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Types of Contracts

Types of Contracts

1-Lump Sum Contracts.

2-Unit Price Contracts.

3-Cost Plus Contracts.

4-Incentive Contracts.

1-Lump Sum Contract

In Lump sum contract, the engineer or/and contractor agrees to do the described & specified project for a fixed price. Also named “Fixed Fee Contract”. Often used in engineering contracts.

A Lump Sum or Fixed Fee Contract is suitable if the scope & schedule of the project are sufficiently defined to allow the consulting engineer to estimate project costs

Advantages of Lump Sum Contract

  1. Lower financial risk to Client.
  2. Higher financial risk to Contractor.
  3. Minimum Owner supervision related to the quality & schedule.
  4. The contractor has a higher incentive to achieve earlier completion & better performance.
  5. Contractor selection is relatively easy.

Advantages of Lump Sum Contract

  1. Changes difficult and costly. (but it usually is)
  2. Need to substantially complete design prior to bidding.
  3. Contractor inclined to choose lowest methods/materials to comply with the specification.
  4. Hard to build a relationship. Each project is unique.
  5. Bidding expensive and lengthy.
  6. Contractors sometimes include high contingency within each Schedule of Rate item

2-Unit Price Contract

Unit Price Contract is a type of contract based on estimated quantities of items and unit prices (rates: hourly rates, the rate per unit work volume, etc.). In general, the contractor’s overhead and profit are included in the rate. The final price of the works is depending on the total quantities needed to carry out and complete the work. The Unit Price Contract is suitable only for well-known resources involved project but unknown quantities at the time of the contract which will be defined when the design & engineering or construction work is completed.

The unit price contract is based on estimated quantities of items included in the project & their unit prices. The final price of works of the project is dependent on the quantities needed to carry out the work.

In general, a unit price contract is only suitable for construction & supplier projects where the different types of items, but not their numbers, can be accurately identified in the contract documents.

It is not unusual to combine a Unit Price Contract for parts of the project with a Lump Sum Contract or other types of contracts

Here’s a list of costs that are commonly factored into unit prices:

  • Labor
  • Material
  • Overhead
  • Profit
  • Taxes
  • Permit and Inspection Costs

Advantages of Unit Price Contract

– It makes the selection of a contractor is easy (the person with the cheapest unit price is usually chosen)
– It increases the speed of the project as the contractor wants to finish as many units of work as soon as possible.
– It allows the client to relate the cost of his project to tangible & measurable results (which are the units of work).

Disadvantages of Unit Price Contract

– The cost of the project can be limitless when using hours (or any other unit of measurable time, such as days) for unit pricing. Which is why in these types of contracts, there is a maximum number of units that the vendor can charge the client with, and when this maximum number of units is exceeded, the cost of the unit is reduced. In any case, owners are at risk in unit price contracts when an hour is used as a unit of pricing.

– The quality of the work may suffer. Let’s take the example of the painting above, the faster the contractor finishes the job, the faster he’ll get paid, and that may result in sub-standard quality because he just wants to finish another square meter of paint as fast as possible. In order to avoid this, strict quality standards must be enforced by the client.

– Misleading bidding. Let’s say two contractors are bidding for a job, and each is using the same pricing units, and one of them is cheaper than the other. Instinctively, the client chooses the cheapest of the two. But the cheapest of these two appear to be slower or has a lower quality of work, etc…

3-Cost Plus Contract

A contract agreement wherein the purchaser agrees to pay the cost of all labor & materials plus an amount for contractor overhead & profit (usually as a percentage of the labor and material cost). The contracts may be specified as:

  • Cost Plus Fixed Percentage Contract
  • Cost Plus Fixed Fee Contract
  • Cost Plus Fixed Fee with Guaranteed Maximum Price Contract
  • Cost Plus Fixed Fee with Bonus Contract
  • Cost Plus Fixed Fee with Guaranteed Maximum Price and Bonus Contract
  • Cost Plus Fixed Fee with Agreement for Sharing Any Cost Savings Contract

Cost plus contracts are favored where the scope of the work is indeterminate or highly uncertain & the kinds of labor, material & equipment needed are also uncertain. Under this arrangement, complete records of all time & materials spent by the contractor on the work must be maintained.

Advantages of Cost-Plus Contracts

  • They eliminate the risk for the contractor.
  • They allowing the focus to shift from the overall cost to the on the quality of work being done.
  • They cover all the expenses related to the project, so there are no surprises.

Disadvantages of Cost-Plus Contracts

  • They may leave the final cost up in the air since they can’t be predetermined.
  • They may lead to a longer timeline for the project.
See Also

Types of construction contracts

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