Complexity in Owner’s Structure

The text below is a synthesis of the paper presented by me to the 32.nd IPMA World Congress 2021. Full paper can be found in the congress proceedings  

In a complex engineering and construction company, as well as in any capital project, either public or private, the structure of ownership is becoming more complex: as a matter of fact, while until the end of the last millennium was still possible to identify, in majority of capital projects, the “owner” that was generally also the “employer” and the “end user”, on one side and one or more “contractors” on the other side, now we find a more complex structure where, instead of the owner, we have different actors like “promoters”, “developer” and “investment funds” or other investment organizations, that supply the majority of the finance. This causes a lack of entrepreneurship, that can only in part be supplied by high level consultancy.  

The investors have a completely different approach to risk management as well as to the very concept of value creation if compared to entrepreneurs, that causes a different strategic management of the project, with a different vision that sometimes can kill a project that would otherwise be viable.

Until the ‘50s of the last century of the past millennium, the structure of a project was defined in a quite stabilized way: in private project the organization was based on the classical scheme of

  • the Entrepreneur, who first masterminded the project and then has the strategic capability to conceptually design it, make the decision to carry it out and how to finance it, define the project organization, that was normally composed by
  • the Engineer (or Engineering Contractor), in charge of Engineering and Work Direction
  • the Contractor (or Contractors), in charge of construction, while
  • Operation and Maintenance was normally in the hand of the Entrepreneur’s organization

The economic background of this organization was in the fact that, in majority of cases, the entrepreneur was financing the project with funds belonging to him or to other shareholders or, in case of need of additional funds, through bank loans backed by personal guarantees.

Substantial changes started by the ‘30s of XX century, when companies owned partially or totally by the Government started to act as investors with supposed entrepreneurial capacity in public works as well as in strategic sectors.

A further change started in the late ‘90s, when Investment Funds started to replace the banking system in collecting private funds to industrial projects.

Let’s try to focus the difference between Entrepreneur, Investor and Lender

  • The Entrepreneur takes the risk of using his funds in the project and expects a variable return based on profit from the operation, normally he believes in the project and likes it, put his name on it and aims at transferring it to the future generations.
  • The Investor, that is also collecting equity funds, aims at reducing the risk, mainly during construction phase, through proper contractual clauses and other technicalities,   and then expects a quite defined return from profits, he does not have any special connection to the project and is prepared to sell it soon as selling becomes more convenient than keeping.
  • The Lender is supplying finance to the project, his return should be fixed and independent from the profit.  

By this way, the Investment Funds have first limited and then replaced the Entrepreneur, however we are at risk that any Entrepreneurship be completely lost. As a matter of fact, the Funds have not internal entrepreneurship, neither they are supposed to have it since they focus on finance: useless to say, this does not mean that internally be not possible to find people with high technical and economic background and entrepreneurial capacity or that they can successfully delegate this function to high profile consultants, it only means that important decisions are made by Investment Committees that are focused on finance and whose aim is to minimize the risks, mainly during engineering and construction phase.   

The consequence on the political and economic system as a whole can be the lack of innovation and, without innovation, the economic development becomes a dream.

Starting from the late XX century, the attention has shifted from single projects to groups of projects or programmes or to the whole portfolio of projects and, from engineering & construction to the whole project life cycle.

In some cases, the project life cycle is reduced to only a part of the full path. From the point of view of an Engineering and Construction company, the life cycle starts with the proposal and ends with the final handing over, from the point of view of a Real Estate company the life cycle ends when the estates, after having been completed, have been completely sold to other parties. However, we are focusing on the general case of an ownership aiming at building the project, operate it and then dismiss it, being the main actor of the whole life cycle.  

Besides the owner, a lot of stake-holders either internal or external to the project, have to be taken into consideration: banks, authorities, associations, the public as a whole. A paramount importance is being given to local consent, since without it becomes very difficult to carry on the project.  

The development of structured finance (project finance) also allows the traditional investment process to be reversed, by this way offering new opportunities for economic development. While in the past capital accumulation was necessary in order to be able to proceed with the investment, today it is possible, at least in part, to obtain the capital from future funds that will be obtained once the investment goes into operation, without any guarantee other than the project itself. Hence the need to integrate management and control activity throughout the life cycle of the project.

We must, however, avoid the illusion that it is finance that creates wealth: finance plays a very important role by shifting wealth in time and space and ensuring the maintenance of value over time, but it does not create new wealth if not in a small part. It should be subject to the condition that financial horizon be not limited to the short or the medium term objectives, such as those relating to the movement of wealth, but must also take into account long term objectives relating to the conservation of value.

The new players in the capital projects are de Developers: they are a kind of entrepreneur of the starting phase of a project, that brings the project up to the status of being ready for construction and then sells it to the Investor. By this way, the Investor will be exempted from the risks relevant to the project start, at least in part.

Generally Developers are medium or small size companies, they identify a project and execute the conceptual design as well as everything necessary for the authorisation procedure, identify the site and enter into the relevant preliminary contracts with landowners and then proceed to the sale of a project ready for construction.

We should distinguish among

  1. the full developers, who perform all the activity with their own funds and eventually sell the project once it is fully authorized and sometimes ready for construction and financing,  
  2. the development consultants who perform the activity in the name and on behalf of a client already defined and using funds of the latter.
  3. However, in majority of case, the real developer in some way in the middle, there are infinite intermediate cases, usually identified with the term co-development.

After the failure of economic systems based on localism and protectionism as well as the disillusions of globalized economy, the economic systems should evolve integrating someway the local economy with the global economy, taking into consideration the need to have an economic and productive system that works in a sustainable development regime and in a long-term perspective.

It will be essential to adopt appropriate instruments and protocols for territorial management that will make possible to know, manage and sometimes regulate the market mechanisms.

This perspective of integration will include for land management, construction and management of infrastructure or production facilities (with particular attention to those carried out under project financing), management of urban heritage, cultural heritage.

Today, the mathematical and informative tools, including to so called artificial intelligence, allow a better understanding of all information and data relating to an economic system, with particular reference to an economic system or subsystem on a given territory.

The same tools, through various elaborations and simulations, allow to react to unforeseen events.

Gianluca di Castri

23/09/2021

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