SE503
Advanced Project
Management
Dr. Ahmed Sameh, Ph.D.
Professor, CS & IS
Managing Contractors and Consultants
What is a Contract?
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Offer to do business (Request for Proposals)
Acceptance of offer (Formal Proposal)
Agreement on consideration (Pay/Incentives)
Constraints
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Owners scope of work must be legal activity
Contractor must be legally able to perform the
scope of work
Contract Procedure
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Definition of Needs (Bid package)
Invitation to Bid
Pre-bid meeting
Solicitation Period
Bid Opening
Post-Bid Discussion/Negotiation
Bid Award
Bid Package
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Detailed Scope of Work
Detailed Drawings (list)
Detailed Specifications
(materials and methods)
Acceptance of Work by
Owner
Financial Arrangements
(contract type, fee formula,
multipliers, payment
schedules)
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Materials Supplied by
Owner
Materials Supplied by
Contractor
Project/Work Schedule
Sealed Bids to be Delivered
to ___ by ___
Technical Questions to be
Directed to ___ at ___
Legal “boilerplate” – reserve
the right to reject any and all
bids
Procedures...
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Invitation to Bid (RFP)
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Send to known contractors (how many?)
Publish if necessary
Dates/times/locations
Pre-Bid Meeting
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Information, clarification
Site tour
Procedures…
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Solicitation period
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How long?
Student’s syndrome
Bid opening
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Late bids not accepted
All bids sealed
Witnessed opening
Note exceptions
Bid Problems
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Late Bids
Low Bids
High Bids
Not Enough Bids
Sandbagging
Unfairness & Unethical Behavior
Procedures…
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Bid Award
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Discussion/Negotiation
Final documents + changes to successful bidder
“Dear John” letter to unsuccessful bidders
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How much do you tell them?
Contract Types
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Fixed Price
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Incentive fee
Fixed fee (hidden)
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Cost Plus
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Incentive fee
Fixed fee
Percentage fee
Time & Material
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Established labor rates
Material mark-up
Not to exceed
Do Not Combine
Contract Types with a
Single Contractor
Change Order
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Change to the scope of work or
specifications during contract execution
Additional compensation and time for the
contractor
Some contractors rely on these for profit
Have a well-documented procedure
Which is Best?
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Contractors and owners often have different
objectives
Many contract types are possible
How do we find out which is best without
actually executing the project?
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Simulated environment
Intelligent agents
Objectives of The Parties
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Owner
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Contractor
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Budget
Schedule
Quality
Profit margin
Future business
Objectives often conflict
Intelligent Agents
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React to environment
Autonomous control of actions
Goal oriented
Communication with other agents
Learning ability
Believable behavior
One Possible Approach
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Intelligent agents can be used to model the
owner-contractor relationship
The model can be used to determine which
contract will lead to the best outcomes for a
given situation
A Lot of Assumptions
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Owner
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Single task…
Done by a single contractor
Item
Crew size (workers)
Labor required (worker-hours)
Duration (8-hour days)
Estimate
5
400
10
Labor cost (400 hr. @ $56/hr.)
