FINANCIAL ASPECTS OF PROJECT ENGINEERING AND CONTRACTING

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FINANCIAL ASPECTS OF PROJECT ENGINEERING AND
CONTRACTING
PRICING CONTRACTS AND PROPOSALS

• Richard Hill

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Competitve Tendering

• Purchasers invitation
• tender document
• specification
• Contractors offer
• proposal
• how the requirements of the specification will be
  met
• Purchasers acceptance

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Competitve Tendering

• Shortcomings
• the ability of the specification writer to define
  unequivocally what is required
• the ability of the tenderer to design and cost
  the work accurately in the time available
• the ability of the proposal writer to define is
  being offered

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Deciding to Bid

• Is there an order to be placed?
• Do we know the Purchaser?
• Can we do the job?
• Have we done it before?
• Can we meet the programme?
• Who is the competition?
• What is the Specification?
• Do we have a USP?
• Are conditions of contract acceptable?
• Are there penalties?
• Can we make any money?

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Proposal Team

• Proposal Manager
• process
• control instrumentation
• mechanical
• electrical
• civil
• CAD draughtsmen
• estimators
• planners
• secretarial

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Proposal Team

• conceptual
• creative
• innovative
• estimate
• inspirational
• intense

• detailed
• pedantic
• specific
• precise
• methodical
• perseverance

PROPOSAL MANAGER
CONTRACT MANAGER
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TENDER DESIGN

• Compliant bid
• design data
• process design/optimisation
• equipment schedules
• equipment data sheets
• Alternative bid
• Quality Assurance

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TENDER PRICE

• Cost Estimate
• price make-up
• Market intelligence
• competition
• purchasers budget
• Business plan
• work in progress
• resource requirements
• financing implications

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The Price of the Contract

• A blind guess carried out to seven significant
  figures ?
• Cost, price and value all mean different things
  but are expressed in the same contract price
• Contracting is a competitive business and, all
  other things being equal, purchasers generally
  place contracts with the lowest bidder
• So, just as in the supermarket or the petrol
  station, the lowest price gets the order
• Too high a price means that the company doesnt
  win any contracts cannot cover its overheads
• Too low a price means that the contribution is
  too low to cover the overheads
• Either way, the company will fail.

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The Price of the Contract
"It's unwise to pay too much, but it's even more
unwise to pay too little. When you pay too much,
you lose a little money. That is all. When you
pay too little, you sometimes lose everything,
because the item you bought was incapable of
doing the thing that you bought it to do.The
common law of business prohibits paying a little
and getting a lot. It can't be done. If you deal
with the lowest bidder, it's as well to add
something for the risk you run. And if you do
that, you will probably have enough to pay for
something better"John Ruskin 1819 - 1900
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Competition

• Contracting is highly competitive because it
  takes relatively little capital to start trading.
  
• Profitability (ie profit as a percentage of
  turnover) is low
• Potential return on capital is high
• Low profitability means that the margin for error
  is small
• Contracts can easily swing into loss - it only
  takes one or two bad contracts to break a company
  
• No two contracts are the same site conditions,
  labour conditions, weather etc all have an effect
• By comparison manufacturing takes place in a more
  controlled environment which makes costing simpler

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Competition

• In a competitive tendering situation the contract
  which is let to the lowest tenderer is let to the
  contractor who made the biggest error in his
  estimate
• Every major project is being built by a
  contractor who hasnt got enough money to do it
  properly.

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Making up the Price

• When a contractor receives an enquiry from a
  purchaser there is a limited, and usually short,
  period in which he has to submit his price.
• During that time (typically six to twelve weeks)
  the contractors Proposal Manager has to get a
  preliminary design prepared, estimate the
  materials and subcontract costs (usually called
  the bought out costs), the direct costs from
  his own cost centres and finally the contribution
  calculated in the years business plan
• This will all be set out in a Price Make-Up
  Sheet
• This is a very important document because it not
  only shows how the tender price was arrived at
  but, if the company wins the contract, it will be
  the basis of the Contract Managers budget and
  cash flow forecasts

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Making up the Price
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Making up the Price

• All the equipment and materials that will be
  purchased for the contracts concrete,
  shuttering, steelwork, pumps, pipes, specialist
  machinery etc.
• Packages of work that will be carried out by
  other companies on site as opposed to direct
  labour employed by the contractor. Typically this
  might include piling, scaffolding, equipment
  installation, electrical cabling, painting and
  similar activities.
• Engineering is estimated on the basis of company
  experience with cost per man-hour arrived at by
  considering the engineering department as a cost
  centre.
• Contract management and other direct costs are
  estimated in much the same way.

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Making up the Price

• Site costs vary from contract to contract
  design can save money for example prefabrication
  off site might mean the difference between having
  an expensive tower crane on site for months and
  having a mobile crane on site for days.
• At the tender stage, the Proposal Manager will
  prepare a cash flow forecast and an S curve for
  the contract so as to be able to estimate how
  much money will have to be borrowed and how much
  interest is attributable to the contract.
• In overseas contracting it is quite usual to have
  an agent (an individual or a company) who knows
  the local situation and has good contacts within
  the purchasers company so his help may be
  invaluable in winning the contract
• In some specialist sectors, contractors might be
  using technology that they have obtained under a
  licence agreement, and they have to pay a licence
  fee or royalty to the owner of the technology.

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Making up the Price

• Contractors normally carry a Contractors All
  Risk insurance that covers them for damage or
  injury to staff, subcontractors and third parties
  as well as for mistakes in the design and
  consequential losses. Sometimes they need to take
  up additionalspecial insurances
• The total direct costs of the contract.
• The contribution may be the straightforward
  number calculated in the years business plan or
  it may be higher if the contractor is confident
  of winning the contract or lower if he wants to
  be sure of getting it.
• The price may include a contingency to reflect a
  particular type of risk or liquidated damages in
  the contract or to provide a negotiating margin
  for the salesman to give as a discount
• And there it is the Contract Price well
  almost.
• Note that profit isn't mentioned anywhere - a
  single contract makes no profit

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Finalising the price

• Other factors influence the price but are not
  quantifiable are discussed at the Price
  Settlement Meeting
• Competition
• Does the purchaser have a budget limitation?
• Does the purchaser have a particular preference?
• Which other contractors are tendering?
• Reasons for wanting to win a particular contract
  which justify a low price
• Particularly onerous conditions of contract may
  require special contingencies to be added.
• Weighing up all these factors will usually lead
  to an adjustment to the calculated price
• A blind guess carried out to seven significant
  figures

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Tender costs

• Preparing tenders is a costly process
• Although the tender stage design is not fully
  detailed, it will take a full team of discipline
  engineers process, mechanical, electrical and
  civil as well as planners, estimators,
  architects and draughtsmen.
• A typical 2.2m tender might cost 20,000 to
  prepare thats 1 of the contract price, and
  that cost is part of the contractors overheads.
• Most ontractors expect to win one tender in four
  and get no payment for the work which goes into
  the other three

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Proposal Submission

• Submission date/time
• Format
• Presentation
• The written word
• Spin

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Summary

• Many items go into working out a contract price.
• We try to minimise uncertainty with cost centres
  and so on, but much remains a best guess.
• With thin profit margins, small errors make a big
  difference to profitability.
• The proposal document has to sell the
  contractors capabilities and design