Project Contracting - Politecnico di Torino PDF

Politecnico di Torino Construction project management Project contracting Instructor: Dr. Timur Narbaev, PhD, PMP®, A.M.ASCE Office: DIGEP dept, 5th floor Email: [email protected]...

Politecnico di Torino Construction project management Project contracting Instructor: Dr. Timur Narbaev, PhD, PMP®, A.M.ASCE Office: DIGEP dept, 5th floor Email: [email protected] Meeting request: By an email appointment Copyright © 2023 The slides are to Drs. Narbaev, T., De Marco, A., Politecnico di Torino, © 2013 John Wiley & Sons, Inc unless stated otherwise  Reading § Kerzner book, 11th ed., chapter 19 § De Marco book, 2nd ed., chapter 2 § PMBOK® Guide, 6th ed., Process groups, Knowledge areas in Chapter 1  Course topic map Course topic map (the PM BoK guide, 6th ed.) PROJECT MANAGEMENT PROCESS GROUPS KNOWLEDGE AREAS Initiating PG Planning PG Executing PG Monitoring and control PG Closing PG 4. Project integration 4.1. Develop 4.2. Develop PM plan 4.3. Direct and manage project work 4.5. Monitor and control project 4.7. Close mng project 4.4. Manage project knowledge work project or phase charter 4.6. Perform integrated change control 5. Project scope mng 5.1. Plan scope mng 5.5. Validate scope 5.2. Collect requirements 5.6. Control scope 5.3. Define scope 5.4. Create WBS 6. Project schedule mng 6.1. Plan schedule mng 6.6. Control schedule 6.2. Define activities 6.3. Sequence activities 6.4. Estimate activity durations 6.5 Develop schedule 7. Project cost mng 7.1. Plan cost mng 7.4. Control costs 7.2. Estimate costs 7.3. Determine budget 8. Project quality mng 8.1. Plan quality mng 8.2. Manage quality 8.3. Control quality 9. Project resource mng 9.1. Plan resource mng 9.3. Acquire resources 9.6. Control resources 9.2. Estimate activity resources 9.4. Develop team 9.5. Manage team 10. Project 10.1. Plan communications mng 10.2. Manage communications 10.3. Monitor communications communications mng 11. Project risk mng 11.1. Plan risk mng 11.2. Identify risks 11.6. Implement risk responses 11.7. Monitor risks 11.3. Perform qualitative risk assessment 11.4. Perform quantitative risk assessment 11.5. Plan risk responses 12. Project procurement 12.1. Plan procurement mng 12.2. Conduct procurements 12.3. Control procurements mng 13. Project stakeholder 13.1. Identify 13.2. Plan stakeholder engagement 13.3. Manage stakeholder 13.4. Monitor stakeholder mng stakeholders engagement engagement  Main learning outcomes § Know how to build contractual relationship, finance the project, and to award the contract  Content § Project management organization § Project delivery systems § Traditional, Design/Build, Construction management, Turn-key, BOT § Payment schemes § Time&Material, Unit prices, Cost plus kinds, Guaranteed Maximum Price, Lump-sum § Award mechanism (Bidding, cap, negotiation)  Project management organization Internally: Externally: PM organizations (covered as Contract organization (the topic part of organizations structures) of this lecture)  Contract organization Owner’s organization OWNER OWNER PM CM organization CONSULTANT (3rd party PM) Contractor’s organization CONTRACTOR CONTRACTOR PM  Contract organization § Project Delivery Method § How relationships are built § Payment Scheme § How a project is financed § Award Mechanism § How a contract is awarded  Contract organization § The procurement contract is the contract under which a party assumes, with the organization of the necessary means and the management at their own risk, the completion of a work or service towards the cash consideration § The two contracts of sale and tender clearly differ from each other: § with the contract of sale a mere transfer of something already existing is realized (obligation to GIVE) § with the tender contract and work performance something not yet existing at the time of the stipulation or execution of a service is realized, the final results of all the necessary activities of processing and/or elaboration (obligation to DO)  Contract organization Contracting parties OWNER CONTRACTOR Contract Obligations – Commitments – Actions Payments Respect of: Testing times Taking over characteristics Management quality  Contract organization § From the operative perspective, the procurement contract is the result of 4 main components: 1. Scope (design, financing, build) 2. Organization (delivery system) relationship between contracting parties 3. Type (payment mechanism) form of payment 4. Award method of assignment § The definition above applies to both contracts between private law subjects and for those between public entities and privates (public work contracts) § The combination of the 5 components allows, in theory, a wide range of contractual systems (typical of Anglo-Saxon reality) § The European legislation and the Italian jurisdiction, in practice, limit these possibilities especially in terms of public