Improving Project Preparation

Building Client Capabilities

Understandably, clients tend to under-invest in project preparation during the initiation phase as they seek to minimise design, development and feasibility study costs. However, because many projects are put to tender with incomplete documentation and before their cost has been estimated accurately, tenderers have to add a significant risk premium to their bids. Project costs cannot be accurately estimated without detailed design and specifications, and high cost bids for a project allow the later diversion of funds. On the other hand, incomplete design can lead to estimates below project costs, with consequent claims and disputes obscuring the eventual recipients of funds. Contractors’ claims for reimbursement can lead to significant cost increases, and an unscrupulous contractor will also cheat on materials, compromise on quality, and deliver below the specification, resulting in poor quality assets with high maintenance costs.

Therefore, the first reason clients should invest in the development of some internal PM capabilities is because the quality of design and documentation before tendering reduces contractor risk and thus total project cost. Whether these documents are being prepared internally or externally, this task is one of design management. If the interaction between designers, consultants and contractors is managed by the client project team, they take responsibility for the project’s overall design and development at the earliest stages. Separating the design stage from tendering will also improve opportunities for consultation.

The second reason clients should invest in the development of internal capabilities is because they are, in reality, holding the eventual risk of their projects when they complete and become operational. The ability to manage that risk with their own client team on major projects, responsible for the process of project shaping and front-end definition, is an opportunity to add a great deal of value for the client. Even when consultants and contractors work to the best of their abilities, their firms have separate interests from the client.

The key factor is the extent of the specifications. On some major projects there may be a limit to how much design can be completed upfront, as this develops over time and the project details are refined and defined. It is unreasonable to expect a complex project to be fully specified at tender, and in most cases this would not be possible. It may also be advantageous to look for innovative ideas or design options, so for these projects an incremental approach would be followed to allow contractors and suppliers the opportunity for input during the development of the design. This also has the advantage of reducing uncertainty from poor tender documentation, thus lowering risk and cost for tenderers.

The client PM and project team should be responsible for overseeing the design and documentation of the project, ensuring the most appropriate construction options are chosen. Despite the proliferation of contracts used in the building and construction industry most major projects are delivered using either the traditional design-bid-build or Design and Build (D&B) and Design and Construct (D&C) contracts. The trend has been toward D&B and D&C contracts for major projects, and these account for a larger share of work done than number of projects. There is some support for design and construct procurement of buildings and social infrastructure from school PPPs in Australia and hospital PFIs in the UK. This may be due to the buildability issues found in complex buildings with many services, like hospitals, or the emphasis on maintenance costs with schools. However,  the problems found in D&C projects of design changes by the client and conflict of interest between design team members and the contractor are common.

Nevertheless, Ed Merrow argues for traditional construction procurement for the types of projects in his database. This is when consultants are appointed to manage the design, and a competitive tender is held for one or more contractors to execute the works on site against a complete design. Using evidence from the 11,000 private sector resource, industrial and engineering projects in his database, Merrow believes the best form of project delivery is what he calls ‘mixed’, with engineering design contractors hired on a reimbursable contract, and construction contractors hired on a separate fixed price contract. The evidence from the database suggests this is the most effective form of project organization, and represents traditional procurement with consultants appointed to do the design, and a competitive tender run for one or more contractors based on the finished design.

The approach advocated here combines elements of both the D&C and traditional procurement strategies. By engaging the PM and project team early, before detailed design work commences, the integration of design development with construction options retains the advantage of a D&C contract, as the PM manages the consultants as they develop the design solutions. However, the loss of control and the premium that is paid for management of a D&C contract is avoided.

Construction Productivity

Reinventing Construction 2017

The McKinsey Global Institute report Reinventing construction through a productivity revolution was released in February 2017. This is the latest in an ongoing MGI research and consultancy program in construction and infrastructure, previous reports were discussed here and here.

The infographic from McKinsey shown below summarizes a weighty report, at over 100 pages, and tells us that:

• The building and construction industry is large, therefore important;
• There are a number of sectors or sub-industries with different characteristics on the supply side;
• Specialized trades have lower productivity than the other sectors; and
• Four of the seven areas of reform are on the demand side (regulation, procurement, contracts and design).

At the beginning of the report MGI makes their position clear:

Even while other sectors from retail to manufacturing have transformed their efficiency, boosted their productivity, and embraced the digital age, construction appears to be stuck in a time warp. In the United States since 1945, productivity in manufacturing, retail, and agriculture has grown by as much as 1,500 percent; productivity in construction has barely increased at all.

The industry is extensively regulated, very dependent on public-sector demand, and highly cyclical. Informality and sometimes corruption distort the market. Construction is highly fragmented. Contracts have mismatches in risk allocations and rewards, and often inexperienced owners and buyers find it hard to navigate an opaque marketplace. The result is poor project management and execution, insufficient skills, inadequate design processes, and underinvestment in skills development, R&D, and innovation. ...

Examples of innovative firms and regions suggest that acting in seven areas simultaneously could boost productivity by 50 to 60 percent. They are: reshape regulation; rewire the contractual framework to reshape industry dynamics; rethink design and engineering processes; improve procurement and supply-chain management; improve on-site execution; infuse digital technology, new materials, and advanced automation; and reskill the workforce. Parts of the industry could move toward a system of mass production, standardization, prefabrication, and modularization—a production system—that has the potential to boost productivity by five to ten times."

