Of the MacLeamy Curve, Efficient Design, and Expensive Money--Or Why Developers are a Breed Apart!

Last week I attended the annual ASHRAE conference in Denver.  There I had the pleasure to meet Bob Springer.  Bob is a Senior Principal at Concurrent Technologies Corporation.  His experience is leading technical and project development teams, financial underwriting, and feasibility analysis of projects.  He holds a B.S. in Civil Engineering from the University of Iowa, is a Registered Professional Engineer (inactive) in Colorado, and holds an MBA in Finance, with Honors, from Vanderbilt University.  He currently works with the Army helping them to deploy their renewable energy programs for army bases around the country.  

Bob Springer has a fresh perspective on the MacLeamy curve.  It's called the "MacLearny curve" in the presentation below, but don't try searching for it under that name:  its MacLeamy.  The MacLeamy curve was introduced in the Construction Users Roundtable in 2004 [“Collaboration, Integrated Information, and the Project Lifecycle in Building Design and Construction and Operation” (WP-1202, August, 2004)]   It seems like it's become a bit of a cliche for illustrating the advantages of Integrated Project Delivery.

Here it is:  

Look familiar?  Well, here is Bob Springer's take on the MacLeamy curve.  Take a look ... but before you do, a quick primer.

The black curve,above, represents the traditional design effort from conceptual stage through construction.  The heavy work effort (and costs) comes at the construction documents (CD) stage.  In IPD the bigger effort (and cost) is moved to earlier in the project (think SD/DD).  The blue descending curve (1) represents the declining ability to impact cost and functional capabilities of a design--i.e. early changes can be implemented cheaply, reduce costs efficiently, and this declines as the design is developed into construction drawings.  The red ascending line illustrates that, as the project proceeds, the cost of making changes goes up and up.

The MacLeamy curve suggests that if we move the design effort to earlier in the project (to the left), this should be more efficient than the traditional design process.  So far this is slides 1- 5 of the presentation below.  Take a brief moment to look through slides 1-5.

Slide 6 gets interesting.  Are you there?  From a developer's standpoint, as a project proceeds from site control, to entitlements, to financial close, to construction and substantial completion, the level of uncertainty goes steadily down.  That's good.  On the other hand, from the gleam-in-the-eye stage to financial close the developer experiences increasing risk because she has more and more funds at risk with no guarantee, yet, that she will get the project financed and actually off the ground.  That's scary.   Lots of design effort and pretty models are nice for the design team working for a fee, but for the developer not so much unless there is financial close.  At financial close the risk profile is reduced to the construction risk and market risk, and by substantial completion the project is left just with the market risk.  It's not for the feint of heart.

Slide 8.  This adds the consideration of the cost of capital.  One way to think of this is "Project Development Risk Capital" (i.e. pre-financial close) is EXPENSIVE CAPITAL.  Construction loan funding is cheaper money from a developer's standpoint, and the take out loan is the cheapest money of all.  These considerations all work in the opposite direction from the IPD benefits illustrated by the MacLeamy curve.

Slide 10.  Graphic illustration of these competing considerations:  efficiency of design dollars spent early in project vs. high cost of capital earlier in project.

From here, it's just Bob Springer and you.  Enjoy!

Ashrae denver business project development and ipd_ springer from Roland_Nikles

World Cup Stadium Construction: "Today, contracts between national companies and a foreigner seem like war treaties"

In Brazil they are protesting over soccer stadiums being built for the 2014 World Cup.

One issue surging to the fore involves anger over stadium projects in various cities ahead of the 2014 World Cup ...Some projects have been hindered by cost overruns and delays, the unfinished structures standing as testament to an injection of resources into sports arenas at a time when schools and public transit systems need upgrades.

Protesters want trains and subsidized buses over the high cost of the World Cup. Here is the BBC :

"Police fired tear gas minutes before the kick-off of a Confederations Cup tie between Italy and Mexico. Protesters were complaining about the high cost of the tournament and the 2014 World Cup, in a country still lacking in public services. A similar protest took place before the opening match on Saturday. Further protests are planned across Brazil."

