Project Procurement Management

Study Notes

PMI, PMP, CAPM, PMBOK, PM Network and the PMI Registered Education Provider logo are registered marks of the
Project Management Institute, Inc.

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 Points to Note

• Please read Chapter 12 from Project Management Institute, A Guide to the Project
Management Body of Knowledge, (PMBOK® Guide) – Fourth Edition, Project Management
Institute, Inc., 2008 (pages 313-344).

• The study notes explain topics that are important for PMP® exam preparation, and you can
expect several questions from these topics.

• It is very important to understand all the concepts discussed in this chapter, so please pay
close attention to all the terms used

• Try to relate the concepts to real life examples.

• After reading the study notes, please answer the chapter test questions in this Knowledge
Area. The chapter questions improve your understanding of the concepts discussed in the
study notes.

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 What is Project Procurement Management

• Includes the processes required to acquire goods and services from outside the performing
organization to fulfill project scope requirements

• The procurement management processes are:

◦ Plan Procurements
◦ Conduct Procurements
◦ Administer Procurements
◦ Close Procurements

Please refer to figure 12-1, PMBOK® Guide Fourth Edition, page 314. This provides an overview
of the processes in Project Procurement Management.

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 Understanding Terms and Concepts

• Project Procurement Management has several terms and concepts, which need to be studied
and properly understood to perform well in the PMP exam.

• Please carefully study the terms and concepts explained in this section (also in the “Terms and
Concepts” module of our study materials) to fare well in the PMP exam.

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 Plan Procurements

• Identifies which project needs can be best met by acquiring products and services from
outside the project organization, versus those that can be accomplished by the project team

• Involves consideration of whether to procure, how to procure, what to procure, how much to
procure, and when to procure

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 Make or Buy Analysis

• Used to determine whether a particular product can be produced by the performing

organization

• Analysis should include:

◦ Both indirect and direct costs

◦ Prospective as well as the immediate needs of the performing organization.
For example:

• Whether a capital goods item can be used for other current or future projects of the
organization (ongoing need of the item)
• Additional capacity is available for use within the organization
• Proprietary or business critical activity, which is core business for the company (e.g.,
designing of chips in a chip manufacturing company)

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 Make or Buy Analysis

1. Comparing the cost of Make or Buy

Question: You are considering whether to buy or make a software product:

• If you buy, the cost is $ 80,000, and the cost of procurement and integrating in your
company is $ 1,000
• If you want to make it yourself, the product will require seven software engineers working
three months. Salary of each software engineer is $ 4,000 per month. The overhead costs
apportioned to the project will be $ 2,000.

Which option will you choose—make or buy?

Answer: If you buy, cost will be: $ 80,000 + $ 1,000 = $ 81,000

If you make, cost will be: $ 4,000 x 7 x 3 + $ 2,000 = $ 86,000
So, it is better for you to buy.

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 Make or Buy Analysis (continued)

Comparing the cost of Lease or Buy:

Question: You are considering whether to buy or lease a machine for your heavy engineering
plant. How will the duration of the project influence your decision?

• If you buy, the cost is $ 29,000, and the one-time cost of procurement and integrating in
your company is $ 1,000
• If you lease, you have to pay $ 10,000 as down payment and $ 5,000 per month

Answer: If you buy, cost is: $ 29,000 + $ 1,000 = $ 30,000

Assuming the lease is for M months, the cost is: $ 10,000 + $ 5,000 x M

The cost of buy = cost of lease, if : $ 30,000 = $ 10,000 + $ 5,000 x M

M = 20,000/5,000 = four months

So, if the duration of the project is less than four months, you should lease—otherwise, you
should buy.

