CONSTRUCTION MANAGEMENT SERIES

MANAGEMENT
OF PROCUREMENT

1
CONSTRUCTION MANAGEMENT SERIES

MANAGEMENT
OF PROCUREMENT

Edited by
DENISE BOWER

3
Published by Thomas Telford Publishing, Thomas Telford Ltd, 1 Heron Quay, London E14 4JD
URL: http://www.thomastelford.com

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First published 2003

Also available from Thomas Telford Books

Financing infrastructure projects. T. Merna and C. Njiru. ISBN 07277 3040 1

Further titles in the series

Appraisal, risk management

Engineering management
Construction management
Operation and maintenance

A catalogue record for this book is available from the British Library

ISBN: 0 7277 3221 8

© D. Bower and Thomas Telford Limited 2003

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Patents Act 1988, no part of this publication may be reproduced, stored in a retrieval system or
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Printed and bound in Great Britain by MPG Books, Bodmin

4
Foreword

This second series of engineering management guides publish-

ed by Thomas Telford aims to build on the success of the first
series and provide knowledge relating to the current management
issues facing the civil engineer in the 21st century. The first
series, edited by Professor Stephen Wearne, consisted of a series of
discrete, concise and practical guides to important management
topics. Since their publication SATOR’97 has radically changed the
BEng and MEng curriculum and syllabi, and the practitioner has
experienced new codes and regulations, BS 6079 project manage-
ment, the Construction Design and Management Regulations, the
Latham and Egan Reports, Engineering and Construction Contract,
prime contracting, NHS 21, partnering, the Private Finance Initia-
tive and the Turnbull report to mention just a few things.
Consequently, the new guides are intended to support graduate
engineers and young chartered practitioners in the acquisition and
effective management of fundamental knowledge relating to engi-
neering management. The texts in the series are longer, integrated
and designed to provide a sound basis for further reading or
continuing professional development as appropriate. The series is
subdivided into three tranches. The first tranche aims to publish
guides concerning project financing, appraisal and risk, and value
chain management. There are obvious interactions and dependen-
cies between aspects of the provision in each text but equally specific
knowledge, at the strategic level, is contained in individual chapters.
The second tranche deals with design management, procurement
and construction management, the more traditional engineering
management topics at a tactical or project level, but seeking to
address best practice in construction. The final tranche consists of a
text on operation, management and training, an aspect of engi-
neering management which is increasingly important in developed
countries but which has not had sufficient attention.
The new series editor is Nigel Smith, Professor of Construction
Project Management, School of Civil Engineering, University of
Leeds and is assisted by guide editors and by an editorial panel of
the Engineering Management Group of the Institution of Civil
Engineers.

5
Preface

Procurement is the process of acquiring new services or products

and includes contract strategy, contract documentation and contractor
selection. It extends to all members of the supply chain, including
those responsible for operation and maintenance. The Association
for Project Management (APM) Body of Knowledge states that ‘The
procurement strategy should include potential sources of supply,
terms and types of contract/procurement (for example, partnering
or alliancing – versus commodity purchasing), conditions of contract,
the type of pricing, and method of supplier selection.’
The need to be able to prepare and develop a procurement
strategy is essential for any project management professional and an
appreciation that this must be done very early in the project life
cycle is paramount. This can only be done effectively when those
involved understand all of the options available and the implica-
tions of the choices they make. Hence, this book covers all aspects of
procurement, from drafting and using contracts to procurement
strategies for privately financed projects. It is written from a con-
struction perspective with examples from other industries used
where appropriate.
For many projects, procured goods and services form the highest
percentage of expenditure and so it is important to achieve value for
money through careful appraisal and management. Relating to how
well the project scope is defined, the state of the supplier market
and the perceived level of risk associated with the project the procure-
ment strategy will promote a controlled and auditable response to
external influences and ensure that the project, objectives are met.
The purpose of the editor and authors is to provide information
about the various areas that comprise the procurement process to
support those professionals tasked with undertaking this job in the
real world. This book does not detail the legal issues relating to
contracts, although a very brief summary of the main points of law is
included, recognising that there are a large number of law books
already available. It does offer guidance, explanations and case
studies to help the reader comprehend the strengths and weak-
nesses and realistic meanings and outcomes of the stages in the
development of an effective procurement strategy.

7
MANAGEMENT OF PROCUREMENT

This book brings together the theory and practice that relate to
procurement and offers guidance on how the process should be
undertaken. This should ensure that the project manager has clear
information on which future decisions can be based. This guidance
should prove to be a useful point of reference for those developing a
procurement strategy or project execution plan to ensure that all
viable options have been considered and the strengths and weak-
nesses of the chosen route are understood. The book begins by
outlining the role of procurement in the construction industry,
including the problems it faces and some of the steps that can be
taken to overcome these problems. It goes on to consider contractor
selection and raises issues relating to the allocation of risk in con-
tracts and factors to consider when awarding a contract. A brief sum-
mary of the relevant legal aspects is also provided.
Chapter 3 is written by a lawyer and describes the drafting and use
of construction contracts from a legal perspective. The role of the
‘wish list’ is discussed and guidance is provided on how this can be
successfully managed. Project constraints and the management of
risk are also considered. The book then goes on to examine how a
client can procure the services of a project manager, covering such
issues as terms of appointment, pre-qualification, selection and
award. Contract strategy is explored in detail in Chapter 5 and all
of the major organisational arrangements and payment types are
explored. A summary of the key features of the most common stan-
dard forms of contract is also provided. This leads into a chapter
on the incentivisation of construction contracts, an increasingly
popular way of motivating contractors. The relationship between
benchmarking, key performance indicators and incentives is
explained and a framework for developing incentive mechanisms is
provided.
Collaborative forms of working such as partnering, alliances and
joint ventures are explained in Chapters 7, 8 and 9. The chapter on
alliancing takes the form of a case study to demonstrate in detail how
such a strategy can be implemented. Moving towards more innova-
tive procurement techniques, private finance procurement routes
are explained in Chapter 10, and then this is followed by an overview
of project value systems and strategies that can be used to achieve
them. Procurement through programme management is addressed
in the penultimate chapter as consideration is given to the strategic
nature of procurement. The book finishes with an assessment of
future trends in construction procurement, proposing that supply
chain brokers will be the key to future success.
This book is unique in that it provides a holistic view of procurement
from the perspectives of both practitioners and academics. It should

viii

8
 PREFACE

promote a better understanding of this complex area by providing

detailed descriptions of the process to allow project managers to
implement successful projects.
Denise Bower

ix

9
Acknowledgements

I am particularly grateful to my co-authors for all of their efforts in

the production of this book. I would like to thank particularly
Professor Nigel Smith of the University of Leeds for his advice and
guidance on the form and content of the book, which has led to it
being both comprehensive and easily accessible. I would also like to
thank Professor Stephen Wearne of the Centre for Research in the
Management of Projects at UMIST for his personal contribution
and for co-directing the EPPE module on Contracting and Procure-
ment over the years at UMIST, upon which much of the material is
based.
I would like to acknowledge the pioneering work into contract
strategy and incentive mechanisms undertaken at UMIST by Professor
Peter Thompson, now retired.
Finally, I would like to acknowledge the contribution of the
many students that I have supervised over the years, including Fotis
Skountzos, Chryssa Sarri and George Hagan. Their work in the area
of partnering has been a great help and has made the writing of this
book much easier.

10
List of contributors

Denise Bower, BEng, PhD, MASCE, ILTM, is a lecturer in project

management in the School of Civil Engineering at the University of
Leeds. She was formerly the Shell Lecturer in Project Management
at UMIST. She is a leading member of Engineering Management
Partnership, which offers diploma and master’s degree-level quali-
fications to engineers of all disciplines. She was a member of
Latham Working Group 12 and has an extensive record of consul-
tancy work with clients in construction, process engineering and
manufacturing.

Edward Davies, LLB(Hons), MSc, is a partner based in Masons’

Manchester office, specialising in process, energy and infrastructure
projects. He is a visiting research fellow at UMIST and a mediator
trained by the American Arbitration Association and accredited by
CEDR. He is a joint editor of Dispute Resolution and Conflict Manage-
ment in Construction – An International Review, published by E&F
Spon.

Paul Garthwaite, MEng(Hons), read civil engineering at the Univer-

sity of Leeds, and obtained his masters degree in 2003. Having a
number of years’ industry experience in the rail and highway sectors,
he has worked under a number of collaborative and contractual
agreements throughout his career. His recent research has included
the manipulation of framework agreements within multi-project
environments and the influential elemental aspects of partner
cooperation, partner complementariness, trust building and their
effects on ownership balance and structure.

Martin Graham MSc, PhD, MCIOB, is currently responsible for a

£120 million NHS Trust development programme to be deliverd
over a period of 8 years. His responsibilities include converting the
Trust’s long-term strategies for improved performance into a series
of deliverable projects. The requirements are to extend the estate
and improve working practices. Previously, he designed and deliv-
ered similar programmes in the university sector and in the hotel,
food manufacture and water supply industries, and spent many
years delivering construction projects.

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MANAGEMENT OF PROCUREMENT

Chris Hallam, LLB(Hons), is a solicitor based in Masons’ Manchester

office, specialising in non-contentious work for the construction,
engineering and infrastructure industries, including PPP project
work. He contributed a chapter to EC and UK Competition Law and
Practice: a Practical Guide, published by Sweet & Maxwell, has had arti-
cles published in Legal Week, BTI Journal and Sales Director Magazine,
and regularly writes for the Masons website.

Benjamin Joyce, MEng, graduated from the School of Civil Engi-

neering at the University of Leeds in 2002. His final year dissertation
was on incentive mechanisms in construction contracts in Europe.
He has taken time off to travel the world, and has returned to work
for a major civil engineering consultant with a view to furthering his
interest in project management.

Steven Male, BSc, MSc, PhD, holds the Balfour Beatty Chair in
Building Engineering and Construction Management, School of
Civil Engineering, University of Leeds. His research and teaching
interests include strategic management in construction, supply chain
management, value management and value engineering. He has led
research projects under the EPSRC IMI programme ‘Construction
as a Manufacturing Process’, with the DETR, with the DTI and
within the European Union 4th and 5th Frameworks. He is a visiting
professor in the Department of Civil Engineering, University of
Chile. He works closely with industry and has undertaken a range of
research, training and consultancy studies with construction corpo-
rations, construction consultancy firms, and blue chip and govern-
ment clients.

Nigel J. Smith, BSc, MSc, PhD, CEng, FICE, MAPM, is the Professor
of Construction Project Management in the School of Civil Engi-
neering, University of Leeds. After graduating from the University
of Birmingham, he has spent 15 years in the industry, working
mainly on transportation infrastructure projects. His academic
research interests include risk management and procurement of
projects using private finance. He has published 15 books and
numerous refereed papers. He is currently Dean of the Faculty of
Engineering.

Phil Spring, BSc(Hons), MAPM, MCIArb, is the managing director

of Spring and Company Limited. He was chairman of the North
West Branch of the Association for Project Management from 1999
to 2001, a council member of the Association for Project Manage-
ment from 1999 to 2001 and chairman of the North West Project
Management Forum from 2001 to 2002.

xii

12
 LIST OF CONTRIBUTORS

Stephen Wearne, BSc, PhD, CEng, FAPM, PMP, was formerly the
project engineer and project manager of large projects in South
America and Japan. He is now a visiting senior research fellow at the
Centre for Research in the Management of Projects, University of
Manchester Institute of Science & Technology, and an emeritus
professor at the University of Bradford. He is the founder chairman
of the Contracts & Procurement Specific Interest Group, UK Associ-
ation for Project Management, the author of books and papers on
project organisation and control, emergency projects, contracts and
joint ventures, and the editor of the APM guide Contract Strategy for
Successful Project Management.
George White, BSc, CEng, MICE, MIStructE, graduated from UMIST
in 1970, after which he worked for Sir Alexander Gibb & Partners
and George Wimpey. where he was involved in and led dock and
harbour and power station projects. In 1976 he joined Conoco and
held supervisory and managerial positions on four large North Sea
projects. One of the projects used an alliance contract strategy that
he developed and was instrumental in executing. In 1997 he moved
to Halliburton Brown and Root, where he held a senior managerial
position and continued the development of the alliance contract
strategy and conceived a set of management processes for execut-
ing projects on a total life cycle basis. A later position as a global
capital projects manager at Blue Cement saw him both improve
global project delivery and implement a company-wide perfor-
mance improvement initiative. In 2002 he joined BG-Group as a
project manager working on mega-projects. Throughout his career
he has lectured and published major technical papers.
David Wright, MA, CIChemE, ACIArb, left Oxford with a degree in
jurisprudence and spent 30 years in industry. He gained experience
in the automotive industry, the electronic industry, the defence
industry and the chemical engineering and process industry. He was
the commercial manager of Polibur Engineering Ltd and, in the
mechanical engineering sector, was European legal manager to the
Mather & Platt Group. He is now a consultant on matters of contract
and commercial law. David is also a visiting lecturer at UMIST and a
visiting fellow in European business law at Cranfield University.

xiii

13
Contents

Foreword v

Preface vii

Acknowledgements x

List of contributors xi

Chapter 1 The role of procurement in the construction industry 1

Introduction 1
The construction industry 2
Features of the construction industry 5
Problems facing the construction industry 9
The industry’s response 12
Summary 13
Bibliography 14

Chapter 2 Contractor selection, contract award and contract law in

the UK 15
Introduction 15
Known and unknown risks in contracts 15
Risk allocation strategies 18
Contractor selection 19
Tender analysis and contract award 21
Contract law 23
Terms of a contract 26
Summary 32
Bibliography 33

Chapter 3 Drafting and using construction contracts – a legal

perspective 34
Introduction 34
Wish list 35
Constraints 37

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MANAGEMENT OF PROCUREMENT

Risk matrix 42
Summary 48

Chapter 4 Procuring the services of a project manager 49

Introduction 49
Project management and the project manager 49
Requirements for project success 50
Formal appointment 51
Terms of appointment 51
Terms of payment and risks 52
Pre-qualification 52
Selection and award 54
Forward thinking 56
Completion of the service 56
Conclusions 56
Bibliography 56

Chapter 5 Contract strategy 58

Introduction 58
The contracting environment 58
Project objectives 61
The options for project organisation 62
Summary 72
Bibliography 72

Chapter 6 Incentivisation in construction contracts 74

Introduction 74
Benchmarking 74
Key performance indicators (KPIs) 77
Incentivisation in construction contracts 78
Cost incentives 83
Time incentives 87
Quality incentives 88
Safety incentives 88
Incremental or end-of-project payments 88
An incentivisation process 89
Summary 92
Bibliography 94

Chapter 7 Effective partnering 96

Introduction 96
Total quality management 96

xvi

16
 CONTENTS

Partnering 98
The partnering process 101
Advantages of partnering 102
Forms of partnering 104
Post-award project specific partnering 104
Generations of partnering 105
Framework for best practice 106
Potential barriers in implementing partnering 110
Implementation of partnering 112
Summary 112
Bibliography 114

Chapter 8 An alliance/partnering contract strategy 115

Introduction 115
Selection of contract strategy 115
Commercial goals/objectives alignment 116
Alliance principles used on the Britannia development
in the UK North Sea 117
Work processes to make an alliance contract strategy
happen 122
Producing the results 127
Quality and safety 128
Summary 129

Chapter 9 Joint ventures 130

Introduction 130
Background 130
Types of joint venture 133
Formation of a joint venture 134
The common organisational risks 136
Incorporation or cooperation? 141
Complexity and control 142
Summary 143
Bibliography 144

Chapter 10 Procurement strategies for privately financed projects 146

Introduction 146
General procurement principles 146
Concession contracts 147
Secondary contracts 149
Summary of the procurement procedure 150
Invitation to pre-qualify 150
Concession agreement 151

xvii

17
MANAGEMENT OF PROCUREMENT

Public–private partnerships 153

Public sector finance 155
Equity provision 157
Indirect finance 157
Debt finance 158
Public sector comparator 158
Procurement of PPP 159
Conclusion 161
Bibliography 161

Chapter 11 Framework agreements 163

Introduction 163
Partner selection 163
Confidence in partner cooperation framework
agreements 168
Ownership balance and structure 175
The different ownership structures within a framework
agreement 176
Ownership structure and control within a framework
agreement 177
Knowledge and learning transfers within framework
agreements 178
A model for framework agreements 183
Alliance and framework agreements in the public sector 187
Summary 189
Bibliography 190

Chapter 12 Innovative procurement methods 192

Introduction 192
The Clients’ Charter 193
Integrated teams and supply chains 194
Client types, client value systems and procurement 196
The project value chain 198
Procurement and the project value chain 201
Summary 213
Bibliography 214

Chapter 13 Procurement through programme management 215

Introduction 215
Strategic management, managing change and programme
management 215
Basics of programme management 217
Defining programme management, its nature and its scope 218

xviii

18
 CONTENTS

Project ranking within a programme 221

Programme management and procurement strategy 223
Summary 225
Bibliography 226

Chapter 14 Future trends in construction procurement: procuring

and managing demand and supply chains in construction 228
Introduction 228
A typology of demand and supply chain systems 229
Contractor-led SCM 234
The procurement, operation and management of future
construction demand and supply chain systems 237
The future 243
Summary 248
Bibliography 248

Index 251

xix

19
The role of procurement in the
construction industry
D. Bower

Introduction
Recent years have seen high levels of turbulence; companies that
were market leaders a decade ago have in many cases encountered
severe reversals of fortune. Rapid advances and complexity in tech-
nology, and the accompanying growing uncertainty in the business
environment have brought about mergers and takeovers, and these
have changed the shape of many markets. Traditional barriers
between industries are breaking down. Inevitably, this has given rise
to a very high level of competition and complexity. There is also a
growing demand from the marketplace for ever-higher levels of
service and quality.
In response to this changing business environment, there has
been a search for an instrument that would offer a sustainable
competitive advantage. In other words, companies are now seeking
a position of superiority over competitors in terms of customer pref-
erence. The emphasis in business has swung towards business strate-
gies that have the creation of long-term customer loyalty as their
central focus. Business leaders are pursuing new business paradigms
that allow their companies to work closely with their traditional and
new business partners in order to adapt to the rapidly changing
marketplace.
These new business relationships are arrived at through devel-
oping procurement strategies that balance work, motivation and
risk for long-term, sustainable performance improvements. Procure-
ment is the process of acquiring new services or products and
includes contract strategy, contract documentation and contractor
selection. It extends to all members of the supply chain, including
those responsible for operation and maintenance. This chapter
describes the construction industry, its key features and the prob-
lems that it faces. A brief overview of the role of contracts in projects
and the organisation of traditional relationships is provided. This is

21
MANAGEMENT OF PROCUREMENT

detailed in later chapters. The industry’s response to the problems it

is facing is also outlined, and then these issues are explored in
greater depth later in the book.

The construction industry

The construction industry plays an important role in the economic
development of any nation. Construction in the UK, for example,
is one of the pillars of the domestic economy. According to the
Construction Task Force (1998), the industry in its widest sense was
likely to generate an output of roughly 10% of the country’s annual
gross domestic product (GDP) in 1998. In addition, it employs
about 6.4% of the total labour force.
The construction industry is a large and highly diverse sector of
industrial activity, ranging from the construction of large power
plants, through the construction of large residential and non-resi-
dential buildings, to the small-scale renovation or repair of existing
facilities. In the UK, construction is the largest industrial sector,
about three times larger than agriculture, with construction compa-
nies comprising 50% of the companies registered. A major part of
the UK construction industry works overseas and generates millions
of pounds of overseas earnings.
The construction industry encompasses different types of work.
The variability of the industry’s works is reflected in a comprehen-
sive definition provided by the UK’s Department of the Environ-
ment (1995):
Operations such as building, civil engineering and specialist con-
tracting – including bricklaying, plumbing, heating and ventilation
contracting, electrical work, carpentry and joinery, painting, roofing,
plastering, glazing, scaffolding, specialist work in suspended ceilings,
floor and wall tiling, insulating, and reinforced concrete work, as well
as other activities where the major element of work is building, civil
engineering, or the installation of products and systems, either in
buildings or in association with civil engineering works.
The construction industry may be seen not as a single industry but
as consisting of several different market areas. There may, in theory,
be a uniform knowledge of the construction market and perhaps
what competitors are doing, but in practice the industry may be seen
as a series of overlapping markets defining a particular service
divided by size, type, geography and complexity of work. For
example, between the small repair and maintenance builder and
the large contractor, there is virtually no competition; they have
their defined market areas. These may be based not only on the type
and size of work but also upon the location, and both the small

22
 CHAPTER 1. THE ROLE OF PROCUREMENT

builder and the large contractor might have to make strategic

choices, which may confine them to one or two market areas.
Falling trade barriers have prompted construction companies to
operate outside their traditional boundaries; for example, expa-
triate construction firms in developing countries are often in classes
of their own. In general, a large number of relatively small enter-
prises carrying out work on a local basis make up the construction
sector, while a very few large engineering and contracting firms
are of national and multinational character. The UK construction
industry contains almost 200 000 contracting firms, of which about
half are private individuals or one-person firms. Only 10 000 contract-
ing firms employ more than seven people. Current employment
levels show 1.46 million employees, roughly one in ten of the UK
working population.
Historically, construction has been project-oriented in its organi-
sation and management. Construction project tasks are frequently
one-off undertakings and custom-built to specification. Each project
marks the establishment of a new and temporary production system
and organisation located at the point of consumption. In other
words, there is comparatively little continuity in the form of
production system established between projects in the construc-
tion industry. With this single one-off project characteristic, the
question then arises as to what extent construction companies
can be expected to demonstrate improvements. The process of
production in the industry, to a large extent, is inseparable from
the geographical location of the output that is produced. That is,
the finished product cannot generally be transported, since it is
produced at the point of consumption. Thus, the production
process itself is almost always at the mercy of physical environ-
mental conditions.
The organisation and management of a construction project
almost invariably involve interlinkages between a number of organi-
sations involved to varying degrees and in varying ways throughout
the total project ‘cycle’. The temporal nature of the construction
multi-organisation means that each complete project has to go
through a series of contracting and procurement processes, and
there is a tendency towards the use of varied companies for projects
procured by a single client. Typically, different procurement and
contracting relationships can be found between the client and
the main contractor, the client and the specialist consultants, the
main contractor and the subcontractors, the main contractor and
the specialist contractor, the main contractor and suppliers, the
suppliers and the manufacturers, and so on. Subcontracting is
a widespread practice in the industry; there is high level of

23
MANAGEMENT OF PROCUREMENT

subcontracting by main contractors to a large number of small,

specialised firms.
A typical construction project passes through a number of stages,
from inception through to completion and commissioning. The
construction stage is only one part of the overall project. Thus, in
managing the construction works, it should be recognised that there
are networks of internal and external relationships.
Contracts are the basis of managing engineering projects. There-
fore, the type of contract strategy chosen must take into account
the project objectives and the characteristics of the parties to the
contract; and aim for an equal distribution of risks and responsibili-
ties. The main aim of a contract is to clearly outline the risks associ-
ated with the project and how they will be allocated for the project
life and not just for the design and construction phases. The client
defines the contract strategy, where objectives and the roles of
the project team members are considered. The primary goal of a
contract strategy should be to achieve the client’s objectives. This
can be accomplished by incorporating:
• client involvement
• allowing for changes
• motivation of contractors
• best risk allocation
• cash flow of the client and contractors.
Careful planning is extremely important during the process of
contract selection. The client must give careful thought to what
influences its decision to enlist a contractor’s services for a project.
Then these reasons must be categorised in order of importance.
Smith (2000) lists some factors used by clients when about to retain
contractors for a project. The client aims to take advantage of the
contractors’ skills and to get contractors to carry some project risks.
The most suitable contract strategy for a project must be established
based upon a structured, in-depth and efficient analysis of all rele-
vant factors (i.e. all available options). Issues that affect the selection
of a contract strategy are:
• clearly defined project objectives from the client
• responsibilities of the parties to the contract, which must be
accurately stated
• risk allocation between the parties involved in the contract
• payment mechanism
• incentive mechanism to secure a proficient performance from
the contractor
• motivation for the client to supply the necessary data and sup-
port to the contractor

24
 CHAPTER 1. THE ROLE OF PROCUREMENT

• client having enough flexibility to add changes

• clients being able to methodically assess change in a fair manner.

To measure the amount of work, motive and risk transfer needed

to assist in choosing the appropriate contract strategy, Smith (1999)
advocates charting all existing options, as shown in Figures 1.1 and
1.2. A variety of organisational structures are available; in practice,
some organisational structures are closely linked with a particular
type of contract, for example, the traditional approach with the
admeasurement contract. As this is not always the case, it is prefer-
able to consider the decision on organisational structure as separate
from, but interrelated with, the decision on the type of contract.
Every time an interface is introduced to the project organisation
the management effort required to deliver a successful project is
increased, as is the risk of failure. The aim should be to minimise
the number of interfaces between the different organisations. The
organisational structure must define communication and contrac-
tual links. Barnes (1983) surmises that there should be principles
of risk allocation in contracts that would reduce the number of
disputes between contractors and clients, since project objectives
would be better achieved. He went on to propose that risk and
incentives are directly proportional, so in order to maintain a con-
tractor’s motivation to perform, some risks should be transferred to
the contractor. Hence the risks the contractor bears should be
enough to maintain an incentive, but not so much that it is unfa-
vourable to the contractor or the client.

Features of the construction industry

There are a number of features that separate the construction
industry from other industries:

• construction involves a high volume of specialist work and a

wide range of trades and activities
• many of its projects are often one-off designs and lack any avail-
able prototype model
• construction lacks repetition and standardisation of designs
and components
• the arrangement of the industry is such that design has been
separate from construction traditionally
• the industry is highly labour intensive
• the product is often manufactured on the client’s premises
with the work being subject to interference from the physical
environment.

25
 6
Decision for organisational structure
of design and construction

Divided management of Cooperative management of Special emphasis Integrated management of

design and construction design and construction on management design and construction
MANAGEMENT OF PROCUREMENT

Conventional Cost-reimbursable Integrated managment Separate management Direct labour

approach or target contract and construction and construction

26
In-house External Fee Management
design consultant contracting contracting Package deal or
turnkey contract

Management Construction Design and Project/management

contract management management services contract

Figure 1.1. Organisational structures for design and construction

 Design Commission
Appraisal Construction
Decommissioning

Time

Cumulative cash flow

Project cash flow

27
Traditional
construction

Turnkey

Product-en-main

Build–operate–transfer

Operation and maintenance contracts

Figure 1.2. Range of procurement options

7
CHAPTER 1. THE ROLE OF PROCUREMENT
MANAGEMENT OF PROCUREMENT

A unique feature of the industry is the use of standard methods of

contracting and tendering serviced by teams of independent consul-
tants, civil and other engineers, architects and property and quan-
tity surveyors, who all provide an agency service between the clients
and the contractors. Construction suppliers plug in at various levels
of the construction process. The interactions between these inde-
pendent bodies on a project have been described as complex, a
peculiar characteristic of construction.
Once the outline design and the budget are approved by the
client, the design team is ready to carry out a detail design and
prepare detailed drawings and specifications. The design and speci-
fications often go through several changes and modifications. The
team also prepares tender documents that set out what the con-
tractor is required to do, with penalties imposed for failing to
deliver. A number of contractors and, in turn, their suppliers are
invited to bid for the construction works against the drawings and
specifications, traditionally on the basis of a bill of quantities. This is
often prepared by a quantity surveyor and it contains fairly complete
specifications of the required work, as well as a schedule of rates
for the works. Thus construction companies often prepare tender
bids from inadequately detailed information. In most construction
projects, this is the first time – the tendering phase – that the
contractor is brought into the project.
In many traditional cases, especially in public works, the lowest
complying bidder ultimately becomes the successful builder
selected for the works. There is a tacit understanding that this situ-
ation prevails because of ‘public’ accountability. Knowing that
selection is on a lowest-price basis and that changes during
construction are inevitable, contractors and suppliers initially bid
below cost to win the contract, but then they find it easy to raise the
price because of the changes to specifications during the works.
Once a builder’s bid price is accepted, then that company is
formally contracted to undertake the construction work as main
contractor.
The successful construction company then plans out the
construction works, which involves selecting a site team, establishing
a detailed works programme and resource schedule, placing orders
for materials and equipment, and arranging subcontracts with
specialist companies. The planning is usually carried out by an
office-based team of planners, buyers, surveyors and engineers.
There is very little involvement of site workers in the planning
process, and that is so even at a later stage when works have actually
begun on site. However, on site, it is often the site workers who take
full responsibility for the management of the works in accordance

28
 CHAPTER 1. THE ROLE OF PROCUREMENT

with the project plan, liasing with head office staff and members of
the design team as deemed appropriate.

Problems facing the construction industry

The industry’s problems can be regarded as falling within three
categories: the demand issues, such as low and discontinuous
demand; the supply issues, such as inefficient methods of construc-
tion; and some common issues, such as poor management and
adversarial culture. However the industry’s problems have been
examined, existing literature tends to agree that, compared with
other industrial sectors, the construction industry has proved to
produce low and unreliable profitability through low performance
in terms of high costs, overlong project timescales, poor durability
and high life costs. Recent surveys have shown that clients have
generally been dissatisfied with construction outputs and these
problems are peculiar to and inherent in the nature of the industry.
Some of these problems are now described in detail below.

Inadequate investment in training, research and development

Too often in the past, the construction industry has been singled out
for criticism of the training and development of its workforce. A
number of research studies have reported findings from the UK
construction industry that it invests very little in training, research
and development. This is, however, the case in many other coun-
tries, both developed and developing. With today’s rapidly
changing business environment, there is the need for any industrial
sector that wants to remain competitive to change its business struc-
ture and improve the skills of its workforce in order to meet the
ever-higher, growing and sophisticated demand from customers.
Large construction firms in Japan have given a relatively high
priority to research and development activity; this has been attrib-
uted to the fact that they often compete on the basis of distinct tech-
nological solutions to construction problems and not on strategies
to cut down costs. This contrasts with other countries, whose focus
has been on cutting down costs to the minimum level possible, often
by pushing risks on to other parties irrespective of their capabilities
to manage them.
The temporal nature of construction employment, which is often
project related and demands mobility, presents difficulties for the
typical small and medium construction enterprises in developing
workers, considering the high cost of training. In addition, the fluc-
tuating and uncertain nature of construction demand or workload
might have led to contractors’ reluctance to employ large numbers

29
MANAGEMENT OF PROCUREMENT

of workers on a more permanent basis and maintain high levels of

training and staff development. The outcome has been a cheap,
unskilled, temporary labour force, leading to poor quality and less
value for money. Not only would a commitment to training and
research into ‘best practice’ be of immense benefit to individual
workers and their firms, but also the standards in the industry as a
whole could be raised.

Fragmentation
It has widely been reported that extreme fragmentation is a partic-
ular trait of the construction industry. As much as fragmentation is
seen in the number and size of construction firms, it may also be
observed in the diversity of professions and trades in construction.
In other words, a number of distinct disciplines are required to work
together in order to complete a single construction project. In the
UK, for example, Rafferty (1991) reported that construction compa-
nies constitute about 51% (180 000) of the 350 000 registered
companies. Latham (1994) quoted a figure of 200 000 contractor
firms in 1992.
The various parties who provide input to construction are often
represented by a number of separate bodies. In the UK, for
example, a body such as the Building Employers Confederation
represents main contractors. Professionals such as engineers and
architects are represented respectively by bodies such as the Institu-
tion of Civil Engineers and the Royal Institution of British Archi-
tects. There are several other bodies that represent specialists
such as mechanical and electrical engineers and trade contractors.
Similar bodies also exist in the US. The Associated General Contrac-
tors of America and the National Association of HomeBuilders are
two examples. More often than not, there are conflicting interests
and this inevitably affects the construction process and therefore
construction efficiency. There is no doubt that poor management
strategy and inappropriate contracting and procurement routes in
this fragmented industry structure have been a major contributor to
adversarialism in construction relations. This, in no small way, has
contributed to the poor perception of the industry. In contrast, the
Japanese construction industry is characterised by a network of
tiered, interlocking supply relationships (known as keiretsus).
The demand side of the construction industry is, in general, less
fragmented. In the UK, the establishments of the Construction
Clients Forum and the Construction Round Table are perhaps
providing the demand side with more or less a unified interest. But
in general, construction clients are not a homogeneous group and
their objectives therefore vary.

10

30
 CHAPTER 1. THE ROLE OF PROCUREMENT

The construction industry is also characterised by functional divi-

sions. There is a split of responsibility for design and construction.
This is a natural constraint to efficiency and innovation. Unlike the
producers of goods in other industries, the contractor traditionally
has no input to the design of the facility that has to be constructed.

Adversarial relationships
For many years, the construction industry has had a poor reputation
in relation to its adversarial nature of relationships. The Chartered
Institute of Purchasing and Supply (CIPS) has argued that the
adversarial problem is prevalent at all levels in the construction
organisation. The UK construction industry spends as much as
£3.3 billion yearly on disputes. The Construction Best Practice
Programme has specifically stated that there is evidence that, in
recent years, relationships between clients and contractors in the
industry have become increasingly adversarial. They recognised this
as the cause for the increasing number of disputes and growth in liti-
gation in the UK. This is a diversion of management attention from
constructive collaborative teamwork into the management of disputes
and litigation. This is certainly accompanied by reduced produc-
tivity and increased costs.

Inadequate involvement of suppliers

The relationship with suppliers is a crucial aspect of the construc-
tion business. It has been estimated that between 70 and 80% of the
value added in construction projects is contributed by subcontrac-
tors and suppliers below the top tiers of the construction ‘supply
chain’ (Warwick Manufacturing Group, 1999). This means that the
products and services provided by the main contractors’ suppliers
typically account for up to 80% of the total cost of the construction
project. Any failure to perform by a supplier has a direct and poten-
tially serious impact on construction efficiency and profitability, and
therefore the way in which products and services are procured and
in which their delivery is managed has a significant impact on the
outcome of the construction project. Recent studies and experi-
ence have shown that suppliers’ involvement in design and cost
development is a major opportunity for cost savings and quality
improvements.

Large number of small and medium-sized enterprises (SMEs)

The construction industry in many economies is polarised with a
small number of large firms and a vast number of small to medium-
sized firms. Although the large construction companies under-
take the major works, the smaller firms undertake a substantial

11

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MANAGEMENT OF PROCUREMENT

proportion of the total workload. In Japan, for example, although

the industry tends to be dominated by five major contractors,
existing data show that the top ten firms account for only 13% of the
total market, while the top hundred contractors have only a 30%
share of the market. A similar situation has been observed in the US
and the UK. In the UK, research has shown that almost 95% by
number of construction firms have less than seven employees, yet
they undertake over 30% by value of the national workload.
Major firms are known to prefer engaging several specialist
subcontractors, rather than employing direct labour for the execu-
tion of construction activities. It has been estimated that the number
of suppliers on a contractor’s database could be between 500
and 2000 for a building, and much more for a general civil engi-
neering construction. This makes it very difficult to raise stan-
dards throughout the supply chain and to manage the supply
base effectively. There are several reasons for this choice, which
are primarily rooted in the nature of demand in the industry. A
number of research findings have expressed concern about the
problem of changing and unpredictable demand for construction.
Construction firms find it difficult to fully utilise their workforce
when demand is low and falling. They are forced to use all kinds of
strategies to compete for scarce and discontinuous workloads. In
view of this scarcity, clients take advantage and become keen at
buying at the lowest price and contractors then find their margins
eroded. Consequently, these construction firms shed their staff and
resources through redundancy and outsourcing to reduce their
oncost, and become more dependent on a network of subcontrac-
tors, whom they may manipulate by pushing unfair risk burdens
onto. As a result, capabilities diminish and construction products
are of inferior quality. When the demand cycle turns to the high
side, the supply capability is found to be lacking and firms attempt to
meet their labour requirements through more and more subcon-
tracting. Thus, there is an infiltration of unskilled and inexperi-
enced suppliers establishing themselves in order to meet the high
demand, and again the consequence is poor construction quality
and adversarialism. In general, the structure of the construction
industry is to a large extent dictated by the nature of construction
demand.

The industry’s response

The preceding sections have described the major issues that the
construction industry is facing. It can be inferred that new construc-
tion processes and commercial relationships are required in order

12

32
 CHAPTER 1. THE ROLE OF PROCUREMENT

to improve the links between the project stages and the procure-
ment and management of construction suppliers. The industry has
in the past decade responded by taking action. Both practitioners
and academics have been seeking what has been called ‘best prac-
tice’ in construction. In the UK, for example, the Construction
Industry Board (CIB) instigated the Construction Best Practice
Programme and the Movement for Innovation (m4i). They pro-
duced codes of practice and good practice guides for practitioners.
The Achieving Competitiveness Through Innovation and Value
Engineering (ACTIVE) engineering construction initiative has
produced the ACTIVE pilot workbook, which identifies 17 construc-
tion best practices. The Research and Development Group of the
Building Down Barriers Initiative has developed a new approach to
construction procurement – prime contracting. The UK is not alone
in pursuing such ambitious improvement goals in construction. It is
known that the US construction industry has even more demanding
aspirations: the Construction Industry Institute (CII) has been
carrying out research to improve the competitiveness of the
industry. Presently, CII has developed 11 best practices (including
partnering, alignment and team-building); has pro- posed 12 best
practices pending validation (including organisational work struc-
ture and employee incentives); and has written 24 information
topics, including supplier relationships, contract strategies and the
global construction industry. Also, in South Africa, the Public Sector
Procurement Reform Initiative relating to the construction industry
is one of the wider initiatives currently under way in the country.
This list is not fully inclusive but it offers an insight into the indus-
try’s response to its unacceptably poor state.

Summary
This chapter has revealed that today’s business environment places
great challenges on industries, particularly on their responsiveness
to rapidly changing market demands. Although the construction
industry plays an important role in business and development, its
performance in responding to changes is far below that of other
industries such as the manufacturing, aerospace and automotive
industries. The industry’s unique nature may contribute to this low
performance. However, many of the underlying causes may be
related to its traditional structure and organisation. The industry’s
problems are caused by many factors, such as adversarial relation-
ships; fragmentation; inadequate investment in training, research
and development; inadequate involvement of suppliers; and the
large number of small and medium enterprises. In many parts of the

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MANAGEMENT OF PROCUREMENT

world, there have been efforts to raise the industry’s image. Organi-
sations and groups have evolved and are championing the cause of
improving the performance of construction. The current contracting
and procurement practices in the industry are being given critical
examination in order to improve upon them. Many of these devel-
opments are described in the ensuing chapters.

Bibliography
Barnes, M. How to allocate risks in construction contracts. International
Journal of Project Management, 1(1) (1983), 24–28.
Construction Best Practice Programme (1999). Website: http://www.cbpp.
org.uk.
Construction Task Force. Rethinking Construction. HMSO, London, 1998.
Cox, A. and Townsend, M. Strategic Procurement in Construction. Thomas
Telford, London, 1998.
Department of the Environment. The State of the Construction Industry,
issue 4, July. HMSO, London, 1995.
Latham, M. Constructing the Team: Final Report of the Government/Industry
Review of Procurement and Contractual Arrangements in the UK Construction
Industry. HMSO, London, 1994.
Movement for Innovation (1999). Website: http://www.m4i.org.uk.
Rafferty, J. Principles of Building Economics. Blackwell, Oxford, 1991.
Smith, N. J. (ed.). Managing risk in construction projects. Blackwell, Oxford,
1999.
Smith, N. J. (ed.). Engineering Project Management, 2nd edition. Blackwell
Science, Oxford, 2000.
Warwick Manufacturing Group. Implementing Supply Chain Management
in Construction, Project Progress Report 1. Department of the Envi-
ronment, Transport and the Regions, London, 1999.

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34
Contractor selection, contract award
and contract law in the UK
D. Bower

Introduction
A client has the ultimate responsibility for project management.
The client must define the parameters of the project, provide
finance, make the key decisions, and give approval and guidance.
The contractor (supplier) provides a service for the client. These
parties must work together if a project is to succeed but, through the
proliferation of claims, clients and contractors have become further
removed, the construction industry has suffered, projects cost more
and clients look elsewhere to invest money.
The three main functions of contracts are work transfer (to define
the work that one party will do for the other), risk transfer (to define
how the risks inherent in doing the work will be allocated between
the parties) and motive transfer (to implant motives in the con-
tractor that match those of the client). There is a basic conflict
between these provisions, and this chapter concentrates on the allo-
cation of risk at contract award and outlines the key legal aspects
that impact on these relationships. The drafting of contracts is
explained in more detail in the next chapter.

Known and unknown risks in contracts

The identification and allocation of risk is a lengthy process that will
require a number of iterations for optimum results. During project
appraisal, risks that may occur throughout the whole life of the
project should be identified for the whole supply chain. These could
then be considered on the basis of:
• which party can best control events
• which party can best manage risks
• which party should carry the risk if it cannot be controlled
• what is the cost of transferring the risk.

35
MANAGEMENT OF PROCUREMENT

That is to say, some are pure risk, for example, force majeure, while
others are created, for example, by the technology or by the form of
contract or organisational structure. These are not the same. The
client must ensure that, through the contract strategy chosen, its
exposure to risk is at its most equitable, considering both the up and
the down side. The risk management process is dynamic to reflect
the fact that risks and their effects change as the project progresses.
The impact of risk events on projects is, in the vast majority of
cases, related either directly or indirectly to cost. Time delays inevi-
tably have a consequential cost. Where materials or plant fail or
the supplier of services does not perform, the additional cost is
apparent. Where less tangible risk events occur, such as emissions or
environmental disruption, no direct cost may be incurred immedi-
ately by the client, but in these circumstances the costs may be
incurred at a later date.
Client organisations should appreciate, when deciding upon the
allocation of risks, that they will pay for those risks that are the
responsibility of the contractor, as well as those that are their own.
Contractors employ contingencies in their tenders as a means of
guaranteeing their return in the event of construction risks occurring.
The payment mechanism employed, price or cost based, will
determine the location of these contingencies. Tender documents
explain the allocation of the risks and responsibilities between the
parties to the contract. In some cases client organisations are now
requesting potential tenderers to provide a risk statement as part of
their tender. The risk statement provides the client with the risks,
often not covered in the contract, that the tenderer feels may occur
and how that tenderer would respond to such risks should they
occur.
A number of clients now list potential risks in the tender docu-
ments and request tenderers to price each of them as part of the
tender. Table 2.1 lists a number of potential sources of risk. The
evaluation of such risks and the price for their cover are part of the
tender assessment criteria. The size of the contingencies employed
by the contracting parties will be dependent upon a number of
factors, which may include the following: the riskiness of the project;
the extent of the contractor’s exposure to risks; the ability of the
contractor to manage and bear the consequences of these risks
occurring; the level of contractor competition; and the client’s
perceptions of the risk/return trade-offs for transferring the risks to
other parties.
When risk events that are the client’s responsibility occur, the
contractor should receive the funds necessary to overcome the
particular risk event. Where there is some uncertainty over

16

36
 CHAPTER 2. CONTRACT AWARD AND CONTRACT LAW

Table 2.1. Potential construction risk sources (Smith, 1999)

Physical Natural, ground conditions, adverse weather, physical

obstructions
Construction Availability of plant and resources, industrial relations,
quality, workmanship, damage, construction period,
delay, construction programme, construction
techniques, milestones, failure to complete, type of
construction contracts, cost of construction,
commissioning, insurances, bonds, access and
insolvency
Design Incomplete design, availability of information,
meeting specification and standards, changes in
design during construction
Technology New technology, provisions for change in existing
technology, development costs and intellectual
property rights, and need for research and
development

responsibility for a particular risk event, the contractor is entitled to

pursue claims for additional payment from the client upon its occur-
rence. Clearly the client is likely to wholly or partly pay for risk events
irrespective of which party bears responsibility for them.
Contractors usually assess the cost or price of given risk events
higher than clients. The reason for this is related to the long-term
effects that risk events have on the business of the two organisations.
This is particularly the case when a large client organisation employs
small and medium-sized contractors to construct small to medium-
sized projects. A cost overrun of 10% on a £1 million project
would be a source of concern to a large client, but probably little
more. To a contractor in the current economic climate, with low
margins, it could be the difference between staying in business and
liquidation.
The risk-averse behaviour of contractors and risk-neutral behav-
iour of major clients has been identified elsewhere. A risk-neutral
client is assumed to view a £1 loss in the same light as a £1 gain. For a
contractor the loss may be perceived as far higher. The effect of this
is to make the contractor’s estimate of the cost of a given project
greater than that of the client if the responsibility for risk is evenly
split between the two parties. Whilst this may not be reflected in the
contractor’s tender, it is likely to become apparent as the construc-
tion of the project proceeds and risk events occur.

17

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MANAGEMENT OF PROCUREMENT

Low Control/risk High

Client r isk
Client control effort
Client control

Information
All Information available at tendering Little
Little Information needed for control All

Contract type

Fixed price Fixed price Fixed price Fixed fee Cost plus
with escalation with incentives plus costs

Figure 2.1. Payment mechanism options

Risk allocation strategies

There will be occasions where no contractors will be prepared to bid
for a contract which places arduous conditions upon them and the
client has to reconsider the contract policy. A contractor’s exposure
to risk must be related to the return that it can reasonably expect
from a project. Thus if a contractor is making only a 5% return on
a project, it is reasonable for a contractor’s risk exposure to be
restricted. Alternatively, tenders may be much higher than expected,
reflecting the cost of transferring the risk to the contractor.
The main characteristics of the available choices of risk allocation
strategy can be grouped according to organisational structure or
payment mechanism, as discussed in Chapter 5 and summarised in
Figure 2.1. The choice of contract and hence risk allocation strategy
is determined by the policy decisions of the client and the require-
ments of the individual project. On occasion, however, it is the
policy considerations of the client which take precedence, with little
regard to the project concerned. The client must remember that
inappropriate strategy on the retention or distribution of risks will
jeopardise the project.
Construction risks such as ground conditions, risk of non-comple-
tion, cost overruns and risk of delay are considered as major tech-
nical risks. Most construction risks are controllable and should be
borne by the contractor whether the project is publicly or privately
funded. Similarly, risks associated with labour, plant, equipment
and materials, technology, and management are controllable risks
and should lie with the contractor(s).

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38
 CHAPTER 2. CONTRACT AWARD AND CONTRACT LAW

Specification risk and errors in design which could have a detri-

mental effect on both construction and operation are also common.
Physical hazards that may occur in the construction phase include
force majeure, such as earthquake, flood, fire, landslip, pestilence and
diseases.