The Wall Street Journal notes that the cost of refurbishing the flagship Maracana stadium in Rio De Jeneiro has nearly doubled:

The cost of renovating Maracanã, which can seat up to 78,838 spectators, nearly doubled from original estimates of 600 million reais after more workers were hired to complete construction. Despite the additional labor, the stadium still missed the December 2012 deadline set by FIFA, soccer's governing body. Swiss investment bank Credit Suisse estimates that stadium work across Brazil is costing about 30% more than originally forecast. 

... and there are safety concerns:

The inevitable rush to complete construction has raised concerns that quality could be compromised. In April, the Engenhão stadium in Rio de Janeiro, which was hurriedly built for the 2007 Pan American Games, was shut after engineers discovered structural problems with the roof. ... Experts said there may not be time to carry out the multiple independent audits that large-scale construction projects like stadiums typically require to ensure safety. 

"The stadiums will be done right on time, but without doing a serious technical audit," said Anand Hemnani, chief investment officer at consulting firm CG/LA Infrastructure. "If an audit uncovers any faults, they won't have any time to do anything about it before the Confederations Cup." A Brazilian and an avid soccer fan, Hemnani said that the prospect of sitting in a stadium that hadn't been properly tested before being opened to the public caused him to give up his Confederations Cup tickets. "I don't feel comfortable being a guinea pig," Hemnani said.

In the meantime, construction of hoped for new infrastructure is not forthcoming:

A plethora of infrastructure projects were planned to help speed visiting soccer fans—and Brazilians after the event—around cities and across a country that lacks basic transportation. Little of that is now expected to leave the drawing board. 

"The government will deliver all the stadiums," said Paulo Resende, a professor and specialist in infrastructure at Fundação Dom Cabral, a business school in Rio de Janeiro. "The problem is that all the legacy projects promised by the government, such as those in transportation, won't be delivered." 

War treaties?

"The government has replaced ambitious subway and light-rail projects with bus corridors that amount to little more than rearranging traffic flows, Resende said. Part of the problem, he said, is the lack of foreign input into the planning and production of the events. Brazilian businesses are wary of foreign competition and seek out the government for protection, he said. 

"Today, contracts between national companies and a foreigner seem like war treaties," Resende said. Brazilian firms need to realize that international partnerships are beneficial and help mitigate risks, he added."

Update your passports, grab your cow bells, and vuvuzelas .... World Cup 2014 is just around the corner.  In the meantime, here's hoping you, too, get to negotiate some war treaties.

Arlan Lewis is Off to the FORUM Planning Retreat, and He's Armed with an Action Plan

Our incoming Division 4 Chair is off to the FORUM planning retreat, which is being held in Santa Fe, New Mexico, next week.  He's armed and dangerous with a Division 4 Action Plan.  

Arlan will report back to us on the retreat during our June, 25 call.   All Steering and Working Committee Members, please be sure to make the June 25 call if possible.  Arlan will come back with enthusiasm and we'll discuss the direction of Division 4 under Arlan's tenure.  

Goal: Membership

Objective: Increase Division Enrollment

Strategy: Encourage Division and Committee chairs to seek out participation opportunities for newer Forum members, including law students.

Title: You be you!

Action proposed: We propose to increase division membership and participation by instituting a system by which existing, and new division members, are assigned to a steering committee member.  The steering committee member will be responsible for contacting the member initially to find out why they are a member and what their interests are (writing, blogging, speaking, etc.).  People are more likely to stay actively involved if they are allowed to contribute to the division in a manner consistent with their talents and interests. We believe this alignment will engender enthusiasm for assigned  tasks and will result in a higher quality product. After the initial contact, the steering committee members will periodically contact their assigned members to keep in touch, inform of participation opportunities, and to develop a relationship.  We that this relationship-driven approach will encourage more robust participation in division activities, and ultimately overall Forum participation.

Deliverables and deadlines:    By Fall meeting 2013, assign general member groups to steering committee members and develop parameters of initial contact.

