This post analyses the decisions you can take with your Contract Risk Scoring methodology & tool. The objective is to maximize your chances to achieve your desired business results.
What is Contract Risk Scoring ?
Contract Risk Scoring is a methodology to identify risks in contracts, to attribute a representative risk score to each relevant subject (with the help of a tool) and to generate an overall score for the contract. Usually, specific risks on the relevant subjects are rated from 0 (low) to 5 (high) with an overall contract score on a scale of 100. The higher the score, the more riskier the project.
This methodology is specifically suited for the project businesses: infra, construction, turn-key equipment supplies, power, renewable energy, oil & gas etc. Typically, all the subjects in the image below are covered:
You can also click on the image to access an example free-use tool: TRaCRs – Tender Risk and Contract Review system.
Why should you use Contract Risk Scoring ?
Unbalanced contracts can become a hurdle for the achievement of your business targets. A general differentiation between “balanced vs unbalanced contract” is too vague, too qualitative as a concept. Contract Risk Scoring tools compute an overall score for the contract/project and include also detailed scores per topic (20 representative questions & answers).
If you are unfamiliar with the concept of Contract Risk Scoring, we recommend you to read the following article first: Contract Risk Scoring, 10 questions answered
4 decisions that can be made with a Contract Risk Scoring system
You can take the following decisions with the support of a Contract Risk Scoring system (and TRaCRs specifically):
1. Deciding whether you should go, or not, for a project.
The Go-No Go decision can be based on the overall Contract Risk Scoring. Typically, scores above 60 or 70 should strongly make you consider a “No Go” decision. Also, a combination of several high scores on specific topics can trigger a “No Go” decision. This is because the project would have too many hurdles so that you can no longer realistically expect to achieve your outcomes.
2. Deciding what are your target improvements during negotiation.
The subjects where a high risk-level answer (4 or 5) is applicable as per the RfQ (Request for Quotation), should get your attention. Either, you can accept the risks and mitigate / control them. Or, you identify them as a negotiation target to improve your position. If you don’t succeed, you can still take a “No Go” decision and get out of the project.
3. Deciding on what level of provisions you want to include in your pricing.
You are exposed to a risk when, in a certain number of scenarios, your company is going to lose money. Taking risk “for free” is not a good long-term strategy. And, believe me, companies do it more often than one imagines. This, due to a lack of acknowledgment and valuing of risks. Adverse scenarios will occur, sooner or later, as per their statistical probability. You can be lucky on a single contract. On a series of projects/contracts luck is not even an option and you have to make a provision to cope with the problems when they occur. You will keep unused provisions on projects where the risk doesn’t materialize for future projects. Like this, you can amortize the cost of overcoming specific risks over a project portfolio.
4. Deciding on what level of profit you want to have on a contract.
Of course, there is a correlation between risk taking and profit. If risky projects would not be more profitable, why would anyone go for them? Less risky projects are very attractive. Consequently, price competition is higher and profit margins go down. To tender successfully for a project, you need to be aware of the Contract Risk Scoring. With that information you can lower your margin for balanced contracts and increase it when you are taking higher risks.
Risk analysis is moving back to where it belongs, the decision process. Contract Risk Scoring tools help you to support the identification of the commercial & contractual hurdles that may stop you from achieving your desired outcomes. They help you to focus on the following:
- implementation of mitigation actions,
- establishment of acceptable risk and liability levels,
- determination of provisions & margin levels etc.
TRaCRs is a free Contract Risk Scoring tool suitable for the construction business, for infrastructure projects, for power plants etc. The tool can be adapted for your specific business and expanded to focus on specific hurdles. Don’t hesitate to contact us so that we can discuss this in further detail for your specific case.
For further reading on Contract Risk Scoring, we recommend you the following publications:
- Manage your risks like “the big boys & girls” do!
- IACCM is promoting tools to score the risk of your contract portfolio
- Contract Risk Scoring: how does a World Bank contract for PLANT score?
- Contract Risk Scoring, 10 questions answered
AfiTaC.com is the blog on commercial and contractual subjects for the Project Businesses (Construction, Infrastructure, Oil & Gas, Power & Renewable, Water Supply & Sanitation, etc). Its objective is to stimulate reflection, learning, convergence to balanced contracts and positive dispute resolution. You can subscribe to our newsletter by writing to “firstname.lastname@example.org”. You can also connect to our LinkedIn page. Engagement with the readers is what keeps us going. So, don’t hesitate to exchange with us by commenting here below, liking our publication on LinkedIn and writing to us “email@example.com”.