Contractor selection
The selection of external contractors is one of the crucial decisions
made by the client. The criterion for selection may be price, time or
expertise. The price criterion is often the key issue, as the client
seeks the most economic price for the development, whereas time
and expertise criteria are often seen as being less important because
of the need to expedite the construction programme and the need
for good-quality workmanship. The client’s objectives in the
tendering process are:
• to obtain a fair price for the work, bearing in mind the general
state of the construction market at the time
• to enter into an agreement with a contractor who possesses the
necessary technical skill, resources and financial backing to give
the client the best possible chance of the project being com-
pleted within the required time, cost and quality standards.
Before entering into the tendering process, the client must draw
up a contract plan to determine the number of contracts into which
the project will be divided. The basic consideration of this plan is the
effect of the number of contracts on the client’s management effort.
More contracts will lead to more interfaces and greater manage-
ment involvement, whereas fewer contracts reduce this involvement
but may increase the client’s risk exposure. There are certain princi-
ples which should be used when determining the number of
contracts:
• the size of each contract should be manageable and controlla-
ble for the contractor
• the contract size must be within the capacity of sufficient con-
tractors to allow competitive tendering
• the time constraints of the work and the capacity restrictions
allow for the separation of contracts rather than one single
contract.
The tender process may take a number of forms; the main distin-
guishing feature is the level of competition. Open tendering involves
a high risk element for the client as many of the tendering organisa-
tions will be unknown. With selective tendering in either one or two

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MANAGEMENT OF PROCUREMENT

stages, a limited number of organisations are invited to tender after

some form of pre-selection or pre-qualification has taken place. In
this case award to the lowest conforming tender is not such a
high-risk strategy. Negotiated tendering takes place when a client
approaches a single organisation, based on reputation, but this can
also be time-consuming. The risk here is that at a later stage in the
project the client may question whether or not value for money has
been achieved in the absence of competition.
A number of factors will influence the pricing policy of the
tendering organisation, such as competition, availability of re-
sources and workload; however, these should not influence the
criteria that the client uses for selection, but rather be taken into
account as part of the client’s evaluation. There are two stages at
which the client and the project manager can control the selection
of contractors (or consultants). These are before the issue of tender
documents and during tender analysis, before contract award.
Both evaluations are important, but have different objectives:
• Pre-tender – to ensure that all contractors who bid are reputable,
acceptable to the client and capable of undertaking the type of
work and value of contract. Further, if an unconventional con-
tract strategy is selected it is strongly recommended that they
have experience of the approach.
• Pre-contract – to ensure that the contractor has fully understood
the contract, that its bid is realistic and that its proposed re-
sources are adequate (particularly in terms of construction
plant and key personnel).
The most formal method of contractor evaluation is pre-qualifica-
tion. A full pre-qualification procedure may include:
• either a press announcement requiring response from inter-
ested firms or direct approach to known acceptable firms
• issue by the client of brief contract descriptions, including
value, duration and special requirements
• provision of information by the contractor, including affirma-
tion of willingness to tender, details of similar work undertaken,
and financial data on number and value of current contracts
• information on turnover, financial security, banking institu-
tions and the management structure to be provided, with names
and experience of key personnel
• discussions with the contractor’s key personnel
• discussions with other clients who have experience of the contractor.
The evaluation may be done qualitatively, for example by a short
written assessment by a member of the project manager’s team. For

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 CHAPTER 2. CONTRACT AWARD AND CONTRACT LAW

large contracts it is preferable to try to quantify each contractor’s

abilities.
Some large, international clients suggest that pre-qualification
should be based upon the ability to perform satisfactorily in terms of
experience, past performance, capabilities (personnel, equipment
and plant) and financial capacity. The pre-qualification of small,
local contractors may be difficult as they may not have full financial
and capability reports. These clients also suggest that the minimum
period for bidding should be 90 days. This is to allow the contractor
to carry out technical, labour and other investigations. Others
suggest that the minimum period for bidding should be at least six
months. The number of bidders should be limited as tendering is
expensive. The principal terms of agreement should be known
before bidding. The method statement, programme and construc-
tion plant should be identified.
A thorough pre-qualification should eliminate many of the risks
that relate to the external organisation. These can be stated as:
• Financial – the investigation involves an assessment of the finan-
cial statements, a check on the financial exposure of the com-
pany on domestic and overseas contracts, and the history of
recent financial disputes.
• Technical – the assessments are concerned with the current com-
mitment of labour and plant resources, the ability to handle the
type, quality and size of work at a specific time and performance
on site for previous projects.
• Managerial – the investigation involves identifying the manage-
rial approach to risk, contract strategy, claims and variations.
At this stage frank, open discussions should take place between
all parties concerned. Risks should be identified and methods of
dealing with their occurrence and contingencies to be allowed
against them negotiated. A good pre-qualification should reduce
the number of bidders to a maximum of six. This may be further
reduced to three when genuine competition is assured.

Tender analysis and contract award

Once the pre-qualification is complete a list of tenderers can be
compiled. These tenderers will then be issued with tender docu-
mentation, when this has been completed and submitted, all of the
tenders can be evaluated. Evaluation is primarily concerned with
the justification of the lowest-price bid that meets the client’s overall
requirements. It is essential that the client defines clearly and
precisely the bid requirements to ensure that the submissions can be
evaluated in terms of a common information base.

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Commonly, tender analysis concentrates effort on the price by

trying to discover high or low rates and weighting of rates. It is also
essential to identify the likely causes of problems during the course
of the contract, for example inadequate or inappropriate resources,
an unrealistic plan or method of construction or an inadequate
treatment of risk. Tender analysis should be undertaken rigorously
and systematically. On major construction contracts additional time
and effort at this stage can lead to much smoother contract execu-
tion. Factors to be considered include:
• That the bids are responsive to the tender documents and that
any qualifications are acceptable.
• Correction of bid prices for arithmetical errors.
• Differences in technical content.
• The adequacy of resources proposed by the contractor. Clients
or project managers will be greatly assisted here if they have pre-
pared their own realistic estimate of time and cost.
• Differences in the timing of payments required by the client.
• The reasonableness of advance and mobilisation payments.
• The impact on project economics of any different contract
durations which may be bid.
• How to assess bids containing a number of different elements,
some of which may not be financially quantifiable.
• Whether to give a margin of preference to some bidders, for
example indigenous contractors in a developing country, bid-
ders who offer equipment which is compatible with existing
equipment and bidders who have previously worked harmoni-
ously with the client.
• Does the proposal meet maintenance requirements?
If discussions or negotiations are held with tendering contractors,
they should be fully recorded and incorporated into the contract
documents where appropriate. Before the contract is signed, the
client must ensure that it is in a position to meet all its obligations.
The detailed evaluation of technical, financial and contractual
information can be carried out within the relevant departments of
the client’s organisation, with specific checks on technical expertise,
price and contractual points being sufficient to identify the three
lowest complying bids. Then the client should carry out a further
evaluation and, if necessary, evaluate any alternative bids.
The construction programme submitted by the contractor should
be taken into account as part of the technical evaluation as it indi-
cates the contractor’s overall approach to the work although many
standard forms do not require a programme to be submitted at
tender. The method statements and the proposals for plant and

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 CHAPTER 2. CONTRACT AWARD AND CONTRACT LAW

labour levels can be submitted as non-contractual information and

used to justify the bid. Often this information is used to reject infea-
sible bids rather than to select the optimum bidder. The client must
ensure that the technical information requested from the con-
tractor is relevant to the evaluation procedure.
While the bid price may be considered as the dominant factor, it is
essential that all of the financial implications are examined. The
evaluation process begins with an arithmetic check on a rate by rate
basis, identifying discrepancies between each bid and relative to the
client’s estimated rates. In some cases one tenderer may load a
particular rate based on its own calculations of the quantities
required. The client may consider that some rates have been delib-
erately front loaded and request the tenderer to reallocate those
rates without prejudice to the overall bid price. The client may also
compare the estimated cash flow projections with those of the
tender bids, occasionally using a discounted cash flow analysis as a
further evaluation parameter.
The contractual evaluation may be carried out as a separate assess-
ment or as a part of the technical and financial evaluation. Compli-
ance with the contract documents is considered to be paramount.
Any qualifications included in the contractor’s bid which had been
accepted in the initial evaluation stage would be re-examined and
clarified; if necessary, the bid may have to be rejected. The contrac-
tual evaluation is summarised in a report identifying those areas of
risk and possible contractual problems associated with each of the
bids.

Contract law
A contract is an agreement which gives rise to obligations which will
be recognised by law and enforced in the courts. (Manson, 1993)
Traditionally, contracts are classified into deeds and simple contracts.
Deeds must be in writing, signed, witnessed and delivered; they do
not have to include consideration to be enforceable. All other
contracts, whether written, oral or by conduct, are simple contracts.
The structural elements of a contract are now described.

Offer
An offer is a statement by one party with a willingness to enter into a
contract on stated terms, provided that these terms are in turn,
accepted by the party or parties to whom the offer is addressed.
An offer may be expressed or implied from conduct and can be
addressed to an individual, group or the whole world; Carlill v.
Carbolic Smoke Ball Co., CA, 1893. An offer needs to be distinguished

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from an ‘invitation to treat’, where you are invited to make an offer.

Advertisements of goods for sale are generally treated as invitations
to treat (Partridge v. Crittendon (1968)), along with auction sales,
displays of goods and the sales of land.
An invitation to tender does not normally amount to an offer
to contract with the party submitting the most favourable tender
although it is possible that an invitation to tender may amount to a
unilateral offer if it is clearly intended to be so; Harvela Investments
Ltd v. Royal Trust Co. of Canada (CI) Ltd, HL, 1985. An offer has
no legal effect until it is accepted. Along with counter-offers and
express rejection, an offer may be revoked at any time until
accepted; Routledge v. Grant (1828). Communication of revocation to
the offeree must be made by a reliable third party if not the offeror;
Dickinson v. Dodds, CA, 1876.
After a fixed period of time or after a reasonable length of time,
where ‘reasonable’ is relative to the subject matter, an offer will
lapse. An offer can also lapse if it is made subject to a failed
condition.

Acceptance
An acceptance is an unqualified expression of assent to the terms
proposed by the offeror. Introducing new terms that the offeror
needs to consider is referred to as a ‘counter-offer’ and its effect in
law is to bring an end to the original offer; Hyde v. Wrench (1840).
Careful differentiation is required between a counter-offer and a
mere request for information. It is possible for an offeree to respond
to an offer by making an enquiry as to whether the offeror would be
prepared to amend some terms of the offer; Stevenson v. McLean
(1880).
Counter-offer analysis is also used for ‘battle of the forms’
scenarios where one party makes an offer on a document containing
that party’s standard terms of business, and the other party then
‘accepts’ the offer using a document detailing that other party’s
(conflicting) standard terms. Obviously no contract is formed, but
courts have shown that if the second party’s communication is
accepted through conduct, for example delivery of goods, a contract
has been formed through the first party accepting a counter-offer
on the second party’s terms; British Road Services v. Arthur Crutchley
Ltd, CA, 1968.
Therefore a tender constitutes an offer to an invitation to treat, but
acceptance does not always result in a contract. If a party invites
tenders for the supply of a specific quantity of goods on a certain date,
or the tender is for the supply of a specific quantity of goods over a
period of time, then acceptance creates a contract. If the quantity is

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 CHAPTER 2. CONTRACT AWARD AND CONTRACT LAW

not specified and is to be ordered as and when required, then accep-

tance does not conclude a contract but is a standing offer, which is
only legally accepted when an order is placed and thus a contract is
then formed; Percival Ltd v. L.C.C. Asylums Committee (1918).
The general rule is that an acceptance must be communicated to
the offeror and this becomes valid when it is brought to the atten-
tion of the offeror through receivership. Where the means of
communication is instantaneous (oral, telephone or e-mail) the
contract is created when and where acceptance is received; Brinkibon
v. Stahag Stahl mbH, HL, 1983.
It is possible to remove the need for communication in a bilateral
contract for the offeror to waive, both expressly and impliedly, the
need for communication of acceptance to the offeree, for example
by dispatching goods in response to an offer to buy, and is thus by
conduct; Taylor v. Allen (1966). This is subject to the reservation that
it is not open to the offeror to impose a contract on the offeree
against the latter’s wishes by stating that silence amounts to accep-
tance; Felthouse v. Bindley (1862).
A final point about acceptance is about acceptance by post. Where
post is the appropriate and possibly requested means of communi-
cation, acceptance occurs immediately after the letter is posted,
even if the letter is delayed or destroyed; Adams v. Lindsell (1818).
If the offeror states a method to communicate acceptance, with no
others acceptable, no contract is formed if another method is used;
Eliason v. Henshaw (1819). If a communication method is stated but it
is not clear that others are unacceptable, an equally advantageous
method would suffice; Tinn v. Hoffman (1873). Where the offer does
not list a method, the appropriate method can be assumed to be the
form in which the offer was made; Quenerduaine v. Cole (1883).

Intention to create legal relationship

The intention to contract is a necessary independent element in the
formation of a contract. Advertisements are essentially statements of
opinion or ‘mere puff’ and are not intended to form the basis of a
contract. The courts look for evidence of contractual intent and
thus even a precise statement will not be binding if it is clearly not a
serious statement. Domestic and social agreements have little influ-
ence on framework agreements but the main intention is to form a
commercial agreement, where it is assumed the parties intend to be
legally bound, unless expressly stated otherwise; Rose & Frank Co. v.
Crompton Bros. Ltd, HL, 1925.
Collective agreements between trade unions and employers regu-
late pay and conditions of work. Under Section 179 (1) and (2) of
the Trade Union & Labour Relations (Consolidation) Act 1992, a

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collective agreement is presumed not to have been intended by the

parties to be a legally enforceable contract unless written expressly so.

Consideration
Along with offer and acceptance, and contractual intent, consider-
ation is an integral part of the formation of a contract. John Lush in
Currie v. Misa (1875) defines consideration as:
some right, interest, profit or benefit accruing to the one party, or
some forbearance, detriment, loss or responsibility given, suffered or
undertaken by the other.
Past consideration is not like executory consideration where the
exchange of promises takes place in the future and is considered to
be invalid consideration. If the service is performed at the defen-
dant’s request and both parties agree to post-payment, the court
may enforce the contract; Kennedy v. Broun (1863). A person to
whom a promise is made can only enforce the promise if that partic-
ular person provides consideration for that promise; Tweedle v.
Atkinson (1861).
Consideration must have some value and contracts are a bargain
freely entered into; therefore the courts are not concerned with
adequacy or fairness (except exclusion clauses). One example of
this is a ‘peppercorn’ rent. If consideration is empty, illusionary, or
concerned with human feelings, the courts feel this is insufficient,
i.e. consideration must have an economic value.
Consideration is also insufficient when a promise to perform an
existing duty is already owed to the promisor due to a public duty
or already existing contract. Examples include Collins v. Godefroy
(1831) and Stilk v. Myrik (1809). Williams v. Roffey (1989) follows by
allowing the consideration to be valid if existing contractual duty
bestows a practical benefit on the other party. Performance of an
existing contractual duty owed by the promisee is also seen as good
consideration.

Terms of a contract
One of the final steps in the formation of a contract is the identifica-
tion of the terms and their effect. The terms of a contract determine
the extent of each party’s rights and obligations, and the remedies
should terms be broken.

Certainty
To create a binding contract, the parties must express their agree-
ment in a form which is sufficiently certain for the courts to enforce;

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 CHAPTER 2. CONTRACT AWARD AND CONTRACT LAW

Scammell & Nephew Ltd v. Ouston, HL, 1941. The idea is that the
parties form the contract, not the courts, and in commercial con-
tracts flexibility is necessary to keep up with market changes, so vari-
ation clauses are included, for example Clause 51 in the ICE Condi-
tions of Contract, to provide flexibility within certainty.

Representation and terms

During negotiation of a contract, statements are classified as either a
term or a representation. A representation statement induces the
contract but does not form part of it, unlike a term that is a promise
or undertaking included in the contract. This results in a difference
whereby if a representation is broken the result will be misrepresen-
tation, but if a term is broken it is a breach of contract.
A statement does not become a term if the statement maker asks
the other party to verify its claim, whereas, if the statement is made to
prevent the finding of a defect and succeeds, the courts consider this
a term; Schawel v. Reade, HL, 1913. Following from this, a statement
will be a term if the injured party would not have entered the contract
had it not been made; Bannerman v. White (1861). Should there be an
imbalance of knowledge and skill, i.e. an expert and a layman, a court
may conclude that any statement made by such a party is a term; Dick
Bentley Production Ltd v. Harold Smith (Motors) Ltd, CA, 1965.

Collateral contracts
When a contract is entered into on the faith of a statement made by
one of the parties a collateral contract could be formed; De Lassalle
v. Guildford, CA, 1901. A collateral contract can only exist if all the
elements of a contract exist and can be valid even though terms
conflicting with the main contract may exist; City of Westminster Prop-
erties Ltd v. Mudd (1959). The collateral contract is a useful tool and
can be used to sidestep the parol evidence rule, to evade exclusion
clauses and to avoid the effects of an illegal contract.

Conditions, warranties and innominate terms

Not all terms of a contract are of equal stance, and they have, thus,
been classified into conditions, warranties and innominate terms.
A condition is generally an important term of a contract and
breach of a condition will entitle the injured party to be released
from the contract and sue for damages. A warranty is less impor-
tant than a condition, and breach of a warranty allows a right to sue
for damages but not to be released from the contract. The third
type of term is an innominate term, which can be classified as a
more or less important term depending upon the effects of the

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breach. These are considered after the nature of the conditions

has been examined; Hong Kong Fir Shipping Co. Ltd v. Kawasaki
Kisen Kaisha Ltd, CA, 1962.

Implied terms
Where a term is not expressly stated, but is one which the parties,
in the view of the courts, must have intended to include to give
the contract business efficacy, the term may be implied into the
contract. To be implied by the court the term needs to be ‘some-
thing so obvious it goes without saying’. A court can also imply terms
as a matter of law, although many terms are within statutes, for
example the Supply of Goods and Services Act 1982.
Local custom or trade systems can imply terms to fill areas that a
contract does not address; Hutton v. Warren (1836). A custom term
cannot be applied if a contrary express term exists in a contract.
The third type of implied term is through statute. Statutorily
implied terms are not based on the intention of the parties but on
the rules of law and public policy. They should not give effect to the
intention of the parties, but provide some protection for the expec-
tation of the purchaser.

Exclusion clauses
An exclusion clause is inserted into a contract to remove or finan-
cially limit a party’s liability for breach of contract, misrepresenta-
tion or negligence. The court uses various means to control these
clauses, and the Unfair Contracts Terms Act 1977 and the Unfair
Terms in Consumer Contracts Regulations 1999 exist. Control by
the courts is generally run using ‘incorporation’ and ‘as a matter of
construction’.
By signing a document containing exclusion clauses, the party is
bound by those terms regardless of whether the document has been
read or is understood; L’Estrange v. Graucob, CA, 1934. When the
document is unsigned and just delivered, then reasonable and suffi-
cient notice of the exclusion clauses must be made, i.e. ‘for condi-
tions see back’ notices on tickets; Thompson v. L.M.S. Railway Co.
(1930).
Where there has been insufficient notice, exclusion clauses can
still be incorporated where there have been previous dealings between
the parties on similar terms; Olley v. Marlborough Court, CA, 1949.
Several pieces of legislation exist to control exclusion clauses in
contracts, namely the Unfair Contract Terms Act 1977, the Fair
Trading Act 1973 and the Unfair Terms in Consumer Contracts
Regulation 1999, which is related to EC Directive 93/13.

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Privity of contract
The doctrine of privity is closely associated with the doctrine of
consideration. Upex (1999) states a general phrase linked to the
doctrine of privity:
A contract cannot confer benefits on strangers, nor can it impose bur-
dens on strangers.

In essence, the rule of privity means a person who is not privy to a

contract cannot sue or be sued under that contract. The most
referred case is Dunlop Pneumatic Tyre Co. Ltd v. Selfridge Co. Ltd, HL,
1915, where the plaintiffs sold tyres to a wholesale distribution
company, who then sold to the defendant. The defendant then
sold these tyres at a reduced price lower than specified by the
manufacturer/plaintiff and the plaintiff tried to sue for breaching
a clause in the contract between the plaintiff and the wholesale
distributors.
Following the idea that a contract is a bargain, even if a person is
mentioned in an agreement and stated to be the promise, if such
persons give no consideration they will not be able to sue. Though
they may be party to the agreement, they are not party to the bargain
and, thus, are not party to the contract. There are a number of statu-
tory exceptions, for example the Law of Property Act 1925, s.136;
the Bills of Exchange Act 1882, s.29; and the Married Women’s
Property Act 1882, s.11.
Two main exceptions to the rules exist. Firstly, when a person
knows of a contract but is not party to that contract and induces a
party to that contract to break it, the innocent party to the contract
can sue the third person even though that person is not party to
the contract. The second is where a restrictive covenant is made
affecting land. Here a later owner of the land can enforce it even
though they were not a party to the original covenant.
Agency is also a main common law exception to privity and occurs
when one person (the principal) appoints an agent to enter into a
contract on their behalf with a third party. The principal can sue the
third party; N.Z. Shipping Co. Ltd v. A.M. Satterthwaite, PC, 1975.
Along with agency, the doctrine of privity does not forbid assign-
ment of contractual rights. One of the final relevant exceptional
areas is collateral contracts, which can be used to evade the privity
rule.
Another recognised method of evading the doctrine of privity is
the trust device. This is where A contracts with B to pass on the
benefit to C and B is holding the contractual rights for C in trust. C
can then ask B to sue A as trustee, or if B relents, sue A themselves as
co-defendant; Les Afréteurs Réunis SA v. Walford, HL, 1919.

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Discharge of contracts
Contracts can be discharged through frustration, breach of the
contract, agreement or performance of the contract.
A contract is frustrated where, after the contract was formed,
events occur which make performance of the contract impossible,
illegal or something radically different from that which was in the
contemplation of the parties at the time they entered into the
contract. Contracts discharged on the grounds of frustration are
brought to an end automatically by the operation of a rule of law,
irrespective of the wishes of the parties; Hirji Mulji v. Cheong Yue
(1926).
One party cannot, by a wrongful act, bring a contract to an end
without the consent of the other. If A commits a breach of a condi-
tion, or a fundamental breach of an innominate term of a contract
with B, it is for B to decide whether to terminate the contract or not.
Breach of the main types of term has various methods of resolution.
Some allow only damage claims, for example a warranty, whereas
the more serious allow a discharge of contract along with damages,
for example a condition, and are often called ‘repudiatory’ breaches.
A contract can be discharged or varied by agreement. This is
where both parties give up their rights under the previous contract
and either go their separate ways or provide new consideration for a
new contract. Should this consideration result in a fundamental
change to the original contract, then rescission should occur. If the
implementation of change is small a variation can be utilised or one
party can waiver its rights under the doctrine of waiver. If both
parties perform their obligations under the contract, precisely and
exactly, the contract is discharged; Re Moore Co. & Landover Co.
(1921). However, this has been limited recently by section 4(1) of
the Sale & Supply of Goods Act 1994.
Contracts are enforceable if a party’s contractual obligations have
been met substantially, but not precisely. Where performance by
one party is partial, the other party can accept this partial perfor-
mance; Christy v. Row (1808). When partial performance is accepted,
the partial performer can claim quantum meruit costs.
Where one party is unable to complete performance without
working together with the other party, the party may make an offer
of performance which is then rejected by the other party. The party
offering or tendering the performance will then be discharged from
further liability. A tender of performance is equal to performance;
Startup v. Macdonald (1843).
If a definite time for performance is included within a contract, a
question of essence is raised. At common law, unless the contract
provides otherwise, performance must be completed by the date

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specified, otherwise it is a repudiatory breach. In equity, the courts

are slightly more lenient and specific performance may be decreed
despite the failure of the plaintiff to keep to the time fixed for
completion.

Remedies
The remedies for breach of contract exist in common law, which
provides the remedy of damages, and in equity, which provides
the remedies of rescission, rectification, specific performance and
injunction.

Damages
Damages are awarded to position the injured party in the same
financial position as it would have been had the contract been
performed correctly, to provide a compensation for the loss of the
bargain within the contract. There are also reliance damages that pay
for the costs incurred as a result of the defendant’s breach and are
there to return the plaintiff to that party’s original position.
When a claimant has been negligent, with it contributing to the
damage this party has suffered, the damages payable to the claimant
can be reduced under the Law Reform (Contributory Negligence)
Act 1945, except under a breach of strict contractual duty. There is
also duty on the innocent party to mitigate loss, by taking reasonable
steps to minimise the loss and not to make any attempts to increase
the loss.
A plaintiff may not be able to recover the damages for all the
losses suffered because, under the Hadley v. Baxendale (1854) ruling,
some losses may be adjudged to be too remote from the compensa-
tion breach in question. This has resulted in a precedence whereby a
plaintiff can only recover damages when the loss arises naturally out
of the breach or could reasonably be supposed to have been within
the contemplation of the parties at the time the contract was formed.
A plaintiff seeking to recover damages is sometimes said to be
under a duty to mitigate, although the defendant has the burden of
proving failure to mitigate; British Westinghouse Electric Co. v. Under-
ground Electric Railway Co. of London, HL, 1912. The plaintiff is only
required to act reasonably in order to mitigate and has no need to
embark on hazardous or uncertain courses of action; Pilkington v.
Wood (1953).
A contract may contain a clause providing for the payment of
a fixed sum on breach, and so long as the sum is a genuine pre-
estimate of the loss, the plaintiff is allowed to recover this sum
on breach without proof of actual loss. Such damages are often
called ‘liquidated damages’ or ‘agreed damages.’ Standard forms of

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contract used in the construction industry generally acknowledge

and include within the contract a clause for liquidated damages. If
the sum stated in the contract is not a genuine pre-estimate then the
payment is a penalty. Should the loss be greater than the stated
penalty, then the full amount can be claimed, unlike liquidated
damages.

Quantum meruit
A party can claim on a quantum meruit (‘as much as he has deserved’)
where the contract makes no express provision for remuneration;
for example, in the sale of goods, if the contract does not fix the
price the buyer must pay a reasonable price. Another form where
this payment (note, not compensation) can be claimed is when one
party is prevented by the other from completing performance.

Rescission and rectification

Rescission is an order by the courts for the parties to a contract to be
returned to the positions they occupied before the contract was
made. Careful consideration of any innocent third party acquiring
rights has to be given, and if it is not possible to rescind the contract,
the matter will be dealt with using the award of damages. The equi-
table remedy of rectification is where a written contract does not
fully express the true intention of the parties of the contract, and the
courts have the power to rectify or alter the original document to
reflect the true meaning of the agreement. Rectification is not a
panacea for poorly written contracts and is only rarely used in
practice.

Specific performance and injunction

These are equitable remedies awarded at the discretion of the
courts. Specific performance is an order of the court compelling the
defendant to perform his/her part of the contract, although this
can be refused by the defendant on the ground of hardship; Patel v.
Ali (1984). An injunction is a decree by the court ordering a person
to do or not do a certain act and in contract law is used to restrain a
party from committing a breach of contract. It can be used to
prevent a party breaking a contract and cannot force a person to do
something that would be ordered by specific performance; Lumley v.
Wagner (1852).

Summary
This chapter has briefly explained the allocation of risk and its
perception by the various parties involved with construction

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contracts. It then went on to describe the key elements in contractor

selection, the role of pre-qualification and the criteria for contract
award.

Bibliography
General
Smith, N. J. Managing Risk in Construction Projects. Blackwell Science,
Oxford, 1999.
Turner, J. R. The Commercial Project Manager. McGraw-Hill, London,
1995.
Uff, J. and Capper, P. Construction Contract Policy. Centre of Construc-
tion Law and Management, King’s College, London, 1989.

Law
Duxbury, R. Contracts in a Nutshell, 5th edition. Sweet & Maxwell London,
2001.
Great Britain. Contracts (Rights of 3rd Parties) Act 1999. Stationery Office
Books, London, 1999.
Great Britain. Law Reform (Contributory Negligence) Act 1945. Stationery
Office Books, London, 1945.
Great Britain. The Sale and Supply of Goods Act 1994. Stationery Office
Books, London, 1994.
Great Britain. Trade Unions and Labour Relations (Consolidation) Act 1992.
HMSO, London, 1992.
Institution of Civil Engineers. ICE Conditions of Contract: Conditions of
Contract and Forms of Tender, Agreement and Bond for Use in Connection
with Works of Civil Engineering Construction. Thomas Telford, London,
1999.
McKendrick, E. Contract Law, 4th edition. Macmillan, London, 2000.
Manson, K. Law for Civil Engineers: an Introduction. Longman, Harlow,
1993.
Murdoch, J. and Hughes, W. Construction Contracts – Law and Manage-
ment, 3rd edition. Spon, London, 2000.
Smith, J. C. The Law of Contract, 4th edition. Sweet & Maxwell, London,
2002.
Uff, J. Construction Law, 7th edition. Sweet & Maxwell, London, 2000.
Upex, R. Davies on Contract, 8th edition. Sweet & Maxwell, London,
1999.
Wheeler, S. and Shaw, J. Contract Law, Cases, Materials, and Commentary.
Oxford University Press, Oxford, 1996.

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Drafting and using construction
contracts – a legal perspective
E. Davies and C. Hallam

Introduction
There is a commonly held view that a construction contract is essen-
tially a legal document which, once agreed and signed by the
parties, should be ‘put in a drawer’ and not looked at unless there is
a dispute. Those who hold this view may regard project manage-
ment as a process that is largely disconnected from the contract, and
may consider reference to the contract by the parties as adversarial
and therefore undesirable. However, simply ignoring the contract
may prove to be perilous. For example, the contract may contain
certain ‘conditions precedent’ that have to be met before a party is
entitled to bring a claim – if the parties have not read the contract,
they will not be aware of those conditions. A project manager who
has ignored the contract is likely to be more than a little distressed
when told that a legitimate claim has been lost because the legiti-
macy of the claim depends on a notice being served by a particular
date – and no notice has been served.
In this chapter, it is considered that the construction contract
should to be used as part of the project management procedure,
and that the use of the contract should be no more controversial
than the use of well-established project management procedures. It
is also suggested that, in the majority of cases, proper use of the
management powers contained in the contract will prove to be more
useful than reliance upon the legal remedies arising therefrom,
such as monetary damages, termination and the like. In doing this,
some ideas as to how to set up and draft contracts are explained.
This chapter is written mainly from the point of view of the organi-
sation procuring the work (referred to as ‘the client’) because it is
usual for the client (or its advisers) to prepare the contract.
However, many of the points made apply equally to subcontracting.
There is also reference to a person employed by the client to act as

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its representative in relation to the contract. This person is called

‘the engineer’, although it could equally be an architect or other
professional project/contract manager.
The first point is that the contract itself should not be the starting
point in the process. The contract should be a servant of the parties
rather than their master – it should record, clearly and concisely,
and in a manner that can be easily understood, the commercial
agreement that has been reached by the parties. However three
other documents should be created first. These are a wish list, a
constraints list and a risk matrix. The purpose of these documents is to
be the source material and a checklist for the contract.

Wish list
The wish list should set out what the ‘operational team’ – i.e. the
people who are ultimately going to use the facility wished – to
achieve. It is quite common for there to be a project team respon-
sible for procurement (made up of employees of or advisers to the
client) which is totally separate from the operational team. They
may well come from different professions, backgrounds or experi-
ence. The first task for the project team is to understand the needs
and wishes of the operational team and this is often more difficult
than people imagine. There is an old saying, ‘be careful what you ask
for, you might get it!’, and this should be borne in mind.
The wishes should be divided into three grades of importance,
being:
• A – ‘essential’ items
• B – ‘useful’ items
• C – items that would be ‘nice to have’.
The operational team must be prepared to explain why each item is
in the list and why it is within list A, B or C. In order to focus the
minds of the operational team, they should assume that if any of the
items on the A list cannot be achieved then the project will be
cancelled.
It goes without saying that it is desirable for projects to be com-
pleted within budget. One of the main reasons that budgets are
exceeded is that the essential items are changed after the contract is
let. Sometimes this is unavoidable: it may be that a particular compo-
nent becomes unavailable and a more expensive alternative has to
be used; it may be that the business needs of the client change;
sometimes it is simply impossible to foresee all eventualities and
changes are therefore unavoidable. However, it is worth spending a
considerable time on the wish list to make it as firm as possible, as

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this document will ultimately turn into a specification to be incorpo-

rated into the contract.
Another issue arises at this point, which is how prescriptive the
wish list should be. It is useful to think of ‘design’ as a series of deci-
sions. In essence, the wish list is a series of decisions. At the top level,
a decision needs to be made to embark upon a project. A company
might decide that it needs a process plant; a public authority might
decide that a road should be built. The next level down might be
precise location and size. At the opposite end of the scale are
more detailed (but potentially important) decisions about minor
elements of the work. It has even been suggested that the question
of how hard to hit a nail into a piece of wood is a decision in this
sense.
The question is how many of those decisions should be taken by
the client and how many by the contractor. This will depend on a
number of factors, but possibly the most important is the nature of
the project. In some cases the client will be very interested in a
particular decision, in other cases not.
Take the case of a process plant. There might, for example, at one
end of the site that is rarely visited, be a particular piece of equip-
ment that needs to be inside a small building. The purpose of the
building is to provide an element of weatherproofing for the equip-
ment. Assume that the internal environment is not critical. It would
not be important if there was the occasional leak or fluctuation in
temperature; all that matters is that the equipment is, over a period
of years, inside rather than outside. In that situation, a client might
well be prepared for the contractor to design the building.
Another case is the front elevation of a museum building of
national importance in a prominent location. Here, although there
might not be major structural or engineering issues, the exact speci-
fication of the frontage will be of critical importance to the client.
Although it might be acceptable for the engineer (or more likely an
architect) or the contractor to suggest designs, the client will want to
retain total control over the decision that is finally made.
Why is this distinction important? Any decision taken by the client
(or on its behalf) will generally be the client’s responsibility. If the
decision is wrong in some way and/or needs to be changed after the
contract has been let then there will generally be a cost implication
for the client. However, a decision made by the contractor will
generally be the contractor’s responsibility, will be at the contrac-
tor’s risk, and any cost implication will lie with the contractor.
A compromise might be to introduce an ‘approvals’ regime where
a decision is provisionally made by the contractor but submitted to
the client (or, more usually, the engineer) for approval. The approval

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is not an acceptance of responsibility for the decision, simply a

permission to proceed. These regimes are usually constructed so
that the approver is enforcing the contract rather than changing
it, but there is a conceptual difficulty with an approvals regime.
Take an extreme example. Suppose a contractor has to submit the
proposed colour of the paint for a particular surface to the engineer
for approval. Every colour suggested is rejected. The engineer says
that only one colour will be approved, but it is very unusual and will
cost a great deal more than a normal colour, and there is no engi-
neering reason to choose this colour. It may well be possible under a
particular legal system to write a contract that would allow such a
thing to happen, but it seems logical that there must be some
implicit element of reasonableness in an approvals regime, or at
least a link to functionality. In the absence of clear provisions to the
contrary, the approver cannot use an approvals regime as a tool to
impose the approver’s design decisions on the contractor. The
rejection of something offered for approval must be based on objec-
tive and sound criteria in an effort to enforce the contract by, for
example, rejecting something that will not perform its required
function. The approver may ask for alternatives so that a choice can
be made but there is a line which should not be crossed.
This is an issue commonly seen in disputes. Best practice is for the
contract to contain a clear and concise approvals regime, which sets
out the basis on which approvals will be given or withheld. Contrac-
tors should be wary of approvals regimes that are not clear in this
way. In preparing the wish list, decisions which are to be left to the
contractor but which are to be the subject of approvals should be
thought through carefully. It may be that contractors will come up
with good ideas, and leaving some of the thinking to them may help
the tender process in that contractors will have the opportunity
either to innovate or to demonstrate their ability to do so. If that is
the policy then approvals should be a way of protecting functionality
and perhaps a limited element of aesthetics. However, if the real aim
is to take design decisions, then perhaps delegation of those deci-
sions subject to approval will often prove problematic.

Constraints
The constraints list contains all the limiting factors which may affect
the implementation of the project. These are factors which are
external to the project and are actual constraints, rather than
possible constraints, to distinguish them from risks, which should be
contained in the risk matrix document (see below). Some typical
constraints are set out below, but this should only be used for

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guidance, as the list of applicable constraints will be unique to each

project.

Funding constraints
Possibly the most important constraint will be budgetary. There is
usually a limit to the amount of money which is available for the
project. This may be the client’s own funds or money which is to be
obtained from outside sources such as banks or other lending insti-
tutions. In commercial situations, the available funds may well be a
variable depending on the details of the project. For example, in
the case of a power station, the amount of electricity that can be
produced (and therefore the potential revenue) will depend on the
size of the plant and, in turn, the size of the plant will have an impact
on the price. Thus there will be an influence from the wish list on
the constraints list and vice versa.
Where finance is obtained from an external source, for example
a lending bank, the bank will almost certainly impose its own
constraints on the project. This is particularly so in the case of
non-recourse financing, where the bank does not take security from
the general assets of the client, but instead the bank’s security is, for
example, the income stream generated by the power station. In
some cases the bank’s requirements will be very detailed. They may
require certain elements of the work to be procured in particular
ways, for example the bank may require that, in respect of contrac-
tors, there is single-point responsibility for defects. They may also
require that contractors and certain subcontractors enter into
direct agreements with the bank warranting the quality of their
work, and/or granting to the bank ‘step-in’ rights, to enable the
bank to ‘step in’ and take over the project if certain circumstances
occur, for example if the client becomes insolvent.
The availability of funding may well have an impact on the
payment regime adopted in the contract. It will be essential to
ensure that the liability to pay the contractor arises at such times and
in such amounts as will be available from the funder. If the funder is
only prepared to release money after certain stages of the work have
been completed, then this would suggest that a milestone approach
to payment in the construction contract will be necessary, rather
than monthly payment pursuant to the contractor’s applications.
In some cases there will be two funders, one for the construction
phase of the project and another for the operational phase, and
each funder may have different requirements. Typically, the opera-
tional finance might only become available after commissioning
tests have been successfully completed. In that case it will be neces-
sary to ensure that the requirements of the contractor under the

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construction contract match the requirements for the availability of

the operational finance, as well as any requirements of the construc-
tion phase funder.
Given that funding may be conditional on complying with the
bank’s requirements, steps will need to be taken in any construction
contract to ensure that these requirements are properly and
timeously complied with. In many cases this is overlooked and
clients have to rely on post-contractual negotiation with the con-
tractor to provide such documents. It may not even be enough to
place a simple obligation on the contractor to provide warranties in
favour of the funder, as a question arises as to how that obligation
would be enforced in practice. One should not assume that the
courts will order a reluctant contractor to sign such a document – in
many cases they will not and in some countries such an order is not
within the courts’ powers. It is not unusual to make the contractor’s
right to payment conditional on the provision of such documents.
This can be justified if the provision of the documents is required to
release funding and the position (and the documents involved) is
clearly set out at tender stage. However, care should be taken to
ensure that such a provision will be legally enforceable under the
applicable law, as it may amount to an unenforceable penalty.

Regulatory constraints
In many cases, approvals from government or other regulatory
bodies will be required before the project can proceed.
The most common is under planning legislation (known as
zoning in some countries). This is a system where local government
decides which areas under its control will be used for particular
purposes, such as residential or industrial. Sometimes consent will
be given for a project in outline but further, detailed consent will be
required at a later stage. For example, outline permission might be
granted for a structure which crosses a river by way of a bridge, but
consent for the details of the portals through which the river will
flow might be deferred. The person seeking the permission would
not want to incur the expense of having detailed design work carried
out until permission had been obtained for the scheme as a whole.
Usually the outline permission is obtained by the client, but it is
becoming increasingly common for the contractor to be asked to
obtain the detailed consent (and to take the risk for any failure to do
so) where the subject matter of that consent is being designed by the
contractor. A decision will need to be made as to who will obtain the
consent, and this will need to be written into the contract.
There are many other types of consents that need to be obtained
and these will differ from project to project. In all cases the exercise

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of the regulatory powers can have a significant impact on the wish

list. Early consultation with the regulatory authorities is recom-
mended to find out what is likely to be approved. Ideally, the
consents should be obtained before the contract is let, and then any
conditions attached to the consents can be incorporated into the
specification. If this is not possible, a decision needs to be made as to
whether the contractor should be asked to obtain the consent, in
which case there should be enough flexibility or discretion afforded
to the contractor to enable the consent eventually obtained to be
complied with without having to change the specification of work
with which the contractor must comply. Otherwise, under most
contracts the change will be at the cost of the client (both in terms of
capital expenditure and additional costs caused by programming
delays).
It may be possible to provide that the contractor will bear the
cost of a change necessitated by regulatory consents; however, it is
suggested that this is not ideal if the contractor is being asked to
bear a risk which the client is going to manage. Disputes may arise as
to the conduct of the relevant applications.
Other regulatory constraints include applicable laws where no
specific consents are required. Again, the relevant laws will differ
from project to project and from country to country. These include
laws relating to health and safety and environmental matters.
Typically these are laws which must always be complied with and
action will only be taken by the relevant authority in the case of
breach. It is best practice to identify the most relevant laws in the
construction contract (on a non-exhaustive basis) and to expressly
require compliance with them. The contract can also require the
contractor to comply with ‘all other legislation’ by a single ‘wrap-
ping up’ provision.
Special care is required where components are being manufac-
tured in one country for use in another. The regulations of the first
country may require that the components are manufactured in a
way which breaches, or at least is inconsistent with, the regulations
of the second, or vice versa. Many countries have special rules to
cater for this situation but a contract which simply requires that ‘all
applicable laws’ should be complied with may run into difficulty. As
ever, the contract should consider this constraint in detail and set
out exactly what the contractor is to do.

Third party rights

In many cases a project will impact upon land, structures or equip-
ment belonging to others. In the simplest cases the project will
require that the land is purchased from the third party. In more

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complicated cases there may be detailed arrangements for access

and permanent arrangements for the sharing of land or equipment.
For example, a pipeline may need to pass through a field owned by a
farmer. Permission will be needed to enter the field and dig a trench
for the pipeline. After the works are complete there will need to be a
legal right for the pipeline to remain on the farmer’s land. In some
countries the pipeline will become the property of the farmer unless
legal arrangements are made to keep it within the ownership of the
pipeline company. Access may also be needed for maintenance
purposes in the future.
Other projects (particularly urban regeneration) involve
extremely complex arrangements, where land is used for different
purposes at various stages in a project by different developers and
contractors. There may be demolition of a building, the site of
which is then used as a contractor’s compound and then subse-
quently for further building work. The sequence of possession dates
can have a major impact on the construction programme and it is
common for the project to be divided into phases during which
different areas of land and/or the site will be available to the
contractor. Many contracts provide for differing access to the site for
contractors at various points in the project.
It goes without saying that such arrangements need to be entered
into at an early stage. There have been cases where pipeline projects
have been held up because arrangements have not been finalised
with landowners through whose land the pipeline is to pass. Simi-
larly, the denial of access to a contractor to a part of the site which
the contractor is entitled to use will usually lead to a claim for wasted
costs being made by the contractor, and the project will inevitably be
delayed, which will have other cost consequences for the client. If
the precise timings cannot be ascertained in advance, arrangements
may have to be made which involve giving notices to a contractor
with pre-agreed mobilisation times.

Commercial and operational constraints

These are constraints that relate to the business or activities of the
client. Timing constraints are typical of this category; for example, it
might be that a project for the resurfacing of an airport runway can
only be carried out at night, because the airport needs to use the
runway during the day. Another example might be the need to wait
for the availability of alternative accommodation for people working
in a building that is to be redeveloped. A school may need to be
ready for an academic term. Again, these are matters which will
need to be discussed with the client’s operational team and they can
have a major impact on programming.

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Although some contracts have acceleration measures in the case

of programme slippage, the powers of the client (or the engineer)
may need to be greatly enhanced if timing issues are critical. This is
dealt with in more detail in the risk matrix section, below.
Other constraints may relate to the client. Many organisations
have ethical policies which need to be complied with relating to
materials or sources of supply. In the case of materials, the prohib-
ited items might be those which could damage the environment or
those from suppliers whose activities are not approved. There is a
fair diversity of opinion on what is and what is not ‘ethical’ and this
may differ markedly from country to country. Such policies, particu-
larly if they go beyond the general law and current engineering
practice, should be identified to the contractor at tender stage so
that pricing can be carried out with compliance in mind. Some poli-
cies also relate to timing – it may not be acceptable to work on
certain religious holidays – and these will need to be authoritatively
identified and written into the contract. Even minor exceptions to
the policy may require approval from the highest levels of manage-
ment of the client, which can take a considerable time to obtain.

Supply and labour constraints

The project may require materials, components or specialist skills
which are in short supply or need long lead-in times. This may
require the letting of advance contracts to secure such supply. There
may also be political issues such as delays and problems in obtaining
visas and work permits in international contracts.

Risk matrix
The third document that needs to be prepared is the risk matrix. It
is suggested that this is drawn up at a ‘brainstorming’ meeting
attended by the whole project team. The usual rules apply (no idea
is ridiculous, etc.), and this meeting is often quite good for team
‘bonding’ purposes if the people do not know each other well. Each
risk is assessed for:
• high/low/medium probability
• high/low/medium financial impact
• high/low/medium time impact.

It should be considered whether or not there is an ability to ‘lay

off’ the risk to insurance or the contractor, whilst bearing in mind
the general principle that a risk is usually minimised if taken by the
person best able to manage its causative factors. There is also the

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issue of loss of control of risks managed by contractors, which can

sometimes be controversial.
Generally, if a risk is taken by the client, the cost consequences if
the risk materialises will be an actual cost. If a risk is laid off to insur-
ance or to a contractor, the client will still pay for that risk but the
cost will be a statistical cost. It is for this reason that some organisa-
tions ‘self-insure’ and take the risk themselves.
For example, suppose there is a risk that a particular component
will be damaged during installation, regardless of how carefully it is
installed. If the client bears the risk and the component is damaged,
the cost will be the repair or replacement price of the component,
and the cost of removal and reinstallation with attendant delay.
However, if the component is not damaged, the cost is nil. If the risk
is passed to insurers or a contractor, they will make an assessment of
the risk and add this to their price or premium as appropriate. The
client will pay this cost whether or not the component is damaged.
Obviously there is a balancing exercise to be carried out, but it
should be borne in mind that a risk laid off is not necessarily a cost
saving in the long term, particularly if the client is better able to
manage the risk in question.
The next part of this chapter explains, with examples, how contracts
can be used as a risk management tool.