●       By Mid Winter meeting (Jan. 2014), complete initial contact of all current Division 4 members.  Discuss findings and consider recommendations for action/changes.

●       During 2014, monitor the level of participation by Division 4 members in division/forum activities.

●       By Mid Winter 2014, review results of 1 year implementation and make recommendations for suggested actions.  Seek GC approval as necessary.

Metrics: The number of division members participating in, and contributing to, division/forum activities.  The primary focus will be on participation by new division members and new participation by current division members.

Resources Needed: Need current, accurate roster of Division 4 membership with available contact information.

An ARRA Design-Build Success!

How to build an 8.4-mile-long route of freeway through an urban area?  

The Texas Dept. of Transportation seems to have found success by awarding a $1 billion design-build contract to NorthGate Constructors LLC for its State Highway 114/121 corridor, also known as the Dallas-Fort Worth Connector.  North Gate is a joint venture of Kiewit Texas Construction LP and Zachry Construction Corp.  The lead design engineer is PB Americas, a unit of Parsons Brinckerhoff.  The project, which expands and redesigns two interchanges and portions of four highways and includes 39 bridges and more than 100 retaining walls, is on track to finish one year ahead of schedule this September.

Tony Illia in ENR, 6/17/13:

 "If this had been built under the old system of building roads in Texas, and built in sections, it would have been 12 to 15 years before they were done," says Gary Fickes, Tarrant County commissioner, whose precinct includes Grapevine and Southlake. "If you're a contractor on a four-and-a-half year project, and you're building it in three-and-a-half years, you're saving a lot of money."
…
“The project pieces together funds from a combination of sources, including $667 million in state gas tax revenue, $260 million in federal stimulus money and $139 million in voter-approved state revenue bonds. The DFW Connector is receiving the most American Recovery and Reinvestment Act funding of any transportation project nationwide. Remaining portions of the total 14.4-mile project are still unfunded.”

GAO to VA: "Process Change Orders Timely!"

No shit Sherlock.

The Veterans Health Administration's (VHA) has 50 major medical-facility projects under way, including new construction and the renovation of existing medical facilities, at a cost of more than $12 billion.

Earlier this month, in testimony before the Subcommittee on Oversight and Investigations, Committee on Veterans Affairs, House of Representatives,  Lorelei St. James, Director of Physical Infrastructure for the GAO made note of significant scheduling and cost overruns.  She had a suggestion ....

Ms. St. James: 

Federal regulations12 and agency guidance13 state that change orders must be made promptly, and that there be sufficient time allotted for the government and contractor to agree on an equitable contract adjustment. VA officials at the sites we visited stated that change orders that take more than a month from when they are initiated to when they are approved can result in schedule delays, and officials at two federal agencies that also construct large medical projects told us that it should not take more than a few weeks to a month to issue most change orders.14 However, officials at two sites, New Orleans and Orlando, said that it was common for VA to take 6 months to process a change order, even though VA has directed its staff to eliminate or minimize delays.15 Processing delays may be caused by the difficulty involved in VA’s and contractors’ coming to agreement on the costs of changes and the multiple levels of review required for many of VA’s change orders.In April 2013, we recommended that the Secretary of VA issue and take steps to implement guidance on streamlining the change-order process based on the findings and recommendations of the Construction Review Council.16 VA concurred with our recommendation and was reviewing the options proposed by the Construction Review Council to streamline the change- order process.

 

Construction and Economy are Slow to Recover: Some Reasons Why ....

Our economy has moved from a 60% manufacturing base to a 65% services base.  Looking at the number of jobs (as opposed to output) 70% of jobs are service based.  Martha Olney, adjunct professor of economics at UC Berkeley, argues this translates to slower economic recovery after a deep recession:

We can think of two complementary reasons why a service-dependent economy might experience slower recoveries: goods can be produced in anticipation of demand, and goods can be exported. ... [But] services can’t be inventoried nor, for the most part, exported, services are only produced when domestic demand exists.

