Construction project risk mitigation and management for owners A Grant Thornton Thinking Webcast September 8, 2010

Transcription

1 Construction project risk mitigation and management for owners A Grant Thornton Thinking Webcast September 8, 2010 Presented by: James Schmid, Grant Thornton LLP R. Edward Boucher, Esq., Kotz Sangster, Wysocki and Berg, P.C. Michael D. Hastings, Marsh USA Inc. Joseph Fusco, Marsh USA Inc. We will begin shortly If you experience any technical difficulties, please contact or support@learnlivetech.com Webcast May 6, 2010 We will begin soon If you have computer audio issues, you can dial into the presentation at ; pass code

2 Awarding CPE for this session 2 In general Respond to all polling questions Group participation will not receive CPE The rule Respond to at least 75% of the polling questions to pass with full credit You have to be logged in individually to receive credit If you experience any technical difficulties, please contact or support@learnlivetech.com If you have computer audio issues, you can dial into the presentation at ; pass code

3 Addressing your questions through Q&A 3 Step 1 Step 2 If you experience any technical difficulties, please contact or support@learnlivetech.com If you have computer audio issues, you can dial into the presentation at ; pass code

4 Other helpful features you can use 4 If attending from outside a Grant Thornton office, be sure to shut down all other applications to allow more Internet bandwidth. If you experience any technical difficulties, please contact or support@learnlivetech.com If you have computer audio issues, you can dial into the presentation at ; pass code

5 5 Grant Thornton LLP Construction Advisory Practice Grant Thornton LLP s Construction Advisory Services professionals have years of experience in providing economic and damage analysis and litigation support for construction claims. Additionally we help construction project owners to deter, detect and investigate the fraud, waste and abuse that can ruin a company and cause undue personal risk. Our construction advisory team uses state of the art forensic tools, objectivity, procedural thoroughness and complete confidentiality when dealing with the issues that affect your business. If you experience any technical difficulties, please contact or support@learnlivetech.com If you have computer audio issues, you can dial into the presentation at ; pass code

6 Agenda 6 Introduction Speaker biographies What is risk and where does it arise? Fundamental principles of risk management Risk categories Conclusion 2010 Grant Grant Thornton Thornton LLP. All LLP, rights Marsh reserved. USA, Kotz Sangster & CFMA. All rights reserved.

7 Introduction 7 Effective risk management requires a structured, comprehensive approach What is a comprehensive approach to risk management? Your presenters are 2010 Grant Grant Thornton Thornton LLP. All LLP, rights Marsh reserved. USA, Kotz Sangster & CFMA. All rights reserved.

8 Speaker biographies 8 Jim Schmid, CPA, CFE, ABV Partner and National Practice Leader of Construction Forensic Services Jim Schmid is a Partner at Grant Thornton LLP, National Construction Forensics practice leader and practice leader in the Detroit area for Forensic Accounting and Investigative Services. Jim provides forensic, valuation and general consulting services for clients in all industries including the construction industry. He is a licensed CPA, a Certified Fraud Examiner and is accredited by the AICPA in business valuation. Jim s background includes both industrial engineering and accounting/finance. Contact information P: E: jim.schmid@gt.com

9 Speaker biographies 9 R. Edward Boucher, Esq. Partner R. Edward Boucher is a Partner practicing in Kotz Sangster s Construction Law practice group. His practice involves drafting and negotiating contracts for construction managers and general contractors, subcontractors and suppliers, and owners. His practice also involves litigating claims involving such matters as unforeseen soil conditions, delay and disruption, and defective workmanship, and representing contractors before governmental administrative bodies. Contact information P: E: rboucher@kotzsangster.com

10 Speaker biographies 10 Michael D. Hastings Managing Director Mike Hastings is Marsh s National Project Risk Practice Leader, within Marsh s National Construction Practice. Over the past fifteen years, he has taken a lead role in developing and implementing Marsh s consultative approach to construction project risk management, including risk identification, financial modeling, loss control and mitigation, insurance program design, and consulting services for contractor and project-specific insurance programs. Mike has served as consultant, broker and client executive for owners, contractors, and design firms on commercial and civil projects comprising over twenty-five billion dollars in construction values. Contact information P: E: Michael.D.Hastings@marsh.com

11 Speaker biographies 11 Joseph Fusco Senior Vice President Joseph Fusco is a Senior Vice President in the Strategic Solutions Group at MMC (Marsh Companies). He works across all MMC operating companies to develop and implement operational/construction risk solutions, including risk transfer and finance. His capital project and operational risk management skills include: project planning risk, project execution risk, project costing/delivery range analysis, and the development of deterministic and probabilistic risk forecasting models and simulations. He is often called upon to present risk analyses to markets, investors, rating agencies, and internal boards. Contact information P: E: joseph.fusco@mmc.com