$22,400
Material cost
$30,000
Contractor fees (15%)
Total project cost
$7,860
$60,260
Economic Assumptions
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10-year life
No salvage value
Benefits of $12,000 per
year
IRR 15%
Year
0
Costs
Benefits
$60,260
Cash
Flow
-$60,260
1
$12,000
$12,000
2
$12,000
$12,000
3
$12,000
$12,000
4
$12,000
$12,000
5
$12,000
$12,000
6
$12,000
$12,000
7
$12,000
$12,000
8
$12,000
$12,000
9
$12,000
$12,000
10
$12,000
$12,000
Contractor Assumptions
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Adequate crew size
Fixed overhead of $6000
Target profit margin 6%
Labor rate
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$40/hour base
$16/hour load
$56/hour total
No overtime
Contractor Parameters
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Labor productivity
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Labor quality
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0.8 to 1.2
0.8 to 1.0
Material quality
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0.8 to 1.0
Simulated Task
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Estimated labor hours, material cost, crew
size
Target
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Labor productivity 1.0
Labor quality 1.0
Material quality 1.0
Budget: labor+material+15%
Duration based on estimated hours, crew size
Simulated Contracts
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Fixed bid
Time and material (15% markup)
Fixed labor (15% on material)
Fixed fee ($10,000)
Budget incentive ($7500+50% of savings)
Schedule incentive ($7500+$1500/day)
Quality incentive ($7500+ $150/% point)
Contractor Bidding
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Bids were submitted to match the contract
type
Bidding rule was 10% over expected variable
cost
Contractor Learning
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Maximize profit margin
inv  mat  lab  oh 
p
inv
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By adjusting
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Labor productivity
Labor quality
Material quality
Simulated Annealing - Iterations
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Parameters initialized to 1.0
Step size set at 0.05
One of three parameters chosen at random
Direction of change chosen at random
Change made if within limits
Execute contract and check profit
Keep the change if profit improves
Repeat 60 times at each step size
Simulated Annealing Convergence
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Reduce step size by 0.80 multiplier
Do 60 more iterations at new step size
Repeat until step size is below 0.0001
Typical Learning Performance
Learning Progress, Fixed Bid Contract
10.00%
Profit Margin
5.00%
0.00%
-5.00%
-10.00%
-15.00%
1
6
11
16
21
26
31
36
41
46
51
56
61
66
71
Iteration
Current
Best
76
81
86
91
96
101 106 111 116
Task Outcomes
Contract Type
Quality
Duration
(Days)
Labor
Cost ($)
Material
Cost ($)
Fees
($)
Total
Cost ($)
Fixed Bid
0.8
10.4
$23,330
$24,000
$10,288
$57,640
Time and Material
0.8
15.6
$35,000
$37,500
$10,880
$83,380
Fixed Labor
1.0
8.3
$18,670
$30,000
$10,470
$59,140
Fixed Fee
0.8
10.4
$23,330
$24,000
$10,000
$57,330
Budget Incentive
0.8
10.4
$23,330
$24,000
$10,040
$57,370
Schedule Incentive
1.0
8.3
$18,670
$30,000
$10,000
$58,670
Quality Incentive
1.0
8.3
$18,670
$30,000
$10,000
$58,670
Target
1.0
10.0
$22,400
$30,000
$7,860
$60,260
Contractor Outcomes
Contract
Type
Labor
Productivity
Labor
Quality
Material
Quality
Profit
Margin (%)
Fixed Bid 1.2
1.0
0.8
7.5%
Time and Material 0.8
0.8
1.0
5.9%
Fixed Labor 1.2
1.0
1.0
7.6%
Fixed Fee 1.2
1.0
0.8
7.0%
Budget Incentive 1.2
1.0
0.8
7.0%
Schedule Incentive 1.2
1.0
1.0
6.8%
Quality Incentive 1.2
1.0
1.0
6.8%
Target 1.0
1.0
1.0
6.0%
Owner Outcomes - Economics
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Quality factor (labor quality x material quality)
Benefit values multiplied by QF
First-year benefits adjusted up (or down) $48
per day that job was ahead of (or behind)
schedule
Cost set to actual invoice amount
IRR (%) calculated based on adjusted cash
flows
Owner Outcomes
Contract
Type
Quality
Duration
(Days)
Total
Cost ($)
Benefit
Year 1
Benefit
Years 2-10
Return
(IRR%)
Fixed Bid
0.8
10.4
$57,640
$9580
$9600
10.5%
Time and Material
0.8
15.6
$83,380
$9331
$9600
2.6%
Fixed Labor
1.0
8.3
$59,140
$12081
$12000
15.5%
Fixed Fee
0.8
10.4
$57,330
$9580
$9600
10.7%
Budget Incentive
0.8
10.4
$57,370
$9580
$9600
10.6%
Schedule Incentive
1.0
8.3
$58,670
$12081
$12000
15.7%
Quality Incentive
1.0
8.3
$58,670
$12081
$12000
15.7%
Target
1.0
10.0
$60,260
$12000
$12000
15.0%
Owner Perspective
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Fixed Labor, Schedule Incentive, and
Quality Incentive contracts best
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Fixed Bid, Fixed Fee, and Budget
Incentive contracts next
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High quality, high IRR, ahead of schedule
On time, lower quality, lower IRR
Time and Material contract worst
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Low quality, very late, very low IRR
Contractor Perspective
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Fixed Labor, Fixed Bid best (7.5-7.6%)
Fixed Fee and Incentive contracts next (6.87.0%)
Time and Material good for keeping people
busy and maintaining profit margin (5.9%)
Contractor needs access to high quality,
productive labor pool to exceed target profit
margin
Risk Allocation
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Risk/Reward tradeoff
Contractor
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Fixed Bid highest
Fixed Labor and Incentive contracts moderate
Fixed Fee and Time and Material lowest
Owner
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Fixed Bid, Budget Incentive, and Fixed fee limited
budget risk
Fixed Labor, Schedule Incentive, and Quality
Incentive balanced the priorities
Time and Material was highest risk (no reward)
Personal Experience
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Believable contractor behavior
Fixed Bid
Time and Material
Fixed Labor
Penalties and incentives
What Contract is Best for the
Owner?
