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31.1 Introduction Highway design and construction projects can be extremely complex and are often fraught with uncertainty. Engineers and construction managers who lead such projects must co- ordinate a multitude of human, organizational, technical, and natural resources. Quite often however, the engineering and construction complexities of transportation projects are over- shadowed by economic, societal, and political challenges. The impact of not addressing these external challenges has often resulted in significant project cost escalation. If a SHA fails to deliver individual projects and programs within established budgets there is a detrimental effect on later programs and a loss of faith in the agencyâs ability to wisely use the publicâs money. Project cost escalation is therefore a serious problem for SHAs. To aid SHAâs in managing their construction programs the NCHRP conducted Project 8-49 that developed cost esti- mation and management guidance. This guidance can be found in NCHRP Report 574: Guidance for Cost Estimation and Management for Highway Projects During Planning, Program- ming, and Preconstruction. That research presented a strategic approach to cost estimating and cost estimate management. However, the research team and the NCHRP research panel members identified the need for more detailed tools and man- agement practices in the area of risk analysis and risk manage- ment practices, particularly in the long-range transportation planning, priority programming, and preconstruction stages of the project development process. Therefore, NCHRP exe- cuted Project 8-60 to produce a âGuidebook on Risk Analysis Tools and Management Practices to Control Transportation Project Costs.â The research objective of Project 8-60 was to develop tools and management practices to address: â¢ Consistent definitions for âcost escalation,â âuncertainty,â ârisk,â and âcontingencyâ; â¢ Guidance for consistent application of contingency to risk management and cost estimation; â¢ Systematic and uniformed approaches for documenting and tracking risk; â¢ Appropriate timing of risk management procedures given various levels of project complexity during the different project development phases; â¢ Anticipate and manage policy, political, and communica- tions uncertainties; â¢ Appropriate organizational structures and required orga- nizational commitment to achieve a risk management cul- ture; and â¢ Appropriate performance measurements and accountability tools that can exist within transportation agency organiza- tional structures. Rigorous risk analysis and risk management has the poten- tial to minimize the cost escalation problem. This Guidebook presents a systematic process to apply risk analysis tools and management practices to aid SHA management in controlling project cost growth. The Guidebook addresses risk identifica- tion, assessment, analysis, mitigation, allocation, and tracking and control in a manner that is systematically integrated into the organizational structure and culture of U.S. SHAs. 1.1.1 Cost Escalation and Cost Containment The problem of project cost estimates continuing to increase in magnitude as a project moves from the conceptual stage to construction is a major performance issue for many SHAs. The ramifications and effects that result from differences between early project cost estimates and the bid price or the final project cost are significant. This fact is illustrated by the media cover- age and political response to bids significantly above agency es- timates in the case of the Wilson Bridge in Washington, D.C. and the San Francisco-Oakland Bay Bridge East Span, and to the significant cost escalation experience over just the construc- tion phases of the Central Artery/Tunnel project in Boston (National Academy of Engineering 2003). These problems C H A P T E R 1 Introduction
are pervasive in the transportation industry on projects both large and small. A study of 258 infrastructure projects spanning a time period of more than 70 years found that project costs were underestimated for approximately 90 percent of the projects examined, and that their actual costs average 28 per- cent higher than the estimated cost (Flyvbjerg, et. al 2002). Although highway projects fared better than rail and fixed- linked projects, the highway sample still displays an average in- crease in project costs of more than 20 percent. As a result of both higher bids and project cost growth, estimating for proj- ects over $10 million was recently a topic of review by the Fed- eral House Subcommittee on Transportation Appropriations (Federal-Aid 2003). The FHWA provides clear guidance that risks and an associated contingency must be addressed in major project cost estimates (projects above $500 million) (FHWA 2007). This guidance should apply to small projects as well as major projects because even small projects can be extremely complex. Clearly, a majority of SHAs are involved in numerous complex projects and additional guidance in the area of risk management to control transportation project costs will assist in better management of the project develop- ment process. Managing development of major highway projects involves dealing with organizational, technical, and external issues which are oftentimes volatile. Uncertainty and risk play a major role in cost escalation throughout the project devel- opment process. Inadequate estimating invariably leads to misallocation of scarce resources. If estimates are consis- tently high, compared to bid costs and ultimately final costs, fewer projects will be authorized than could have been performed with available resources, resulting in loss of benefits. If estimates are consistently low, more projects will be authorized than can be fully funded, resulting in project slowdowns, scope changes, and performance short- falls, and generally higher costs and lower benefits. If estimates are neither consistently high nor low, but still inaccurate, the estimated benefit/cost ratios will not be correct and the most beneficial projects may not be authorized, while less beneficial projects are constructed. All of these conditions result