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Contract Type Selection

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 Types of Contracts

• Types of contracts include:

◦ Cost-plus percentage fee

◦ Cost-plus fixed fee
◦ Cost-plus guaranteed maximum
◦ Cost-plus guaranteed maximum and shared savings
◦ Cost-plus incentive (award fee)
◦ Cost and cost sharing
◦ Fixed price or lump sum
◦ Fixed price with redetermination
◦ Fixed price incentive fee
◦ Fixed price with economic price adjustment
◦ Fixed price incentive with successive targets
◦ Fixed price for services, material, and labor at cost (purchase orders, blanket agreements)
◦ Time and material/labor hours only
◦ Bonus-penalty
◦ Combinations
◦ Joint venture

Reference: Project Management - A Systems Approach To Planning, Scheduling, And

Controlling, Pages 1147-1151

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 Important Fixed Price Contracts

• Fixed price or lump sum:

◦ Contractor performs the work for negotiated value.
◦ If estimated target cost is low, profit for seller may be low or even nil.
◦ Lowest risk to the buyer, highest risk to the seller
◦ Usually requires a long period for preparation of bids; also buyers include many contingency
provisions to protect their interests
◦ Done only when the product is very well-defined; subsequent changes made might lead to trouble
and sometimes considerable expenses
• Fixed price incentive fee:
◦ Allows for adjustment of the total profit by a formula that depends on the final total cost at the
completion of the project.
◦ There is an incentive to the seller to decrease costs.
• Fixed price with redetermination:
◦ Prospective: allows for future negotiations of some fixed prices contracts at specified times
◦ Retroactive: allows for adjustment of contract price after performance has been completed
• Fixed price with economic price adjustment:
◦ Allows for price increases, if the contract is for multiple years (for example, to account for inflation)

Reference: Project Management - A Systems Approach To Planning, Scheduling, And

Controlling, Pages 1147-1151

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 Important Cost Reimbursable Contracts

• All cost reimbursable contracts require that the seller’s books be audited.

• Cost plus fixed fee:

◦ Cost may vary, but the fee remains the same
◦ Provides incentive to the contractor for early completion of the job

• Cost plus percentage of costs:

◦ Not preferred, because there is no incentive for the seller to control costs
◦ Is illegal in several companies and countries

• Cost plus incentive fee:

◦ Same as cost plus contracts, except that these have provision for adjustment of the fee that
compares the total project cost to the target cost.
◦ Usually used for long-term (e.g., R&D) contracts

Reference: Project Management - A Systems Approach To Planning, Scheduling, And

Controlling, Pages 1147-1151

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 Procurement Management Plan

• Describes how the remaining procurement processes (from developing procurement

documents through contract closure) will be managed and includes:

◦ Types of contracts to be used

◦ Persons who prepare independent estimates and when
◦ Actions taken by the procurement department and the project team
◦ Sources of standardized procurement documents
◦ Methods to manage multiple providers
◦ Ways to coordinate procurements with the other aspects of the project

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 Conduct Procurements

• Involves receipt of bids or proposals from the sellers and application of the evaluation criteria
to select a seller

• Tools and Techniques used are:

◦ Bidder conferences
◦ Proposal evaluation techniques
◦ Independent estimates
◦ Expert judgment
◦ Advertising
◦ Internet research
◦ Procurement negotiations

• Important outputs are:

◦ Procurement contract award

◦ Selected sellers

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 Administer Procurements

• Ensures that the seller’s performance meets procurement requirements

• Includes application of appropriate project management processes to the contractual

relationship(s) and integration of the outputs from these processes into the overall
management of the project

• Important Tools and Techniques

◦ Contract change control system

◦ Monitoring performance (performance reporting, procurement performance reviews,
inspections, and audits)
◦ Managing payments (payment systems, claims administration, and records management
system)

• Outputs

◦ Procurement documentation
◦ Change requests
◦ Updates to project management plan and organizational process assets

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 Close Procurements

• Verifies that all work and deliverables from the contract are acceptable

• Early termination of the contract is a special case of procurement closure

• Tools and Techniques used are:

◦ Procurement audits
◦ Negotiated settlements
◦ Records management system

• Outputs are:

◦ Closed procurements
◦ Organizational process assets updates

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