Allocating Risks Strategically: How to Successfully Execute Energy Projects

Allocating Risks Strategically: How to Successfully Execute Energy Projects
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Energy projects are often complex and full of risks. On some projects, miscalculating schedules and underestimating material expenses can result in hundreds of millions of dollars in unexpected costs. That’s why time spent managing risks before ground is so important to energy projects’ success.

 

Every utility and Engineering, Procurement, and Construction (“EPC”) contractor negotiating an EPC contract aims to maximize its legitimate, competing self-interests. However, most power plant projects that are delivered on-time, within budget, and free of major claims and disputes, have a common trait—the owners and contractors looked not only at their own self-interests, but also carefully developed, at project inception, a comprehensive understanding of the risks inherent in the project and a plan to mitigate those risks

 Successful projects don’t just happen—they require careful planning and sound risk management throughout the job. Gantt charts are commonly used by project managers to update tasks and track progress toward milestones.

Risk is defined as “exposure to the consequences of uncertainty”. Energy projects inherently have numerous unknown consequences and potential outcomes arising from complex systems and equipment, high costs, substantial time for completion, new technologies, and changing regulatory schemes. The success of an energy project depends on the proper management of such risks.

Project Management

Experience has shown that there are six best practices that can help manage and allocate the risks associated with power and energy projects.

Negotiate and Draft Key EPC Contract Provisions Carefully.

The principal mechanism to manage project risk is the EPC contract. An EPC contract is nothing more, and nothing less, than an amalgamation of assumption of risk formulas. It is no coincidence that the EPC contract provisions associated with the allocation of the greatest risks are frequently at issue in major claims and disputes. A successful project requires that these provisions be carefully considered in every contract.

Key provisions include the EPC contractor’s standard of performance; project time and schedule; mechanical, substantial, and final completion; delay and performance liquidated damages; changes; limitation of liability; suspension, termination, and default; as well as disputes. Project participants that strategically analyze the risks associated with these provisions, and negotiate and draft these provisions carefully, increase the likelihood of the project’s success.

Develop a Reasonable Schedule and Budget.

Claims and disputes regularly arise because the project schedule, budget, or both, are unreasonable and fail to properly account for the project’s needs. For an owner, the negative consequence of delays is defined if the owner has a power purchase agreement in place that contractually requires power generation by a certain date. To mitigate against an owner’s risk of delays, the EPC contract should include delay liquidated damages in the event the EPC contractor fails to achieve substantial completion by the required substantial completion deadline.

Additionally, the contract should carefully define excusable delays, which will grant the contractor time but no money; compensable delays, which will grant the contractor both time and money; and concurrent delays, which are overlapping excusable, compensable, and inexcusable delays. Owners should also consider negotiating an early completion bonus to incentivize early completion, and a contractual right to begin generating power prior to substantial completion if one or more generator units can do so safely.

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