Managing Major Projects: PROJECT BUSINESS PLAN

INTRODUCTION

The Project Business Plan also called PBP represents a “baseline” for as-sold profitability performance. PBP is the comprehensive commercial basis of the project and is a commercial reflection of the execution plan. The methodology and procedures contained in the PBP are used to evaluate commercial and execution risks involved in the project. PBP is also used to develop strategies that maximize the profits.

This document addresses the following key elements of a Typical Project Business Plan for major EPC Projects:

1. Objectives of PBP

2. PBP Development Phases

3. Basis of PBP

4. Roles & Responsibilities

5. Pricing Model

6. Risk Management

7. Working Capital

8. Return on Investment

9. Net Present Value

10. Project Alignment

11. Business Reports

12. Revision procedure & Requirements

1. OBJECTIVES OF PBP

The main objectives of a Project Business Plan are to develop:

1) A baseline for contract pricing

2) A yardstick for the evaluation of project performance

3) A detailed understanding of the contract terms and conditions

4) Opportunities for increasing the return.

5) A detailed understanding of financial risks and mitigation strategies

6) A risk analyses with a mitigation plan

2. PBP DEVELOPMENT PHASES

On a major project, the PBP is developed in three stages:

1) Proposal Stage

PBP is initiated during the project proposal phase and documents the overall commercial strategy for the proposal. It takes into account the scope of work, risk analyses, mitigation strategies, pricing, schedule and the execution strategy. Once the contract terms have been established it uses the Net Present Value to establish a commercial basis.

2) Project initiation Stage

As soon as the Project is awarded, the “As-Sold” model is transformed into a controllable baseline plan and is issued as the Project Business Plan to the project management team.

3) Project Execution Stage

As the project progresses, many assumed parameters change necessitating modifications to PBP. The process involves continuous analyses, forecasting in search of new opportunities to increase the return.

3. BASIS OF PBP

This section contents a list of items and documents that form the basis of project business plan. Listed below are the typical documents:

1) Contract Document

2) A complete set of the Proposal

3) Contractual Project Schedule

4) Pricing Model

5) Project Estimate

6) Project Execution Plan

7) Project Procurement Plan

8) Project Contracting Plan

9) Cash Flow Sheets

10) Commercial Alignment Methodology

11) Risk and Mitigation Plan

4. ROLES & RESPONSIBILITIES

It is very important to develop a Roles and Responsibility Matrix for the development and maintenance of the Business Plan. Outlined below are some typical roles that may vary with the structure of the organization.

1) Project Manager: The project manager leads the development of Business Plan and assumes it’s overall responsibility. The ultimate goal of the project manager is to maximize the project profitability.

2) Business Development Manager: Most of the companies executing major projects generally have a Business Development Manager who looks after the project from the proposal stage through the contract award. This manager or the concerned marketing executive is responsible for the development of overall business strategy based on the “As-Sold” or “As-Bid” philosophy and ensures that it gets incorporated the business plan.

3) Project Business Manager: In the current market scenario it is becoming common for a project to have a Business Manager on the project. A detailed description and responsibilities of this position will be discussed in a separate blog on project organization. In the absence of this position on any project, the Project Controls Manager assumes this responsibility. This position is responsible for gathering required information and actual development of the plan document. The business manager plays a key role in developing action plans and strategies for profit maximization.

4) Project Team Members: All the senior members of the project team are responsible and accountable for their respective elements of the business plan.

5. PRICING MODEL & EXPLANATION

The pricing model is a project specific model based on the As-sold pricing with special attention to achieving higher level of margins and profitability. The model transforms the strategic commercial data into a more visible and uniform format. It helps the project manager and provides:

a) Greater visibility of pricing strategies to evaluate various options for an increase in profitability.

b) Details of all available options for the development of commercial strategies.

c) A most appropriate methodology and approach towards the pricing process.

6. RISK MANAGEMENT

Risk is defined as the probability of the occurrence of an uncertain event and its consequential significance. A project risk is an uncertain event or set of circumstances that, should those occur, will have an impact on the achievement of the project’s objectives. A risk is only taken when the anticipated benefit exceeds the cost of rectifying the failed act by a significant margin. Though a risk is generally taken in negative terms, but in real terms, it represents any uncertainty affecting the outcome of the event whether negative or positive.

The basic objective of Risk Management is to identify all potential risks and to develop suitable strategies to significantly reduce their impact. The risk management also includes the development of opportunities to maximize the margins by taking advance actions to mitigate the risks. A risk is always taken as an opportunity and a potential for increased returns, profitability or rewards through effective risk management techniques. It is generally believed that risks and rewards go side-by-side, higher the risk, higher is the possibility of a reward.

