const mgmt vfinal

Construction Management Performance

Readiness Assessment for Managing Large ProjectsJanuary 2008

1Copyright 2008 by ScottMadden. All rights reserved.

Contents

The Construction Management Landscape is difficult and getting worse Construction costs continue to escalate Global construction activities increasing, fuel continued demand-driven cost increases Competition for key construction resources (e.g., project managers, heavy equipment, etc.) to

complicate domestic / U.S. power projects Compressed project schedules as owners wait for environmental picture to crystallize

Construction Management Tables Have Turned Owners held the trump card previously when construction and supplier over-capacity was rampant;

now contractors and suppliers have the leverage Building (or Rebuilding) Construction Management Skills

Owners need to build (or rebuild) a number of construction management skills, both organizational and individual, to succeed in the new environment

How ScottMadden Can Help You

The Construction Management Landscape


The cost increases are impacting all infrastructure projectsgeneration-, transmission-, or distribution-relatedand they will impact utilities in direct and indirect ways. For example, rising copper prices will increase T&D cable costs

This creates sizeable challenges for utilities. Infrastructure spending must continue. U.S. electric utility net plant is over $700 billion today, and CERA projects that $800 billion needs to be invested in the North American power industry over the next 15 years (excluding potential CO2 reduction-related capex). With a current market capitalization of just over $500 billion, investor-owned electric utilities have not faced this level of investment in 30 years

This spending will likely be in steadily increasing increments rather than a quick peak with an abrupt fall-off

Rate cases, which had been dormant for years, might proliferate. There is some risk of 1970s-style rate case pancaking if the environment is significantly inflationary

What Does This Mean for Utilities? Labor scarcity, especially skilled workers, will likely

drive up labor costs long-term, as firms increase wage rates to attract candidates to the construction trades. Indeed, skilled labor supply and demand curves crossed in April 2007

From January 2000 through January 2007, the Skilled Labor Index increased at a 4.1% CAGR; this rate was 4.8% between 2003 and 2007

While less dramatic than materials cost increases, labor wage inflation contributes significantly to construction cost increases, given labors cost as a percentage of total energy and utilities construction costs

Shop and fabrication costs have increased as well, compounding this problem

The world economy continues to grow at a brisk pace, led by China. This growth has sparked a significant run-up in construction inputs, both for commodities and equipment like transformers and turbines

Oil price increases have impacted materials transportation costs as well as inflation. Crude oil domestic prices during 2005-06 were on par in real terms with their highest levels in the late 1970s and early 1980s

From January 2000 through January 2007, the Material Price Index increased at a 2.3% CAGR; prices decreased from 2000 to 2003 but have since escalated at 6.8% per year

The United States is also hampered by lower currency valuation, so imported goods are now more expensive across the board

Manufactured equipment prices have risen dramatically in 2005 and 2006. Estimated price escalations for major power plant components were 13.0% in 2006 and 9.3% in 2005

Skilled Labor Vital to Construction Is More Costly, As Well

Worldwide Economic Growth Stimulates Construction Inflation

Sources: The World Bank; Edison Foundation; The Keystone Center; U.S. Geological Survey; SNL Financial; U.S. Bureau of Labor Statistics; U.S. Bureau of Economic Analysis; EIA; The New York Times; Platts Electric Utility Week (Feb. 19, 2007) (citing CERA)

The Construction Management LandscapeConstruction Costs Going Through the Roof

0%

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Line Pipe Exchangers Switchgear Pumps &Drivers

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But commodity prices have spiked in recent years

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U.S. Treasury Yield Curve(Recent and 6-Months, One Year & Three Years

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Annual Price Increase for Selected Equipment (By Year)

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Selected Materials Prices vs. General Inflation (Index: 1997=100)

Copper

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Steel mill products


Petroleum Industry Oil refiners are continuing to roll out plans for expansions and

upgrades 1

Similar projects have been canceled or delayed due to rising costs, labor shortages, and equipment delays

Seventeen expansion projects were planned in the U.S. from late 2006 through the year 2010

Maintenance projects were pushed backed due to delays of ordered equipment and the availability of construction contractors said Chevron Corp. spokeswoman Stephanie Price and there were labor shortages as skilled workers flocked to the Gulf Coast to work on repairs on facilities there. This created a backlog that continues today.2

Power Generation New nuclear constructions is ongoing in Europe, looks likely in U.K.

and France, and is being considered in the Netherlands and Canada while India and China have some of the worlds most robustconstruction programs3

China added 102 GW of capacity in 2006 and is expected to more than double that capacity by 20204