Defective work
One of the most important risks for the client to consider is the risk
that the contractor’s work will be in some way defective. The first
step to be taken in contractual terms is to ensure that the work that
the contractor has to do and the standards to be achieved are clearly
set out in the contract. One often sees words such as ‘good’,
‘proper’, ‘workmanlike’, ‘fit’, ‘suitable’ or ‘appropriate’ used. The
difficulty with those words is that they are subject to interpretation.
If the contractor regards something as ‘good’ but the client
disagrees it can be quite difficult to decide who is right, particularly
in a borderline case, and perhaps more so where the contractor
can be considered an expert but the client is merely a layperson.
Although ultimately there should be a system of dispute resolution
in the contract, referral to that system is perhaps best avoided, espe-
cially in the first instance. The resolution of the dispute may well
turn on which party’s expert witness is preferred by the dispute
resolver.
Generally, the clearer the specification of work, the less room
there is for dispute. Bear in mind that the word ‘specification’ starts
with the word ‘specific’: if there is a recognised standard against
which the work can be objectively measured, this should be

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expressly incorporated rather than risking a dispute as to whether it

is applicable. Testing regimes should be as comprehensive as
possible.
In some cases even more sophisticated measures can be adopted,
such as having independent testers available to ‘referee’ any dispute
as to compliance within a space of hours rather than days or weeks.
This is particularly useful if work has to be covered up and if it would
be expensive or impractical to uncover it later. Such arrangements
typically would not absolve the contractor from liability for ‘latent’
defects. The tester needs to enter into a contract with both parties
warranting the quality of testing. Many testers would, however, limit
their liability to the use of reasonable skill and care rather than guar-
anteeing that the testing will be correct.
Most contracts will contain a power for the engineer to order the
removal of defective work, but a difficulty arises where there are
numerous problems and rectification work is continually unsatisfac-
tory. There is a risk that a contractor (or a subcontractor) will not be
able to produce the required standard or that to do so will take so
long as to cause unacceptable delays, including delays to follow-on
trades. Clients should ensure that the contract contains procedures
which will enable a contractor to be removed from the project in this
situation and/or for the relevant work to be carried out by others.
Procedures of this type should be used carefully and a client
should be certain that there is enough evidence to justify the action
taken in the event that there is a dispute. This is particularly impor-
tant where the dispute turns on the interpretation of the specifica-
tion. In some contracts there is a right for the client to terminate ‘for
convenience’, in other words, without relying on some default on
the part of the contractor. The consequences of this method of
removing a contractor (for example, the payment terms) are usually
more generous than those relating to removal in a situation where
the contractor is in default. However, these provisions may prove to
be cheaper for the client than the payments due where a termina-
tion for default has been successfully challenged by the contractor.
A subject of recent interest in English law has been the extent to
which a client can enforce the specification. Suppose a swimming
pool is constructed slightly shallower than required by the specifi-
cation. This may only amount to a few centimetres but the cost of
rectifying it may be as much as the swimming pool cost to construct
in the first place. This scenario was heard in the English courts in
the case of Ruxley v. Forsyth, where the client contended that the
contractor had failed to construct what he had agreed. The court
decided that it would be unreasonable to require the contractor to
carry out the rectification work (i.e. to reconstruct the swimming

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pool to the required depth) and that a payment of damages for

diminution in value of the swimming pool was the appropriate
remedy. The measure of damages was relatively minor – after all,
does it really matter that a swimming pool is few centimetres shal-
lower than required by the contract? This has potential conse-
quences for the enforcement of specifications in many instances,
especially where it is argued by the contractor that the works have
been ‘over-engineered’. To design in such a way may be the delib-
erate policy of the client. The lesson to be learned is to focus on
and provide procedures for inspection, testing, quality control and
rectification of defects at the time of construction (when, in theory
at least, repairs ought to be less expensive to carry out) rather than
after the event.
If variations are unavoidable, a system of pre-pricing can be
useful, particularly if it includes an agreed entitlement to extensions
of time and payment for delay and disruption. However, it should
be borne in mind that the pre-pricing process does not match a
competitive tender and will not always ensure value for money. It is
suggested that the client should have the right to order the variation
on an ‘actual cost’ basis by reference to a valuation system in
the event that the ‘pre-price’ cannot be agreed. Alternatively, if
certainty is required, the pre-pricing could be delegated to an inde-
pendent third party (to be completed prior to the instruction being
given, if appropriate) in the case of failure to agree.

Delay
Delay is another risk often uppermost in the client’s consideration.
Traditionally, the threat of liquidated damages has been considered
sufficient ‘incentive’ for a contractor to finish on time. However, the
causes of delay are commonly a matter of dispute, which is often
only resolved after completion. During the project, the contractor
has a dilemma as to whether to institute accelerative measures in the
absence of an instruction to do so from the client. If, at the end of
the project, it is finally decided that the delay was principally the
fault of the client or the engineer, it is by no means clear in many
contracts (and in some countries even less clear under the general
law) whether the costs of such measures are a legitimate claim
against the client. On the other hand, if it is decided that the delay
was the responsibility of the contractor (and there is therefore no
entitlement to an extension of time), it may have been cheaper
for the contractor to accelerate the works than to pay liquidated
damages. Of course, most delayed projects are delayed by a number
of causes, with fault on both sides, and this makes the position even
more complex.

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If time is critical, then clients should consider acceleration

procedures which go beyond the usual (and often rather vague
and limited) powers contained in standard forms. In some projects
it might be possible to agree in advance what acceleration
measures might be available in the case of delay (regardless of who
is responsible for the delay). This might include overtime working
or double shifts, the bringing onto site of extra plant or resources
or a change in working methods. The client could have a power to
order the implementation of such measures (with special payment
arrangements), with the cost being met by the party responsible
for the delay once such responsibility has been ascertained. In this
way, the contract focuses on solving the problem at the time rather
than being used as a vehicle for obtaining compensation after the
event.
Liquidated damages for delay can be problematic if it is difficult
to make a genuine pre-estimate of the loss that would be suffered by
the client in the case of late completion. Damages which exceed
such an amount – typically those designed to ‘incentivise’ the con-
tractor rather than to compensate the client – are likely to be unen-
forceable in English law. In some countries liquidated damages
themselves are unenforceable without proof of equivalent loss.

Insurable risks
Insurance is seen by many as a complex area best left to those who
specialise in it. This attitude can result in a disconnection between
the insurance cover arranged for the project and the risks appor-
tioned by the contract between the parties.
One area of particular interest is the question of subrogation.
This is a process where an insurer can recover money from the
person or organisation who caused the loss which led to the claim.
Take the example of a fire caused by the actions of a subcontractor.
The client instructs remedial work, which is funded by a claim on
the client’s insurance policy. The insurers may in certain circum-
stances be able to recover that money from the subcontractor. This
means that the subcontractor also needs to take out an insurance
policy. In order to avoid this situation, the parties may agree (and
the contract may provide) that the insurance will cover all partici-
pants to the project such that no subrogation will take place. Natu-
rally, this makes the insurance cover more expensive. There have
been problems under some standard-form contracts which left open
the question of whether this arrangement applied even where there
was demonstrable negligence on the part of the subcontractor, and
litigation ensued.

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A further complication of this type of arrangement is the level of

cover obtained. Sometimes a client is only obliged to insure for the
direct cost of the remedial works. However, the consequences of a
fire are not limited to those costs. There might be disruption to
other parts of the project and delays. Who will bear those costs?
Additionally, the client may want to instruct accelerative measures
to mitigate such delays. Who pays for that? Insurance may be avail-
able for such costs and it should be matched with the procedures
and powers set out in the contract.

Constraints
Many of the constraints mentioned above will develop into risks if
they are not definitively resolved prior to letting the contract. Some-
times this is unavoidable if, for example, design work needs to be
carried out for consideration by a regulatory authority before a
consent can be given.

Early warning systems

The use of early warning systems is to be encouraged. This is where a
contractor is obliged to bring to the client’s attention any matter
which could delay or disrupt the project or if there is any claim to be
made. The idea is for the client or the engineer to have the opportu-
nity to deal with the matter before it becomes a major problem.
However, compliance with such clauses is often seen as too
adversarial and there are frequent problems with them not being
complied with. This issue is at the heart of the ‘contract in the
drawer’ viewpoint mentioned above.

Choice of contract
As can be seen from the above, the parties should start by consid-
ering the needs of the project and only then go on to choose or draft
a contract. The three processes set out above should produce clear
objectives against which a choice of contract should be made. There
are a few more points to bear in mind.
A standard-form contract with which participants in the project
are familiar is preferred by most contracting parties. One of the
reasons for this is that the procedures will be known and understood
and may well be adopted to a greater or lesser extent into the
parties’ own internal procedures. Systems that are known and
understood are more likely to be complied with and to be commer-
cially acceptable to the parties.
It is always possible to amend a standard form; however, to do so
can be difficult and is sometimes discouraged by the publisher.
Some forms set out a particular risk allocation (e.g. the right to

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make a claim in respect of unforeseen ground conditions) in more

than one clause. If only one of the clauses is amended, uncertainty
can result. Some standard forms are very complex and full of inter-
linked cross-references which are carried through into standard
subcontracts. If a clause in the main contract is amended, references
to that clause in the prescribed subcontract may become meaning-
less and this will lead to uncertainty.
Many standard forms contain provisions (or lack provisions)
because of the particular features of the projects for which they are
intended. Using a form intended for one type of project in an alto-
gether different type of project can be problematic because of
either inappropriate provisions or the lack of important provisions,
or both.
Bespoke forms take a great deal of time and effort to produce.
They will be unfamiliar to the parties, and their provisions will not
be tried and tested. However, if circumstances dictate, sometimes
they may be the best option.

Summary
This chapter addresses some of the issues that need to be considered
when using contracts in construction projects. Although contracts
can provide a good ‘fall-back remedy’, their first use should be to
manage situations that arise to the benefit of the project.
The views set out in this chapter are in summary form only and are
not intended to be legal advice. Please take detailed advice before
taking any action (or inaction!) in relation to actual projects.

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Procuring the services of a project
manager
P. Spring and S. Wearne

Introduction
This chapter states how a project manager should be selected and
what are suitable terms of appointment. The principles set out apply
whether the project is large or small, and whether the project
manager is an employee of the client or is a consultant hired for a
particular project.

Project management and the project manager

The primary task of project management is to deliver the maximum
value in return for the resources employed. That usually means
delivering a project to an agreed quality, safety, time and cost.
To achieve all this depends upon appointing a person as project
manager who is dedicated to delivering the project. This role can be
a separate job. It can be part of the tasks of someone working on the
project, depending upon the size of the project, its risks and the
competence of everyone, but in all cases the role is crucial through
the planning and control of every project.
It is the role dedicated to the objectives of the project which is
essential. Titles for the role vary. ‘Project director’ is appropriate for
a project vital to an organisation’s future. Weak titles such as ‘pro-
ject coordinator’ or ‘project engineer’ indicate weak intentions.
‘Project manager’ is preferable for most projects, as it acknowledges
that the tasks are managerial and shows the organisation recognises
the value of appointing one person to represent its interests in
achieving a successful project.
Research confirms the authors’ personal experience that success
in the role depends more upon human skills than on expertise in
the content of the project. The project manager needs skills in how
to manage. No one person can be expert in all the range of work
packages for the project. What may be valuable for the project

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manager is experience in the critical or most risky content of the

project so as to be able to foresee problems and know the questions
to ask. ‘What questions to ask’ is the fruit of all experience. It also
establishes credibility in leading the team; engineers, for instance,
prefer leaders who are engineers.

Requirements for project success

Before a client ever thinks about appointing any of its team, it needs
to decide what it is looking to achieve from the project or assign-
ment. Fully understanding and establishing the key success factors
of any project is the most important stage, and that must be the first
step.
The next step is to understand the skills required to deliver those
success factors and, in turn, a successful project. There is no point
in employing resources without fully understanding why they are
required in the first place. This can be achieved by carrying out an
initial SWOT analysis; this in turn will identify the real risks and the
weaknesses in the team. There is nothing more certain than that, in
the real world of project delivery, the weaknesses will reveal them-
selves or come back to plague the project.
Such assessments need to address the soft and hard skills. The
softer skills of personality, age, mental wavelength and social com-
patibility are becoming more and more important. Can this person
get the best out of this situation regardless of their harder technical
skills?
All clients must apply the same means test to themselves because it
is imperative for them to fully understand how knowledgeable they
are and, particularly, to understand their own shortcomings. Are
you an educated client with plenty of experience in your field, is it a
new experience or is it that you are just short of time and resource?
It is very much a gap analysis exercise, because the project
manager should be the client’s greatest ally and friend whilst at the
same time covering for the weaknesses of the team and the client
in particular. The adage of ‘you are only as strong as your weakest
link’ applies equally to managing projects.
Therefore the qualities required are a vital consideration. Experi-
ence shows that the best results come when the project manager is
independent and does not have a dual role. As an example, archi-
tects have found great difficulty in handling multiple roles within
construction projects.
The qualities required are generally ones of leadership, reliability,
authority, integrity, practicality, open-mindedness; the person must
be flexible but decisive in a democratic and supportive way rather

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than by pure dominance. These skills are in addition to the obvious

relevant technical skills.
The first appointment in any project should be that of the project
manager, even if only internally, because that person, in conjunc-
tion with the client, must provide the essential direction, discipline
and drive. It is a common mistake to involve other disciplines first;
this causes difficulties of undermining the authority of the project
manager because a direct link has already been forged between the
client and the early-appointed consultants. A project manager with
experience, enthusiasm and energy for the project is a good starting
point.

Formal appointment
The project manager should be appointed formally so as to be estab-
lished as representing the project sponsor. This is important for
the project sponsor even if the person designated is already an
employee, as the role can require leadership on internal questions
as much as in external relationships.

Terms of appointment
Standard Terms for the Appointment of a Project Manager are published
by the Association for Project Management (1998). The terms are in
two sections. The first section sets out the basic terms of employ-
ment of a project manager. This is not required if the project
manager is already an employee.
The second part of the terms is a job description. It is a schedule
of duties. Alternative schedules of duties are provided. Schedule S
should normally be used, especially for small projects. Schedule C is
for large construction projects. Schedule I is for IT projects, and
Schedule M for manufacturing projects. These alternative schedules
vary only in detail.
The standard terms should be used without alterations or addi-
tions. Alterations and additions to standard terms are a habit in
some UK organisations, despite a lack of evidence that these have
improved the results. Alterations and additions lead to the risk of
making the terms inconsistent or incomplete, and they divert time
and commitment from the project.
Detailed terms published by some public organisations should be
avoided. The task of project management is basically to do or get
done what others are not doing that the project needs. All that
can be forecast should be designed out by the initial attention to
the objective, scope, risks and priorities of the project. Terms of

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reference which attempt to specify all the actions which might be

required of a project manager are so lengthy that there is not time to
read them and also do the job.

Terms of payment and risks

Provisions are made in the Standard Terms for the Appointment of a
Project Manager for payment to the project manager on the basis
of fixed prices, time charges and/or reimbursement of expenses.
Fixed prices and time charges are normally considered to be alter-
native terms of payment, but they can be combined.
Agreement on fixed prices is not recommended before the project
has been defined in sufficient detail to provide a quantitative basis
for estimating the amount of work to be undertaken by the project
manager. Convertible terms of payment may thus be appropriate,
initially based on time charges and changing to fixed prices at a
defined stage of the project.
The terms of payment chosen should be stated when inviting
offers of services from project managers who are not already
employees. The Standard Terms provide for agreed amounts to be
inserted in a fee schedule.
The Standard Terms provide for agreed definitions of the limits to
the project manager’s authority, particularly spending authority,
and requirements for professional indemnity insurance.
These provisions for payment and insurance are of course not
required if the project manager is already an employee.

Pre-qualification
After deciding what is required of the project manager, it is then
necessary to formalise that information and put it in an order that
maximises the chances of selecting the most appropriate party
for the job, whether relating to the individual or the organisation.
The collecting and ordering of those all-important thoughts and
defining processes are essential.
This is normally delivered through a briefing document that
defines the facts about the project and, more importantly, defines
what is expected from the project manager. This document should
be quite detailed in terms of defining the areas of responsibilities
and any particular requirements the client may have. As an example,
it could indicate the requirements or expectations in terms of meet-
ings, reports and essential checks and balances to meet the client
organisation’s needs.
At the same time, it is important to allow your candidates to
express themselves and show how they can contribute to the

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success of the project. The object is to select a project manager

with initiative. Give them the opportunity to demonstrate they
have understood your requirements and the key issues and then go
on to show how they will deliver. This is an important process
because the client will gain from the expertise of all the bidders
rather than just the selected bidder. Pre-qualification is a two-way
street inasmuch as it is also an information and knowledge-gaining
time for the selectors.
Traditional practice in most sectors of business and public
services does not allow bidders to demonstrate their skills, and selec-
tion more often than not is just a function of the lowest price. In
particular, this applies within the public sector, where there is not a
meaningful accountable evaluation of value for money.
How to select the most suitable candidates is always challenging
because, invariably, if there has been insufficient preparation then
the chances of a successful selection are reduced.
The sourcing of suitable candidates is carried out in various ways.
Invariably, the type of project will have been carried out before.
Therefore it is not unreasonable to seek advice from colleagues in
that line of business, perhaps via a trade or professional association.
There are then project-management-specific organisations such as
the Association for Project Management, The Institute of Manage-
ment, The Institute of Directors or the local Chamber of Commerce.
Such organisations bring the essential ingredients of independ-
ence, impartiality and clarity of the requirements.
Depending upon how competitive the industry sector is or how
knowledge-sensitive the project is, then it is sometimes possible to
ask a competitor if they can recommend organisations and learn
from their experience.
Traditionally, the process starts with a long list of, say, six to ten
names if it has not been possible to find a suitable candidate by
chance. Now is the time for doing homework and checking out what
is known about each of them. This can be achieved by an initial
expression-of-interest-type document that is concise by nature. The
objectives of such an exercise are to establish the experience, avail-
ability, suitability and details of the individuals and the organisa-
tions concerned.
From this exercise, a short list is prepared by analytical means. As
an example, there is no point in appointing the most qualified
person if that person is already committed to another project. The
object of this short-listing exercise is to arrive at, say, no more than
five similar candidates who are all capable of doing the job.
Depending upon the importance of the project, it may well be
necessary to interview and take references as part of the short-listing

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process. However, this is tremendously time-consuming and gener-

ally deemed unnecessary prior to short-listing.
The main focus is on selecting the right individuals, but it is
important not to lose sight of the type of organisation also being
selected, particularly in the light of any collateral warranties or
contractual guarantees that may be required to make the project
work. Therefore the period in business, professional standing, size
and status, financial stability, and level of resource can be key
considerations in certain circumstances.

Selection and award

After the short list has been prepared, the respective project
managers are invited to make further submissions in detail, with the
focus being particularly on the needs of the project. Such topics for
the candidates’ consideration are the identification of the key issues
and their proposals for their management and delivery.
This process needs to be undertaken in the knowledge and
receipt of the latest information about the project, including an
update of the brief, the scope of works, performance specifications,
roles and responsibilities, appointment documentation require-
ments, risks, contractual requirements, programme, budget, and
procedural issues. Projects are invariably continually evolving, and
therefore this is a reiterative process with the aim of getting closer to
the objectives at each stage.
Typically a project manager’s presentation and interview lasts for
an hour and a half, with the time being split between the presenta-
tion and time for questions and discussion.
Prior to commencing the interview, it is important to assemble
your interview team. This needs to consist of the stakeholders, with
the odd plant as an independent observer to throw in the ‘curved
ball question’ to check out the candidates’ flexibility and under-
standing rather than their delivering by rote. It is important not to
be caught out by a bidder’s ‘A Team’ who go from interview to inter-
view but are never seen on the project.
Obtaining a buy-in from all the stakeholders is essential, so careful
thought needs to be given to who they are and ensuring that they
participate in the selection interviews.
Preparation is all. It is essential to take time to prepare. Make sure
there is a structured score sheet containing the vital success factors
and key skills requirements. These can be weighted against the key
criteria, after taking time to discuss them and prioritise them in
advance.

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After the interviews the team should follow up immediately, pref-

erably the same day, to score the candidates as a team whilst the
issues and the performances are fresh to the mind. This gives an
initial indication, but unless there is a truly outstanding candidate
or the need to appoint is urgent then do not make a decision there
and then. Take time to think, and most certainly make sure time is
taken to talk to the key references at the earliest opportunity. It is
surprising how one-sided a presentation can be without the recipi-
ents even realising it.
After taking the references on the further short-listed candidates,
revisit the key-criteria schedule and re-mark it in the cold light of
day. A golden rule is that project management is a people business;
invariably, people are more important than organisations.
There is always a personality and character factor. In the real
world, events do go awry. Hence every project has its difficult
moments. This must be kept in mind in the selection process. It is
essential to have the best person alongside when the going is tough
and difficult decisions have got to be made.
Make your selection as quickly as possible without undue haste.
Tell the successful candidate first. Invite the person in immediately
to review and complete the appointment documentation, because it
is again far easier to formalise the arrangement whilst it is fresh,
rather than use a letter of intent or instruction initially and then try
to follow up with the documentation months later.
If there is a concern about inadequate information to complete
the appointment then it is time to be brave and appoint for an
interim period, ensuring that the long-term interests are safe-
guarded. Attention to detail is essential at this stage.
Upon appointment, it is essential to advise the interested parties
immediately and formally by stating the project manager’s role and
responsibilities, output requirements, and authority levels. It is
amazing the number of clients who carry out a selection process and
then do not have the courage to back the appointee. It is essential
to empower the appointee and reinforce him/her to ensure the
maximum chance of success.
The appointment is just the beginning and therefore, just as with
all parties, it is essential to review performance standards on a
regular basis. In the early phases this should take place every three
months, because it is a major failing of projects that performance is
only reviewed after the project has been completed. The review
should be against the measured criteria set down in the appoint-
ment, adjusted to meet the changing demands along the way. The
difficulty is in determining performance criteria that align the
project manager with the client, rather than driving a wedge

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between them. The focus should be on incentive and reward rather

than penalty.

Forward thinking
There is of course a downside to selecting a project manager,
because the sceptics see such an appointment as an opportunity to
take a back seat, with the common perception that it is the project
manager’s job to tell them what to do. Empowerment of all the team
is essential, and keeping a watch in those early days to ensure the
whole team is empowered rather than just the project manager is an
essential act.
The whole object of having the team is to get the most out of all of
the members. The ‘dream team’ is obtained when they are all star
performers rather than one superstar with the rest being just mediocre.
Equally, the project manager is also looking for reassurance. Just
as with any other member of the team, it helps to catch project
managers doing things well and praising them for doing so. On the
converse, if they are missing the point or the target then that must
be brought to their attention promptly in a positive, analytical and
factual manner.
The latest thinking is that perhaps the demands on the project
manager are too much for one person, and it is becoming common
practice to have a project management team consisting of the key
stakeholders, who make joint decisions in the best interests of all
parties and the project.

Completion of the service

The final task of the project manager is to review what went well on
the project, and why, and what were the problems and their remedies.
This closing review is a duty of the professional project manager.

Conclusions
The success of a project depends upon defining its objectives and
priorities, assessing the risks and opportunities, and empowering a
capable project manager to achieve these objectives. Selecting the
project manager should likewise be based on defining the needs of
the job and using clear and workable terms of appointment.

Bibliography
Association for Project Management. Standard Terms for the Appointment
of a Project Manager. APM, High Wycombe, 1998.

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Association for Project Management. Project Management Body of Knowl-

edge. APM, High Wycombe, 2000.
Blackburn, S. The project manager and the project network. Interna-
tional Journal of Project Management, 20(3) (2002), 199–204.
El-Sabaa, S. The skills and career path of an effective project manager.
International Journal of Project Management, 19(1) (2001), 1–7.
Sotiriou, D. and Wittmer, D. Influence methods of project managers:
perceptions of team members and project managers. Project Manage-
ment Journal, 32(3) (2001), 12–20.

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Contract strategy
D. Bower

Introduction
Construction projects go through several stages from conception to
completion, the actual construction phase is only one part of the
overall process. Contract strategy is one of a series of decisions that
are made during the early stages of a project. It is one of the most
important decisions facing the client. The chosen contract strategy
and the allocation of risk, the project management requirements,
the design strategy, and the employment of consultants and contrac-
tors are inextricably linked and therefore the contract strategy has a
major impact on the timescale and ultimate cost of the project.
Because of the diversity of both construction and the client’s
requirements, no single uniform approach to contractual arrange-
ments can be specified or advocated. A number of alternative strate-
gies are available to the client and each contract should be
formulated with the specific job in mind. This chapter describes the
role of the client in developing the contract strategy and describes
the main procurement routes available.

The contracting environment

The construction project is often the result of additional demand, a
need for replacement of certain facilities or the identification of an
opportunity by a client who subsequently becomes the owner of the
finished product; some projects extend to repair and maintenance.
The client prepares the project brief, which sets out the project
objectives and other basic requirements. Having set out a general
idea of what is required, the client then consults a design team
(sometimes, the design team is directly employed by the client),
which develops an outline design of the required facility. The team
may also be responsible for carrying out estimation of project costs.
These would, however, be subject to the client’s approval. More
often than not, architects have led the design team, which may
include quantity surveyors, structural engineers and services

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engineers. Civil engineers would often lead the team for civil engi-
neering construction projects.
Once the outline design and the budget are approved by the
client, the design team is ready to carry out a detail design and
prepare detailed drawings and specifications. The design and speci-
fications often go through several changes and modifications.
The team also prepares tender documents that set out what the
contractor is required to do, with penalties imposed for failing to
deliver.
A number of contractors and, in turn, their suppliers are invited
to bid for the construction works against the drawings and specifica-
tions, traditionally on the basis of a bill of quantities. This is often
prepared by a quantity surveyor and it contains fairly complete spec-
ifications of the required work, as well as a schedule of rates for the
works. Thus construction companies often prepare tender bids
from inadequately detailed information. In most construction
projects, this is the first time – the tendering phase – that the
contractor is brought into the project.
In many traditional cases, especially in public works, the lowest
complying bidder ultimately becomes the successful builder
selected for the works. There is a tacit understanding that this situa-
tion prevails because of ‘public’ accountability. Knowing that selec-
tion is on a lowest-price basis and that changes during construction
are inevitable, contractors and suppliers initially bid below cost to
win the contract, but then they find it easy to raise the price because
of the changes to specifications during the works. Once a builder’s
bid price is accepted, then that company is formally contracted to
undertake the construction work as main contractor.
The successful construction company then plans out the con-
struction works, which involves selecting a site team, establishing a
detailed works programme and resource schedule, placing orders
for materials and equipment, and arranging subcontracts with
specialist companies. The planning is usually carried out by an
office-based team of planners, buyers, surveyors and engineers.
There is very little involvement of site workers in the planning
process, and that is so even at a later stage when works have actually
begun on site. However, on site, it is often the site workers who take
full responsibility for the management of the works in accordance
with the project plan, liasing with head office staff and members of
the design team as deemed appropriate.
During construction, the main function of the main contractor is
often to control the costs of its suppliers in order to maximise its
own profit. Some of the parties within the construction process,
particularly most suppliers and some subcontractors, are hardly

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‘remembered’ on completion of the works. But generally, once the

works are finished, the site team is often dissolved and a new team is
established on a new project.
Designing and constructing or rehabilitating a facility is rarely
straightforward. It is subject to a series of risks and uncertainties
and involves a number of organisations specially assembled for the
project. The way in which the client, the project manager and the
various designers, contractors and suppliers work together as a team
is determined by the form of contract entered into between the
project participants and the client. The contract arrangements
should be in accordance with the objectives of the project and should
enable the risks to be controlled to achieve a successful outcome.

The role of the client

The ultimate responsibility for the management of a project lies
squarely with the client; consequently, any project organisation
structure should ensure that this ultimate responsibility can be
effected. This is not to say that the client must be involved in the
detailed project management but it does mean that the machinery
must be in place for him to make critical decisions affecting his
investment promptly whenever they become necessary.
The temporary nature of the project team and the need to define
and achieve specific objectives against a demanding timescale,
together with the high level of risk and expenditure encountered on
many projects, will demand a positive style of project management.
The project manager must ensure that the client organisation
supports the project team with direction, decision and drive and
that it regularly reviews both objectives and performance.

The project manager

Projects that are technically complex or large in value will normally
justify the appointment by the client of an individual or team whose
sole task is that of project management. To be most effective, this
appointment should be made early in the process, as soon as the
proposed project receives serious consideration. The individual or
group should thus become responsible for overall control of the
project from its inception through to final commissioning. When-
ever possible, the project manager should be an appropriately quali-
fied professional or professionals, experienced in the type of project,
and able to assume overall responsibility for a full range of necessary
tasks. The approach will be most effective if there is continuity of
service from inception to completion.
The role of the project manager is to control the evolution and
execution of the project on behalf of the client and will therefore

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require a degree of executive authority if the coordination of activi-

ties is to be effective and progress maintained. Ideally, the project
manager should be involved in the determination of the project
objectives and subsequently in the evaluation of the contract strategy.

Project objectives
Construction projects are often complex with potential for cost and
time overruns or the finished facility performing less well than
planned. To minimise such risks, the client should select the contract
strategy that matches the objectives of the project. These must be
clearly established and prioritised before any design or other work
begins.
The client must decide the relative importance of the three main
objectives – time, cost and performance – of the completed project:
• Time – earlier completion can be achieved if construction is
started before the design is finished. The greater the overlap
between the two, the less time will be required to complete the
project, but the amount of variation is likely to increase.
• Cost – with the exception of certain ‘design and build’ contract
strategies, a final construction contract sum cannot be estab-
lished with any degree of confidence until the design is com-
plete. Any overlap between design and construction means that
construction starts before the cost is fixed, increasing the uncer-
tainty over cost.
• Performance – the quality and performance characteristics required
from the completed facility determine both project time and
cost. Some strategies reduce the clients’ ability to control and
make changes to the detailed specification after the contracts
have been let. Performance includes the function of the facility,
and its quality, appearance and durability, together with reli-
ability and efficiency of operation.
The relative importance of each objective must be given careful
consideration because decisions throughout the project will be
based on balances between the other objectives. In a well-managed
project the three objectives of time, performance and cost should be
in constant tension. Usually an improvement in one can only be
achieved at the cost of another. Too many projects, in both public
and private sectors, overrun on time or cost, or underrun on perfor-
mance because the manager does not keep all three objectives
constantly in view. Clearly, if tight targets are set for all three objec-
tives, the likelihood of meeting them all is small. Appropriate
contingencies, in terms of tolerances in the specification, float in

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the programme and/or allowances in the budget, should therefore

be allocated.
The impact of other secondary objectives should be minimised,
as they frequently conflict with the primary objectives. Secondary
objectives might include client involvement in management, gener-
ation of employment, early involvement of the contractor, use of
capital and an early knowledge of actual cost. On overseas contracts
they may also include the overlap of design with construction, the
incorporation of appropriate technology and the provision, mainte-
nance and disposal of plant. Once the project objectives have been
set they must be communicated to all parties and, most importantly,
adhered to.

The options for project organisation

The interrelationship of the basic requirements of contract strategy
to balance flexibility, risk allocation and incentive with the type of
contract is described below:
• Incentive – the aim is to provide an adequate incentive for effi-
cient performance from the contractor. This must be reflected
by an incentive for the client to provide appropriate informa-
tion and support in a timely manner.
• Flexibility – the aim is to provide the client with sufficient flexibil-
ity to introduce change that can be anticipated but not defined
at the tender stage. An important and related requirement is
that the contract should provide for systematic and equitable
evaluation of such changes. The introduction of changes must
always be strictly controlled and limited to those that are essen-
tial for the safety and functioning of the facility.
• Risk sharing – the aim should be to allocate all risk between
client and contractor in a realistic and equitable manner. This
must take account of the management and control of the effects
of risks that materialise. The contractor will include a risk con-
tingency sum in its tender as protection against the risks it has
been asked to carry. This contingency is hidden in the tender
prices and is frequently inadequate if the lowest bid is accepted;
this may consequently give problems if the risks materialise.
It is apparent that, generally, contractor’s incentive and client’s
flexibility tend to be incompatible. For example, a lump sum
contract imposes maximum incentive on the contractor but also
implies a very high level of constraint on the client against intro-
ducing change. The converse is true at the other extreme of a
cost-reimbursable plus percentage fee contract.

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Client

Designer Contractor

Subcontractor

Figure 5.1. Traditional organisational structure

Organisational structure
A variety of organisational structures are available; in practice, some
organisational structures are closely linked with a particular type
of contract, for example the traditional approach with the
admeasurement contract. As this is not always the case, it is prefer-
able to consider the decision on organisational structure as separate
from, but interrelated with, the decision on the type of contract.
Every time an interface is introduced into the project organisa-
tion the management effort required to deliver a successful project
is increased, as is the risk of failure. The aim should be to minimise
the number of interfaces between the different organisations. The
organisational structure must define communication and contrac-
tual links.

Traditional
The traditional civil engineering contract is based on the separation
of design and construction, as shown in Figure 5.1. The scope
for involvement of the client in management and construction is
limited, as is the contractor’s input to the design of the permanent
works.
The client, usually after carrying out a feasibility study, appoints a
consulting engineer to undertake the detailed design, preparation
of tender documents and site supervision duties. This appointment
may be based on fee competition.
The client then appoints a contractor, usually through a competi-
tive tendering process, to organise a detailed works programme and
carry out the works. Ideally, the design is completed before
the construction works start but, practically, there is some level of
overlap. The leader of the team of consultants undertakes the super-
vision duties.
This approach features the division of responsibilities between
the designer and the constructor. Apart from being time-
consuming – the design finishing before the construction starts –
the client is not able to take full advantage of the contractor’s capa-
bilities and experience for use in the design development. In other
words, there is virtually no input into design by the contractor. This

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may lead to problems with buildability, that is, the ease with which
the designed facility is constructed. Although the client has a rela-
tively high level of certainty of construction cost, and does not make
a commitment to the whole works at an early stage, changes in
design during construction may potentially cause an increase in cost
and may result in adversarialism.

Direct labour
In this case the ‘contractor’ undertaking the works consists of
employees of the client’s organisation. In developing countries they
are usually employees of the government. This organisation may
also have staff with sufficient expertise to undertake the design of
the works. If there is no design expertise a consultant is appointed to
undertake the design, but usually not to supervise the works, on the
basis of a fee contract.
This type of organisation is suitable for repetitive and intermittent
construction works or where no specialist knowledge would be
needed, for example minor reconstruction works on roads and
bridges. It may be combined with other systems, particularly if work
has been let in small packages.

Management contracting
The management system of procuring construction works has often
been used for large works projects that require specialist services of
several different types from trades contractors. The client appoints
designers and a separate management contractor, who is paid for
managing the construction works. The contractor is not expected to
carry out any construction work. The works are normally packaged
and let separately to works contractors of different disciplines, any
number of packages can be in progress at any time, and so the
contractor is expected to manage both the construction process and
the package contractors. The design can also be the management
contractor’s responsibility.
This management procurement approach sees an early appoint-
ment of the management contractor to work alongside the design
team and to develop a programme for the construction, design and

Client

Designer Management contractor

Trade contractors

Figure 5.2. Management contracting

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Client

Contractor

Subcontractor

Figure 5.3. Design and build

tender documents. Thus, there is an opportunity for the contractor

to bring skills to related to construction and buildability during the
design development.
There are two common variations of the management system
approach – management contracting, as shown in Figure 5.2, and
construction management. In management contracting, the works
package contractors are subcontracted to the management con-
tractor, who manages and supervises them and arranges for their
payment. In other words, the client is not privy to these agreements.
In construction management, however, the package contractors are
contracted directly to the client and the contractor only manages
their works.
This type of organisation promotes teamwork and efficient use of
resources through improved planning, but it is important to limit
the overlap, in terms of supervision and monitoring, between the
management contractor and the designer.

Design and build

This is a single-source approach in the sense that, generally, the
eventual contractor takes on single-point responsibility to develop
the entire design and deliver the works according to the client’s
requirements; see Figure 5.3. The client may appoint an inde-
pendent advisor to monitor quality and cost, but generally the client
has only a single point of contact.
There are, however, variations in the design and build approach.
The develop and construct approach is one, where the client has
the design prepared to concept or scheme design stage and the
contractor takes on the finishing of the design and then the con-
struction. Also, there is the package deal, where the contractor
provides an off-the-shelf building.
The design and build approach is characterised by an overlap of
design and construction, and any changes in design can have adverse
cost implications on the works. The client also commits to both the
design and the works at an early stage rather than the more gradual
commitment associated with the traditional approach. Thus, any
decision to abandon the works due to unforeseen conditions may

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have both cost and relationship problems. However, this approach

offers minimal fragmentation and diverging interest, which can
limit conflict to a manageable level.
The design and build approach is traditionally used for more
straightforward buildings. But for developments with day-to-day
operational requirements of very minimal disruption such as
airport operations, this approach could cause a divorce between the
contractor and the business operational requirements. In other
words, the client may not be able to have the high degree of team
integration and control that it needs, and the approach may there-
fore not be suitable.
This type of contract is preferred when the client organisation
does not have the expertise or resources to undertake the works.
The number of contractors capable of carrying out turnkey contracts
will be limited, which will shorten the pre-qualification stage.
The evaluation of these bids is often more difficult because of the
non-identical bids received. Bids are submitted in two parts, one
containing the bid price and financial aspects and one containing
the proposed design and technical specification. These bids have to
make it clear exactly what the client will get for its money. The bids
will initially be compared on technical merit and rated before finan-
cial evaluation. The financial evaluation on capital expenditure and
running costs is then executed and rated. If further evaluation is
required other parameters such as construction duration, process
criteria and appropriate technology are assessed. Since no standard
method of evaluation is available, the assessment is based upon a
balance of objective and subjective criteria.
In this case the project manager must ensure that a detailed speci-
fication is produced and agreed by the client prior to tender. It
should be noted that there is no subsequent opportunity for the
client to change its requirements. The project manager must also
take responsibility for checking compliance with the specification
before certifying payments.

Framework agreements
As clients recognise the value of long-term arrangements framework
agreements are becoming increasingly popular. A framework in
itself gives no work to the contractor and may be non-exclusive. It is
a long-term commitment between the parties to enable clients to
place contracts on pre-agreed terms, specifications, rates, prices and
mark-up that are embedded in the framework to cover a certain type
of work over a period of time or in a certain location, or both.
The contractor makes staff, designers and construction resources
available to undertake these contract packages as they are awarded

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and ensures their completion within agreed standards and time-

scales. This is explored in detail in Chapter 11.

Partnering and alliances

The Reading Construction Forum, in Trusting the Team (Bennett
and Jayes, 1995), defines partnering as follows:

Partnering is a managerial approach used by two or more organisa-

tions to achieve specific business objectives by maximising the effec-
tiveness of each participant’s resources. The approach is based on
mutual objectives, an agreed method of problem resolution, and an
active search for continuous measurable improvements.

This definition focuses on the key elements that feature promi-

nently in partnering, irrespective of the form it takes, namely
mutual objectives, an agreed method of problem resolution and
continuous measurable improvements. Over the years the tradi-
tional construction relationship has lacked any degree of objective
alignment, and provides for no improvement in work processes.
Parties enter the project focused on achieving their objectives and
maximising their profit margins, with little or no regard for the
impacts on others. This mindset leads to conflict, litigation and
often a disastrous project. The characteristics of such a competitive
environment include objectives which lack commonality and actu-
ally conflict, and success coming at the expense of others (a win or
lose mentality) and have a short-term focus.
Depending on the nature of the work being undertaken, part-
nering can be categorised into two different groups:
• Strategic alliances (also known as term partnering) – for a period
of time rather than a single project.
• Project alliances (also known as project-specific partnering) –
arrangements for the duration of an individual project; the con-
tract can be awarded competitively.

As well as these, there is also a variation of the latter which is

commonly used within the public sector:
• Post-award project-specific partnering – here the contract is subject
to the normal competitive process. As the name suggests, the
partnering arrangement is entered into after the contract has
been awarded. However, the intent to partner should be a crite-
rion of the award process.

Partnering is fully described in Chapter 7. Alliance contracting is

described in Chapter 8.

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Payment mechanisms
Types of contract strategy are often classified by their payment
system:
• Price based – fixed price and admeasurement. Prices or rates are
submitted by the contractor in the tender. The client has no
knowledge of the actual costs incurred.
• Cost based – cost-reimbursable and target cost. The actual costs
incurred by the contractor are reimbursed, together with a fee
for overheads and profit.

Fixed price
This is based on a single tendered price for the whole works.
Payment may be staged at intervals of time or related to achieved
milestones. The implications are that the complete, final design is
available at tender or the contractor is to undertake the detailed
design and that minimal changes or variations are expected. Under
this system, the client places all or most of the risk with the con-
tractor; it is therefore preferable that the risk is low or quantifiable,
otherwise the client will pay a high risk premium. This leads to a
high degree of certainty as to final cost, easy contract administration
and little demand on the client’s administrative resources.
This payment mechanism is usually teamed with ‘turnkey’ or
‘design–build’, the design being evolved by the contractor. It is
therefore more likely to be suited to the contractor’s own organisa-
tion and construction method, leading to savings in time and money.

Admeasurement
This is based on bills of quantities or schedules of rates, in which
items of work are specified with quantities. Contractors tender unit
rates or prices against each item. Payment is usually monthly and is
derived from measuring quantities of completed work and valuing it
at rates in the tender, or new rates negotiated from tendered rates if
there has been a change.
Mechanisms are provided for adjusting both price and time in the
likely event of change. This facility to introduce limited variation is
frequently abused, as design may be only partially complete at
tender. Extensive change and delay will generate claims, and the
final price is invariably different from the tender total. The price will
include an allowance for any financing required by the contractor
and a risk contingency.
It should be used when design is complete but changes in quantity
are expected, when little or no change to programme is envisaged
and when the level of risk is low and quantifiable.

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Cost-reimbursable
This is based on payment of the actual cost incurred by the contractor
plus a fee specified for overheads and profit. The contractor’s cost
accounts are open to audit by the client (open book accounting).
Payments may be monthly in advance, in arrears or from an imprest
account.
Cost-reimbursable contracts are normally used when the client
wishes to employ a contractor at an early stage of a project definition
and design, or when there are major risks associated with the contract
and/or access is severely restricted or likely to be disrupted by
uncontrollable events. It is also useful when the work is innovative
and productivities are unknown. There is little contractual incentive
for the contractor to perform, and the final price will depend upon
the extent to which risks materialise and on the efficiency of the
contractor. Here, there must be positive cost control from all parties.
The client carries the risk and will therefore require to participate in
contract management.

Target cost
This is based on the setting of a probable (or target) cost for the
work. The target cost will subsequently be adjusted for major changes
in the work and cost inflation. The contractor’s actual costs are
monitored and reimbursed as in a cost-reimbursable contract. Any
difference between actual cost and target cost is shared in a speci-
fied way between the client and contractor. There is a specified fee
for overheads and profit. Difficulties can arise in agreeing when the
target cost should be adjusted. Tender competition is improved.
There can be problems in the timing of the supply of design infor-
mation if the consultant does not have the same incentive as the
contractor.
Target cost contracts have been successful in achieving a high
degree of collaboration between the parties. They are most suitable
for high-risk contracts where the work content is well defined, when
the work is technically complex, when design input from the con-
tractor or design flexibility is desirable and when the client wishes
there to be some degree of training or development of local, skilled
labour. Incentive arrangements are described in detail in Chapter 6.

Conditions of contract
Model forms of General Conditions of Contract have evolved in the
UK to satisfy the different requirements and peculiarities of the
various sections of the construction industry – building, civil engi-
neering, mechanical and electrical plant erection and process plant.
They are published by the relevant professional institutions and

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have gained international repute; their use and well-documented

knowledge of the associated case law facilitate tendering and reduce
the risk of misinterpretation. Each has been revised, and successive
editions have incorporated minor changes to overcome problems
encountered in their use and to reflect changes in both construc-
tion methods and contract management. The wording is precise
and should not be changed without very good cause; amendment,
where necessary, should preferably be by additional clauses.
The General Conditions will prove suitable for the majority of
conventional construction contracts, but the client must satisfy itself
that they are relevant to the particular job. The most common causes
of difficulty and/or conflict arising from their use are a lack of suffi-
cient or precise information at the time of tender and the introduc-
tion of a large amount of variation and change during the course of
the contract. In the first case, it may be preferable to use a form of
General Conditions but to delay tendering until the work is better
defined. Otherwise, and when an excessive amount of change is antic-
ipated and is unavoidable, a cost-reimbursable contract should be
considered; special Conditions of Contract must then be formulated.
The various model forms of General Conditions of Contract are
briefly mentioned below.

The Institution of Civil Engineers Conditions of Contract

The ICE Conditions of Contract are in their seventh edition (1999).
This is an admeasurement contract using a bill of quantities prepared
in accordance with the prescribed standard method of measure-
ment. It is applicable when the design of the permanent works is
prepared by another organisation, such as a consulting engineer,
and where the design is substantially complete. Various clauses limit
the effects of uncertainty and the relatively high commercial risk
that arises from the diversity and nature of civil engineering works.
The Engineer named in the contract is responsible for financial
settlement. ICE Minor Works (2001) is used for low-risk work up to a
value of £250 000, with a variety of types of payment available.
The Institution of Civil Engineers Design and Construct Condi-
tions of Contract (2001) are a fixe- price form of contract where the
contractor undertakes the design to a specification provided by the
client. There is no independent Engineer.

The Engineering and Construction (NEC) Contract Forms

The Engineering and Construction Contract Form, ECC (1995),
has been designed to promote good project management and is
suitable for use for a wide variety of projects both in the UK and
abroad. The language used is plain, present-tense English for ease of

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use, although this has attracted criticism from legal circles. There
are core clauses that form the basis of the contract, with six options
relating to the differing payment mechanisms available. The six
options are: A, activity schedule with lump sum; B, remeasurement
with bill of quantities; C, target set by sums but paid by actual cost; D,
target set by rates and quantities but paid by actual cost; E, cost-reim-
bursable; and F, management contract paid by fee and actual cost.
There is a short form of the contract (for low-value, low-risk
work), a term contract for term maintenance work, a professional
services contract and an adjudicator’s contract.

The Institution of Chemical Engineers Contract Forms

The Institution of Chemical Engineers publishes two popular forms
of Model Conditions for process plants. The Red Book (1995) pays
the contractor on a fixed-price basis and is used for design and
construct projects where the client provides a performance specifi-
cation and the contractor carries out the detailed design. It has a
focus on construction completion, takeover and performance tests
to ensure that the works are acceptable and perform to the pre-
agreed standards. Failing these, damages are applied. In civil engi-
neering, it is most applicable to water and sewage treatment works.
The Green Book (1992) pays the contractor on a cost-reimbursable
basis and has been widely amended to incorporate incentive mecha-
nisms. It has frequently been used for high-risk civil engineering
work, such as tunnelling, because of its risk-sharing and payment
mechanisms. A Minor Works form is also available.

Government contracts
The Government issues GC Works 1 Edition 3 (1990), which has a
lump sum payment mechanism with client design; GC Works 2
Edition 2 (1990); and PSA/1 with Quantities (1994). Although
issued by the government for its own use, they have been adopted by
other organisations for building and civil engineering work.

Institution of Electrical Engineers/Institution of Mechanical Engineers

contracts
General Conditions of Contract Form MF/1 relates to the provision
and erection of manufacturing and process plant, which may extend
to the design and off-site fabrication of vessels or equipment to
be supplied under the contract, erection on site, and testing and
commissioning of the installation. This contract limits the total
amount of variation to 15% of the contract price; any greater varia-
tion requires the consent of the contractor. There is no prescribed
standard form for the schedule of prices referred to in these

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conditions; it is normally brief and simple when compared with the

bills prepared for civil engineering work. The pattern of payment to
the contractor is also very different, due to the importance of the
supply and testing of fabricated units.