The Project Management Institute has defined “Risk management” as “the art and science of identifying, assessing, and responding to project risk throughout the life of the project, and in the best interest of the project’s objectives”. Risk management involves forecasting contingency requirements, identification of the risk areas and proactive actions. The effective risk management leads to having a competitive advantage and depends on the type of response associated with the risk. The response chosen for each risk depends on the risk’s probability and impact as well as the risk tolerance. Given below are five major responses to any risk:

It is important to know the method of responding to a risk. Risk management involves forecasting of contingency requirements, identification of the risk areas and taking proactive actions. The effective risk management leads to having a competitive advantage and depends on the type of response associated with the risk. The response chosen for each risk depends on the risk’s probability and impact as well as the risk tolerance. Given below are six major responses to any risk:

1) Avoidance

This risk management strategy requires making efforts to completely avoid the occurrence of risk. This may mean changing or modifying plans so that the risk may not occur. This is strategy is one of the best methods to manage negative risks. Adoption of this risk management strategy for negative risks is used very commonly while making project plans. From the scheduling point of view, not scheduling any digging work during the heavy rain periods or delaying an outdoor heavy construction work during excessive snow periods are the examples of avoiding risk.

2) Mitigation

Mitigation means making efforts to reduce the probability of occurrence of a risk. In case a negative risk can’t be avoided, efforts are made to minimize the impact of such risks, this is mitigation. This risk management strategy is also used very commonly during the project planning and execution. For instance, in case a digging work can’t be delayed or avoided during the rainy months, but must be completed during, plans and arrangements are in place to immediately cover the work site as soon as the rains start.

3) Transference

Transferring the liability of the risk to a third party is another golden strategy to reduce the impact of a risk. This generally results in an increase in cost. For example any insurance or execution sub-contracts are ways to transfer negative risks and liabilities to others, but these are associated with extra costs.

4) Active Acceptance

This is the acceptance of a fact that a particular risk may take place and nothing could possibly be done to prevent the occurrence the related events. Preparing suitable contingency plans and including the associated costs in the contingency budgets is a risk management strategy to reduce the impact of such risks. An example of this risk could be the loss of work hours due to unforeseen circumstances like non-seasonal storm or an accident. Nothing could be done to avoid such risks but to accept. In case cases suitable risk management strategy is to make provisions in the project plans for such occurrence and inclusion of such risks in the contingency budget.

5) Passive acceptance

Accepting that a particular risk may happen, but deciding to act only if and when it occurs is another risk management strategy.

6) Initiate Action

Initiating suitable action as soon as the risk is identified.

The Project Business Plan includes a list of risk areas, a mitigation plan associated with each risk as well as the estimated cost involved with each major risk.

7. WORKING CAPITAL

Working Capital is the net invested capital employed in a project and is one of the major concerns of a project manager. It is used as a balance sheet to indicate the value of capital resources employed in a project and is mathematically represented as below:

Working Capital = Current Assets:

Work-in-progress

+ Accounts receivable

Less

Current Liabilities:

Unearned revenue

+ Advances

+ Accounts payable

+ Unrecorded liabilities

+ Project reserves

8. RETURN ON INVESTMENT

Return On Investment or simply known as ROI is a measure of the project performance showing how efficiently the invested capital is being utilized to produce earnings. A high value of ROI indicates that the capital investment is being utilized efficiently to produce earnings. The ROI is represented as a percentage ratio and is estimated by dividing the Invested Capital (Net Invested Capital) by Earnings Before Tax (EBT).

9. NET PRESENT VALUE

Net Present Value (NPV) is the difference between the present value of all cash inflows and the present value of all cash outflows required to finance the project at a given discount rate. The present value represents the current value of funds to be received at a future date at a discount rate. It is being increasingly acknowledged that the use of Net Present Value (NPV) evaluation technique is proving beneficial over the use of Net Earnings technique in many ways. Given below are some arguments to support this theory:

NPV uses the ‘Cost of Cash’ principle thereby recognizing time value of the capital.

NPV uses cash flow rather than net earnings. Cash flow takes into account many variables like inflation, interest, cost of money, etc.

NPV has a better understanding and a positive NPV reflects better value.

10. PROJECT ALLIGNMENT

The success of a project depends on the alignment of the project team. A business plan therefore needs to puts emphasis on proper alignment of the team. It’s the responsibility of the project manager to initiate the commercial alignment process during the initial stages of the project. The alignment procedures are prepared with the active participation of Project Manager, Business Manager, Finance Manager, Construction Manager, Procurement and Contracts Manager and involve:

Project alignment meetings where the team is informed about the project details through presentations and distribution of documents.

A commercial alignment checklist is prepared and shared with the team.

11. BUISINESS & FINANCIAL REPORT

Development of "Business Reports" also known as "Financial Reports" is an important part of business plan. The business plan must include the formats for reporting various reports to be issued during the project execution. Given below are some of the important reports:

a) Financial Status Report

The Financial Status Report gives a view of the financial health of the project. The report compares the current budget, current forecast and monthly change of costs under various heads to the As-sold model. Calculations of gross margin, cost of cash and project margin indicate the financial status and health of the project. The chart below shows the financial calculation methodology.