Risk perception and Bayesian analysis of international construction contract risks: The case of payment delays in a developing economy

Abstract

Although subjective probabilities and Bayesian methods are applied successfully in other industries to manage “subjective” risks similar to those encountered in construction contracts, very little is reported on the application of such methods for analysing construction contract risks, which are generally subjective in nature. Predominant industrial practice seems to be the use of arbitrary contingency figures, which are often subject to individual perceptions of risks, to give an overall impression of contract risks. This paper presents an application of an expert elicitation model and Bayesian methods to the analysis of the risk of payment delays in international contracts set in a developing economy, and a determination of how differing perceptions about risks affect estimates about the risk. Expert opinions about the risk of payment delays in an international contract set in Ghana are transformed into prior distributions about the risk using the relative likelihood method and combined with sample information about the risk for a Bayesian analysis of the risk. Results of the study validates the elicitation model applied and reveal that although construction professionals to have difficulty estimating intermediate and tail values of probability distributions, expert elicitation and Bayesian analysis can be applied to construction contract risks, as part of a more systematic management of contract risks, to achieve better rigour in risk analysis. It further confirms the assertion that differences exists in the belief functions and hence the risk estimates of experts from different socio-cultural backgrounds. Effective strategies for systematically analysing contract risks in international contracts must therefore consider the impact of risk perception in the risk management process.