will resist increasing Contractors prices and schedules if they do not receive from Contractors what they are paying for under the EPC contract. kingsfieldconsulting.com Kingsfield Consulting International Ltd

5 A realistic and reliable baseline plan is fundamental. Resources committed to its preparation ought to be considered as investment, not cost the ROI will be realised in price and schedule adjustments that contribute to profitability. Baseline plans ought to originate in Contractors proposals and then be further developed at project commencement. do what you get paid for Based upon the scope for plant delivery known and understood at contract award the baseline plan needs to consider and clearly set out what has to be done, when it has to be done, who will do it, where it will be done and how it will be done in each of the prime project phases engineering, procurement, construction and commissioning. Except for commercially sensitive data that must remain solely with the Contractor, the baseline plan needs to be addressed with the Owner so that it is clearly understood and accepted by the Owner. The baseline plan then becomes the benchmark against which ALL changes are assessed on the basis that a change is any action, incidence or condition that makes differences to an original plan or what the original plan is reasonably based on (Ibbs and Vaughan, 2014). Performance It is imperative that the Contractor performs the Work in conformity with the baseline plan except where otherwise prevented. Unforeseen events and circumstances preventing performance need to be identified, addressed and appropriate action taken. Matters for which the Contractor is liable must be controlled solely by the Contractor while notifying the Owner of the event and the actions being taken by the Contractor to overcome or mitigate the impact, including (but not limited to), committing to more cost (if necessary), utilising schedule float and re-planning. plan the work: work the plan Conversely, matters for which the Owner is liable are very likely to entitle the Contractor to price and schedule adjustment. Thus, the Contractor must comply with and adhere to the relevant contract provisions. Where there is a schedule adjustment entitlement but the Owner requires the Contractor to achieve the original completion dates, this is a fundamental change to the baseline plan. Project reporting ought to be by exception, i.e. the work has been executed in accordance with the baseline plan with the exception of those matters not executed in accordance with the baseline plan. This significantly reduces the volume of monthly reports, the time / resources required to produce them and avoids providing the Owner with unnecessary information that can be used against the Contractor in the future. Unless and until there is agreement to price and schedule adjustment, the baseline plan remains unchanged. kingsfieldconsulting.com Kingsfield Consulting International Ltd

6 get paid for what you do interests, not positions Change Deviations to the baseline plan for which the Owner is liable will constitute changes or claims (depending on the terms of the contract). In order to achieve price and schedule adjustment the Contractor bears the burden of proof and for each change or claim the Contractor will be required to satisfy seven criteria; cause, responsibility, liability, impact, entitlement, contractual compliance and evidence. The Contractor needs to make a properly documented case that the Owner can understand and accept and finds difficult to refute. Leverage Leverage is what encourages the other party to agree. In EPC Contracts, price and schedule adjustment is unlikely to be achieved at levels acceptable to the Contractor and that contribute to profitability without applying leverage at the right time. In this context threats and holding the Owner to ransom must be avoided. There are two key strands; providing the Owner with choice to do or not do something and presenting propositions to the Owner in which agreement with the Contractor serves the Owner s interests and failure to agree runs the risk of the Owner damaging its own interests. Collaboration Productive discussions between the Owner and Contractor regarding schedule and price adjustment (and other key issues) are unlikely unless there is an effective forum; that forum ought to derive from a collaborative working environment. aligning interests It is an undeniable truth that Lump Sum EPC contracts are adversarial and separate the Parties. The irony is that these contracts require a high degree of collaboration between Owners and Contractors if the projects are to be delivered successfully and both Parties expectations are to be realised. The requisite level of collaboration will not be achieved without both Parties (i) recognising and respecting the contract and (ii) adopting processes and practices that focus on their respective and mutual interests rather than hiding behind their respective contractual positions. A collaborative working environment may be created by the Parties aligning on common interests. Although Owners and Contractors have few common interests, there are some vital ones; e.g. Quality, HSE and the completion date(s). Quality and HSE are givens ; the Parties are compelled to align. Completion and the associated commercial risks for both Parties can be one upon which the Parties might align; the importance in terms of adjustment to the contract price and schedule and the impact on profitability is obvious. kingsfieldconsulting.com Kingsfield Consulting International Ltd

7 getting to yes Negotiation Negotiation is probably the most vital element of the process of converting claims and changes into price and schedule adjustment geared to profitable project delivery but it is where Contractors are at their most vulnerable. Successful negotiations rely upon (i) all of the previous foundations being present, (ii) planning the negotiations including determining objectives, interests and the BATNA, (iii) focusing on interests, not positions, (iv) looking for opportunities to expand the pie, (v) expediting the discussions while allowing time for reflection and not settling for settlements sake, (vi) keeping accurate notes of the discussions and putting the agreement into writing and (vii) deploying skilled and experienced negotiators. Profitable EPC Delivery Kingsfield Consulting International supports EPC Contractors in the profitable delivery of complex industrial projects. Please see our website for further information In an environment where over two-thirds of industrial megaprojects fail to deliver their business objectives in terms of cost, schedule and quality (Merrow, 2011), it would seem a priority that both Contractors and Owners tackle the causes. The notion that the Owner and Contractor are one team is a myth; the adversarial nature of EPC contracts and the Parties respective commercial interests negates this proposition. However both Parties need successful outcomes and for the Contractor, a key outcome is making profit and staying in business. In our experience, the root cause of success or failure lies not in their technical competence but in the behavioural and relational matters discussed in this paper. We would welcome the opportunity to hear your thoughts on this critical subject Kingsfield Consulting International Ltd West Byfleet, KT14 6LB United Kingdom T: kingsfieldconsulting.com Registered in England: kingsfieldconsulting.com Kingsfield Consulting International Ltd