The Construction Industry

The Construction Industry

Definitions • WHAT • One-time Unique Construction Projects • Over Three Trillion US Dollars of Investment • WHO • Owners, Engineers, Contractors, Suppliers • Different Roles and Objectives • WHY • Large, Complex and Unique Projects Susceptible to Conflicts • HOW • Understanding Organizational Issues and Uncertainties • Defining Roles, Contractual Relationships and Delivery System

LNGT Project Organization BRITISH ENERGY CONGLOMERATE (CLIENT) Construction Management contract for Refinery Complex GERMAN DESIGN CONSTRUCTION HOLDING COMPANY CALIFORNIAN CONSTRUCTION MANAGER (CM) BRITISH DESIGN BUILD (fast-track) CONTRACTOR FOR LNG TANKS (DESIGNER) Formal Sub-contract agreement Corporate bid and performance bonds for 100% of the work BID negotiations and TECHNICAL communications during construction ITALIAN CONTRACTOR FOR FOUNDATIONS AND CIVIL WORKS LNG TANKS (GC-civil) Formal communications and payment request to British firm Letter of intent to form joint venture, assuming 100% responsibility over cost and schedule for portion of work through corporate and personal guarantees VENEZUELAN SUB-CONTRACTOR ABOVE GRADE WORK PACKAGE CIVIL WORKS (SUB-civil)

Project Communication Lines British DESIGNER New York Arbitration California CM Italian GC Job Formal lines of communication Informal lines of communications

Case Study:Important Issues • Are the contractual and communicational relationships favorable to limit conflicts? • Is there anything about the project structure that would give an indication on how this project will handle conflicts? • Does this project have mechanisms to handle uncertainty in this project? • Is there a process by which conflicts on this project will be handled?

Outline • Sources of Conflict and Dispute • Organizational Issues • Participants Issues • Project Structure • Process Problems • Project Uncertainty • External Uncertainties • Internal Uncertainties

Sources of Conflict and Dispute • One-time Experience Projects • Correlated Variables: Difference between a Manufacturing Process and a Construction Project • Different Reasons for a Particular Dispute • Need to Identify the Roots of Controversy to Avoid Unnecessary Litigation

Sources of Conflicts Fenn et al.,1997

Hierarchical Sources of Conflicts Peña-Mora,et.al,2002

Owner-Contractor Objective Alignment Owners Objectives Contractors Objectives Contractors’ and owners’ objectives • Disagreements Resulting from Incompatible Objectives

Contractors' Objectives • Achieve Profit and other Financial Gains • Satisfy Client and Generate Repeat Business • Manage Cash Flow • Limit Long-term Liability • Develop Employees and Create Satisfaction • Optimize Employment Level

Owners' Objectives • Meet Return on Investment Goal • Minimize Operating and Maintenance Costs • Minimize Project Downtime and Outrages • Achieve High Product Quality • Provide Design Flexibility for Future Demands • Minimize Disruptions to Existing Operations • Avoid Negative Impact on Environment and Community • Reduce Design and Construction Time for a Timely Usage of the Facility • Exceed Customer’s Expectations

Contractors’ and owners’ Objectives • Complete the Project within Budget • Complete the Project within Schedule • Maintain a High Level of Quality • Execute the Project Safely, without Wasted Time or Accidents • Minimize Claims and Litigation

Major Participants • Owner : Public and Private Owner • Architect/Engineer • General Contractor • Construction Manager

Project Structure • Seven major project delivery systems • Traditional Design-Bid-Build (DBB) • Pure or Agency Construction Management (PCM) • Construction Management at Risk (CMR) • Design-Build (D/B) • Turn-Key (TKY) • Design-Build-Operate (DBO) • Build-Operate-Transfer (BOT)

Four Main Delivery Systems: Relationships Between Participants Owner Owner A/E C/M A/E General Contractor Trade contractor Trade contractor Trade contractor Subcontractor Subcontractor Subcontractor Traditional Design-Bid-Build Pure or Agency Construction Management Owner Owner C/M A/E D/B Entity Construction Function Design Function Trade contractor Trade contractor Trade contractor Sub contractor Sub contractor Sub contractor Construction Management at Risk Contractual Relationship Communicational Relationship Design-Build Internal Relationship

Type of Relationships Among Participants

Traditional Design-Bid-Build Owner A/E General Contractor Subcontractor Subcontractor Subcontractor Contractual Relationship Communicational Relationship

Traditional Design-Bid-Build • Sequential Construction Process • Lump Bids Commonly Adopted, Resulting in Adversarial Relationship between the Owner and the Contractor • Collaborative Relationship between A/E(Chosen on Qualification Basis) and Owner • Different Participants’ Interests: • Owner: Quality and Value Product, Delivery Schedule, Site Safety • Contractor: Profit, Construction Time, Relationships, Reputation • A/E: Profit, Aesthetics, Relationships, Quality, Recognition

