Companies can no longer afford to have dated and inconsistent pricing techniques.
Risk management is no longer just a defensive strategy. The more sophisticated and formalized a company’s risk management processes are, the more opportunity a contractor has to profit from mitigating and managing the associated risks. The post-economic downturn has created an environment characterized by more risk than ever before. Based on this environment, contractors must manage risk differently than they did five years ago. However, when it comes to bidding projects, contractors have been slow to react to this new environment and continue to bid projects as they historically have done.
While the construction market in many regions is improving and there is some cause for cautious exuberance, many contractors are still experiencing crowded bid boards and competition willing to pursue work at near break-even (or worse) margins. As the pressures mount to build the backlog and keep “feeding the machine,” it has never been more important for contractors to understand and quantify the risks associated with a project prior to submitting the bid. The ability to price the risk consistently and accurately will help contractors win the right work at the right price and gain long-term strategic advantage over the competition. Those contractors who have successfully implemented a bestin- class Project Risk Assessment program experience greater margin gain and less margin fade.
Foundation for the Process
Just as each company has a unique culture and a collection of individuals with a broad range of skill sets, each company’s Project Risk Assessment process will be unique. Every organization has a sweet spot for the types of work it executes and clients it works for, thus each customized/individualized Project Risk Assessment should reflect this project mix through the elements it analyzes and process it follows. However, the basic foundational structure of a formalized Project Risk Assessment Process must be supported by the following elements to ensure success:
- Processes— Repeatable and well-defined processes that are a part of normal work routine and used consistently across projects.
- Tools and Techniques— Scalable tools that are a fit for your organization and reflect project risks that are germane to your organization.
- People and Behaviors— Without the support of management and delivery teams that own the risks, the processes and tools are irrelevant.
Structure of the Process
There are many ways to categorize and organize risk. FMI approaches the assessment by placing risks in two primary buckets: constructability elements and external elements. These two elements represent the project characteristics related to other interested parties and the physical project. Three key elements that thematically carry over into all project areas for consideration include financial, safety and insurance elements. These elements span the external and constructability elements and are included throughout the other categories (Exhibit 1).
Once the potential areas of risk are identified, they can be analyzed, weighted and scored at a simple level. This helps an organization determine how to appropriately price the job. An illustrative example would be analyzing the external risk element of the contract. The identified issues are examined and scored against the firm’s risk tolerance level as it relates to the individual risk element (Exhibit 2).
The final output is a Project Risk Assessment dashboard that displays the risk elements individually scored to provide the reviewer with a green, yellow or red rating (Exhibit 3). This rating allows the company to price the project appropriately. This idealized price for the project is then adjusted to conform to the competitive environment and job-chase strategy employed by your project chase team.
Companies may still make a business decision to submit a bid with a lower cost than the Project Risk Assessment process indicates. However, it is the awareness and quantitative analysis of this deal that drives the ultimate decision on how to strategically price the job (which helps provide a final go/no-go decision for the company). Yet, unlike a prior bidding process without a full-blown Project Risk Assessment, the contractor now has a consistent and clear picture of what risks are faced on the job. Moreover, based on the deal between ideal risk pricing and the submitted bid, the contractor has the information and ability to adjust project management strategies as the margin risk dictates.
Benefit to the Field
In the event of successful project pursuit, the Project Risk Assessment provides valuable information to the project planning and operations teams. These teams gain a deeper understanding of the project risks and can build the appropriate risk register to effectively manage those risks for the project’s duration. Identifying the risks pre-mobilization allows those risks to be included as discussion points in the pre-job planning process. This creates a heightened awareness around the risks on the job site that can positively affect productivity. Essentially, Project Risk Assessment provides an incremental lift around all project planning and execution, and the potential exists to profit from the risks identified through effective mitigation and management.
Scalability and Support of a Growth Strategy
This process is scalable from local companies with a single office location to regional and national players with multiple satellite offices and business units dispersed geographically. Companies with multiple geographic locations must have a clear line of sight from the home office to their various locations regarding how they price and bid work. The risk in our industry is hardly limited to our home markets. The issues created by utilizing unfamiliar subcontractors, working outside your market geography, entering new markets and chasing project sizes and types not traditionally in your sweet spot all compound the risks that must be accounted for and priced for on projects you bid. Without a consistent process to apply the appropriate contingency and fee to a job during the bidding process, companies run the risk of variable bidding across all markets and bidding and winning jobs with unacceptable risks that are inadequately priced. These businesses are more likely to encounter significant margin fade across their portfolio of projects.
Every company employs seasoned estimators who can price jobs in their sleep. As the risk environment changes, as companies grow, and as new competition enters their markets, contractors must have a more consistent process for training and onboarding new estimators to ensure bidding process consistency. In this riskier environment, companies can no longer afford to have dated and inconsistent pricing techniques that lack a formalized Project Risk Assessment process. Challenge your organization to adopt a Project Risk Assessment process that helps you appropriately price your jobs, to have a clear understanding of the risks you are already embracing, and to operate more profitably.
Ryan Howsam is a consultant with FMI Corporation’s risk management practice. He can be reached at 303.398.7275 or by email at firstname.lastname@example.org. David Madison is a consultant with FMI Corporation’s risk management practice. He can be reached at 919.785.9213 or by email at email@example.com.