W12_Afra_Incentive Contracting Approaches

1.     Problem Recognition 

Incentive contracts are entered when there is some uncertainty in the cost of work, particularly when a product is being built to unique specifications. These contracts specify the amount of profit or fee payable under the contract for a contractor's performance. Incentive contracts establish a target price, target profit and a maximum cost. This is common in contracts involving test programs or modern technology or processes. Incentive contracts are designed to motivate contractor efforts that might not otherwise be emphasized and discourage contractor inefficiency and waste.

In my previous blog (w10) I developed an analysis to indicate the best contract to be used be the company, and as a conclusion, the Incentive contracts was the best among others, in this blog I choose to go deeper and see which of the incentive contracting approaches might be appropriate, as a suggestion from PDG.

2.     Feasible alternatives

In this blog, I’ll compare between five common approaches of incentive contracts:

1.     Cost Plus Incentive

2.     Fixed Price Incentive 

3.     Lane Rental Approach

4.     Incentive/Disincentive

5.     A+B or Cost-plus-Time

Figure 1: Approaches of incentive contracts

3.     Development of the outcome of Alternative

In this section, will have a comparison between the five approaches of incentive contracts in their advantage and disadvantage. Table 1 shows the comparison.

Type	Advantage	Disadvantage
Cost Plus Incentive	·   Having good documentation of the costs will assure that the organization is not paying for something that was not completed. ·   Encourage performance in areas critical to the project. ·   Motivate contractors to save or reduce project costs. ·   Keep the cost of production as low as possible.	·   Organization will take the risk of increasing the project cost when the costs of the work are not well known. ·   Reduces the amount of money the bidders place in the bid to account for the risk associated with potential increases in costs.
Fixed Price Incentive	·   Offers a predictable cost. ·   Protect against escalating cost. ·   Provide a stated price.	· The costs associated with project change if a change occurs on the project that requires a change order from the contractor. · May contain an economic price adjustment tied to an appropriate index.
Lane Rental Approach	·   Minimize the impacts of a project. ·   Creates a monetary incentive for the contractor to be innovative and minimize the duration of project closures. ·   Encourage contract efficiency and productivity. ·   contractors will take safety risks to reduce lane-rental charges.	·   Not necessarily reduces project completion time. ·   Requires additional agency resources. ·   Makes contract change negotiations difficult. ·   Requires additional documentation and coordination.
Incentive/Disincentive	·      Provide encouragement for contractors to complete projects by giving them incentives to finish ahead of the required schedule. ·      Financial disincentives would be collected from the contractor to make up for the loss of user costs if a project completion was delayed.	· Too much focus on financial reward and not enough focus on other aspects of work. ·  Additional funding may be required. ·  Contract changes can lead to disputes regarding the incentive payments. · Incentive amount or disincentive rate may not be enough to motivate the contractor to accelerate project.
Cost plus Time	·   Reduces project congestion and delays. ·   Encourages bidders to develop more detailed and well thought out plans. ·   Encourages contractors to develop innovative means of reducing overall project time at the lowest cost. ·    Encourages contractors to schedule project operations in a manner that maximizes the efficiencies of resources and equipment.	·   Contractor must take time to develop a reliable schedule. ·   Contract changes are magnified, which means when there are too many changes, the advantages of cost + time are nullified. ·   More resources might be needed for contract administration. ·   More intense negotiations for additional work because of timeliness is critical

Table 1: Comparison between incentive contracts approaches

4.     Selection Criteria

In order to determine which approach of incentive contract is most appropriate, there are some criteria must be considered:

Criteria	Description
Cost uncertainty	It is considered appropriate when it is difficult to estimate the final project cost and the client wishes to avoid the risk of cost escalation.
Uncertainty of scope	It is appropriate when the technical characteristics of the project are not specifically defined.
Process uncertainty	It is useful in situation where project methodologies are unknow at start or are expected to be complex.
Value for money	It provides the most efficient method for obtaining value of money.
Criticality of schedule	It is appropriate when the duration of the contract is critical.
Performance Criticality	It provides incentive for excellent quality and avoids cutting corners.
Availability for extra resources	It requires adequate staff in numbers and experience to supervise and/or manage the contract.
Contracture difficulties	It is simple to implement and does not require specialized calculations.
Claims	It reduces the number of claims expected.

Table 2: Rating Scale for each Criteria used in the evaluation

5.     Analysis and comparison of the Alternative

In this blog, I will analyze and compare the alternatives by using compensatory models. The attributes of the contract type as shown in table 3 below.