JCT contracts
The JCT Standard Forms of Building Contract are widely used for
building construction. JCT 80 is a designer-led contract, the specifi-
cation is not contractual, and the bill of quantities is consequently
an extensive and detailed list of the components of the work. The
expectation of physical uncertainty is considerably less here than in
civil engineering contracts and only those billed items affected
by variation are remeasured. Measurement and valuation are the
responsibility of a quantity surveyor named by the architect in the
contract. MW 80 is a fixed-price contract for simple designer-led
contracts of short duration. The Intermediate Form (ICF 84) is for
use on relatively simple projects (duration less than 12 months)
without complex service installations. It can be used with or without
quantities. There is also a management contract (MC87), a standard
form with contractor design (WCD 81) and a standard form of
prime cost contract (PCC 92).

International contracts
The FIDIC Conditions of Contract are recommended for use where
tenders are invited on an international basis. There is the Red
edition, which comprises general conditions based on the ICE 5th
Edition and Conditions of Particular Application which must be
drafted in detail for each specific contract. There is also a Yellow form
based on MF1 for electrical and mechanical works, and a White form
for professional appointments. The World Bank uses these condi-
tions extensively and has defined a series of amendments.

Summary
This chapter has detailed the role of contract strategy and described
the variety of procurement routes that are available. It has also
provided an overview of some of the more common standard forms
of contract.

Bibliography
Bennett, J. and Jayes, S. Trusting the Team: The Best Practice Guide to Part-
nering in Construction. Centre for Strategic Studies in Construction,
University of Reading, Reading, 1995.

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Smith, N. J. Managing Risk in Construction Projects. Blackwell, Oxford,

1999.
Turner, J. R. The Commercial Project Manager. McGraw-Hill, London,
1995.
Uff, J. and Capper, P. Construction Contract Policy. Centre of Construc-
tion Law and Management, King’s College, London, 1989.

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Incentivisation in construction
contracts
D. Bower and B. Joyce

Introduction
The Latham Report (Latham, 1994) identified the need for the
improvement of project and contract strategies to ensure greater
satisfaction of clients. It suggested the need for ‘basic principles on
which modern contracts can be based as opposed to endlessly
refining existing conditions which will not solve adversarial prob-
lems.’ The European Commission (1994) also identified, as a result
of dissatisfaction of clients, the need for change.
Incentives are used in contracts for two main reasons. One is to
align the objectives of separate parties involved in a contract agree-
ment; the other is to motivate the other party’s behaviour to achieve
the objectives set by the client. A way to set these objectives and to
maintain continuous improvement is to use the tool of bench-
marking and identifying key performance indicators (KPIs). This
issue is addressed first in this chapter, and then the chapter
describes the methodology of incentives, how they can be measured
and where they can be used.

Benchmarking
Lord Simon of Highbury (1998), Minister for Trade and Competitive-
ness in Europe, in a letter to Tom Brock of the Global Benchmarking
Network, wrote, ‘Benchmarking is an important tool in enhancing a
company’s competitiveness. It is only by comparing itself with the
best, that a company can see where and how it needs to improve its
performance.’
Benchmarking is about comparing and measuring your perfor-
mance against others in key business activities, and then using
lessons learned from the best to make targeted improvements. It
involves answering two questions – who is better and why are they
better? – with the aim of using this information to make changes

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that will lead to real improvements. The best performance achieved

in practice is the benchmark.
Benchmarking is the process of continuously comparing and
measuring against an organisation anywhere in the world in order to
gain information that will help your organisation improve its perfor-
mance and competitive position. What makes benchmarking different
from other management techniques is the element of comparison,
particularly with the external environment. However, benchmarking
is more than simple comparison, it is structured, it is ongoing, it
compares itself with best practice and its aim is organisational
improvement through the establishment of achievable goals

Types of benchmarking
Internal
This is a comparison of internal operations such as one office (or
project team) against another within a company. It gives a company
an understanding of its own performance level by identifying best
practice in certain areas and transferring this to others. The reasons
that practice within a company may be different in various sections
may be because of factors such as location, history or the company
being subject to buy-outs and mergers.
Internal benchmarking prepares a company for the process of
external benchmarking in that it provides the data that will be
required and ensures that those who will carry it out understand the
process.

Competitive
This is a comparison against companies operating within the same
business sector for the product, service or function of interest. The
advantage of using this type of benchmarking is that it is specific to
the company and comparisons can easily be found on the same
level. The disadvantage is that the best practice of a competitor is
not necessarily good enough. It may therefore be beneficial to look
outside one’s own industry to seek standards towards which to strive.

Generic
This is a comparison of business functions regardless of the industry
that they belong to. Purchasing and recruitment are two examples
of such functions. The advantages of generic benchmarking are that
it breaks down the conventional barriers to thinking and offers an
opportunity for innovation. As well as this, it broadens the knowl-
edge base and can offer creative and stimulating ideas. A drawback
is the cost in terms of time and money that this process consumes.

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The benefits of benchmarking

To stay competitive, leading organisations regularly compare their
own products, services and business processes against the best from
within or outside their industry – seeking to unearth and implement
best practice from whatever source. Organisations worldwide have
found that there are significant gains to be made from bench-
marking their activities, and that the amount of time and effort
involved is repaid many times over.
Benefits include the facts that benchmarking:
• significantly reduces waste, rework and duplication
• increases awareness of what you do and how well you are doing it
• provides process understanding, leading to a more effective
management
• helps set credible targets
• identifies what to change and why
• removes blinkers and ‘not invented here’ attitudes
• provides external focus
• enables the organisation to learn from outside.
It achieves these benefits by providing:
• a disciplined, realistic approach to assessing and improving the
performance to be expected in critical areas of business
• learning from other companies’ experience, so avoiding ‘rein-
venting the wheel’.

Motivation
Provided that staff are kept informed every step of the way, bench-
marking can be a great motivator. It requires an understanding of
all areas of the business, requiring communication with the ‘sharp
end’. These staff then feel that they are valued and have a direct
input into the benchmarking exercise and hopefully subsequent
improvements.

Benchmarking to set performance targets

A barrier to creation of effective incentive contracts is the difficulty
of establishing aggressive yet achievable targets that spur the con-
tractor to higher levels of performance.
The use of an independent benchmarking consultant is one
method used to establish credible yet challenging targets. A consul-
tant maintains an extensive database of similar projects within the
same industry to refer to. Using this information and results of
similar projects conducted recently by the owner, the consultant can
develop an estimate of what would constitute average contractor

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performance along with world-class contractor performance in the

areas of cost, time, safety and other such identifiable quantities.
These targets then become the basis for an incentivised contract.
A potential variation of the benchmarking process for incentive
targets is to focus on functions that are specific to engineering and
construction. While it is difficult to find a sufficiently large sample of
similar projects that set end-of-project targets for cost and schedule,
it should be easier to identify world-class performance for discrete
tasks in order that improvement tasks may be set at a lower level. An
example could be linking the amount of time required to bid, eval-
uate, and place an order for bulk materials to a financial incentive.
Benchmarking can be an effective tool for establishing incentive
targets when comparable projects or functions of projects are avail-
able to review.

Key performance indicators (KPIs)

A KPI is the measure of performance associated with an activity or
process critical to the success of an organisation. The information
provided by a KPI can be used to determine how an organisation
compares with the benchmark, and is therefore a key component in
an organisation’s move towards best practice.
Companies and project teams need to objectively compare and
benchmark their practices and performance, so that they can iden-
tify areas of improvement and thereby implement changes that lead
to performance improvements. The purpose of a KPI is to provide
an objective performance measure in a key activity associated with a
company or project, which can be used (if the appropriate data
exist) to compare and benchmark against the range of performance
currently being achieved across other projects, companies or the
rest of the industry.
Today, the definition of success is measured in terms of primary
and secondary factors such as:
• Primary factors: on time; within cost; at the desired quality.
• Secondary factors: accepted by the customer; customer allows a
company to use the customer’s name as a reference.
It should be recognised that quality is defined by the customer,
not by the contractor. The same holds true for project success.
There must be customer acceptance; a project can be completed
within time, within cost and within quality limits, and yet may not be
accepted by the customer.
KPIs measure the quality of the process used to achieve the end
results. KPIs are internal measures and can be reviewed on a peri-
odic basis throughout the life cycle of a project.

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The Construction Best Practice Programme (2002) states that its

ten KPIs for 2000 were:
• Project performance:
– client satisfaction – product
– client satisfaction – service
– defects
– predictability – cost
– predictability – time
– construction cost
– construction time.
• Company performance:
– safety
– profitability
– productivity.

Incentivisation in construction contracts

Incentivisation is defined (HM Treasury, 1991) as
A process by which a provider is motivated to achieve extra ‘value
added’ services over those specified originally and which are of
material benefit to the user. These should be assessable against
pre-defined criteria. The process should benefit both parties.
Using an incentive should be considered in any contract but will
be likely to be more relevant to contracts of sufficient scope and size
to justify the investment in applying the technique; where the antici-
pated benefits are assessed as being significant; and where, without
incentivisation, improvements in performance and value for money
would be unlikely to take place at a rate to match the business need.
A basic building block in the study of economic organisations is
that individuals and firms do only what they perceive to be in their
self-interests. Further, parties are assumed to be amoral in that
manoeuvring, taking shortcuts, breaking agreements and taking any
actions that offer personal gain are expected. This leads to useful
predictions that often hold up even if the assumption is relaxed.
Company incentive plans appear designed so that individual
employees find it in their best interests to advance the company’s
goals, in spite of the fact that many employees would not stray the
instant the incentives were removed. It is analytically useful to
assume that the parties to the construction contract will focus purely
on advancing their own interests. This leads more quickly to effec-
tive contracting strategies.
This assumption does not eliminate seemingly unselfish behav-
iour. This model is not necessarily made worthless by agreements

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being honoured, one’s word being kept and more being done than
is required by the contract. The notion of self-interests is broad, and
when loss of reputation results in loss of business, this can be
included within this area. A seller that values repeat business with
satisfied clients has a long-term incentive not to take short-term
gains at the expense of the customer and to the detriment of the
seller/customer relationship. As an example, if the reputation of
the company is at stake, a contractor may accept responsibility for
faults outside of its control in order to maintain this reputation and
so not to jeopardise future work with the owner.
The assumption of such self-interested behaviour relates to the
conduct both of the owner and of the contractor because of their
conflicting objectives. The owner will typically desire to obtain
maximum quality, functionality and capacity at minimum cost. The
contractor must achieve financial targets that will be greater the
smaller the sum spent on resources to meet the scope of work set by
the owner and yet still develop a satisfied client. These objectives are
naturally in conflict.

Requirements of incentivisation in construction contracts

From a survey of European construction companies (ECI, 1999), it
was found that some participants believed that all construction
contracts must contain an element of incentive and of performance,
otherwise no work would be undertaken. Other participants be-
lieved that it could be useful to subdivide the incentive contract
type into two main categories: incentive contracts and performance
contracts. The two categories of contract were defined as part of the
research in the following ways:
• Incentive-based contract: a form of contract adopted by the client,
which utilises ‘positive incentives’, typically monetary induce-
ments to influence a service provider’s performance, to the
mutual advantage of both parties. Typical performance criteria
to which incentives may be applied include project cost, sched-
ule, safety and quality.
• Performance-based contract: a form of contract which formally
specifies stringent performance criteria for the contracted ser-
vice or facility, above and beyond generally accepted levels of
competence or fitness for purpose. The fulfilment of defined
performance criteria triggers full and final payment, while fail-
ure to meet defined performance criteria is typically associated
with appropriate damages or penalty clauses.

Incentivisation of a contract requires:

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• A clear and precise objective of what is to be achieved, both in

delivering the service and value for money.
• A full understanding of the market and of the suppliers within it.
• Effective contract management by both parties and commit-
ment to the incentives.
• An evaluation of the potential benefits at the procurement plan-
ning stage.
• The creation, by buyers, of the right culture of incentivisation by
sharing their contract strategy with suppliers. Suppliers must
see the process as a positive one, be willing to collaborate on the
performance of the contract and to share information in order
to effect continuous improvement.
• Effective pre-planning of payments (i.e. there is adequate provi-
sion to meet all potential incentive payments).

Incentivisation creates a more proactive, cooperative relationship

between the parties of a contract, but this will be realised more
readily only when the contract is of sufficient length to make the
advantage apparent, assuming trust still exists between the parties.
The traditional view of incentives is that without an incentive
mechanism system to monitor performance an organisation, and
the people in it, will inevitably become slack and inefficient. There-
fore the time and cost to completion of a project will always be
greater if there is no real objective measurement of performance
and control. The modern behaviouralistic theories of management
and motivation may query this view. However, organisations and the
people in them differ widely and it is essentially true that some
people will always seek an easy life and, if they can get away with it,
will settle down to a low, untrying performance level. Without effec-
tive incentive mechanisms, other people will not know they are not
performing satisfactorily and will thus not apply the additional
effort they could and would apply if they were aware they were not
performing adequately.

Moral hazard
Owner and contractor objectives are not exactly aligned, and it is
hard for the owner to calculate the quality of the contractor’s
personnel. Opportunistic behaviour by the contractor is possible,
and the onus is placed on the owner to install opposing mechanisms
which make such behaviour less likely.
The potential for such self-interested behaviour after contract
execution is referred to as moral hazard, a term originally generated
in the study of the insurance industry. If the contractor (agent) is
acting on behalf of the owner (principal) and has interests that

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differ from the owner’s, and if some aspects of the contractor’s

performance are not completely specified or observable, then
the possibility of self-interested behaviour by the contractor at
the expense of the owner exists. The nature of the capital-project
process, where large investments are committed in advance of
important performance by others, intensifies the moral-hazard
potential. This can be more significant when the contractor stands
to lose payment for some of the costs and not only the profit element
is at risk.

Benefits of incentives
Incentivisation is a recognised and accepted contractual process
used to achieve desired enhancements in performance over and
above baseline requirements specified in the contract. Incentivised
outcomes should be:
• to the benefit of all partners
• tangible and realistic
• measurable against an identified and agreed contractual baseline
• auditable
• such as to genuinely motivate all partners to take positive action
to achieve improvement.
Some benefits that can be delivered by incentivisation in addition
to those inherent in the base contract include:
• lower cost, faster or more timely delivery of service with no com-
promise on quality
• full understanding of the relationship cost, the quality of service
delivery and the ability to deal more effectively with changes
during the contract
• increased service levels
• greater price stability
• enhanced achievement of the desired outcome
• better utilisation of services
• improved management information
• improved management, control and monitoring of contract
deliverables.
As shown in the ECI (1999) report, incentives, as well as having
strengths, also have weaknesses:
• implementation is difficult – it requires a new approach
• resistance of construction culture to new approaches
• difficulty in designing tactical implementation to match intended
strategic objectives.

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The incentive of maintaining a reputation

Reputations can play a key role in ensuring contract compliance.
Consider the situation of an owner who unfairly assesses a con-
tractor in order to avoid paying incentive bonuses. This can be
avoided by a system of quality enforcement mechanisms. When a
buyer receives a bad unwarranted product, it is money lost. But if
the buyer is convinced that the seller will suffer a substantial loss in
the case of a defective product, the buyer is more likely to go ahead
with the purchase. If cheated, the buyer and other sequentially
informed buyers can impose on the seller a penalty by abstaining
from purchasing the product in the future and by influencing
others to do the same. The harder it is for the buyer to estimate
product quality, the more important reputation is to the purchase
decision, and the more likely the seller is to invest in reputation-
enhancing activities such as advertising and customer service.
Reputations and brand names not only indicate quality, they give
the buyer a means of retaliation if the quality does not meet expec-
tations. In effect, reputation can serve as a bond to ensure
performance.
Similarly, concern over reputation should reduce the likelihood
of a contractor neglecting areas not covered by incentives. Project
results that damage the regard in which a contractor is held by the
owner and others with whom the owner is in contact will result in a
reduction in future work. In effect, a penalty results from bad
performance although not directly from the contract.

The ratchet effect

Often it is difficult to determine appropriate performance levels on
which to base incentives. From the owner’s standpoint, each project
may be unique, with variables such as scope, schedule, constraints
and technical difficulty. The owner may wish to associate average
compensation with average performance, and to tie maximum com
-pensation to aggressive but achievable targets. What constitutes
acceptable performance, and what constitutes outstanding perfor-
mance, is difficult to determine.
There are basically two options that the owner can choose from to
solve this problem. Performance levels can be based on comparisons
with other contractors on similar projects, using the owner’s
previous experience, benchmarking, KPIs or other such informa-
tion sources, alternatively, performance can be based on this con-
tractor’s previous experience on similar work. In long-term relation-
ships or cases of repeat contracts, past performance offers the most
reliable indication of performance.

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Cost incentives
The motivational assumptions embodied in the use of cost incen-
tives owe much to the principles of ‘expectancy theory’, a branch of
learning and motivation theory which emphasises the use of rewards
and punishments as incentives and reinforcers to influence behav-
iour. Another, more familiar way of referring to it is as the ‘carrot
and stick’ approach. This approach is designed with the intention of
‘shaping’ behaviour through the selective application of rewards
and punishments that encourage certain actions and discourage
others. The effects of such processes of positive and negative rein-
forcement are potentially very powerful.
The essential elements of a cost incentive contract are:
• A target cost, which should be the best estimate mutually agreed
by both contracting parties of what the costs will be when the
work is done.
• A target fee, which is the amount of profit payable if the actual
costs equal the target cost.
• The share formula, which describes the way in which any differ-
ences between the actual cost and the target cost are to be dis-
tributed between the contracting parties.

Fixed-price incentive contracts

A fixed-price incentive contract is a fixed-price contract that provides
for adjusting profit and establishing the final contract price by appli-
cation of a formula based on the relationship of the total final nego-
tiated cost to the total target cost. The final price is subject to a price
ceiling, negotiated at the outset.
The essential elements of fixed-price incentive mechanisms are
the target cost, the target fee (which is the sum payable for over-
heads and profit if the actual costs equal the target cost) and the
share formula (which determines how any under- or overrun of
actual costs against the target will be shared). In addition, a range of
mechanisms may be included to indicate the degree of confidence
in the target cost and to impose limits on the price or fee.
A share formula is the most common way of inserting financial
incentives into fixed-price contracts. The share formula gives the
ratio in which the difference between the actual cost and the target
cost is shared between the client and the contractor(s). The formula
can be constant for actual costs above or below the target cost or it
may be in the form of different sharing arrangements above and
below the target cost. Typically the formula is expressed as a ratio
such as 50/50 or 75/25, which shows the percentages of the saving
or excess to be carried by the client and contractor respectively.

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26

24

50/50 share line

22

20

18

16

14
Fee (£)

90/10 share line

12
Target fee Target band
10
90/10 share line
8

6 40/60 share line

4
Minimum fee

2
Target cost Maximum price
0
70 80 90 100 110 120 130 140
Actual cost (£)

Figure 6.1. Illustration of target characteristics. (Note: this diagram does not necessarily
represent a practicable system of incentives, but simply illustrates the meaning of terms.) Source:
Perry and Thompson (1985)

It can be seen from Figure 6.1 that with a share formula of the
order of 50/50 the effect on the profit margin of the contractor can
be dramatic if there is a considerable variation between the actual
cost and the target cost. Therefore this scale of share formula should
only be used if there is a low risk that the actual cost will differ greatly
from the target cost. If this risk is high, then the rate of change can
be reduced by implementing a share formula in the order of 90/10,
as shown by the dot–dashed line in Figure 6.1.
If appropriate, the sharing arrangement may be limited on the
overrun side of the target cost by the use of a guaranteed maximum
price. If the costs rise to that point the contract effectively reverts to
a fixed-price contract. In other words, the share formula becomes
0/100.
A fixed-price incentive contract is appropriate when:

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• a firm-fixed-price contract is not suitable

• the nature of the supplies or services being acquired and other
circumstances of the acquisition are such that the contractor’s
assumption of a degree of cost responsibility will provide a posi-
tive profit incentive for effective cost control and performance;
and
• if the contract also includes incentives on technical perfor-
mance and/or delivery, the performance requirements provide
a reasonable opportunity for the incentives to have a meaning-
ful impact on the contractor’s management of the work.

Cost-reimbursable incentive contracts

Cost-reimbursable incentive contracts include cost-plus-incentive-fee
contracts and cost-plus-award-fee contracts. A cost-plus-incentive-fee
contract is a cost-reimbursement contract that includes provision
for the initially negotiated price to be altered later by a formula
based on the relationship of total allowable costs to total target costs.
A cost-plus-award-fee contract provides for a fee consisting of a base
sum agreed and fixed at inception of the contract and an award sum
that the contractor may earn in whole or in part during employment
and that is sufficient to provide motivation for excellence in areas
such as cost, time and quality.
In a cost-reimbursable contract it is usual for the contractor’s
off-site costs (including overheads and profit) to be paid on a fee
basis, sometimes with profit the subject of a separate fee. The fee
may be assessed as a percentage of actual costs or as a lump sum. A
lump-sum fee constitutes the greater incentive to the contractor and
is to be recommended. If a percentage fee is used, the contractor
may wish a lower limit (in the form of a lump sum) to be imposed
should actual costs fall below a specified minimum figure. If a fixed
fee is used, the contractor may wish for renegotiation based on a
maximum figure for the value of variations and delay.
When the contract is completed, the contractor submits a state-
ment of costs incurred in the performance of the contract. The costs
are audited to determine allowability and questionable charges are
removed. This determines the negotiated cost. The negotiated cost
is then subtracted from the target cost. This number is then multi-
plied by the sharing ratio. If the number is positive, it is added to the
target profit. If it is negative, it is subtracted. The new number, the
final profit, is then added to the negotiated cost to determine the
final price. The final price never exceeds the price ceiling.
An alternative to the share formula as a means of introducing
incentives is to apply a sliding-scale fee to the actual costs and it
should be noted that this is simply an alternative way of describing

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the incentive and is not fundamentally different from a share

formula. Some clients and engineers have considered that a weight-
ed reduction in fee, on certain contracts, was advisable to ensure
that the contractor avoided a ‘loss of capital’ situation. Here, a
minimum fee excluding profit is fixed and the contractor is paid
actual costs plus this minimum fee.

Are cost incentives a success?

Cost incentives may well have a significant influence on productivity
but it is difficult, if not impossible, to identify and measure their
degree of success independently of the other variables. Unfortu-
nately, however, it is the accuracy of assessment which would indi-
cate the validity of the scheme and its suitability for the job to which
it is applied.
In basing pay on performance, however, the client also transfers
risk to the contractor. Contractors may charge a premium to bear
this risk, so the client’s challenge in designing incentives becomes
one of balancing the gain in contractor performance against the
cost of shifting risk to the contractor.
Implementation of incentive mechanisms in construction con-
tracts can meet with many difficulties. To maximise the potential
benefits of such mechanisms, they should be used by companies with
management expertise in the techniques. The variables associated
with design, constructional method, technical difficulty, project
type and work location should be reflected in the relevant targets.
The chance of success associated with the incentive mechanisms will
be greatly reduced if these criteria are not complied with.
The concept of financial incentive schemes dates from the philos-
ophy of ‘rational economic man’, reasoning that people only (or
primarily) work for money. However, theories by Maslow, Herzberg
and others have shown that, above a certain level, money ceases to
be a motivator. It is suggested, therefore, that in addition to finan-
cial incentives, other motivational methods be considered simulta-
neously for increasing employee productivity.
Famously, in the UK, the rail privatisation financial structure
gave Railtrack little incentive to maintain or upgrade the infra-
structure. Most of its income came from train operators, and over
90% of that was fixed, so there was no incentive to invest in expan-
sion to provide more slots. This meant that as passenger demand
grew, there were no more trains to carry the passengers. This
scenario could have been avoided by using a financial incentive to
encourage development. Additionally, penalties imposed by the
government contributed eventually to the downfall of Railtrack
(French-Thornton, 2001).

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The incentive for timely

completion should
exceed this ordinate

C
Total cost

Minimum cost

Desired completion date

Optimum duration

Duration of contract

Figure 6.2. The use of incentives to achieve early completion. Source: Perry and Thompson
(1985)

Time incentives
A form of time target exists in the majority of construction contracts
as a liquidated damages clause, but it is difficult to enforce this when
the work has been subject to variation. Where time is of great impor-
tance, direct penalty or bonus payments can be introduced into any
form of contract to offer either positive or negative incentive, and
these are often linked to key events in the programme. Figure
6.2 shows a typical time-related incentive mechanism (Perry and
Thompson, 1985).
When the client desires completion in a period less than the
optimum contract duration, this implies the provision of additional
resources by the contractor. The natural inclination of a contractor
on a fixed-price contract is to keep resources at the lowest level
commensurate with the minimum-cost/optimum-duration condi-
tion. This suggests that the magnitude of the incentive should
be considerably greater than the cost of providing the additional
resources necessary to achieve the desired completion date. The
application of such incentives in admeasurement contracts is
sometimes confounded by contentious claims for extension of the
contract period due to factors outside the contractor’s control.
The advantage in using a cost-reimbursable contract, when time is
the essence of the client’s requirements, arises from the need for the

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client and contractor to be jointly involved in the early planning

of the work. The client can then assure itself that the resources
employed are adequate and exercise greater control over the flow
of information to the contractor, thus minimising the chance of
disruption. One interesting approach is a rolling bonus offered to a
contractor to meet a sequence of time targets. The bonus increases
in value, accumulating an increment as each target is reached: if
a target is not achieved the bonus offered for the next target
is reduced to the original minimum value. When the contract is
awarded, the total number of targets is agreed and those in the first
few months defined: the remainder are agreed as the job proceeds.
The total bonus can amount to 10 or 15% of the total value of the
contract.

Quality incentives
Bonus payments are made against the achievement of specified
quality standards, such as the quantities of rework performed, or
lack of defects due to poor workmanship. The achievement of
quality standards may be measured by the number of hours lost over
a given period due to time spent rectifying faults. Incentives may be
similarly calculated on a sliding scale, increasing with a decrease in
time lost.
It is generally possible to set targets based on quality only when
the contract includes an operating plant. Performance incentives
are therefore more common in the process plant industry, especially
when the contractor is also responsible for the design.

Safety incentives
Bonus payments are made against the achievement of a specified
safety record, typically measured by the frequency of reported inci-
dents or the associated lost time in working hours. Incentives may be
non-financial, taking the form of awards, prizes or gifts to worthy
causes, such as a charity specified by the workforce.

Incremental or end-of-project payments

Incentive payments can be based on regular assessments that occur
throughout the project or on end-of-project results, each of which
carries its own advantages and disadvantages.
The benefit of continuous assessment and incentive payment is
that it maintains more uniform incentive pressure, provides more
timely performance reinforcement and prevents poor performance

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in one period from eliminating motivating incentive potential in

other periods. Arguments in favour of end-of-project assessment
and award are that end results are what are most important to the
owner; that maximum incentive pressure needs to be applied in the
final, critical periods of a project; and that incremental evaluations
require excessive administrative time.

An incentivisation process
The incentivisation process described here has been developed on
the basis of HM Treasury CUP Guidance No. 58 (HM Treasury,
1991), as it was found to be the clearest example of an incen-
tivisation process and the most detailed. The purpose of the
incentivisation process is to give an idea of the stages of elimination
required in deciding whether and how to install incentive mecha-
nisms into a construction contract. It provides the questions that
need to be answered at each stage in the process and comments on
the problems encountered when answering them.
When considering the questions to be answered regarding the
type of incentive mechanism to use once the incentive criteria have
been decided, the above cost, time and combined cost/time models
should be considered.

Stage 1: initial planning

Step 1: establish justification of incentives
Questions to be answered. Does the size of the project justify the use of
incentive mechanisms? Is there enough time available to create the
incentive mechanisms? Can trust exist between the client and the
contractor?

Comments. The benefits of incentivisation should be such that the

use of incentives can potentially greatly affect the success of the
project. If not, then the use of a standard contract will mean that the
project has a greater chance of success, owing to the investment
of time and capital in the administrative procedure of creating
incentive mechanisms. The scope, size and duration of the project
must justify the investment of additional resources. Because of
the length of time required to create the respective incentive
mechanisms, if a project is urgent then the amount of time available
in which to design incentive mechanisms may not be sufficient.
The aspect of trust between the contractor and the client must be
taken into account when deciding whether to incentivise a contract.
If the two parties have never worked together before, the client
should take more care when deciding whether to use an incentive

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mechanism or not than if a partnering relationship has existed

between them for previous projects.

Step 2: define objectives

Questions to be answered. Does the specification contain output-based
deliverables that can be identified? Are the objectives and the deliv-
erables clear?

Comments. If no clear output-based deliverables can be identified

there is no basis for an incentive mechanism. Likewise, any vagueness
about the objectives will mean that incentive targets will be impossible
to establish and therefore no incentive is possible.

Step 3: verify market stability

Questions to be answered. Is the market stable? Can prices be verified?

Comments. Incentives are only likely to work in a stable market,

owing to their sensitivity to variations in the targets. For this reason it
is necessary to verify the contractor’s capabilities and knowledge
acquired from previous projects and also to verify that prices can be
verified as reasonable from benchmarking or KPI techniques. If the
market is deemed to be unstable or the contractors available have
limited experience in the relevant field, then incentive mechanisms
should not be considered.

Stage 2: setting of baseline data

Step 1: establish direct costs and overheads
Question to be answered. Can stretched performance and cost targets
be identified, quantified and set?

Comments. If incentivisation is still being considered at this stage,

the baseline data for the costs of the project must be set. The client
must establish the direct costs and overheads and the make-up of
the contractor’s costs. Once these costs are established, open book
accounting can be used so that the contractor accepts the basis of
the costs and to ensure that the understanding of any variation to
the costs or schedule is fully comprehended.

Step 2: final evaluation of the need for an incentive

Question to be answered. Is an incentive necessary?

Comments. The final question to answer, when deciding whether to

use an incentive mechanism in a contract or not, is whether the

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improvement of the chosen critical aspect(s) is possible to achieve

without incentivising the contract.

Stage 3: measurement of benefits

Step 1: establish expected benefits to the client
Question to be answered. Can the benefits be expressed in terms of
improvements that the contractor can deliver?

Comments. If the benefits are not measurable or quantifiable there is

no means by which to set a target. This restrains the use of incentive
mechanisms to such areas as cost, time, quality and performance
by means of finite, measurable outcomes. Factors such as public
satisfaction based on the number of complaints during the construction
period cannot be used. This is because of the fact that not all
members of public will know how to make a complaint, and
if the process was made clear then more complaints would be
made, apparently indicating poor performance rather than good
communication techniques.

Step 2: express benefits in terms of improvements to the contractor

Questions to be answered. Will the contractor benefit from the
contract? Are the benefits acceptable to the contractor?

Comments. The fact that the contractor carries a larger amount of

risk if an incentive mechanism is included in a contract means that
the benefits associated with successful target achievement should
outweigh this risk. If not, the contractor may refuse to work under
such conditions. In this case performance targets or the profit
associated with reaching such targets must be altered to the
satisfaction of the contractor.

Stage 4: setting objectives

Step 1: define framework
Questions to be answered. How are the savings/losses shared? How is
the cost measured? What are the targets?

Comments. At this stage, the specification of the target details must

be finalised. Decisions must be made according to the merits of the
respective contract situation.

Step 2: define rules for scheme administration

Questions to be answered. Are clauses included for variations? Is infla-
tion and cost adjustment allowed for in recalculating the target
costs?

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Comments. If targets are not updated, the initial purpose of the

incentive is lost. The contractor must not be penalised for faults in
the work that are not the contractor’s fault. It will be impossible to
make these adjustments totally accurate, as all prices will fluctuate
slightly and the amount of administration involved will outweigh the
benefit.

Stage 5: place contract

Questions to be answered. Does the contractor agree to the proposed
incentives? Does the client have adequate resources available to
manage the contract effectively?

Comments. Once all the details of the incentive mechanism have

been finalised by the client, the contractor must agree to them. The
client must then ensure that it has the required resources to manage
the contract. If not, then extra personnel or other resources must be
acquired before work commences.

Stage 6: evaluate contract

Questions to be answered. Was the contract a success? Did the incen-
tive mechanisms improve performance? What problems were
encountered? Were objectives aligned?

Comments. The success of the contract must be evaluated as part of

an ongoing process so that problems can be quickly identified and
resolved with as little consequence as possible. Once the contract is
complete, a review of the project must be carried out in which the
incentive mechanisms are objectively evaluated so that positive and
negative factors can be identified and improvements can be made in
the future.

Summary
Before deciding to incentivise a contract, it is essential to identify
whether the improvement in quality and/or cost reduction can be
achieved without incentivising the contract.
Incentives can positively impact contractor performance, but the
performance gain must be balanced against the costs of shifting
related risk to the contractor. Clients can broaden their incentive
options by taking actions that increase the level of contractor
control over contractor results, thereby reducing contractor risk.
Assessment of the degree of success of incentive mechanisms is
extremely difficult. It has been shown that on a site where a direct
financial incentive has been applied, increases in output could

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equally well be attributed to operative training, job experience,

good supervision, the implementation of management techniques,
repetition of work tasks or the extent of mechanisation.
Engineering and construction contractors’ performance affects
owner profitability long after project completion. Factors such as
instrument and valve placement for maintenance, durability of spec-
ified finishes, and provision for future utility tie-ins impact the
client’s operation costs for the life of the facility. However, typical
contracts do not tie the contractor’s payment to these factors. This
concept has very limited applicability. A contractor’s influence on
long-term facility profitability is difficult to separate from factors
outside the contractor’s control, such as market conditions. Also,
the delay of cash flow to contractors that would result from linking
the fee to long-term facility performance appears a major obstacle.
Effective long-term incentives based on the contractor’s contribu-
tion to owner success appear to be an opportunity for further
research.
The general principles upon which incentive mechanisms should
be based include the need to ensure that risks and rewards are
commensurably and fairly distributed among the parties concerned
and that they are tailored to specific project objectives.
An important factor in designing incentive mechanisms is to try to
align the separate schedules of designers and contractors with those
of the client. In order for this to occur, the objectives of all parties
involved, especially those of the client, must be clear from the
outset.
Incentive contracts are an attempt to align the interests of the
contractor with those of the owner by basing compensation, to some
degree, on results that are important to the owner. In basing pay
on performance, however, the owner also transfers risk to the
contractor. The output of a contractor is typically a function of
factors within its control (such as level of effort, quality of assigned
personnel, and management attention) and outside its control
(such as weather, supplier problems and the owner’s technology).
The performance variation resulting from outside factors intro-
duces randomness to the contractor’s output, and therefore to its
income. Contractors may charge a premium to bear this risk, so
the owner’s challenge in designing incentives becomes one of
balancing the gain in contractor performance against the added
cost of risk-bearing.
Although incentives can play an important role in making a
project a success, a project’s success is determined by the sum of its
parts and incentives are just a small part in the make-up of a project.
The basic aim of including incentive mechanisms in contracts is to

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use the contractor’s main objective, that of making a profit, to

encourage the contractor to make more money by performing the
contract efficiently and in line with the client’s objectives.
Care must be taken in designing incentive mechanisms for areas
that are a basis of incentive payment. The natural attitude of a
contractor is to concentrate effort where the potential return is
greatest, thus perhaps leaving areas of neglect. A project may be
completed within cost, time and safety targets, meaning the bonus
criteria have been fulfilled, and yet, for example, the contractor
could have triggered an environmental incident that affects neigh-
bours to the construction, causing long-term problems. Incentives
have the potential to distract effort from certain areas.
The responsibility of structuring an effective incentive mecha-
nism in a construction contract lies with the client. The basis for
selecting and designing this mechanism is for the client to consider
its own objectives and experience. Performance areas should be
correlated with key result areas for the owner, and must sufficiently
span the contractor’s performance so that important aspects of
performance are not neglected.
One principle of incentive pay is that the more control the
contractor has over performance areas covered by incentives, the
higher the effectiveness of the incentives in shaping the contractor’s
performance.

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Benchmarking (2002). Website: www.benchmarking.co.uk.
Construction Best Practice Programme (2002). Website: www.cbpp.org.uk.
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London, 1990.
ECI. Study of the Effectiveness of Incentive Strategies. ECI, Loughborough, 1999.
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French-Thornton (2001). Website: www.noflash.french-thornton.co.uk/
press/press_article_jan01.
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Howard, W. E. and Bell, L. C. Innovative Strategies for Contractor Compensa-
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Kopelman, R. E. Linking pay to performance is a proven management
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Effective partnering
D. Bower

Introduction
As early as 1964, the Banwell Report (Banwell, 1964) noted that the
UK construction industry was performing poorly compared with
other countries. This state of affairs had not improved by the early
1990s, when the industry was perceived as being in decline. One of
the contributors to this was the fragmentation of services, leading to
a high proportion of contractual relationships and an increasing
reliance by the industry on litigation procedures as disputes on site
between clients, contractors and subcontractors were dragged into
the courts. The increasing number of contractual disputes has had
the knock-on effect of more and more projects being delayed, and
the overall efficiency of the industry being reduced. There has also
been the problem that the industry has lacked a focus on customer
satisfaction – a trait that seems to be almost unique to the construc-
tion industry.
Since the Banwell Report, there have been a series of government
and industry reports that have attempted to find solutions to this
problem of fragmentation and efficiency. Partnering is the latest
initiative to have come out of this. Partnering, which involves clients
and contractors developing a closer, possibly longer-term working
relationship, has been implemented as a way of increasing efficiency
within the industry, as well as a way of sharing risk.
This chapter examines partnering from its foundation in the
concept of total quality. It then goes on to outline its key features
and the benefits that can be accrued from its adoption. Finally, a
framework for best practice is described.

Total quality management

The concept and application of total quality management (TQM)
has been successfully integrated into manufacturing and service
industries worldwide. It entails a company-wide effort that involves
everyone in the organisation in the effort to improve performance

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and customer satisfaction. It focuses on process improvement,

customer and supplier involvement, teamwork, and training and
education in an effort to achieve customer satisfaction, cost-effec-
tiveness and defect-free work. Continuous improvement is attained
through the application and integration of both human resources
and quantitative methods. There are six basic concepts that are
required for TQM:
1. A commitment by management to provide long-term top-to-
bottom organisational support.
2. An unwavering focus on the customer, both internally and
externally.
3. Effective involvement and utilisation of the entire workforce.
4. Continuous improvement of the business and production process.
5. Treating supplies as partners.
6. Establishing performance measures for the processes.
The concept of TQM has been embraced and worked successfully
in the manufacturing and service industries for various reasons.
Manufacturing-based quality programmes tend to be product
oriented, focusing on changes that improve the manufacturer’s
completed product. Service quality programmes are more process
and personnel oriented because process improvements that result
in better service to customers are the main goal of service quality
management programmes.
The construction industry incorporates elements of both manu-
facturing and service processes, which makes it difficult to stand-
ardise one format or the other for the entire industry. Another
reason for the difficulties in using TQM in construction is that
projects are mostly one-off and unique, meeting a specific time-
frame, and so it is difficult to engender continuous improvement.
The projects are also realised in uncontrolled environments and
involve enormous resources over a relatively short span of time. In
spite of the difficulty in achieving total quality, most construction
organisations have achieved certification. This has been gained
without regard to delays in project delivery, cost overruns and the
frequent low quality of products.
This rush to certification can be explained by the fear of many
construction organisations that without the standard they risk losing
work. The certification has turned out to be a means of guaran-
teeing continuous work rather than providing quality to the client.
An important aspect of the overall change brought about by a TQM
approach is a changed relationship with suppliers. The traditional
approach of construction, which typically organises projects by hier-
archically linked parties (clients, consultants, general contractors,

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subcontractors, suppliers, etc.) possessing different skills and knowl-

edge, results in complex and adversarial relationships, which affect
performance.
It is therefore in the desire to deliver projects within budget, on
time and to acceptable quality (which TQM has not been able to
offer) that project partnering finds its roots. Increased international
competitiveness, enhanced legal concerns, the introduction of new
technologies, and the desired response time to delivery have also
necessitated the need to change the traditional approach to project
delivery and have resulted in the evolution of partnering.

Partnering
Partnering has been widely advocated for the industry in the UK to
rectify the adversarial contractual relationships that have jeopar-
dised the success of many projects (Latham, 1994; Baden Hellard,
1995; Construction Industry Board, 1997; Bennett and Jayes, 1998).
Features of partnering relationships have been seen in various
industries for many years. The partnering style of relationships with
contractors was a feature of some construction projects in Britain
early in the Industrial Revolution (Barnes, 2000). As applied today,
it originates in the philosophies of the Japanese-influenced automo-
bile industry. The defence, aerospace and construction industries
have followed. Its essence is alignment of values and working
practices by all members of the supply chain in order to meet
the customer’s real needs and objectives, though this has been
pursued with different degrees of success and sustaining it is a ques-
tionable objective (Green, 1999). Continuous improvement has
been an important objective, with emphasis not only on cost but
also on quality, lead time, customer service, and health and safety
at work. Incentivising the partnering companies by sharing cost
savings has been a feature of continuous improvement, perfor-
mance -based partnering in many industries, but in construction
this has often been less significant than the primary objective of
avoiding disputes.
The idea of alignment is significantly at odds with traditional
practice in many industries. Procurement in most of the public
sector has historically been based on accepting the lowest-price
bid. Much private construction also traditionally operated on this
basis. It has led to conflicts about paying the actual costs of work,
which revolve around risks and financial self-interest, between the
various stakeholders – such as the clients, design team, consultants,
main contractors, subcontractors and suppliers – throughout the
construction process. As a consequence, the final cost of the project
usually exceeds the contract price and the result is confrontation.

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Partnering represents a philosophy of dispute prevention, con-

flict resolution and equitable risk allocation rather than a legalistic
and confrontational approach. Partnering is an addition to other
good project management practices, long-standing relationships,
negotiated contracts, preferred supplier arrangements and other
forms of team-based supply chain arrangements. Partnering is an
addition to the techniques for dispute management. As shown by
the Movement for Innovation projects, partnering can be applied
to all types of contract arrangements and with any of the indus-
try’s model terms of construction contract, and it can extend to
subcontractors.
The objective is to create a ‘win–win’ culture so that projects are
completed successfully and so recover the confidence of clients in
the industry. Partnering is a process to establish good relationships
at all the interfaces between stakeholders, and their commitment to
the job and each other. Partnering should create trust, teamwork
and cooperation to give early warning of potential problems and
establish effective authority to agree decisions on them. It is critical
throughout a project to remove traditional barriers and perceptions
of unfairness between the parties involved. By changing to a ‘win–
win’ style the parties can reap benefits of cost saving, profit sharing,
quality enhancement and time management. Unifying all the parties
into one team for a project, it also reduces transaction costs.
The intention of partnering is to change the commercial style in
which contracts are managed. It demands a shift from concentra-
tion on ‘hard issues’, such as price and the scope of work, towards
‘softer issues’ that revolve around attitude, culture, commitment
and capability. ‘Successful partnerships manage the relationships,
not just the deal’ (Kanter, 1994). The culture and attitude of its
participants have to be changed to develop a single social network.
Ellison and Millar (1995) defined a four-level approach. From ‘arms-
length adversaries’, the parties move to an environment of trust
and communication, advancing to a ‘partnering/integrated team’
arrangement. The last step in this evolutionary chain is the most
theoretical and difficult to achieve, a ‘synergistic strategic partner-
ship’. Trust is the essential ingredient.
Partnering has been defined in a variety of ways:

Partnering includes the concepts of teamwork between supplier and

client, and of total continuous improvement. It requires openness
between the parties, ready acceptance of new ideas, trust and per-
ceived mutual benefit …. We are confident that partnering can bring
significant benefit by improving quality and timeliness of completion
whilst reducing costs.

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(Sir Michael Latham, Constructing the Team (Latham, 1994), quoting

the Chartered Institute of Purchasing and Supply.)

Partnering is a long-term commitment between two or more organi-

zations for the purpose of achieving specific business objectives by
maximizing the effectiveness of each participant’s resources. This
requires changing traditional relationships to a shared culture with-
out regard to organizational boundaries. The relationship is based
upon trust, dedication to common goals, and an understanding of
each other’s individual expectations and values.

(Construction Industry Institute, 1991.)

The above definitions depict partnering as a generic term and
emphasise that the relationship will cause all to seek win–win solu-
tions, place value in long-term relationships and encourage trust and
openness to be the norms, and that an environment for profit exists.
It is also a view that neither partner should benefit from exploitation
of the other, innovation is encouraged, and each partner is aware of
the other’s needs, concerns and objectives and is interested in
helping its partner achieve them. It creates a team environment to
accomplish a set of goals in much the same way that a sports team
works together to achieve its goals. But perhaps the definition that
provides explicit meaning, which is adopted for this chapter, is that
by the Reading Construction Forum, in Trusting the Team (Bennett
and Jayes, 1995):

Partnering is a managerial approach used by two or more organisa-

tions to achieve specific business objectives by maximising the effec-
tiveness of each participant’s resources. The approach is based on
mutual objectives, an agreed method of problem resolution, and an
active search for continuous measurable improvements.

This definition focuses on the key elements that feature promi-

nently in partnering, irrespective of the form it takes, namely
mutual objectives, an agreed method of problem resolution and
continuous measurable improvements. Over the years the tradi-
tional construction relationship has lacked any degree of objective
alignment, and provides for no improvement in work processes.
Parties enter the project focused on achieving their objectives and
maximising their profit margins, with little or no regard for the
impacts on others. This mindset leads to conflict, litigation and
often a disastrous project. The characteristics of such a competitive
environment includes objectives which lack commonality and actu-
ally conflict, success coming at the expense of others (a win or lose
mentality), and have a short-term focus.

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The partnering process

The key to partnering is that it starts at the outset of a project
(Matthews, 1996). The process is formally established in ‘workshop’
(or ‘kick-off’) sessions between the partnering members so that
everyone has a clear understanding of what the process is and agrees
to use it. As in any collaborative venture, all parties have to get
together pre-construction and invest time into agreeing and under-
standing the objectives, form and operation of a partnering agree-
ment (Wearne and Wright, 1998).
A competitive relationship is maintained by a coercive environ-
ment with little or no continuous improvement. Points of contact
between organisations are mostly single, which does not encourage
good interaction, and culminates in little trust, with no shared risk;
this is primarily a defensive position. Thus a partnering relationship
involves the essential elements of mutual objectiveness, problem
resolution and continuous measured improvement. The Construc-
tion Industry Board (1997), in Partnering in the Team, details these as
being:

• Establishment of agreed and understood mutual objectives: the objec-

tives are agreed and committed to at the outset of the project,
and kept under review through meetings and effective commu-
nications. They require long-term goals – sustained reasonable
profitability rather than a quick killing. They benefit from ‘open
book’ relationships (which also reduce the risk of corruption),
treated with mutual confidentiality, resulting in the partners
working for each others’ success. It works best between busi-
nesses with similar cultures and styles.
• Methodology for quick and cooperative problem resolution: partnering
sets up a systematic approach to problem resolution, seeking
solutions rather than parties to blame; more and better discus-
sion with less paperwork; more constructive correspondence,
based on ‘win–win’ solutions; and equality of rights between
parties. It requires mutual acceptance of the principle that
adversarial attitudes waste time and money.
• Culture of continuous, measured improvement: partnering recom-
mends that there should be specific quantified targets, mea-
sured progress and periodically reviewed performance. It allows
that competition is not the only way to achieve best value
for money but is customer focused, adding value, eliminating
waste, and identifying and aiming for best practice.

