Time Cost Quality Cive 3260

Procurement and Cost Relationships

Definition

There are wide varieties of definitions of the concept of procurement.

The Oxford Dictionary definition is to obtain, to acquire or to bring about something.

The CiB use the definition “the framework within which construction is brought
about, acquired or obtained.”

This definition is broad and takes a strategic approach to the acquisition of

construction. Procurement decision impact through all the phases of the life cycle.
The procurement decisions influence costs.

Project Objectives

The strategic objectives of the client/promoter of the project act as drivers for the
project. These strategic objectives can be developed into clear project objectives.
The project objectives represents the focus of the project and should be
communicated to all key members of the project. The normal project objectives are
concerned with time, cost and quality. The priority assigned to these objectives will
determine their importance and to what extent they influence the procurement
process. Some of the influences may be earlier in the project life.

Construction Procurement Process

The construction procurement process consists of staged decision making

commencing with the evaluation of all the factors concerning the client's
construction needs (procurement assessment) and extending to the selection and
implementation of the best method (procurement path) of achieving the clients'
objectives.

Procurement assessment criteria (PAC)

There are many criteria that a client will identify for the project. The following factors
are relevant to the choice of procurement path.

Timing (programme)
Timing may be rated high on the client's list of priorities due to funding or
completion date requirements. Funding is critical when construction is required for
generating income, e.g. a supermarket, factory, stadium or hotel. The sooner it is
completed the sooner it can be sold or funded from its own income.

Variation
There are two principle sources of variation on a construction contract. The first is
due to insufficient or incorrect tender/contract information from the design team.
This leads to variations during construction either initiated by the design team or at
the suggestion of the contractor. Greater client control over the design process may
avoid this type of variation.

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The second is due to the client, who may have to resolve earlier indecision
regarding issues to be determined prior to tendering. The client may also introduce
a variation due to a change in requirements; e.g. new technology may lead to a
modification in the industrial or commercial process and the building for that process
must also be altered. Such variations may be controlled by the proper assessment
of the effects of it on the programme, product and price prior to the authorised
introduction of the change. If large numbers of variations are anticipated then this
will make cost control more difficult.

Complexity
Complexity of construction and of the environmental services of a building is
important in deciding procurement. Complexity of the function of the building may
not be significant, as its construction may be relatively simple. Complexity of
construction is therefore not something that can be generalised by building type. It
must be assessed on a specific basis early on in the project's life. Complexity may
impact cost.

Product (quality)
Quality may be divided into two parts - quality of materials and workmanship and
quality of the design concept. The quality level of materials and workmanship can
be set by their specification to the required level. The quality of the product can then
be checked against this. The quality level of design combines objective criteria such
as function, ergonomics and economy and subjective matters such as aesthetics.

Price (cost)
From the client's perspective, price means the entire cost of obtaining the building
encompassing site costs, client management/monitoring costs, construction costs
and financing costs. The client’s main concern will be regarding the certainty of the
costs of these elements. During the period of construction many market forces, for
instance tender prices, interest rates, general inflation rates may change
significantly such that price certainty must become a relative term.

Price certainty for a construction project should be taken to mean a plus or minus
percentage factor by which the original costs may adjust. The Iower the factor the
more accurate the cost of the elements listed above must be before commitment to
proceed, particularly the construction costs.

Competition
Design, management and construction services can all be obtained by competition.
The client will dictate the criteria on which individuals and firms compete. Individuals
and firms may compete on the following basis:
 On price in open tenders
 On quality of service, reputation and price in selected tendering
 On quality of service and reputation in negotiated tenders.

Responsibility
Traditionally in the construction industry responsibility for design and construction
has been split. Clients had to recognise, accept and manage this division of
responsibilities. Some clients do not have the resources to cope with this division of

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responsibility or they simply want only one organisation to be responsible for design
and construction. The design and build or design and manage options can be used
to satisfy this requirement.

Risk avoidance
For construction procurement, risk may be defined as the responsibility for the
criteria as listed above. In employing other organisations to carry out work it is
important for a client to know how, and to what degree risk has consciously been
passed on to that organisation. Risk and control go together and a client who
wishes to retain control of a project will also be undertaking its risks.

Potential problems affecting the PAC may be highlighted by proper appraisal of the
site or building prior to commitment. Their effect on the PAC should also be
considered in choosing the procurement path or a different site or building may be
investigated for possible development. The timing and quality of the decision
making required for the procurement process is critical as the possibility of
influencing the result of the project reduces with the commitment to or the
consumption of resources. Indecision regarding factors such as function, quality,
price and time will lead to solutions that may have a profound effect on the project's
outcome.

