Energy Report 2022
Procurement
What role does procurement play in improving outcomes?
Drafting a procurement strategy gives organisations the opportunity to discuss and agree principles before the procurement is in flight. It also allows them the time to do the proper thinking around the scope and commercial model needed.
For major public sector projects, the procurement strategy should hold the detail that underpins the commercial case in the Five Case Model recommended by HM Treasury.
It is also an opportunity to test the developing approach in the market, ensuring the right commercial strategy is chosen, to provide sufficient competition when the procurement starts in earnest.
Why is this even more critical on major energy programmes?
The UK is currently building Hinkley Point C in Somerset and development consent was granted in July on Sizewell C in Suffolk, as part of the government’s ambitious plans to build eight new reactors in the coming years.
Using the case of nuclear new build as an example, the complexities of preparing a robust procurement strategy are multiplied and can present the following challenges:
Mobilising fast enough
Assembling such a vast supply chain in a relatively short space of time creates the potential for recruitment to move at an insufficient pace and teething troubles in the implementation of processes and procedures.
“Brain drain”
Nuclear new build programmes require huge amounts of specialist skills and knowledge across all parts of the supply chain.
This is not withstanding the fact that there are numerous nuclear remediation projects being undertaken simultaneously whilst other major infrastructure projects pull on similar resources, ultimately reinforcing the need for collaboration rather than an adversarial contracting approach.
Limited experience
Given the above, clients are rightly anxious. Typically, these projects are first or second of a kind, making relevant experience an extremely valuable commodity.
Level of risk transfer
It is difficult to transfer risk in the nuclear sector due to inherently high liabilities coupled with extremely complex projects. Commercial strategy must achieve an appropriate level of risk transfer to reflect the level of scope and design maturity.
Market volatility
Current instability in the market, such as rising prices and well documented geopolitical factors, are naturally causing nervousness amongst contractors.
Recent engagements with the market have shown an increased focus on inflationary provisions in contracts and a reluctance to enter into fixed price payment options.
We have also seen contractors on frameworks not wanting to bid for work on the commercial terms on which they were appointed, yet still happy to tender for work on new terms.
Demonstrating of value for money
Publicly funded programmes have to demonstrate value for money and sufficient competition in tendering processes and components of price is needed.
This ultimately leads to a balancing act in the evaluation criteria between cost, quality and the commensurate level of cost certainty needed to reflect the chosen commercial strategy.
Encouraging the supply chain
Incentivisation is a crucial element to any procurement strategy and ties together many of the threads listed above. Clients increasingly talk in terms of promoting the right behaviours: use the carrot and the stick, or reward and punish?
Collaborative behaviour, which can lead to enhanced value for money, needs to be suitably modelled.
The nuclear sector wants to encourage efficiency, in terms of speed and cost — but never at the expense of quality.
Care should be taken to not make the incentivisation model too complicated otherwise the supply chain will not understand it.
Increasingly in the current market, there is a balance to be struck between presenting commercial terms that will attract sufficient interest whilst still delivering value for money.
The above is made all the more challenging when set against the backdrop of turbulent political and economic times we are experiencing and the imminent shakeup of the Public Contract Regulations, expected in 2023.
A powerful mechanism to control costs and maintain a project within budget and schedule is the type of contract negotiated between the owner/licensee and the contractor.
When the facility site conditions are not well known, associated contracting risks are greater, although as knowledge and experience is gained, those risks can reduce and the appropriate contracting strategy may alter.
Contractors will commit to perform the work and absorb a certain amount of risk in return for a fee. The more risk they absorb, the higher the potential fee to the contractor, and conversely, the potential for greater losses if the work scope is not performed within the agreed contract price.
It is important that the owner/licensee balances the benefits of putting a contractor at risk, versus sharing the risk to ensure the project is completed successfully.
Also vital, is ensuring that we understand the real cost of constructing, operating and decommissioning a nuclear facility, so the correct level of funding can be arranged and correctly managed to ensure all activities are safely completed.
Gaining the confidence of owners, investors, regulators and the public should not be understated. Appropriate levels of funding must be secured to ensure that construction and decommissioning activities start as planned, are carried out using the appropriate safe procedures and are not abandoned before completion due to a lack of resources.
Which types of contracts and commercial models are most commonly used in the energy sector currently?
Replies to our survey were that partnerships and alliance contracts were the most commonly used in the energy sector.
Many of our survey results also highlighted target cost with risk/opportunity share as the most-used commercial model in the energy sector.
Respondents to our survey felt that a hybrid approach of partnering/long-term contracting arrangements and short-term/standalone arrangements is needed.
This supports the overall thinking that contract and commercial strategy should be carefully considered for each case, considering the project environment, performance requirements and risk appetite.
How does the Construction Playbook apply to
the energy sector?
The Construction Playbook was launched in December 2020 and includes 14 policies which specify how public projects should be assessed, procured and delivered. The principles of the Playbook are providing greater certainty to the supply chain with long-term plans for key programmes, incentivising innovation, placing value on outcomes and embedding digital ways of working.
All central government departments and their arm's length bodies are expected to follow the Playbook on a ‘comply or explain’ basis, and evidence of its adoption has been seen in tenders, framework requirements and project and programme delivery.
At a time when public finances are strained, the adoption of outcome-focused procurement is important to ensure that the investment delivers the required benefits and that funding is not wasted.
It is also hoped that the Playbook will help the industry to become more sustainable: for instance, the sharing of and commitment to pipelines is important to allow supply chains to invest in necessary skills, technology and the like.
Our survey showed that the policies in the Construction Playbook most relevant to the energy sector are: Risk allocation \ Ensuring that risks are owned or jointly owned by those best able to manage them, as well as understanding the proposed methods of mitigation/management.
Delivery model assessments \ Considering the delivery model alongside the desired outcomes and value profile, enabling definition of roles and responsibilities to facilitate delivery. Including assessment of the most appropriate delivery model (rather than those which are familiar but potentially inappropriate).
Early supply chain involvement \ Engaging with the supply chain, including designers, contractors, specialist contractors and product suppliers, early in the project lifecycle will help to inform the business case, promote collaboration and help to develop clear outcome-focused requirements.
Outcome-based approach \ Focuses on outcomes to ensure that strategic priorities are met and encourage innovation to provide cost-effective solutions.
Benchmarking and should cost models \ Ensuring the robustness of cost estimates and giving a clear understanding of the whole life cost and risk of delivering a project or programme.
Overall, respondents to our survey felt that the government can best support implementation of the Construction Playbook by facilitating collaboration and providing financial support.