It is important to note that partnering by itself does not produce

any value for the client, but requires the full participation and effort

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of all parties involved in achieving the desired goal. It must there-

fore not be misconstrued as:
• A new form of construction contract – it is a procedure for
making relationships work better.
• An excuse for not working hard to get the best from suppliers
and customers.
• A soft option.
• A quick fix for a weak business – strong players make each other
stronger, weak ones destroy each other.
• Only about systems and methods – it is about people, enabling
them to operate more effectively and efficiently.
• A panacea. Partnering will not prevent all problems in every
contract. There may be some issues that must be litigated.
• Mandatory. Partnering is not a contractual requirement. It is a
working relationship and if commitment is not present, it will
not work.

Advantages of partnering
Partnering relationships offer advantages and opportunities specific
to the individual members of the project team as well as the opportu-
nities and advantages shared by each.

Benefits for client

Effective utilisation of personnel resources may be the most impor-
tant benefit to the owner, in terms of both staffing requirements and
available expertise. The client may also benefit from increased flexi-
bility and responsiveness in terms of added skills and resources avail-
able from other parties, from the presence of a diversity of talent not
usually found in a single company, which will improve on delivery,
and from reduced costs associated with contractor or consultant
selection, contract administration, mobilisation, and the learning
curve associated with beginning a project with a new contractor or
consultant.
Other benefits to the client will be the reduced dependence on
legal counsel, the development of a team for future projects and
more control over possible cost overruns.

Benefits for design team

Partnering provides the design team with the opportunity to refine
and develop new skills in a controlled and low-risk way. This occurs
because new methods or approaches may be required to meet
owner project requirements. Through partnering, the design team

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will benefit from the involvement of contractors during budgeting,

development of the team for future projects and optimal use of the
design team’s time.

Benefit for contractor

Although a partnering relationship will not make a specific guar-
antee of workload, partnering implies a clear intent to maintain
an active functional organisation. The long-term, non-adversarial
aspects of partnering mean that revenues may be more stable and
the potential for the claims or litigation process is significantly
reduced. The contractor may also benefit from increased opportu-
nity for value-engineering involvement to provide value for money,
faster decision-making processes, and more effective time and cost
control.
Other benefits will include formation of teams for future projects,
increased opportunity for financially successful projects, reduced
dependence on legal counsel and the possibility of faster payments.

Benefits for the manufacturers and suppliers

As with the other team members, the benefits that manufacturers
and suppliers stand to gain through partnering include approval of
their product recommendation, a voice in the design intent, involve-
ment in the coordination with other project trades and the possi-
bility of repeat business. Other benefits are a better chance for
quality in product installation and increased opportunity for finan-
cially successful projects.

Mutual benefits
Of all the potential benefits resulting from partnering relationships,
perhaps the one that will have the most impact on the construct-
ion industry is improved project quality. An effective partnering
agreement will improve project quality by replacing the potential
adversarial atmosphere of a traditional owner–contractor–consultant
relationship with an atmosphere that will foster a team approach to
achieve a set of common goals.
Within this atmosphere of cooperation and mutual trust, the compa-
nies can jointly determine and evaluate approaches to designing,
engineering and constructing the project. By becoming partners in
the project, team members can work together to achieve the highest
level of quality and safety. The close, team-working relationship
between the parties can provide an environment that encourages
finding new and better ways of doing business. An effective part-
nering relationship will encourage partners to evaluate technology
for its applicability to quality improvement for the project.

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Table 7.1. Different forms of partnering

Forms of Basis of partner

partnering Relationship duration selection Condition for use

Project One-off Competition/ All projects. Best for

negotiation high value
Strategic/full Long-term Competition/ Where good
negotiation business case, part
of medium–
long-term strategy
Post-award One-off Competition Public projects,
including series of
small projects
Preselection One-off/long-term Negotiation Any project.
Advanced selection
of contractors
Coordination One-off/long-term Competition/ Any project.
agreement negotiation Agreement overlaid
on standard
contract
Semi-project One-off Limited All projects where
competition scope of negotiation
is limited
Source: Institution of Civil Engineering Surveyors (1997)

The partnering relationship also encourages the companies to

identify major obstacles to the successful completion of the project
and to develop preventive action plans to overcome those obstacles
before they impact schedule or cost.

Forms of partnering
Partnering can be categorised into the following forms: project
partnering, strategic/full partnering, post-award project part-
nering, preselection arrangement, coordination arrangement and
semi-project partnering. These are shown in Table 7.1, and the key
differences relate to relationship duration, basis of selection and the
most appropriate conditions for application.

Post-award project specific partnering

This type of partnering is used for contracts that undergo the
normal competitive processes but for which the intention to adopt a

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partnering approach throughout the project is declared during the

tendering process. Here the concept of partnering is applied under
the main contract for a particular project. The partnering applica-
tion is detailed as part of the project contract document and both
parties agree to overlay their formal contract with a partnering
arrangement.
Workshops are held at the start of the project for the client team,
the main contractor and any key subcontractors/suppliers to facili-
tate team building, clarify the aims and objectives of the parties,
agree joint objectives for the project, develop processes and proce-
dures for communications and problem resolution, and produce a
partnering charter for the project. The workshops are also held at
key stages of the project and at such times that are deemed necessary.

Generations of partnering
Partnering can take many different forms but the benefits that
derive from these forms are achieved through relationships built up
over many years. In the Reading Construction Forum report The
Seven Pillars of Partnering (Bennet and Jayes, 1998), three distinct
stages (known as generations) can be identified.

First-generation partnering
This type of partnering is formed when a construction business and
its customers enter into a relationship to deliver a single project.
First-generation partnering revolves around three key principles
that apply to project teams. The first principle is that mutual objec-
tives should be agreed to take into account the interests of all parties
involved. Secondly, decision-making and problem solving should be
done openly and in such a way as was initially agreed at the start of
the project implementation. Lastly, targets should be aimed at
continuous measurable improvements in performance from project
to project. Decision-making encompasses problem resolution. The
benefits of first-generation partnering include faster construction
times, improvement in quality, less litigation, improved safety, better
teamwork, more innovation and cost savings of 30%.

Second-generation partnering
This is a well-established type of partnering amongst leading firms
and consists of partnering by a group of consultants and contrac-
tors who add a long-term strategic dimension to a series of projects
for one customer. They jointly establish a strategic team that builds
up the pillars of partnering. In this type of partnering, strategic
membership, equity integration and benchmarking feedback

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encompass mutual objectives, decision-making and continuous

improvement, respectively. It also involves establishing standards
and procedures that embody best practice based on process
engineering.

Third-generation partnering
This is spearheaded by construction firms that organise their busi-
ness to provide continuity of workload. They do this by applying
partnering throughout the whole supply chain to produce products
designed for specific categories of customers. This level of part-
nering is mostly used in private finance initiatives where the private
sector undertakes the work and leases the resulting facilities or
service to public sector bodies.
At this level, firms use cooperation throughout their supply chains
to build up efficient virtual organisations that respond to and shape
rapidly changing markets. They harness new technologies to satisfy
customers’ expectations. In doing so they combine the efficiency
that comes from standardised processes with the flexibility that
comes from creativity and innovation. About 50% cost savings and
80% reduction of construction times have been suggested to be
associated with this level of partnering.

Framework for best practice

Partnering can be used successfully if a framework that clearly iden-
tifies the critical issues that are necessary for its implementation is
followed. These issues are highlighted below.

Management commitment
All organisations represented must have the complete support and
commitment of upper management. This is essential, since all other
members will look to this commitment to assess their own individual
commitment. The commitment must be clearly visible to all project
team members and, most importantly, should be sustained through-
out the project duration.

Corporate culture
Managers educated in traditional business relations find partnering
relationships threatening to their company. These managers’ atti-
tudes have been influenced by their company’s corporate culture. A
company’s corporate culture is strongly influenced by what is impor-
tant to the company. As a result of this inherent attitude, companies
must strive to achieve effective ‘internal partnering’ horizontally
between departments and vertically in the management structure.

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As the business environment for the construction industry changes,

a company’s success may depend on recognising and adapting its
culture to these changes. Managers must recognise changes in the
business environment for their customers, suppliers and competi-
tors as well as their own company, and managers must recognise
how these changes will influence their corporate culture.

Team selection
Taking the time to identify the right partner is important to the
success of a partnering relationship. It is also important to note that
the inability of any one member to perform in the team would
impact negatively on the success of the partnering arrangement.
Several potential partners of a high quality with plenty of experience
should be approached. A review of any potential partner’s key staff
skills and gaps should be carried out and their strengths and weak-
nesses assessed. The potential partner’s management style, organi-
sation and cultural differences must be analysed for the best fit.

Workshop
This is vital to any partnering project, no matter how often the part-
ners have worked together before, or whether the partnering agree-
ment is project specific or strategic. The workshop should be run by
an independent facilitator and should be held at a neutral location.
The workshop agenda should include the following:
(a) An introduction by the clients’ partnering champion and a shar-
ing of views and expectations of the workshop.
(b) An overview of the partnering process given by the facilitator.
(c) Presentations identifying the usual causes of conflict, and dis-
cussions on avoidance.
(d) Problem-solving exercises using line issues, attempting to secure
mutually advantageous solutions and establishing a project code
of ethics. These activities should be undertaken by small teams,
reporting back to the plenary group.
(e) News of improving performance/productivity.
(f) Identification of issues that may be barriers, problems or oppor-
tunities. These issues may relate to the partnering process, the
project or both. These activities will use brainstorming tech-
niques and encourage the formation of constructive ideas. They
will be monitored by the facilitator.
(g) A summary of the issues, which may be allocated to teams to
develop specific action plans, followed by a group discussion
and finalisation of the action plans.
(h) Establishment of a dispute resolution procedure.

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(i) Establishment of monitoring criteria and the monitoring

procedure.
(j) Election of champions.
(k) Drawing up of a partnering charter, assisted by the facilitator.
(l) Workshop summing up by the partnering champions of both
client and contractor.

Mutual objectives
The workshop will enable the partners to brainstorm each other’s
objectives, focusing on their end objectives as well as the interme-
diate ones. The determination of each other’s criteria for the success
of the project will help both parties to be aware of the individual
expectations, and gives them adequate time to try to incorporate
those objectives into the win–win objectives of the relationship. The
objectives are usually captured in the form of a partnering charter,
as shown in Figure 7.1.

Conflict resolution
Conflicting issues are common among parties with incompatible
goals and objectives. Even with parties that have compatible goals,
the problem cannot be wished away, because it is human centred.
The impact of conflict resolution can be either productive or
destructive and largely depends on the manner in which partners
resolve problems. For enhancing cooperation and greater promise
of long-term success, organisations are advised to adopt more
productive resolution techniques such as joint problem solving,
which is described as the collective decision to create alternatives
for issues. A typical problem resolution flow chart is shown in
Figure 7.2.

Continuous improvement
The partnering team must strive to achieve continuous improve-
ment, since without it most of the benefits from it will be lost. A
series of steps towards achieving continuous improvement have to
be taken as follows:

(a) Clear goals have to be established.

(b) People have to be convinced that change and improvement are
in their interest.
(c) Organisational barriers to change have to be eliminated.
(d) Open forums for exchange of views and debate have to be set up.
(e) A simple measurement system should be set up which immedi-
ately focuses attention on key issues.

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Figure 7.1. Typical partnering charter, from Construction Industry Board (1997)

(f) Ideas should be systematically assessed to ensure that they can

be developed into opportunities.
(g) Targets should be continually reviewed.
(h) Management interest and appreciation should be continually
displayed.
(i) There should be a no-blame attitude.
(j) Recognition and reward must be maintained.

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Identify problem

Clarify problem with other

partners

Determine level of decision

Problem
Agree to time limit
moves to next
level

Propose solutions Problem

resolved

Agreement

Figure 7.2. Problem resolution flow chart. Source: Bennett and Jayes (1995)

The elements essential to achieving improvement are the atti-

tudes of the partnering teams, the knowledge base and informa-
tion-sharing attitude of the partners, the techniques adopted or
applied for the partnering arrangement, and the training given to
‘individual boundaries’ and ‘think as a team’.

Potential barriers in implementing partnering

Partnering is based on relationships. When two firms negotiate a
partnering agreement, they have a concept of fairness in sharing
and in relative benefit. However, any relationship requiring mutual
dependency and high levels of trust is bound to be confronted
with certain barriers. These barriers must be known and expected
so that they can be dealt with to achieve the objectives set out
for the project. The barriers can be grouped as external and
internal.

External barriers
The main external barrier to partnering, particularly in the public
sector, is that of politics. When politicians decide to play politics
with partnering, they can always misrepresent the notion of a
mutual relationship as not protecting the public interest; this will
lead to a large amount of pressure on public sector officials. For
example, if public officials decide to sidestep the ‘public sector busi-
ness-as-usual’ process of lengthy review, claims and possible litiga-
tion to achieve faster communication and response, they could be

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considered as not defending the public purse. Another barrier to

partnering is the externally imposed law, permitting very strict
notice provisions and aggressive exculpatory language in their
contracts, which create different incentives for conflict resolution or
prevention.
The last external barrier to partnering is when the reward system
for middle management or project-level staff is determined exter-
nally and also includes disincentives to decision-making and taking
risk. Partnering involves greater investment in decision-making and
risk taking; therefore structures must be put in place to support
and initiate that. If the system is such that there is a disincentive
for taking decisions and risks then the likelihood of partnering
succeeding will be decreased.

Internal barriers
The potential barriers that can affect the approach to partnering
within an organisation are organisational structure, cultural atti-
tudes and climate. Organisational structures have evolved within
firms as a result of communication restraints and also to promote
efficiency. These structures, whilst being good in providing direc-
tion and flow of information under stable conditions, could also
themselves be barriers in the dynamic environment which is neces-
sary to realise projects. The rigid structures of public sector organi-
sations lack flexibility and adaptability to new circumstances, and,
particularly for construction projects whose workload, work volume
and resource levels are unpredictable, such structures could inhibit
the adoption of partnering.
Another internal barrier to partnering is the cultural attitudes of
the organisations forming the partnership. Organisational culture is
defined as the pattern of shared basic assumptions that the organisa-
tion learned as it solved its problems of external and internal inte-
gration, which has worked well enough to be considered valid
and therefore to be taught to new members as the correct way to
perceive, think and feel in relation to those problems. There is,
however, no single correct way for organisations to do business.
Thus barriers will be created for organisations that choose to accept
only the ‘correct’ basic assumptions of doing things instead of iden-
tifying those that will promote the most successful organisational
performance and either maintaining them if they already exist or
moving the firm towards adopting them if they do not.
The existing climate of an organisation can also be a barrier to
partnering. The climate of an organisation and that of any large
project is set by its top executives, and because it is subjective and
may often lead to direct manipulation by people with power and

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influence, executive decisions and policies can affect it. Thus direc-
tives from top management that go down the chain of command
may significantly increase or reduce barriers to partnering origi-
nating in the organisational climate.

Implementation of partnering
Once a contract is agreed, the levels of management who have
the authority to enter into the commitment traditionally delegate
the managing or ‘administration’ of the contract to their contract
managers (project managers, agents, resident engineers or what-
ever title they may have). This occurs in both parties’ organisations,
clients and contractors. Their contract managers are typically two
levels down from those who agreed the contract (Wearne, 1992).
In this process an agreement to partner needs to be sustained.
‘Kick-off’ sessions between the parties should therefore be led by the
high level of management who entered into the contract and agreed
to partnering, so as not only to establish the responsibilities for
contract management but also to hand over how their agreement to
partner is to operate.
The contract managers should clearly be members of the kick-off
sessions and be personally committed to the partnering agree-
ment, but the construction industry worldwide is habitually con-
frontational and conflict-prone. It has to be accepted that even
with a partnering agreement, issues will occur which if not resolved
quickly and effectively, could develop into conflict and disputes.
Realistic risk allocation in the contract can minimise the occur-
rence of problems, but if nevertheless a problem arises, one party’s
contract manager may come under pressure in his/her organisa-
tion to exploit it in the traditional way (Bresnen and Marshall,
2000).
The checklist in Box 7.1 should be used in implementation.

Summary
The traditional approach to delivering projects is riddled with
conflict and adversarial relationships that result in delays, cost over-
runs and, in some cases, lower quality.
Construction companies and clients can use partnering to
improve their competitiveness, to improve product quality and to
keep pace with changing customer requirements. An effective part-
nering arrangement can replace the potentially adversarial atmo-
sphere of the client–contractor relationship with an atmosphere
that will foster a team approach to achieve common goals.

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Box 7.1. Implementation checklist

• Clearly define aims, objectives and long-term goals

• Identify a suitable procurement strategy
• Formality of contract, creation of joint incentives and bonus
schemes
• All contract documents are to include a workable framework
for the prompt notification and speedy, cost-effective
resolution of disputes, which will maintain proper business
relationships between the parties
• Set and carefully plan schedules
• Identify potential sources of conflict, disputes and areas that may cause
problems using various management tools, such as risk and
SWOT analysis
• Properly allocate risk
• Select and appoint the project team
• Suitable and compatible staff should be selected. Empowering
people is the key to the whole system. This entails adequately
training and giving authorities to lower levels to agree matters,
but also encouraging open communication and feedback. The
team should be driven by shared objectives and goals
• Clearly define roles and responsibilities and level of authority
• Form appropriate problem-solving teams
• These teams will be responsible for identifying any existing or
potential problems, disputes or conflicts, and resolving them,
with the cooperation of all concerned in the best interests of the
client. Knowledge, experience and innovative thinking should
be taken into consideration. Ignoring problems, or no decision,
is not acceptable. A problem shall be dealt with as such, without
blame or responsibility being apportioned to any one party
• Introduce ‘shadow partners’. Each member of the team has a
member of the opposite team with whom he/she directly
relates. These partners have the authority to sort out problems
as they arise. The problem will be passed up the managerial
line after all attempts to arrive at a prompt solution have failed
• Partnering workshops should be held as soon as possible. The
purpose of the first workshop is to establish how the partnering
firms will work together. It will concentrate on building mutual
understanding among all the participants by producing a set of
mutual objectives and a problem resolution process. This will
then be embodied in the partnering charter

Partnering, however, is not legally binding but depends on trust,

commitment and the desire to achieve continuous improvement to
thrive. For organisations to be able to apply partnering, a framework
must be set up for its implementation. It must also be noted that
partnering does not eliminate problems by mere acceptance of its
use, but that it demands every player’s effort towards achieving
results. There are numerous benefits to be derived from adopting
partnering but there are also barriers to be surmounted.

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Bibliography
Baden Hellard, R. Project Partnering: Principle and Practice. Thomas Telford,
London, 1995.
Barnes, N. M. L. Civil engineering management in the Industrial Revolu-
tion. Proceedings of the Institution of Civil Engineers, 138 (2000), 135–144.
Bennett, J. and Jayes, S. Trusting the Team: The Best Practice Guide to Part-
nering in Construction. Centre for Strategic Studies in Construction,
University of Reading, Reading, 1995.
Bennett, J. and Jayes, S. The Seven Pillars of Partnering: a Guide to Second
Generation Partnering. Centre for Strategic Studies in Construction,
University of Reading, Reading, 1998.
Besterfield, D. H. Quality Control, 5th edition. Prentice-Hall, Upper
Saddle River, NJ, 1998.
Bresnen, M. and Marshall, N. Partnering in construction: a critical
review of issues, problems and dilemmas. Construction Management
and Economics, 18 (2000), 229–237.
Construction Industry Board. Partnering in the Team. Thomas Telford,
London, 1997.
Ellison, S. D. and Millar, D. W. Beyond ADR: working towards synergis-
tic strategic partnerships. Journal of Management in Engineering, 11(6)
(1995), 44–53.
European Construction Institute. Partnering in the Public Sector. Thomas
Telford, London, 1997.
Green, S. D. Partnering: the propaganda of corporatism. In: Ogunlana,
S. O. (ed.), Profitable Partnering in Construction Procurement. Proceed-
ings of CIB (Conseil International du Bâtiment) Symposium, pp. 3–14. E &
FN Spon, London, 1999.
Institution of Civil Engineering Surveyors. Partnering. Civil Engineering
Surveyor, Oct. 25 (1997).
Kanter, R. M. Collaborative advantage: the art of alliances. Harvard
Business Review, July–Aug. (1994), 96–108.
Kubal, M. T. Engineered Quality in Construction. McGraw-Hill, New York,
1994.
Latham, M. Constructing the Team: Final Report of the Government/Industry
Review of Procurement and Arrangements in the UK Construction Industry.
HMSO, London, 1994.
Wearne, S. H. Contract administration and project risks. International
Journal of Project Management, 10(1) (1992), 39–41.
Wearne, S. H. and Wright, D. Organizational risks of joint ventures, con-
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Business Risk Management, 2(1) (1998), 45–57.

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An alliance/partnering contract
strategy
G. White

Introduction
This chapter will deal with the development, planning and method-
ologies used to execute an alliance-type contract strategy (defined as
having client/contractor-aligned objectives and using a risk/reward
payment concept). However, there is a need to understand and
consider why this type of contract strategy was developed for use on
offshore oil/gas-type projects. The reasons were primarily to reduce
the costs, improve the quality, improve safety and reduce the schedule.
The thinking and development of an alliance contract strategy are
described in the first part of the chapter. The theory and implemen-
tation are then explained through the use of an example of an
offshore gas condensate project where such an alliance contract
strategy was used. The remainder of the chapter outlines some of
the ‘key’ work processes that were used for the project execution
and led to ‘best in class’ results. It is worth noting that this type of
contract strategy can be used in the construction and other indus-
tries and in some cases has already been used. Finally, the ‘key’ work
processes can also be used for other types of contract strategies.

Selection of contract strategy

In Chapter 5 a number of contract strategy approaches are outlined,
these include alliance, lump sum/turnkey and reimbursable
contracts. There can also be a combination of two of these or all
three. Some would suggest that what are being referred to here
are methods of payment rather than contract strategies. For each
contract strategy type, the contractor will be paid for providing
services, resources, equipment, facilities, etc. The contractor is then
paid for its work, taking risks during the execution and making a
profit. The fundamental point is that different contract strategies
establish how the contractor makes its profit and how the client

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minimises the total cost to lead to a successful project outcome.

Hence, the contract strategy has a major influence on how the
project should be set up, managed and executed. It is therefore
recommended that consideration is given to selecting the contract
strategy at an early stage in the project planning. The contract
strategy includes the following influences on the project:
• project management organisation and team make-up
• project controls to be implemented
• relationships between the client and contractor
• management of interfaces, risks, liabilities, etc.
• achievement of the lowest out-turn cost
• achievement of planned start-up.
The impact of these factors must be fully assessed when setting up
a project. For example, the team needs to have the experience and
expertise to be able to handle the contractors using the particular
contract strategy. Also, the size of the client team, the culture, and
the cost and schedule control systems need to be developed to
ensure that the costs and schedules provide effective information.
Finally, using reimbursable and lump sum contract strategies, costs
generally tend to rise after contract award as the client and contractor
are on opposite sides. The concept of the alliance contract strategy
is to start with a realistic cost target and then the client and contractor
work jointly to reduce costs after contract award. The key point is
that all the aspects of the project need to be fully aligned with the
selected contract strategy.

Commercial goals/objectives alignment

There are three different aspects that have been considered and
lead to the use of an alliance contract strategy, as outlined below.

Basic principles
It should be recognised that a contractor will generally make a profit
from the contract. Also, it is the client that has a direct influence on
the way the contractor makes a profit and on the level of profit that
will be made by the contractor, through the selection of the contract
strategy. Finally, the contractor’s profit should be earned through
its performance and not on the contractor’s ability to make and win
claims.

Key drivers
Usually, and quite rightly, the contractor’s method of making profits
drives its actions and behaviour and the performance of the

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contractor’s whole team. The client likewise sets up its team to

ensure that its concern of minimising the ‘total life cycle’ is deliv-
ered. Finally, it is generally understood and accepted that outstanding
disputes are settled by both sides meeting their drivers and objec-
tives, namely, the client ensures that the work is acceptable and the
contractor is paid elements of any outstanding claims.

Alignment
The aim should be to try and achieve alignment of the client’s and
contractor’s drivers at the outset. The client needs to articulate what
it is trying to achieve in the ‘total life cycle’ by defining the desired
outcome. This could be lowest out-turn cost, early/late revenue and
levels of revenue, facility flexibility and/or a combination of some of
these drivers and/or performance factors. The contractor rewards
could then be based on the expected performance, and the com-
mercial drivers and concept should be developed by working with
the contractor community. Work should then move on to defining
how profits will be made and risks undertaken by the client and
contractors. Finally, the contractual document should be developed
to reflect the proposals that will be used to tender for the actual
work. It is worth noting that reimbursable and lump sum contract
strategies tend not to encourage client and contractor alignment.
On the other hand, one of the main features of the alliance strategy
is the ability to achieve alignment of the drivers, etc., of the client
and contractor.

Alliance principles used on the Britannia development in

the UK North Sea
Introduction
Britannia is situated 210 km (130 miles) north-east of Aberdeen,
with recoverable reserves estimated to be approximately 3 trillion
cubic feet of gas and 145 million barrels of condensate and natural-
gas liquids. Britannia’s production is approximately 740 million
standard cubic feet of gas per day, with initially 70 000 barrels of
liquids per day.
Conoco and Chevron formed the first alliance and established a
single entity, forming a new operating company, Britannia Operator
Limited (BOL). This single entity interacted with suppliers and
contractors under authority vested in it by the unit operating agree-
ment. The project adopted the following six key objectives:
• high safety standards
• high environmental and ethical standards

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• high reliability and quality

• maximising economically recoverable reserves
• becoming a lowest-cost safe operator
• achieving the lowest commensurate capital cost.
The project was executed using a series of alliances and other
types of contract strategies. This section of the chapter focuses on
the topsides alliance.

Description of topsides
The topsides are a single integrated production, drilling and living-
quarters (140 people) facility with a dry weight of 19 400 tonnes, an
operating weight of 28 900 tonnes and 36 well slots. The facilities are
designed to handle daily production and to control the subsea satel-
lite. The facilities consist of an integrated deck and a series of
modules, and are supported by an eight-legged steel tubular jacket.
Engineering commenced in August 1994, with fabrication of the inte-
grated deck starting in August 1995; installation took place in August
1997, with first gas achieved in August 1998.

Development of the alliance contracting strategy

Conventional project execution approaches typically cover the cate-
gories of reimbursable and/or lump sum turnkey. Generally, for
this size of facility, separate and discrete contracts are progressively
placed for engineering/procurement, deck/module fabrication,
installation, and hook-up and commissioning. The contract reim-
bursement arrangements are usually based on some lump sums and
all-inclusive rates (i.e. labour costs, overheads, profits, etc.) for the
bulk of the work. The bulk of the risk is thus being placed at the
contractor’s door. The client, with a large team, ensures the quality,
handles all the technical and contract interfaces/barriers and carries
overall responsibility for success.
For this method of execution, it is critical that the scope of work is
well understood, fully defined and fixed, prior to contract place-
ment. The contractors’ objectives are thereby aligned to their scope
and services, which tend to be misaligned with the other contractors
and the client. Also, with this size of platform topsides the individual
activities overlap. Hence, design is being finalised during fabrica-
tion, which leads to changes and results in cost increases in down-
stream contracts. The client pays for changes, misaligned interfaces,
etc. Finally, these individual contracts can dislocate the total life
cycle process.
The alliance project execution strategy was developed as a result
of an extensive review of alternative contracting strategies, with a set

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of principles/best practices being established for the execution of

the Britannia project. Also, it was recognised that the platform
topsides were on the critical path of the project and all the elements
were interdependent, thereby offering an opportunity to reduce
costs and improve the management of risks. As part of the develop-
ment of the alliance contracting strategy, ongoing consultation with
industry continued to test the concepts and ideas.

General principles
The project team developed general principles as listed below:
• aligned goals and objectives
• commitment to aggressive capex/opex/drillex reduction
• working to remove process inefficiencies, duplication and tradi-
tional contract interfaces
• formation of integrated teams
• early involvement of contractors to optimise design and reduce
costs
• aligned and equitable contracts
• shared profits and risks through individual contractor perfor-
mance and overall alliance performance
• promotion and maintenance of the highest standard of safety
and quality.

Concept
Through a spirit of mutual openness and trust, the alliance was
formed at the earliest feasible development stage. This was estab-
lished through ongoing discussions, where the industry and
contractors were invited to comment on the completed alliance
contract strategy. The basis of the alliance was that by using the
above general execution principles, the client and all the contractor
members agreed to work jointly to reduce capital, drilling and oper-
ating expenditure, meet the schedule, and deliver topsides facilities
that met the required quality, operator needs and safety. The finan-
cial basis was the implementation of commercial/contractual
arrangements, using a risk/reward approach whereby contractor
members earn their profits through their performance.
The alliance contract strategy addresses the problems of the
conventional execution approach and provides benefits by the follow-
ing means:
• The client and contractor goals are aligned, whereby cost over-
runs impact the whole alliance.
• All contractors jointly work on the interfaces/conflicts and
share the responsibility for achieving the success of the topsides.

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• Contractors are involved early to incorporate their require-

ments into the design and other associated topsides work to
reduce costs, achieve the required quality, etc.
• Fabricators are involved in the total cost of fabrication and of
hook-up and commissioning (HUC) to reduce or eliminate
carry-over of offshore work.
• First-year operations performance failures are offset against the
alliance profit.
The contractors were required to tender the expected out-turn
total costs and to accept earning profits through cost reductions and
the need to achieve the client’s facility performance requirements.
This produced a culture enabling costs to be reduced (e.g. rather
than using changes to gain profit) and total contractor buy-in,
coupled with the contractors’ ability to influence the topside devel-
opment on the basis of the client’s requirements.
The problems with this approach are:
• selecting and committing to contractors at an early stage of the
project
• managing changes
• changing the traditional industry culture, attitudes and work
practices
• ensuring that the quality, total life cycle and operator require-
ments are fully understood, implemented and met
• retaining effective and timely decision-making capability.
These problems were resolved within the Topsides Alliance execu-
tion using the work processes outlined later in this chapter.

Formation
The Topsides Alliance was established in late 1994 and was made up
of seven members, with each member having a specific role and
responsibility. The alliance was led by the BOL and AMEC (Design)
alliance members and was headed by a division manager. He was
supported by design, construction, project services and procure-
ment managers, who together formed the Topsides Management
Team (TMT). This group was accountable for the day-to-day
management of the topsides and other support services. In addition,
there was the Topsides Alliance Management Team (TAMT), which
was made up of the above managers, the senior full-time representa-
tives of each of the other five alliance members and a representative
from the client’s operations group. This latter individual acted as
the ultimate customer, contributed to all aspects of the develop-
ment and accepted the completed topsides facilities on an ongoing
basis. The TAMT was accountable for:

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• overall direction
• meeting the topsides objectives
• ensuring the execution philosophies were implemented
• ensuring quality requirements and safety targets were met.
Finally, the Alliance Board comprised senior representatives of
each alliance member company and was chaired by the client. The
Alliance Board monitored the progress, costs, schedules and major
changes of the Topsides Alliance.

Commercial arrangements
The commercial arrangements for each alliance member were similar
and were typically broken down into four elements:
1. Lump sums – for ‘non-scope-dependent’ work covering items
such as yard facilities, corporate overheads and computer-aided
design (CAD) facilities.
2. Reimbursable direct costs – for ‘scope-dependent’ work relating to
management, supervision and labour. The contractor was reim-
bursed for all resources used and work carried out. This cost was
defined as a ‘base cost’ for establishing the performance incen-
tive. Also, it was assumed that the ‘base cost’ represented the
out-turn cost of this type of work. Finally, all fabricator-supplied
materials and external services were paid at cost.
3. Performance incentive – this was the profit or loss for the individual
contractor’s own effort in reducing the ‘base cost’. The perfor-
mance incentive was set by each contractor company, at the
tender stage, and reflected its view on risk and on reward for its
own performance. This element of profit represented between
a quarter and a half of the potential profit that an alliance
member was likely to earn.
4. Alliance incentive – profit based on performance of the whole
Topsides Alliance against the Topsides Alliance capital costs.
The alliance incentive, which represented the balance of the
total profit, was established by deducting from the Topsides Alli-
ance capital cost target the total out-turn cost invoiced by all the
alliance members including the performance incentive, the
out-turn costs of all the equipment and material, and other work
and services. The alliance incentive was then distributed against
the agreed fixed percentage shares.

Contract
The entire contractual agreement, which was between BOL and
each of the contractors, was based on a Conoco conventional
contract. The contract had been enhanced to include the alliance

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arrangements, and addressed some of the problems identified, as

follows:

• The standard-of-workmanship guarantee was deleted, except

for wilful misconduct. Any rework was paid for and added to the
total costs, thereby reducing profits.
• Claims for extras due to changes in work could only be made if
changes were made to a limited number of principal design
parameters of the facilities. (That is, the basis of design was not
part of the contract.)
• Alliance profits were paid one year after production start-up,
and only if the acceptance criteria had been achieved. The
acceptance criteria, set by the client, covered meeting operating
costs, production and productiveness targets, gas customer per-
formance requirements and the first-gas date.

Alliance charter
The alliance charter was a non-legal document of intent, developed
to further amplify the alliance execution principles and to align
and encourage joint working and promotion of relationships. This
charter was signed by alliance members’ very senior executive
officers, thereby stating their commitment to the success of the
Topsides Alliance.

Alliance execution
The overall accountability for the management, direction, budgets,
control, etc. of the topsides was with the TAMT, specific elements
having been further devolved to individual managers and senior
team members. Reporting on costs, progress, etc., for the topsides
work was performed by a central group, which received its data from
individual groups; the reports were issued to the alliance.
Solving the initial problems and turning the alliance into reality
required a major investment of time, and needed different methods
of working, new processes and team-building sessions, with the
recognition and belief that profits can be achieved through cost
reduction. The work processes developed are outlined below.

Work processes to make an alliance contract strategy

happen
Individual and team culture
The alignment and culture of individuals and teams had a number
of different stages as follows.

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Individual alignment and enrolment

The first stage was to inform people and explain the project,
covering the concept, organisation, alliance commercial arrange-
ments, etc. This was followed by outlining the required cultural
changes that the individual was expected to make, and included
the need to manage through influence rather than, say, control,
remembering that the contractors were part of the risk/reward
scheme and therefore had a voice, and always promoting and
working to the alliance principles. This led to the individual having
to make a decision – is he/she willing to make the required changes?

Team-working and enrolment

This was a critical process, which was designed to provide leadership
for alliance behaviours and work process improvement throughout
the topsides work, by giving topsides team members the appropriate
skills and competencies. This covered the concept of orientating the
whole team with the alliance culture and was executed in several
stages.
• Stage 1 – a two-hour session on the first day covering the project,
alliance, commercial model and project safety.
• Stage 2 – after about six weeks, a one-day session building on ini-
tial experience and extending to fully cover all aspects of the
alliance and processes, addressing the problems and issues.
• Stage 3 – this was followed much later by further training of the
leaders and individuals who could influence a group of people
but were not necessarily managers or supervisors. This involved
a 1–2 day session with a training company and covered the
following:
– Development of team skills and behaviours of topsides
‘influencers’, who were senior project team personnel.
Through the use of skilled trainers, the intent was to make
these individuals more effective line facilitators, thereby
endeavouring to provide leadership through facilitative skills.
– Provision of support to line facilitators through manage-
ment sponsors.
– Provision of chargehands/foremen at the fabrication yards
with the skills and behaviours to foster open communica-
tion between teams.
– Provision of additional external facilitation support for one-off
key events and/or major problem-solving sessions, etc.
This plan made a major contribution to the achievement of the
cost reductions, to meeting and endeavouring to exceed the safety
targets, to promoting a ‘step change’ improvement in all activities

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and to ensuring the ‘seamless’ progression of the project through

each of the key phases. It also enabled the individuals to make use of
these additional skills and competencies on later projects.

Project and work processes

Many project and work processes were developed to enable the
objectives and commercial drivers to be achieved. Some of the
processes are described below. These processes can be adopted,
changed and applied to many other projects.

Physical integration of the topsides team

This involved taking fabrication and HUC team members and physi-
cally locating them within the engineering/project services team to
be part of the design development, and provided guidance to the
designers to achieve the lowest out-turn cost. The intention was to
work as a joint team, sharing objectives and commercial drivers,
minimising design rework and approval cycles, etc. This arrange-
ment is shown diagrammatically in Figure 8.1.

Alignment of design/procurement and fabrication

It was recognised that every fabricator had its own methods,
processes and ideas for fabrication, and it was important to get their
ideas for cost reduction. A general process, shown in Figure 8.2, was
developed to plan the work and draw out the contribution from the
fabrication team.
This process also brought in the HUC alliance member and the
installation contractor, who was not part of the alliance, but whose
input was vital, since there was a need to lift a deck weighing over
10 000 tonnes, and to lift very large modules to a great height. However,
one of the most difficult lifts was a 95 m long, 700 tonne flare boom,
which required both cranes of the heavy-lift vessel to be utilised.

Drilling
Engineering Deck Facilities Accommodation
Fabrication

Structural
Plant
Electrical and instrumentation
Procurement/project services

HUC

Figure 8.1. HUC team members

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Engineering/procurement

HUC considerations

Installation input Agreed schedules

Topsides:
• Deck
Fabricator • Accommodation Agreed
requirements for • Drilling facilities fabrication
equipment bulks • Pipe rack module specifications
• Flare boom

Agreed required Fabricator standard/

on site dates Agreed build preferred details
method

Construction

Figure 8.2. Process diagram

Engineering and procurement deliverables

Each of the fabricators specified in detail all the different types of
deliverables that were required. The joint teams then investigated
the most efficient way of producing the deliverables. This led in
some instances to the designer undertaking additional work to
produce more detailed types for deliverables that included, for
example, shop drawings and detailed piping and instrumentation
diagrams. Also, the fabricator was involved in all aspects of procure-
ment to help with sequencing, help to reduce waste, help to allow
more engineering time due to reduction in required float, etc.
Finally, the IT group set up a system to enable the fabricators to have
access to the 3D design model being developed by the design team
so as to work more closely with the designers, follow progress, help
with clashes, etc.

Level 2½ integrated schedules

Generally on a major project there is a hierarchy of schedules, as
follows:
• level 1 – overall project master schedule
• level 2 – major element of the project, e.g. platform topsides,
jacket or pipeline
• level 3 – platform topsides engineering, procurement, module
fabrication, etc.
It was felt that within this type of hierarchy it was not possible to opti-
mise the detail engineering, procurement, fabrication, etc. of the
deck, modules, accommodation, etc. To solve this problem, level 2½

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schedules were developed; these are shown diagrammatically in

Figure 8.3.
Each of the schedules for the deck, drilling facilities, accommoda-
tion, etc. was developed and agreed jointly by the relevant alliance
individuals as a team. Then individual engineering/fabrication
managers accepted joint accountability for making it happen. These
schedules were used to track the overall and critical activities of the
deck, etc. From this level, the team were able to drill down to levels
3, 4, etc. to identify the root causes of problems and rectify them.

Topsides mechanical completion and commissioning

The same approach was taken as for the level 2½ schedules above;
this is shown diagrammatically in Figure 8.4. The schedules were
developed using a backward pass starting from first gas, with the
intention of making the project commissioning-driven in the latter
stages. Also, the goal was to achieve the lowest-cost solution for the
topsides and Britannia between the onshore and offshore work.
Finally, the commissioning was integrated into hook-up, mechanical
completion, etc.

Occupational safety
This aspect was considered to be a key driver to improving construc-
tion productivity and saving of costs, both onshore and offshore.
If the total costs of an incident were taken into account then it
was soon realised that accidents were very expensive and time-
consuming. For example, if an incident took place, consider the
costs associated with a 12-hour stop in production to investigate the
accident. The major activities and initiatives that were undertaken
to improve occupational safety are outlined below.

HUC
Accommodation
Drilling facilities
Deck

Design
Procurement
Fabrication
Commissioning
Load out

Figure 8.3. Level 2½ schedules

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Britannia-wide commissioning plan

Level 1

Level 2
Topsides commissioning plan
Level 3

Accommodation
Drilling facilities

Deck Offshore HUC

Level 2½ schedule Level 2½ schedule

Figure 8.4. Topsides schedules

• Topsides construction safety group. Chaired by the topsides con-

struction manger, the group were required to:
– develop standards
– share and develop solutions
– review and recommend improvements to existing practices
– initiate new ideas.
• Management supervision and individual commitment through leader-
ship, action and financial reward. ‘Walk the talk’.
• Continuous communication of the importance of safety, adjustment of
the message to suit circumstances and fabrication stage, and use of ini-
tiatives. This meant:
– one-day training of the total workforce
– two-day training of management and supervision
– safety initiative scheme based on unsafe acts, housekeeping, etc.
– specialist training to include accident investigation, risk
assessment, etc.
– continuous learning from accidents, near misses, etc.
The effort meant taking time out during the day, every day,
putting safety on the ‘to do’ list, etc. to achieve a real step change.

Producing the results

The major features/drivers needed to achieve a successful outcome
include the following:
• Assemble the operator team with all the contractors as early as
possible, preferably before project sanction and during prelimi-
nary engineering/front-end engineering and design.

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• Ensure that the operations group are also brought in and treated
as the client/customer, being defined as the group who will
operate the platform after first gas/oil.
• Develop the alliance principles, commercial model, manage-
ment principles, etc. in dialogue with the industry to ensure that
the industry will be interested in participating out of choice
rather than necessity.
• Using the project requirements, benchmark the commercial
and schedule targets as the starting point for setting up the alli-
ance and ensure that there are challenging targets for the alli-
ance to achieve.
• Once the alliance is set up, begin to develop very challenging
targets using fabrication and HUC alliance members by:
– aligning the design
– optimising the overall schedule for the design, procure-
ment, fabrication and commissioning
– ensuring that the design suits the fabricators, HUC team
and operations team.
• Fundamentally, designers and engineers are required to pro-
duce a design for the service condition meeting all the safety fac-
tors, etc., and to ensure that it can be built. The latter need
should be very important and can make a major contribution to
reducing costs without compromising quality.

When the project is under way and problems begin to occur, it is

absolutely vital that the alliance use the established and agreed prin-
ciples, processes, etc. to solve the problems.
Note : if this point is violated the whole alliance will begin to fail
and will never recover. Staying focused and retaining the high ground will
deliver the targeted result.

Quality and safety

The general philosophy is to adopt management systems based on
goal setting, continuous improvement and the use of joint teams
with all the skill sets and competencies to provide assurance of
actual delivery.
Thus, the next step is the setting up of safety and quality manage-
ment systems. Also, the engineering and operations group should
be used to contribute to the targets and goals. The important point
is that, for example, the level of inspection needs to suit the design.
This should ensure an optimum and appropriate inspection level
and may mean a greater level of inspection for particular equip-
ment, materials, etc.

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Finally, a culture of continuous improvement should be encour-

aged, as exceptional safety and quality performance does lead to
improved productivity, beating the schedule and lowering out-turn
costs.

Summary
It important to begin to think in terms of what is possible in the
future based on what has already been achieved to date.
The concept of continued commitment to safety should be part of
all future projects. This is because safety should be considered of
equal importance to production, quality and cost reduction/profits.
A good safety performance is as important as any of the other key
performance indicators for a successful project.
From a client perspective, it is important to take on board the
concept of achieving the lowest total life cycle cost, which includes
prospect-finding, capital and operating costs. The industry can make
a significant contribution to these goals and there is a potential for
many and varied contributions. The alliance strategy can underpin
the achievement of the lowest cost though the adoption of appro-
priate equipment quality and improvement of operability and main-
tainability, though developing the appropriate alliance commercial
models.
New ideas need to be encouraged to reduce costs and provide
value-adding solutions. By the involvement of contractors early in
the life cycle, with and/or through an alliance arrangement, and by
solving problems in the early development phases, a marginal pros-
pect could be turned into a project.
Part of the way forward is for everyone to improve their ability
to deliver on their commitments. The way forward also involves
working together to become more interdependent, and to be
rewarded through performance in achieving the aligned, agreed
goals rather than through the use of claims, delays, etc. through
inequitable contract arrangements.
To date, the alliance strategy has only had some success. The failures
were partly due to not following through a systematic approach and the
subsequent execution, etc. However, by turning this strategy into a
dynamic process and through continued improvements the present
achievements can easily be improved beyond normal expectations.
This type of contract strategy is transferable to the construction
and other industries where clients have to engage contractors to
execute projects, and similar or better results can be achieved.

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Joint ventures
D. Wright

Introduction
This chapter discusses some of the possible implications for the
client of dealing with not a single contractor, but a group of contrac-
tors acting as a single entity – a joint venture. This entity may take the
form of a jointly owned company. More probably, it will take the
form of a ‘partnership’ within the true meaning of the law, a
group of people or companies who have agreed to carry out a joint
commercial activity for profit. Dealing with such a partnership
undoubtedly gives the client several advantages, but it also has
certain drawbacks. (The joint venture will have more skills and
resources than any one of its members. That gives it more capa-
bility – but also more bargaining power as well.)
Some drawbacks will be obvious. A joint venture will probably be
rather more ponderous during contract negotiation. It may take
longer to submit a tender. However once the contract is agreed,
provided the joint venture is properly organised, there should be a
central project management team in place for the client to deal with
so that the contract can be run normally. Nevertheless, there are
risks present when dealing with a joint venture that are not there
when dealing with a single company. The joint venture is more
fragile than a single contractor. It can be disrupted by the loss of one
of the partners or by dissension between them. This chapter there-
fore looks at some of the organisational problems that can occur
within a joint venture and how they might be avoided.