12 Polling question #1 12 Does your company s Finance and/or Internal Audit department have a significant role in identifying and managing construction risk? a. Yes b. No

13 What is risk and where does it arise? 13 Risk is an event that is uncertain to occur, which if it does occur will impose negative financial consequences Risk lurks in all aspects of your operation: Organization and operational structure Project delivery method Contract bid/award process Contracts with contractor, A/E s, and other Project performance; schedule, quality and cost Contract and pay application administration

14 What is risk and where does it arise? 14 While different owners in different businesses will face some different risks, most are common to the industry and can be addressed systematically Unless you have a disciplined, structured program, you will not know whether your company is capable of handling the risks that arise in the course of a construction project

15 Risk infrastructure what does good look like? 15 Sponsorship and Positioning Managing the Process Risk Identification Risk Prioritization Risk Treatment / Control Reporting Monitoring Culture Communication Counterparties The Board collectively recognizes its on-going responsibility to manage capital project risks, generating specific policies to communicate throughout the organization. There is a clear vision of risk tolerance. Capital Project Risk Management is integral to the planning and performance processes and roles and responsibilities are clearly defined. Process of CPRM is underpinned with appropriate tools. Capital project risks, including new and emerging risks, are identified systematically and consistently across the organization, including portfolio and project specific, strategic investment decisions. Capital project risks are assessed and prioritized to focus time and resource on the critical risks. Risk assessment takes into account risk correlation, and is both qualitative and quantitative. Controls are tested and action plans developed and implemented where necessary CPRM and risk transfer decisions are fully informed. Risk adjusted returns are optimized. There is a strong governance framework in place to facilitate reporting at the appropriate level with subsequent feedback and communication throughout the organization. The risks faced, and the effectiveness of the capital project risk management process, are monitored by Management and the Board, and by using independent assurance. The employees have the knowledge, skills and tools to embed the capital project risk management process. The organization actively communicates its various capital project risk management activities to its stakeholders. The organization has robust capital risk management practices in place when working with external organizations.

16 Capital project risk management benefits 16 Internal board and executive management risk requirements are satisfied Access to more favorable financing options Corporate governance issues addressed Access to more favorable/ comprehensive insurance options Project rating (S&P, Moody s, and Fitch) Defines level of uninsurable risk Clear determination of risk ownership among all stakeholders Increased certainty of meeting critical project delivery objectives Transparency of risk across all project participants Enhanced claims forecasting and control Reduces litigation

17 Fundamental principles of risk management 17 Identify the risk and its triggers Allocate between contracting parties - allocate the risk to the proper party Mitigate risk with management practices and insurance

18 Risk categories 18 I. Performance failure arising out of professional services II. Default of general contractor, subcontractors or suppliers III. Delay in permits or approvals IV. Environmental contamination or unforeseen conditions

19 Polling question #2 19 What project delivery models does your company use? a. Design/Bid/Build b. Design build c. EPC Engineer/Procure/Construct d. IPD Integrated Project Delivery e. Construction Manager Owner s Agent f. Construction Manager at Risk g. Two or more of the above h. Other

20 Risk category 20 I. Performance failure arising out of professional services Triggering Events Design Defect affecting constructability or performance Contractual Allocation Insurance Mitigation and Management Avoid waivers in A/E agreement that bar loss of use damages and passthrough of contractor s claims Use a delivery method that transfers design risk to contractor Contractual waiver of contractor s consequential damages, such as lost profits and bonding capacity Contractual waiver of impact claims upon contractor s acceptance of change order Contractually limit contractor s delay and impact damages to contractually defined cost of work items, verified with right to audit Contractually require cost and time impact estimates with notice of claim Verify practice professional liability policies for negligent acts, errors or omissions of project design, consulting, and engineering professionals Purchase project-specific professional liability policy covering negligent acts, errors and omissions of all project design, consulting and engineering professionals. Purchase Contractors Protective Professional Indemnity and Liability insurance to cover vicarious liability of design builder and provide first-party coverage excess practice professional policies Put plans and spec through a constructability review releasing them for bid Avoid CCDs for directed schedule acceleration; rather, use lump sum change orders or cost of work or GMP change orders if costs cannot be ascertained Include a full waiver of all impact claims in all change orders Place design professional on notice of claim and your damages Engage a certified expert to review or monitor the project Define goals and get agreement in writing Define milestones

