Chapter 5

Contract Management

Maru Shete (PhD and Assoc. Prof.)

 Outline

Concept and definition of contract

Types of project contract

Project contract management
 Concept and Definition

Contract is simply an elaborated agreement between two or more
parties. One or more parties may provide products or services in return to
something provided by other parties (client).

Contract management,
management also referred as contract administration,
administration is the
process of systematically and efficiently managing contract creation,
execution and analysis for maximising operational and financial
performance and minimising risk.

It refers to the processes and procedures that companies may implement
in order to manage the negotiation, execution, performance,
modification and termination of contracts with various parties including
customers, vendors, distributors, contractors and employees.

While business people often dismiss contract preparation as “lawyer’s
work, contracting is actually one of the crucial activities that determines
the success of any business arrangement.

A number of definitions of contract management refer to postpost--award
activities.
activities

Successful contract management, however, is most effective if upstream
or pre-
pre-award activities are properly carried out
out.
 Importance of effective contract
management
 It is worthwhile noting that contract management is
successful if:
– the arrangements for service delivery continue to be satisfactory
to both parties, and the expected business benefits and value for
money are being realised
– the expected business benefits and value for money are being
achieved
– the supplier is co-operative and responsive
– the organisation understands its obligations under the contract
– there are no disputes
– there are no surprises
– a professional and objective debate over changes and issues
arising
– efficiencies are being realised.
 Types project contract

Contracts are used for establishing business
deals and partnerships. The parties involved in
the business engagement decide the type of
the contract.

The type of the contract used for the business
engagement varies depending on the type of
the work and the nature of the industry.

The contract type is the key relationship
between the parties engaged in the business
and the contract type determines the project
risk.
 Cont...
The most widely used contract types are:
1. Fixed Price (Lump Sum):

The service provider agrees to provide a defined
service for a specific period of time and the client
agrees to pay a fixed amount of money for the service.

This is the simplest type of all contracts. The terms are
quite straight forward and easy to understand.

This contract type may define various milestones for
the deliveries as well as Key Performance Indicators.
Indicators
In addition, the contractor may have an acceptance
criteria defined for the milestones and the final
delivery.

Advantage: the contractor knows the total project
cost before the project commences.
 Cont...
2. Unit Price

In this model, the project is divided into units and the
charge for each unit is defined. This contract type can
be introduced as one of the more flexible methods
compared to fixed price contract.

Usually, the owner of the project decides on the
estimates and asks the bidders to bid of each element of
the project.

After bidding, depending on the bid amounts and the
qualifications of bidders, the entire project may be
given to the same service provider or different units
may be allocated to different service providers.

Advantage: different project units that require different
expertise to complete can be awarded to different
bidders.
 Cont...
3. Cost Plus

A contract model by which the services provider is
reimbursed for their machinery, labour and other
costs, in addition to client paying an agreed fee to
the service provider (Contractor).

In this method, the service provider should offer a
detailed schedule and the resource allocation for the
project. Apart from that, all the costs should be
properly listed and should be reported to the
periodically.

The payments may be paid at a certain frequency
(such as monthly, quarterly) or by the end of
milestones.
 Cont...
4. Incentive

There are three cost factors in an Incentive contract;
target price, target profit and the maximum cost.

The main mechanism of Incentive contract is to divide
any target price overrun between the client and the
service provider in order to minimize the business risks
for both parties.

This type of contracts are usually used when there is
some level of uncertainty in the project cost. Although
there are nearly-accurate estimations, the technological
challenges may impact on the overall resources as well
as the effort.

This type of contract is common for the projects
involving pilot programs or the project that harness new
technologies.
 Cont...
5. Retainer (Time and Material - T&M)

This engagement type is the most risk-free type where the
time and material used for the project are priced.

The client only requires knowing the time and material for
the project in order to make the payments.
payme

A retainer fee may be paid on a fixed, pre-negotiated rate or
on a variable hourly rate depending on the nature of
retainer and also, the practice of the professional being
retained.

This type of contract has short delivery cycles, and for each
cycle, separate estimates are sent of the contractor.

Once the contractor signs off the estimate and Statement of
Work (SOW), the service provider can start work.