Background
Sooner or later every large organisation will find itself buying from
a ‘joint venture’ – a combination of commercial organisations,
companies, partnerships and others, collaborating to take on a
significant contract (or project). The usual reason why the contract
will be significant is that it will make demands that a single contractor
will find difficult to meet from within its own resources or through

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normal procurement/subcontracting. Typically this will be because

the contract is too large for the contractor to manage comfortably
alone, or too complex, or both.
Indeed, the trend is for large projects to become more common
and for large projects to become larger. Even if they are not
becoming larger then they are certainly becoming more complex,
involving a wider range of engineering and management skills and
disciplines, and taking longer to carry out.
Over recent years we have even seen the emergence of the ulti-
mate long-term complex project, the ‘construct and then operate’
project (build–own–operate, build–operate–transfer, build–own–
operate–transfer, etc.), as epitomised in the wide range of private
finance initiative (PFI) projects coming into being within the UK
and the public–private partnership contracts in the UK and other
countries. Such projects, and the contracts that they require, are
certainly long-term, requiring time to negotiate and to build or
construct, perhaps then followed by an operating period that may
run for several years. They are complex both because they often
require a wide range of engineering skills and disciplines during
the build/construction phase, and because they may then require
totally different skills during the operating phase.
The long-term project and the complex multi-disciplinary project
present both client and contractor with special problems.
For the client, the main problems are perhaps those of initial
project definition and then the inevitable changes in need/require-
ments that will arise. Complex projects or systems are easy to define
in broad terms but not easy to define in contractual terms. The
contract demands relatively precise task definition. Precise task defi-
nition then ensures precise provision by the contractor – at least
that is the theory. Unfortunately, in real life precise task definition
may not really define what the client actually needs and, in the long
term, the client’s requirements can never remain constant anyway.
The long-term, multi-disciplinary project also creates special
problems for the contractor in providing the skills necessary to carry
out the different tasks required by the contract. A wide range of
skills may be required during the ‘construction’ phase. Where that
construction phase is then followed by an operation phase, the
problem is even worse. Operation often requires totally different
skills and people from those required by construction.
Clearly, as a project becomes more complex it becomes harder for
any single organisation to contain within itself all the skills and
resources that are necessary to carry out that project. Therefore the
contractor will always need to find skills and resources from outside
if it is to complete the project.

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One obvious way of providing those skills and resources is by

subcontracting, placing contracts with appropriate subcontractors
to buy in from them work and skills resources or equipment that
the contractor itself may not be willing or able to provide. Every
contractor will use subcontracts. They are useful. They can and do
provide resources or equipment. But there are limits to what they
can contribute to the project. Every contractor will understand the
problem of creating ‘project commitment’, or ‘project risk/benefit
sharing’ in its subcontracts. Every contractor will also know the
problems created by the ‘major subcontract’, where the contractor
is compelled by circumstances to place one or a small handful of
subcontracts that are so large in relation to the remainder of the
project that they can come to dominate the entire project. Finally,
every contractor knows the problem of the ‘critical subcontract’,
the subcontract to buy in a single item of equipment or a skill/
resource which the contractor cannot provide for itself, but which is
absolutely vital to the overall success or profitability of the entire
contract.
The common factor in all these for the contractor is that of trying
to create commitment to the success of the main contract/project.
Subcontracts create subcontractors. Subcontractors are committed
to the success of their subcontracts, rather than to the success of the
main contract. Obviously they will do their best, and many subcon-
tractors’ best will be very good indeed. But in the final analysis their
main concern has to be the profitability of their individual subcon-
tracts for themselves, not the success of the project or the profit-
ability of the main contract for the contractor.
These are the sorts of considerations that lead contractors into
joint ventures, collaborating with other organisations more or less as
equals, acting as joint ‘partners’ in one or more projects, and
sharing the overall profit/loss and risk between them.
Of course, there are a number of other possible advantages to
contractors in the joint venture, quite apart from the pooling of
resources and project commitment.
A joint venture allows the partners to share the preliminary work
and costs of a project, such as tendering, negotiation, research
or development. It also allows the partners to pool commercial
contacts or knowledge of the client or market. Sometimes they may
even share technical skills or know-how.
Clients often want to deal with a single organisation. On a major
project this can sometimes only be achieved through a joint venture.
Against this criterion, a joint venture has a more powerful base in
negotiations with the client, as well as with government organisa-
tions, banks, suppliers and others.

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For the client, dealing with a joint venture is a more high-risk

strategy than dealing with a single contractor, in the sense that the
joint venture always adds an additional dependency risk into the
equation, that of dissent between the partners, or even the total
breakdown of the joint venture.
Therefore the client has an additional consideration to bear
in mind. The client needs a good contract. It needs competent
contractors. It also needs to deal with a ‘good’ joint venture – in the
sense of a joint venture with survival/staying power, comprising
companies/organisations that will cooperate effectively with each
other and work efficiently together for the lifetime of the project.
Every client should question a joint venture, to ensure that it is prop-
erly put together. Of course, any joint venture can suffer internal
conflict; but the better the organisation of the joint venture from
the outset, the lower the risk.

Types of joint venture

A horizontal joint venture is one in which the partners can carry out
their work, more or less, in parallel and at the same time. This
creates a straightforward relationship in which all partners depend
upon each other and all partners will contribute to and profit from
the project at the same time as each other.
A vertical joint venture is one in which the activities of one or more
of the parties are not interdependent, but follow on from each other
in sequence. An example would be the building of a toll bridge by
some of the members of a joint venture, which was then to be oper-
ated by another partner. Here the work of some members of the
joint venture would be complete before the work of the operating/
management partner could even commence. Relationships in
a vertical joint venture are obviously rather more complex (and
perhaps rather more subject to stress).
A homogeneous joint venture will consist of partners drawn from
the same industry, or industries that are related to each other. For
instance, a joint venture made up of companies within the building
and civil engineering industries would be homogeneous. So would a
joint venture made up of chemical engineering and process compa-
nies. A homogeneous joint venture is again straightforward, because
the partners operate within the same contract and technical disci-
plines as each other. They normally undertake similar classes of
work and risks, and therefore understand each other.
A heterogeneous joint venture is made up of partners from
different industries or disciplines, who therefore normally under-
take different classes of work. This type is rather more complex to

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create and perhaps rather more difficult to manage on a day-to-day

basis than a homogeneous joint venture, but with the right attention
to reporting/management/communication aspects, will operate
perfectly satisfactorily.
(In addition, of course, any joint venture may be national, involving
partners based within one country, or international involving part-
ners based in two or more countries. Obviously enough, any interna-
tional element in a joint venture simply increases the culture/
communications problems within the joint venture – but of course
may add considerably to the abilities of the joint venture.)
Any individual joint venture may be both horizontal/vertical and
homogeneous/heterogeneous. In theory the most difficult to set up
and manage is the vertical/heterogeneous joint venture, especially
when it is international in composition. In practice there may be
very little between them provided that the partners have put the joint
venture together properly and then commit adequate resources to
operating within it.

Formation of a joint venture

Basic rules
• Festinate lente, a Latin proverb – ‘Hurry slowly’.
When a joint venture is put together there is a lot to be agreed.
Quite apart from this, the partners also have to make sure that they
know each other, understand each other and trust each other. This
takes time. Also, some aspects of the deal cannot be hurried. For
instance, it is a matter of moments for the partners to agree a prin-
ciple, say, that they will adopt the same costing/pricing basis, to
ensure that all parties make approximately the same level of profit
on the basic work and on any extras and variations. However,
working out the practical implications involved and comparing the
actual costing methods used by each of the organisations involved,
even within a homogeneous joint venture, will demand probably
several meetings spread over weeks or months.
• ‘If they can’t all share the same taxi there are too many of them.’
(Anon.)
Every large project will involve work and equipment supplied by
many different organisations. However, they cannot all be members
of the joint venture. Some joint ventures operate completely success-
fully with a comparatively large number of partners. However, the
basic rule for the vast majority of joint ventures has to be that the
number of partners should be limited to a maximum of four or five.

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The reason for this is simple. To assemble the joint venture requires
detailed discussion between the partners of a whole range of diffi-
cult issues concerning obligations, risk and money – usually against
a deadline. Anyone who has ever been involved in the process knows
just how difficult this can be, even when only two or three companies
are involved. If there is a large number of partners that has to be
involved in the negotiations then the chances are that those negotia-
tions will be fudged. If the same large number of partners is then
involved in carrying out the project and there are problems then
those problems will not be easy to settle.
• Partners in a joint venture should have an approximately equal
(financial) stake in the contract.
It can often appear to be very advantageous to include as a partner
in the joint venture a specialist supplier, such as a design partner-
ship, because that supplier’s work is seen as important to the success
of the overall project. Indeed, we have already commented that one
of the difficulties of subcontracting is that it does not deal properly
with that sort of subcontractor. However, the basic rule should be as
stated above. The reason is that the joint venture partners have to
accept risk as equals, which a small participant usually finds difficult,
if not impossible, to do.

Establishment
The following principles are largely self-evident, but worth repeating:
• Every partner should begin by reaching internal consensus,
both as to its own objectives for the joint venture as a whole, and
for itself within the joint venture.
• Before any detailed negotiations take place there must be a gen-
eral discussion, at senior management level, to ascertain
whether there are differences between the objectives of the
partners. If there are differences and these cannot be recon-
ciled then the negotiations should not proceed.
• All negotiations must be conducted at the appropriate level for
achieving commitment.
• Naturally, the negotiations must deal openly and honestly with
the practicalities of the contract/project – the work to be done,
the difficulties and the attendant risks. From this should follow
agreement on the share of work and risks between the partners,
the interfaces between them, a realistic programme/work
schedule, a realistic policy for dealing with the problems that
will inevitably arise, and the respective responsibilities and lia-
bilities of the partners.

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• The negotiations must seek to identify and then eliminate

potential causes of deadlock between the partners wherever
they may be. Negotiators must then concentrate upon identify-
ing differences between the partners that might cause problems
later on, so that they can also be eliminated in advance. The aim
must always be to minimise any potential for conflict between
the partners.
• The negotiators must accept, however, that differences will still
arise and build in procedures to deal with those differences. Dif-
ferences are inevitable, but they must not be allowed to become
disputes. Differences must also be able to be settled quickly – a
long-running difference is a dispute.
• The negotiations must put in place a ‘management structure’
for the project. They must also put in place a management struc-
ture for the joint venture. (The relationship needs managing
just as much as the project.)
• The greater the time that can be allowed for negotiation
the better. The partners need time to get to understand each
others’ problems and attitudes if they are to collaborate
successfully.
• Trust may need to be established between the partners’ repre-
sentatives in the negotiations. (This itself may require time to
achieve, probably quite some considerable time.)
• In addition there may be communication difficulties to be over-
come, caused by differences in language, culture, geography,
disciplines or experience.
• The partners’ representatives should include at least some of
the personnel who will be involved in managing the project.
• The aim is to create first understanding, and then collaboration.
• Negotiators must avoid a ‘win or lose’ attitude. Almost invari-
ably, in a joint venture, if any one partner ‘wins’, all lose in the
end.
• The results must define every partner’s aims and commitments.

The common organisational risks

The aim of a joint venture is understanding, teamwork and collabora-
tion. The target when setting up the joint venture is to foresee and
agree what relationships and commitments between the partners are
needed to control and carry out their external commitments to
others, together with the internal mechanisms to deal with differ-
ences between the partners as they arise. The two things that can be
absolutely guaranteed within any joint venture are that there will be

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differences between the partners from time to time, and that some of
those differences will be totally unforeseeable until they arise.
A joint venture generally involves more causes of risk than other
types of project or business organisation. The extra causes depend
on whether the partners really are willing and able to collaborate
with each other in sharing the problems and risks involved, and
whether they have made realistic arrangements that will enable
them to do so in practice.
What follows is a list of some of the problems that tend to occur on
a regular basis – with suggestions as to how to avoid them. Naturally,
most problems can be managed or tolerated. However, experience
shows that anticipation and avoidance are usually better than tolera-
tion in the end.

Differences in objectives
The partners may differ in their understanding or interpretation of
the objectives of the joint venture, and this may not be apparent
before the joint venture has entered into commitments to the client.
The partners’ reasons for entering into the joint venture,
together with their objectives, should be clear to all before the joint
venture is agreed.

Changes in objectives
A partner’s objectives may change during the project due to
external factors, such as a merger or takeover.
All partners must accept that the joint venture agreement is a
binding commitment for the duration of the project. (The only
permitted way out is, usually, that any partner will be allowed to quit
the joint venture if a change in circumstances makes it impossible
for that partner to continue. However, the partner must find an
acceptable substitute to carry out its remaining obligations, and
compensate the other partners for the costs of the disruption that it
has caused.)

Communication problems
In theory any group of contractors can form a joint venture that can
be successful – however varied the partners are in size and skills. In
practice different industries, and the companies in them, tend to
live in different worlds and therefore have difficulty in achieving
understanding and easy communication between them.
Management and communications procedures and systems need
to be thought through from the beginning. In addition, special care
needs to be taken to ensure that the management personnel from
the different partners meet regularly, probably both on a formal

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basis and informally. The cost of this must be allowed for in the
project costing.

Changes in demand
The needs and risks will change during the project, often because of
matters outside the partners’ control. The most common reason will
be changes in the requirements of the client.
Change within the project can affect the balance between the
partners. It can make the project more profitable for one partner at
the expense of another, for instance. This has to be recognised from
the outset and procedures put in place to deal with the problem. A
simple agreement to collaborate may be sufficient to start a joint
venture, but will never cope if change disrupts the relationships
between the partners. When forming a joint venture, the partners
should agree how its structure is expected to evolve as relationships
become more complex during the project.

Project termination
Sooner or later every project comes to an end, through termination
or when the work has been completed. When that happens the joint
venture will also probably need to end.
The joint venture should not commit itself to a project or a
contract until the partners have agreed what their responsibilities
are to be, the system for managing the joint venture’s commitments
through to completion, and the procedure for dissolving the joint
venture when its work is finished and the remaining assets and liabil-
ities need to be shared out between the partners. Joint ventures are
easy to start, but hard to end happily.

Divergence of interests
It is easier to start a cooperative venture than to sustain it. The risk of
gradual divergence of interests between the partners is always there,
and increases geometrically as the number of partners rises.
A separate management team authorised by and reporting to the
partners as a whole, possibly through a management committee,
may be needed. It can provide central contract/project manage-
ment on behalf of the joint venture towards the client and also
hold all the partners to their commitments and responsibilities. Of
course, this management team must be able to instruct the partners
as to what is required to meet their commitments to the joint
venture. The partners have to accept that they are subordinate to
their own creation.

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Provisions for risks

Partners may fail to make adequate cost/budget provision for
the greater expense and risks involved in operating within a joint
venture. Inexperienced partners, in particular, often greatly under-
estimate (or sometimes even greatly overestimate) them.
Costs and risks should be assessed by the partners jointly and then
allocated between the appropriate activity centres, to avoid double
budgeting.

Balance of work
In the normal way of things, the joint venture will be only one part of
the business activities of the partners. For one partner it may be a
major part, but for another it may only be a small part. Changes to
the order books of the partners can affect the view they take of the
joint venture.
It is necessary to anticipate conflicts of interest in planning and
controlling the work of the partners, and this is usually done
through the management team. (The problem is usually easier to
control if the joint venture is homogeneous and/or horizontal. It is
also easier if the partners share other interests.)

Subcontracting
Uncoordinated subcontracting can cause various problems and
conflicts.
Of course the partners in a homogeneous joint venture are likely
to understand each others’ work and cooperate in overcoming
problems rather more easily, but subcontracting may need prior
agreement on policy and central control.

Cultural attitudes
The partners (especially in a heterogeneous or international joint
venture) are dependent upon each other, but may also have insuffi-
cient understanding of each others’ work and internal culture.
There is always a need for a formal system of planning and control
within the central joint venture management team as well as within
each of the partners.

Project attitudes
The partners can vary in their experience of joint venture projects
and risks, resulting in differences in the real authority and attitudes
of their representatives.
Every partner in any joint venture should be represented on
the steering group by a director of the parent company. (This is

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especially important if the joint venture is heterogeneous or inter-

national.) The only thing that can overcome problems such as these
is regular contact at senior management level.

Contracting authority
The joint venture must be able to act with authority, and separately
from its partners.
One way of achieving this is to entrust the management of the joint
venture management team to a manager, essentially the overall
joint venture project manager, with authority to act on behalf of
the joint venture as a whole. This person may then report to the
joint venture steering committee. This has several functions. These
would usually include acting as a court of appeal to resolve differ-
ences between partners, and acting as the management board for
the joint venture. The steering committee would meet on a regular
basis, and would comprise senior management representatives of
each of the partners. Two-tier management committees have also
been used successfully in heterogeneous or large joint ventures, the
upper tier consisting of senior management who are authorised to
take risks and settle disputes, and the lower tier consisting of the
operating managers who control the partners’ resources required
for the joint venture’s work.

Control in default of planning

The need for central control of a joint venture project or contract
may become accepted only when policies are not proceeding as
intended.
Care must be taken not only to institute the monitoring and
managerial decisions needed to carry out the joint venture’s
commitments, but also to correct any more fundamental failure to
plan ahead and anticipate problems. Control can be exercised in
various ways, depending upon the structure and relative interest of
the partners.

Collective management of problems

The joint venture may need management styles and systems
different from those used by partners in their normal business. As in
any committee, the partners’ representatives on the steering group
may run the risks of discontinuity in their knowledge and attitudes
about the joint venture business, and tend to ‘group think’ or be
over-cooperative in relation to their parent enterprises’ interests
and commitments to the joint venture.

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The potential risks of joint decisions may be reduced considerably

by selecting senior managers/representatives with organising and
negotiating skills. The more complex the relationships in a joint
venture, the greater may be the need for more analytical and system-
atic use of quantitative data to analyse problems and choices.

Management quality and motivation

The joint venture needs to be equipped with managers at least
comparable in ability to their opposite numbers within the partners.
There can be conflicts between joint venture and partner project
managers, not least because of their different roles, objectives and
accountability.
If the joint venture is only temporary, as is common, its managers
need authority from the partners’ steering group. The steering
group may also have a role to play in supporting the joint venture
project manager against their own project managers. Managers
seconded to run a joint venture from the partners should have a
future in their parent organisations that will be enhanced by success
in their performance for the joint venture.

Risk awareness
Few individuals work in more than one joint venture in their career
and therefore can bring experience into another, so many man-
agers will be new to a joint venture and therefore not aware of the
risks.
The prospective partners to a joint venture should adopt a delib-
erate policy of searching out available advice and experience to
identify and assess the potential risks and possible remedies before
commitment.

Incorporation or cooperation?
As was noted at the beginning of this chapter, a joint venture may
take the form of either a simple partnership, a group of organisa-
tions working together under the terms of a contract between them,
or a separate company jointly owned by those organisations. The
company operates as a legally separate entity independent of
its owner partners, but there should still be a formal agreement
between the partners as to the form that the subsidiary company will
take, its scope of activity, and the way in which it will be controlled
and then brought to an end.
The potential additional benefits to the partners, and perhaps
also to the client, of a incorporated joint venture are:

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• It can provide a limit to the liability of the partners. (Therefore

the client might well require parent company guarantees, for
example, from the partners.)
• It may provide longer-term (though not short-term) flexibility
in capital structure.
• It may be able to obtain trading benefits that might not be open
to each partner alone.
• Because it has a separate organisation it may also be able to pro-
vide greater continuity of staffing.
• It may have a better presence in the marketplace, particularly in
export markets.
• It may have greater credibility when dealing with government,
financial or other organisations.

The attendant disadvantages are:

• It may require more time, effort and expenditure to set up.

• It may be less flexible in the distribution of profits and losses.
• It may result in double taxation.
• It may have less power when dealing with its owners.

Incorporation is therefore preferable for a project or series of

projects which require the long-term application of management
and other resources. A collaborative agreement is preferable when
carrying out a single project or contract. It is more flexible in
management, capital structure, and profit and loss distribution.
Because such a joint venture is not a separate entity the client can be
rather more in direct contact with those with doing the work for its
project.

Complexity and control

The client, and any financing body involved, will normally require
the performance of an incorporated joint venture to be guaranteed
by the partners. If the joint venture is simply agreement-based then
the client will either require the contract to be signed by all the part-
ners or require that the non-signing partners will guarantee their
performance.
When the joint venture is incorporated, some work may be carried
out by the joint venture itself. All other work will be subcontracted
by the joint venture to the partners. When the joint venture is agree-
ment-based, either the partners will distribute the work between
themselves by a series of subcontracts, formal or informal, or one
partner will act as ‘lead contractor’ and place subcontracts with the
rest.

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While the client should always insist upon a single channel of

communications with the joint venture, usually through the joint
venture’s project manager and management, control of the part-
ners’ operations need not be centralised. Horizontal, homoge-
neous joint ventures usually need the least centralisation of
management, unless international considerations affect the issue.
Vertical or more complicated joint ventures may require formal
linking and overlapping/duplication of the partners’ systems of
organisation. This need not be on a large scale, but must be there
from the start.
Formal delegation of authority to a separate dedicated joint
venture project manager is always important. It is almost essential
where the partners are of diverse types, say a combination of
commercial companies and public authorities. It then avoids the
possibility of differences in corporate autonomy and accountability
causing operational differences.

Summary
The terms and organisation of any joint venture will be decided by
the partners and will depend upon their relative strengths and inter-
ests. No two joint ventures will ever be the same.
The client will never know for certain what the terms are or
whether the organisation will stand up to the demands of the
contract or the pressures of the project. Nevertheless, the client
must try. Good management practice is the same when applied to a
joint venture as with everything else. It is prudent to anticipate
potential problems and to agree clear arrangements for resolving
them before they happen. Everyone involved can then organise
accordingly. A good client will, as they say, endeavour to check this
out before contract. A good joint venture will be happy with this.
The greatest single lesson of past experience with joint ventures is
that the partners should not enter into the joint venture until they
have already agreed how it is to be organised and to operate in
carrying through its activities to completion.
In broad terms, the structure of the project should maximise
collaboration but minimise operational interdependence between
the partners. This might not be what one or more of the partners
would prefer, but is advisable. This should be anticipated when the
joint venture is created.
The style and system of management appropriate for cooperative
concentration on the joint venture project are likely to be different
from the styles and systems used in the partners’ organisations for
their normal business.

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Most of the risks and problems are predictable and can be

avoided or controlled by reasonable forethought. Companies
looking to engage in a joint venture should therefore adopt a
systematic and logical approach to take into account the nature and
organisation of the joint venture itself. Clients dealing with those
joint ventures should then check that they have done so. The joint
venture can be an effective system between enterprises. It is poten-
tially strong in pooling resources and expertise but weak in its
possible divergence of interests. The joint venture is therefore
always potentially unstable unless properly assembled at the start
and properly managed from the start.

Bibliography
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Benitez Codas, M. M. Cultural integration in bi-national joint ventures.
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Project Management, pp. 155–164. Florence, 1992.
Boeva, B. Management of joint international projects. International
Journal of Project Management, 8(2) (1990), 105–108.
Ellison, J. and Kling, E. Joint Ventures in Europe. Butterworth, London, 1991.
Jaafari, A. Management know-how for project feasibility studies. Interna-
tional Journal of Project Management, 8(3) (1990), 167–172.
Killing, J. P. Strategies for Joint Venture Success. Praegler, New York, 1983.
Korbmacher, E.-M. Organizational problems in supra-company project
management. Nordnet 91 Conference. Trondheim, 1991.
Lee, M. K. and Lee, M. K. High technology consortia. High Technology
Law Journal, 6(2) 1991, 335–362.
Lloyd-Schut, W. S. M. Construction joint ventures: EEC competition
aspects. International Construction Law Review, 9(part 1) (1992), 3–10.
Loraine, R. K. Construction Management in Developing Countries. Thomas
Telford, London, 1991.
Merna, A. and Smith, N. J. Guide to the Preparation and Evaluation of
BOOT Project Tenders. Project Management Group, University of
Manchester Institute of Science and Technology, Manchester, 1993.
Morris, P. W. G. and Hough, G. H. The Anatomy of Major Projects. Wiley,
Chichester, 1987.
Pfeffer, J. and Nowak, P. Joint ventures and interorganizational interde-
pendence. Administrative Science Quarterly, 21 (1976), 399–418.
Schwartz, E. A. Disputes between joint ventures: a case study. Interna-
tional Construction Law Review, 3 (1986), 360–374.
Smith, N. J. and Wearne, S. H. Construction Contract Arrangements in EC
Countries. European Construction Institute, Loughborough, 1993.
Swierczek, F. W. Culture and conflict in joint ventures in Asia. Interna-
tional Journal of Project Management, 12(1) (1994), 39–47.
Walmsley, J. Handbook of Joint Ventures. Graham and Trotman, London,
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Williams, R. G. and Lilley, M. M. Partner selection for joint-venture

agreements. International Journal of Project Management, 11(4) (1994),
233–238.

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Procurement strategies for privately
financed projects
N. Smith

Introduction
The purpose of this chapter is to demonstrate the fundamental roles
adopted by the main stakeholders under their respective contrac-
tual arrangements in situations where private sector finance is being
used to wholly or partially fund a project. Two main types of organi-
sational structure are examined and the implications for all aspects
of procurement reviewed. An investigation into the increasingly
important use of public–private partnerships (PPPs) is presented,
and the chapter concludes with an overview of recent trends and
developments.
For more detailed information regarding all aspects of private
finance rather than just procurement, see Merna and Njiru (2002).

General procurement principles

As stated clearly in the earlier chapters of this book, ‘procurement’
is the term used to describe the overarching process of the identifi-
cation, selection and acquisition of civil engineering services and
materials; their transport, their execution or implementation; and
subsequent project performance. It includes the ‘internal’ aspects
of administration, management, financing of and repayment for
these activities.
With the more traditional forms of infrastructure procurement,
where the state uses public money, from taxation or borrowing, to
provide the capital costs and in some cases also the operational
costs, it is often difficult to identify some of these procurement
routes. In contrast, in privately financed projects the traditional
roles and responsibilities of the client have been taken on by the
promoter organisation and its contractual partners, and each aspect
is clearly defined and regulated.

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The life cycle of a typical construction project is shown clearly in

Figure 1.2 (see p. 7); superimposed on the cycle is the range of
procurement options over time. The privately financed option
shows that the promoter takes responsibility for all aspects of the
project from some point during the appraisal stage of the life cycle
until a predetermined date during the operating stage. Within a
concession type of agreement the promoter is established as a
special project vehicle (SPV), and as a ‘man of straw’ that is a legal
entity with no real asset value. Hence all services and materials will
have to be procured through secondary contracts.
Privately financed projects are illustrative of two key principles,
privatisation and collaborative working. Both of these have direct
implications for procurement. Privatisation obviously indicates the
procurement of funds, the payment of fees, the generation of
income utilising entrepreneurial expertise, and some transfer of
risk from the public to the private sector. Collaborative working
operates at two main levels: at the SPV level, where individual staff
from different organisations are brought together, usually for the
duration of the concession, but ultimately returning to their orig-
inal employer; and at the secondary-contracts level, where external
organisations have contracts for parts of the concession period with
the promoter organisation. A simple organisational structure for
this type of arrangement is shown in Figure 10.1.

Concession contracts
The definitions and terminology associated with private finance are
becoming more firmly established, although usage is not universally
consistent. The use of private finance for major ‘public sector’
projects is not new. Many private canal and railway transport projects
were undertaken in England in the 1880s and 1890s requiring
approval by Act of Parliament, prior to shares being issued to indi-
vidual and corporate private investors to raise the capital. An engi-
neer would then be engaged to procure the necessary goods and
services to implement the works. The private owners would then
operate the service and charge the public and other private users.
Better-known international examples include the Suez and Panama
Canals and the Trans-Siberian Railway.
These types of project tended to be overshadowed by state- or
public-sector-funded projects in most countries during the 20th
century, but by the mid-1980s pressures on public debt and levels of
taxation revived interest in the concept. Generally, the use of private
sector funding for a typically public sector project has become
known as a ‘concession contract’. Such contracts are also known as

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Principal

Concession
agreement

Supply
Suppliers Off-take
contract Users
contract

Loan Operation
Lenders Promoter Operator
agreement contract

Shareholders’ Construction
Investors
agreement contract Constructors

Figure 10.1. Typical organisational structure of a concession

build–operate–transfer (BOT) contracts, and many other acronyms

exist for variants of these procurement strategies.
Concession contracts may be defined as a project based on the
granting of a concession by a principal, usually a government, to a
promoter, sometimes known as the concessionaire, who is respon-
sible for the construction, financing, operation and maintenance of
a facility over the period of the concession before finally transfer-
ring the facility, at no cost to the principal, a fully operational
facility. During the concession period the promoter owns and oper-
ates the facility and collects revenues in order to repay the financing
and investment costs, maintain and operate the facility and make a
margin of profit.
The reason for the name ‘concession contract’ is easy to under-
stand. Effectively, the client, usually the government, is awarding a
concession to a private group, usually known as the ‘promoter’, to
provide some predetermined type of service or operating facility
of the type normally in the public sector for the period of the
concession.

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Secondary contracts
The term ‘secondary contract’ is given to each of the contracts initi-
ated by the promoter organisation to undertake the project. It
should be remembered that the promoter is usually an organisation
specially set up for the concession with minimum asset value. Hence
the need to use contractual arrangements to transfer work, risk and
incentive to other parties. The most important secondary contract is
the loan agreement drawn up between the promoter and the major
provider of debt finance. Some terms are defined below:

• Loan agreement: the contract between the lender and the pro-
moter. Lenders are often commercial banks, niche banks, pen-
sion funds or export credit agencies, who provide the loans in
the form of debt to finance a particular facility. In most cases
one lender will take the lead role for a lending consortium or a
number of syndicated loans. In the event of default by the pro-
moter the lender will have a contractual right to take over the
concession agreement, complete the project and operate the
project to return the investment.
• Shareholder agreement: if needed, this is a contract between inves-
tors and the promoter to purchase equity or provide goods in
kind and forms part of the corporate structure. The sharehold-
ers may include suppliers, vendors, constructors, operators and
major financial institutions, as well as private individual share-
holders. Investors provide equity to finance the facility, the
amount often determined by the debt/equity ratio required by
lenders or by a provision of the concession agreement.
• Operations contract: between the operator and the promoter.
Operators are often drawn from specialist companies or compa-
nies created specifically for the operation, maintenance and
sometimes training requirements of one particular facility.
• Construction contract: between the constructor and the promoter.
This may be a series of contracts for outline design, detailed
design, construction and commissioning or a type of turnkey
arrangement. Constructors are often drawn from individual
turnkey or private-finance construction companies or a joint
venture of specialist construction companies.

In ‘market’-led concessions these secondary contracts form the

basis for the project. As the term suggests, the promoter organisa-
tion is carrying the market risk. For toll roads or estuarial crossings
where revenues are generated on the basis of directly payable tolls
for the use of a facility, no off-take contract is required. Where
a service or product is being produced, it may be possible to

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reduce project risk further by introducing two additional contrac-

tual agreements:
• Supply contract: between a supplier and the promoter to supply
raw materials to the facility during the operation period. Sup-
pliers are often a state-owned agency, a private company or a
regulated monopoly.
• Off-take contract: in contract-led concession projects such as power
generation plants, a sales or off-take contract is often entered
into between the user and the promoter. The users are the
organisations or individuals purchasing the off-take or using the
facility itself.

Summary of the procurement procedure

The first phase of procurement requires the principal to determine
whether a concession project strategy should be advocated after an
initial feasibility study. If so, and it will not be so in every case, the
next stage is the pre-qualification stage. This forms the basis for
identifying suitable promoter organisations wishing to bid for a
particular project. A draft concession agreement is prepared by the
principal on the basis of the terms of the concession. A number of
suitable promoter organisations are then selected. The concession
agreement forms the basis of the principal’s invitation to tender.
The second phase requires a number of promoter organisations
to assess the commercial viability of the project based on the princi-
pal’s requirements as identified in the concession agreement. A
detailed appraisal indicates whether the project is commercially
viable and whether the promoter should proceed with the bid.
Secondary contracts are then identified and their influence on the
project considered. If the promoter deems the project commercially
viable on the basis of the secondary contracts, then a preferred
bidder or bidders is/are identified.
In the final phase, the principal initially appraises the conformity
of each bid based on the contract documents and then evaluates
each bid according to the package weighting identified by the prin-
cipal at invitation stage. The final concession agreement is then
negotiated with the preferred bidder and a contract awarded. If
agreement cannot be reached, the principal has to negotiate with
the ‘second’ preferred bidder to reach agreement.

Invitation to pre-qualify
Concessions can either be sought or invited by the principal or be
speculative ventures proposed by a promoter organisation. In the

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European Union, any project over 3.5 million euros has to go to

competitive tender. This accounts for the overwhelming majority of
concession contracts. However, around the world about 60% of
concession projects are speculative.
In the UK, principals invite promoter organisations to pre-qualify.
Unlike conventional methods of pre-qualification, which may consider
contractors for a number of future projects, pre-qualification for
a concession project is usually particular to a project. However,
in the case of small-scale ‘bundled’ or ‘portfolio’ concessions now
being considered in the health and education sectors, the
successful tender will be given future work subject to satisfactory
performance. It is important to note that the procurement process
has evolved since the early 1980s and is continuing to improve as
more concessions are agreed. The invitation to tender would normally
outline the scope of the project, its location, the programme pro-
posed, the concession period and, if applicable, the required tender
bonds.
Pre-qualification of promoter organisations may include assess-
ment of a financial report of the promoter SPV. This may include
the binding joint venture contract and any proposed secondary
contractors, the proposed sources of finance, the debt/equity ratio,
past concession work carried out by the promoter, and the range of
relevant technical, operational and financial capabilities necessary
for the project, together with resources and references. Relevant
health and safety records, quality assurance systems and the indus-
trial relations history may also be requested. There is no standard
pre-qualification document, and some principal organisations re-
quest data not required by others. The final selection of pre-qualified
consortia is usually made on the basis of meetings with and presenta-
tions from the promoter SPVs.

Concession agreement
In all concession contracts, it is the concession agreement which
defines the relationship between the principal and the promoter
SPV. A concession agreement consists of two distinct sections, first
the legal agreement comprising the general, specific and common
terms, and second the project conditions comprising the construc-
tion, operation and maintenance, finance, and revenue generation
packages. It identifies all risks, rewards and responsibilities of the
parties. Typically, in the UK, it would be drafted by the principal or
its advisers and be issued at tender with the intention of forming the
basis for final negotiation of the contract between the principal and
promoter. The terms and conditions are as follows:

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• General terms set out the nature of the agreement. They would
normally include items such as the purpose of the concession,
the commencement date of the concession, the concession
period, the procedures for granting the concession, the rights
of ownership, and any matters relating to confidentiality and
exploitation.
• Specific terms contain the details of how this particular agreement
will operate and how many of the risks and obligations are
shared. Naturally, many of the terms relate to financial and/or
contractual issues. Normally these might include restrictions on
the assignment of the concession, the terms of payment, the
degree of commercial freedom in operation, procedures for
making adjustments to the concession, exclusivity, compensa-
tion rights, taxes and duties, how to deal with any existing facili-
ties covered by the concession, interest rate guarantees, liaison
procedures, quality assurance systems, tax incentives, and any spe-
cific government incentives and support available or required
under the concession.
• Common terms are key factors affecting both parties, including
changes in legislation, necessary insurances, procedures for ter-
mination, and procedures for both force majeure and dispute
resolution.
• Project conditions. A concession contract is sometimes referred to
as a ‘four package’ contract, where the four packages would be a
technical package, an operational package, a financial package
and a revenue generation package. In order for the promoter to
be able to prepare this ‘package’ information, the concession
agreement has to clearly indicate the standards and constraints
affecting each package:
– Technical: required design standards and specifications, design
life, the layout of existing services, the maximum construc-
tion period, the method of bringing into operation or com-
missioning, any restrictions on the source of materials or on
the method of construction, programme of related works if
any, and warranties required during construction.
– Operational: a performance specification, minimum demand
levels and/or capacities, the transfer method at the end of
the concession, testing procedures, methods of measuring
off-take, accounts and records to be maintained, equipment
inspection procedures, vendor-operated equipment, ‘shut-
downs’, and staff training if applicable.
– Financial: debt/equity ratio, coverage ratio, working capital,
dividends, standby loan facility, shareholder agreements if
any, currencies of loans, and sources of finance.

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– Revenue generation: levels of tolls or tariff, period over which

tolls or tariff will be levied, frequency and method of toll
or tariff adjustment, minimum demand guarantee, escrow
arrangements, guarantee on minimum demands, and
subsidies.
In the UK, the principal prepares the tender documents, including
a draft concession agreement, the instructions to tenderers and the
criteria for award. The criteria for award indicate to the bidders how
the returned tenders will be assessed. This ensures that all bids
will be comparable and simplifies the tender evaluation process.
Typically, the criteria might include confirmation of meeting
the terms of the concession, information regarding the relative
weighting of each project package and other factors specific to the
project.
When evaluating bids, the principal must first establish compli-
ance with the invitation to tender, with the general, specific and
common terms of the concession, and with the project conditions. It
is rarely sufficient to use price as the sole criterion for evaluation,
and a number of factors will have normally been included as criteria
for award. Any evaluation process must also include the managerial
quality of the bid, its effectiveness and efficiencies, and cost savings
to the user and also to the principal upon transfer.
A matrix or criteria-weighting system associated with each bid
could be adopted. If four bids were submitted then the principal
would initially check that each bid met the terms of the concession
and the project conditions identified in the concession agreement.
The principal would then evaluate and compare the components of
each package of each bid based on the weighting system. The prin-
cipal would award each package a specific number of points based
on the evaluation.

Public–private partnerships
The first generation of concession contracts were large but profit-
able projects in which the private sector was responsible for raising
all of the necessary finance. This is not to say that the concession is
based solely on an alternative source of finance; it also utilises
the efficiencies and entrepreneurial skills of the private sector to
generate revenue. Hence the main general reason that govern-
ments are now looking closely at concessions includes the fact that
public infrastructure and services can be provided more efficiently if
the private sector is involved. However, many of the current genera-
tion of concession projects are politically and socially attractive to

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the principal but are not sufficiently financially robust to be fully

funded by the private sector; hence a balance of public and private
sector financing is required. These types of concession are known as
public–private partnerships.
The private sector is permanently looking for opportunities for
profitable investment. In recent decades, public infrastructure has
not attracted significant quantities of private funds. This is partly
because of the very long-term nature and therefore the long
payback period of the investments, and because of the problems of
charging users, but also because of the traditional central role of the
public sector in most countries. In the UK, it is only since the Bates
Reviews of 1997 and 1999 that private sector involvement in the full
range of public sector infrastructure began to be realised.
It has been stated by private organisations that a main obstacle to
greater involvement in PPPs was that public sector procedures and
decision-making were too bureaucratic and unwieldy. At the same
time, public sector representatives felt that the private sector was
looking for unrealistic rates of return and mitigation of risks. More-
over, public sector officials feared that handing over projects to the
private sector would leave them without control of the project
but with the responsibility for it. A further complication arises
because public investment decisions are usually open democratic
processes, including full details of the sums of money involved,
while private decision-making is a more closed, confidential proce-
dure; this can complicate negotiations between the sectors. A lack of
understanding of the respective roles and requirements of poten-
tial public and private partners could be an obstacle to developing
PPPs.
PPPs can involve a private sector contribution from 0% to 100%;
that is, they may vary from simple commercialisation to complete
privatisation. There is no single model, and each scheme has to be
tailored to the particular circumstances. Structures are very often
quite complex. Nevertheless, there are some clear common elements
to PPPs. Great care has to be taken at the start in setting up the right
structures so that the roles and responsibilities of the partners are
clear and agreed. Conflicts of interest should be identified and prop-
erly regulated. The project needs a strong owner. The sharing of risks
and responsibilities has to be negotiated in detail. The general prin-
ciple is that risks should be allocated to those who can best control
them. Risks which have been mitigated and managed should then be
used to re-examine the financing arrangements. This is an iterative
process at the early stages of the project. There is a major step change
at commissioning, where the project moves from an implementation
phase into operation, which is widely perceived as less risky. At this

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point there is an opportunity to refinance the concession with money

borrowed at lower rates of interest.
The structure of contractual relationships and the contracts
themselves play a crucial role in concession contracts. The principal
plays a complex role, trying to balance the need to regulate to
ensure that public accountability requirements are satisfied with the
need to be flexible to allow the private sector to operate effectively.
A key lesson from experience is that contracts need to be more flex-
ible, specifying mechanisms more than details. It is not possible to
put everything into the contract and it is pointless to try. The
emphasis should be on output specifications rather than input spec-
ifications, setting out clear performance criteria rather than prede-
termined technical requirements. This approach allows the private
sector to innovate while ensuring that public sector requirements
are met. A pragmatic approach is needed. Concession contracts
usually cover long time periods and it is impossible to make reliable
forecasts for 30 or 40 years, therefore the contracts should contain
clear mechanisms for their amendment over time.
If a project is considered to be viable, i.e. the identified risks
appear to be commensurate with the investment to be made and the
potential of realising a commercial return, it could be financed
solely from equity and debt finance from the private sector.
However, if the project is assessed to be too risky, it may either be
suitable for PPP or be a project not suitable for the concession type
of contract. In these types of arrangement both the public and the
private sectors have a role to play in project finance and the alloca-
tion of risk, as presented in Figure 10.2. There are usually two ways
to allocate risk: through a payment mechanism where the basic debt
and equity instruments can be combined to maximise the project’s
cash flow, and through specific contract terms. This manner in
which the public sector contributes to the PPP is described in detail
in the following section.

Public sector finance

Figure 10.2 is a schematic illustration of the possible options that the
public sector can take to help attract private investment, and to
minimise the private-sector-financing cost premiums. The private
sector debt and equity funding can be supplemented in a number of
ways ranging from an additional sharing of risk in the concession
agreement, a relatively easy option, to the injection of direct
finance, usually the last resort.
Risks associated with PPPs relate to both the commercial project
and the risk of the project financing itself. Financial risks are

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Public Private

Direct Indirect Equity Risk Debt Equity

Figure 10.2. Spectrum of public and private finance

associated with the mechanisms of raising the delivery of finance

and the availability of adequate working capital, and can be seen as
largely proportional to the riskiness of the project. In the concession
contract risks should be equitably divided between the public and
private parties involved. Certain risks are better managed by the
public sector. A risk which neither party can control should be
placed with the public sector because action will only be required if
the risk should occur, whereas the private sector will always put a
price on risks it cannot control, which will be ‘paid for’ in terms of
the cost of services and affect value for money whether the risk
occurs or not.
The types of risks to be borne by the public sector in its role as
principal in concession PPPs will be discussed below. However, as a
general rule, the principal should be prepared to retain some or all
of the risks where this does not threaten the incentive for efficiency
gains by the private sector, where the risk is largely outside the
control of the private sector and where the risk can only be trans-
ferred at a cost to the private sector which is far higher than
retaining the risk in the public sector.
Typically, in the concession agreement, the principal carries the
responsibility for the global risks. These normally include risks
outside the project elements but which can influence the perfor-
mance of the concession. They include the political, legal, commer-
cial and environmental risks affecting the concession. These risks,
being outside the management and control of the promoter, cannot
be allocated through secondary contracts, and are therefore usually
retained by the principal. The public sector is likely to resist such
a contractual position, claiming that legislative risks are part of
everyday business. As such, these risks will probably have to be much
debated and a negotiated position reached during the pre-comple-
tion stage of the agreement.
In a PPP the principal may be required to take responsibility for
additional risk so as to make the project acceptable to the private
sector. One obvious risk is the demand/revenue risk, which can be

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borne in a number of ways, for instance by providing a revenue

support guarantee in case of traffic flows falling below an agreed
level, or by ensuring that new developments will not be directly
competitive with and thus affect the revenue stream of a facility. The
public sector can also enter into commitments to replace direct
charges by proxies such as shadow tolls or leaseback fees.

Equity provision
Equity provision by the public sector is the third option shown in
Figure 10.2 and would be used if the redistribution of risk alone was
not capable of making the concession attractive. Equity from the
principal is usually in the form of land or, quite often, in the form
of an existing facility with an existing revenue-generation stream,
which is transferred to the promoter. The operation of an existing
facility can provide an immediate income, which the promoter can
use to reduce loans and repay lenders and investors early in the
project cycle.
Public equity gives the public and private sectors a common
interest in the project and helps to raise loan finance by improving
debt/equity ratios. It can also be sold once the project has a proven
track record, through a share flotation or a private placement with
institutional investors. Public or institutional investors can invest
in equity shares through a shareholders’ agreement as discussed
earlier in the chapter. Sometimes, third parties such as the Euro-
pean Investment Fund may take equity shares in selected projects
which satisfy their investment criteria.

Indirect finance
If further action by the principal is needed to make the PPP viable,
indirect methods of financing may be considered. By providing indi-
rect forms of finance, principals can exert influence on the financial
attractiveness of PPP projects by reducing their financial risks
without investing directly. This is achieved through the use of
numerous financial instruments, which include taxation proce-
dures and financial measures.
One of the common indirect tax procedures is the use of a ‘tax
holiday’. Here, the principal grants the promoter a tax exemption
period following completion date. In the UK concessions are
‘ring-fenced’ from the viewpoint of taxation but, once profitable,
become liable for corporation tax. By granting the tax break, the
principal is letting additional monies be retained by the promoter at
a time when repayments will be high. The principal does not receive

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any income from tax during the period of the break, but after the
break period tax will be paid from a facility which could not have
been completed without the indirect assistance.
Tax reduction/corporation tax advantages where the promoter is
given a reduced rate for a period following completion may also be
used. Again the principal does not gain the full rate of tax, but a
lower rate of tax from an operational facility is of more value than
insisting upon the full rate and having no facility to tax.
Governments can borrow money more cheaply than can the
private sector. Therefore the other major indirect financing approach
is to is to increase the ‘bankability’ of a project by providing credit
enhancement and/or extending the loan repayment period,
thereby reducing the financing costs. Structurally subordinated
loans, which are loans with longer maturity periods (over 20 years),
including the use of bullet loans with a single capital repayment on
maturity, and extended grace periods for capital repayment are
possible options.

Debt finance
This option from Figure 10.2 is very much used as a final resort.
However, in the case of a risky project a debt commitment with a
guaranteed loan from the principal may be the only way of reas-
suring the private sector of the viability of the concession. When
banks are asked to participate in the debt financing of a project they
look at the percentage of guaranteed loans. The higher the ratio of
guaranteed loans to normal loans, the more likely banks are to be
attracted to the financing of the project.
Early operational-stage loans are short-term public sector credits
which can be sold on to the private sector once the project has
reached financial stability, allowing public sector resources to be
recycled into new projects via a revolving fund mechanism. This type
of fund has been proposed in the USA under legislation passed by
President Clinton.

Public sector comparator

There is another factor in the procurement of concession contracts
that is not present in other types of procurement, and that is the
public sector comparator (PSC). In any decision about the use of
public-only finance or public–private finance of projects the prin-
cipal ultimately has to establish the value of the concession to
society. Principals need to consider the price of risk transfer, by
asking whether the amount of additional risk taken on by the private

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sector exactly equals the amount of risk reduced from the public
sector. However, it should be noted that despite the benefits
achieved from PPPs, it is argued that the proportion of the overall
financing provided by the private sector should be kept to the lowest
level possible because of the higher risk premiums when compared
with publicly subsidised or publicly backed debt.
To this end, a number of measures have been developed to
measure the cost of conducting a project in the public sector,
compared with the cost of using private sector money, for example
the value-for-money test developed by the UK Treasury in 1998.
However, the main UK method for evaluation and choice of public-
only or public–private finance is the PSC, which enables the govern-
ment to compare concrete PPP tenders with traditional, purely
public alternatives.

