The construction phase involves potentially the most costly project risk. The nature of PPP projects is such that an incomplete project will be of limited value. Therefore, both the grantor and the lenders will have a significant interest in ensuring that the works are completed in accordance with the project specifications. Construction risk includes:
• The adequacy of the design of the works
• The nature of the technology to be used and the risk of defects in equipment or materials
• Unforeseen events or conditions, such as extreme weather or unforeseen subsurface conditions
• Environmental risks arising during construction
• The availability of labor and materials, whether skilled labor can be procured locally, to what extent both labor and materials will need to be imported, visas and licenses for such importation and restrictions imposed by local labor laws (including working hours and holiday entitlement)
• The availability of experienced management, committed to the project
• The availability of associated infrastructure and services, such as access roads, the provision of services to the site (including water, electricity and other utilities) and transportation to the site for labor and materials
• The program for completion, whether the time for completion is realistic in view of the labor and materials required for the project, the technology in question, the limitations of the host country infrastructure, climate and market, design requirements, and testing and commissioning
• The cost of completion, changes in the market for labor and materials, services necessary for construction, financing costs, administrative costs and other costs subject to change over the period of the construction contract
• Political and natural force majeure.
The project company may want to impose a fitness for purpose standard on the construction contractor. A fitness for purpose obligation will help maintain the fixed price, by placing on the construction contractor the obligation to ensure the design is sufficient for the purpose intended for the project, and therefore decrease the need for variations in the scope of works.
The construction contractor will be responsible for designing and building a project capable of performing in accordance with the specified standards. After the construction contractor has finished construction of the project, it must satisfy certain tests and inspections in order to demonstrate compliance with the project specifications, successful connections with any external network (such as a power grid or a water system), and proper management of interfaces between different equipment and technologies used in the project. This commissioning process will often involve a performance component to ensure that minimum levels of performance are achieved before taking over by the project company.
The time for completion will be of great importance for the project company and the grantor. The project company will want to commence operation of the project as soon as possible in order to earn maximum revenue and improve return on investment. The grantor will have put the project out to tender owing to a pressing need for the service to be rendered and will therefore want the construction completed in the least possible time. The government may have given political undertakings to complete the project within a specific time frame or before the next election.
Cost increase risk will also arise as between financial close and from time to time throughout project implementation. This risk is also generally shared between the grantor and the project company, but with the grantor taking a markedly smaller portion of this risk. Certain of the elements of post-financial close cost increase risk are discussed below. Change in law and other similar events which can increase the project cost will be discussed later.
Given the time frames involved in PPP projects and the construction period, costs specific to construction, such as the cost of labour and materials, are likely to change. The project company and the lenders will want the construction contract to be let for a fixed price with extremely limited opportunities for the construction contractor to increase the contract price.