Many U.S. power generators are re-evaluating plans to build new generation as a result of estimated construction cost increases

Limited resources worldwide to provide equipment for nuclear construction programs

Construction Equipment Manufacturers Overseas heavy equipment sales by Caterpillar rose 35% in Europe,

the Middle East and Africa and rose 23% in the Asia/Pacific region Both Komatsu and Hitachi experienced a sales decline in North

America and noted that demand grew in Europe & CIS, China, Asia & Oceania, and the Middle East & Africa

Many industries across the globe are increasing construction activities, creating demand on labor, heavy equipment, logistics, engineered components, and commodities

1. Upgrade Plans Flow While Oil Prices Ebb, ENR, October 2, 2006 by Thomas Armistead with Beth Evans2. Refineries Summer Break, The Wall Street Journal Online, June 26, 20073. New Realities Bring About a Construction Climate Change, ENR, September 18, 2006 by Thomas Armistead with Peter

Reina and Dan OReilly4. Costs Hit Coal Building Plans, February 2007, Power Engineering by Amethyst Cavallaro

Construction Equipment Price Hikes

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The Construction Management LandscapeGlobal Construction Activities Increasing

National Average Labor Cost Index

Construction Equipment Price Hikes


1. From The Top 400 Contractors, Prosperity Allows Firms to be More Selective, ENR, September 24, 2007 by Gary Tulacz

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Current and future environment Growing backlog of project contracts at large EPCs Equipment availability, e.g., cranes, limited to none Longer lead times for materials and scheduling work Higher fuel prices increase material extraction/production

and transportation costs More delays (start and ongoing) are due to labor and skill

availability constraints (management, engineers, craft levels)

Construction productivity is declining, in part due to the scarcity of skilled labor

Contractors are experiencing:1 Opportunity to focus on projects where expertise

is possessed, owners are reliable and a reasonable return can be expected

Margins are on the rise with fewer fly-by-nightcontractors low-balling on bids

Freedom to turn down contracts with onerous terms or simply walk away

Difficulty in finding and retaining skilled and competent workers in trades and management

Material and equipment cost estimates are higher than original project plans due to strong demand and low supply

Demand is not just raising prices, it is making projects harder to start and complete on-time with implications on budgets

Compressed Project Schedules are the ResultCompressed Project Schedules are the ResultCompressed Project Schedules are the Result

Delivery Schedules

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The Construction Management LandscapeCompetition for Key Construction Resources

Delivery Schedules

Annual Backlog at Major EPC Firms

Shop Capacity

National Utility Infrastructure Cost Indices

Construction Management Tables Have Reversed


DevelopmentDevelopment Scheduling Scheduling Execution Execution CommissionCommissionDesign Design CloseClose--Out Out

Detailed engineering design development

Long lead time materials ordering

Contract specifications development

Planning and materials supply

Assessing (detailed estimate information inputted into work management and scheduling systems)

Completion of work package

Short lead time materials ordering

Development of operations and maintenance documentation

Outage planning interface

Implementation/ installation

Permitting Work

performance monitoring

Work management/ schedule and cost monitoring

Weekly progress status reporting

Construction check and testing

Certification and testing of equipment operability

Operations and maintenance documentation delivery

Initial training completion

System punch-list items closed-out

Design drawings updated with field changes

Documentation closed-out

Creation of scope-level design for planning and estimating

Information structure [for work management, scheduling and cost systems] prepared

Development of project PEP

Contract strategy (make versus buy) development

Construction Management Tables Have ReversedProject Management Stages and Definitions


RisksRisks

Scheduling Scheduling Execution

Execution

CommissionCommission

Design Design Clos

eClose--Out Out

Developme

nt

Developme

nt Pressure toStart Later

Pressure toPressure toStart LaterStart Later

Project Life CycleProject Life Cycle

Engineering design delays

Fabricator / equipment supplier queues lengthening

Acquisition of labor

Pressure toFinish Sooner

PressurePressure totoFinish Finish SoonerSooner

Competitive markets Cash flow Low reserve margins

Pressure to start later and end sooner affects every stage of large capital project development

Underestimated costs and under funded project

Inadequate contract specifications

Incomplete designs and design documentation

Adverse impacts on other projects

Schedule Compression Escalates Every Project RiskSchedule Compression Escalates Every Project RiskSchedule Compression Escalates Every Project Risk

Delayed permitting

Lack of commissioning time and plans

Delayed start-up Missing or incorrect

documentation

Construction Management Tables Have ReversedRisks of Project Schedule Compression

Building (or Rebuilding) Construction Management Skills


The Need to Refocus on Construction Management Skills

Large capital projects have always been extremely complex and difficult to manage. Emerging conditions have increased the complexity through price escalations, lack of key construction management skills and schedule compression.