Pure Construction Management Owner C/M A/E Trade contractor Trade contractor Trade contractor Contractual Relationship Communicational Relationship

Pure Construction Management • Great Flexibility in the Schedule and for Changes • Market Competition for the Work • Fiduciary Relationship with the Contractor • Small Financial Risks of PCM and High Risk of Loss of Reputation • PCM Generally Paid a Fixed Fee • PCM as Facilitator/Mediator in Conflicts

Construction Management at Risk Owner C/M A/E Trade contractor Trade contractor Trade contractor Contractual Relationship Communicational Relationship

Construction Management at Risk • CM Guaranteeing Maximum Price: GMP • Reduced Owner’s Risk • Half-way between the DBB and the PCM System • Contractual Relationships between CM and Trade Contractors

Design-Build Owner D/B Entity Construction Function Design Function Sub contractor Sub contractor Sub contractor Contractual Relationship Communicational Relationship Internal Relationship

Design-Build • One Contractual Team Responsible for Design and Construction Function • Owners with more Emphasis on Schedule Despite Less Control and More Uncertainty of Cost • Loss of Control Over Design and Flexibility in Changes • Owner with Enough Knowledge about Design and Construction to Establish the Initial Parameters, Review Proposals and Monitor the Process

Process Problems • Process Problems Inherited from the Choice of Project Structure and Contract Type • Distinction between Contract Type and Delivery Process

Contract Types • Lump Sum or Fixed Price Contract • Most Common and Most Adversarial • Cost plus Contract • Risk Shifted to the Owner • Risk of Cost Inflation by the Contractor to Increase Profit • Guaranteed Maximum Price • Cost Reimbursement plus Profit, with a Fixed Ceiling

External Uncertainties • Result of External Forces on the Project: Inclement Weather, Political Risk, Acts of God • Some Issues Addressed with Insurance Policies, Contract Clauses or Other Forms of Mitigation • Identify the Type of Uncertainties ahead of Time and Account for Them to Avoid Conflict

Internal Uncertainties • Errors in Design, Unforeseen Site Conditions, Incomplete Definition of Scope • Need for a Proper Monitoring and Control to Reduce the Impact of Internal Uncertainties

Conflicts in LNGT Project • Omission of Civil Works Contract between DESIGNER and GC • Misplacement of the Contract between GC and SUB • Cash Flow Problems and Cost Overruns : The SUB invoicing 55% of the Contract to the GC while only 30% is in Place

Remedies and Consequences • DESIGNER’s Takeover of GC’s and SUB’s Work • GC and SUB’s Responsibility For All Costs Going Forward Concerning the Civil Works Package • DESIGNER with Total Control of the Project and GC and SUB Assuming the Cost Risk • Consequences • One Year Delay • Increase in Overhead Cost • Claims for Changed Site Conditions and Design Changes Issued by GC and SUB against DESIGNER • Counterclaims • Arbitration in New York with High Expenses

Summary • Conflict in the Construction Industry Is Inherent of the Characteristics of the Industry. • Project Uncertainties and Sub-optimal Contractual Relationships Are a Major Source of Conflict. • Legal Costs of Dispute Resolution Constitute a Burden for the Industry. • Dispute Avoidance and Resolution Techniques Should Be Implemented to Resolve Conflicts With Time and Cost Savings.

References • [Conlin et al.,1996] : Conlin, J., Langford, D.A., and Kennedy, P., 1996. The Relationship Between Construction Procurement Strategies and Construction Contract Disputes Proceedings of CIB W92, North Meets South, pp. 66-82. Durban, (January). • [Fenn et al., 1997] : Fenn, Peter, Lowe, David, and Speck Christopher, (1997). Conflict and Dispute in Construction. Construction Management and Economics (1997) 15, p. 513 • [Gordon, 1991] : Gordon, Chris. (1991). “Compatibility of Construction Contracting Methods with Projects and Owners” MS Thesis, MIT, Cambridge. • [Howell et al., 1998] : • [Peña-Mora et al, 2002] : Peña-Mora, F., Sosa, C., and McCone, S. Introduction to Construction Dispute Resolution. Prentice Hall, New Jersey, 2002. • [Porter, 1985] : Porter, M. (1985). Competitive Advantage, Free Press, New York. • [Scott, 1995] : Scott, Donahey M., (1995). Seeking Harmony. Technique Dispute Resolution Journal. pp. 74-78. April-June • [Stipanowich, 1996] : Stipanowich, Thomas J., (1996). Arbitration: Innovation and Evolution in the United States Construction Industry. Wake Forest Law Review Vol. 31 (1) pp. 65-182. Spring • [Sykes, 1996] : Sykes, John. Claims and Disputes in Construction: Suggestions for their Timely Resolution. Construction Law Journal. Sweet & Maxwell. Vol. 12 (1) pp. 3-13

The Construction Industry