Why Collaboration Beyond the Contract Matters on Megaprojects
Within this article we discuss common applications of EPC and EPCM contracts on megaprojects, which leads into a discussion on issues that often arise from contract misalignment. Steps for finding contractual alignment are introduced, including a featured discussion on integrated project delivery and how that approach can improve contractual alignment and support successful project delivery.
Typical EPC & EPCM Agreements
Engineering, Procurement, and Construction (EPC) and Engineering, Procurement, and Construction Management (EPCM) contracts have traditionally served as the primary contracting arrangements utilized for megaprojects, albeit with a wide range of results.
For EPC contracts, the contractor has responsibility for the overall design, for engaging material and equipment suppliers, and for construction of the project, including engaging and managing required subcontractors. EPC contracts are often, though not always, under a lump sum pricing arrangement with the contractor assuming much of the risk for delivering the project on budget and on schedule. EPC contracts also typically are awarded after the front-end engineering and design (FEED) phase is completed, which may or may not utilize the same contractor to complete these early design works.
For EPCM contracts, the contractor similarly has responsibility for the overall design as well as procuring material and equipment in addition to establishing contractual arrangements on behalf of the owner with other contractors/vendors. The primary difference between an EPC and EPCM contract lies within the construction function, where an EPCM contractor provides project management and construction supervision, including acting as the owner’s engineer, but does not have responsibility for the physical construction of the project. EPCM contracts are typically, though not always, under a unit-rate or cost-plus pricing arrangement, with lump sum agreements less common. Typically, under an EPCM contract, the owner assumes much of the risk for the project being completed on budget and on schedule.
The specific terms and conditions within the contract, whether EPC or EPCM, naturally provide the structure and framework for the parties to collectively deliver the project through defined scopes, responsibilities, and processes. The contract, thus, is fundamental in documenting the formal alignment between the parties, but does not on its own signal that alignment between the parties has actually been achieved.
Issues Arising from Contract Misalignment
With the execution of an agreement with a primary contractor, some may view that the heavy lifting of aligning the contractor and owner parties has been completed – as defined by the agreement itself. However, the project characteristics, type of contract in place, the specific terms and conditions, as well as how the contract is being managed can directly lead to unnecessary issues if the parties are not sufficiently aligned. Examples of issues arising from misalignment include:
Failure to adequately plan – in the period between execution of the contract and mobilization to the field, a wide variety of critical precursor activities must be performed to support effective and efficient field execution. Differing views on what is required, when it is required, who is responsible, etc. can lead to a chaotic project start with impacts that ripple across the remainder of the project.
Poor specifications – if the owner’s requirements are not clear or poorly specified it presents the potential for the contractor’s assumptions to misjudge the owner’s specifications, resulting in quality issues, changes to project outputs/benefits, and related issues.
Inadequate Terms & Conditions – the contractual terms and conditions may fail to suitably provide a framework to allocate risk and/or resolve issues that arise between the parties. Poorly defined terms and conditions may also lead to issues arising from disagreements over scope definition and required deliverables to the assignment of various contractual responsibilities and how progress is measured.
Ambiguous Decision-Making – delegations and responsibilities for making decisions must be clearly defined and supported by both parties, including avoidance of bottlenecks and slow decision making when critical to the project.
Poor Supervision and Monitoring – without appropriate contract management in place, including a thorough understanding of the contract’s complexities and dependencies, it can be difficult for the owner to asses the contractor’s performance, it may also lead to a failure to enforce certain contractual requirements and remedies, further exacerbating issues.
The above list represents just some of the potential issues arising from misalignment between the contractor and owner. When such issues arise they inevitably have direct impacts to the project, whether through increased costs, longer duration, diminished outputs, or similar adverse effects, stressing the criticality of having appropriate alignment between the parties.
Finding Alignment in the Partnership
So how do an owner and contractor achieve appropriate alignment to deliver a megaproject?
As discussed above, the contract itself is always a fundamental piece of this alignment, but requires more than good terms and conditions to deliver the necessary alignment. In Pegasus-Global’s experience, sound alignment between the owner and contractor relies upon the following elements:
Early Engagement: typically, the execution contractor is engaged around the time of the final investment decision that authorizes the project to move forward. While this seems like a logical time to engage the contractor, if the contractor can be engaged on a more limited scope during the planning phase of the megaproject it provides a critical runway to allow alignment between the partners to evolve ahead of execution in conjunction with the project’s increased definition. As discussed below, this pre-execution period also provides time for the partners to establish a strong culture on the project.
Experienced Owner & Contractor Teams: naturally having more experienced teams often leads to improved performance as that “been there, done that” experience allows the project teams to have a greater appreciation of not only the challenges that lay ahead but also the actions required to mitigate such challenges. The experience of the individuals within the respective teams can support a “best athlete” approach where regardless of company, the best team member capable of performing a specific task is assigned that responsibility. This also leads to experience alone not being enough to provide partner alignment, as it also requires the right culture amongst the project teams to support it.
