Three Broad Contract Types | Velopi
Dedicated Project Management Professionals (PMPs©) will appreciate Project Procurement Management. They will understand the need to make build or buy decisions and will have learned about a whole range of different contract types in their PMP© courses. Following their PMP© training, they will base the build or buy decision on sound financial planning – is it cheaper to buy in or develop the item in-house? They will also consider organizational issues like core competencies – will the project team benefit from developing the sort of skills needed to build such a component?
However, the PMP© courses steer away from the main issue that haunts project managers: can we trust our suppliers? Will they deliver what they signed up for on the due date? Certainly the contract type chosen can help to transfer more of the risk to the supplier, but what problems are we likely to have with our suppliers and how can we ensure that they work in our best interest, as well as their own?
The PMP© exam requires candidates to be aware of three broad contract types: (1) fixed price contracts. These can have a variety of flavours including incentive fees and economic price adjustments. (2) Cost-reimbursable contracts, where everything the supplier spends is guaranteed and a fixed fee, an incentive fee or an award fee is added on top. Finally, (3) there are time and materials contracts, where the supplier invoices the buyer for the hours taken and the materials used.
From a buyer perspective, fixed price is best, whereas suppliers would much rather a time and materials contract. Depending on the industry you are working in, the likelihood of your project coming in on time and budget varies from being very likely to only likely if several miracles occur simultaneously. So, if the project manager has little confidence in the project team’s ability to deliver in time and on budget, is there any reason to suspect that a supplier is going to fare any better?
So, instead of approaching the sub-contracting task from a purely monetary viewpoint (award the contract to the lowest bidder), project managers need to consider more intangible aspects, such as the supplier’s ability to deliver a quality product. For instance, Ford probably thought it had negotiated a very good contract with Firestone but, by forcing the supplier to deliver at such a low price, Firestone was in turn forced to reduce the quality of its tyres. Both Ford and Firestone suffered when those tyres failed on many Ford Explorer light trucks.
A more helpful way to look at contracts is to consider them under the headings of (1) outcomes-based contracts and (2) behavioural-based contracts. In the former, success (and payment) is related to the quality of the final deliverable. Contracts with incentive or award fees fall under this heading. Behavioural contracts offers payment regardless of outcome. Time and materials, or even firm fixed-price, contracts fall into this heading.
We really should be aiming for outcome-based contracts, in order to focus the supplier’s attention on our interests. There are several factors we need to consider: (1) Goal conflict. Everyone on a project has a different agenda. The project manager wants to get things done within the Triple Constraint; the team members want to hone their skills and do interesting work. Outcome-based contracts help to focus everyone’s attention on what needs doing. PMPs© will also be delighted to learn that these contracts also discourage “gold plating” as it is clear what deliverables the supplier is getting paid to produce.
(2) Shirking. This can take two forms: loafing on the job – a big concern with time and materials contracts – and re-prioritizing tasks, so that they only do the interesting work. Clearly defined outcomes will overcome this. The agile practice of regular deliveries is an excellent way of focusing the team: We need to have these requirements satisfied in the next two weeks!
(3) Withheld information. Any project manager (whether a PMP© or not) will be nodding in agreement here. How many times have your team members under-estimated the time required and how often have they over-stated progress. Anyone who has managed a software project will recognize the 95% complete syndrome. Tasks arrive at the 95% mark reassuringly quickly, but then take significantly longer to get to 100%. Indeed this phenomenon is aptly summed up by the cartoon: “Software is: Never having to say you’re finished”. Dedicated PMPs©, who have embraced Earned Value Management to track progress will be distressed to learn that developers often work extra hours to get things done, without reporting them.
Finally factor (4) is task programmability. To be honest there is not much that can be done about this. In a creative environment, it is impossible to follow Frederick Wilmslow Tayler’s Scientific Management approach and specify each and every step in a design process. There needs to be an element of trust. In fact, trying to specify the job too closely can lead to problems with motivation.
In summary, contracting out work should not be regarded in an out-of-sight-out-of-mind fashion. Project managers will have to monitor the supplier’s progress and insist on regular milestones and deliveries – what PMP© courses call Control Procurements. Choosing suppliers that use agile development techniques will satisfy these requirements by having close contact with the customer all the way through the project. The important point with procuring services from a third-party is that the project manager is still responsible for these deliveries and needs to ensure that they happen – a laissez-faire approach is not the way to go.
Velopi’s project management training courses cover Project Procurement Management and all the other PMP© knowledge areas. If this area is intriguing for you, you might consider one of our project management certification courses that are held online in our virtual classroom. Find out more by visiting our training page or by contacting us directly.
#3467 - 12/2020 - 08/2022