Recovery Report, Part 2: Risky Business
To what extent are companies investing in risk management policies?
Potentially months away from an upturn, and a short distance from some of the world’s fastest developing markets, GCC construction companies that have suffered the worst of the financial crisis may have a real opportunity to prosper once more.
So far this year, we have seen an increase in projects in Dubai, one of the worst hit by the downturn, as well as an influx of infrastructure and tourism developments across the GCC, particularly in places like Saudi Arabia.
Unfortunately, things are never quite as simple as they first appear.
With a huge rise in the number of international competitors hitting our shores, it is now more important than ever for local contractors to have a competitive edge.
Somewhat behind the UK and US in terms of business models, they are under pressure to have more advanced corporate policies in place if they are to have competitive advantage at the bidding stage and make the most of new business opportunities.
One sector, namely risk management, has attracted a substantial amount of attention recently, not least because this is an area where construction firms have invested minimally, but one which experts say is crucial in today’s somewhat unpredictable environment and vital for companies when moving into unfamiliar markets.
“This economic crisis is different from previous downturns in terms of its size and characteristics, and the last 18 months have shown that we cannot predict future shocks,” says Arabtec CFO Ziad Makhzoumi. “This more complex and unpredictable environment requires a shift to a more dynamic business approach.”
Executives from Dubai-based project management solutions company, Collaboration, Management and Control Solutions (CMCS) are also of this opinion. Founder and CEO Bassam Samman is convinced that due to the unpredictable nature of construction work, risk management policies play a vital role in business success.
“Contractors are a perfect example of what is known as project-centric organisations, where the company’s success and failure depends very much on how successful firms are when they deliver their projects,” he says. “Risks by definition are inherited in each project delivery due to the fact that whenever a project is executed, the organisation must make many assumptions to address the unknowns of the project.”
In addition, he comments how, as a result of this project-driven environment, the construction industry faces a greater number of risks than other sectors.
“There tend to be fewer risks facing other industries, whose business is mainly operations-driven rather than projects-driven. Contractors are faced with different types of risks, including risks related to technical specification of the project and the quality of completed works, and risks that relate to project management, so things like schedule, budget, contracts administration and safety.”
Other risks, he explains, are organisational risks relating to the contractor’s financial and management practices, and finally external risks that could result from government regulations, weather conditions, war and hostile attacks, strikes and natural disasters.
Compounding the problem, according to regional director of risk management firm EC Harris Middle East, John Williams, are developers that transfer their own risks onto contractors, squeezing them on price to cope with tough economic conditions.
“The money contractors lose will eventually need to be recovered and will result in claims and disputes over failed performance against time and quality,” he says, adding that the ability to sustain cash flow in today’s market, combined with increasing on-site obligations and health and safety issues related to stalled projects, creates even further risks.
Hence, the question begged by many industry analysts today. Does the construction industry have the right risk management policies in place to guide it safely through an economic recovery? Or not? A recent study of ME companies, mainly construction firms, by CMCS, would suggest not.
While only 59% of survey respondents said they had a risk management policy in place compared with 73.5% in the UK, only 59% of them adhered to pre-defined procedures for risk management, compared with the UK’s 73.4%.
According to the company, this reiterates a clear need for improved risk management attitudes in the region.
“Regretfully, in our region, companies are less willing to adopt best practices that enhance their business performance unless they are enforced to do so by their clients,” says Samman. “They tend to assume that many of those best practices represent additional costs to their business. This could be true if they do not take into account the benefits that result from adopting those practices.”
Worse still, according to the experts, is that despite attracting higher risks than other industries, construction tends to be one of the worst industry sectors for investing in risk management policies.
“The construction industry tends to be one of the industries where risk management policies are less formal and complete,” explains Samman.
“And, even though it is no different to anywhere else in the world in terms risks, investment in risk management among GCC contractors tends to be less compared with other regions.”
Agreeing with Samman, Williams points out that the problem in the GCC is not so much about identifying risks as it is about managing them.
“Traditionally, technology, pharmaceutical and aerospace industries have been particularly good at risk management. Construction is generally less sophisticated and has taken a tactical rather than strategic approach. Risks are sometimes identified, but they are not being managed throughout the project,” he says.
Indeed, both companies suggest that one of the reasons the construction industry appears so lax when it comes to risk management is because of companies’ approach to and understanding of risk.
Whilst Bassam argues that companies fail to appreciate the existence of risks beyond contractual dangers, Williams says a focus on commercial risks rather than a holistic view of the project, as well as short term thinking, is what makes contractors vulnerable to future problems.
What’s more, Bassam says that because investment in risk management is generally driven by official government and industry bodies, construction will always fall behind due to a lack of regulation in this area.
And yet, in sharp contrast with these assumptions, a number of contractors in the region claim to make risk management a high priority.
Many, including firms such as Arabtec, Alec and ASCG, say they put risk management before advertising and marketing, project management technology and even sustainability.
“Risk management and health and safety are areas which will always remain a key focus and priority across Alec,” says the company’s financial director Greg Walsh.
“For example, many lessons have and are still being learnt at the Dubai Airport project and these are being utilised and implemented on other projects. There is no compromise at Alec in this regard.”
In truth, it is likely that we are seeing an increase in the number of bigger industry players investing in risk management policies, while the majority of the smaller players are falling behind, as is the case with most best practice principles in the Middle East.
But certainly, there remains a large proportion of contractors yet to invest in or properly manage their risk policy, as revealed in the CMCS survey among other studies.
The problem in the context of an unpredictable economic climate, according to experts, is that a failure to invest in risk management will massively reduce their chances of winning work in an upturn or new market.
“Should we see an upturn, those companies who do not have the proper risk management policies in place may not be able to respond quickly enough to demand, perhaps due to a lack of talent, and will thus be committed to low margin work when the market returns. They will also be more vulnerable to the unwanted side-effects of claims and disputes,” says Williams.
Samman on the other hand, is more concerned with how a lack of risk management policy will impact on contractors’ ability to bid for the work in the first place.
“Contractors will notice an impact as project owners start requiring them to adopt risk management strategies for their developments.
One should not ignore the fact that a failed project does not only negatively affect the contractor but also the owner of the project, and it is for this reason we are finding more project owners adding requirements for contractors to provide a risk management plan as part of the proposal submission process.
Contractors that will not be able to make such submissions and that cannot demonstrate that they employ project risk management practices will find themselves unable to take part.”
So is it all bad news? Is the Middle East headed towards another dip as our international competitors take the lead?
Not necessarily. Though experts remain fairly adamant that more investment in this area is needed, they have, incidentally, noticed an improvement in the latter years.
“We have noticed an increase in the adoption of risk management policies in our region over the past few months, but it’s more driven by project owners,” says Samman, emphasising the need for a change in attitudes in the GCC, and for more contractors themselves to appreciate the benefits of risk management strategies.
Williams agrees. “We are starting to move towards more of a risk-managed culture as we adopt more international best practice and corporate governance principles.
During the boom time, investors were less concerned, but they are beginning to be a bit more cautious. But whilst it is sensible to be careful, it is not sensible to be so careful that you are inflexible and unresponsive,” he says.
No risk of that…
In a recent study of ME companies and mainly construction firms by CMCS, just 59% of survey respondents said they had a risk management policy in place, compared to 73.5% in the UK.
Additionally, only 59% of those respondents adhered to pre-defined procedures for risk management, compared to 73.4% in the UK. According to CMCS, this survey highlights a clear need for improved risk management attitudes and practices in the region.