Goods-producing businesses are not dependent on domestic demand to increase production as the economy comes out of a recession. They can produce in anticipation of increasing demand or in response to increased external demand. Either way, domestic demand need not increase before goods production increases. Service producers are not so lucky. ....

But we need not simply tolerate longer recoveries as a consequence of the rise of the service sector. We could look to public policy to step in and counterbalance the negative aspects of our current economic climate, as we have in the past. 

Increases public infrastructure spending could play a role here.  But with ARRA expiring and the sequester engineered by Congress just underway, public policy is heading in the opposite direction: 

Federal construction spending is down 28% since peaking in August 2011, when stimulus spending was still going strong, according the Ken Simonson, chief economist o the Associated Genera Contrators of America, an industry trade group. Local governments, particularly school districts, have also been pulling back on construction spending after building a rush of new ones during the housing boom. 

Others worry, that even as the economy picks up, fewer jobs will be created than would have been the case in the past due to increased automation and in efficiency of workers.  I-Pads anyone?

Mirror, Mirror on the Wall: Washington State DOT I-5 Skagit River Collapse vs. CALTRANS McArthur Maze Collapse

Over at the Ahlers & Cressman blog (Seattle law firm) they provide an update on the emergency award for getting the collapsed I-5 bridge across the Skagit River back up and running:

Daniel A. Berner:

In emergencies such as this bridge collapse, RCW 47.28.170 allows WSDOT to obtain bids for the work without publishing a call for bids, and the secretary of transportation then awards the contract to the lowest responsible bidder.  In this case, WSDOT awarded the emergency contract to repair the bridge to Atkinson Construction Company ("Atkinson"), which is one of three WSDOT pre-approved emergency contractors.  Atkinson started work on the project by removing the vehicles and debris from the river.

On May 26, 2013, the Governor announced a plan to install a temporary bridge by mid-June 2013, and a permanent bridge by mid-September 2013.  ....

[I]t is ...unclear whether the contract for the new bridge will be issued under the emergency procurement methods or under standard procurement methods. 

 Here is the Washington State DOT:

WSDOT submits the scope of work and cost estimate to FHWA in a Detailed Damage Inspection Report (DDIR) for an initial determination that the scope and estimated costs are eligible for federal reimbursement. Once the DDIR is signed by FHWA, WSDOT is able to move forward to secure and access federal funding for the temporary and permanent repairs. To assist WSDOT in quickly replacing the collapsed bridge and restoring normal traffic operations, FHWA authorized the quick release of $1,000,000 of federal emergency relief funding on May 24, 2013.

So, it looks like Washington state has awarded the clean-up and temporary bridge job to Atkinson, one of three pre-approved emergency contractors, on a T&M basis (?), ... hoping the feds will eventually fund this. Expected cost for this temporary span is $5 million.

The State's May 29, 2013 letter to the Federal Highway Administration indicates that HQ Bridge and Structures (part of of WDOT) is working on the design of a replacement span, and is expected to be advertised by late June, 2013.  The expected cost for the permanent structure is $11 million.  It does not appear that they are planning to replace the entire bridge.  As Brad DeLong would say, Whiskey-Tango-Foxtrot.

Compare  ....

By contrast, the State of California used a competitively bid fixed price contract with a very strong incentive provision to encourage speed of construction after a gasoline tanker truck exploded, collapsing a span in the MacArthur Maze just east of the San Francisco Bay Bridge in April, 2007.  Clean up work started immediately on an emergency basis, but the state then managed to greatly streamline its competitive bid procedures for awarding the replacement work.  C. C. Myers, Inc., submitted a winning bid of $876,075 to repair the damage to the I-580 connector, but this bid was estimated to cover only one-third of the cost of the work.  CC Meyers counted on making up the shortfall with the offered incentive of $200,000 per day if the work was completed before June 27, 2007.   Their gamble paid off.  The permanent replacement for the span was completed within 26 days, 33 days ahead of the deadline, and the contractor earned a $5 million bonus more than offsetting its $1.8 million underbid to buy the job.

