March 1, 2012 by Jim Barnes
A new era is dawning in construction, says David Bowcott. While it is hard for some to believe, first cost is no longer king and the emphasis is gradually shifting to infrastructure life-cycle costs.
That trend is being driven by public-private partnerships (P3s), but it goes beyond that. “We are not just talking about P3s, but asset management,” explains Bowcott, senior vice president, Aon Reed Stenhouse Inc., Toronto.
The model has various names and definitions: Enterprise Asset Management, Asset Performance Certainty and Integrated Project Delivery, among others. The common thread is that owners increasingly are looking at life-cycle costs for their infrastructure assets instead of price, and allocating risks to the organizations best capable of managing them: construction contractors. Contractors are now the “fulcrum” for risk in infrastructure projects, says Bowcott, not just in construction but also in design, financing, operations and maintenance. “The contractor has become a risk manager,” he explains.
The old system—low-bid, limited-liability projects—incurred a lot of waste: change orders, legal expenses, high loss ratios in surety, inefficiency, penalties, low quality and low residual value of assets. The level of cooperation and communication required for a profitable P3 make that approach to infrastructure largely obsolete.
Some people mistakenly focus on financing as the crux of the P3 phenomenon. “Finance is an important piece, but if you look at the net present value (NPV), it is not the most important thing. You have to take everything into consideration, including the operations. Thirty years of operations has a big impact on the budget for the people in those buildings,” says John Fleming, vice-president and general manager, Johnson Controls Inc., with corporate headquarters in Glendale, Wisc.
Most contractors understand the design, build and finance pieces of the puzzle. Operations and facilities management (FM), though, may be less familiar.
The services included with the FM package tend to vary considerably from one project to the next, depending on unique project requirements, according to information provided by Katie White, director, Communications, Partnerships British Columbia in Vancouver. “Our main goal is to ensure that the ‘hard FM’ is always part of the contract. Hard FM refers to maintenance of the building structure, including walls, roof, mechanical and electrical systems, finishes and so on. Inclusion of hard FM ensures that the builder must consider durability and quality in their design,” notes White.
There is a similar approach at Infrastructure Ontario. “We are passing on the maintenance, operating and life-cycle risk of large components like the HVAC systems. We are not passing on the soft services,” says Jim Cahill, senior vice-president, Project Finance, Infrastructure Ontario in Toronto.
An asset’s residual value at hand-back is a key consideration in most FM contracts.
“We expect FM contractors, as part of the private partnership, to maintain buildings in a good condition throughout the life of the contract (typically 30 years). Then at the end of their contract, we expect them to leave the building in a well-maintained condition,” says White.
The government mandates the quality of the building at hand-back. “At the end of 30 years, they have a building that still has a warranty on it,” explains Fleming. They will send a building inspector in to make sure that the asset meets the stipulations of the contract, and any deficiencies will be noted and must be remedied.
It’s a strong boost to maintenance activities. “You look at conventional procurement of new office buildings for government use, and quite often those buildings look kind of dated after 20 or 30 years. There wasn’t a well adhered-to maintenance plan, and there weren’t sufficient maintenance dollars going to maintain those buildings,” explains Cahill.
“Delayed maintenance and rehabilitation have affected many types of infrastructure, including health facilities, transportation infrastructure and social infrastructure,” says Mario Iacobacci of the Conference Board of Canada, in a report entitled Dispelling the Myths, A Pan-Canadian Assessment of Public-Private Partnerships for Infrastructure Investments.
“By incorporating the maintenance and rehabilitation work within the P3 agreement, the public sector owner is essentially pre-committing future governments to providing the resources (through service payments to the P3 partner) for a specified level of maintenance and rehabilitation work on the facility over the term of the contract,” says Iacobacci.
In the low-bid world, people usually worked in silos to a certain extent, even when they were partners. The designer created what he thought would impress the owner and tossed it over the wall to the contractor, who either tossed it back or figured out how to make it work… often with a series of change orders. The process was fairly opaque to the owner and the financing stakeholders.
Now, with investors scrutinizing P3 consortia members, their capabilities and plans; with governments taking a longer-term, asset-management view of construction; and with consortia partners facing 30-year terms for their risk in a project, transparency has become vital.
Contractors are evolving in response. “The contractor has to deal with all the issues related to construction and also to long-term operations,” notes Steve Nackan, president, AECON Concessions, Toronto. “There is a skill set that has evolved within the construction companies that are participating in the P3 market that they did not need before.”
Even when you are not providing that service directly, you have to understand what you are getting into, says Jim Dougan, president, Central and Eastern Canada, PCL Constructors Canada. “We have expert facilities management people on staff so that we fully understand what that business is about and what the life-cycle issues that we need to manage are… It’s the whole-life nature of the project. The financing is one component. The life-cycle applications are critical too, in that 30-year timeline. “
“The greater use of the P3 and the AFP delivery models has really made contractors better builders,” he adds.
“You think a lot differently when you have the asset for 30 years. You are going to design it differently; you are going to build it differently; you are going to make sure that the quality is there,” notes Bowcott. “The subtrades are trying to differentiate themselves, too, getting a bit more sophisticated about their products.”
Bowcott suggests that as contractors attempt to get more involved in FM and as offshore contractors enter the Canadian market looking for design/build partners, “You are going to see consolidation—more mergers and acquisitions, just like you saw in the auto and IT sectors.”
