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Procurement Management

Sharif Project Management

Session 11 – Fall 1390

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Procurement

Purchasing, Acquisition, Supply (Materials, Services, Results, Consultants)

Outsourcing, Sub-contractors Contracts, Supplier Relationships

Impossible to produce everything internally!

Inputs to company must be procured/managed

Contracts and relationships must be managed!

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Procurement Management

Includes the processes to purchase or inquire the products, services, or results needed from outside the project team to perform the work.

Includes the contract management & change management processes needed to administer contracts or purchase orders issued.

Plan Purchases/Acquisitions o Plan Contracting Request Seller Responses o Contract Closure Select Sellers o Contract Administration

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The Make Decision

Less costly (but not always!!) Easy integration of operations Utilize existing capacity that is idle Maintain direct control Maintain design/production secrecy Avoid unreliable supplier base Stabilize existing workforce

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The Buy Decision

Less costly (but not always!!) Utilize skills of suppliers Small volume requirement (not cost

effective to produce) Having limited capacity or capability Augment existing labor force Maintain multiple sources (qualified

vendor list) Indirect control

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Procurement Strategies

Corporate procurement strategy: the relationship of specific procurement actions to the corporate strategy

Project procurement strategy: the relationship of specific procurement actions to the operating environment of the project

Procure all goods/services from a single source. Procure all goods/services from multiple sources. Procure only a small portion of the goods/ services. Procure none of the goods/services.

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Procurement Management

1. Requirement cycle: definition of the boundaries of the project

2. Requisition cycle: analysis of sources

3. Solicitation cycle: the bidding process

4. Award cycle: contractor selection and contract award

5. Contract administration cycle: managing the subcontractor until completion of the contract

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1. Requirement Cycle

Defining the need for the projectDevelopment of the statement of work,

specifications & work breakdown structurePerforming a make or buy analysisLaying out the major milestones and the

timing/scheduleCost estimating, including life-cycle costingObtaining authorization/approval to proceed

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Specifications are written, pictorial, or graphic information that describe, define, or specify the services or items to be procured. There are three types of specifications:

• Design• Performance• Functional

Specifications

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Types of Specifications

Design specifications: These detail what is to be done in terms of physical characteristics. The risk of performance is on the buyer.

Performance specifications: These specify measurable capabilities the end product must achieve in terms of operational characteristics. The risk of performance is on the contractor.

Functional specifications: This is when the seller describes the end use of the item to stimulate competition among commercial items, at a lower overall cost. This is a subset of the performance specification. The risk of performance is on the contractor.

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2. Requisition Cycle

Evaluating/confirming specifications (are they current?)

Confirming sources Reviewing past performance of

sources Producing solicitation package

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3. Solicitation Cycle

Bid documents (usually standardized) Listing of qualified vendors (expected

to bid) Proposal evaluation criteria Bidder conferences How change requests will be managed Supplier payment plan

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Solicitation CycleAdvertisingNegotiationSmall purchases (i.e., office supplies)

Negotiation ProcessesRequest for information (RFI)Request for quotation (RFQ)Request for proposal (RFP)

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Negotiation Planning

Develop objectives (i.e., min-max positions)

Evaluate your opponent

Define your strategy and tactics

Gather the facts

Perform price/cost analysis

Arrange “hygiene” factors

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Negotiation Objective-Setting

Buyer

Seller

Min

Min Objective

Objective Max

Max

Price

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Contract Negotiations Requires Knowing When to Speak and When to Be Quiet.

Negotiation Factors

Compromise-ability Adaptability Good faith

Research Your Supplier/ Customer Before Entering Into Contract Negotiations

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4. Award Cycle

The objective of the award cycle is to

negotiate a contract type and price that

will result in reasonable contractor risk

and provide the contractor with the

greatest incentive for efficient and

economic performance.

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Contract ElementsMutual agreementConsiderationContract capabilityLegal purposeForm provided by law

Contract FormsContract CompletionContract Terms

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Contract Selection Criteria

Overall degree of cost and schedule risk Type and complexity of requirement (technical risk) Extent of price competition Cost/price analysis Urgency of the requirements Performance period Contractor’s responsibility (and risk) Contractor’s accounting system (is it capable of

earned value reporting?) Concurrent contracts (will my contract take a back

seat to existing work?) Extent of subcontracting (how much work will the

contractor outsource?)

