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June 14, 2024

Project Management: Three Types of Contracts to Know About

Alex Lubka Project management

Project management involves a range of fields. IT requires management, control, and tracking of projects to ensure that they are completed on time and as per client expectations. All this involves finances, and nothing is complete in finance unless you have the contracts to show for it.

These contracts are often the proof of a deal between you and vendors, between the client and you, or the terms of an agreement. The contract is usually made keeping in mind the best arrangement for both parties involved.

Project management involves three types of contracts. This post goes over these contracts and what they mean, giving you a detailed idea about each kind.

Fixed Price Contracts

Fixed-price contracts, also known as lump sum contracts, usually indicate a fixed scope of work. The vendor is expected to complete the work within the stipulated time and price. This places most of the responsibility on the vendor, and price negotiations do not happen unless there are changes in the scope.

The intention of a fixed price contract is to control the cost. Suppliers bid with lower prices in order to land the contract, and they stand a chance to earn extra revenue if there are any changes in the scope.

Fixed price contracts might take time to create and get approved, as vendors would want to make sure that they account for the time and resources. This helps prevent any overhead they might have to shell out for.

In addition, these types of contracts usually include early termination benefits and penalties in case of missed deadlines. A Fixed Price Contract can be divided into three categories, namely:

  • Firm Fixed Price Contract
    • This means that a vendor has to complete a task for a fixed price within a defined time period.
  • Fixed Price Incentive Fee Contract
    • This includes a fixed price, but the seller may receive an incentive for a job well done. This helps the vendor to reduce their risk, and the incentive is usually tied to the project’s performance indicators.
  • Fixed Price with Economic Price Adjustment Contract
    • This is especially useful in multi year contracts, and takes into account provisions to protect the vendor from inflation. This may be through periodic increase of cost, or any other such pre-determined deals. Long term projects need protection from inflation, especially when they include raw materials.

Cost Reimbursable Contracts

Cost reimbursable contracts are drawn out when you pay the vendor the actual cost of work. This covers the cost of materials used, equipment, salaries and so on. It also includes a fixed percentage amount for indirect costs like electricity.

The cost-reimbursable contract includes clauses that account for their profit. This is usually a percentage profit above the cost price of materials and other direct costs. This is what gives the vendor their profit. Make sure you know exactly what the costs are and the profit percentage before you get a cost-reimbursable contract made.

Time and Materials Contract

Time and materials contracts are drawn to reimburse the vendor for the purchase of materials. It also includes a per day or hourly rate for the time and effort spent on the project.
This is the perfect fit for projects that require you to make changes along the way, or in case you do not know the end cost. This also fits well into any budget, ensuring that you only spend for the effort being made and it helps you avoid any unnecessary costs.

These three types of contracts are the basics of project management deals. Make sure you figure out the right kind based on your needs!

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