Many barriers to higher productivity and ways of overcoming them have been known for some time, but the industry has been in deadlock. Most individual players lack both the incentives and the scale to change the system. However, there are forces lowering the barriers for change: rising requirements and demand in terms of volume, cost, and quality; larger-scale players and more transparent markets, and disruptive new entrants; more readily available new technologies, materials, and processes; and the increasing cost of labor with partial restrictions on migrant workers. Construction-sector participants should rethink their operating approaches to avoid being caught out in what could be the world’s next great productivity story.

A large amount of data supporting their view is provided, for example the diagram below. Each circle represents a country, and the size of the circle shows the size of the construction industry in that country. The horizontal axis shows the annual rate of productivity growth in construction from 1995-2015 in that country. The vertical line at 0% shows that the US construction industry, along with a number of others, has experienced negative productivity growth in the last two decades. The vertical axis shows output/hour in 2015, a standard measure of productivity. It's expected that high income countries like the US will tend to be relatively high in productivity: after all, that's why they are high-income countries in the first place. The countries in yellow are the few examples of nations where labor productivity in construction exceeds labor productivity in the country as a whole. Australia compares well here, although McKinsey carefully avoids questions about the reliability and quality of construction statistics.

 

And here's a graph showing global productivity growth in construction lagging average growth in labor productivity in all sectors. (The size of the data set is probably enough to overcome the quality issues in the statistics, so this is strong proof of an industry with issues, I think).

 

MGI divides construction into trades, industrial, civil and residential sectors. Productivity differences between specialized trades and the other sectors is large, and accounts for much of the who;e industry’s poor productivity performance. It is well-known that small firms have lower productivity than large, and the difference in construction is substantial (20 to 40 percent by McKinsey’s estimate, I’d add a zero to that for frontier firms.

MGI identified the ten contributions to weak construction productivity growth In their 2016 infrastructure report:

1. Fragmentation. The construction industry has many small-scale players. For example, about half of construction output in the United States is produced by firms with fewer than 50 employees.
2. Skills. Research shows that educational attainment has decreased over the years for the average US construction worker at age 30. This has implications for sector performance. The skill level of supervisors and project managers is critical for good on-site productivity, but it can vary greatly among employees across the same firm. Skill gaps also limit the introduction of new technology.
3. Insufficient planning and design. Large projects typically require more than 5 percent of total investment during the planning phase to run smoothly. This up-front investment is often not made, resulting in time-consuming problems and change orders.
4. Ineffective procurement processes and contracts. One-round lowest-price bidding processes, for instance, can encourage firms to use changes and claims as a core revenue stream.
5. Workflow split. The differing skill sets and working styles of architects and engineers affect the way they work with contractors and can prevent the right degree of cooperation and overlap needed for optimizing the design-build process.
6. Limited use of industrialized construction techniques. Approaches such as lean construction, the use of big data-driven building information modelling (BIM) systems, full prefabrication methodologies, and construction flow balancing (that is, the full optimization of material flow and team rebalancing to eliminate downtime) are often not applied to their full potential.
7. Limited use of technology. The sector is perceived as being slow to innovate—in fact, most construction work looks just like it did 50 years ago. Recent MGI research found that the construction sector lagged behind most other parts of the US economy in the intensity of digital assets, usage, and labor.
8. Risk aversion. Construction is typically a low-margin business. This tends to create a preference for proven technologies and approaches, since there is an insufficient financial buffer to support experimentation and innovation. Furthermore, failures tend to be highly visible, with direct impact on future business, as well as being costly and hard to correct.
9. Significant dispersion of performance. There is a wide gap between frontier firms and the average firm in the construction sector—and there are enormous gaps across geographies.
10. Uniqueness of projects and project mindset of companies. There is a tendency to approach each project as a unique case. Even if that stems from a desire to provide the client with craftsmanship or personalized service, it has the unfortunate effect of limiting standardization of designs and construction modules or prefabrication. It also discourages contractors.

At this point in time McKinsey is one of the few suggesting disruptive change is about to restructure building and construction. My view is that this has already started but has a long way to go, and I’ll close with another quote from MGI:

  

The most important market failures and dynamics vary between the two groups. For heavy contractors, suboptimal procurement criteria by public and private owners (focused on reducing initially offered prices and offloading risk) combined with, in some cases, corruption or inexperience among buyers—particularly in the public and residential sectors—have nurtured an environment of misaligned contractual and incentive structures. This has led to hostility and change orders rather than productive and trusted collaboration. The results of a new MGI Construction Productivity Survey confirm this picture of lack of alignment across the industry. For example, contractors and suppliers identified misaligned contracts as the most important root cause of low productivity, while the top root cause cited by owners was inefficient on-site execution.

Key issues for smaller specialized trade contractors and subcontractors include information asymmetries that reflect the fragmentation of this part of the construction sector, and the geographic dispersion of projects that compromise the cost transparency of projects for owners and make it more difficult for contractors to benefit from scale. Furthermore, small and specialized trade contractors offering higher-productivity solutions are held back by competition from contractors using less productive but cheaper informal labor and by regulation such as heterogeneous zoning and building codes. Many players in the industry benefit from today’s market failures, earning a substantial share of revenue and profits from change orders and claims, and reducing exposure to competition in an opaque market.