Types of contract

Presented by:Dr.Salaheldin Ajban

Date 15.02.2006
Contracts can be divided in different ways: two ways
are adopted here

1. classified by method of evaluating contract

price
 a - Fixed Price Contract

Also called lump sum contract. The contract price is

fixed and agreed at the time the contract is signed
and does not subsequently change except as a
result of variation of the contract specifications or
under limited circumstances specified in the
contract conditions. Any risk of increased cost due
to inflation, introduction of higher taxation, increase
in material price etc. is taken by the contractor.
Disadvantages

• Problems if variation is needed later on.

• Problems if part of the job was not sufficiently
specified.
• Cost of tendering may be high.
• As risk is to be carried by the contractor then cost
may be high.
Advantages

• cost is fixed – good for client.

• Lots of detailed accounting not required.
• Speed – provided well defined job.
• Suitable for supply and installation of equipment
( short execution times hence less risk of inflation).
b- Price – adjustment Contract

• this includes a price adjustment clause ( CPA –

contract price adjustment ) whereby the
contract price is increased or decreased as a
result of change up or down of certain specified
costs which the contractor incurs, based on
some recognized statistics or indices .
b - Price – adjustment Contract

Under conditions of inflationary uncertainty a CPA

clause is almost essential in any contract which
is likely to take more than 12 months to
complete. The contractor , protected against
unpredictable cost increases, will not resort to
skimming work, multiplying claims and, in
extreme cases , appealing for ex gratia help to
keep going on the work.
• A formula usually used for the extend of the
adjustment made such as :
LR MR NR
PR  PB[ A  B C D  ...]
LB MB NB
Where
• PR = Adjusted contract price
• PB = Original contract price
• A,B,C,D etc = the fractions of the
contract price represented by different services
or commodities such as labour ,transport, steel,
oil etc.( the total A + B + C + D + …etc must of
course be 1.0),
A clearly represents a fixed part of the contract
price.
• LR,MR,NR,etc = the respective indices
applicable at the date of revision.
• LB,MB,NB,etc = the respective indices at the
base date ( used by the contractor in
calculating his tender price)
c - Cost – Plus Contract

• This is a contract in which the contractor is

reimbursed his actual cost incurred, plus a
specified amount of money, without any total
contract prize being quoted.
Advantages

• No risk to contractor.
• Useful when technical aspects govern the
project
Disadvantages

• Conflict of interest between employer and

contractor.
• Increased burden of close control is placed on
the engineer.
• Careful negotiations are needed.
• Safeguard needed to watch employer’s interest.
• Rates of pay may become very thorny point.
Fixed – price contracts may be of the form

• Cost plus percentage of cost.

• Cost plus fixed fee.
• Cost plus fixed fee which guaranteed maximum
cost.
• Cost plus incentive fee (fee adjusted according
to contract cost …. Incentive ).
d - Target – Cost Contract

An elaboration of the (cost – plus) concept aiming

to overcome lack of incentive so that contractor
should be efficient. Contractor is paid cost –
plus against his actual expenditure or on the
bases of re measurement. If his total costs
prove to be less than a target – cost he gets as
a bonus profit an agreed proportion of the
difference , if his actual costs exceed the target
– cost he gets paid only an agreed proportion of
the excess, the employer retaining the rest as
his bonus. Such proportion can be on sliding
scale.
d - Target – Cost Contract

• The important of fixing a target-cost is clear but

it is difficult to fix: if fixed too low there is no
incentive for the tenderer; if fixed too high it id
too easy for contractor to make a large profit at
the expense of the Employer.
Advantages

• Incentive for contractor

• Fair as contractor gets a profit anyway

Disadvantages

• Difficult to fix target-cost

• Need close monitoring by Engineer
e - Bills of Quantity Contract

• This is a common form in engineering

(especially civil engineering and building
projects) in which the design has been
completed by the Employer and can be
specified in the tender. The works are broken
down into as many parts or activities as
possible and these are billed (from drawings) in
the tender together with the quantity of each
item.
e - Bills of Quantity Contract