Construction management governance, through its eight key skills, provides the foundation for managing construction project risk well.

Regulatory Regulatory ManagementManagement

Financial Financial ManagementManagement

Stakeholder Stakeholder ManagementManagement

Quality Quality ManagementManagement

Process Process ManagementManagement

Workforce Workforce Performance Performance ManagementManagement

Work Work ManagementManagement

Project Project ManagementManagement

Performance Performance DriversDrivers


Regulatory Regulatory ManagementManagement

Financial Financial ManagementManagement

Stakeholder Stakeholder ManagementManagement

Quality Quality ManagementManagement

Process Process ManagementManagement

Workforce Workforce Performance Performance ManagementManagement

Work Work ManagementManagement

Project Project ManagementManagement

Performance Performance DriversDrivers

Planning and scheduling Engineering and design Scope management Project controls Decision making

Job estimating Work package development Sourcing Materials management and

logistics

Staffing Productivity management Overtime management Contract management Work rule management Skills training Skills / job matching Safety

Work continuity Work method development Standardization Procedure management Process measurement Knowledge management

Environmental management Project performance auditing Schedule variance monitoring Work quality monitoring

Equity partner interface Intervener management Governmental relations Community relations

Project scoping Project financing Budgeting Project financial reporting Project approval hold points

Permitting and licensing Public accountability reporting Regulatory filing management Regulatory requirements

management

To address the challenges and mitigate risk exposure, companies should initially focus on rebuilding (or building) construction management skills in five areas

Building (or Rebuilding) Construction Management SkillsConstruction Management Governance Initial Focus


Relies on formal management processes defined by Board and CEO

Addresses enterprise process needs comprehensively

Uses business objectives to drive decision making

Implements rigorous processes to increase owner comfort levels

Emphasizes business, financial, human capital and operations management enterprise focus (i.e., strategic)

Exhibits high-capability of decision tool infrastructure

Relies on formal communication, review and decision processes

Incorporates multi business unit process dimensions to integrate enterprise considerations

Uses project requirements to drive fact-based decisions

Focuses on owner key issues Emphasizes overall project and

business management program focus (i.e., tactical-strategic)

Exhibits moderate to high capability of decision tool infrastructure

Relies heavily on consensus Includes few sub-processes to

integrate enterprise considerations Relies on perceptions, less

empirically-driven Invites active and broad owner

involvement Emphasizes project cost and schedule

performance project focus (i.e., tactical)

Exhibits low to moderate capability of decision tool infrastructure

Description

When business complexity is demanding

With increased business management goal diversity

If balanced and strong buyer-supplier power market conditions exist

When business scale is expanding With need to preserve owner

interests When buyer-supplier market

conditions are balanced

When business scope is narrow With a small, tight management group When strong buyer-power market

conditions exist

Relevance

Owners define and drive decisions and reporting

Decisions grounded in enterprise value

Decision-making driven by information over dialogue

Sophisticated use of a full range of contracting options

Owners collaborate with suppliers to define requirements and protocols

Decisions reflect project economics Decision-making based on selected

fundamentals Appearance of alliance and

partnership arrangements

Reliance by owners on third parties to define requirements

Group decision-making predominates Decisions driven by project needs and

progress Decision making is less factor- or

empirics-based Prevalence of bid-buy practices with

some incentive-based contracting

Key Practices

MarketMarket--Based ApproachesBased ApproachesLimited Process ModelsLimited Process ModelsInformal Style and ProcessesInformal Style and Processes

There are three broad approaches to construction management governance

Building (or Rebuilding) Construction Management SkillsConstruction Management Governance Approaches


80%

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Project Activities

Planning DetailedEngineering

Procurement Construction

Costs committed by planning and design decisions

Spend

100%

80%

Source: Construction Industry Institute

Project spend lags initial planning and engineering The greatest impacts on project success are developed during project planning and detailed engineering phases

Preliminary planning enables downstream project activities

Building (or Rebuilding) Construction Management SkillsImpact on Execution of Planning


Effective governance practices establish the foundation for realizing the benefits of project management best practices namely cost leadership and process efficiency, according to the Construction Industry Institute

Mean Performance ScoreSource: Construction Industry Institute

Best Practice ValueBest Practice Use versus Quartile Performance

Building (or Rebuilding) Construction Management SkillsBest Practices in Project Management