procurement Contract organization - Scope FINANCING DESIGN BUILD  Contract organization - Scope § The scope of a contract can be segmented into: § Financing § securing a pre-spending, such as a short-term loan, and a subsequent long-term financing to develop the project, to be reimbursed with operational profits § Design § a process to detail the project scope, from broad concept, to technical specifications and construction drawings § Build § the performance of works, including preliminary activities (such as site preparation) and physical implementation  Content Project delivery systems  Delivery systems § Four possible scenarios: § Traditional § the contractor is only responsible for the physical construction of the specified project § Integrated § the contractor takes responsibility for both design and construction of the facility § Turn-key § the contractor is also asked to contribute to short-term funding § BOT § build-operate-transfer arrangements, where the contractor provides the whole scope, including life-cycle financing  Delivery systems Owner Contractor 1. Traditional Design-Bid-Build 2. Integrated Design-Build Financing Financing Design Design Build Build 3. Turn-Key 4. Build Operate Transfer Financing Financing Design Design Build Build  Delivery systems The delivery system dictates the risk allocation: the more the Contractor has to do, the more he is considered competent, and, skilled in doing the portion of the scope the Owner should leave risk on Contractor’s shoulders, as better fitted to deal with uncertainty 100% Owner Traditional RISK / KNOW HOW AGENCY CM CM at RISK Design/Build Turn-key BOT 100% Contractor  Delivery systems - Traditional PROs Well known method Contractual Communicational Projectual flexibility Relationship Relationship Budget defined during tender Owner contractual protection Simple tender procedure OWNER Trust relationship with A/E Good system if uncertainty is mainly in the design General Design Firm CONs Contractor A/E Low constructability No fast-track Subcontractor Few interactions between parties Subcontractor Aggressive offers market(maximum downward auction) Subcontractor Difficulty in obtaining innovative forms of financing Very conservative design strategies High price of construction changes Not proper for high complexity projects  Delivery systems - Pure / Agency CM PROs The involvement from the planning stages allows to: determine the budget early reduce the design risk cantierability and value engineering fast-track OWNER Selection of CM on a reputational/quality basis CONs Design Firm Fast-track C/M A/E could lead to redesign/rework extra costs Potential conflicts with other parties Trade Trade Trade designers contractor contractor contractor subcontractors general contractor (where applicable)  Delivery systems - Pure / Agency CM Duties preconstruction suggesting to engineering company cantierability, value engineering, costs estimation, projectual options, schedule, financing, management and coordination, direction, etc. field supervision QA, monitoring and control, cash flow management, coordination and direction, change orders and claims, etc. “Agency” CM is refunded as “fixed fee on top of costs” operates as a professional Client-CM fiduciary relationship Deals with relationships with designers, GC, customer Acts as mediator in conflicts  Delivery systems - Pure / Agency CM PROs Great flexibility for changes Reduction of subcontrating costs usually up to 5-8% savings per direct contract with subcontractors, rather than going through GC Reduction of operational responsibilities for customer Few conflicts between client and CM Low financial risk for PCM CM is the only point of reference Possibility to expel not suiting subcontractors CONs Low incentive for CM to reduce the price and time The client is the only one to assume the financial risk High risk of reputational losses for CM All parties must be involved from the beginning  Delivery systems – CM at risk PROs CM usually offers a guaranteed maximum price (GMP) to ensure the customer that the project won’t exceed the budget: usually defined when the design is at 95% fee 10-15% Reduction of customer financial risk ( risk on GMP contractor contractor contractor Too late -> little value added on pre-construction CM no longer impartial, risk of conflicting relationships Changes, claims Contract hardly renegotiable (high change orders cost)  Delivery systems – Design / Build PROs Exploitation of contractor’s design skills Cantierability maximization Fast-track Good system for high complexity projects Excellent internal coordination OWNER single centre of control and accounting Flexibility and agility for change management Customer risk reduction D/B Entity Construction Design CONs Function Function Lack of mediator The interests of DB usually prevail Subcontractor Subcontractor Subcontractor Low quality for DB profit maximization