The tenderer enters his rate for each item which,

when multiplied by its quantity, gives his total
contract price for that item. The total contract
price can therefore be established by
summation. The contract conditions must
specify clearly whether these quantities are
fixed or subject to remeasurement
f - Schedule of Rates Contract

An alternative to the bills of quantity contracts and

used in case, for any reason, the quantities of
the items of the bills of quantities cannot be
established with any reasonable accuracy at the
tender enquiry date. Broad estimates of the
quantity of each item are given and the tenderer
enters his rates accordingly. Measurement of
completed work is done by the Engineer on
behalf of the Employer.
2. Classified Other Than by Method of
Evaluating Contract Price
a - Competitive Contract

A contract arrived at by the process of formal

competitive tendering by a number of tenderers
against a common specification.
b - Negotiated Contract

A contract negotiated between the Employer and a

potential contractor of his choice. Sometimes
adopted when:

• Specifications are not clear cut, or

• There is only one supplier (e.g. plant supply).
b - Negotiated Contract

If Employer fails with his selected contractor he

may try again elsewhere but time may be lost,
also some information from earlier negotiations
must be confidential. Timetable for negotiation
is therefore important.
Advantages

May assure quality

Disadvantages

Tactical delays by contractor

Time lost if first negotiation failed
May not assure least cost of contract
c - Package Contract (Package Deal)

A contract where two or more related jobs, each of

which could form a separate contract, are
combined and placed as a separate contract.
Examples are: design / development with
construction / supply.
The contract must clearly lay down who is
responsible for the re-design in case the first
attempt fails to meet Employer’s requirements
(a disadvantage).
Advantages

Continuity of technical and administrative

responsibility
Reduction of number of contractors on site
Inducement to a contractor to undertake
unattractive contract by joining it with an
attractive one.
d - Turnkey Contract

A package contract in which all the separate

disciplines, civil, mechanical, electrical etc. of a
major entity are placed in the hands of a main
contractor, who may sub-contract specialized
works to sub-contractors. Employer’s interests
are watched by the Engineer. The Employer is
relieved of detailed coordination of the works
(advantage). There could be problems as to the
conditions of contract which are complex and
need carefully worded additional clauses to the
standard conditions.
e - Continuation Contract

A contract negotiated with a contractor already at

work on an existing contract with the Employer,
and based on the existing terms and conditions.
Advantages

Continuity of technical and administrative action

Permits rapid switch of plant and machinery
between two similar projects thus saving time
and money
Disadvantages

Price negotiations may not be easy because the

Contractor is well able to appreciate the
strength of his position and the advantage the
Employer stands to gain.
f - Running Contract

A contract to provide goods or services at

specified intervals or as required from time to
time over a stated period of time. Price rates
may be fixed for the period or a contract price
adjustment (CPA) arrangement may be
included.
g - Service Contract

A contract concerned solely with the provision of

services. Examples are: consultant’s contract
with his client for design, drawings, supervision,
research and advice, or a contract for
maintenance of plant after installation, public
utility companies providing services such as
electricity, water, gas etc.
Contract Problem (1)

You represent a Government Department of a

small, newly independent, totally
underdeveloped nation with few resources. Your
government sees great potential in developing a
remote coastal area as a resort for rich foreign
tourists. The government is able to provide,
some finance (heavily supplemented by that
from the World Bank) for the basic infrastructure
of water supply and road access, but is unable
to fund the construction of luxury hotels and
small airstrip necessary.
Contract Problem (1)

However, you consider that finance could be

raised on International money market. Discuss
the contract arrangements you would
recommend and the reasons behind your
choice. Discuss also all advantages,
disadvantages and side benefits of the chosen
arrangements.
Hints

(1) Consultant is required here

(2) World Bank requires assurances of spending
the finance in the approved purpose. It has
comprehensive regulations covering all aspects
including inspection, modification and finally
approved of:
- All enquiries, tender and draft contract
documents
- Proposed advertisement of the enquiry
Hints

- Type of contract to be negotiated

- Appraisal of tenders received
- All negotiations
- Final contract document
(3) Long-term benefits include: training of local
staff, use of local materials, future share of
profits, share in administration etc.