Project Performance

4th Quartile 3rd Quartile 2nd Quartile 1st Quartile

Low Best Practice Use

High

High Impact

Medium Impact

Low Impact

Cost Savings

Low Impact

Medium Impact

Low Impact

Design / Information Technology

Project Change

Management

Pre-Project PlanningZero Accident

Technique

Team BuildingPlanning for

Startup

Constructability

Materials Management

Best Practice Use vs. Quartile Performance Best Practice Value

Schedule Reduction

HighImpact


Lean construction is the adoption of the lean manufacturing technique pioneered by Toyota and Honda The key to lean construction is the decentralization of planning and decision making, managing for process, not speed, and the minimization

of process waste through ruthless standardization Constructability concepts of feed-forward process input are also included in lean construction Elimination of process variance within this methodology has seen >15% cost and schedule improvements in large projects such as airport

design and construction

Lean ConstructionLean Construction

Stage gating is used to control major project segments with approval to proceed to subsequent stages contingent on meeting each stages preset objectives

Stage gating technique is being pursued in some regions as a regulatory management tool Large projects employing stage gating also have seen >15 % project improvements with severe-duty construction efforts (e.g., Suncor at

Alberta refinery construction) benefiting from this technique

Stage GatingStage Gating

Up-front decisions have the most significant impact on downstream activities All upstream events (e.g., design, engineering, etc.) must be executed around construction and commissioning requirements >15% overall project cost and schedule improvements common with constructability implementation Applications of constructability implementation typically include severe-duty projects such as oil pipelines, power plant construction, shale-oil

refinery construction, etc.

ConstructabilityConstructability

Classic construction methodology, with centralized CPM scheduling and PMO-driven project management Production driven centrally through schedule adherence, tight work package preparation and strong push drivers for process efficiencies Speed of execution through efficient functional execution is the primary project throughput driver PMBOK methodology driven by optimizing performance along each element of the activity chain PMBOK is the most prevalent project management methodology in industry today

Project Management Body of Knowledge (PMBOK)Project Management Body of Knowledge (PMBOK)

There are several broad project management approaches in use today

Building (or Rebuilding) Construction Management SkillsProject Management Approaches


QUALITY

SAFETYSAFETY

SCHEDULECOST

Regardless of the project management approach selected, the success criteria and levers available to construction project managers remain the same

Contract Management

Contract Contract ManagementManagement

ProcurementManagement

ProcurementProcurementManagementManagement

Project ExecutionProject Project

ExecutionExecutionProject Risk ManagementProject Risk Project Risk ManagementManagement

Decision DriversDecision Drivers

Building (or Rebuilding) Construction Management SkillsSuccess Criteria and Decision Drivers


Contracts entered in a timely manner to minimize financial and project delivery risk

Change order management process clearly defined and rigorously applied

Web-based tools used to manage interactions with contractors in near real-time

Array of contracting approaches employed depending upon project type, scale, and risk profile

Contract ManagementContract Management

Appropriate hedging tools used to minimize price volatility exposure

Continuous evaluation of suppliers fabrication queues and lead-times to ensure on-time deliveries

Open, frequent communications with project managers, asset owners, and finance personnel regarding deadlines, resource availability and delivery, and the corporate integrated construction and maintenance plan

Supplier options expanded through appropriate identification and qualification processes

Procurement ManagementProcurement Management Project management process is clearly defined

with procedures and communicated as the expected process to complete project work

Projects are executed from start to finish by the same project manager

Project controls are used to monitor the project continuously and hold project managers accountable for results

Functional silos are not allowed to impede project structure and activities

Construction and maintenance schedules are integrated to optimize use of contractors and craft labor

Project ExecutionProject Execution

Each of the decision drivers has specific leading practices associated with it. Examples include:

Priorities and metrics for both the organization and project are fully aligned

During planning, likely project variances are identified and previous project actual activity durations considered

Performance standards are clearly identified and appropriate training provided before project initiation

Planning and milestone development processes are evaluated after each project

Significant time and effort are spent on stakeholder communications

Project Risk ManagementProject Risk Management

Supported bySupported by OrganizationalOrganizational ProcessProcess ToolsTools MeasurementMeasurement

Building (or Rebuilding) Construction Management SkillsProject Management Leading Practices


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Best Practice Inter-Relations Defined

Maintainability & Operability Designing equipment layout to ensure that maintenance and operations tasks can be conducted efficiently and effectively

Constructability The optimum use of construction knowledge and experience in planning, design, procurement, and field operations to achieve overall project efficiencies and objectives

Front-End Loading Defining and incorporating strategic information into the project planning phase to influence overall project capital costs, schedule reworks, construction turnover to operation, andsteady state operations costs

Value Engineering the systematic effort directed at analyzing functional requirements of systems, equipment, facilities, procedures, and supplies for the purpose of achieving the essential functionality at the lowest life cycle cost, and consistent with meeting all performance requirements for reliability, quality, safety, etc.

