Perfecting procurement for mining capital projects

I recently wrote about how alternative delivery models and placing greater emphasis on teams could benefit the outcomes of large-scale capital projects in the mining industry.

But there are plenty of other areas that are also ripe for improvement. Procurement processes and materials management are two particularly low hanging fruits.

Ken Murray, is founder and CEO of Captrics Consulting which was established to improve the service offering in the project management, project engineering and innovation sector of the mining industry.

He is also vice president for engineering at Inspire Resources, has more than 20 years’ experience in capital projects management, consulting, innovation and technology.

Murray is currently setting up a new business offering with procurement solutions that bridge the gap left by current project delivery models, and he kindly offered to talk me through the opportunities.

“You can see procurement through two lenses,” Murray told me. “One is operational procurement, where you’re buying widgets and consumables on a daily basis. That’s typically done by the mine owner’s team and it’s very different to project procurement.”

Project procurement typically involves buying large, one-off, high risk, heavily-engineered pieces of equipment. By nature, they require a lot of specialist attention and maintaining teams with that capability within the owner’s skillset doesn’t make much sense, because projects are transitory.

That’s why procurement is usually outsourced either as part of an engineering, procurement, construction management (EPCM) contract, or a lump sum engineering, procurement, construction contract (EPC). There could also be an engineering and procurement (EP) variant delivered on a fixed price or as-a-service basis.

“EP has been a recent development,” Murray explained. “I did a project two or three years ago where an OEM was supplying the entire engineering and procurement package.

“They didn’t even have one of their own pieces of equipment in the project, which was interesting. We then provided a wraparound engineering team, and a procurement team.”

Understanding procurement for projects

EPCM contracts are typically used when flexibility is required, and governance is the key driving factor.

If a mining company hasn’t fully detailed what a project’s going to look like in the feasibility study such that very few changes are expected, then they would usually select an EPCM delivery model, because it allows them to make different decisions without being hit with change notices.

With EPCM, the owner has more involvement in making decisions and setting the expectations for quality. So, this approach tends to be used by larger or more established mining companies on larger-scale projects.

In contrast, the EPC approach is often used on smaller projects, because it’s done on a lump sum basis and delivers certainty on the price.

With an EPC contract comes a specialised team which is set up to handle procurement on an ongoing basis across multiple projects and build relationships to drive down costs. However, because of the lump sum nature, any savings generated go straight into the contractor’s pocket.

“On one hand, there is the EPCM model, where there’s no real incentive to drive down costs, because it’s governance driven,” Murray explained. “And, on the other, is the EPC fixed price approach. Where the contractor does great things but the benefits of that go into their own pocket.

“In each of those scenarios, the owner is losing out on opportunities to pocket savings. What we are trying to do is create a middle option where we can bring those same negotiating skillsets, relationships and technical abilities to drive down costs, but we share the savings with the owner.”

Challenges & opportunities

While both the EPCM and EPC models carry challenges, they also offer opportunities for improvement.

The EPCM model, for example, is highly commoditised. Because it’s governance driven, it produces a lot of paper that doesn’t necessarily add value.

“There’s a lot of opportunity to cut that down, and focus only on what’s valuable,” said Murray. “These trailers full of documents that vendors are asked to deliver, some of them don’t even get looked at, so why bother producing them?”

On an EPCM project, the procurement team is transitory – once the project finishes, the team move on to another – so there’s very little consistency. This also means that there’s probably no supplier performance database or pricing structures being maintained.

There’s lots of opportunity to build data around supplier performance and build longer-term relationships with vendors.

“The EPC approach is very rigid, and the challenge there is that you need a lot more project definition before you start construction,” Murray told me.

“Typically, the level of detail in the feasibility study is not adequate to contract out on an EPC basis. Which is why these contractors spend about four months building out that level of detail, sitting with clients and understanding the ins and outs of a project before starting.

“Once that’s locked down, it forms the basis of the contract and sets the quality level for procurement. Any deviation to that incurs change orders which then get priced higher than they would with the EPCM model.

“If you don’t have that baked in properly at the start, you expose yourself to a lot of risk. Unfortunately, a lot of owners don’t understand this.”

Splitting out the procurement function

Both approaches are also limited by the number of engineers and procurement specialists the contractor has to run its projects.

A smallish, let’s say, US$100 million job, will usually have a procurement team of three or four people, while a $1 billion project would probably have at least 10 people. A large contractor might have four or five capital projects running at any one time.

“There’s definitely an opportunity to split out the procurement portion of these contracts and bring in specialists who can increase the contractor’s capacity substantially, create scale, and increase effectiveness,” said Murray.

“And not just across projects within an organisation, but across multiple different organisations. Companies can take that to market and create the buying power that they need to drive down costs as well.

“The other thing I want to mention is the siloed nature of departments within contracting firms. The engineering department is primarily responsible for the technical aspects; if they haven’t specified something, then procurement isn’t buying it.

“The procurement team are the only ones who are allowed to engage with the market. Traditionally, there is a separation between engineering and procurement teams so that engineers aren’t biased on pricing. However, in doing so, this entirely divorces engineers from costs.”

This can create a situation where the engineers lose touch with the broader project goals in terms of costs. Because there’s little ability for the procurement teams to push back, the engineers will often over-spec things and that goes unquestioned by the procurement team.

