Evaluating Contractual & Financial Risks for an EPC Player in India

Contractual Risk:

The contractual risk forms an intermittent risk during the project execution and post project completion stage. The contractual risk may arise by signing for a contract which may be incomplete in terms of project definition or may have an ill defined performance requirement.

For bidding contracts which may face potential contractual risks may show following features:-

  • Uncontrollable work scope expansion
  • Unknown cost exposure
  • Inability to schedule project work accurately
  • Unclear project completion milestones
  • Disproportionate risk and reward benefit
  • Signing up unbalanced contracts
  • Project management team deviation from requirement of contract

The contractual risks pose a big threat for the EPC contractors not only before project execution but also during the execution and post completion stages respectively. The potential contractual risks and their associated weights and impacts are shown Exhibit 01.

exhibit-01-parameters-to-assess-contractual-risks-vis-a-vis-epc-contractors-and-their-associated-weights

Financial Risk :

The financial risk is such a risk for the EPC contractor which would affect most, as all the operations are dependent upon the better financial health and account book position.

For bidding contracts which may face potential financial risks may show following features:-

  • Inability to bid for large projects
  • Cash flow restrictions
  • Delay in committing funds for a project
  • Risk of owner claims for mismanagement
  • Risk of performing work without approved compensation
  • Unfunded changed work
  • Bonds/Insurance poor response

The financial risks pose a big threat for the EPC contractors not only before project execution but also during the execution and post completion stages respectively.

The potential financial risks and their associated weights and impacts are depicted in Exhibit 02.

exhibit-02-parameters-to-assess-financial-risks-vis-a-vis-epc-contractors-and-their-associated-weightsDegree of Impact of Different Selection Risks on an EPC Project- Identifying Top 3 Risks:

exhibit-03-weights-allocated-to-risks-vis-a-vis-epc-projectsThe identified risks for the EPC players as indicated in above section can be listed as under:-

  • Financial Risks
  • Project Selection Risks
  • Contractual Risks
  • Environmental & Technical Risks
  • Geo- Political Risk

These risks have different degree of impacts on the EPC projects which may be under different stage i.e. pre-bid stage, bidding stage and post bid stage.

The associated weights for these risks can be depicted in Exhibit  03.

 

For better profitability of the projects the associated risks will follow Pareto principle where in the top 3 risks would lay 80% impact on the profitability of the project. These risks would namely be following:-

  • Financial Risk
  • Project Selection Risk
  • Contractual Risk

So Financial and Contractual risks are the two most important risks which needs to be evaluated by an EPC player and investors for due consideration of the project.

*The views expressed in this article are solely those of enincon perspectives and do not necessarily represent those of Enincon LLP.

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