Procurement of PPP
Figure 10.3 illustrates a schematic overview of the major phases of
the PPP process. These phases are further discussed and explained
in the following text.
Initially, the suitability of the concession to operate as a PPP has to
be established. Support for PPPs by the principal is a major factor
and without full support it would be difficult to proceed. It should
always be remembered that PPP concessions are not a panacea and
that some projects might be more suitable for the public sector
domain. There should be consideration of the factors that will
ensure the effective application of a PPP: technical and organisa-
tional, marketing and financial, legal and administrative, policy and
regulatory, and political. Is there sufficient flexibility granted to
the promoter organisations to enhance the project’s commercial
viability to improve project viability? If not, the PPP option should
be abandoned.
Once the basic features of the PPP have been agreed, two types of
analysis should be undertaken for risk and finance. A financial anal-
ysis and a socio-economic analysis are usually completed so as to
determine the extent of the PPP funding ‘gap’ in the project. This
information will indicate whether the project’s objectives meet the
required PPP objectives; this will then indicate whether the project
can proceed to tender stage, whether it should be abandoned or
whether it needs to be re-engineered. Sometimes the restructuring
of projects or the combination of project ideas into group or port-
folio projects can produce stronger PPP concessions.
At tender stage the project criteria are passed from the principal
to potential promoters, who should prepare a pre-qualification

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Project

Screen Yes
for PPP Risk analysis
Financial analysis
Social cost–benefit analysis

No
Draft concession agreement Invite to pre-qualify

Pre-qualification

Invite to tender

Evaluation

Preferred bidder

Re-appraisal negotiation

Public
OR Agreement
sector

No agreement

Abandon Award

Figure 10.3. PPP procurement

document for evaluation. Potential tenderers will be shortlisted and

supplied with a draft concession agreement outlining the terms and
conditions of the contract. On the basis of this, selected tenderers
will submit their bids for evaluation by the principal; the preferred
tenderer will then be identified.

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Conclusion
The procurement of concession contracts and PPPs can take many
forms, from large, international projects to small, bundled, social
projects. The restrictions on the use of public funds combined with
the continued demand for infrastructure means that the procure-
ment of such concessions is likely to be of significance in the
short-term and possibly medium-term future. Although of a
different culture from the traditional public sector procurement
methods, concessions offer viable alternatives for long-term agree-
ments between the public and private sectors to provide and operate
infrastructure and/or services. PPPs involve a sharing of responsi-
bility and risk by the public and private partners.
PPPs have the potential to provide, through financial engi-
neering, an optimum combination of public sector and private
sector approaches. However, PPPs are not a panacea and are not the
best solution in many cases. The procurement of concessions and
concession PPPs has to be structured with great care at the start to
make the project requirements, roles and responsibilities clear and
to regulate conflicts of interest. Contracts should cover all the major
aspects of the PPP project but should allow some flexibility for inno-
vation and economy, specifying performance requirements and not
necessarily technical details.

Bibliography
Carter, B., Hancock, T., Morin, J.-M. and Robins, M. Introducing RISKMAN
Methodology. The European Project Risk Management Methodology.
Blackwell, Oxford, 1994.
European Commission. PROFIT 2001. Private Operation and Financing
of Trans-European Networks – Public Private Partnerships. DG TREN
5th Framework RTD project ST-98-SC-3035. European Commission,
Brussels, 2001.
Levy, S. M. Build, Operate, Transfer: Paving the Way for Tomorrow's Infra-
structure. Wiley, New York, 1996.
Merna, T. and Dubey, Financial Engineering in the Procurement of Projects.
Asia Law and Practice, Hong Kong, 1998.
Merna, T. and Njiru, C. Funding and Managing Infrastructure Projects. Asia
Law and Practice, Hong Kong, 1999.
Merna, T. and Njiru, C. Financing Infrastructure Projects. Thomas Telford,
London, 2002.
Merna, T. and Owen, G. Understanding the Private Finance Initiative. Asia,
Law and Practice, Hong Kong, 1998.
Merna, T. and Smith, N. J. Guide to the Preparation and Evaluation of
BOOT Project Tenders, 2nd edition. Asia Law and Practice, Hong
Kong, 1996

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Merna, T. and Smith, N. J. Projects Procured by Privately Financed Concession

Contracts. Asia Law and Practice, Hong Kong, 1996.
Merna, T., Payne, H. and Smith, N. J. Benefits of a structured conces-
sion agreement for build–own–operate–transfer projects. Interna-
tional Construction Law Review, Jan. (1993), 32–42.
Smith, N. J. (ed.). Managing Risk in Construction Projects. Blackwell Science,
Oxford, 1999.

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Framework agreements
D. Bower and P. Garthwaite

Introduction
As clients recognise the value of long-term arrangements, frame-
work agreements are becoming increasingly popular. A framework
agreement in itself gives no work to the contractor and may be
non-exclusive. It is a long-term commitment between the parties
that enables clients to place contracts on pre-agreed terms, specifi-
cations, rates, prices and mark-up that are embedded in the frame-
work to cover a certain type of work over a period of time or in a
certain location or both.
The contractor makes staff, designers and construction resources
available to undertake these contract packages as they are award-
ed and ensures their completion within agreed standards and
timescales. The framework agreement is developed to deal with a
variety of issues and these are explored in this chapter, including
setting up the strategic alliance. In this chapter the term ‘alliance’ is
used to cover all forms of collaborative arrangement between parties.
The establishment of a framework agreement and the elements
requiring consideration are detailed, and a framework model is
described.

Partner selection
Many companies recognise that by working closely with other organi-
sations they will be able to develop, produce and sell their products
more successfully over an extended period of time. Combined efforts
can improve a firm’s alien appearance when entering a new market
locally, nationally and internationally; they can optimise risk sharing;
and they can develop knowledge of new technologies. In essence,
such alliances are formed when the perceived benefits outweigh the
expected extra costs. When one is forming an alliance, the elements
shown in Figure 11.1 must be considered. These are referred to as the
‘enabling elements’.

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Goal compatibility

Cultural traits Resource complements

Strategic traits Enabling elements Commitment

Organisational traits Capability

Financial traits

Figure 11.1. Enabling elements in alliance formation

Cultural traits
Collaboration and cooperation between parties from differing
cultures will always create complexities within any situation. Friction
can occur, firstly, when one party unilaterally imposes its own
culture and normal behavioural standards on another party within
the agreement and does not consider the cultural attributes that
could be brought by the other party. Secondly, one party may inad-
vertently give up its own culture to the other party.
Corporate cultures also have an important influence on partner
selection. Potential partners need to assess how well differences
between organisational cultures can be managed to develop a
mutual trust. This is done by looking at the organisational and
management compatibilities by asking questions such as: What
differences exist in organisation structure or business strategies
between the parties? Is decision-making centralised or decentral-
ised? How compatible are the company visions and mission state-
ments? Are both management teams committed to overcoming
cultural differences?

Strategic traits
‘Interpartner fit’ is a term widely used to describe the skills that
already exist in the partnering parties. This is a party’s ability to
acquire, copy, integrate and manipulate knowledge and skills, and
depends significantly on how newly acquired knowledge links fit
with their existing knowledge bases. This is often called a party’s
absorptive capability, and it is from these knowledge bases and links
that the strategic organisation fit is determined. A party’s absorptive
capability is positively correlated with an alliance’s profitability and
sales growth.

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Industrial and business background, market position, and

marketing and distribution networks are a good indication of a
party’s market power. Should a party’s market power be proportion-
ally significant it can result in the party being able to direct industry
output, increase its bargaining power and also offer economies of
scale. This can be a major advantage in a multi-project environment
where bargaining is required for numerous projects, and also
regarding the economies of scale when considering a multi-project
environment of the kind described in Chapter 13. Strong market
powers can also result in greater bargaining power with govern-
ments, and thus in reducing the political risks and business
uncertainties.
Linked with market power is market experience. An established
history and strong background in a market generally mean that the
party will have a solid marketing and distribution network. Business
activities by the strategic alliance could be easier to integrate into
markets using parents’ connections and relationship networks.
Product relatedness between the parties can be helpful in the
establishment of a long-term relationship between parties. Should
parties create similar products before the formation of the frame-
work agreement, it could result in an economy of scale and influ-
ence the scope and efficiency of transaction costs owing to the use
of existing distribution channels, production facilities, marketing
skills and consumer loyalty. This could also help to establish rela-
tionships outside the framework agreement with suppliers, distribu-
tors, customers and governments.

Organisational traits
Geringer (1988) pointed out that economies of scale, market power,
process innovation and organisational image can all be linked to a
party’s organisation size, and that organisation size is positively
linked to any strategic alliance’s survival and growth. Alongside the
above, a larger organisation size allows an improved ability to reduce
risks and mitigate uncertainty. One concern with large conglom-
erate parents is that strategic alliances do not always receive the stra-
tegic attention and commitment required.
International business experience is always attractive to potential
partners because it represents wider perspectives than those of
others, an advanced knowledge of other jurisdictions and possible
adaptability and willingness to cooperate. Previous work between
the potential partners is also an advantageous trait when consid-
ering framework agreements. Economic transactions between
parties help to improve social-relation embedment between the
partners, and thus help instil trust and deter opportunism within

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the framework agreement. Secondly, previous successful coopera-

tion between the parties can lead to the development of skills and
routines that are specific to any following relationships between the
two parties and can be used, on a form of trust within a framework
agreement, to reduce the number of control measures (discussed
later). The operation and management of joint values can be
improved if the partners have understood and correctly acknowl-
edge each other’s strengths and weaknesses.
Other organisational attributes that need to be considered include
organisation skills such as the ability to blend the various techniques
and capabilities of job design, recruiting and staffing, training,
performance appraisal, compensation and benefits, career develop-
ment, and labour management relations. Not all the aforemen-
tioned are relevant to a framework agreement individually, but a
number will be included within the consideration of the contribu-
tions to be made by the individual parties to the strategic alliance.

Financial traits
Financial interpartner fit concerns the cash flow position and
capital structure similarities between parties. The idea is that the
partners will be able to judge the total risk of a capital project and
develop the appropriate risk-adjusted discount rates used when
assessing the project. This will be a standard requirement in a
multi-project environment owing to the anticipated use of the above
systems and their importance.
Risk management aims to reduce the vulnerability of the venture
to external hazards and internal instability. Flexibility may be
required from all parties to allow for alterations to asset structures or
even the whole venture or alliance, through an agreed variation to
the framework agreement. This can result from numerous factors,
including exchange rates, which are extremely important to inter-
national ventures.
Finally, and possibly most important of all, there is the financial
ability of potential partners. There are a number of financial capa-
bilities to be researched before a framework agreement can be
developed. These are: profit making, including the ability to exer-
cise cost control, increase revenue, reduce taxes and expenses,
and maximise operational efficiency; allocation and utilisation of
capital, including the ability to allocate and use working capital,
obtain local financing, use and control debts, and manage risks; and
assets management, including the ability to optimally deploy assets
and resources, manage accounts receivable and cash flows, and
manage fixed and intangible assets.

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Goal compatibility
The compatibility of the goals set for a strategic alliance by its
parents affects how the parents behave cooperatively or opportu-
nistically. Different goals between the parent parties regarding the
alliance or joint venture ‘plant the seeds for subsequent oppor-
tunism and conflict’. Goal congruency reduces a party’s uncertainty
about the future behaviour of another party to the agreement,
allowing a better response to the other party’s strategies, and creating
a better organisation fit and strategic symmetry between the parties.
This goal congruency can stimulate the commitment by all parent
parties, increasing motivation, and allows the alliance to move in the
same direction collectively.
Goal congruency is critical in contracts of high complexity and a
proposed long lifespan. Each parent needs to evaluate the objectives
of potential partners, identifying their compatibility and concluding
whether the parties could work together. If the answer is no, then
consideration should cease at this point. Goal congruency harmo-
nises the interests between parties that would otherwise give way to
antagonistic and opportunistic pursuits.
It is important to not confuse goal compatibility with goal identity.
It has been stated that the strongest environment for an alliance is
one in which strategic goals converge and competitive goals diverge.
So long as the partners understand and respect the other partner’s
goals, and the goals are not in conflict, a strong goal congruency can
be created. An example is when one party is interested in the local
market, whilst another partner is concerned with exports.

Complementary resources
Having complementary resources allows a reduction in governance
and coordination costs, stimulating information exchange during
diversification. It not only improves operational and financial syner-
gies but helps to improve influential learning curves. Following
from this it could be said that a framework agreement is a contrac-
tual and strategic method to combine complementary assets and
resources, and aims to develop new skills that the partners lack to
fulfil their strategic objectives, from the other partner(s).
The question of what are complementary resources and their rank
within the framework agreement can be left to the individual situation.
These complementarities can include missions, resources and manage-
rial capabilities, or be complementary skills that create a balanced
bargaining power and strategic fit between those privy to the agree-
ment. Where each partner contributes one or more distinct elements
in production or distribution, two examples of the possible use of
complementary resources are vertical quasi-integration, and hori-
zontal linkages between the parties’ strengths in geographical areas.

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Commitment
Some would say commitment is the most important element of
the partner selection process, because without full commitment,
a percentage of opportunism will exist. If partners are perfectly
compatible, then without commitment to the framework agree-
ment, when troubled times arrive, such as a change in market condi-
tions, the individual parties will not be prepared to afford the time,
finance or resources to keep the agreement functioning, and to
strive to realise the strategic objectives.
Without commitment to the agreement, trust between partners
will disintegrate, sowing the seeds for opportunism and frustrating
one of the most important aspects of the agreement, cooperation.
This will then lead to poor maintenance of the ties between the part-
ners due to the breakdown of compatible goals, and the balance of
risks will change.
Therefore, it can be seen that party commitment to the frame-
work agreement is essential as a stabilising device against unex-
pected environmental changes and market developments. If com-
mitment is high from all parties concerned, then interpartner
conflict will not greatly affect the stability of the agreement, but if
low, this could result in the primary source of instability being
conflict between the parties.

Capability
Capability in this sense is not about having the ability to provide the
resources or skills that are missing from the other partners. Here
capability is the organisational capability of providing an essential
supply base for the resources needed to create a long-term agreement.
Partners, through their due diligence studies, should use value-
creating logic to assess the ability potential partners hold to tilt the
market and competitive balance in favour of the strategic alliance.
Hamel et al. (1989) conclude that three unique aspects provide
capability: unique capabilities that cannot be trusted easily across
companies; unique capabilities that cannot be easily substituted;
and unique capabilities that cannot be independently developed or
replicated within a reasonable time-frame. Examples include close
interpersonal relationships with the local government authorities or
the business community.

Confidence in partner cooperation framework agreements

So far in this chapter, the enabling elements of alliance formation
have been discussed. From these it can be seen that within frame-
work agreements there is an underlying potential for opportunistic

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behaviour by any partner involved, and thus an adequate level of

confidence is required. framework agreements are interpartner
cooperation plans to coordinate two or more partners pursuing
shared objectives, and therefore satisfactory cooperation is funda-
mental. From this it is plain to see that a low level of confidence will
lead to partners being suspicious of the other partner or partners (if
a framework agreement is created in the first place) and the working
relationship will deteriorate. The trust and control aspects of the
framework agreement environment are the sources of confidence.

Partner cooperation and confidence in partner cooperation

A number of authors, when considering partner cooperation, have
discussed the interpartner cooperation uncertainty that can exist.
The definition adopted for this chapter is the willingness of the partners
to pursue mutually compatible interests that creates the framework agreement,
rather than self-interest seeking with guile.
Partner cooperation is characterised by honest dealing, commit-
ment, fair play and complying with agreements. Truthfulness and
commitment have different strategic effects within a framework
agreement, where truthfulness is linked to developing confidence
and commitment is an elemental building block of the agreement
itself. Although the parties are expected to pursue their own inter-
ests, at the same time these must ensure that the framework agree-
ment and the alliance contained within are followed correctly. This
appears paradoxical, and a number of authors have gone on to state
that if competition and cooperation are at variance, a sufficient level
of cooperation cannot be achieved. Therefore, it can be concluded
that partner cooperation is essential for a successful framework
agreement to exist, but is difficult to achieve.
It is this prerequisite of partner cooperation that enables a confi-
dence in partners and their cooperation to be built, but by no means
is it as automatic as it sounds. Das and Teng (1998) define confi-
dence in partner cooperation as ‘a firm’s perceived certainty about
satisfactory partner cooperation’. This definition is quite vague and
does not show a direction for the perception. Therefore, for this
chapter, the following definition of confidence in partner coopera-
tion will be used: confidence in a partner’s cooperation is the expectation of
a partner’s conduct regardless of the first partner’s own. This implies that
the perception and judgement of confidence can only be away from
the assessing party and have to be an evaluation of a fellow partner
within the framework agreement.
Using the word ‘expectation’ helps to build a sense of uncertainty
and implies a probability of an event occurring. It is here that the
concept of control enters the equation. Probabilities imply risks and

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risk has to be managed and controlled. By controlling the risks, the

confidence in the outcome of the framework agreement and the
behaviour of the partners can be increased. Having now developed
the existence of trust and control within confidence levels of partner
cooperation, we shall now consider them in turn and examine the
relationships they hold.
When a company has adequate control over its partners within a
framework agreement, that company will have a reasonable confi-
dence in cooperation from those partners. Das and Teng (1998)
detailed a number of approaches to control and the terminology
that is utilised. They explain that, due to diverse opinion, control
can be considered simultaneously as an organisational set-up, a
process of regulating behaviour and an organisational outcome. For
use within this chapter, control is defined as a means of operation to
implement standards developed for the achievement of the framework agree-
ment and partners’ objectives.
Control mechanisms and the level of control are two integral
instruments to gain and keep control. Control mechanisms exist to
help the achievement of a satisfactory control level, where the
control level is the degree to which a party feels others are cooper-
ating. From this it can be seen that control is used to improve the
predictability of attaining the organisation’s goals, creating more
certain results and thus generating a confidence aura.
Partners over time can develop close bonds within framework
agreements, forming positive feelings regarding each others’ conduct,
and it must be noted here that a minimum level of interpartner trust
is required for a framework agreement to be formed and function.
Every project in a multi-project environment contains an element of
trust of all partners within the framework agreement. Should this
trust be damaged in one project, a detrimental effect will occur in
others within the framework agreement and the multi-project envi-
ronment to differing levels.
Control mechanisms are organisational arrangements intended
to enhance the level of control. On the one hand, some believe that
control mechanisms undermine the trust level in framework agree-
ments by implying that one party does not trust the other(s). This
could possibly then result in a vicious cycle of ‘if you do not trust me,
I do not trust you.’ In contrast, control mechanisms could be viewed
as building mutual trust through the provision of a track record,
developing trust from the successful results of previous outcomes.
This is idealistic for a multi-project environment, where, after the
completion of each individual project successfully, the level of trust
will increase. Legalisation in terms of reliance on formal rules and
standardised procedures can facilitate the development, diffusion

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and constructive institutionalisation of trust in organisational

settings. It makes sense that a framework agreement should include
within its structure a system of developing trust through control
mechanisms.
Outcome control and behaviour (process) control are linked
together under the title of ‘formal control’ and are defined as the
employment of rules, goals, procedures and regulations describing
the expected outcome and behaviour. ‘Social control’ is the people
aspect that is always important and is about achieving desirable
behaviour through organisational values, norms and culture devel-
oped within the framework agreement.
Using formal control by setting the boundaries of the framework
agreement using specific performance goals for output control and
specific processes for behaviour control means that full autonomy
for the agreement relationship cannot be achieved. This can lead to
an opinion of mistrust and creates a negative relationship between
formal control and trust level. Research has already begun and it has
shown that not only can contractual safeguards create a lowering of
trust levels, but so can poorly designed formal control mechanisms.
Social control uses the assumption that people determine their
own behaviour, and this is achieved using the influence of shared
goals, values and norms. Owing to the personal-determination factor
of social control, interpersonal respect and less mistrust create a
base for trust construction to commence. Social control, owing to its
nature, takes time to evolve and develop because social control blos-
soms through socialisation, interaction and training. Therefore,
from the above section it can be seen that use of formal control
mechanisms can hinder the level of trust among the framework
agreement partners. Also, the use of social control mechanisms
intensifies the level of trust between the framework agreement
parties.
There can be unexpected negative occurrences resulting from
using control mechanisms and this affects control. These negative
occurrences could include operating delays, gamesmanship, nega-
tive attitudes and behavioural changes, and it is these negativities
that result in framework agreement partners not achieving complete
effective control using control mechanisms.
To back up the suggestion that trust is a moderator between
control mechanisms and the control level, Goold and Quinn (1990)
have stated that ‘trust is a prime prerequisite of effective control’
because the utilisation of control mechanisms requires a certain
level of trust. Therefore, without a minimum level of trust, a frame-
work agreement’s goals, rules and development of teamwork could
be impossible. With this minimum level of trust between partners,

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there is a smaller chance of control mechanism failure because the

partners understand each other better.
It can be seen that trust induces desirable behaviour in framework
agreements and, although a good level of control requires trust,
trust on its own cannot be attributable to control. Trust is a personal
perception and does not influence the others’ behaviour. If that was
so, trust would be a control mechanism. Therefore, trust must be a
moderator between control and control mechanisms. It has been
shown that when trust is high, control mechanisms are more effec-
tive in providing a sufficient level of control, i.e. trust allows easier
operation of control mechanisms.

Building trust in framework agreements

Now that we have seen that trust is a necessity for a control mecha-
nism to be used effectively to create a satisfactory control level,
discussion needs to centre on methods of building trust within the
framework agreement. There have been several methods identified,
as follows: trust from communication; trust from risk taking; trust
from equity preservation; and trust from interpartner adaptation.

Trust from communication

Open and prompt communication is mandatory for any interaction
to take place, certainly for trust-building relationships. Communica-
tion removes possible difficulties in the operation of a framework
agreement by providing the infrastructure for cooperation and the
ability to resolve conflicts and unfavourable situations. Due dili-
gence is an integral part of the framework agreement process, and
without communication this method of trust building would not be
feasible. This method also works in reverse, where proactive infor-
mation exchange shows openness and trustworthiness. The passing
of unsolicited and sensitive information shows intimacy and good-
will, thus developing a supporting environment.
This helps to provide the moderator for social controls through
the development of cultural norms and common values, by creating
a familiar and level communication arena as a result of continued
information exchange. When partners are interacting in a friendly
and equal environment, trust will be automatically developed.

Trust from risk taking

Trust is closely linked with risk and risk taking, with many authors
believing that trust and risk form a reciprocal relationship, i.e. trust
leads to risk taking, and risk taking (if successful) gratifies a sense of
trust. Creed and Miles (1996) state ‘trust begets trust’, and from this
point it is felt that a good start procedure to boost trust among

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partners in a framework agreement is to signal one’s commitment

and trust through a significant level of non-recoverable investment
at the start of the framework agreement.
This significant investment does not have to be in one single trans-
action but can be split into small, regular commitments, for example
incremental resource commitments. Methods of trust building such
as this help to develop an opinion about the party through all peers
and are probably the simplest form of trust building. Locate a partner
that has a good reputation of being honest, fair and trustworthy.

Trust from equity preservation

Equity in the sense of this chapter means that the partner contrib-
uting the most tangible and intangible resources to the framework
agreement should get the most from it. It has also been shown that
people within an organisation need measurement and equity to
appreciate interactions.
The idea of equity of motivation states that people are preoccupied
with maintaining a fair relationship rather than concentrating on the
efficiency and productivity of the relationship. This leads us to say
that unfair relationships can result in one party feeling someone is
taking advantage and that party’s confidence, and even commitment,
will reduce, despite the framework agreement being successful.
Therefore, it can be seen that equity is an important source of
trust within a framework agreement and lack of equity can damage
mutual trust. It is also clear that where a level of trust already exists
between partners, extended periods of inequity create tension and
develop a strain within this existing trust level. This in turn suggests
that when trust is being built, the benefits from the framework
agreement need to be on an equitable basis.

Trust from interpartner adaptation

If one partner adapts to meet the needs of other partners this develops
trust, and interpartner adaptation is the adjustment of a party’s behav-
iour to fit between the partnering parties or between the framework
agreement (in this instance) and the environment. There is a need for
all partners within the framework agreement to be as flexible and
willing as feasible to allow divergence from the framework agreement,
when necessary to carry out the adaptations to build trust.
A good example that is regularly quoted in texts is the host
country of a joint venture imposing new laws prohibiting majority
equity shares by foreign parties; then both parties must adapt. Such
a situation, although possibly painful in economic or other terms,
would earn much trust from the partner. From this it can be agreed
that adaptation for the benefit of the framework agreement would
earn trust from your partner(s).

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Control mechanisms in framework agreements

Now that we have discussed the trust-building tactics that exist
in framework agreements, it is appropriate to discuss the control
mechanisms used to create and develop confidence in a partner’s
cooperation. A number of control mechanisms already exist, such
as cybernetic regulations and information-processing devices. Two
main forms of control exist: formal control and social control. It
is important that the differences between them are understood
because it is the utilisation of these that creates the relevant control
mechanisms for framework agreements. These mechanisms are
goal setting, structural specification and cultural blending.

Goal setting
Locke and Latham (1984) describe goal setting as the establishment
of specific and challenging goals within organisations. Objectives
management is seen as a suitable method for enhancing control and
boosting performance, with it being used by nearly all companies in
some shape or form. In framework agreements, the partners usually
aim for a high degree of goal formalisation using short-term rather
than long-term goals. Short-term goals are used because perfor-
mance evaluation and feedback are monitored more frequently.
It is extremely important that the definition of the goals is included
within the control mechanism, along with measurement systems
and reinforcement methods. Clear objectives also help to direct the
framework agreement, allowing the establishment of rules and regu-
lations. Goals also specify what each partners’ contribution is expected
to be and provide a background to find any incongruent behaviour
from partners.
Having described the effect of goal setting on formal control, we
can also say that goal setting has an influential effect on social
control. Participatory decision-making that is necessary between
partners develops a control as the understanding of each other
improves, creating norms and collective values to be used in the
framework agreement. This means goal setting forms a consensus
gradually, reducing the likelihood of agreed objectives being ignored.
Therefore, it can be seen that goal setting is a good system of inte-
grating formal and social control within the concept of confidence
in partner cooperation.

Structural specification
Structural arrangements, rules and regulations are the innermost
part of formal control. Because of the high degrees of goal incon-
gruence and performance ambiguity, formal control is particularly

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relevant to framework agreements. For the sake of this model, ‘ex

ante deterrents’ and ‘ex post deterrents’ are the most appropriate.
Ex ante deterrents are designed to minimise a partner’s incentive
for opportunism. Examples include non-recoverable investments
that lose much of their value should the agreement fail, and help to
create responsible behaviour as a result of the stake in the agree-
ment each partner holds. This has resulted in the suggestion that
equal equity ownership helps to reduce opportunism and is thus a
more effective control mechanism.
Ex post deterrents are the structural safeguards against oppor-
tunism. These are reporting and checking devices, written notice of
any departure from the framework agreement, cost control, quality
control, arbitration clauses, and lawsuit provisions. The structural
specifications are agreed during the negotiation stage, and if this
does not occur it has been suggested that bargaining power is the
next resort. In essence, rigid structural arrangements set the bound-
aries for the conduct of the framework agreement partners.

Cultural blending
As expected, an integral ingredient of social control is organisa-
tional culture, where organisational culture is defined as the shared
values and norms that state the expected attitudes and behaviours
from all partners. It is these shared values and norms that provide
the control through the voluntary behaviour of partners to fit into
the environment of the framework agreement.
The main concern with framework agreements for the partner
organisations is loss of identity. Therefore, the challenge is to make
cultural blending work, but ensuring that identities remain as indi-
vidual as possible. Another challenge that exists is the blending of
very differing cultures, and the prime example often used is a rigid,
large company together with a flexible, small company.
Culture management is integral to success mainly because there
are no alternatives, unlike goal setting and structural specification.
The key to successful culture blending is socialisation, by providing
interaction periods where managers familiarise themselves with the
other partnering companies. This helps to develop the common
values and norms for the framework agreement.

Ownership balance and structure

If the framework agreement relates to a specially formed company
then framework agreement ownership has a strong effect on the risk
sharing and resource commitment of the partners, and the vulnera-
bility and strategic flexibility of the framework agreement. Here,

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framework agreement ownership means the balance of the privity of

each partner relevant to its contribution or the division of the equity
invested. If an agreement between two partners is equally split then
this is an equal partnership. Any other balance will result in a
majority–minority ownership. Both majority–minority and equal
ownership can exist when multiple partners exist.
The balance of equity often reflects the profit remittance scheme,
showing how any benefits or losses are distributed throughout the
partners. The ownership balance/structure often shows a partner’s
investment strategy, owing to the close relationship between a
company’s capability to contribute strategic resources and the
balance of ownership within the framework agreement.
The assets created for the benefit of a framework agreement,
for example human capital, are often intangible and ownership-
specific. Therefore, when the collecting of resources and core
competencies occurs, it is the equity distribution within the frame-
work agreement that allocates the responsibility for provision.
Finally, the exposure of a framework agreement to host govern-
ment intervention can result in the development of a specific equity
balance. As with any management forte, high interaction with
the environment requires a need to decentralise decision-making
power, i.e. a local company from the jurisdiction where the frame-
work agreement is set would be best placed to take a majority control
when there is high governmental intervention. This can be devel-
oped in the opposite direction by stating that when foreign partners
hold a greater proportion of equity, lower risks and uncertainty are
assumed by their effort towards the framework agreement.

The different ownership structures within a framework

agreement
It is clear that for each partner, three types of ownership exist: (1) a
majority ownership; (2) a minority ownership; and (3) an equal split
or 50:50 ownership (if there are only two parties).
The main theory behind majority ownership is derived from trans-
action cost theory, where majority equity is necessary to gain domi-
nance so that the party can effectively minimise transactional risks.
Another advantage of a majority–minority ownership is that there
is a reduced need for interpartner negotiations and bargaining
during any decision-making processes.
It must be stated though, that majority ownership is not free.
Well-documented examples are Xerox entering China and 3M
entering China, where joint venture agreements were entered into
in which Xerox and 3M were the majority holders, but had to

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endure a 50:50 profit split and export of all goods, respectively. It

has also been noted that unequal balances can result in a change in
the equilibrium of dependence, with the majority owner becoming
more dependent on the partnership and therefore losing some of its
relative bargaining power.
There is also a concern that the majority stakeholder may strongly
push denouements to a vote, knowing it has a stronger influence.
This can create a reduction in the commitment of the minority
stakeholder, culminating in the removal of its share of equity, for
example access to land, labour, financial resources, marketing chan-
nels or supply networks.
Equally split ownership helps to ensure that neither parties’ aims
and interests are quashed, by ensuring that the top management
from each parent is sufficiently interested to avert problems in the
framework agreement. An equal balance of equity in a framework
agreement is often seen as the typical arrangement.
Owing to this balance of ownership, it can be seen that many other
aspects need to balance to aid gaining success with the framework
agreement. These aspects include a common language, similar back-
ground knowledge, and the sharing of long and short-term goals and
objectives. Implementation then takes place using the leadership and
coordination derived from the parties’ similar systems.
The ownership balance is influenced by a number of different
factors, namely environmental dynamics, governmental policies,
organisational experience, mutual needs and bargaining position,
strategic intention, investment commitment, knowledge protec-
tion, and global integration.

Ownership structure and control within a framework

agreement
The balance of ownership is dependent on the relative importance
of the investment to each of the individual parties. This can then be
developed to imply a level of control that each party aims to hold
within the framework agreement; for example, should one party
wish to hold a strong control over the agreement, a majority equity
share would be the probable outcome.
Increased control also allows the majority party to have a greater
influence on knowledge and learning transfers. Should a larger
majority be owned by a party, it will allow an enhanced control of
resource application, thus increasing the control over proprietary
knowledge leaks, will allow a more effective control of activities for
that party’s benefit and will enable a greater scope for strategy
implementation.

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Another aspect is the relative influence of tangible and intangible

resources on the framework agreement’s structure and control.
Non-equity and intangible resources have been shown to have a
larger influence on the control a party holds within an agreement.
This can result in a minority party with the intangible resources
having a stronger bargaining position than even a majority equity
holder.
As can be seen, the ownership balance and structure are an inte-
gral aspect of framework agreements. Owing to the large number of
elements that can influence the ownership balance and structure,
the authors believe that the balance and structure of the equity
applied between the parties should be derived as negotiations develop
rather than stated as a figure to start.
This can be shown from the number and diversity of the determi-
nants of the external and internal controls. The balance of owner-
ship relative to internal controls is described through the issue of
control. The party requiring the greatest internal control will prob-
ably provide the largest share of equity to gain the most influential
level of control over internal determinants. External determinants
will affect the relative ownership balance due to the location of the
parties, whether physical or non-physical. This means that the party
in the best position to control the respective external determinants
should take a larger stake in equity to improve control on behalf of
the framework agreement’s success.
In essence, it can be seen that ownership balance and structure
are about developing the best control of the numerous influences in
the framework agreement. Therefore, should one party have a
greater control of one area, that party should take a larger stake in
the framework agreement. Then, once all influences have been
researched, the ‘scores’ for each influence should be totalled to
create an overall ownership balance and structure to be integrated
within the framework agreement.
This has to be one of the most important parts during negotia-
tions and post-negotiations owing to the definitive effect that
follows. Failure in the form of starting with an incorrect balance
could prove fatal.

Knowledge and learning transfers within framework

agreements
Knowledge and learning transfers are necessary to make a frame-
work agreement function. One of the main reasons parties collabo-
rate together using the framework agreement format is to gain
access to knowledge, skills or resources that cannot be created

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internally in a cost-efficient or time-efficient style. Nine benefits that

can be gained from interpartner learning are:

1. Scrutinising partner commitment.

2. Improving knowledge flow.
3. Aligning the different cultures.
4. Building interpartner trust.
5. Integrating acquired knowledge.
6. Preventing knowledge leakage.
7. Avoidance of undue dependency on the framework agreement.
8. Establishment of reward systems.
9. Institutionalising acquired knowledge.

Interpartner learning in framework agreements

Learning is important to any business wishing to stay ahead or
even alongside rivals. Without constant development and learning,
companies gradually become fixed in a previous business fashion
period. The main reason a business succeeds or fails is diversity, and
through the learning of new skills the company will diversify, adding
to its existing knowledge, and grow. To provide a constant learning
pattern to constantly grow, it is necessary to create mechanisms and
systems so that learning can take place.
Interpartner learning is a significant source of attainment of the
knowledge necessary for expansion and gaining a competitive edge.
There are numerous methods of gaining knowledge, and frame-
work agreements are one method where quasi-internalisation
(trading of knowledge) and de facto internalisation (acquiring of
knowledge) can take place. It can be said that framework agree-
ments are a method to gain cheap, fast access to new markets by
borrowing a partner’s core competencies, innovative skills, infra-
structure and local knowledge.
The best method to learn any skill or technology is to experience
it, and framework agreements can convey inter-organisational
learning. Collating parties within a framework agreement with
different skills, technologies, knowledge backgrounds and cultures
allows unique learning opportunities. This allows the partners to the
framework agreement to develop the knowledge to enhance the
agreement’s and their personal strategic strengths and operations.
As can be seen, this interpartner learning creates tacit and explicit
knowledge transfers between the partners, where tacit knowledge is
the organisationally embedded know-how that is difficult to trade,
and explicit knowledge is know-how that can be easily traded through
licences, franchises or the open market. Also, as stated previously, it is
the tacit knowledge that creates the stronger competitive edge out of

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the two. Together with this, partners can bring operational knowl-
edge, such as knowledge of technology, processes, quality control,
marketing and public relations skills. They can also bring managerial
knowledge, such as that of leadership, human resource management,
structure, managerial efficiency, empowerment and collaborative
experience. Finally, there are the financial skills that can be gained,
such as skills in taxation, risk reduction, asset management, cost
control and capital utilisation.
Therefore, framework agreements are a good collaborative tool
because they provide an arena to combine and utilise an enhanced
knowledge base to attain common goals and objectives of the part-
ners. Without this union of knowledge the partners, if individuals,
would not be able to gain the opportunity to aim for these goals and
objectives.
One important point is that the creation of organisational knowl-
edge requires dissemination of individual experiences within the
network of the agreement. This means that to spread knowledge
to the partners privy to a framework agreement requires a well-
established system. To create a well-established system within the
framework agreement, the knowledge needs to be managed in such
a manner as to integrate the new knowledge with the previously
owned knowledge. This will create a high knowledge survival and
thus create a superior input, throughput and output of the party
and the framework agreement.

Aligning the different cultures

The cultural differences that exist between partners can exist at any
organisational level and are often a hindrance to learning and
knowledge transfers within framework agreements. This opinion is
generally correct for parties who view stability as an important factor
of their structure and therefore can create barriers to learning and
knowledge transfers. Open cultures, contrastingly, view change as a
vehicle for learning.
As the framework agreement is drafted and negotiation takes
place, awareness of cultural-interaction norms and the degree of
institutionalisation needs to be expressed to aid mitigation proce-
dures designed to resolve cultural differences. These procedures
include working with partners with previous collaborative experi-
ence and, possibly, running small projects with potential partners
prior to the signing of a framework agreement.
To enable cultures to blend and run in parallel together,
managers need to trust each other, because suspicion of others does
not create an effective learning environment. In other words, part-
ners have to work closely to remove the problem of ‘us versus them’.

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Integrating acquired knowledge

Having now acknowledged the need to receive learning and knowl-
edge transfers, a party has to be able to integrate this acquired
knowledge into its existing knowledge base. A party needs to be able
to have an openness to increase absorptive and integrative capacity,
resulting in an increased contribution to the framework agreement
along with more effective learning from the agreement and its
partners.
In essence, external collaboration through a framework agree-
ment gives access to new knowledge that cannot be generated effi-
ciently internally, and an internal learning capacity is necessary to
evaluate external knowledge.

Preventing knowledge leakage

When partners have created a framework agreement to produce
new knowledge and capabilities, the risks of opportunism and knowl-
edge leaks are very important. By creating knowledge links as part of
the agreement, as well as allowing a positive flow of knowledge, the
partners create the possibility that core knowledge and capabilities
could unintentionally pass in the other direction.
In general it is felt this does not occur, because a framework
agreement is created to combine the knowledge and capabilities of
the partners. Protection of core knowledge is possible through the
division of sensitive knowledge from the framework agreement,
the use of contractual safeguards, an agreement by all partners to
exchange only specific knowledge and capabilities, and the develop-
ment of credible commitment.

Avoiding undue dependence on framework agreements

Framework agreements are used for adding to and improving a
party’s embedded knowledge and not to substitute for internal
development. Therefore parties need to be careful when including
core knowledge and capabilities to ensure that a detrimental shift in
bargaining power does not take place.
A method of reducing dependence is to spread dependence to
a number of partners. For example, Railtrack’s Asset Protection
Department utilised three engineering consultants, namely Jarvis
Rail, Corus Rail Consultancy and Atkins Rail. All three consultants
were privy to a framework agreement between themselves and
Railtrack. Railtrack then assigned work packages subject to the
present confidence in the consultant, to create a structured environ-
ment where a consultant was always available for work, creating a
constant need to develop from the others.

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Establishment of reward systems

To integrate new knowledge into the framework agreement, reward
systems are necessary to provide an incentive to integrate new
knowledge. Lei et al. (1992) have defined two reward systems that
could be used within framework agreements, namely hierarchy-
based and performance-based systems. Hierarchy-based systems
develop strong links between the partners and their people by
defining formal organisational boundaries. Performance-based
systems put a premium on quantitative measures of performance.
The incorporation of these can create a suitable incentive system to
increase the collection of learning and knowledge transfers, and to
strengthen the party’s specific knowledge.

Institutionalising acquired knowledge

Within the framework agreement and the partners’ systems, it is
necessary to transform the new knowledge and capabilities learnt
into the party’s specific knowledge. Therefore, the institutionalising
of acquired knowledge is the process of changing information into
knowledge and individual experiences into organisational lessons.
To attain this ideal it is necessary to include, within the framework
agreement and the partners’ structure, venues for knowledge and
capabilities to be collected and then passed to the relevant area of
the business. This creates a feeder system that is transparent and
functional.

Summary of knowledge and learning transfers within framework

agreements
Knowledge and learning transfers are the fuel that drives the
engine, figuratively speaking. Without knowledge and learning
transfers a framework agreement could not function and instead
the partners would be a group of companies with plenty of ideas, but
no form to structure them. The use of knowledge and learning
transfers allows parties to temporarily or permanently acquire
knowledge in its various forms, in a more efficient and effective
manner than internal development.
Further analysis shows that knowledge and learning transfers help
to create the structure of a framework agreement. Without using
knowledge and learning transfers it is not possible to combine any of
the enabling elements of the partners such as goal compatibility,
cultural traits and organisational traits. It is through the knowledge
and learning transfers that, once those enabling elements of the
partners have been combined in the framework agreement, collec-
tive progress can be made.

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Knowledge and
Confidence learning transfer
in partner Enabling
cooperation elements

Framework
agreement

Knowledge and Knowledge and

learning transfer learning transfer

Ownership
balance and
structure

Figure 11.2. A model for framework agreements

Another positive that can be drawn from the knowledge and

learning transfers is the building of confidence in partner coopera-
tion. The openness between parties necessary to develop knowledge
and learning transfer links shows that a certain element of trust must
exist through communication and the interpartner adaptation that
must occur as a result of the passing of partner-specific knowledge to
another. The control of knowledge leakage will also help to develop
confidence in partner cooperation, because the partners will be
able to govern what knowledge and learning are transferred to part-
ners within the framework agreement.
It is also through the knowledge and learning transfers that
ownership balance and structure can be defined. It is the holder of
knowledge that can have a large impact on the balance of power
within the agreement. The parties with large banks of internal
knowledge hold a stronger bargaining power than those without. A
party requiring knowledge gain will look for not only a knowledge-
able party to learn from, but a party that can transfer the knowledge
to the first party effectively and efficiently, reducing the transaction
period and allowing more knowledge and learning transfers within
a shorter period of time.

A model for framework agreements

Now that we have determined the various influential constituents of
a framework agreement, it is time to combine them into a model
(Figure 11.2). The influential constituents are the enabling
elements (as shown in Figure 11.1), confidence in partner coopera-
tion, and ownership balance and structure. It is felt that all these

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constituents have an equal influence on the operational efficiency

and effectiveness of a framework agreement.
All three constituents are interrelated and exist in a multi-project
environment or long-term relationship. The relationship between
these three exists because the quantity and quality of the enabling
elements affect the ownership balance and structure, and could
raise or lower confidence in partner cooperation. Should the confi-
dence in partner cooperation change, a party may deem it necessary
to alter its strategic approach through its enabling-element provi-
sion, and this could have a secondary effect regarding the owner-
ship balance and structure. Likewise, adjustments to the ownership
balance and structure have subsidiary effects on the other two
constituents.
It is the knowledge and learning transfers that provide the vehicle
for these relationships. Without the passing of knowledge around
the model, partners to the agreement would not be able to judge
any of the three constituents so as to provide conclusive responses
relative to the actions of the other partners. This would mean the
framework agreement, if possible to create without knowledge and
learning transfer, could make no progress forwards (or backwards)
upon commencement.

Enabling elements
It is through the eight elements shown in Figure 11.1 that the
complexities and reliance on the framework agreement are created.
The enabling elements also aid the definition of any compatibilities
and complementary resources that exist.
Through the use of these enabling elements, historical experi-
ences in the form of industrial and business background, future
proposals, and marketing and distribution networks that the parties
have already developed are taken into account. This results in an
opinion of market power and bargaining position already held as a
result of previous transactions. Therefore, this model includes an
infinite timescale, allowing it to be used at any period of the life
cycle of any project(s) or programme(s), and can include any
previous or future influences, no matter how remote.
Most importantly, for any framework agreement, the enabling
elements identify the goals and objectives of the contractual
arrangement. If the goals of the partners are not collectively
compatible, it would be more efficient to address these goals individ-
ually rather than through a framework agreement. The model also
provides assessment capability and the use of complementary
resources to achieve the compatible goals of the framework agree-
ment, thus creating a fully dimensional supply and demand

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scenario, where the compatible goals are the demand which is

supplied by the complementary resources, commitment, and a capa-
bility to supply.
From the above, it will be these that help to construct confidence
in partner cooperation and aid the development of ownership
balance and structure. These are the two other constituents and
thus there is a need for equilibrium.
Confidence in partner cooperation is linked to the fluctuation of
trust and control. Trust can be built from any of the enabling
elements and is an opinion of your partners’ collaborative drive in
this instance. The most influential element on trust levels is commit-
ment, for obvious reasons. A party’s control is derived from those
elements that make possible empowerment and lay down the
boundaries and parameters. From the organisational, strategic and
cultural traits of the framework agreement, a party will have a
control level over partners that will help to determine its confidence
in partner cooperation.
Dependent on the structure of the enabling elements, this will
determine what ownership balance and structure exists. During the
negotiation period, each party will have hunted for a potential
partner that could help in the construction of a framework agree-
ment with an ownership balance and structure in mind. It can be
seen that the elements contain equitable/inequitable and tangible/
intangible resources, goals, capability, knowledge and so on. Through
this model, any possible and feasible influence on ownership balance
and structure can exist, creating an open, highly adaptive model to
be utilised in any environment that a framework agreement could
experience.

Confidence in partner cooperation

The second constituent of the model to be discussed is confidence
in partner cooperation. This is the differential driveshaft of the
framework agreement vehicle. Should confidence be high, the frame-
work agreement will run smoothly, and attain all goals and objec-
tives of the partners and the agreement. If confidence is low, goals
may not be achieved, commitment to the agreement could reduce
and peer pressure increase.
The utilisation of control mechanisms aims to organise the
enabling elements and the ownership balance and structure so that
the framework agreement can be run in a productive manner for
all parties and thus increase confidence. The control mechanisms
need to be adaptable to achieve the necessary formal and social-
control successes, because the influential enabling elements are
generally dynamic and change over time.

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Trust, like control, has an influence on the confidence in partner

cooperation and, in turn, the enabling elements and the ownership
balance and structure. Should trust increase, confidence in the
framework agreement will increase and the party concerned will be
more committed to the agreement. Increasing commitment means
that the party will tune its organisation, strategic objectives, cultural
adaptations and resource complement more towords goals and
objectives compatible with the other partner and the agreement.
Trust levels also affect the ownership balance and structure. A
high level of trust will improve partner adaptability and the willing-
ness to modify the ownership balance and structure for the benefit
of the agreement and partners’ needs. Without high confidence in
partner cooperation, parties will be suspicious of any suggested
alterations to the ownership balance and structure. This suspicious
attitude could result in a breakdown in trust and confidence overall,
thereby terminating the ownership balance and structure, together
with the framework agreement.