They will then take that specification to a vendor who doesn’t want to lose out, and so they also won’t question it, they just offer the best price they can. This ends up in the budget being blown; a situation that could be easily avoided through better communication.

“I’ve had a couple of conversations with vendors and suppliers,” Murray added. “All of them have said that if the engineers could speak to them in advance, they could work together to find the best solution that fits their needs.

“But because the engineers are divorced from engaging with suppliers, they’re not able to do that. And so, inadvertently they’re either over-speccing project, or speccing something that is not standard. That loop never gets closed, and so the costs just rack up.

“For example, try asking an engineer from an EPCM what their budget is. They will probably be able tell you how many hours they’re allowed to spend on engineering, but they probably won’t have any idea of the budget for the items they’re designing.

“That’s contrary to the basic principles of design where you need to consider the budget and available materials in your design. The result is engineers that don’t have any regard for the budget which ends up with budget overruns.”

Murray’s first experiences in EPCM were in the South African market where things are done very differently to in North America. There, the engineer is assigned overall responsibility for delivering a procurement package from start to finish including engineering, procurement, construction and commissioning. That includes cost and schedule responsibility.

“It doesn’t mean that they execute every last detail by themselves, but they are supported by specialists that do and are held accountable for delivering it in totality,” he explained. “Those ‘package engineers’ end up being really focused on the big picture and drive cost savings through smart engineering and procurement.

“I’ve found that approach is frowned upon in North America where heavy-handed governance and separation of accountability are prioritised overachieving value. I’m trying to bring elements of my prior experience and blend it into a model that senior management will still recognise and feel comfortable with.”

Tools for improvement

To overcome these challenges requires two things.

Firstly, integration. We need to break down department siloes and focus more on the overall project goals, rather than goals for specific disciplines. And second, we need to place more focus on value.

“This speaks a bit more to purpose, and Lean approaches,” Murray explained.

“Why are we doing things this way? We can definitely improve the process. One way, which I spoke to earlier, is to utilise specialist consultants who have both technical and procurement skills and can play both sides of the fence… who can interact with vendors and be a broker for optimising cost-effective solutions.

“We also need to work with vendors on a more collaborative basis to understand what the constraints are on their side. What is standard, what’s not standard, and tailor project engineering and specifications to fit that. So that you can select the lowest cost solution but also one that’s fit-for-purpose.”

Digital technologies can also offer efficiency gains. For example, through reducing paperwork and formalising supplier performance tracking.

“I’ve seen very little of this [supplier performance tracking] in EPCMs specifically,” said Murray. “Individuals in companies know which vendors they’ve used over the past ten years and the pricing they gave, but that information tends to get lost in the broader business in a realm of about a three-year rolling wave of staff turnover.

“Technologies offer the chance to track and analyse their pricing and performance. You can also develop standard pricing tables with vendors that are used repeatedly. This significantly reduces the amount of effort up front on a new project.”

Material tracking also offers efficiency improvements.

“On large projects, tracking materials and being able to release payments, and feed construction teams is a big interface between the procurement team and the construction team,” said Murray.

“It’s often very poorly managed, but technology can provide that transparency to the construction team that a certain piece of equipment or material will arrive on a certain date. If they see a problem, they can start to expedite that, and if something gets lost, they can pick it up a lot quicker.”

Barcodes, GPS tracking devices, RFID tags… all these technologies have been available for some time but, for some reason, there’s been push back on their adoption to date.

“If you look at how quickly technology is moving, the cost of these things has reduced massively over the past couple of years,” said Murray. “Today, there’s no excuse for not using one of the myriad out there. It’s really an educational issue around how to integrate that into your processes and make them work for you.”

Because of the way mining projects work, it’s also hard to find the time and resources for optimisation. Everyone lands on the project at once and, naturally, wants to get down to work straight away.

“To expect these teams to find and implement new technologies during projects is really not going to result in optimal outcomes,” said Murray. “That sort of stuff needs to happen outside of that. EPCMs need to invest in themselves to improve their ability to do that.

“I’ve seen two or three EPCMs try this to a limited extent, but there is no real incentive. However, on the EPC side, where time equals money, and that is impacting these companies pockets, they’re a little more eager to get that instituted.”

Creating a middle ground

Having seen a gap in the market for a specialised procurement consultancy, Murray is currently setting up a new offering within Captrics.

“I’ve connected with some really experienced veterans of the procurement industry,” he told me. “One from a large EPC company that’s been in oil and gas, and mining. He’s had 30 years in the game. We got chatting about this topic and identified the same opportunities.

“There’s another guy as well who’s worked for a fit-for-purpose EPCM here in Toronto, and he’s also talking the same language.

“Together, we’ve been making notes on all these opportunities and refining a business plan which applies that Goldilocks, ‘just right’ approach. It provides top notch procurement expertise that is incentivised to generate savings and build long-term strategies to support projects.

“We’re going to offer a cost-sharing model so that we, ourselves, participate in those savings and are incentivised to find them within the confines of ethical business practice and long-term relationship building. But the owners will take the lion’s share because they’re taking the majority of the risk.”

I love the Goldilocks analogy! I said.

“Well, that’s what it is. It’s just right,” said Murray with a chuckle.

“I think there’s a lot to be gained from improving typical procurement activities in terms of engaging with vendors and so on. But beyond that, there’s this integrational piece, and a technical capability piece which are key to unlocking even further savings.”