Procurement Systems -THE TRADITIONAL SYSTEM

The traditional system has evolved and developed over the centuries. The role of the
architect/engineer in its present form is a result of this development in which the
architect is recognised as an independent designer of buildings and manager of the
construction process.

CHARACTERISTICS
 The financial commitment is known at the start of a project when the tender is
received provided the design has been fully developed.

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 The designer has considerable freedom to conceive and develop the design
without excessive time or economic pressures provided that the cost and time
constraints of the client are not exceeded.
 There is a common and easily adjudicated method of assessing the various prices
submitted by the tenderers in the bills of quantities. The bills of quantities provide
a basis from which variations can be judged and costs controlled.
 The need for the design to be fully developed before tenders are put out results
almost inevitably in longer project period which will increase the clients financing
charges on sums already invested.
 The separation between design and construct can lead to issues with complexity
management

MAINTENANCE
CONCEPT DESIGN
CONSTRUCTION
& OPERATION

Figure - Traditional

DESIGN and BUILD / DESIGN and CONSTRUCT

In design and build the contractor undertakes and accepts responsibility for
designing and building/constructing any type of project to meet the client’s
requirements. The client’s requirements (through a brief) are passed onto the
contractor who then prepares a design and ascertains the time it will take to carry out
the design. At the same time the contractor will ascertain the cost of undertaking the
works and submits a tender based on this proposal. The tender submission will
convey to the client the design they are getting as well as the cost of the design. In
certain cases the client will employ outside consultants to develop the conceptual
design and then ask the contractor to tender on a fully developed design and cost.
The term used for transfer of design ideas is called novation.

Once the contract is awarded the contractor can then proceed with the undertaking
of the works. There is however provisions within these contracts for the provision of
sufficient cost data to ensure that the client has a basis to make changes should
he/she wish to do so.

Characteristics
 The system provides single point responsibility so that in the event the building
fails the contractor is solely responsible. The contractor is responsible for the
design, construction and planning organisation and control of the project to a
greater extent than is generally possible.
 The client knows his/her financial commitment early in the project.
 The nature of the system creates an integrated design and construction team. The
system also leads to the greater appreciation of buildability.

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 The nature of the system is such that it reduces or restricts variations from the
original design and disruption of the works is less likely to occur. This should
provide cost savings to the client. However, there is little scope for change.
 Design costs are built into the package.

Figure – Design and Build/Construct

DESIGN and MAINTENANCE

CONCEPT
CONSTRUCTION & OPERATION

Contractor Project Management (Construction Management)

In the system the client appoints both a design team and a construction manager.
The system operates on the premise that through the early appointment of the
construction manager, the planning and organisation of the project can proceed in
parallel with the design. The construction manager is not allowed to execute the
work but acts as a professional consultant to the client on issues such as buildability,
work packages, tendering, progress, execution, etc.

The client enters into direct contractual relationships with each of the works
contractors. The construction manager is employed on a fee basis.

 The lines of communication between the client and the contractor are shorter.
Thus helping improve the decision making process and making change easier.
 The overlap of the design and the construction phase may reduce the project
time. The shorter lines of communications also help this.

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 Quality control is direct and positive and experience suggests that sub-standard
work occurs less frequently than on traditional projects.
 Stronger management of complexity.
 The client has an open ended financial commitment until he/she reaches the
award of the last package. It is however possible to provide target costs for the
project.
 This system may not be ideal for a client who has public accountability because of
the open-ended nature of the contract.
 The client’s liability is increased in that he/she exposes himself to greater risk by
entering into a greater number of contracts.
 The contract procedures may present difficulties in determining responsibility in
the event of construction or other failures occurring. This is increasingly a
problem.

Figure – Construction Management

CONCEPT & DESIGN

MAINTENANCE
CONSTRUCTION
& OPERATION

Concession Contracts

A concession project is a contract between a company and a government/regulatory

body that gives the company the right to operate a specific infrastructure within the

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government's jurisdiction, subject to certain conditions such as volume of services,

reliability, etc... The company will be expected to design, construct and operate the
infrastructure over a pre-determined period. In most cases the company will also be
expected to finance the project. Different procurement options may be used during
the delivery of the design and construction phases. Cost control during the design
and construction is important as this impacts profitability during the operational
phase. In a concession scenario there are more trade-offs between construction
costs and whole-life costs. The impact of maintenance, renewal and other operating
costs have to be factored into the financial planning. There are greater financial risks
due to the longer term outlook.