ENR, May 25, 2007: 

CC Myers had a $867,075 contract to repair burned concrete columns supporting I-580, which flies over I-880 in an Emeryville interchange called "MacArthur Maze," about a mile east of the Oakland-San Francisco Bay Bridge, Caltrans spokesman Bob Haus says. On April 29, a gasoline tanker traveling on westbound I-80 to southbound I-880 toward San Jose overturned and caught fire. The intense heat caused the steel frame of the freeway to soften, and the eastbound Interstate 580 connector above collapsed onto the I-880 connector, closing two major arterials.

"Thanks to hard, around-the-clock work of Caltrans and CC Myers, our local partners and businesses, Bay Area motorists can once again travel through this busy interchange," stated Gov. Arnold Schwarzenegger(R) at a press conference. "Just in time for the holiday weekend, this roadway will be open in 26 days from when the accident occurred.

Performance Security for Integrated Project Delivery

Jonathan Dunn and John J. Petro have an interesting article in the Fall 2012 edition of the Construction Lawyer.  In case you don't have a photographic memory, or if you never got around to reading this,  it's well worth reading (again).  

We reproduce an excerpt here, discussing letters of credit, bonding, and default insurance in the context of integrated project delivery (IPD).  

A.  Integrated Project Delivery 

In response to perceived “fragmentation” and poor productivity in the construction industry, a few owners have embraced “lean” concepts and collaborative agreements for construction known as “integrated project delivery,” or “IPD.”  The main concept behind IPD is “to align the commercial interests of the major project participants and govern the delivery process as a collective enterprise.”  The goal of the IPD agreement is to eliminate traditional focus on risk transfer, and instead emphasize the relational aspects of the team charged with delivering the project.   

The IPD agreement is a relational contract … [that is] signed by the architect, the construction manager/general contractor (CM/GC) and owner … describ[ing] how they [are] to relate throughout the life of the project. … The [IPD agreement] seeks to create a system of shared risk, with the goal of reducing overall project risk, rather than just shifting it.  In part, this goal is supported by investing significant efforts in up-front collaboration, with the owner funding early involvement of the project team … The CM/GC is compensated on a cost-plus fee basis with either a guaranteed maximum price (GMP) or an estimated maximum price (EMP).  An EMP operates as a pain and gain sharing threshold, but limits the potential losses to the IPD team at their collective profit, keeping with the owner the risk of more significant cost overruns.   [Instead of] separate contingency amounts for design issues and construction issues[, t]he [IPD agreement] combines these contingencies into one IPD team contingency.  The core group of team members sets criteria and decides how the project contingency will be shared, which IPD advocates contend enhances productivity, and reduces project duration, cost and injuries.  IPD can be pursued through collaborative agreements, design assist agreements, or single purpose entities.    

Beyond the core group and signatories to the IPD agreement, risks for certain procurements in delivery of construction services, materials and equipment may be contracted out on a full risk basis. ....  In practice, it appears many projects attempting to use IPD theories are applying collaboration and shared risk and reward agreements only to some teams (e.g., the constructor/designer in design-build), but not the entire core construction team.  Additionally, insuring the IPD project may be a challenge that requires modifications to some endorsements or manuscript policies.   

B.             Surety Bonds & IPD 

At its core, the concept of surety bonds to secure the risk of non-performance seems in contradiction to IPD theory, which jointly obligates the IPD contracting parties to collaborate and share risk and reward toward a common performance criteria.  Indeed, a common condition of a surety’s obligation is the obligee’s performance.  How can the obligee’s performance be measured and determined if the principal and obligee are jointly charged with the obligation to collaborate together to jointly achieve the performance?
For these reasons, sureties have struggled with questions about underwriting bonds for contractors in IPD projects.  Common questions and concerns include:

• Who covers the design risks?

• Given these untraditional roles and relationships, does the principal have sufficient experience to justify surety credit (i.e., capability)?

•  
The scope of the obligation seems fuzzy, or not clearly defined.  Is the surety expected to cover the ambiguities or vagueness?