“One-Team” Culture: ultimately partnership alignment relies heavily upon establishing a project environment and culture that supports each party working collectively towards common goals (e.g. delivering the project on schedule, on budget). To be effective, this “one-team” culture should be present across all levels of the owner and contractor organizations that are involved with delivering and supporting the project. Past experience these partners have with each other naturally lends itself to supporting effective collaboration, as there is some familiarity with the tools, systems, processes, and even people across organizations through this experience.
Beyond the above three elements, the project characteristics itself can significantly influence achieving alignment amongst the parties and introduce other critical parties where alignment is needed. For example, power generation projects rely on direct involvement and support from the major equipment manufacturers (e.g. turbines, generators) where the manufacturer has core control over the technologies that define plant configuration, performance envelopes, and integration constraints. Characteristics around these technologies further influence the project – long-lead times drive the installation schedule, while the manufacturer is also intimately involved in the startup and commissioning phase of the project. The above elements also apply to gaining alignment with these partners beyond the owner and contractor.
Alignment via Integrated Project Delivery
In recent years, there’s been growing interest and application of an “Integrated Project Delivery” (IPD) methodology that is intended to optimize alignment and collaboration in the key parties involved with delivering a megaproject. So what is Integrated Project Delivery?
In traditional EPC/EPCM agreements risks are typically treated through the transfer or assignment of risk responsibility from one party to another, often with the objective for one party to avoid the specific risk entirely. Where IPD approaches differ is they bring a multi-party contract where the owner, prime designer/engineer, and prime contractor collectively work as a common team with common goals to deliver the project. IPD teams can also spread beyond the core of owner, prime designer/engineer, and prime contractor to include other key members as may be warranted for certain projects. Through an IPD approach, the shared goals and objectives support more candid communication and accountability amongst the partners. The shared goals typically involve a risk/reward pool that these partners each share in, with cost overruns exposing some of the profit for the partners, while cost underruns allow the savings to be shared across the partners.
Beyond sharing in the overall performance of the project, IPD provides additional benefits to the owner, prime contractor, and prime designer/engineer, including:
Owner Benefits: early sharing of project knowledge enhances the project team’s understanding of the owner’s project objectives and facilitates open communications allowing owners to select project options that support enterprise goals, including an improved ability to manage cost, schedule, quality, and related project characteristics.
Designer/Engineer Benefits: ability to leverage contractor’s construction expertise during the design phase to support more accurate budget estimates and early resolution of constructability challenges, which carries through to improved cost and schedule performance during execution.
Contractor Benefits: increased participation in the design phase to support stronger pre-construction planning (sequencing, methodologies, etc.) including resolution of constructability issues ahead of execution increasing the likelihood of delivering the project on schedule, on budget.
The collaborative environment fostered by IPD arrangements can reduce the number of requests for information, change orders, delays, disputes, and claims on the project.
Characteristics of Strong IPD Agreements
While the IPD agreement itself provides the structure for how the IPD model will be applied on the project, including defining the shared risk/reward pools, establishing transparency, and indicating roles and responsibilities of the parties, the agreement itself does not ensure the IPD model will achieve its desired objectives and outcomes.
With IPDs utilizing integrated project teams, the staffing of the project team by the IPD partners becomes a critical factor to the project. Strong IPD project teams have the right expertise to match the project needs and characteristics. They are also structured to truly support the integrated aspects of these teams, with the project team acting as a unified team, often co-located in a common office or at the very least utilizing a common system, regardless of who their respective employer is to allow tasks to be performed by the best-qualified individuals.
Along with the qualifications and expertise of the project team, succession planning and knowledge retention must be considered by the team, particularly for the long duration of megaprojects where project staff turnover is expected in these multi-years of execution projects.
Hand-in-hand with the project staffing, the project culture must likewise support a collaborative and integrated environment to allow trust between the parties to grow enabling a no-disputes philosophy to be applied. The project culture should be consistently supported from the executive level through the senior managers to the functional roles supporting the project. It is also supported by applying a robust governance framework that establishes clear decision rights, escalation paths, and the expected collaborative behaviors.
Closing Thoughts
The type of contracting methodology selected and the allocation of risk within that agreement forms a core foundation from which megaprojects can be delivered. On large and complex projects like megaprojects, collaboration amongst the key parties becomes a critical factor to the success of the project. While an IPD approach inherently supports stronger collaboration, ultimate success of a megaproject is less dependent on the specific contracting methodology applied and more driven by whether the involved parties establish practical, cultural, and governance alignment that supports true collaboration beyond the contract itself.