First, engage the brain

A London cabbie recently complained to me that we have not started building for the Olympics yet. People commonly, but mistakenly, believe we should get stuck in right away. But before putting a spade into the ground, there’s preparation to be done, particularly on the contract side.

Consider what each party in a construction contract sets out to achieve. The client wants low costs and certainty of completion, and the contractor wants profit. These can only be reconciled by detailed planning and the identification of risks.

This explains why the third edition of the New Engineering Contract (NEC3) is the route of choice for Olympic projects and also for decommissioning nuclear facilities.

These two may appear strange bedfellows, but they have much in common. Obviously, they are publicly funded and subject to government budgetary constraints and public audit. Both are subject to time pressure. Lastly, the Olympic Delivery Authority (ODA) and the Nuclear Decommissioning Authority (NDA) have set up a pyramidal contract system with tier one contractors, tier two subcontractors and so on.

As the Office of Government Commerce’s contract of choice, the NEC3 is particularly suitable for these projects because it contains features that enable clients to focus contractors on specific goals. It also deals specifically with early identification of risk.

The NEC3 introduces KPIs, and bonuses for achieving certain scores in them. These enable employers to maximise incentives to achieve time and budget goals – particularly important for Olympic contracts. The risk with KPIs is that in modifying the behaviour of contractors, other aspects of a project could suffer – something the Olympic project team will have to monitor.

A second new feature in NEC3 is “key dates”. These are interim dates by which works have to reach certain conditions. For example, in a professional services contract, a key date could be the point by which all drawings and information are to be ready to go out to tender.

As anyone who has launched into a DIY project without full preparation will testify, failure to plan is a plan to fail

The conditions also provide a penalty for failing to meet a key date. Financially, the penalty is unlimited (unless capped by other provisions in the contract), but the category of losses which the employer can recover for failing to meet a KPI is limited.

In Olympic contracts, timely completion is most important. So, this is the area where bonuses for achieving KPIs, and penalties for failing to meet key dates, will be concentrated.

Tier one contractors are likely to get bonuses for achieving KPIs. In contracting there’s an assumption that any risk, such as the risk of a bonus being lost, can be passed to the contractor below. In a tiered system, this is often not possible. For a tier one contractor to meet a KPI, it might require several tier two firms to perform, so the penalty couldn’t be passed to any one firm.

In addition, the loss of a bonus isn’t claimable against the subcontractor who fails to meet a date. A well structured KPI should require a contractor to manage the several contracts below it without passing on the penalty. If the tier one contractor can simply pass the risk to a tier two contractor, the incentive on the tier one contractor to perform is lost.

Nevertheless, tier one contractors need to set incentives for tier two contractors to reach goals so they can reach theirs. A simple “stepping down” of key dates and KPIs is unlikely to be possible. Tier one contractors must identify KPIs for tier two contractors, so that they can achieve their own goals.

All of these considerations, the preparation of a risk register and the detailed programme required by the NEC3 take time. Meanwhile, there’s no sign that anything is actually happening.

However, as anyone who has launched into a DIY project at home without full preparation will testify, failure to plan is a plan to fail. This is the philosophy of the NEC3 and the reason for its requirements that time be invested upfront to manage the programme, the costs and risks.