Customer must check quality Errors and nonconformities often revealed during final testing (reworks and disputes) Fast-track could lead to redesign/rework extra costs  Delivery systems – Design / Build Customer Develops performance/functional specifications, needs framework, feasibility study / basic degin Stipulates the design and development/construction contract integrated with the design- build subject Contractor The subject can be an EPC company or an ATI/consortium (joint-venture) between design companies and construction companies Design-build uses subcontractors Also called EPC contract (engineering, procurement and construction)  Delivery systems – Turn key Like DB but funded by the contractor at the end of the project It is also called “purchase of future thing” Widely used in Power and oil plants Lump-sum payment at final commissioning Often with initial coupled payment or some milestone payments Allows the customer to recover financial resources during the development of the project postpone the investment  Delivery systems – BOT Funding by the contractor who realizes the investment against a long-term management fee Often “project financing” through vehicle societies (special purpose vehicle SPV company) Customer retains the ownership but resigns the management rights for 15-99 years, depending on the period required to guarantee MARR End users or the customer himself pay for the use Used for 𝑃 ! public-private-partnerships examples: EuroTunnel, Highways The buyer receives: Working plant Staff training Products in the predefined quantities, times and quality The relationship also involves the production (manufacturing) company and/or presupposes complex and prolonged collaboration forms  Content Project payment schemes  Payment schemes § Contractors are often highly risk averse § Recall risk premiums: Contractor willing to “pay” owner (charge less for contract) if owner takes on risk – if have to § For risks that contractor can’t control, may be willing to pay a risk premium to owner to take over § Contractor here will lower costs if owner assumes certain risk (essentially, paying the owner a risk premium) § For risks that contractors can control, cheaper for a contractor to manage risk than to pay a risk premium  Payment schemes – Time and material The client pays the contractor the price agreed in the contract of: Labour employed Materials used and assembled Capital goods and construction site accessories The risk of higher costs is on the client Example Labour Developer 75 €/h for 50h Tester 50 €/h for 100h Materials Tools rental € 500 Training expenses € 300 20% of general business expenses recognized on the materials value Price paid to the contractor 75 # 50 + 50 # 100 + 500 + 300 # 1 + 0.20 = 9,710  Payment schemes – Unit pricing Once works are defined, unit prices are agreed for each individual category of work In situations of advancement at pre-established deadlines (generally monthly) the client pays the quantity of work categories actually made by the contractor The pricing regime can be fixed or subject to revision according to various parameters (inflation, etc.) Example Categories of work Foundation works 80 €/sqm Supply and installation of prefabricated plinths 1,550 €/each Total expected quantity: Foundation 100 sqm Plinths 9 Price paid to the contractor 80 # 100 + 1550 # 9 = 21,950  Payment schemes – Cost plus fixed fee Example: Cost Plus Fixed Fee Estimated cost 100’000 € Negotiated fixed fee 8’000 € Expected return on costs for contractor 8% Price paid, consuntive Case A Actual Cost 90’000 Price = 90’000 + 8’000 = 98’000 € ROC = 8’000 / 90’000 = 8.9% Case B Actual Cost 110’000 Price = 110’000 + 8’000 = 118’000 € ROC = 8’000 / 110’000 = 7.3%  Payment schemes – Cost plus fixed percentage fee Example: Cost Plus Fixed % Fee Estimated cost 100,000 $ Fixed % fee 8% Contractor’s Return on Cost ROC = 8% Actual contract value at completion Situation A Actual cost 90,000 $ ROC = 8.0 % Price = 90,000 *(1+8%) = 97.200 $ Situation B Actual cost 110,000 $ Price = 110,000 *(1+8%) = 118,800 € ROC = 8.0 %  Payment schemes – Target cost plus incentive fee Example: Target Cost Plus Incentive Fee No GMP Target cost 100’000 € Negotiated fixed fee 8’000 € Expected return on costs for contractor 8% Percentage on losses/gains 30% Price paid, consuntive Case A Actual Cost 90’000 Loss/Gain = 100’000 – 90’000 = + 10’000 Price = 90’000 + 8’000 + 10’000 * 0.30 = 101’000 € ROC = (8’000 + 11’000)/ 90’000 = 12.2% Case B Actual Cost 110’000 Loss/Gain = 100’000 – 110’000 = - 10’000 Price = 110’000 + 8’000 – 10’000 * 0.30 = 115’000 € ROC = 5’000 / 110’000 = 4.5%  Payment schemes – GMP Example: Guaranteed Maximum Price GMP 112’000 € Estimated cost 100’000 € Negotiated fixed fee 8’000 € Expected return on costs for contractor 8% Percentage on losses/gains 30% Price paid, consuntive Case A Actual Cost 90’000 Loss/Gain = 100’000 – 90’000 = + 10’000 Price = 90’000 + 8’000 + 10’000 * 0.30 = 90’000 + 8’000 + 3’000 = 101’000 € ROC = (8’000 + 3’000)/ 90’000 = 12.2% Case B Actual Cost 110’000 Loss/Gain = 100’000 – 110’000 = - 10’000 Price = 110’000 + 8’000 – 10’000 * 0.30 = 110’000 + 8’000 - 3’000 = 115’000 € > 112’000 € ROC = (8’000 – 3’000 – (115’000-112’000)) / 110’000 = 1.8%  Payment schemes – Fixed price Firm Fixed Price Suitable for professional services, usually well-defined or predictable Used for execution only contracts of works Fixed lump sum, paid: For partial deliveries (service orders only) On progress of works, generally monthly (construction) Lump-sum Turn-key Payment Flat rate, often upon delivery of the work, but they can be advance payments and interim payments agreed upon achievement of partial milestones System made "ready“ to work The contractor is the manager of all phases of the project – EPC Engineering, Procurement, Construction - and it is the only one interlocutor of the client The price generally has the possibility to be revised  Payment schemes VS risk Cost Plus Fixed % Fee Time & Material Unit Prices Cost Plus Fixed Fee Cost Plus Incentive Fee Growing incentive to reduce costs Incentive GMP Growing risk  Payment schemes VS risk RISK SHARING METER Modified from Kerzner, 2013 100 % Lump-Sum (Fixed Price) 0% Fixed-Price w/ Economic Price Adjustments CONTRACTOR’S RISK Fixed-Price Incentive OWNER’S RISK Cost-Plus Incentive Cost-Plus Award Fee Cost-Plus Fixed Fee Cost-Sharing 0% RISK Allocation Cost-Plus Percentage 100 %  Content Award mechanism  Award mechanism The contractor's requirements are the basis of all the assignment methods Methods COMPETITIVE BID (greater downward price) CAP (best technical offer and additional options a for a fixed price) NEGOTIATION (negotiation or tender based on the best offer) Design + Price proposal (best technical-economic offer) Time + Price proposal (best economic-time offer / financial)  Bidding A contractor is selected by the lowest price proposal, in market competition Fixed price - low bid is win-lose Typically associated with lump-sum contract Qualifications are critical Variants: multi-parameter bidding Low bid plus arithmetic combination of other factors Low bid divided by ranking of other factors  Bidding teade-offs Time provided to bidders to review documents Too long: Construction delayed Too short: Bids low-quality because too little time to review contract docs (incorporate high risk premium or unrealistically low) Few bidders willing to participate Bid count Too many bidders: Scare away best contractors Too few bidders: Bid not competitive  Bidding process A/E oversight typical Publicity (specifies qualification requirements) Provide bid documents Typically include fair cost estimate, sample contract Answer RFIs Pre-bid conference Explain scope, working conditions, answer questions, documented in writing)  Private VS public bidding Public Bidding Must be publicly advertised (posting in newspapers, public building, etc.) Qualification occurs after submission of bids Private Bidding May be by invitation only Qualification occurs before submission of bids  Bidding - qualifications Common items for qualifications Bonds/Insurance (bid, performance, payment) Safety record Reputation Financial strength Total/Spare capacity Licensing Background in type of work Experience in local area/labor market Management system (QA, planning, estimation, control) Interest, adaptability shown  Cap A fixed price (lump-sum) is set by the owner against which contractors propose a level of quality and options for the project  Negotiation Typically selected based on reputation, qualifications Typically used for two cases Very simple Use trusted, familiar party Very complex/big Get contractor involved in design, start work early Requires relatively savvy owner Evaluate proposals, monitor performance Important even for DBB for post-bid changes  Negotiation considerations Can get win-win because of differences in Risk preferences Relative preferences for different attributes Goal is to find a Pareto optimal agreement Key skill in negotiation: Ability to find win-win options  Project contracting - Summary Separate Design and Scope Construction Design-Build Design-Build-Finance Organization General Contractor Construction Manager Multiple Primes Design-Build Team Turn-key Team BOT Team Lump-sum Lump-sum Lump-sum Lump-sum Unit Price Unit Price Unit Price Unit Price Lump-sum Contract Cost Plus Cost Plus Cost Plus Cost Plus GMP Unique to Project GMP GMP GMP GMP Bid Bid Bid Bid Bid Bid CAP CAP CAP CAP Negotiate Negotiate Negotiate Negotiate Negotiate Negotiate Qual+Price Award Qual+Price Qual+Price Time+Price Qual+Price Qual+Price Time+Price Qual+Price Time+Price Time+Price Time+Price Time+Price Qual+Time+Price Qual+Time+Price Qual+Time+Price Qual+Time+Price Qual+Time+Price Qual+Time+Price Des+Price Des+Price Des+Price