The need for integrated risk analytics

Oil and gas companies that invest in effective project control techniques will enjoy a competitive advantage over those that do not

David Helstrom, Booz Allen Hamilton, Houston

There are many factors that can influence the success of large capital projects in the oil and gas industry and the amount of return on investment organizations may hope to achieve. Among these factors are the continual increase in project complexity and oil price volatility, as observed with the recent pressures on crude prices.

Exploration and production activities can span several years and occur in all regions of the world. Refinery expansions and upgrades, as well as extensive pipeline projects, among other large-scale infrastructure investments, take extensive planning and execution. Notwithstanding the type of project or location, capital spend can exceed several billion dollars on a single project without enjoying a yield for many years after project initiation. This exposes organizations and institutional investors alike to short- and long-term market volatility, geopolitical disturbances, and the rising cost of doing business.

As we better understand the relationships among these variables, the criticality of controlling spend becomes paramount. In recent years, the industry has seen impressive growth in capital expenditures, as much as 45% from 2009 to 2013, according to reports in Oil & Gas Journal, OGFJ's sister publication.

More recently, however, and in direct response to dropping oil prices, we are witnessing a contraction in spend from major players, such as the 20% cut ConocoPhillips recently announced on major developments nearing completion and Chevron Corp.'s move to place a hold on their 2015 capital spend plan. The key here is recognizing that with market variance, executive leaders and investors are taking conservative positions on future plays and have high expectations for current plans to maintain economic viability.

As cost overruns delay projects and price volatility reigns, it is imperative that companies seize control of their capital and operational expenses to hedge their vulnerability to such external factors as market dynamics and geopolitics while still meeting commitments to shareholders to maximize value. In other words, focus on the items within your sphere of control by using integrated risk management processes and apply these same principles to account for and measure the uncertainty from external factors that can impact project execution.

Focusing on internal controls is not just about monitoring cost but also controlling the schedule and effectively optimizing risk. One of the greatest challenges of mitigating project overruns is the lack of cost, schedule, and risk integration. Schedule growth, should it come to pass, almost always implies cost growth. Unmitigated and/or uncontrolled risks often lead to both cost and schedule growth. Yet, despite the interconnection of these disciplines, rarely are cost estimates, schedules, and risk registers fully integrated artifacts.

The game changer in this competitive market environment is to take a truly interdisciplinary approach to control complex capital projects. Booz Allen embraces this approach by leveraging a technique called Integrated Cost, Schedule, and Risk Analysis (ICSRA), which we accomplish by using our proprietary risk analysis tool, Polaris™, which integrates cost, schedule and risk artifacts in their native formats and simulates probabilistic results with industry-leading run-times to predict likely outcomes.

By using Polaris™ to perform ICSRA, also referred to as "Polaris Analysis" organizations can knock down the long-standing silos among these project control functions to improve the efficacy of the project controls discipline. Coupling the ICSRA methodology with lessons learned and insights gained from supporting large-scale global capital projects, Booz Allen helps organizations thrive in project planning and control by providing best practice recommendations necessary to successfully evolve their respective risks analysis practices all the way through the ICSRA continuum. Below are key steps to help you incorporate or optimize ICSRA for your projects:

Step 1: Set a Path

To achieve the most benefit from a risk analysis practice, organizations need to understand where they are and where they want to be. ICSRA is the most advanced form of project risk analysis in practice today. Therefore, we recommend using a maturity framework as a guide to review current state capabilities to set a path to establish an ICSRA capability. A maturity framework such as this, proven on either complex commercial and/or federal capital projects, allows oil and gas companies to develop an implementation roadmap scaled to specific needs. This provides incremental steps to adopt or transform existing processes and skills into an integrated delivery model with clearly-defined objectives and measures for success.