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Contracting Type

Fixed price contract

Cost plus contract

Unit rates contract

EPC-Turnkey contract

BOOT contract

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Contract’s Risk and Reward Go Hand-in-Hand

Negotiating wrong type of contract can be devastating!

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Contractor’s Risks

FFP CPFF

Risk On Contractor

HIGH LOW

LEGEND

FFP FIRM FIXED PRICECPFF COST PLUS FIXED FEE

Risk On Client

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Cost Plus Contracts

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Cost-Plus-Fixed-Fee Contract (CPFF)

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RISK SHARING METER

RISKLOCATION

• All costs are reimbursed (cost run-ups)• Fee is fixed (in $$$ not %) irrespective of costs• Contractor is motivated for early completion

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Cost-Plus-Award-Fee Contract (CPAF)

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• All costs are reimbursed (cost run-ups)• Negotiated range of possible profits• Award may be percentage of cost

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Cost-Plus-Incentive-Fee Contract (CPIF)

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• Contractor can earn additional profits• All costs are reimbursed (cost run-ups)• A “floor” and “ceiling” exists on profits

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Firm-Fixed-Price Contract (FFP)

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• Maximum risk with contractor• Higher negotiated profit margins• High likelihood of scope changes

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Firm-Fixed-Price with Economic Price Adjustments (FPE)

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• Adjustments for escalation factors• Adjustments for inflation• Negotiated adjustment cycle

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Incentive Contracts• Additional profits are possible by lowering cost

• Customer and contractor share cost savings

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Principles of Incentive Contracts

TARGET COST: $20,000TARGET FEE: $1500SHARING RATIO: 80/20 %

• Customer pays 80 % of overrun

• Contractor pay 20 % of overrun

• Profit is $1500 lessCONTRACTOR’S 20 %

• Customer keeps 80 % of underrun

• Contractor keeps 20 % of underrun

• Profit is $1500 plusCONTRACTOR’S 20 %

Note: limitations may be imposed on price or profit

EXAMPLE

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Fixed-Price-Incentive-Fee Contract (FPIF)

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RISKLOCATION

• Contractor can earn additional profits• Contract has a ceiling on price (or cost) paid• Incentive may be on time, quality, other factors

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Cost-Sharing Contract (CS)

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• No profits allowed• Customer and contractor share costs• Contractor may retain control ofProprietary knowledge after completion

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Cost Contract (C)

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• No profits allowed• Contractor is usually a non-profit organization• Limitations on costs allowed may be imposed

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Cost-Plus-Percentage-of-Cost Contract (CPPC)

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RISKLOCATION

• COSTS INCURRED MAY BE UNLIMITED

• CONTRACTORS CAN MAXIMIZE PROFITS

• SCOPE CHANGES MAY BE FREQUENT AND UNLIMITED

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Relative Contract Risk

RISKLOCATION

FFP

FFE

FPIF

CPIF

CPAF

CPFF

CSC

CPPC

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100 %

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There are several other types of contracts available. They may be derivatives of these contracts, combinations, or simply special contracts for special circumstances.

Other Types of Contracts

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5. Contract Administration Cycle Change management Specification interpretation Adherence to quality Warranties Subcontractor management Production surveillance Waivers Contract breach Resolution of disputes Project termination Payment schedules Project closeout

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Order of Precedence

A. Specifications (first priority)

B. Other instructions (second priority)

C. Other documents, such as exhibits, attachments, appendices, SOW, contract date requirements list [CDRL], etc. (third priority)

D. Contract clauses (fourth priority)

E. The schedule (fifth priority)

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Type of Changes

Administrative changeChange orderContract modificationUndefinitized contractual actionSupplemental agreementConstructive change

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Causes of Constructive ChangesDefective specification with

impossibility of performanceErroneous interpretation of contractOver-inspection of workFailure to disclose superior knowledgeAcceleration of performanceLate or unsuitable owner or customer

furnished propertyFailure to cooperate Improperly exercised optionsMisusing proprietary data

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Reasons for Termination For Convenience of the Customer

Elimination of the requirementTechnological advances in the state-of-

the-artBudgetary changesRelated requirements and/or

procurementsAnticipating profits not allowed

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Reasons for Termination -For Default Due to Contractor’s Actions

Contractor fails to make delivery on scheduled date.

Contractor fails to make progress so as to endanger performance of the contract and its terms.

Contractor fails to perform any other provisions of the contract.

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Contract Administration Rights

Reject the entire shipmentAccept the entire shipment (barring

latent defects)Accept part of the shipment