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It depends…
The level of detail possible or desirable in the
bid package
The relative priorities of budget, schedule,
and quality
The willingness of the owner to assume risk
Decision Process
Limitations
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Simple bid process
No change orders
Single task/single contractor
Many assumptions
Multiple Contractors
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Common situation
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Individual incentives clash
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Engineer-Procure-Construct (EPC)
Multiple trades or specialties
Owner objectives
Contractors may make money at the expense of
others or the project
Proposed Contract: Incentive fee pool
Incentive Contract Types
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Firm Fixed Price
Const Plus Fixed Fee
Cost Plus Incentive Fee
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High owner risk (cost plus fixed fee)
High contractor risk (firm fixed price)
Risk sharing
Risk sharing contracts work!
Risk Sharing Formula
Single Contractor
F    mo B  
Where:
F is fee due contractor
m0 is original contractor profit margin
B is original budgeted cost of the work
ρ is risk sharing fraction
Δ is deviation from original budget (over-run being
positive)
Incentive Fee Formula
 B1  1 

F1    mo Bt   t 
 Bt   t 
where :
Bt  B1  B2  B3
 t  1   2   3
Profit Margin
mo Bt   t
m1  m2  m3 
Bt   t
Some Scenarios
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Over-run
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One or more contractors exceed budget
Profit margin for each contractor drops
Under-run
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One or more contractors come in under budget
Profit margin for each contractor increases
More Scenarios
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Bad trade-off
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One contractor saves money at the expense of the
other contractors, increasing project cost
Profit margin for each contractor drops
Good trade-off
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One contractor spends more money but the others
are able to save as a result, decreasing project cost
Profit margin for each contractor increases
Contractor Profit and Owner Cost
16.50
Contractor Profit Margin (%)
16.00
15.50
15.00
14.50
14.00
13.50
102.5
102.0
101.5
101.0
100.5
100.0
99.5
99.0
Owners Final Cost (Thousands)
98.5
98.0
97.5
Variations
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Different sharing fractions
Different profit margins
Quality incentives
Schedule incentives
Conclusions
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CPIF works well for single contractors
Cost Plus Pooled Incentive Fee (CPPIF)
works for multiple contractors
Holistic behavior
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All parties work toward common goals
Cooperation encouraged
All contractors have same profit margin
Contract Management
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Head Counts
Material Verification
Work Quality, Schedule, and Cost Control
Document All Changes in Writing
Close Out ASAP
Be Hard Nosed (They are!)
Engineering Consultants
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Need for Consultants
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Specific skills
Size of project
Consultant Responsible For...
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Design
Construction/Start-up
Contracting
Evaluating Consultants
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Reputation (Talk to other clients)
Size/Success
Appropriate Skills
People Available for YOUR Job
Location
Cost
Consulting Agreements
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Hours & Expenses
Maximum (not to exceed)
Fixed Fee
On-Site or Off-Site
Define Expenses
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Office/copies/fax/phone/secretarial
Travel
Consultants Are...
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Professionals
Design-Oriented (less concerned with budget
and schedule)
Expensive
Obtaining Bids from Consultants
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Scope of Work Poorly Defined
Work Difficult to Estimate
People are Dynamic (Other Jobs)
Not to Exceed Figure
Incentive Formula
Clearly Identify Deliverables & Dates
Expect Deviation from Estimate
Managing Consultants
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Monitor Progress and Deliverables
Monitor Quality of Design/Specs/Drawings
Verify Hours and Expenses
Control Travel
Document Change Requests in Writing
Terminate Agreement ASAP
Be Professional (If they are!)
Summary
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Contract management has been called the
“Keystone of project management”
Contract and consultant management is
difficult
Good contract and consultant management
is a huge step toward good project
management