Be CC - Risk Management - 9 Dealing with consequences of risks

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1	Introduction	2	Methodology in summary	3	Client's business objectives and risks	4	Client's project objectives and risks	5	Objectives of key suppliers	6	Risk register
7	Action plan for prioritised risks	8	Regular review of risk register	9	Dealing with consequences of risks	A1	Example 'Value Hierarchy'	A2	Example Project Charter/Protocol	A3	Example Risk Register

9	Guide to risk management Dealing with the time and financial consequences of risks

	The underlying conflict
9.1	At the time the client enters into a contract for the delivery of a project, there is an underlying conflict:- the client and the supplier both want to achieve certainty as to their respective cost budgets; it is impossible to predict what risks occur during the course of the project with complete accuracy. The contractual allocation of responsibility of risks is therefore always going to be a compromise solution.
	Allocation of risks
9.2	The contract between the client and the supplier will usually expressly allocate responsibility for the time and financial consequences of foreseeable risks. Most standard form construction contracts provide for a prescribed division of risks between client and supplier/contractor that is fixed in all cases. The relevant form of contract will set out whether the occurrence of a listed risk entitles the supplier to claim for an extension to the time for completion of the project and/or for compensation for any loss suffered.
9.3	A more flexible approach is to allow the parties to agree an allocation of risks between them on the basis of whom is best able to manage the relevant risk, for example, the risk of unforeseen ground conditions. On a green field site where it is possible to carry out a comprehensive sub-soil analysis, it may be appropriate for the supplier to carry the risk on the basis that he has had the opportunity to carry out necessary investigations and tests to arrive at a sensible assessment of the likely sub-soil conditions. Alternatively where an existing property is being redeveloped, it may be impossible to carry out sub-soil investigations whilst the existing property remains occupied; the client may therefore be more willing to accept responsibility for any unforeseen ground conditions that are discovered. Sometimes the allocation of risks can be shared. This may be appropriate where the potential consequences of the occurrence of a risk are very serious and cannot be properly managed by either party. For example, the risk of adverse ground conditions may be high and the potential cost consequences beyond the supplier's means. As an alternative to the client bearing the risk, the parties may decide an allocation of the potential additional costs between them, either on the basis that they each share the costs proportionately or on the basis that the supplier bears the costs up to a fixed limit only.
9.4	Whatever apportionment of risks is agreed at the outset will usually apply throughout the contract, regardless of any changes in any risk register and of what risks actually occur.
	Unforeseen risks
9.5	By definition, risks that are unforeseen at the date of a contract cannot be expressly allocated to either party. Traditionally, unforeseen risks are the responsibility of the supplier. Where this is the case, the supplier will usually have some contingency in its price to cover this risk. The size of the contingency will depend on many circumstances (e.g. whether the supplier has bid for the work in price competition with others) and will usually not be calculated with any great degree of science.
9.6	The extent of unforeseen risks can be greatly reduced by the thoroughness of the risk analysis carried out prior to the entry into the contract. All things being equal, the more thorough the pre-contract risk analysis, the smaller should be the number of unforeseen risks, and the lower the contingency provision necessary.
	Risk allowances and the concept of a Total Risk Allowance
9.7	As well as agreeing an allocation of risks between the parties, a contractual risk allowance in respect of each risk may be agreed between the parties. For example, the parties may agree that the risk of late delivery of important plant needing to be installed in the premises is not simply shared between the parties in a fixed proportion but also that an express monetary allowance is made in respect of this risk. The provision of a risk allowance may serve two purposes:- it may act as a limitation on the liability of either party: e.g. a risk allowance of £10,000 may be provided as the maximum extent of the liability of the supplier; alternatively (depending on the provisions of the contract), once the risk allowance is exceeded, any additional cost consequences may be shared; if risk allowances are calculated in respect of all the risks for which the supplier is responsible, the total of these allowances may define the limitation on the supplier's liability: applying a "swings and roundabouts" approach, only if the cost to the supplier exceeds the total risk allowance will the client have any liability for the cost consequences of risks allocated to the supplier.
9.8	The use of risk allowances is also useful as a means of showing the extent of the supplier's provision for risks in a transparent way. Further, whether the contract provides that any savings in the total risk allowance remain wholly with the supplier or are shared between the parties, the supplier will be incentivised to manage the cost consequences of the risks to the project within the amount of the total risk allowance.
	The price of risks
9.9	Clients should always be aware that all risks have a price and, even in situations where the supplier is accepting the risk for unforeseen events with no entitlement to additional payment, this is likely to result in an increased price for the project to reflect this risk. The increased price may or may not be worth the passing of the risk: in some situations the client might prefer not to pay the increased price and manage the risk itself, in other situations, the client will not have the means to manage the possible occurrence of the relevant risk and will therefore be happy for it to be managed by the supplier. In a competitive situation the transparent costing of risks will be difficult. One way to address the costing of specific risks is to ask for alternative prices for accepting or passing to the client the relevant risk.
9.10	A check should always be made to ensure that the cost of dealing with a risk does not exceed the likely cost of its impact on the project.

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