Attribute	Cost Plus Incentive	Fixed Price Incentive	Lane Rental Approach	Incentive and Disincentive	Cost-plus-Time
Cost uncertainty	Easy	Difficult	Easy	Easy	Difficult
Uncertainty of scope	Good	Fair	Good	Poor	Poor
Process uncertainty	Good	Fair	Good	Poor	Poor
Value for money	Poor	Fair	Poor	Good	Fair
Criticality of schedule	Share	Minimum	Share	Maximum	Maximum
Performance Criticality	Harder	Easy	Harder	Easy	Harder
Availability for extra resources	Easy	Easy	Harder	Harder	Easy
Contracture difficulties	Fair	Good	Fair	Good	Poor
Claims	Easy	Harder	Easy	Harder	Easy

Table 3: Attribute of Incentive Contract Approach

The data in the table above are driven from advantage and disadvantage matrix. 

Next step is to rank the attribute using non-dimensional scaling. Table 4 below shows the ranking clearly.

Attribute	Value	Relative Rank	Dimensional value
Cost uncertainty	Difficult	1	0.00
	Easy	2	1.00
Uncertainty of scope	Good	3	1.00
	Fair	2	0.50
	Poor	1	0.00
Process uncertainty	Good	3	1.00
	Fair	2	0.50
	Poor	1	0.00
Value for money	Good	3	1.00
	Fair	2	0.50
	Poor	1	0.00
Criticality of schedule	Minimum	3	1.00
	Share	2	0.50
	Maximum	1	0.00
Performance Criticality	Harder	1	0.00
	Easy	2	1.00
Availability for extra resources	Harder	1	0.00
	Easy	2	1.00
Contracture difficulties	Good	3	1.00
	Fair	2	0.50
	Poor	1	0.00
Claims	Harder	1	0.00
	Easy	2	1.00

Table 4: Non-Dimensional Scaling

After setting relative rank for each attribute, further is to conduct additive weighting for all alternatives as shown in table 5.

Attribute	Relative Rank	Normalized Weight (a)	Cost Plus Incentive		Fixed Price Incentive		Lane Rental Approach		Incentive and Disincentive		Cost-plus-Time
			b	a*b	b	a*b	b	a*b	b	a*b	b	a*b
Cost uncertainty	9	0.20	2	0.4	1	0.2	2	0.4	2	0.4	1	0.2
Uncertainty of scope	8	0.18	3	0.54	2	0.36	3	0.54	1	0.18	1	0.18
Process uncertainty	7	0.16	3	0.48	2	0.32	3	0.48	1	0.16	1	0.16
Value for money	6	0.13	1	0.13	2	0.26	1	0.13	3	0.39	2	0.26
Criticality of schedule	5	0.11	2	0.22	3	0.33	2	0.22	1	0.11	1	0.11
Performance Criticality	4	0.09	1	0.09	2	0.18	1	0.09	2	0.18	1	0.09
Availability for extra resources	3	0.07	2	0.14	2	0.14	1	0.07	1	0.07	2	0.14
Contracture difficulties	2	0.04	2	0.08	3	0.12	2	0.08	3	0.12	1	0.04
Claims	1	0.02	2	0.04	1	0.02	2	0.04	1	0.02	2	0.04
		1.00		2.12		1.93		2.05		1.63		1.22

Table 5: Weighting for Alternatives

6.     Selection of the preferred Alternative

Base from above calculation Cost Plus Incentive become the best alternatives to replace FFP contract type for our project.

7.     Performance Monitoring and the Post Evaluation of result

Management should consider using incentive contract type with cost plus incentive approach as the best alternatives to replace FFP contract type to avoid over budget project and monitoring should be conducted during the project contract to ensure that all requirements are met.

The result may be incorrect in this case study because my lack experience in the incentive contract approaches, this blog will be revised after I gain a lot of experience in this field so I can give accurate scores for each approach.

References: 

1.     US Legal, I. (2018). Incentive Contract Law and Legal Definition | USLegal, Inc.. Definitions.uslegal.com. Retrieved 7 January 2018, from https://definitions.uslegal.com/i/incentive-contract/

2.     W10_Afra_Contract Type for Project. (2018). Pmpopwp.blogspot.com. Retrieved 7 January 2018, from http://pmpopwp.blogspot.com/2018/01/w10afracontract-type-for-project.html#comments

3.     9.5 Selecting the Type of Contract | Project Management for Instructional Designers. (2018). Pm4id.org. Retrieved 8 January 2018, from https://pm4id.org/chapter/9-5-selecting-the-type-of-contract/

4.     dvantages & Disadvantages of a Fixed-Price Contract. (2018). Smallbusiness.chron.com. Retrieved 8 January 2018, from http://smallbusiness.chron.com/advantages-disadvantages-fixedprice-contract-21066.html

5.     ntoniou, F., Aretoulis, G., Konstantinidis, D., & Kalfakakou, G. (2018). Selection Criteria Used for the Choice of Contract Type for Major Highway Construction Projects. Retrieved 8 January 2018, from https://ac.els-cdn.com/S1877042812030571/1-s2.0-S1877042812030571-main.pdf?_tid=e5ae2cfa-f448-11e7-b13b-00000aab0f27&acdnat=1515398148_4761b1e466226b0f0118df5723a2a59d