Procurement Question - Most Risk To Buyer/Seller

 Here's a question I came across:

 

Which of the following contracts has the MOST risk for the buyer?

 

Cost plus fixed fee (CPFF)

Time and Materials (T&M)

Cost plus award fee (CPAF)

Fixed price (FP)

 

 

Which one do you think is the answer?  I picked the one that listed in Rita Muchaly's PMP Exam Prep (6th Edition) page 437.

 

 

 

admin's picture

For the buyer its CPFF, since he will always have to pay the cost and the fixed fee.

T&M has most risk compared to rest, seller has nothing to lose on this.


they get paid for the time and also for material.


 

In T&M  it is possible to set the limits for cost expended as well as  for the duration so dont think T&M can be that risky as compared Cost Plus Fixed Fee (CPFF)

Dalpmo, can you please post the answer with explanation.


Thank you.


 


 


 

This is what i thought:


LOW Buyer's Risk HIGH
Fixed Price (FFP,FPIF)--Cost reimbursable (CPIF,CPFF,CPF,CPPC)--Time and Material

LOW Seller Risk HIGH
Time and Material--Cost reimbursable (CPPC,CPF,CPFF,CPIF)--Fixed Price (FFP,FPIF)
 


Thanks,


Raj

Raj,


Why do u think T&M is the riskiest for the buyer?  After all, buyer has the flexibility to terminate the contract abruptly and do away with just paying the costs associated with labor and materials where as any CPxx involve paying labor, materials + a % on top of it.


Chandra

Cost plus fixed fee:


On a cpff contract the buyer agressto reimburse the sellerfor all costs incurred plua pays a fixed fee, or profit.


There is a big difference between a cpff and a ffp contract.


A seller has virtually no risk on a cpff contract, and the buyer does'nt know the final price of the contract until the effort is completed.


the buyer normally establishes a cieling amount that the sellers expenses cannot exceed nte price. this type of contract is normally used for research and development efforts where the scope of the effort is unknown.


*************
Time and materials:


A t & M is similar to CPFF but has limited risk for both buyer and seller.
This type of contract is normally used for service type efforts and is administered thru a basic ordering agreement.
the amount of labor and material required to perform the task is estimated, an nte is established and the seller performs the task.



I found the above info here at the following link:
http://books.google.com/books?id=XC3QkO-3lCYC&pg=SA24-PA13&lpg=SA24-PA13&dq=risk+cpff+or+time+and+materials+type+contract&source=bl&ots=1ItJYY5l-l&sig=tkmrFlk6IgnArB3joULyaZ34yUM&hl=en&ei=16NJTOGTCIXUtQOtvMlI&sa=X&oi=book_result&ct=result&resnum=6&ved=0CCQQ6AEwBQ#v=onepage&q=risk%20cpff%20or%20time%20and%20materials%20type%20contract&f=false


 


Thank you,


Raj

Chandra,


T&M contracts are open ended contracts, where statement of work is not clearly defined and these are considered hybrid. Therefore, the buyer is the one more at risk.


Also buyer can establish a cieling price not to exceed amount on the CPFF tyepe contract.


Question: can the buyer establish a cieling price NTE amount on the Time and materials type contract?


My answer is based on general view, otherwise in the question somewhere they must give a hint/clue.


Raj


 


 

There is a lot of debate around these types of subjects but my opinion is to focus on the wording.

Which is most RISKY to the buyer

In any contract that has a fixed price, the base has been set. It is calculated and included in the budget no additional risk all has been taken into consideration (mitigation). Then the second part is the "Additional FLEXI" figure if it exists.

I say this as sometimes it it a simple fixed fee FFP (Quite easy)

Ont the second figure it is normally results driven i.e. make more money get more money share more money or linked to inflation, performance, exchange rate (forward cover) . All of this is calculated and taken into consideration so it may cost more but money is not risk uncertainty creates risk.

On the Time and Material there is no calculation no limitation and possibility for the figure to go really big should something happen (only an assumption as to the cost). Hopefully this does not happen but if it does then the buyer pays a lot of money.

So looking at it from a definition point of view my opinion is the Time and Material poses the biggest potential to "GO BIG" for the buyer so it is the contract that poses the biggest risk. No ability to stop except walk away. Try this on a MULTI Billion contract to a client/stakeholder/customer.

 

The comment of the not paying and walking away from the issue OK but normally contracts are around a deliverablefor a project  and if all your other homework has been done walking away would in the big picture would mean you may not be able to deliver to your customer /client /stakeholder and penalties (more negative impact) would come into play.  There would be unique situations but do not forget the most of the time issue with PM

My humble opinion.

 

 

 

 

You can answer the question with the help of this article - https://www.pmbypm.com/types-of-contracts-and-risk/