One of the constraints to faster development of the P3 model has been a lack of facilities managers/asset managers, says Nicholas Hann, a board member of the Canadian Council for Public Private Partnerships. The majority of facilities management companies in Canada are still arms of big international contractors, or specialists in facilities management in different sectors.”
In the “European” model of P3, the developer is also the operator. “When you talk to companies that prefer the European model, some report that it was not by choice but due to not being able to find viable solutions in the marketplace to outsource it,” says Fleming.
There are advantages to taking FM activities in-hous
e. “Construction is a cyclical industry. The experience of other jurisdictions in other countries has been that it can be very attractive to be able to diversify their revenue stream—maybe get a little bit more of a stable, annuity-style revenue stream from these other opportunities that P3s offer,” says Hann.
“In fact, some companies that used to be construction companies in those jurisdictions [outside Canada] have found that the asset-management/facilities management business so attractive that they have actually pretty much exited construction and are now specialist asset managers,” notes Hann.
A small number of specialized FM contractors are very active in the P3 marketplace in Canada. [It] tends to be dominated by a relatively small number of contractors—approximately six—but is growing each year, explains White.
These companies bring a lot of focus to the projects. Johnson Controls, for example, is a large global company with many different offerings in the commercial building market, according to Fleming. It provides systems and services, including facility management services, to many large international companies.
The company is currently managing approximately 1.6 billion sq. ft. of building space, including straight subcontract work. That experience provides the firm with a lot of data about buildings of all sizes, classifications and ages. “We can use benchmarks and comparable data to understand the life cycle of a building,” explains Fleming.
It’s a valuable knowledge base. HVAC and electronic systems require insight and experience to plan. “If you can manage key data trends, you can probably manage your risk very effectively… This data gives us a very good idea of how to operate buildings most effectively,” says Fleming.
They can bring in expertise from all over the world to help determine risk factors. “Let’s say a specific type of chiller is under discussion and we happen to have one operating in eastern Europe. We can draw on the statistical operating data to fully understand how it is going to react over an extended period of time,” he notes.
The relationship between the design/builder and the FM contractor is a long-term and intimate one. It’s in both parties’ best interests to try to drive the original capital cost and life-cycle costs down. They have to work together to make sure that happens.
“You need coordination agreements among the parties to capture the expectations. Design/builders have to understand that any changes they make could impact our costs for the next 30 years, which is detrimental to our partnership,” says Fleming. “We sit at the table from day one, when pencil first hits paper on the design of the building. If there is a question on the operational impact of a decision, we are able to look at the options. We don’t just come back with the lowest first-cost solution, but a net present value solution for the term of the contract.”
An example might be the roof. The FM contractor might suggest a higher-grade roof than that proposed by the DB contractor. Where the cheaper roof might last for 10 years, a better roof might last for 25. That means over the 30-year term of the contract, the cheaper roof might need to be replaced three times, while the better one might need replacing only once, toward the end of the contract. “In addition, energy savings are created which improves and supports the net present value consideration for the better roofing product,” notes Fleming.
There is a common public misperception that somehow services provided by an FM contractor will be inferior to those supplied by in-house staff, according to White. “We find the opposite is usually true, because the contractor’s performance is measured and their compensation is directly impacted by performance.”
“The companies that are managing these assets are doing a good job, and the reason is that the risk profile forces you to do it right the first time,” says Fleming. “That change is really driving us to challenge ourselves and always look for the right solution to help us win the project. The end user also benefits from those savings for the full term by getting a lower cost of occupancy.”
You have to be more focused on best practices across the board—design-procurement best practices, quality assurance best practices, subcontractor-procurement best practices, counter-party risk practices—because those are the metrics they are going to be measured against, according to Bowcott. LEED, BIM and Smart Building technology are becoming standards, because of the longer-term cost reductions they permit.
“This is the construction industry’s answer to sustainability… All these little pieces… green building technology, BIM, all these things are coming together under this umbrella,” says Bowcott.
Roads and bridges
It is not all buildings: road and bridge infrastructure is being handled with virtually the same model. Outstanding examples of Canadian P3s include the Confederation Bridge in PEI and various highways across the country.
One example was a project signed between New Brunswick and Brun-Way Highways Operations Inc. in 2005. The project involves a 28 year and one month contract to operate, maintain and rehabilitate about 275 km of four-lane highway.
The contract required a Structures Management System (SMS) for bridges, overpasses, underpasses, drainage structures and overhead sign trusses. The objective was to ensure that all structures are well maintained to exceed design life expectations and meet obligations for minimum remaining life at the end of the contract.
SNC Lavalin ProFac, a partner in the project, had already developed an asset-management system for buildings. This was adapted to meet the requirements of a highway facility. It included providing a central applications database capable of inputting, storing, assessing, forecasting and reporting on approximately 150 separate highway structures.
“P3” may become an obsolete term, as industrial infrastructure owners in the mining and energy sectors adopt the approach just as government has. Many corporations now have an “asset procurement officer,” with a focus on enterprise asset management, notes Bowcott. “This isn’t just public works. It’s the tip of the iceberg,” he says.
“The liability for an improperly designed, built and/or maintained pipeline or oil platform can be tremendous. Do you want low bidders on that kind of project? Do you want the risks obscured?” asks Bowcott.
“At the end of the day, it’s the right thing to do. It’s the right way to build. If you doubt that, look at the millions of dollars businesses have lost on poorly planned deals.”
Jim Barnes is On-Site’s contributing editor. Send comments to firstname.lastname@example.org