in misallocation of resources and a loss in benefits to the public. The use of risk assessment, cost estimating, cost manage- ment, and cost containment techniques at the earliest stages in the project development process will yield substantial value to a SHA. Cost engineering research has repeatedly demonstrated that the ability to influence and manage cost is greatest at the earliest stages in a project development (âPre-Project Planning: Beginning a Project the Right Wayâ 1994). A project management oversight function definitely has the ability to help manage the process â especially in the area of cost containment â but it is imperative to examine the problems and solutions for cost-risk analysis and manage- ment practices at the earliest stages of the project. To neglect using risk analysis and management tools at the earliest stages of the project development process will diminish the practi- cal application of this research. Risk assessment, cost esti- mating, cost management, and cost containment techniques must be implemented at the earliest stages of the project de- velopment process â even if the transparency of uncertainty in the engineering and political process is difficult to define and manage. 1.1.2 Guidebook Concepts This Guidebook presents a systematic approach for the ap- plication of risk analysis and management practices that are linked to the planning and the project development process and project complexity. This Guidebook defines risk in the project development process as: Risk â An uncertain event or condition that, if it occurs, has a negative or positive effect on a projectâs objectives. The fundamental steps in the risk process remain consis- tent, but the application is affected by both a) when the analy- sis is being applied in the project development process and b) the level of project complexity. Risk analysis tools and management practices should align with the project devel- opment process and project complexity. The output of the process is a risk-based contingency for controlling project cost and a risk register for tracking, managing risks, and re- solving contingency throughout the project development process. The overall framework of the Guidebook includes three main elements. The interaction of these steps in the risk man- agement process with the project development process and project complexity is shown schematically in Figure 1.1. 4 Figure 1.1. Risk management process framework (varies by project development phase and complexity). Risk Management ProcessAllocate Monitor and Control Identify Assess/ Analyze Mitigate and Plan
1. Risk Management Process â¢ Risk identification; assessment; analysis; planning and mitigation; allocation; and monitoring and control. 2. Project Development Phases â¢ Planning, programming, and design. 3. Project Complexity â¢ Project type, technical complexity, and management complexity. Of particular note in Figure 1.1 is the fact that the overall risk management process is cyclical. As the project evolves, some risks will be resolved or diminished, while others may surface and thus be added into the process. The five funda- mental risk management steps can be applied throughout the project life cycle. The extent of application of each step varies as the methods and tools used to support these steps are influenced by the project development phase and project complexity. The process is scalable from small and non- complex projects to large and complex projects. The Guide- book directly addresses the interaction of these important elements. 1.2 Guidebook Development This Guidebook was developed under NCHRP Project 8-60, âGuidebook on Risk Analysis Tools and Management Prac- tices to Control Transportation Project Costs.â The research was conducted in two phases. The first phase focused on a state-of-practice review of cost risk analysis and management. The current state of practice was characterized by an extensive review of the literature supported by an industry survey repre- senting responses from 48 SHAs and the FHWA. The survey found that very few SHAs were actively practicing risk analy- sis. The state of practice was further characterized through in- depth case studies into the practices of four SHAs identified by the survey as leaders in the use of risk management prac- tices. Additionally, leading public agencies from outside the highway sector were studied including the FTA, the New York Metropolitan Transit Authority, and the Department of Energy. The literature, survey, and case studies were used to identify tools and management practices for inclusion in the Guidebook. The second research phase research synthesized the tools and practices into a framework for application in this Guide- book. The Guidebook framework addresses 1) risk identifica- tion; 2) assessment; 3) analysis; 4) mitigation; 5) allocation; and 6) tracking and control in the planning, programming, and de- sign phases of project development. This framework was tested and validated with three SHAs. These SHAs provided a critique of the Guidebookâs content, structure, layout, and user friend- liness. The NCHRP 8-60 panel reviewed and commented on this final version of the Guidebook. 1.3 Guidebook Organization The Guidebook has eight chapters, including the introduc- tion. The background information and fundamental concepts concerning the content of the Guidebook are developed in Chapters 2, 3, and 4. Chapter 2, âProject Cost Estimation and Management,â demonstrates how cost estimation practice and cost estimation management are linked to planning and the project development process. Chapter 2 also summarizes the key strategies, methods, and steps for estimating that were developed in NCHRP Report 574: Guidance for Cost Estimation and Management during Planning, Programming, and Precon- struction (Anderson et al., 2007). Chapter 3, âRisk Manage- ment Overviewâ provides a detailed description of the risk analysis process. Chapter 3 opens with a discussion of how to use contingency as a means of controlling costs throughout the project development process. It presents the risk manage- ment definitions and steps used throughout this Guidebook. It closes with a discussion