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contract types

By: wangdi9605

In addition to choosing a delivery method for a project, the owner must decide what type of contract to use. A contract is simply an agreement between two or more people in which a person agrees to perform or provide a specific task or service to another person in exchange for something in return. The contract type, like the delivery method, is an important choice for the owner because it addresses project risk. Here we discuss three basic types for contracts: single fixed price, unit price, and cost plus a fee.
Single Fixed Price
In a single fixed price contract, also called a lump sum, the contractor agrees to provide a specified amount of work for a specific sum. Both parties try to fix the conditions of the project as precisely as possible because once the contract is signed, both parties must live with its term.
The advantage of this contracting method is that the owner knows before the work begins what the final cost of the project will be. It is usually used with the traditional delivery method. The designer prepares a complete set of contract documents, which the owner then either bids out or negotiates with a contractor. A final contract amount is agreed to, and the work begins.
The risk for the owner is that the contract is only as good as the accuracy of the contract documents. If the scope of the project changes or if errors exist in the documentation, the contract will need to be renegotiated, possibly exposing the owner to increased costs. Moreover, negotiating or bidding a complete set of contract documents takes time and prevents construction from beginning until the design work is complete, a problem endemic to the traditional method of delivery. This eliminates the possibility of a fast-tracked project.
In sum, this contracting method combined with a traditional delivery method allows the owner to define and commit to an agreed-upon project description and dollar amount before the work begins. For owners who want to minimize risk on a project that can be clearly defined( that is , has few unforeseen conditions), this type of contracting method is a good fit. The owner must understand that the process will take longer and that changes caused by mistakes, unknowns, or changes in owner requirements will jeopardize the agreement.
Unit Price Contract
In a unit price contract the owner and the contractor agree on the price that will be charged per unit for the major elements of the project (see Figure 4.9). The owner/designer typically provides estimated quantities for the project, asking contractors to bid on the job by figuring unit prices for these items and calculating a final price. Contractor overhead, profit, and other project expenses must be included within the unit prices. The owner then compares the final price and selects the low bidder.
The advantage of this contracting method is that in many projects (for example, heavy engineering projects) it is difficult to accurately quantify the work necessary. In excavation work it is often difficult to figure the actual amount of rock versus earth that must be excavated. To eliminate risk to both the owner and the bidders, the designers estimate quantities and then ask the bidders to provide a unit price for each type of excavation. Payments will be based on multiplying the actual quantities excavated by the unit price.
This contracting method provides the owner with a competitive bid situation that allows for a fair price for the work. It also eliminates the risk of negotiating a fixed price but then having to renegotiate because of unexpected site conditions. With this contracting method, work can begin before the design is complete, thus speeding up the project.
EstimatedBidder 1Bidder 2
Work ItemsUnitQuantityUnit PriceBid AmountUnit PriceBid Amount
Soil excavationCubic yard10,000 5.50 $55,000 2.00 $20,000
Rock excavationCubic yard3,000 25.00 $75,000 25.00 $75,000
6" pipeLinear foot600 17.00 $10,200 18.00 $10,800
Crushed stone fillCubic yard4,000 21.00 $84,000 20.00 $80,000
Fill materialCubic yard6,000 14.00 $84,000 20.00 $120,000
Topsoil 4" deepSquare yard400 5.00 $2,000 6.00 $2,400
Total$310,200  $308,200
Bidder 2 wins the job with the $308,200 total price
Figure 4.9 unit price example
However, if actual quantities are significantly different from estimated quantities, the owner's financial commitment may be greater than planned. Mistaken quantities also expose the owner to an unbalanced bid, increasing the project's costs (see Figure 4.10). Significantly unbalanced bids border on being unethical and in some cases can be rejected, or the unbalanced work items can be deleted by a change order.
With a unit price contract, actual quantities must be measured in the field, requiring the owner's presence on the site to work with the contractors. Delivery tickets and other invoices must be checked and validated. Final contract price is not known until the last item of work is measured and invoiced by the contractor.
 Estimated QuantityBid price Actual quantityAmount Paid
Soil excavation10,000 $20,0008,000$16,000
Rock excavation3,000 $75,0003,000$75,000
6" pipe600 $10,800600$10,800
Crushed stone fill4,000 $80,0004,000$80,000
Fill material6,000 $120,0007,000$140,000
Topsoil 4" deep400 $24,000400$24,000
Total $308,200 $324,000
Assume Bidder 2, in Figure4.9, knew that the soil excavation quantity provided was high and the fill material quantity provided was low. By providing a low unit price for soil excavation and a high unit price for fill material, Bidder 2 earns an additional $16,000.
Figure 4.10 -----Unbalanced bid (Bidder 2)

In sum, heavy engineering projects such as earth dams, dredging operations, and underground utility work are often accomplished with a unit price contract since the quality of the work can be defined but the actual quantities are difficult to determine in advance. The owner risks not knowing the actual price until the work nears completion, but this disadvantage can be minimized by good design support. work nears completion, but this disadvantage can be minimized by good design support. For example, good subsurface exploratory work can help predict actual quantities in advance. An owner presence in the field is necessary to verify quantities and authorize payments. However, with a good estimate of actual quantities and with adequate funding, work can begin before final design is complete, thus saving project time.
Cost plus a Fee
In a cost plus a fee contract arrangement(also called a reimbursable or a time and materials contract), the contractor (and usually the designer) is reimbursed by the owner for his or her work costs and receives an additional agree-upon fee or a fee that is a percentage of costs. It is important for the owner to spell out clearly in advance what costs will be reimbursed and which costs will be covered by the fee.
This contract makes sense when the scope of the project is difficult to define or when it is important to fast-track the project. The contractor can start work without a clearly defined project scope since all costs will be reimbursed and a profit guaranteed. This type of contract also allows the contractor, designer, and owner to work collaboratively early in the design/build process, encouraging value engineering and good estimating and scheduling support.
A variation of this type of contract is called a guaranteed maximum price (GMP). Here the contractor is reimbursed at cost with an agreed-upon fee up to the GMP (essentially a cap).After this point the contractor is responsible for any additional costs. The contract commonly includes an incentive clause, which specifies that the contractor will receive additional profit for bringing the project in under the GMP.

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