Contractual Alternatives

Whether you are contemplating your very first project, or you are a veteran of bringing many projects on stream, it is always useful to review the various contractual options available in launching your next project. Every project has its own set of circumstances which can involve timing, legal obligations, ownership configuration, cost limitations, financing objectives, owner in-house resources and many, many more. In the following we have attempted to briefly outline the "basics" of the various contractual arrangements available in order to assist in your decision making process. We have also provided comparative illustrations of the elapsed time frame for each approach given the same hypothetical project for which construction would take 24 months. Within all options, except for the lump sum approach, there is the added option of "fast-tracking" the project. Fast-tracking means that construction activity begins before the total design is complete. Consequently, many of the subtrade bid packages have yet to be finalized and the cost of the project is not yet established. Fast-tracking is usually employed when the owner wishes to capitalize on the project being ready for use within a specific time frame and also to capitalize on the associated cost savings of construction financing and inherent soft costs.

Lump Sum Competitive Bids

The owner selects and directly retains an architect who has the responsibility to design the project and prepare the necessary drawings and specifications. The owner will pay the architect a fee for this service under the terms of the design contract. The architect can engage the subconsultants and pay them out of his fee or the owner may wish to engage the subconsultants and pay their fees directly. When the design, working drawings and specifications are completed competitive bids are called. The successful contractor will normally be the one who has submitted the lowest lump sum price. Once the content of the bid has been reviewed by the owner and his consultants and an award recommendation has been agreed to, the owner and the general contractor enter into a firm lump sum price contract and construction can then commence. In this alternative the owner knows the price of the project before construction begins.

Cost Plus

In a cost plus arrangement, the steps are similar to those outlined in the lump sum bid example preceding. Instead of receiving firm lump sum prices from contractors for the project, a cost plus proposal or negotiated cost plus arrangement has been worked out between the owner and the general contractor. In this arrangement the owner takes full risk for the final cost of the project and the contractor is far more accountable to the owner in terms of cost substantiation, methodology review and the general control of the work. This type of contractual arrangement is often used where the scope of work is unclear because of physical conditions (ie. a renovation project), subsurface conditions or other volatile project criteria.

 

Design Build

In a design/build arrangement, the owner selects and engages a single entity to design and construct the project. Often this is a general contractor who in turn hires the primary designer and other subconsultants. In this arrangement the owner has a single point of contact with the prime contracting entity to whom the project parameters and objectives are outlined. Here the owner benefits from the early involvement of both contractors and designers in various stages of the contract so value engineering, subcontractor and supplier inputs and full benefit of alternate approaches, market considerations and scheduling objectives can be realized. The final price for the project is developed once the design development has advanced sufficiently. It is the owner's option to start construction prior to final price submittal or after pricing has been finalized. This approach offers a very open-book relationship allowing the owner to be involved in the project to whatever level he chooses. Often this contracting approach is called "build-to-suit" or "turnkey."

Construction Management

There are many forms of construction management available. In most forms, the owner engages the construction manager, primary designers and subconsultants directly. The different types of construction management vary in the amount of risk the construction manager is asked to take on and the amount of services he is asked to provide. The selection of a construction manager can be done through competitive proposals or on a negotiated basis based on track record and references. Three of the most utilized types of construction management are as follows.

Pure Construction Management (Agency)

Here, the construction manager takes on very little risk and primarily acts as an owner's agent with all project costs reimbursable and fully to the account of the owner. All major subtrades and suppliers are contracted directly to the owner. The construction manager administers these contracts as the owner's agent. The construction manager may provide preconstruction services, course of construction services and post-construction services depending on contractual scope. The project has the option of being linear (ie. construction following design) or on a "fast-track" basis which overlaps design and construction activity.

Non-Agency Construction Management

Generally as above, but in this instance subtrades and suppliers are contracted directly to the construction manager.

Construction Management with a Guaranteed Maximum Price

In the first two forms of construction management above, the construction manager does not guarantee the ultimate project cost. In this third form, the construction manager does. After providing preconstruction services, and once design drawings have progressed to a sufficient level of detail to obtain trade contractor pricing, the construction manager will submit the Guaranteed Maximum Price (GMP).

This price is subject to revision only through changes to the original scope upon which the price was based. Options can be built into this contractual format whereby any savings which accrue to the project are shared between the construction manager and owner on a prescribed basis.

