Delay and project profitability. Sigurður Guðni Sigurðsson September 2007

Delay and project profitability. Presumptions Total time = Production time + Time of utilization Total time is constant Period of production 1 year, duration of operations 5 years –Affect on producer/developer –Affect on buyer Period of production 3 years, duration of operations 10 years –Affect on producer/developer –Affect on buyer Lump sum payment vs. distributed payment

Reason of delay. Contract variation. The owners (buyer) determination that makes delay and extra cost on his accountability. Force Majeure. Neither seller or buyer have any control of the cause. The seller can delay the project of such reasons. Delay based on sellers action. The seller is responsible and pays for it with penalty.

Short project. Sellers presumptions Fixed contract price– Payment on delivery. Cost estimate Kr Contribution margin 30% Contract priceKr Duration of production 12 months Penalty 5 % per month Maximum penalty15% Fixed cost per year 7,5% Cost of capital 8% Inflation 4%

Sellers cost distribution Short production time

Affection of delay on profit Short production time

Relative effect of delay on profit Short production time

Sensitivity analyzes

Short project Buyers presumptions Investment – no delay Kr Operation cost per year Kr Markup 70% Lifetime 5 years Financial cost 6 % Fixed cost per year Kr Inflation 4% Return on capital20%

Distribution of income Fixed total income

NPV calculated from income distribution and delay.

Internal Rate of Return based on income distribution and delay.

Long project period. Sellers presumptions Fixed contract price – Payment on delivery. Cost estimate Kr Contribution margin 34,1% Contract price Kr Duration of production 3 years Penalty 2,5 % per month Maximum penalty15% Fixed cost (36 months) Kr Financial cost 8% Inflation 4%

Affection of delay on profit Long production time

Sensitivity analyzes

Affect on sellers presumptions

Long project. Buyers presumptions Investment – no delay Kr Operation cost per year Kr Markup 50% Lifetime 10 years Financial cost 8 % Fixed cost per year Kr Inflation4% Return on capital 20%

Distribution of income Fixed total income

NPV and IRR

Distributed payment. Long project Two payment series Four payments: Payment orderMonth.Percentage Dawn payment010,0% Payment # 21225,0% Payment # 32425,0% Final payment 3640,0% Four payments - 85% of earned value at each time

Sellers profit, Lump sum and distributed payments

NPV and distributed payments. The buyers side

Conclusions I Time and cost in projects have strong connection. Delay harm both seller and buyer. The buyers protection by using penalties protect him only if income is low in the delay period or the delay is short. It is of common interest that the production period is successful. The length of the production period and lifetime of the product does not influence the results strongly. Sensitivity for changes in presumptions increase with longer delay.

Conclusions II The distribution of the income affects the delay impact. More impact as the delivery is later in the product life- cycle. It is of great interest to study further interaction between distributed payment and profitability of projects. The impact of distributed payments are often higher than penalty. Distributed payment is of high value for the seller. Distributed payment cost the buyer more as the delay increase.

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