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Project Procurement Management

Introduction

Project Procurement Management includes the processes necessary to purchase or acquire products, services, or results needed from outside the project team. The organization can be either the buyer or seller of the products, services, or results of a project.

The Procurement Project Management processes are:

Plan Procurement - The process of documenting project purchasing decisions, specifying the approach, and identifying potential sellers.

Conduct Procurement - The process of obtaining seller responses, selecting a seller, and awarding a contract.

Administer Procurement - The process of managing procurement relationships, monitoring contract performance, and making changes and corrections as needed.

Close Procurement - The process of completing each project procurement.

The PMBOK contains comprehensive information to prepare for the exam. This page further details the contract types to to support your studies.

Contract Types

The risk shared by the buyer and seller is determined by the contract type. The characteristics of the major contract types are defined as follows:

Fixed-price contracts

The category of contracts involves setting a fixed total price for a defined product or service to be provided. Fixed-price contracts may also incorporate financial incentives for achieving or exceeding selected project objectives, such as schedule delivery dates, cost and technical performance, or anything that can be quantified and subsequently measured. Sellers under fixed-price contracts are legally obligated to complete such contracts, with possible financial damages if they do not. Under the fixed-price arrangement, buyers must precisely specify the product of services being procured. Changes in scope can be accommodated, but generally at an increase in contract price.

Firm Fixed Price Contracts (FFP)

The most commonly used contract type is the FFP. It is favored by most buying organizations because the price for goods is set at the outset and not subject to change unless the scope of work changes. Any cost increase due to adverse performance is the responsibility of the seller, who is obligated to complete the effort. Under the FFP contract, the buyer must precisely specify the product or services to be procured, and any changes to the procurement specification can increase the costs to the buyer.

Example: Software Package for $25,000. The payment will $25,000 regardless of the seller cost.

Fixed Price Incentive Fee Contracts (FPIF)

This fixed-price arrangement gives the buyer and seller some flexibility in that allows for deviation from performance, with financial incentives tied to achieving agreed to metrics. Typically such financial incentives are related to cost, schedule, or technical performance of the seller. Performance targets are established at the outset, and the final contract price is determined after completion of all work based on the seller's performance. Under FPIF contracts, a price ceiling is set, and all costs above the price ceiling are the responsibility of the seller, who is obligated to complete the work.

Example: Under development.

Fixed Price with Economic Price Adjustment Contracts (FP-EPA)

This contract type is used whenever the seller's performance period spans a considerable period of years, as is desired with many long-term relationships. It is a fixed-price contract, but with a special provision allowing for pre-defined final adjustments to the contract price due to changed conditions, such as inflation changes, or cost increases (or decreases) for specific commodities. The EPA clause must relate to some reliable financial index which is used to precisely adjust the final price. The FP-EPA contract is intended to protect both buyer and seller from external conditions beyond their control.

Example: Under development.

Cost-reimbursable contracts

This category of contract involves payments (cost reimbursements) to the seller for all legitimate actual costs incurred for completed work, plus a fee representing seller profit. Cost-reimbursable contracts may also include financial incentive clauses whenever the seller exceeds, of falls below, defined objectives such as costs, schedule, or technical performance targets.

A cost-reimbursable contract gives the project flexibility to redirect a seller whenever the scope of work cannot be precisely defined at the start and needs to be altered, or when high risks may exist in the effort.

Cost plus Fixed Fee Contract (CPFF)

The seller is reimbursed for all allowable costs for performing the contract work, and receives a fixed fee payment calculated as a percentage of the initial estimated project costs. Fee is paid only for completed work and does not change due to seller performance. Fee amounts do not change unless the project scope changes.

Example: If your cost ceiling is $80,000 and the fixed fee is $8,000 for a total contract value of $88,000, the seller will be reimbursed for cost incurred up to, but not exceeding,$90,000 and will receive $8,000 as a fee. If the seller spend more than $80,000 the reimbursement will be $80,000 plus $8,000 fee. If the seller spent $70,000 the reimbursement will be $70,000 and the fee will be $8,000 as agreed in the contract.

Cost Plus Incentive Fee Contracts (CPIF)

The seller is reimbursed for all allowable costs for performing the contract work and receives a predetermined incentive fee based upon achieving certain performance objectives as set forth in the contract. IN CPIF contracts, if the final costs are less or greater than the origin estimated costs, then both the buyer and seller share costs from the departures based upon a prenegotiated cost sharing formula, e.g., an 80/20 split over/under target costs based on the actual performance of the seller.

To achieve the incentive, in CPIF contracts, the seller is paid his target cost plus an initially negotiated fee plus a variable amount that is determined by subcontractor the target cost from the actual cost, and multiplying the difference by the buyer ratio.

Formula: Final payout = target cost + fixed fee + buyer share ratio * (actual cost - target cost).
If there is a ceiling price involved and actual cost is more than the ceiling final payout = target cost + fixed fee + buyer share ratio * (ceiling price - target cost).

Example: If the final costs are higher than the target, say 1100, the buyer will pay 1000 + 100 + 0.8 *(1100-1000)=1180 (seller earns 80 which is less than if he had reached the target cost).

Cost plus award Fee Contracts (CPAF)

The seller is reimbursed for all legitimate costs, but a majority of the fee is only earned based on the satisfaction of certain broad subjective performance criteria and incorporated into the contract. The determination of fee is based solely on the subjective determination of seller performance by the buyer, and is generally not subject to appeals.

In other words, a contractor is offered an incentive award amount that may be earned (in part of full) based on the excellence displayed in contract completion time, cost, effectiveness, quality of work, and technical ingenuity.

Example: Preparation of the technical modification to improve the quality of the assembly line. The seller commits to reimburse all cost including an incentive of $10,000, of which $5,000 will be based on the cost effectiveness of this contract.

Time and Material Contracts (T&M)

Time and material contracts are a hybrid type of contractual arrangement that contain aspects of both cost-reimbursable and fixed-price contracts. They are often used for staff augmentation, acquisition of experts, and any outside support when a precise statement of work cannot be quickly prescribed.

These types of contracts resemble cost-reimbursable contracts in that they can be left open ended and may be subject to a cost increase for the buyer.

The full value of the agreement and the exact quantity of items to be delivered may not be defined by the buyer at the time of the contract award. Thus, T&M contracts can increase in contract value as if they were cost-reimbursable contracts.

Many organizations require not-to-exceed values and time limits placed in all T&M contracts to prevent unlimited cost growth. Consequently, T&M contracts can also resemble fixed unit price arrangements when certain parameters are specified in the contract.

Unit labor or material rates can be preset by the buyer and seller, including seller profit, when both parties agree on the values for specific resource categories.

Example 1: Business consultant to an hourly rate of $150.

Example 2: Business consultant to an hourly rate of $150. The consultant activity is limited to 500 hours.

Example 3: Business consultant to an hourly rate of $150. The consultant activity is limited to $10,000.