This form of construction management is often to the owner's maximum benefit given that the risks associated with the final costs of the project have been substantially mitigated and there remains the option that the owner may participate in potential savings. In all of the above forms of construction management, the owner, construction manager/general contractor and designers function very much as team with common purpose. Given the right team, the relationship should be non-adversarial and founded on trust and respect. These types of contractual arrangements afford the owner a great deal of flexibility at all stages of the project.

Project Management

The owner selects a project manager who works as the owner's agent and is paid a fee for services. The project manager explores the requirements of the owner and translates the owner's requirements into the overall project program. The project manager takes on the responsibility of selecting the designers and contractors and enters into contracts with them on behalf of the owner. The project manager may employ a construction manager, a general contractor or a number of general contractors working on various phases of a project. The project manager may eliminate the need for a construction manager or general contractor altogether and direct the project himself by letting trade contracts for the various phases or components of the project.

The project manager must be skilled in carrying out program analyses, financial analyses, feasibility studies as well as having the ability to administer and direct the design and construction aspects of the project.

In this form of contractual arrangement, the owner usually has left a large measure of control of the project to the project manager, yet has retained the full risk of cost as project managers very rarely will guarantee final costs of the project as part of their mandate. Program development can be linear (before design) or overlap with design.

Public-Private Partnerships

A Public-Private Partnership (P3) model is a business relationship where the public and private sectors partner to share risks, rewards and project responsibilities. Typically the public sector will partner with the private sector whereby the private sector delivers a finished facility to the public sector on a long-term lease arrangement or on a concession basis. Ownership of the facility may or may not reside with the public sector at the termination of the lease arrangement. The consortium of private partners typically includes the contractors, consultants, financers, facility operators and service providers. Lease payments may be directly paid by a government or recovered through facility operations (i.e. user pay facilities such as a toll road, parking facility, leisure center, or a combination thereof). Considerable effort is required by the private sector to develop firm lease rates taking into account fixed construction costs, long-term finance rates and long-term operating and maintenance costs. Therefore the bid preparation time in a P3 model requires a longer time frame and is substantially more expensive than other forms of contracts. To show commitment and help offset the extraordinary expense of submitting P3 proposals, public owners often establish honorariums for unsuccessful compliant proposals. The P3 model requires the transfer of risk to those parties that are best able to manage the risk.

For example, at the bid preparation phase the contractor commits to a fixed price & schedule and the operator commits to long-term (20-25 years) operating and maintenance costs.

Summary

At the beginning of this discussion, we pointed out that every project has its own set of circumstances which may, to some measure, dictate the choices available for contractual arrangements. We would, however, encourage any of our clients to focus on the many advantages offered by the "team approach" fostered in the construction management options - particularly the construction management with a guaranteed price option.

The team approach . . . where the owner, designers and construction manager/general contractor working together right from the beginning of a project can realize substantial savings in both time and costs. Here the contractor is allowed to contribute his expertise during the design stage in order to help achieve a more economical project for the owner. Contractors are very aware of costs and trends and can contribute to the establishment of realistic budgets to assist in ensuring that design stays within the fiscal guidelines. Alternative types of construction (ie. structural frames vs. reinforced concrete) can be evaluated in light of current market conditions, weather considerations, access, etc.

Long delivery items such as specialty stone, complex equipment or other material can be preordered to suit the demands of the project schedule to ensure project momentum is maximized.

In the contractual approaches where construction management is employed, design and construction phases can overlap with resulting savings of approximately 30 percent as compared with the traditional design-bid format. The owner is also able to accelerate the return on his financial investment in the construction management options.

In the option for construction management, where the owner does not receive a guaranteed price from the construction manager, the owner in effect becomes his own contractor by taking on the traditional risks a general contractor would assume including strikes, productivity, weather, availability of tradesmen, price changes, bankruptcies, etc. By assuming these risks, the owner should expect to pay less in fees, but may find his own direct costs increase.

In the approach where construction management with a guaranteed maximum price is employed, the owner will shed the risks associated with contracting and receive a guaranteed maximum price for the construction of the project very early in the process. The owner should expect to pay higher fees for this form of construction management, but internal owner staffing will be minimized.

PCL believes strongly in teamwork, knows it works, and has the experience to prove it.