Project Practitioners > Project Delivery Systems Continued

Project Delivery Systems Continued

By Morley Selver, P.Eng IPMA B

The last project delivery system we want to talk about is the EPC project delivery system. This is sometimes called a “Turnkey” contract. With this project delivery system, the Owner hires a contractor to engineer, procure, construct (EPC) a facility and once complete and operating, turns it over to the Owner. The facility has to operate to specified levels as outlined in the contract.

Minimal Effort 

With an EPC project delivery system the owner puts in a minimal effort and so has less stress. The Owner works his way through the project life cycle and once he gets through the Select Phase will pass the project over to the EPC contractor. The end of the Select Phase allows the Owner to determine what he requires. Then he lets the EPC contractor hire the people, organize the project, construct it, and start it up. The Owner will put in effort upfront to hire an EPC contractor and then hire minimum staff to keep track of what's going on. 

This is similar to a lump sum where the EPC gives the owner the one point of contact. It is easy for the owner to monitor and coordinate this one contractor and allows him to run the project with minimal staff as opposed to design-bid-build which requires a lot of staff on the Owners part. Ona new facility the Owner will hire his operating and maintenance staff, who will become part of the project team when it gets to the commissioning and start up phase. With an EPC contract the owner does not have to go to another contractor for commissioning services as he can higher the EPC contractor This is a big consideration since the person who designed and constructed the facility can also commission it.

Performance Criteria 

The EPC contractor has to operate and turn over a functioning facility, therefore he has to provide a quality product, otherwise he could run into problems at startup which could result in late start-up and penalties. As well, the Owner is not affected by changes in the market price rises since the contract is a lump sum contract. When the owner goes out for bid on an EPC contract he includes performance criteria that the EPC contractor has to meet. The EPC contractor must design and build the project to meet this performance criteria. If the owner has the staff, they can develop the criteria, otherwise the Owner will have to hire consultants to develop the criteria. Examples of criteria would be raw material inputs, product output volumes and quality, amount and type of waste generated, or a limit on utilities, plus other items the Owner requires. 

An example would be the owner who wants to build a refinery to meet a determined output to meet his commercial needs plus any other needs he has to meet through third-party supply contracts. These criteria set out the levels of performance the Owner expects from the contractor. Oneof the advantages of EPC contracts is the standards of performance. Witha designed-bid-build project the designer has a professional “duty of care” and this duty of care can vary from project to project. The contractor is not necessarily held responsible for the design deficiencies. With an EPC contract the contractor is responsible for “fitness for purpose”. The EPC Contractor is liable if the design fails to perform to standards laid out in the contract. In order for the Owner to get the design he requires he has to spell out the performance standards at the very beginning which is during the bidding. As well, the Owner has to provide the EPC contractors with the intended purpose of the new facility. 

 Current Technology? 

Alot of times the Owner knows what they want but they may not be up to speed on what the current technology is for that particular type of facility. Using a Request for Proposal, the Owner is looking for solutions to his problem. The Owner sets the performance criteria and the EPC contractor using his knowledge and experience will propose the best solution to solve the problem. This is where the EPC contractor has to think ‘Outside The Box‘ to win a contract.

Joint Ventures 

On very large projects the Owner may be part of a joint venture. Ifyou are working on an EPC contract you have to be aware of who the joint venture partners are, when board meetings are held, what is important to them, as well as what is important to the Owner or the lead partner. As the project progresses, and decisions have to be made about various concerns, the decisions may have to be made by the boards of all partners. These board meetings do not all occur at the same time so you could have a scheduling issue. If there are budget overruns, some of the partners could get out of the joint venture as the rate of return may make the project not viable. The joint venture arranges the funding.  The Lenders will hire engineers to keep track of the project. The Owner will hire different engineers to protect their interest. Each will require information and meetings with site engineers.

Within the agreements you have with the joint venture partners, will be an agreement giving the operating company the right to construct and operate the facility. Each joint venture partner or participant has a percentage stake in the facility and will get product or their share of the product based on that percentage. Each joint venture partner has a different percentage share based on their own risks, goals, and objectives. Just as the Owner has one point of contact within an EPC contract, in a joint venture there is just one body that is responsible for delivering the project on behalf of the other partners. If there are four joint venture partners you cannot have each one working with the government, working with customers, working with contractors, etc. As you know from your own project experience, it just doesn't work that way. You have to have one overall controlling body and that is the lead joint venture partner.

Joint ventures are legal arrangements set up so the liability and obligations incurred by the lead partner are spread amongst all the partners to the joint venture. This is the same for an EPC contractor working with several contractors in a joint venture. In oil and gas the owner usually operates the facility and some of or all of the operations and maintenance may be contracted out. Nowadays, a lot of the maintenance is contracted out while the Owner maintains a small maintenance staff.  An example of a joint venture is the EnCana and ConocoPhillips agreement to form an oil sands extraction and refining venture . This is a 50/50 joint venture that includes EnCana’s heavy oil projects in Northeasten Alberta and ConocoPhillips refineries in the US. Each company will contribute $7.5 billion US to the venture over the next 10 years. EnCana will remain responsible for managing the "upstream" part of the joint venture. The "downstream", or refining, will be jointly owned but managed by ConocoPhilips. ConocoPhillips will keep an 85 per cent economic interest in one refinery in 2007 and a 65 per cent stake in 2008.

EPC Funding 

Some of the larger oil and gas companies, have sufficient funds within their organization to finance an EPC project however if you're a small company you would have to go on the market to get financing for your EPC project. TheEPC contractor has to be large, experienced, credible, and able to fund  an EPC contract and take any losses. On very large projects the EPC contractors will also be a joint venture. For large projects the sponsors and lenders have to have confidence in the EPC contractor. If that confidence is not there funding for the Owner will be difficult. The Owner also has to obtain project insurance. This will be difficult to get if the EPC contractor is not a well-regarded, successful contractor. This issue of being successful, to a large EPC company is very important for financing by the Owner and by the EPC contractor.

The PEP 

There has to be a Project Execution Plan in place outlining how the project will be executed and who will be the contractors or the lead contractor. In some cases the EPC contractor can become an equity partner. I worked with one company that reluctantly became an equity partner when the Owner did not have enough money to pay for the contract work. EPC contracts have led to the ruin of several large EPC contractors. I worked for one in the late 90‘s where we had a contract for a powerhouse in Asia. Everything was going fine until the Asian economy collapsed. When it collapsed the Owner walked away from all their obligations and we, as the EPC contractor, got stuck with paying for equipment that had been purchased but not paid for. This was in the area of $10 million. The company could not recover from this lose and it took 3 years before the  company eventually went bankrupt. 

I will continue with EPC project delivery system next month.

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