21 Risk category 21 I. Performance failure arising out of professional services (continued) Triggering Events Isolated performance specifications Contractual Allocation Insurance Mitigation and Management Expressly identify in contract items for which contractor has design responsibility. Verify practice professional liability policies for negligent acts, errors or omissions of project design, consulting, and engineering professionals Purchase project-specific professional liability policy covering negligent acts, errors and omissions of all project design, consulting and engineering professionals. Purchase Contractors Protective Professional Indemnity and Liability insurance to cover vicarious liability of design builder and provide first-party coverage excess practice professional policies Define key milestones underlying performance specifications Require equipment supplier representations regarding performance Require equipment supplier warranty and sign-offs

22 Polling question #3 22 How much do you expect your company to spend on construction in the upcoming year? a. Less than $50 million b. $50 to $500 million c. More than $500 million d. Spending plan confidential

23 Risk category 23 II. Default of general contractor, subcontractors or suppliers Triggering Events Contractual Allocation Insurance Mitigation and Management Financial default of the GC, major subcontractor or supplier: Work slowdown or stoppage Non-payment of sub s or suppliers Liens filed Future loaded pay applications Include contingent assignment of subcontracts as part of contract documents Express contractual obligation to bond-off liens Express contractual right to issue payment directly to subcontractors and suppliers at owner s sole discretion Contractually establish a trust over payments to contractor that include funds for subcontractors and suppliers Contractually define contractor s insolvency as an incident of default Subcontractor default Insurance replaces subcontractor surety bond Implement a contractor and subcontractor pre-qualification program (financial data, litigation history, worker s comp EMR, references, etc.) Obtain contingent assignment of subsubcontracts and sub-supplier purchase orders and agreements Require payment and performance bonds at all contracting levels Monitor financial status of the GC, subcontractors and key suppliers Monitor / scrutinize pay applications for irregularities Do not process progress payments ahead of work completion (e.g. 65% paid, 35% complete)

24 Risk category 24 III. Delay/Interruption of Schedule Triggering Events Delay in permits / approvals Contractual Allocation Insurance Mitigation and Management Identify responsibility for obtaining different types of permits in contract Contractual waiver of contractor s consequential damages, such as lost profits and bonding capacity Contractually limit contractor s delay and impact damages to contractually defined cost of work items, verified with right to audit Contractually require cost and time impact estimates with notice of claim Contractually establish an idled equipment rate Renegotiate policy effective date(s) as appropriate to save premium Note expiration date of underwriter quotes/pricing not bound Note policy expiration dates in light of changes to schedule Set schedule of planned permits and 3 rd party approvals. Require GC to monitor the status of permits and approvals and report this on a monthly basis. Consider increasing retainage when the planned permits and approvals fall behind schedule. Understand and comply with contract notice requirements Ensure that RFI s and related correspondence are addressed expeditiously Closely scrutinize proposed change orders Ensure that all required construction documents are being prepared, particularly Daily Reports. Avoid CCDs for directed schedule acceleration; rather, use lump sum change orders or cost of work or GMP change orders if costs cannot be ascertained Include a full waiver of all impact claims in all change orders

25 Polling question #4 25 Has your company every experienced a major construction cost overrun? a. Yes b. No

26 Risk category 26 III. Delay/Interruption of Schedule (cont.) Triggering Events Contractual Allocation Insurance Mitigation and Management Interruption of funding Contractually establish the right to suspend or terminate contractor s work for convenience Contractually waive contractor s unabsorbed home office overhead and lost opportunity damages Contractually define and limit contractor s suspension and termination damages Determine payment status, exp. date of all contractor-provided insurance policies; require direct notice from insurer or agent for cancellation, non-renewal or material limitation of coverage; collect certificates of insurance Determine appropriate property insurance coverage / rate Negotiate extensions / cancellation of policies as appropriate Consider contingent insurance coverage to apply excess and DIC over contractor-provided insurance program in the event of a lapse (general liability, excess liability) Secure project fence/security Secure or remove unstable project elements Remove signs/banners Allow reasonable access to contractors Negotiate right to continue contractor-provided insurance policies if contractor fails to make payments

