3 Page Essay - Civil and Environmental Engineering

1. Case study- Design Build Joint Ventures

A Client negotiated a design-build contract with a joint venture (JV) general contractor and

architect for the design and construction of a $100 million chemical manufacturing facility.

The project was constructed within a reasonable time frame and for a fair price. The quality

of the work was acceptable and there were not any lost-time safety incidents. The architect’s

and the contractor’s joint venture was dissolved immediately after substantial completion

was achieved and they had received their retention. In only six months after completion the

owner had achieved 90% of the production output potential and sales were higher than

anticipated. About that time, several employees began feeling ill and several citizens living

and working outside the mill filed a claim due to unacceptable odors coming from the plant.

The government shut the plant down. It was discovered that there was a major design error in

the mechanical exhaust system and it would cost the owner $10 million to re-design and

repair and maybe ten times this in lost revenue. There would eventually be personnel claims

as well due to illness. The owner took the designer to arbitration and won. The owner

separately took the contractor to arbitration and won on the basis that the general “should

have known” that the design was in error.

a) Does the owner have some responsibility in this? Why or why not?

b) Does this mean the design-build procurement approach is flawed? What measures can the

owner have to prevent such situations for a design-build project? Why?

c) Suppose you are a construction manager of the General contractor responsible for the

construction of the mechanical exhaust system. You received the drawings for the

mechanical exhaust system from the designer. You think some parts could be slightly

modified to enhance constructability and save construction costs significantly while

satisfying the design intent. The change could result in problems with a very low

probability such as unacceptable odors of the system. What would you do in this case?

Why?

2. Pro Forma

Trojan Builders (TB), a housing developer, is preparing a conceptual proposal for a new luxury

apartment complex in Culver City, California. TB has asked you to prepare a simple Pro Forma

for the complex. The apartment complex will include 50 rentable apartments, a swimming pool,

and a two-story underground parking garage. The estimated total project cost of construction is

$16 million. Discussions with the lending bank indicate the following data on a prospective

loan: maximum loan to value (LTV) ratio = 80%, capitalization rate = 10%, long-term debt

service rate = 8.00% (constant), and minimum debt service coverage = 1.5. The bank has a

policy of setting loan covenants that stipulate that if the borrower falls below the minimum debt

service coverage during any annual period, the bank may require the loan to be immediately

repaid in full. On the income side, TB plans on a lease rate of $4,000 per apartment per month

and additional income of $10,000 per month from the parking garage. Historical averages

indicate that this property should have a 6% vacancy rate and expenses will be 20% of adjusted

(for vacancy) gross annual income; this will include the annual lease payment for the long-term

ground lease for the property.

a) What is the maximum loan amount? Does this exceed the estimated construction costs? How should TB handle the difference between the loan amount and construction cost?

b) Assuming TB takes the full loan amount, what is the annual, long-term debt service? Will this fit within the bank’s required minimum debt service coverage ratio?

c) Assume the bank provides the full loan as calculated in a) above. What actual vacancy rate

would just cause the developer to fall below the required debt service coverage?

d) What are the primary risks TB faces in moving forward with this apartment complex

project? What recommendations would you make to reduce these risks?

Useful links:

Capitalization Rate - https://propertymetrics.com/blog/cap-rate/

Loan-to-value ratio - https://en.wikipedia.org/wiki/Loan-to-value_ratio

Debt-service coverage ratio - https://www.youtube.com/watch?v=2cFIwSgUOQM

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