Case Study – Strategic Application of Pricing Models – A Lesson in How to use Cost Plus with GMP to Reduce Risk and Time in Design and Construction.

You may recall that a few weeks ago, I attended the first ever PorcureCon Facilities Conference in Fort Lauderdale Florida.  During this conference I participated as a moderator and Speaker.  The Speaking event I led was called “Think Tank – Build Me Up – Exploring Construction Procurement”.

As part of my talk, I created two case studies.  Case Study number 1 was an example demonstrating how pricing models can be combined to solve procurement problems.  In this article I will share this case study with you and make my ProcureCon presentation slides available for download.

The Challenges

To frame the case study, first I want to share the procurement problems I was addressing.

My Stakeholder was building a Chemical Manufacturing Plant in the UK.  I was engaged rather late and with little to no scope definition.

The challenge before me was as follows:

  1. There was no time for procurement.  Work need to begin immediately.
  2. The stakeholder wanted to retain control over trade contractor selection.
  3. Cost was a major concern, but quality could not be compromised.
  4. A Guaranteed Maximum Price was desired.

To solve all of these problems, I broke the engagement down into phases.

The Architect

My first challenge was that I needed a scope of work.  So I needed an Architect, but of course even an Architect needs a scope, so I contracted the Architect in two parts.

For the first part of the Architects engagement, I used a time and material (T&M) with a not to exceed (NTE) pricing model.  We made a single source award to an incumbent Architect for whom we had previously negotiated hourly rates.  This allowed us to engage the Architect immediately to develop a concept plan.  Since we had minimal scope for the Architect, the variable nature of the T&M rates allowed the Owner to begin developing their design with few encumbrances, but the NTE portion of the engagement limited the Owner’s exposure.

The second part of the Architect’s engagement (the Detailed Design Phase) was done on a Cost per Square Foot basis.  This means that the Architect quoted a rate up front which later (once we knew what the design of the building would be) converted to a fixed price.

To convert to a fixed price, we simply took the overall square footage of the final approved concept plan (developed in the first part of the Architect’s engagement) and multiplied it by the quoted rate.  This converted the rates into a fixed price and the Architect completed the design under a fixed price.

The Construction Manager

The quick work we did to engage the Architect bought us some time to run a full sourcing on the Construction Manager, but we also wanted the Construction Manager to participate in the design phase.  This meant that the CM would have to be on-board before the design was fully complete.

The reason for engaging a CM before the design is complete is because Owner’s derive significant additional value from Constructability reviews and Value Engineering.  It’s estimated that this level of early engagement with a CM realizes between 5% to 20% in construction cost savings.  So the CM engagement was also split into multiple parts.

Part one of the CM engagement would be a Pre-construction Phase which was solicited as a stipulated sum.  During pre-construction the CM conducted drawings review and led value engineering exercises.  This is also the time when the CM began trade procurement, schedule development, cost estimating, and mobilization.

Part two of the CM engagement is the Construction Management phase.  This portion of the work was solicited on a Cost Plus with Open Book.  The nuance here was that the fee was quoted as a percentage of cost of work, but the general conditions costs were quoted as a fixed weekly rate.  We also added a provision which converted the rates into a Guaranteed Maximum Price (GMP).

It’s quite common to have cost plus with GMP, but in most cost plus contracts the cost of general conditions are also considered under the definition of cost of work.  If your CM is subcontracting everything to a third party and they are not providing any of their own man-power or equipment, this may be an acceptable arrangement.

I prefer not to allow the general conditions to be part of the cost of work because many CM’s use their own equipment and their own full time employees to perform general conditions tasks.  When a CM uses his own resources, the costs for those resources are typically already loaded with overhead and profit.  When you allow the CM to use his resources and then add a mark-up to the cost of the resources, the Owner over-pays for the profit and overhead.

Separating self-performed costs from sub-contracted costs allows you to control these costs more effectively while ensuring the CM’s expenses are covered.

The final contract provision in the engagement stated that once the trade work was at least 80% procured, the CM and the Owner would then set the GMP.  Setting the GMP as late as possible (once most of the unknowns have been uncovered) is essential for minimizing the risk from both parties.

Closing

This series of engagements allowed for a quick start, deep collaboration, cost transparency, and limited exposure.  The end result of this project was very successful.  The Owner reported that the project went very smoothly with only minimal changes.

So this was the first case study from my think tank presentation.  After the presentation we had a very lively discussion which included everything from discussions about the differences between GMP and Lump Sum contracts to what should be included in the general conditions costs.  All in all, I think it was well received.

Accompanying this article I’m making the presentation available for download here.

So what do you think of this form of engagement?  Have you done something similar?  Was it successful or did you encounter challenges?  Tell me your stories.

Thanks for reading.  If you enjoyed this content, please feel free to browse my previous articles and please like, share, comment, and subscribe.  This helps promote my content and is greatly appreciated.

 

Advertisements

2 thoughts on “Case Study – Strategic Application of Pricing Models – A Lesson in How to use Cost Plus with GMP to Reduce Risk and Time in Design and Construction.

Leave a Reply

This site uses Akismet to reduce spam. Learn how your comment data is processed.