27 Risk category 27 IV. Environmental contamination or unforeseen conditions Triggering Events Contractual Allocation Insurance Mitigation and Management Exacerbation or release of contaminated soil or groundwater on project site or adjacent site Ensure contract contains a reasonable DSC clause that coordinates with dispute resolution provisions Ensure contract contains a reasonable discovery of hazardous materials procedure that coordinates with dispute resolution provisions Ensure environmental indemnity clause leaves contractor responsible for its own negligence Define contractor s failure to follow owner s safety program as an incident of default Contractually limit contractor s delay damages in manner stated above Endorsement to CGL policy can provide coverage for bodily injury or property damage arising out of sudden and accidental release of known or unknown contaminants Contractor s Pollution Liability policy covers contractor for own liability and vicarious liability arising out of subcontracted operations for bodily injury, property damage, or government-mandated clean-up costs arising out of creation or exacerbation of an environmental condition during construction operations Project-specific CPL policy covering contractor wrap-up form to include the liability of all or selected subcontractors; available in occurrence and claimsmade forms Practice or project-specific policies provided by all environmental remediation subcontractors Owner may procure site-specific Owner Controlled Pollution Liability policy including combined Pollution Legal Liability (covering owner) and CPL (covering the contractor and all subcontractors EIL insurance requirements Professional Liability Policies of consultants may include Environmental E&O coverage Establish a clear contamination and hazardous material response plan. Ensure GC contract and subcontracts require indemnification for the failure to follow DSC and discovery of hazardous material procedures Ensure project staff knows DSC and discovery of hazardous materials procedures Know before beginning the project who is responsible for contaminated soil related costs Require immediate notification of owner upon discovery of contaminated soil and engage an expert to assess Clean up ASAP and document all direct and indirect costs Monitor levels of contaminants in soil as redistributing soil may create a concentration requiring remediation

28 Polling question #5 28 Do you plan to engage in any international construction projects? a. Yes b. No

29 Risk category 29 IV. Environmental contamination or unforeseen conditions (cont.) Triggering Events Contractual Allocation Insurance Mitigation and Management Asbestos in existing structure Ensure contract documents describe scope of remediation Ensure contract contains a reasonable DSC clause that coordinates with dispute resolution provisions Ensure contract contains a reasonable discovery of hazardous materials procedure that coordinates with dispute resolution provisions Ensure environmental indemnity clause leaves contractor responsible for its own negligence Pollution Legal Liability (PLL) policy covers owner s liability arising out of release of known or unknown asbestos in building materials (protects contractor) Contractors Pollution Liability policy (CPL) covers unintended release or exacerbation of known or unknown asbestos, including transportation and Non-Owned Disposal Sites (NODS) Require the GC and sub s to indemnify the owner for the failure to follow DSC and discovery of hazardous material procedures Ensure project staff knows DSC and discovery of hazardous materials procedures Define contractor s failure to follow owner s safety program as an incident of default Contractually limit contractor s delay damages in manner stated above

30 Risk category 30 IV. Environmental contamination or unforeseen conditions (cont.) Triggering Events Contractual Allocation Insurance Mitigation and Management Hazardous materials required by contract documents Ensure any owner obligation to indemnify contractor for hazardous materials required by contract documents excludes damages caused by contractor s own negligence and wrongdoing. To extent permitted by law, ensure contractor s obligation to indemnify owner includes incidents arising out of owner s negligence CPL policy covers third party bodily injury, property damage, and governmentmandated clean-up costs arising out of unintended release of hazardous materials Builders Risk policy may be structured to provide first-party coverage for clean-up of materials spilled but contained within the project site Require the GC and sub s to indemnify the owner for the failure to follow DSC and discovery of hazardous material procedures Ensure project staff knows DSC and discovery of hazardous materials procedures Define contractor s failure to follow owner s safety program as an incident of default Contractually limit contractor s delay damages in manner stated above

31 Polling question #6 31 Do you have a full service construction management department? a. Yes b. No

32 Conclusion 32 Effective risk management requires a structured, comprehensive approach Retain professionals to help you develop a structure that is appropriate for your company

33 Summary 33 Questions?

34 Stay tuned for our next webcast 34 Our next webinar will be Controlling Construction Change Orders and Claims in October. Get announcements about our construction events and thought leadership by subscribing to Grant Thornton s Focus on Forensics newsletter Visit us at Select Focus on Forensics and sign up

35 35 Please take 5 minutes to provide some feedback. Click on the link below. When done, click on to close the session.

36 Thank you for joining us today! 36 James T. Schmid, CPA, CFE R. Edward Boucher, Esq. Michael Hasting Joseph Fusco Grant Thornton LLP Kotz, Sangster, Wysocki & Berg Marsh USA Inc. Marsh USA Inc. E Jim.schmid@gt.com E rboucher@kotzsangster.com E Michael.D.Hastings@marsh.com E joseph.fusco@mmc.com T T T T