Step 2: Conduct a Pilot

The best way to determine how to implement ICSRA while demonstrating the analysis' value to decision-makers is to perform an ICSRA on a pilot project, which will help achieve incremental change with reduced risk. A pilot analysis has three primary goals:

Determine gaps where projects may not be following best practices. ICSRA across other organizations has shown that while projects often do their best to follow best practices, implementation is inconsistent. ICSRA has the ability to create a standard interpretation of best practices that can be replicated across multiple projects. Demonstrate to stakeholders at all levels the benefits of ICSRA with actionable analysis. Establish an adoption matrix for implementing ICSRA within the organization based on the state of the project controls disciplines, the type/value/risk of projects being analyzed, and the organization's needs.

Completing a schedule risk analysis on a pilot project will identify gaps to determine how the organization could mature to allow for full ICSRA while still providing an actionable analysis using real project data.

Step 3: Communicate Intent and Overcome Resistance

Obtaining organizational buy-in is critical for institutionalizing ICSRA. This methodology requires groups of people that traditionally work in 'functional silos' (i.e., cost, schedule, or risk functions, among other project control disciplines) to cooperate on an integrated product. It is critical that stakeholders at all levels understand the benefits of, and requirements for, performing ICSRA to maintain awareness and momentum. ICSRA also provides predictive detail into bid/project decisions, cash flow analysis, financial projections, and real-time analysis for better and more streamlined decision-making.

ICSRA results can be leveraged by various stakeholders in the project value chain to reduce negative cost & schedule growth, including executive decision makers, project managers, advisors, and project controls managers/analysts. Demonstrating value to these stakeholders is easiest when there are results from a pilot project for them to review. Change can be scary, and oftentimes peoples' first reactions will be to resist, so quickly relating ICSRA to familiar projects and deliverables is a key for success.

Step 4: Determine Policies/Procedures for ICSRA

A difficult part in establishing ICSRA within an oil and gas organization is institutionalizing the policies and procedures required to conduct the analysis. There are several common project best practices that most project controls functions need to normalize prior to institutionalizing ICSRA:

Schedule: Make sure scheduled activities are logically-linked and free of unrealistic hard-constraints (must finish on, start no later than, etc.), and remove reserve from the schedule, as ICSRA will quantify the amount of reserve necessary.

Cost Estimate: Map the cost estimate to tasks and make a "cost-loaded schedule," not necessarily a resource-loaded cost schedule; divide the cost estimate into time-independent (grow and contract independently of schedule) and time-dependent (grow and contract with the schedule) types.

Risk Register: Map the risk register to the schedule. Although a step above and beyond PMI® best practices, this enables the calculation of secondary, tertiary, and quaternary impacts of risks as they occur, resulting in more accurate sensitivity analyses.

The above lists a rough order of magnitude of required actions to implement ICSRA within and across an organization. To institutionalize it, establish a policy that makes sense based on the type/size/riskiness of the projects being analyzed.

Step 5: Implement ICSRA

The final step when institutionalizing ICSRA is to actually implement it across the organization. We have found that among energy companies, the most successful implementations start by using ICSRA resources for the first several analyses, leveraging them alongside existing staff and implementing change behaviors to deliberately monitor progress and measure success. In addition, consistent process improvement and quality control are critical pieces of building an ICSRA analysis. While ICSRA models should be maintained for the life of the project and used for management, it is important to track results over time in comparison to actuals. This helps to provide more accurate models in the future-increasing predictive project insights.

Conclusion

As noted in Booz Allen's "2015 Energy Trends," capital investments have become increasingly complex, and shareholders and investors alike are paying closer attention to the risk payout.

Although establishing an ICSRA capability within an organization cannot prevent all risks from occurring, it does provide an unparalleled opportunity to reign in cost and schedule growth to secure capital investments by facilitating communication across the project throughout its lifecycle.

By implementing ICSRA, oil and gas companies can drive project management best practices across their respective portfolio of endeavors and apply analytics to calculate uncertainty against internal and external constraints. This enables informed decision making from executive leaders to project managers to measure economic viability before and during execution. Oil and gas companies whose leaders invest in effective project control techniques such as ICSRA will enjoy a competitive advantage in the years ahead.

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