How do you rate your construction company's chances of survival?
Construction projects, whether for a new house, a multi-level office block, or other jobs are complex and unique--as are the risks that go with them. Sometimes a risk turning into reality delivers a knockout blow. In other cases, a combination of risks, even where no individual risk would have been fatal, will sink the project or even the construction company altogether. Construction risk management is a must if a company is to be sure of survival and growth.
What is the best way to ensure good construction risk management? The answer lies in good processes. These processes are robust, easy to follow, and help you take the right decisions and actions. Risk management in building benefits from this kind of process too, at an enterprise and at a project level. Here are five steps to keep risks under control – plus a bonus step that can help every construction company!
1: List the Potential Sources of Construction Risk
To start managing your construction risks, you need to be able to list out what could jeopardize your projects. Take a deep breath, because the list can be long:
Occupational risk: Injury, possibly fatal, to a worker because of behavior, methodologies or technologies used, weather or a third party.
Financial risk: Such as unmanaged growth, lack of sales, rising interest rates, overtrading, problems with the economy, and increases in oil and building supply prices.
Contractual risk: Penalties you may have to pay for not completing a job on time.
Project risk: Lack of proper project management, inadequate company policies or lack of application of such policies, miscalculation of time and resources required, and more.
Stakeholder risk: Problems of communication, misunderstanding on the deliverables or closeout of a building project, insufficiency of stakeholder funds (often these risks can be solved with construction management software).
Natural risks: Floods, earthquakes, and other phenomena that damage construction sites or make access for work impossible.
Competition: Pressure to match price or delivery terms offered by a competitor, possibly putting your profitability at risk or straining your resources, loss of a project or opportunity to a competitor, and more.
Running a company that keeps you awake at night, worrying about all the things that might conceivably happen, is no fun. The next step is therefore to focus on the risks that are significant for your construction business. (Or if you prefer, on the ones that are really worth losing sleep over!)
2: Rank Construction Risks in Order of Importance
Other construction companies' key risks are not necessarily your own, and vice-versa. For example, their office may be situated in an area prone to earthquakes, while your office is safe elsewhere. In other words, start with an open mind about possible risks and don't limit yourself by using somebody else’s list.
That's a risk in and of itself.
Having said that, some risks tend to materialize more often than others. Contractor company failure statistics illuminate the following top five reasons:
Unrealistic Growth (overextending credit lines, taking on too much work): 37%
Performance Issues (lack of experience and/or staff): 36%
Character Issues (transfer of ownership, key person leaves): 29%
Accounting Issues (insufficient cost and time tracking, non-compliance): 29%
Management Issues (lack of training, poor project management): 29%
Interestingly, poor construction does not feature in this list. Most building work is done properly, either because contractors want to do a good job anyway or because building codes and inspections keep results in line, stage by stage. Poor business practices are a more common cause of failure. Construction firm owners and managers with good technical knowhow often struggle with the management side.
But let’s get back to your risks, meaning the ones that are most likely to affect your particular project or enterprise. There is a simple and effective way of evaluating the importance of each construction risk. It depends on two factors:
The probability of the risk materializing
If you had numbers (dollar figures for the impact, percentages for the probability), you could simply multiply the impact by the probability for each risk, and then rank the results in order. A bigger result would indicate a higher priority risk to manage. Hard numbers are not always easy to come by, but you can still use estimates to rate impact and probability as low, medium, or high. The risks with both high impact and high probability are then clearly the ones to address first. For example:
An increase in the price of building materials could hurt your profit margins. On the other hand, this is just one factor in the total cost of a project or in the total expenses incurred by your company. You might rate both impact and probability as medium.
The area around a building site has a history of catastrophic flooding, which would make access impossible and put an already tight schedule in jeopardy. These floods are infrequent however (every 15 years or so). Impact is high, but probability is low.
A key subcontractor on your project is in severe financial difficulty and may close down overnight, bringing your own project to a halt, leaving your workers idle and causing significant delay. In this case, both risk impact and probability are high.
To show others quickly and intuitively what the risk situation is, you can draw a simple 3x3 grid with low-medium-high probability up the left-hand side and low-medium-high impact from left to right along the bottom of the grid. Then write each risk in the corresponding square. The ones in the top right corner (high probability, high impact) are the highest priorities.
3: Deal with Each Risk
Although construction risks may be varied and complicated, risk management techniques fall into four simple categories.
Avoid the risk. For example, you may choose to refuse building projects in areas prone to earthquakes.