• What warranties is the surety expected to guarantee, especially where design and construction obligations are shared?

Thus, core group contractors may have difficulty obtaining surety bonds for an IPD project where it is their first endeavor unless they can show experience with the owner and designer, plus the surety is likely to limit its exposure, exclude design and warranty responsibility, and manuscript the bond language to add conditions on its obligation.  For non-core group participants with defined scopes and risk, obtaining surety bonds would seem quite routine and appropriate.  

C.              Letters of Credit & IPD 

Like surety bonds, the concept of hedging against contractual non-performance with a letter of credit for an IPD core contracting party seems like a contradiction in theory.  However, to the extent a surety bond or letter of credit can be prepared to cover the primary risk of insolvency protection, either would seem appropriate and reasonable given the likely damages to the other project participants if one of the core contractees had to abandon an IPD agreement due to its financial woes.  Generally, neither letters of credit nor bonds, as explained above, are considered part of the bankruptcy estate.
Between the two, standby letters of credit are likely to result in faster cash relief given the principle of independence, which would assist the core group as it searches for a replacement of its defaulted member, but surety bonds might afford greater eventual relief if insolvency were truly principal’s basis for default because letters of credit are typically for amounts equal to a small percentage of the contract price estimate, while surety bond amounts are typically 100% of the contract price.  With respect to non-core group IPD contractors and suppliers, traditional approaches to surety bonds and letters of credit are appropriate.   

D.             Subcontractor Default Insurance 

With respect to the construction aspects of IPD projects, default insurance in conjunction with other policies, may be a viable option.  Some considerations for default insurance in IPD projects include: 

Larger projects may justify large deductibles and co-pays;

• Endorsements may allow coverage for CM/GC, owner and designer;

• May cover design/build subcontractors so long as design obligations are “incidental;”

• Insurers may be able to accommodate risk/reward sharing of IPD agreement; and

• Damages (after deductible and co-pay) are not limited to the amount of the subcontractor’s agreement if larger limits are provided.

In short, there may be some advantages to default insurance on very large projects where time is critical to the overall delivery goals. 

Observations:

To me, performance guarantees for a contractor and architect in IPD does not seem that novel or unusual.

1.  The Contractor:  The contractor's bonding company simply guarantees that the contractor will do what it is supposed to do in accordance with the three party agreement, i.e. BUILD THE BUILDING.  The obligation is limited by the penal amount of the bond, so the fact that there may not be definitive price should not be a problem.   Similarly, the fact that IPD is a relational agreement that employs Lean principles, and more collaboration than usual would not seem to present a problem for the surety.   As professor Carl J. Circo's article in that same issue makes clear:  all construction contracts are relational in nature.  The collaborative model of IPD is geared to reduce risk, including the risk of the surety.  So I don't see why sureties would shy away from this once they get used to what it is.

In a traditional design-bid-build delivery model, the contractor--and hence the surety--has unlimited risk on the cost side to finish the project when things go wrong.  If there are cost overruns, the contractor or its surety must complete the project without payment, and they can then litigate with the owner later over responsibility when the project is finished.  If I'm a surety, that makes me nervous.  In an IPD model, the owner bears the risk of cost overruns once the contingency pool, including some or all contractor profit, is used up.  In other words, if I'm the surety, I like that.  I have less risk.

I don't see how the contractor's surety is more nervous about "who has the design risk."  The architect of record has the design risk, just as always.  On a traditional design-bid-build project, the plans can be "for shit" too.  The IPD model makes it less likely that this will be the case.  If I'm a surety I don't think this presents more risk;  I think it presents less risk.

2.  The Architect:  Architect's typically are not required to post performance bonds.  I think that's a non-issue.

3.  Insurance:  There is a real problem with traditional insurance products and IPD.  The industry must move away from liability based coverage and learn to price the risk of projects not hitting their estimated targets, not completing on time, or manifesting latent defects over a suitable tail period WITHOUT FAULT.   Until such insurance products become available, IPD will struggle.