Types of Contract

in
Project Management
Ali Heydari
Table of Contents

• Why should we know types of contract?

• What is Contract?
• Types of Contracts
• Fixed Price or Lump Sum Contracts
• Cost-Reimbursable Contracts
• Kinds of cost-reimbursable contracts
• Time and Material (T&M) Contracts
Why should we know types of contract?

• Whether you’re managing a small project or a large complex program you

need a basic understanding of the different types of contract you’re likely to
encounter when buying from external organizations and 3rd parties.
What is Contract?

• A contract is an exchange of promises between two or more parties to do, or

refrain from doing an act, which resulting contract is enforceable in a court
of law.
• In the project or program context, contracts typically involve the exchange
of money in return for goods or services.
Types of Contracts

• There are three basic types of contract you’re likely to come across in
managing your projects and programs:

1. Fixed price or lump sum contacts

2. Cost reimbursable contracts
3. Time and materials (T&M) contracts
1-Fixed Price or Lump Sum Contracts

• In this type of contract a specific price is agreed for the good or service
being sold. In project terms, the buyer and seller will agree on a well-defined
deliverable for a specific price.
• In this type of contract the bigger risk is borne by the seller. They must make
sure they make a profit even given some unknowns such as increasing costs
or delays in creation of the deliverable.
Cont…

• Fixed price contracts can be catastrophic for both buyer and seller if there
isn’t a well defined deliverable.
• Firstly, often the sellers profit is eroded as they compromise to meet the
buyer’s demands.
• Secondly, the buyer may have to pay more for change requests when the
supplier is no longer willing to compromise around what, in their eyes,
appear to be changing requirements.
Cont…

• Another type of contract you might encounter is the fixed-price plus

incentive contract.
• Here the contract includes an incentive or bonus, typically for the early or
on-time completion of the deliverable.
2-Cost-Reimbursable Contracts

• In this type of contract all the costs that the seller incurs during the project
are charged back to the buyer, and thus the seller is reimbursed costs. The
costs which are allowable will be defined in the contract.
• In this type of contract more risk is carried by the buyer as the final cost is
uncertain. If problems arise during the execution of the project then the
buyer will have to spend more.
Con…

• The advantage of this type of contract to the buyer is that obviously scope
changes can be easily made to the work being done.
• One problem with this type of contract is that the seller has very little
incentive to be efficient and productive and complete the work quickly.
• It should come as no surprise that this type of contract is most often used
when there is a lot of uncertainty associated with the final deliverable.
Kinds of cost-reimbursable contracts

• There are three kinds of cost-reimbursable contracts you should understand:

1. Cost plus fee (CPF) or cost plus percentage of cost (CPPC)

2. Cost plus fixed fee (CPFF)
3. Cost plus incentive fee (CPIF)
Cost plus fee (CPF) or
cost plus percentage of cost (CPPC)

• Here the seller is reimbursed for allowable costs plus a fee that’s calculated as a
percentage of costs.
• Obviously, there is no incentive for the seller to complete the work quickly with
this type of contract.
Cost plus fixed fee (CPFF)

• Here all allowable expenses are charged back plus a fixed fee at the end of the
contract.
• The fixed fee is how the seller makes their profit.
• The aim of the fixed fee is to encourage the seller to complete the work as
quickly as possible.
Cost plus incentive fee (CPIF)

• Here all allowable expenses are charged back and in addition an incentive fee
for exceeding the performance criteria specified in the contract.
• The incentive fee is designed to encourage increased cost performance by the
seller. There is the potential of both buyer and seller saving if the
performance criteria is exceeded.
3-Time and Material (T&M) Contracts

• This type of contract is a cross between fixed-price and cost-reimbursable

contracts.
• This is opposed to a fixed-price contract in which the buyer agrees to pay the
contractor a lump sum for construction no matter what the contractors pay
their employees, sub-contractors and suppliers.
Con…

• Time and materials is a standard phrase in a contract for construction in

which the buyer agrees to pay the contractor based upon the work
performed by the contractor's employees and subcontractors, and for
materials used in the construction (plus the contractor's mark up), no matter
how much work is required to complete construction.
Con…

• Time and materials contracts are not common because of the lack of an
upper limit for the price paid by the buyer.
• However, if there is no time to send the job out for bids and complete
construction, a time and materials arrangement can save time.
• It is also a common arrangement where the original fixed price contractor
abandons the work and another contractor must repair any damage caused by
the first contractor and complete the work.
Con…

• Many time and materials contracts also carry a guaranteed maximum price,
which puts an upper limit on what the contractor may charge, but also allow
the buyer to pay a lesser amount if the job is completed more quickly.
Thank you