Unlike most of the other contract types, retainer contracts
are mostly used for long-term business engagements.
 Example of a Retainer Contract
By signing this agreement, ____________________ (“Client”) has retained
____________________ (“Service Provider”) to proceed with graphic design
services for the period ____________________ to ____________________, and
agrees to the terms and conditions as set forth in this Agreement. During this
period, Service Provider agrees to devote up to ____________________ hours per
month on assignments to be determined by Client. Work will normally be
performed at the offices of Service Provider, but occasionally may take place at
other locations, as required. Work priority and scheduling will be at the discretion
of Client. Work will normally occur between the hours of ____________________.
Payment for these services will be to Service Provider at the rate of
$____________________ per month and will be made for the following month no
later than the 30th day of each month that this agreement is in force. No invoice
will be submitted. Design services in addition to hours per month will be made
available by Service Provider at the rate of $____________________ per hour and
will be billed separately. Consulting services will be billed separately at the rate of
$____________________ per hour. Any expenses exclusive of normal overhead are
not included in this agreement and will be billed separately. Examples of such
expenses are: delivery services, long-distance telephone calls, travel beyond 50
miles from Service Provider facilities, and meals when traveling. All invoices will
be net 30.
 Cont...
6. Percentage of Construction Fee

This type of contracts is used for engineering projects.
Based on the resources and material required, the cost
for the construction is estimated.

Then, the client contracts a service provider and pays a
percentage of the cost of the project as the fee for the
service provider.

As an example, take the scenario of constructing a
house. Assume that the estimate comes up to $230,000.

When this project is contracted to a service provider,
the client may agree to pay 30% of the total cost as the
construction fee which comes up to $69,000.
 Final Remark
• It is always good to engage in fixed bids (fixed
priced) whenever the project is short-termed
and predictable.
• If the project nature is exploratory, it is
always best to adopt retainer or cost plus
contract types.
 Steps in Contract Management
1. Procurement Planning
– Go through your entire project, analyze and identify
any services that might be met by organization
outside yours.
– This means that the manager will need to figure out
which of their needs could be met by which other
parties outside their own business.
– There may be several individuals/organizations that
could potentially meet your needs.
– This part of the process involves figuring out who is
best for the job.
– Better understanding of the needs of the job,
improves selection of the right outside company.
 Steps Cont...
2. Getting Ready

This is the second ‘preliminary phase’ of contract
management in which the manager prepares all the
documents that will be needed in order to conduct
business with outside parties.

It is also very important that during this period to
decide on the approach:
1) sealed bids: the outside party makes a single final offer on
the contract
2) openly negotiated proposal: when there is a back and
forth discussion between the manager and outside party

The manager needs to set up internal evaluation
criteria that will describe how to judge the different
bids or proposals coming in.
 Steps Cont...
3. Solicitation

In the third stage, the contract manager opens the floor
to bids and proposals from outside parties.

At this stage of contract management, it is important
to review all the bids and proposals that are submitted
following the call using the internal evaluation
criteria prepared.
4. Source Selection

After a full review of the bids/proposals following the
evaluation criteria, it is time to make a sound choice.

Once you begin final discussions with the contractor
selected it is important to acquire independent cost
estimates from them as well.

No one should be in the dark about any aspect of the
project or contract.
 Steps cont...
5. Contract Administration

Overall administration of the contract is
necessary for a good process of contract
management once the contract has been signed
and the work has begun.

It is necessary that both parties live up to the
agreement in full.

As a manager it is within your right to conduct
risk monitoring, performance measuring, and
milestone reviews.

This ensures that the work being done is as good
as promised, which is a key factor in the
management process.
 Steps cont...
6. Contract Closeout

Once the job is completed, close out the
contract.

However, before doing so, make sure to
document performance standards and process
all final payments.

A retention payment is withheld from the
service provider to check quality delivery.

Finally, remember to engage in a post-contract
audit. Good project management requires a
high level of people skills.
 Challenges in contract management
1. The process of preparing and launching of contract management in an
organization can take years. Managing contracts manually and in an ad-hoc
manner is resulting in higher risks and costs.
2. Global contracts: A number of factors, ranging from differences in language
and how words are interpreted, to unique business practices can complicate
global contracts, making it difficult to ensure that sufficient understanding is
established between parties.
3. Measuring contract performance: Businesses need to know if their
contractual obligations are being followed and deadlines are being met.
– Contract leakage: occurs if individuals, obligated to act upon the detailed
agreement in a contract, are unaware of the specifics of their agreement.
agreement
While a manager may fully understand a contract’s details at the time of
execution, remembering obligations months later is a difficult matter.
– Without a structured way to identify contract events and tie them to a
calendar or to reminders that prompt action:
o missed deadlines,
o potential penalties, and
o missed incremental revenue opportunities can become the norm.
 Challenge cont...
4. Managing scattered data:
– If data is contained in different locations, it can be
difficult to locate and to associate one document to
another. This can create problems if you need to
review multiple documents pertaining to a certain
contract (amendments), or review different versions
of the same document, and they are not together.
– Even if documents are digitized, if they are in
different environments they can be difficult to locate
or to access.
5. Lack of contractual risk assessment
– Develop contract exit strategy if satisfactory
performance not ensured due to various reasons
The End!!!