Figure – Concession style arrangement.

FINANCE CONCEPT DESIGN CONSTRUCT OPERATE

The diagram above shows implications of delayed finishes and similar scenario
exists for costs.

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Payment Terms
Lump Sum
This type of contract is based on a fixed tendered price for the whole of the works. In
practice this approach means that the contractor is paid a fixed price for the works.
The words “fixed” usually mean that there are no allowances for fluctuations in prices
due to factors such as inflation, currency changes. It is assumed that any of these
issues were considered as part of the original bid. Payments on such contacts can
be approached in a variety of ways. Milestone payments on the completion of each
key phase are a fairly common method used to facilitate payment. It is also possible
to use a planned payment scheme, using an agreed payment schedule. One of the
key difficulties under such arrangements is to include the possibility of making
changes to the works. It is possible to include variation clauses to allow change
orders but the final price as such changes are very much dependent on negotiation
between the contractor and the promoter. There is a requirement to ensure that is
this approach is being used without contractors design the level of information
communicated to the bidders is as complete as possible during tender.

The lump sum approach offers a number of advantages:

 There is a very high degree of price certainty
 Contract administration should be relatively easy provided the payment schedule
is agreed and there are no variations on work.
 There is keener pricing, as the bidders have to balance the risks on the projects.
 Contractors have the incentive of driving down costs to improve financial
outcomes.

There are also a number of disadvantages in using this approach:

 This system is no suited to contracts where change is expected.
 Cost control is difficult if a system other than milestones is used.
 Poor pricing strategies can lead to contractors making losses with the consequent
drop in performance, cost cutting and claims.

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 Claims management, negotiation and pricing are difficult, as there is no basis to

relate work to prices.

Measurement Contracts (Unit rates/ admeasurement)

This contract type offers a final tendered price but is based on a schedule of rates or
bills of quantities (BOQ). Both these schedules form the basis of the final tendered
price. The construction project is broken up into a series of elements, activities,
trades, materials, etc. that are capable of being priced. These schedules provide a
notional indication of the quantity of work or key activities that constitute the project.
The contractor is paid in proportion to the amount of work completed based on the
prices in the schedules. In order for this system to work well large portions of the
design must be completed to make quantities and rates meaningful or the general
benefits of the system are defeated.

Measurement contracts are widely used and offer the following benefits:
 This approach has the flexibility to accommodate certain levels of design change.
 The basis on which a project is price is clearly visible.
 Pricing competition is based on the same assumptions namely the schedules.
 There is a degree of price certainty.

Measurement contracts also have weaknesses:

 This approach is largely quantity driven which creates an adversarial system for
claims resolution.
 Flexibility is limited to items within the schedules
 Price certainty may be difficult when changes have been made because
finalisation of price takes a long time to complete.

Cost Reimbursable
This type of contract is based on the payment of actual cost plus a specified fee for
overheads and profits. The contractor’s cost accounts are open for the promoter to
inspect. The simplest form for this approach is where the project promoter
reimburses all the contractors labour costs on the project, materials, equipment,
subcontractors and a fixed sum/ percentage for financing the project, overheads and

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profit. Contractors working under these arrangements should not expect same kinds
of rewards in comparison to other systems because there is a lower risk. This type
of approach is suited for projects where there is uncertainty over the scope of the
work.
Cost reimbursable contracts offer the following benefits:
 They are extremely flexible
 There is a fair system of payment
 They require a high degree of promoter involvement
 The promoter is aware of the actual costs of the project.
There are a number of drawbacks to this approach
 The contractor has no incentive to control costs
 There is no price certainty
 A degree of trust is required between the parties.

Target Cost
This is a variation on the reimbursable contract whereby the contractor and promoter
agree a target cost for the uncertain scope of work. The reimbursable element of the
contract continues to operate. An incentive mechanism operates whereby the
contractor benefits from a higher return provided the costs are kept within target.
Once the target cost is passed the contractor’s reimbursement for profits and
overheads drop to a lower level and takes on almost a penalty status. Another
approach is to allow higher payment percentages for beating targets but operating a
fixed fee over the contract once targets have been exceeded. The objective of this
approach is to provide an incentive for the contractor to perform more efficient and to
achieve a degree of price certainty.

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