Analysis Of Budget Contingency And The Reasons It Might Be Useful

A contingency plan is an alternative plan that will be used if a possible foreseen risk in event becomes a reality. The contingency plan represents actions that will reduce or mitigate the negative impact of the risk event, while a contingency plan is not part of the initial implementation plan and only goes into effect after the risk is recognized.

The absence of a contingency plan, when a risk event occurs, can cause a manager to delay or postpone the decision to implement a remedy. This postponement can lead to panic, and acceptance of the first remedy suggested. Such after-the-event decision making under pressure can be potentially dangerous and costly. Contingency planning evaluates alternative remedies for possible foreseen events before the risk event occurs and selects the best plan among alternatives. This early contingency planning facilitates a smooth transition to the remedy or work-around plan. The availability of a contingency plan can significantly increase the chances for project success.

Conditions for activating the implementation of the contingency plan should be decided and clearly documented. The plan should include a cost estimate and identify the source of funding. All parties affected should agree to the contingency plan and have authority to make commitments. Because implementation of a contingency plan embodies disruption in the sequence of work, all contingency plans should be communicated to team members so that surprise and resistance are minimized.

Here is an example: A high-tech niche computer company intends to introduce a new “platform” product at a very specific target date. The project’s 47 teams all agree delays will not be acceptable. Their contingency plans for two large component suppliers demonstrate how seriously risk management is viewed. One supplier’s plant sits on the San Andreas Fault, which is prone to earthquakes. The contingency plan has an alternative supplier, who is constantly updated, producing replica of the component in another plant. Another key supplier in Toronto, Canada, presents a delivery risk on their due date because of potential bad weather. This contingency plan calls for a chartered plane (already contracted to be on standby) if overland transportation presents a delay problem. To outsiders these plans must seem a bit extreme, but in high-tech industries where time to market is king, risks of identified events are taken seriously.

The first step is to identify whether to reduce, share, transfer, or accept the risk. The team decided to reduce the chances of the system freezing by experimenting with a prototype of “bugs” before the actual installation, but it also yields information that could be useful in enhancing acceptance by end-users. The project team is then able to identify and document changes between the old and new system that will be incorporated in the training the users receive. The risk of equipment malfunctioning is transferred by choosing a reliable supplier with a strong warranty program.

The next step is to identify contingency plans in case the risk still occurs. For example, if interface problems prove insurmountable, then the team would attempt a work-around until vendor experts arrived to help solve the problem. If the system freezes after installation, the team will first try to reinstall the software.

If user dissatisfaction is high, then the IS department will provide more staff support. If the team is unable to get reliable equipment from the original supplier, then it will order a different brand from a second dealer. The team also needs to discuss and agree what would “trigger” implementation of the contingency plan.

In the case of the system freezing, the trigger is not being able to unfreeze the system within one hour or, in the case of user backlash, an angry call from top management. Finally, the individual responsible for monitoring the potential risk and initiating the contingency plan needs to be assigned. Smart project managers establish protocols for contingency responses before they are needed. Some of the most common methods for handling risk are discussed here.

Technical Risks

Technical risks are problematic; they can often be the kind that cause the project to be shut down. What if the system or process does not work? Contingency or backup plans are made for those possibilities that are foreseen. For example, Carrier Transicold was involved in developing a new Phoenix refrigeration unit for truck-trailer applications. This new unit was to use rounded panels made of bonded metals, which at the time was new technology for Transicold. Furthermore, one of its competitors had tried unsuccessfully to incorporate similar bonded metals in their products. The project team was eager to make the new technology work, but it wasn’t until the very end of the project that they were able to get the new adhesives to bond adequately to complete the project. Throughout the project, the team maintained a welded-panel fabrication approach just in case they were unsuccessful.

If this contingency approach had been needed, it would have increased production costs, but the project still would have been completed on time.

Schedule Risks

Often organizations will defer the threat of a project coming in late until it surfaces. Here contingency funds are set aside to expedite or “crash” the project to get it back on track. Crashing, or reducing project duration, is accomplished by shortening (compressing) one or more activities on the critical path. This comes with additional costs and risk. Some contingency plans can avoid costly procedures. For example, schedules can be altered by working activities in parallel or using start to- start lag relationships. Also, using the best people for high-risk tasks can relieve or lessen the chance of some risk events occurring.

Cost Risks

Projects of long duration need some contingency for price changes — which are usually upward. The important point to remember when reviewing price is to avoid the trap of using one lump sum to cover price risks. For example, if inflation has been running about 3 percent, some managers add 3 percent for all resources used in the project. This lump-sum approach does not address exactly where price protection is needed and fails to provide for tracking and control. On cost sensitive projects, price risks should be evaluated item by item. Some purchases and contracts will not change over the life of the project. Those that may change should be identified and estimates made of the magnitude of change. This approach ensures control of the contingency funds as the project is implemented.

Reduces Bad Public Relations

Even if you’re a small local business and your operating problems won’t make headlines in your town’s newspapers, competitors might start spreading rumors and customers might start to worry if you run into serious trouble. A contingency plan that helps you address a problem or get back on your feet allows you to communicate your response to a problem to relieve any concerns that problem might create. For example, if a key employee leaves, your contingency plan should include having a successor identified or a qualified substitute ready to fill in, even temporarily. This will allow you to let stakeholders know your employee’s departure will not affect your operations, that you will have a full-time replacement in position within a short time and that you have position covered until that time.

Hold Steady, Even in Disaster

Having a contingency plan means that, when the unexpected happens, your business can maintain the best state of operations possible, depending on the severity of the disaster. Instead of going bankrupt when your building gets struck by a tornado, the disaster relief insurance you purchased can cover major costs, for example. According to an article by Darrell Rigby for "Forbes," the New York Board of Trade saved itself by building a second trading floor outside of the World Trade Center. This terrorism contingency plan kept the board healthy and in business, despite the attacks that took place on Sept. 11, 2001.