of how to form policies and per- formance measures for integrating risk management into the operation and culture of a SHA. Chapter 4, âGuidebook Framework,â presents a consistent approach to describe the risk analysis tools and management practices found in the re- mainder of the Guidebook. Chapter 4 presents the framework that will be applied in the subsequent chapters. Chapters 5, 6, and 7ââGuide to the Planning Phase,â âGuide to the Programming Phase,â and âGuide to the Design Phase,â respectively, focus on the application of the fundamen- tal concepts presented in Chapters 2, 3, and 4. These chapters provide guidance to risk analysis and management implemen- tation during each phase of project development. Guidance is provided with a specific focus on the most appropriate tools for a specific project phase and project complexity. The risk analy- sis and contingency estimation framework is used to guide readers to the appropriate tools for application. The tools are presented in an extensive Appendix A, which provides support for implementation of the methods described in Chapters 5, 6, and 7. Appendix A provides information concerning tools, in- cluding examples and illustrations of the tools. This appendix is meant to be used in conjunction with the chapters of the Guidebook and not in Ã¡ la carte fashion. A strategic approach will be required to facilitate imple- mentation of new risk analysis and management practices. Chapter 8, âImplementation,â covers key implementation thrust areas and steps in the implementation process that must be considered when introducing changes to current cost estimation practice and cost estimation management within a transportation agency. Finally, Chapter 9 summarizes the main features of the Guidebook and challenges users may en- counter when striving to improve agency risk analysis and management that can ultimately lead to more accurate and consistent cost estimating and cost management. 5
1.4 Guidebook Use The Guidebook is designed to provide information to all levels of SHA personnel and their partners in a variety of ways. Therefore, some portions of the Guidebook are written at a strategic level and others contain more advice on âhow toâ im- plement risk analysis tools and management practices. The approach to implementing the Guidebook can be explained in the follow three levels of implementation. 1.4.1 Organizational Implementation Implementing risk analysis and management practices across an organization will require a change in estimating pro- cedures, but perhaps more importantly, it will require a cul- tural change. The use of risk-based cost estimates will require a communication of cost estimates in ranges and a transparent conveyance of uncertainties within agencies and external to the agency. Executive management will need to promote this change. Chapters 2, 3, and 4 of the Guidebook are written with executive managers in mind. These chapters provide a basic structure and approach for developing agencywide policies and procedures for implementing risk analysis and management practices. Additionally, Chapter 8 will provide assistance in implementing changes and management performance from an agency-wide perspective. 1.4.2 Programmatic Implementation Program-level managers often lead and implement policy changes. If policy changes in risk analysis and management practices are necessary, then these managers should read Chap- ters 2, 3, 4, and the relevant Chapter 5, 6, and/or 7, depending on implementation issues. For example, planning directors can focus on Chapter 5, âGuide to the Planning Phase,â while man- agers of engineering and environmental programs should focus on Chapter 7, âGuide to the Design Phase.â 1.4.3 Project Implementation Project-level managers, engineers, and discipline leaders (e.g., the chiefs of sections such as design, right-of-way, and/or estimating) who are directly responsible for cost esti- mation, risk analysis and risk management processes should read Chapter 3 and 4 and the relevant Chapters 5, 6, and/or 7, and Appendix A according to their area of expertise. Those leaders directly involved in estimating or cost-risk analysis should read the same chapters and Appendix A. If the estima- tor or manager has a specific area of expertiseâsuch as the preparation of scoping estimatesâthen Chapter 7, âGuide to the Design Phase,â should be studied in detail, including the relevant tools in Appendix A. 1.5 Limitations of the Guidebook The Guidebook is not a procedures manual. In order to apply to multiple agencies across the country, the information is provided as guidance rather than procedures. The subtle dif- ferences relating to estimating and project development from agency to agency make it impossible to create a comprehensive âhow toâ procedures manual. The Guidebook does however, provide the necessary framework and information for an agency to create its own procedures manuals to meet its unique needs and culture. The second limitation relates to the amount of statistical information and guidance that the Guidebook provides. Sophisticated risk analysis techniques (e.g., Monte Carlo analyses, influence diagrams, decision trees, etc.) require a more in-depth knowledge of statistics than this Guidebook can provide. The Guidebook, therefore, focuses on the appli- cation of these techniques rather than on their development. 1.6 Summary Highway design and construction projects can be extremely complex. If uncertainty in project estimates and management is not properly analyzed and managed, costs will escalate. This Guidebook was developed under NCHRP Project 8-60 âGuide- book on Risk Analysis Tools and Management Practices to Control Transportation Project Costs.â It contains tools and management practices in the area of risk analysis and manage- ment practices, particularly for the long-range transportation planning, priority programming, and preconstruction stages of the project development process. The Guidebook struc- ture provides guidance for executive, program, project, and discipline-level managers to implement risk analysis and man- agement practices in a strategic manner to create change in SHA management procedures and cultures. 6