Transfer the risk. Insurance is a common way to do this. An appropriate contractual agreement with a subcontractor or supplier may be another.
Mitigate the risk. For instance, safety hazards in construction will continue to exist. Proper safety equipment and training for both workers and managers can help reduce the dangers.
Accept the risk. Weather, for instance, is uncontrollable and can cause delays on construction schedules. However, good construction project management can sometimes work around the problem and lessen its impact.
The approach you choose to manage a risk can also be optimized in terms of the reward associated with the risk. Profit, a repeat building project from a customer, or getting a key construction project reference to break into a market are all examples of rewards that you may be looking for. Higher rewards may require higher levels of risk. However, higher levels of risk do not automatically yield higher rewards.
4: Select the Right Resource to Help Manage Your Risk
If you have decided to transfer, mitigate, or accept a risk, different resources may help you to optimize your risk management choice:
Software. Whether for building design, costing, project management, accounting or other aspects of a construction business, the right construction management software can make tasks more manageable and quicker to process. All of these advantages also help mitigate risk. As a construction company grows and handles increasing numbers of projects simultaneously, it may be beneficial to use a software application specifically designed to help you manage risk (ERM or enterprise risk management software.) At an intermediate level, certain project management software options also have risk management functionality built in.
Training. On-the-job training in the use of specific materials and machines is one example and online training for work safety is another.
Financing. Construction business credit lines, whether you use them or not, are often a good precaution. As a financial cushion, they allow you to accept various risks, such as a client’s possible late payment or a payment dispute. The right accounting software can make it easy to prepare documents that your bank will require before opening up a line of credit.
Insurance. An insurance broker or company should be able to advise you about local authority requirements for construction insurance, and the ins and outs of CCIP (contractor controlled insurance programs), and SDI (subcontractor default insurance.) Remember, however, that some construction risk will always be uninsurable.
Professional advice. Sources of advice for construction businesses include legal firms specializing in construction contracts and litigation, bankers and accountancy firms, consultants, and business friends. Another source, sometimes overlooked, is organizations that issue surety bonds. This bond protects clients by guaranteeing that their building project will be finished, whatever might happen to your construction company. To decide whether to issue a surety bond, the issuing organization will investigate a contractor’s business, including the identification of any risky business practices.
New technology and methods. Some risks that were automatically accepted before can now be mitigated or even eliminated with new approaches. Bad weather is one example. With the use of prefabricated building modules, building construction time on site can be significantly reduced and with it, the possible impact of bad weather. In other areas, the use of drones (unmanned aerial vehicles) can save time and reduce safety hazards. Building information modeling (BIM) is also a means of identifying and dealing with risk before it becomes reality.
5: Get the Rest of the Organization Involved
Construction risk management is not a spectator sport. Everybody must know and contribute to good risk management according to his or her role in a construction business. Risk updates and reviews about risks should be part of the communication at all levels.
Remember how your parents used to nag you – nicely, but firmly – about paying attention and being careful? Regular, constructive reminders help things to turn out right. Keep communication about risks simple and to the point as well, so that your message is easy to understand and remember. The basic 3 x 3 grid showing risk impact and probability often works well with management colleagues, for example.
Bonus: Make Risk Work for You, Instead of Against You!
Here’s an open secret: construction risk is not all negative. If you do a good job on a first project for a customer, there is a positive risk (which is good!) you will be asked to do a second project, and so on. Business construction projects are now also being done on a BIARS (balanced incentive and risk sharing) basis. The customer and the contractor share in the potential upside (project cost savings for instance) as well as the downside, helping to boost the incentive of each party to make the job successful.
Many of the resources for handling negative risk can also be applied to positive risk as well. By selecting the right software, training, financing, and so on, your enterprise can not only weather storms, but also be poised to take advantage of additional business opportunities.
Ready to Optimize Your Construction Risk Management?
These five steps and the bonus step give you a solid process for identifying, managing, and even making money out of construction risk. To make them work for you and your company, apply them.
Don’t be daunted by risks you had not thought of before, and that you now realize could significantly affect your construction business. Take our word for it: you are far better off knowing that such risks exist and being able to take action to manage them correctly, whether they are negative or positive.
We could wish you good luck, but with this process you’ll be able to take chance out of the equation and better control your own destiny – so instead, we’ll simply wish you “good construction risk management!”
Do you use construction risk management at your company? Were there steps that I missed? I'd love to hear your thoughts in the comments below!