Another key decision that must be made during the planning phase is what contract type to use. Unlike the method of procurement, which determines how a procuring agency will solicit bids or proposals for a project, the contract type determines how potential bidders or proposers will price the products or services. The contract type also defines the contracting environment that will govern the contractual relationship between the agency and the supplier.
Based on its market research the procurement professional should have a good idea how the supplier industry gauges various pricing models to the requirements of the needed product or service. This market research will be critical in helping a procurement professional to determine the contract type to solicit.
A key factor that drives the contract type is the level of project risk and how to fairly allocate that risk between the agency and the supplier. A risk that is high for the buyer (agency) will be low for the seller (supplier).
Fixed price contractA fixed price contract places responsibility on the supplier for the delivery of the products, or the performance of services, according to the contract terms at a price that may be firm or subject to contractually specified adjustments. This contract type is appropriate to use when the agency’s requirements for the extent and type of work can be reasonably specified, and the cost can be reasonably estimated, as is the case for standard commercial products or certain services.
There are two types of fixed price contracts: firm fixed price, and fixed price with price adjustment. The firm fixed price provides a price that is not subject to adjustment due to variations in the supplier’s cost of performing the work specified in the contract. It should be used whenever fair and reasonable prices can be established at the outset.
The fixed price contract with price adjustment provides for variation in the contract price under special conditions defined in the contract, other than customary provisions authorizing price adjustments due to modifications to the work. The formula, pricing index or other basis by which the adjustment in contract price can be made, must be specified in the solicitation and the resulting contract. Adjustment allowed may be upward or downward, only or both, depending on the requirement.
The indefinite quantity contract, is a type of fixed price contract in which the unit price is set but the total number of units may not be.
Time and materials/labor hour contractA time and materials contract provides an agreed basis for payment for materials supplied and labor performed. It is important, to the extent possible, that a time and materials contract contain a stated ceiling or an estimate that must not be exceeded without prior agency approval.
A labor hour contract provides only for the payment of labor performed. A labor hour contract must contain the same not to exceed pricing ceiling as the time and materials contract. A labor hour contract also requires the same determination as required for a time and materials contract.
Cost reimbursement contract
The cost-reimbursement contract provides for payment to a supplier of allowable costs, as specified in the contract and incurred in the performance of the contract. This contract type establishes at the outset an estimated cost for performance, and a dollar ceiling which the supplier may not exceed, except at its own expense, without prior approval or subsequent approval by the agency. A contract reimbursement contract provides that the supplier agrees to perform as specified in the contract until the contract is completed, or until the costs reach the specified ceiling, whichever occurs first.
This contract type is appropriate when the uncertainties involved in performance are significant enough that the cost of contract performance cannot be estimated with sufficient certainty to realize economy by use of any type of fixed price contract. It is particularly suitable for research, development and study contract types. This contract type requires appropriate monitoring by agency personnel during performance to provide reasonable assurance that the objectives of the contract are being met.