Start-up and Commissioning The process of ensuring that systems are designed, installed, functionally tested, and capable of being operated and maintained to perform within design specification

TQM A strategy for continuous improvement performance in every level and in all areas of management

Process Hazard Analysis Ensuring safety of a facility by identification of hazards or problem areas that result from deviations from normal design operations

Prefabrication Preassembly & Modularization use off-site construction and assembly in controlled environments to minimizestick-building tasks

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Half of the key best practices are executed during construction

Possessing the skills and best practices sets the stage for achieving the project benefits

Building (or Rebuilding) Construction Management SkillsProject Management Best Practice Inter-Relations

How ScottMadden Can Help You


QA/QC program, process and procedure development and oversight support

Project performance monitoring and performance improvement

Schedule and budget variance monitoring and remediation

Supplier quality and queue management

Quality Management

Work schedule integration and optimization Work methods Standardization and modularization Knowledge capture and transfer

Process Management

Work sampling and productivity estimates Overtime management processes Work rule management practices Skills sourcing and training activities Safety training materials and practices

Workforce Performance Management

Project estimating procedures and data sources Work package structures suitable for estimating and

construction Maximo and Passport management

Work Management

Hands on experience managing large capital projects and fossil plant outages

Major projects readiness assessment ScottMadden proprietary best practices

library

Outage planning and preparation Construction organization design Documentation hierarchy (management

model)

Strategic sourcing and supplier management

EPC contract management best practices Communication planning and execution Outage management augmentation QA/QC program augmentation Productivity sampling (wrench time

studies)

Post-project reviews, lessons learned, and knowledge transfer

Project roles and responsibilities Tools and measures for decision making and

progress reporting Skill training and organization depth Scope definition and control processes

Project Management

ScottMadden ScottMadden Demonstrated CapabilitiesDemonstrated CapabilitiesAssessment AreasAssessment Areas

Construction Project Construction Project Performance CriteriaPerformance Criteria

How ScottMadden Can Help YouGovernance Needs Assessment Approach


Week 7Week 7Week 6Week 6 Week 8Week 8

3. Opportunity Identification Identify and prioritize gaps in risks and

potential mitigation alternatives Identify and prioritize improvement

opportunities Identify actions required to achieve

improvements Prepare high-level project plan for

next steps

2. Operations Assessment Conduct interviews Review available documentation Identify primary risks and exposure Review mitigation options and plans

already in place Review existing metrics/monitoring

mechanisms

1. Planning and Organization Finalize scope Identify data needs Schedule interviews and update

meetings

Week 5Week 5Week 4Week 4Week 3Week 3Week 2Week 2Week 1Week 1TaskTask

Six to eight weeks in duration, depending on finalized scope Interviews with key internal stakeholders (typically 15 20 interviews) Review of internal strategy, commitments, requirements, plans, reporting and other internal documentation Small project team comprised of senior level consultants working collaboratively with key client personnel

How ScottMadden Can Help YouSample Project Timeline Readiness Assessment


Project PhaseProject Phase

Lessons LearnedLessons Learned

Outage planning and preparation

Construction organization design

Documentation hierarchy (management model)

Strategic sourcing and supplier management

EPC contract management best practices

Outage management

QA/QC program

Productivity sampling (wrench time studies)

Post-project reviews, lessons learned and knowledge transfer

Communication planning and execution

ExecutionExecutionPlanningPlanningTaskTask

Duration of consulting support varies depending on finalized scope Small project team comprised of senior level consultants working collaboratively with key client personnel

How ScottMadden Can Help YouSample Project Timeline Construction Management Auditing

Jere JacobiPartner

ScottMadden, Inc.Ten Piedmont Center

Suite 805Atlanta, GA 30305

Phone: 404-814-0020Mobile: 262-337-1352

[email protected]

Steve SandersPartner

ScottMadden, Inc.Ten Piedmont Center

Suite 805Atlanta, GA 30305

Phone: 404-814-0020Mobile: 770-490-8684

[email protected]

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