Ownership balance and structure

Finally, to complete the picture, the influences of ownership balance
and structure on the other constituents will be discussed. As with the
other two constituents, the ownership balance and structure are
integral to the success of a framework agreement.
Ownership balance and structure have similar basic building
blocks to the other constituents, but have another, different method
of finalising those blocks to produce a structure. Ownership balance
and structure provide a delivery system to allow the framework
agreement to function.
The ownership balance and structure provide a statement of
proportional delivery of the enabling elements. What this means is
that the ownership balance and structure can usually be related to
the level of commitment, the provision of resources, the organisa-
tional structure of the agreement, the financial contributions and
so on. Therefore, dependent on the negotiation procedure, the
ownership balance and structure can govern what each partner
must contribute towards the framework agreement.
The ownership balance and structure affect the confidence in
partner cooperation by creating a standard measurement for the
framework agreement. The ownership balance and structure show
the expected work level, provision level and anticipated grants rele-
vant to the framework agreement. Should each partner achieve its
necessary investment levels, the confidence in partner cooperation
will increase because all partners are apparently committed to the
framework agreement. Therefore, there is a clear relationship

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between the ownership balance and structure, and the confidence

in partner cooperation.
Now that we have discussed the three constituents of a framework
agreement and the relationships between them, the role of knowl-
edge and learning transfers will be included in the model.

Knowledge and learning transfers

The knowledge and learning transfers provide the medium for
interaction between the constituent elements of the model. Without
knowledge and learning transfers there is no other method of
creating an interaction interface between the constituents, and
without this interaction the framework agreement cannot function
as intended. Instead the framework agreement would be a contrac-
tual system for collecting attributes, rather than a good-attaining,
integration body to be utilised by collaborative partners.
The knowledge and learning transfers are not only a medium for
passing information, but are a feedback channel for the partners
involved. For example, should the development of enabling elements
take place, and thus confidence increase, the knowledge and learning
transfers allow the partner(s) of the framework agreement to inform
the enabling-element-developing partner that they have made a
good, progressive move for the agreement and would like a continu-
ation. The knowledge and learning transfers also allow negative
directives to pass. Say, for example, a partner wants to reduce
its equity balance within the framework agreement; this will be
communicated to the other partners, reducing confidence and
redistributing the provision of the enabling elements.
The knowledge and learning transfers also allow progress of the
framework agreement as a whole. The knowledge and learning
transfers allow the new skills and attributes acquired by the partners
to become a party’s new specific knowledge. The party can now,
through the knowledge and learning transfers, again acquire new
skills and attributes to be added to the ever-expanding party-specific
knowledge.

Alliance and framework agreements in the public sector

The traditional approaches to executing construction projects are
becoming increasingly unsuitable for meeting the demands of most
projects, as a result of increasing technical complexity, value and
risk. In order to meet or satisfy such demands, a high level of coordi-
nation and flexibility is expected, to minimise cost and time infla-
tion on the one hand and increase quality and safety standards on
the other. There are certain factors that must be considered if a

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public sector agency/outfit (hereafter referred to as the client)

decides to partner. Government policy regarding procurement is
that it should be based on best value for money and that all public
entities should seek to secure continuous improvement in value
for money. Best value for money means taking into account the
optimum combination of whole-life cost and quality necessary to
meet a public entity’s requirement. Thus all procurement decisions
should be based on robust assessments of all the options in each set
of circumstances throughout the life of a contract through effective
contract monitoring and control.
In most cases works are procured by means of open competitive
procedures. Two-stage tendering, selective tendering and single-
source procurement are also possible under strict conditions that
necessitate their choice. In order for framework agreements to be
practicable under these conditions, it must be seen that competition
and accountability are not sacrificed. Hence such projects must be
competitive at the outset in the selection of the alliance partner.
There should also be clear definition of the contractual responsibili-
ties of both parties and specified and measurable milestones for
improved performance of the contract. Since the public sector
would want to give an equitable and fair opportunity to all contrac-
tors, the relationship can only be for a specified period of time.
To start with, the client must determine its reasons for using a
framework agreement. This is the first stage in the process and must
therefore clearly and unambiguously define its needs, and answer
the question of whether a framework agreement will fulfil them.
This stage should also involve an internal assessment of the client
organisation and of how an alliance might benefit existing strate-
gies. For the public sector, its business drivers could include mini-
mising engineering and construction cost, as well as the maintenance
of the facility (whole-life costing) and reducing the frequency
of projects going to litigation (and resulting in delays and cost
inflations).
If the client expects improved performance through project
execution (value for money), then the potential benefits to be real-
ised should also be substantial, since the success of the capital invest-
ment programme will determine the government’s overall success
for a long time in the future. This means that the client should be
prepared to invest in and allocate skilled personnel to meet this
expectation on large projects that can bring about substantial bene-
fits or returns.
The decision to form an alliance should also be guided by the
uncertainty and risk factors affecting the project. If projects are
complex and the risks (in terms of technology, location, time, quality

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and cost) are considerable, then an alliance should be considered as a

powerful mitigating tool or concept to deliver the project. As opposed
to the traditional form of contract, an alliance should provide a better
arrangement for analysing risks and dealing with their consequences.
It does not merely transfer risk to another party but rather allocates it
to the party that is best suited to manage it.
The selection procedures used by a public sector authority should
follow the procurement guidelines set out, as they are governed by
rules that must be strictly enforced. Public procurement policy and
procedures are meant to provide the country with economy, open
competition, transparency and accountability, as well as a balance
with any national policy of enhanced development of local industries.
The decision to enter into an alliance should be based on an
assessment of the work to verify that it will provide better value for
money and also ensure fair and transparent allocation of risk. The
client must be convinced that an alliance with a framework agree-
ment will achieve continuous improvement and reduce confronta-
tion. The selection of contractors by the public sector has tradition-
ally been based on competitive tender to demonstrate probity and
value for money. The competition has been defined by the lowest
tender price and this brings with it a lot of problems. In most cases
the lowest prices contain no margin of profit for the contractor,
whose commercial response is then to try and claw back the margin
which was not in the tender through variations, claims and ‘squeez-
ing’ of suppliers and subcontractors. The formation of the alliance
should take into account that reasonable margins must be allowed
and aligned objectives agreed when the framework agreement is
signed. Measurable targets are set at this stage, and incentives for
savings and improvements also agreed. A dispute resolution struc-
ture and procedure must be clearly set out, so that all issues or prob-
lems can be dealt with as soon as they crop up or avoided if they
are foreseen. Regular reviews of completed sections of work or
sub-projects must be carried out to compare achieved results, partic-
ularly with respect to time and cost, against targets set.

Summary
A framework agreement is a support for any number of transactions,
especially in a multi-project environment or long-term relationship
where a large number of transactions take place. In a framework
agreement, three constituents need to be fully and equally satisfied
to ensure that a strong framework agreement results. Should one of
the constituents be neglected, this will have the effect of creating
an unstable framework agreement, and should a constituent be

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missing, either the framework agreement will never be formed or it

will collapse if already in existence.
In the framework agreement model, the knowledge and learning
transfers ensure that a relationship exists between all three constitu-
ents, providing a system to regulate their influence.

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S. Male

Introduction
This chapter takes as its starting point the recent report Accelerating
Change (Strategic Forum for Construction, 2002), which has set the
following strategic targets:

• 20% of all construction projects by value should be delivered

using integrated teams and supply chains by the end of 2004.
That figure should rise to 50% of projects by value by the end of
2007.
• 20% of client investment in projects by value should adopt the
principles of the Clients’ Charter by the end of 2004, with this
figure rising to 50% by value by the end of 2007.

These are challenging targets. Modernising Construction (National

Audit Office, 2001) highlights the fact that the Office of Govern-
ment and Commerce (OGC) advised central government depart-
ments that, as from 1 June 2000, they were to secure construction
projects using three primary procurement routes: public–private
partnerships, especially the Private Finance Initiative (PFI); design
and build; and prime contracting. The OGC has also advised
government clients to adopt these three routes for refurbishment
and maintenance activity as from 1 June 2002. The OGC indicates
that traditional non-integrated procurement options should only be
used if they are able to demonstrate best value for money, with the
expectation that they would seldom be used in practice.
The chapter explores the recently launched initiative of the
Clients’ Charter and the meaning of integrated teams and supply
chains, and compares different procurement routes against the
concept of the project value chain, using the traditional procure-
ment route as the benchmark. Client types and client value systems
are introduced, including exploring the relationship of maintaining
a slender ‘value thread’ intact throughout the project delivery
process and its implications for different procurement strategies.

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The chapter raises fundamental questions about what is ‘value for

money’ and for whom in construction procurement.

The Clients’ Charter

The Latham Report (Latham, 1994) argues that clients are at the
core of the project delivery process and are the driving force behind
any agenda for change. The Deputy Prime Minister, John Prescott,
in July 2000, challenged clients in construction to draw up a charter
setting out their minimum standards expected from procuring
projects currently and their aspirations in this area for the future.
The charter is also one for client self-improvement. Charter clients
are drawn from the public and private sectors, and can be large,
small, regular or irregular procurers of construction. A manage-
ment board manages the charter process, with membership drawn
from the demand and supply sides of the industry. The board is
serviced by and located within the structure of the Confederation of
Construction Clients (CCC). Charter clients pay an annual registra-
tion fee to the CCC. A measurement toolkit is used to collect a
consistent set of data to underpin client self-measurement and
benchmarking.
Client members of the CCC must commit to the Clients’ Charter,
which requires that they are obligated to improve their performance
in four key areas:

• Leadership and focus on the client. This component of the charter

requires clients to commit to providing leadership to improve
the procurement process, to identify and manage risk, and to
encourage supply side service providers to innovate to meet
their requirements. Leadership responsibilities for clients also
require that they set clearly defined objectives, which ideally
should be quantifiable, and with realistic targets. There is a
commitment to engendering trust, team working and a non-
adversarial approach throughout the supply chain, with suppli-
ers treated fairly, including using appropriate payment proce-
dures. Partnering is advocated as the favoured approach for
delivering construction projects.
• Product team integration. This aspect of the charter commits cli-
ents to promoting sustainability in construction, long-term rela-
tionships with the supply chain such that all relevant parties can
be involved in the design process, and maximising the benefits
of standardisation and off-site fabrication.
• Quality. This aspects of the charter commits clients to search for
quality-based solutions that take account of and respect the

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surroundings, maximise functionality and optimise whole-life

cost whilst minimising defects through process and product
improvements.
• People. Engendering respect for people throughout construc-
tion activity and having a commitment for clients to train their
own staff.
In addition to the four areas for cultural improvement in the
industry, charter clients are also committed to adopting national key
performance indicators for benchmarking, namely:
• client satisfaction with products and service
• defects
• time and time predictability
• cost and cost predictability
• safety
• profitability of the supply chain
• productivity.
Charter clients are aiming to meet or better the targets set in
Rethinking Construction (Department of the Environment, Transport
and the Regions, 1998) and provide a focus for incentivisation
around appropriate parameters, as discussed earlier in the book.
Whilst the CCC does not commit its membership to using a partic-
ular procurement route, it recommends partnering, which is not in
itself a procurement route. It is an approach to supply chain integra-
tion, the subject of the next section.

Integrated teams and supply chains

Integrated teams and supply chains have been the focus of a number
of recent major reports. The Accelerating Change report views these as
at the heart of delivering client value. Its authors expect clients to
appoint established, integrated teams and supply chains that are
used to working together. This creates the capability of moving from
project to project to engender a culture of learning and continuous
improvement using performance measurement.
Integrated teams involve bringing the right skills together at the
right time in the project process, regardless of where they might be
located in a supply chain. They will involve clients and those respon-
sible for the delivery process, including manufacturers and other
types of supplier. Integrated teams are founded on trust and mutual
respect, have a strong client focus and operate through the equi-
table sharing of risks and rewards using appropriate incentive mech-
anisms. Processes supporting team functioning that rely on informa-
tion technology to assist integration are seen as an important

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underpinning for their successful operation. The involvement of

manufacturers, suppliers and specialists is seen as a critical issue
for integrated teams. They will be able to contribute to developing
solutions that improve on-site methods of working, increase stand-
ardisation, permit increased levels of off-site pre-assembly and
prefabrication, reduce risks, especially in the area of health and
safety, and improve reliability and quality. They are also seen as
bringing to the process their research and development expertise,
to the benefit of clients and the industry in general.
‘Building down barriers’ (BDB) is a joint approach to innovative
procurement combining client-led expertise from Defence Estates
(DE), the Ministry of Defence (MoD) and the then Department of
the Environment, Transport and the Regions to establish mecha-
nisms for supply chain integration in construction. The initiative
was launched in 1997, and two pilot studies using the new procure-
ment method were completed in late 2000. The BDB approach
focuses on providing a structured process and collaborative models
of leadership to integrate pre-assembled supply chains under a
prime contractor. Prime contracting will be discussed further below;
however, the generic approach to BDB is that single-project rela-
tionships are replaced by multi-project relationships based on trust
and cooperation. Designers and constructors are brought together
under single-point responsibility. The intention is that supply chains
remain together over time. Holti et al. (2000) identify three types of
leadership essential for supply chain integration:

• Supply chain leadership giving single-point responsibility to the

client and providing overall leadership for achieving value for
money. This is the role of the prime contractor.
• Design leadership, focusing on extracting, through dialogue
with the client and end-user, project values, functional require-
ments and other design parameters; and on developing a design
strategy which is consistent with the foregoing and ensuring
that design development remains consistent with project values.
An essential skill here is design management to ensure separate
design activities are programmed, coordinated and integrated.
• Construction/delivery leadership, focusing on developing a
construction strategy that is consistent with project values and
on coordinating inputs from manufacturing, construction and
facilities management expertise to deliver the design within a
target whole-life cost. An essential skill here is that of construc-
tion management, namely planning, monitoring and resource
acquisition and implementation to ensure work packages,
trades and organisational interfaces work effectively.

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The next section will review issues surrounding clients and their
value systems and their implications for integrated procurement
methods.

Client types, client value systems and procurement

Large, regularly procuring clients are increasingly pursuing innova-
tive approaches to the way in which their projects are planned,
procured, designed and delivered. Procurement is seen as an adjunct
to facilitate delivery of their business strategies. They are looking to
work closely with supply chains to maximise value and achieve
continuous improvement in construction performance. Clients to
construction projects are much more diverse than the segment
under discussion here. A number of distinguishing characteristics
can be applied to clients, providing insights into their different
value systems.
Mention has already been made of them separating into those in
the public and private sectors. Public and private sector clients have
different value drivers, not least public accountability in the case of
the former and the fact that they also have to take account of legisla-
tive influences on procurement at European Community level.
Private sector clients are much more heterogeneous. Markets, the
Stock Exchange, shareholder value and ownership considerations
due to plc, private limited company or perhaps family business
status can also act as different ‘value drivers’ in the private sector.
Equally, clients also differ in their level of knowledge of the
construction industry and its operations. Knowledgeable clients
normally adopt a very structured approach in dealing with the
industry and project delivery, usually described in a project manual
covering procedures or guidelines. Knowledgeable clients will treat
the construction supply chain and its members as ‘technical experts’
to deliver a project or projects to meet their business and/or social
need. They will place considerable demands on members of the
construction industry and expect it to respond accordingly. Internal
or external project managers will act as the interface with the
construction industry. Knowledgeable clients will tend to be innova-
tive with procurement methods and are generally the volume
procurers of construction services. However, client knowledge of
the industry and its processes can be considered as a continuum. For
example, there are those clients that have a deep, diffused knowl-
edge and understanding of the industry across the entire organisa-
tion. There are those clients who have an extensive knowledge of
the industry but it is located and remains within a division, depart-
ment or unit that acts as a boundary manager and gatekeeper

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between the internal organisation and the external construction

industry. At the other end of the continuum are less knowledgeable
clients who approach the industry infrequently or on a one-off basis.
They are irregular procurers and will have limited or minimal
in-house expertise and knowledge of the operations of the industry
and its complexities. Evidence suggests that this type of client may
be directed into a traditional procurement path, depending on
their initial contact with the industry. Depending on their business
networks, they may also consult clients that are more knowledgeable.
Clients as customers and users of construction can also be classi-
fied as large or small owner/occupier clients. Large owner/occu-
pier clients require physical assets to support their ongoing business
or socially driven needs and agendas. There are also small owner/
occupier clients, who tend to be reactive and approach the industry
because their existing facilities are inadequate in some way. Devel-
opers approach the industry and construction to make a profit from
the sale, rent or leasing of facilities. They trade in physical assets or
investment in them to generate profit.
Clients can also be characterised by the demands placed on the
industry in terms of the type of construction, the volume of activity,
its frequency and its regularity. This can be linked to the extent to
which standardisation exists from project to project in terms of
parts, processes and design. Unique construction occurs when it is
distinctive in terms of technical content, the level of innovation
required or the extent to which it is a leading-edge project which
pushes the boundaries and envelope of the industry’s skills and
knowledge. Unique construction has limited scope, if any, for effi-
ciencies in processes or standardisation and repetition. Off-the-peg
construction has similarities to unique construction but the possi-
bility exists for standardisation through repeat designs across a few
buildings, customised construction is a more apt description, since
designers may take previous designs, perhaps undertaken for other
clients, and adapt them to the situation at hand. Much of the
industry workload is reflected in this type of activity. Process
construction occurs where a client has repeat demands for projects
permitting a high degree of standardisation due to volume procure-
ment. Efficiencies can be made from standardisation of design,
components and processes. Cross-project learning is also possible.
There are similarities to the manufacturing sector. Process construc-
tion could also include instances where there is a relative balance
between ‘new build’, maintenance, refurbishment and retrofit of
existing assets. Clients may be volume procurers in terms of mainte-
nance and refurbishment of existing assets but be ad hoc procurers
of new-build work. Finally, portfolio construction occurs where

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clients are large and regular procurers with substantial investment

programmes requiring different types of construction activity. A
diverse range of needs will exist for clients involved in this type
of activity. Portfolios will comprise different technical require-
ments, and different degrees to which construction activity is of a
unique, customised or process nature. Regular, ongoing investment
programmes permit long-term relationships to be developed with
suppliers.
A client typology is presented in Table 12.1.
In summary, clients to construction are heterogeneous. Large,
regular procurers are driving change deep into the industry. Organ-
ised groups of clients are also driving change into the industry.
However, they do not represent the full diversity of clients procur-
ing construction. Whilst generic influences on client value systems
have been identified in Table 12.1, each client has its own distinc-
tive value system, derived from its structure, cultural web, owner-
ship characteristics, and strategic and operational management
processes. The value system and value drivers will be influenced by
the client’s sector of operation, its organisational structure and
functioning, and the manner in which it approaches and engages
with the industry. Additionally, clients to construction may procure
a single project, or they may procure a number of projects over a
prolonged period which are grouped into a project programme as
discussed in Chapter 13. Again, this will influence and affect the
client’s value system and value drivers.
The next section explores the concept of the project value chain
as a mechanism to bring together project development and delivery,
procurement strategies, and client value systems and value drivers.

The project value chain

Organisations should be considered as a series of internal and
external activities that comprise a ‘value chain’ giving a competitive
edge in the market place. Value chain activities provide the basic
organisational infrastructure for creating and delivering value. The
concept of the value chain has now been extended into the disci-
pline of managing by projects. The project value chain is used to
view projects as a series of value-adding activities that have their
origins in and emerge from the client’s statement of business need.
To deliver projects successfully, these activities have to remain in
alignment into the operational and use phase to ensure the product
provides fitness-for-purpose as an outcome of project processes. In
this sense, project value chain activities comprise part of the broader
value chain activities of an organisation. Value management and

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 Table 12.1. Client impacts on the construction industrya

Client type

Private sector clients Public sector clients

Knowledgeable – regular Less knowledgeable – infrequent Knowledgeable – Less knowledgeable –

procurers procurers regular procurers infrequent procurers

Consumer Consumer Consumer Consumer Consumer Consumer Consumer Consumer

clients: clients: clients: clients: clients: clients: clients: clients:

219
Response large small large small large small large small
to the owner/ owner/ Speculative owner/ owner/ Speculative owner/ owner/ owner/ owner/
industry occupiers occupier developers occupier occupier developers occupier occupier occupier occupier

Unique 3 NA NA

Customised 3 3 3 3 3 NA NA

Process 3 3 3 3 NA NA

Portfolio 3 3 3 NA NA

a
A tick denotes that this is a probable occurrence. NA indicates no occurrence and a blank indicates a possible but unlikely occurrence

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MANAGEMENT OF PROCUREMENT

Project programme value

Corporate Business
value value

Individual project value chain

Corporate Business Feasibility Design Construction Commission Operational

value value value value value value value

Project value: the individual project value chain

Strategic/tactical
delineation

Figure 12.1. The project value chain, adapted from Standing (2000)

value engineering have the capability of aligning or realigning the

project value chain. They are also mechanisms to keep the ‘value
thread’ intact through strategic consideration of procurement as
part of the value management process. Procurement and contract
strategies are important strategic decisions that may maintain the
alignment of the project value chain or create barriers or disconti-
nuities within it. The project value chain is set out schematically in
Figure 12.1.
The decision to build/construct is an important strategic value
point for the client within the project value chain. The project is
effectively outsourced to the construction industry. Whilst Figure
12.1 presents the decision to construct as a discrete event,
Woodhead, with his work on the ‘decision to build’, and Graham, in
the area of the private financing of water infrastructure projects,
indicate that it is much fuzzier in practice. This chapter views
the decision to construct as a business commitment that a project
requiring the skills of the construction industry is the right solution
and that capital funding is being made available for further investi-
gation. Depending on the client type and its structure, the early,
strategic phase of the project value chain may involve considering
more than one project. Projects may be competing with each other

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for investment. This requires them to be managed as a holistic

framework at the project programme level, with ‘value’ being con-
sidered from multiple- or single-project perspectives and often
simultaneously.
Transition points occur in the project value chain, such as the
‘decision to construct/build’ and at the ‘handover, commission
and operational user interface’, for example. Discontinuities could
occur at any of the transition points because there are changes in
the ‘value structure’ of the project due to the influence of the
organisations involved, changes in organisational involvement or a
different focus being applied to the project. Equally, as a project
goes through each of the phases of its development, other value
transition points occur, for example at feasibility stage, design stage
and construction stage. The manner in which these value transition
points relate to each other and are managed is impacted by the
procurement strategy.
The next section will explore the consequences of the project
value chain for procurement strategies.

Procurement and the project value chain

The previous sections have highlighted moves towards more inte-
grated approaches to procurement, with the PFI, prime contracting,
and design and build being pushed extensively by central govern-
ment clients. As mentioned earlier, the CCC advocates partnering as
the favoured approach to projects. The choice of procurement
route is intrinsically linked strategically with client value drivers.
Procurement and contract strategies are not tactical choices within
projects. They involve decisions on the managerial and legal frame-
works set up for risk allocation, the delivery of functionality in the
design and construction stages, and the relationship between time,
cost and quality. Examples of these value criteria are set out in
Figure 12.2.
A more multifaceted view of project value drivers is given in
Figure 12.3. It highlights that delivering value is at the centre of a
whole series of decisions and contextual influences. These have to
be fully understood when making choices about procurement.
An earlier chapter has described in detail the characteristics of a
range of different procurement routes available to clients. Figure
12.4 schematically presents the major procurement systems against
the project value chain. This section will explore each of the systems,
noting issues that are raised through comparison with the project
value chain and the value drivers framework noted above. The thick
diagonal lines in the figure denote major value transition points.

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Cost?

Risk?

Functionality

Time? Quality?

Figure 12.2. Examples of project value drivers, adapted from Standing (2000)

Environment
Quality: expressed through specification

Risks Safety

Value delivered through

functionality and
Project concept Operation and
needs (musts) and Time fitness-for- purpose Cost
use
desires (wants)

Technical solutions design

and construction

Environment
Business case: the need for the
project

Figure 12.3. A value driver framework for procurement

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The argument put forward here is that providing the project value
chain remains in alignment throughout, such that each stage builds
on the others with a ‘value thread’ remaining intact and consistent
from stage to stage, value will be created and delivered for the client.
In general, procurement systems at the top of the diagram provide
more opportunity to maintain the integrity of the project value
chain since an increased number of discrete activities come under
one umbrella organisation for single-point delivery. There is one
proviso: they must be designed and delivered with that intent in
mind.
The traditional procurement route at the bottom of Figure 12.4,
used here as a benchmark, is potentially the most disruptive to the
project value chain. Where single-stage competitive tendering is
adopted for traditional procurement, the project value chain is
disrupted completely at the transition point between design value
and construction value. Single-stage tendering under the traditional
procurement system necessitates that tender documentation is able
to fully capture the client value system embedded in the design up to
tender stage. Where two-stage tendering is adopted, the capability
exists of bringing construction expertise into the project much
earlier and improving integration. It also offers the capability of
introducing some fast tracking.
There is an interaction between the procurement method, the
choice of tendering strategy and the potential impact on the integ-
rity of the project value chain. In addition, the traditional approach
is essentially sequential. This provides it with one of its strengths,
namely that the design can be fully worked up and tested, with the
client value system embedded into the design through a dialogue
with the designers. The tendering process provides it with one of its
weaknesses, since it does not permit constructor and supply chain
involvement in design. Constructors build to contract and a limited
number of multiple constructors are in competition with each other,
assuming selective tendering has been adopted. It is argued strongly
that the traditional route is adversarial, is the cause of contractual
conflict and, as noted above, should no longer be adopted for central
government procurement of construction unless a good-value case
can be made. Latham (1994) noted, however, that the briefing
process leaves much to be desired, which is emphatically a client
issue and can lead to many problems later in the project, if not
addressed adequately and sufficiently early on in the process.
Equally, tender documentation can often leave much to be desired,
with designs often incomplete before tender. The industry has
progressively worked out standard contracts for the traditional
system that have also permitted risk allocation to be clearly identified

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 204
Procurement Pre-brief Business case Feasibility Design/ Design Construction Commissioning Operational Maintenance/
type corporate/ value: technical value value value value renewal/
business options brief disposal
value
Client develops output PFI consortium – supply chain structure and value system
PFI
specification depends on contract structure

Client value system Integrated project team value system Client/operation

Prime develops output specification client, operations, prime contractor, supply chain value system
contracting

Turnkey Client value system Client/ Client/operation

designer Contractor/designer/supply chain value system value system
value system
MANAGEMENT OF PROCUREMENT

Contractor- Client value system Client/designer value system Contractor/designer/supply chain value Client/operation
led design system value system

224
and build

Client-led
Client value system Client/designer value system Contractor/designer/supply chain value Client/operation
design and
system value system
build

Construction Client value system Client/design team/CM Client/CM/design team/work package Client/operation
management value system supply chain value system value system
and
management
contracting Client value system Client/design team/MC Client/MC/design team/work package Client/operation
value system supply chain value system value system

Traditional Client value system Client/design team/value system Contractor supply chain Client/operation
value system value system

Figure 12.4. Procurement strategies and the project value chain, adapted from Standing (2000)
 CHAPTER 12. INNOVATIVE PROCUREMENT METHODS

for all parties. Design is only paid for once. Historically, until a Code
of Selective Tendering was brought in, the traditional system was
seen as adding expensive tender costs into the industry, although
a number of firms are still producing bids even under selective
tendering. Provided the system is adhered to and designs are fully
worked up and tested through cost planning, it does provide the
client with cost certainty. The traditional route also provides oppor-
tunities for quality designs to be produced and built but has also
been criticised for its relative lack of time certainty. An opportunity
exists to provide some integration within the traditional procure-
ment route by using value management and value engineering at
various stages in the process, and bespoke partnering arrangements
can also be overlaid onto standard forms of contract, which include
bringing in early supply chain involvement. This is not, however,
without some difficulties related to contractual appointment of specialist
subcontractors and suppliers. The traditional route assumes sequen-
tial procurement of specialist supply chain members. The traditional
route is recognised widely internationally.
Management contracting (MC) and construction management
(CM) are attempts at increasing the level of integration within the
project delivery process. The allocation of risk differs between the
two, with the client picking up work package risks with CM whereas
they are allocated to the management contractor under MC. Both
have the capability of increasing team-working on a project at
important interfaces. They offer enhancements to the traditional
approach in terms of integrated team-working, with additional
constructor management and buildability knowledge brought into
the design team consultant domain. Both have the capability of
fast-tracking the delivery process. The client value system has an
opportunity to be embedded into the design process in much the
same way as traditional procurement. Again, design is only paid for
once, and the protagonists of CM and MC argue that these methods
permit the designers to design and take away the design manage-
ment and coordination responsibilities from them. CM and MC are
often criticised for their lack of cost certainty for the client. The
management forms of procurement permit increased involvement
of construction knowledge earlier in the process, but essentially they
are profession-led routes, with a consequent increase in the number
of interfaces to be managed, with the potential for project value
chain disruption to occur. They are placed towards the bottom of
the project value chain for integration but are considered better
than the traditional system. They can be overlaid with value manage-
ment, value engineering and partnering systems to improve integra-
tion further.

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There are numerous variants on design and build (D & B),

including those offered by negotiation, and by single-stage and
two-stage tendering. The client and design team can work up a
substantial amount of the design, for example up to sketch design,
and then tender to a D & B contractor to develop the detailed
design. The client’s design team can be novated to the D & B
contractor, or the client can develop a brief and then go out to a D &
B contractor to undertake full design development. Competitive
D & B can be disruptive to the project value chain for a number of
reasons. First, tender documents have to be well written to provide
insights into the client value system. Second, D & B contractors
during tender do not have direct access to client thinking about
their requirements and this cannot be fully encapsulated within
design development work until after tender award. Third, members
of the contractor’s supply chain may be prevented from having early
access to the client value system, depending on when competitive
tendering takes place. They do, however, have access to the D & B
contractor’s designers. Depending on the mechanism for imple-
menting D & B, it is highly likely that more than one design will be
developed as part of the tendering process, with the associated
tendering and design costs for unsuccessful bidders having to
be recouped from somewhere. The choice of system adopted,
including negotiated, single-stage or two-stage tendering, permits
different levels of the client value system to be embedded into the
project prior to and post tender. However, as in previous examples,
wherever a tendering requirement exists, the standard of documen-
tation produced will determine the extent to which client value
requirements are easily understood and encapsulated into further
project delivery stages. D & B procurement offloads risk onto the
D & B contractor through single-point responsibility for coordi-
nating design and construction. Again, value management, value
engineering and partnering can be overlaid onto D & B procure-
ment to improve integration. As a procurement route, depending
on how it is set up, D & B permits supply chain integration more
easily than the previous procurement routes discussed, and is placed
in the middle of the project value chain.
Turnkey procurement has similarities to D & B, producing either a
bespoke design for construction or adopting a standard offering by a
turnkey contractor, who may subsequently customise it to an extent to
suit client requirements. Turnkey contractors are normally involved
early in the project value chain. Turnkey procurement offers greater
integration of contractor-led design and construction with supply
chain involvement. The contractual positioning and role of the
designers will alter the impact on the project value chain. If the

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contractor employs the designers in house then there should be

increased alignment in the project value chain. However, under
turnkey, where the designer is independent of the contractor,
another value system is imposed. The same argument applies to D &
B. The earlier involvement of the turnkey contractor and greater
opportunity for involvement of specialists within the supply chain in
the design process place this above D & B in the schematic.
None of the procurement systems discussed above involves
members of the construction industry supply chain beyond the
commissioning and handover phase in the project value chain, i.e.
into the use phase, although the members of the supply chain are
supposed to consider the implications of the use phase during
design development and construction. However, since the early
to late 1990s, two new procurement routes have emerged which
attempt to increase the degree of integration between the client and
the construction supply chain from concept to use, notably the PFI
and prime contracting. Whilst these procurement methods were
not set up with this in mind, construction firms, owing to their
increased knowledge of supply chain management and readiness to
manage risk, have taken the lead in forming PFI consortia and
prime contracting supply chains.
As indicated earlier, prime contracting was piloted through the
BDB pilot initiative from 1997 to 2000. The initiative has three
primary objectives:
1. To develop a new approach to construction procurement –
prime contracting – based on supply chain integration.
2. To demonstrate the benefits of prime contracting in terms of
improved value for the client and profitability for the supply
chain through two pilot projects and a supporting ‘tool kit’.
3. To assess the relevance of the new approach to the wider UK
construction industry.
Prime contracting is now the primary procurement route of the
MoD’s Defence Estates organisation for capital works (capital prime)
and maintenance works (regional prime). As originally envisaged,
the prime contracting organisation was seen as bearing no resem-
blance to existing contracting organisations. The prime contractor is
seen as any ‘agency’ capable of leading long-term supply chains and
could be drawn from the ranks of any organisation with the capa-
bility of providing this type of leadership. The prime contractor role
also brings with it the single-point responsibility of delivery from
concept to use in the case of capital prime or single-point responsi-
bility for operational delivery of a facility, including aspects of port-
folio construction, in the case of regional prime. As a concept, it has

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permitted existing construction firms to take the opportunity of

utilising their supply chain skills in such a role and has brought them
into direct contact with procuring clients. Whilst it was originally
conceived from within Defence Estates, certain private sector organi-
sations have also used the capital prime approach to procure their
facilities. Prime contracting uses current best practice in supply
chain management, incentivisation of the supply chain, value
management, value engineering, whole-life costing and perfor-
mance, and risk management to deliver a facility. An output-based
specification is produced by the client, as opposed to a technical
specification, to permit, in theory, the prime contracting delivery
team an opportunity to introduce innovation into the whole process.
Prime contracting also acknowledges a two-stage briefing process.
Through an integrated project team and a partnering philosophy,
client representatives, end-users, the prime contractor, designers,
constructors and specialist suppliers are jointly responsible for devel-
oping and delivering a project or operational maintenance service.
The procurement route adopts the concept of supply clusters. Clus-
ters are developed around key elements of a facility for delivery,
involving client representatives, end-users, the prime contractor,
designers, constructors and specialist suppliers, who are responsible
for resolving design, construction and interface issues. ‘Structure
and frame’ may be an example of an element around which a cluster
is formed and led by a cluster leader. The prime contracting route
also expects, under capital prime, that the prime contractor and
supply chain retain responsibility for proving the whole-life costing
model into the use phase. This is termed the ‘proving’ or ‘compli-
ance’ period and lasts between three and five years. Normally, a facil-
ities management organisation will operate the facility during this
period. Prime contracting is placed above the other procurement
routes discussed previously because it has been designed specially to
bring together best practice in supply chain management and other
related methods and techniques. There are similarities between
prime contracting and the PFI, and further discussion of the former
will be deferred until the PFI has been dealt with. Funding for the
project comes from the public sector.
The PFI, introduced by the UK Conservative government in the
early 1990s, and embraced with even more vigour by the current
Labour administration, is a finance, design, build, operate and
transfer (FDBOT) method of procuring and delivering physical
assets for use as a service to public sector clients. As with prime
contracting, the PFI process commences with a public sector client
developing a statement of need in the form of an output specifica-
tion. Normally, four or five PFI consortia, comprising funders,

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designers, constructors, facilities managers and other specialist

supply chain members, pre-qualify to bid in successive stages for the
PFI. The bid stages comprise the invitation to negotiate (ITN), best
and final offer (BAFO) and preferred bidder – with the number of
bidders reducing from four to two to one at each successive stage. At
the ITN bidding stage, consortia develop their whole approach to
the PFI, including design, construction strategies and whole-life cost
models, and attempt to better a ‘public sector comparator’, namely
the ‘net present value’ price if the public sector were to deliver the
same project over the same period. This is the government’s measure
of value for money for awarding a PFI. A ‘special purpose vehicle’
(SPV) acts as a surrogate private sector client for the respective PFI
once the contract has been let. The SPV will take responsibility for
the whole-life management of the PFI facility, normally for a period
of between 25 and 30 years. A PFI requires of the consortium a clear
understanding of whole-life performance of physical assets from
design through to operation, maintenance and renewal, including
the relationship between capital cost expenditure and operational
cost expenditure of a facility.
A PFI should, in theory, permit minimal disturbance to the
project value chain, especially if the client has defined correctly the
output specification and embedded its value system in its require-
ments and descriptions. The PFI, unlike other procurement routes
with a capital expenditure focus, also has a ‘double-edged sword’
since the chosen consortium is required to operate what it has
designed and built for anything up to 25 or 30 years. There are simi-
larities to prime contracting here. The focus of the consortium
should be on continuity and integrity of the project value chain and
product delivery throughout the PFI process. The PFI, before the
introduction of prime contracting, was the only system where the
‘value thread’ could be maintained in the user value system. It also
provides one of the greatest opportunities to leverage the principles
of supply chain management, if the successful consortium chooses
to adopt these. For this reason, it is placed at the top of Figure 12.4
for integration of the project value chain, with provisos in place that
this is the intent of the consortium. Figure 12.5 sets out some of the
issues concerning PFI procurement.
When one compares and contrasts prime contracting and the PFI
as procurement routes, a number of similarities and differences
come to the fore:
• Output specifications. Both procurement routes require cli-
ents/end-users to produce specifications in output terms and
not as a series of technical requirements. Output specifications

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Pre-concession award phase Concession phase

Pseudo-customer: output Service provider Real customer-driven

performance specification requirements requirements

Tendency towards capital expenditure-dominated thinking Operational expenditure-dominated thinking

Preferred WLC information management

ITN BAFO
bidder strategy changes

Data requirements for WLC input and level of detail required change through the process

Commitment to WLC Pre-contract affordability decisions

work largely undertaken have to be fully reviewed and
at this stage assessed

WLC issues:
• Differing time horizons – concession
period versus client expectations
Risk transfer and affordability dominate • Impact of technology changes
upgrades
• Individual component timescales
versus those generated through
linkages between components
• Impact of different project types and
associated technologies within
projects on WLC data requirements

Figure 12.5. Pre- and post-contract award issues with the PFI (WLC, whole-life cost)

are essentially statements of functional requirements that

permit different technical options to be developed provided
they meet the required functions. This means clients must be
able to state needs in output terms, a different way of thinking
from traditional methods of producing technical specifications.
There is a danger that these can become over-prescriptive and
reduce the flexibility for service providers to innovate. As previ-
ously highlighted by Latham, these routes also raise the spectre
of poor briefing (i.e. producing coherent and consistent output
specifications), especially if clients are unable to easily articulate
their needs explicitly and clearly.
• Both procurement routes require four or five consortia/supply
chains to bid through three successive stages. Regardless of
whether the route is PFI or prime contracting, they both go
through similar bid processes. The PFI has been seen as a costly
exercise to bid for, with sums of £2–3 million often quoted as
the cost of bidding. Equally, regardless of whether the PFI
or prime contracting is being considered, at the invitation to

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tender/ITN stage four or five teams could be developing differ-

ent designs; at the BAFO stage this drops to two, with only one
being chosen finally at the preferred bidder stage. The cost of
failed bids will have to be recouped from somewhere, since a
high proportion of the cost is at bidder risk. Equally, producing
designs that are set aside by an unsuccessful tenderer could be
argued to be wasteful of scarce industry resources.
• The PFI and prime contracting differ in their requirements for
the use of best-practice supply chain management. It is a manda-
tory requirement as part of the prime contracting process; it was
designed with this in mind. It is at the discretion of each PFI
consortium as to how it structures the process from a supply
chain perspective, both during the bid process and after con-
tract award. The consortium may or may not reap the benefits of
integrated supply teams, depending on the organisational and
contractual structure.
• Defence Estates has produced a model form of contract for
prime contracting, available on its website. A updated standard
form for the PFI is to be published shortly by Butterworth. The
bespoke nature of PFI contracts to date, and their level of detail,
does raise issues about whether they will create their own cli-
mate of adversarialism when things go wrong, which at some
stage has to be an inevitability.
• Whole-life management and performance. Both prime con-
tracting and PFI require bidders to produce a whole-life cost
model. Prime contracting, through its delivery structure, requires
all key members of a supply chain to enter a dialogue to resolve
capital versus operational expenditure early in the process.
The PFI process, as noted above, ensures that the consortium,
designers, constructors and facilities managers have to live with
the consequences of their decisions for a protracted period of
time. A PFI, provided it is structured to permit full supply chain
dialogue to happen, can also resolve capital and operational
expenditure issues early in the process. It will also test the ade-
quacy of the life cycle cost model developed as part of the bid
process. Owing to the funding regime of prime contracting, the
supply chain consortium, led by the prime contractor, has a
proving period of perhaps three years to test the life cycle
model, particularly in terms of, for example, energy consump-
tion. However, unlike the PFI, the proving period is of such a
short duration in the context of the life of a facility that it is
unlikely that the robustness of materials and components will
be fully tested. This will only occur once the client/end-user has
taken back the facility from the prime contractor.

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• The public sector comparator adopted as a measure of value for

money under the PFI has become the focus of much attention.
An array of value management and value engineering studies
conducted by the author has clearly suggested that designs have
to be optimised in terms of capital and operational expenditure
to produce, potentially, a good whole-life performance. Value
management and value engineering provide a very structured
process to make these decisions explicit. Equally, they have to
be planned proactively into design development to ensure that
this happens across the supply chain, including the client/
end-user. Unless this debate has happened during the process
of developing the public sector comparator then its rigour as a
true test of value for money is open to question.
• The discussion on the project value chain above has raised
issues about the extent to which the client value system is able
to be embedded into design development. The traditional
approach was used as the benchmark, providing the maximum
opportunity for the client value system to be embedded in
designs. Questions were raised about the structuring of compet-
itive D & B, since bid teams may be unable to have direct and
sustained access to clients/end-users until after contract award.
The same issue arises with the PFI and prime contracting. Both
go through a three-stage bid process. During the invitation to
tender/ITN stages, PFI and prime contracting teams may have
very limited access to clients, in which case designs may have
been developed without major or significant input that would
embed thinking about the client’s value system into design
development. An important part of the project value chain is
missing; the ‘value thread’ has to a significant extent been
broken at important moments in design development. Given
this, the process of developing output specifications becomes a
key component of both the PFI and the prime contracting pro-
cess; it is the only source of extensive commentary on the
client’s value system.
• Risk transfer. A primary objective of the PFI is to transfer risk to
the private sector for an FDBOT project for 25 to 30 years, but at
a price. The same applies to capital prime but to a lesser extent,
since the supply chain consortium does not have to finance the
facility and only has operational responsibility for the proving
period. Under regional prime, the operational responsibility is
extended up to ten years, but again the prime contractor does
not have to finance the facility.
• Supply chain clustering. Prime contracting, through the BDB
pilot initiative, developed the concept of supply chain

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clustering for project delivery. The concept has its origins in

manufacturing and has been extended into both regional and
capital prime. The formation of new, integrated supply teams
does pose problems in getting to grips initially with the concept,
especially where supply chain members have traditionally not
been involved early on in the delivery process. They have to
learn new skills. There are questions as to whether supply chain
clusters are generic or specific. If they are generic across pro-
jects, under capital prime cross-project learning becomes much
easier. If they are specific to a situation, then learning across
projects becomes more difficult and mechanisms need to be in
place to ensure this happens.
Since the focus of this chapter is on raising issues about innova-
tive procurement methods when set against the backcloth of the
project value chain, it is worth mentioning three other procurement
methods that currently exist in the industry:
• The NHS Estates Procure 21 procurement method. This uses
best practice in supply chain management, adopting principles
that have stemmed from the BDB initiative for both capital pro-
jects and PFIs.
• The PPC 2000 partnering contract is one that has developed out
of the Egan initiative. It purports to build in good practice on
partnering, integrated supply chain management, value man-
agement, value engineering, risk management and whole-life
performance. It has been widely piloted. The contract does not
specify the use of supply chain clustering as a way of working.
Partnering as a concept is about having an infrastructure of
trust across the supply chain. At one level, trust is an interper-
sonal issue involving consistent behaviour. A partnering con-
tract raises questions as to whether trust can be contractualised.
• Early contractor involvement. The Highways Agency has recently
introduced a new form of procurement utilising the New Engi-
neering Contract, where constructors are involved much earlier
in the design development process to increase the level of supply
chain integration. The approach does not specify the use of
supply chain clustering as a way of working but sanctions the use
of value management, value engineering, risk management and
incentivisation, whole-life performance, and sustainability.

Summary
This chapter has focused on exploring a range of issues associated
with new, innovative forms of procurement. The implications are

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clear. The agenda for change in procurement methods has been

driven by major reviews of the industry. It will be driven in the future
by those that have signed up to the Clients’ Charter, and central
government departments procuring construction services. These
services will be procured using integrated teams and supply chains
assembled on a long-term basis, and utilising supply chain skills at
the right time in the delivery process. These initiatives will cascade
into other parts of the public sector. This agenda sees construction
aligned with manufacturing processes, where this supply chain inte-
gration is the norm.

Bibliography
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Holti, R., Nicolini, D. and Smalley, M. The Handbook of Supply Chain Man-
agement: The Essentials. Publication C546. CIRIA/Tavistock Institute,
London, 2000.
Kelly, J. R., MacPherson, S. and Male, S. P. The Briefing Process: a Review
and Critique. Royal Institution of Chartered Surveyors, London, 1992.
Kelly, J. R., MacPherson, S. and Male, S. P. Value Management – a Proposed
Practice Manual for the Briefing Process. Royal Institution of Chartered
Surveyors, London, 1993.
Latham, M. Constructing the Team: Final Report of the Government/Industry
Review of Procurement and Contractual Arrangements in the UK Construc-
tion Industry. HMSO, London, 1994.
Male, S. P. Building the business case. In: Kelly, J., Morledge, R. and
Wilkinson, S. (eds), Best Value in Construction. Blackwell, Oxford,
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Male, S. P. Supply chain management. In: Smith, N. J. (ed), Engineering
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Management Benchmark: a Good Practice Framework for Clients and Practi-
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Procurement through programme
management
M. Graham and S. Male

Introduction
Programme management is a value-adding business function that
interfaces strategic management and project management to pro-
vide sustained organisation-wide capabilities and benefits over time.
It provides a structured framework or ‘gestalt’ supporting organisa-
tional learning and a company’s core business by grouping, ranking,
allocating resources to and coordinating projects as vehicles for
change.
This chapter provides an overview of strategic management and
the link with programme management. Subsequently, by explor-
ing alternative definitions of programme management, the chapter
locates its position within the overall organisational structure between
strategic and project management. Interfaces between strategy, pro-
grammes and projects are explored with a particular emphasis
on programme management. The factors involved in developing a
programme are discussed with special prominence being accorded to
planning and control, benefits, ranking, and value. The chapter
concludes with a consolidated overview of programme management
and its relationship to procurement strategies.

Strategic management, managing change and programme

management
The intention here is only to provide a very brief overview of the
concept of strategic management, concentrating on its interface
with programme management.
The strategic management process answers questions about what
the organisation ought to be doing and why, and where it should be
going and why. Strategic management also involves making choices
and managing change. An organisation’s strategic decisions are
likely to be long-term in nature and with distant horizons. Distant

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horizons equate to uncertainty and therefore the need for flexible

or adaptable solutions. Other characteristics of strategic decisions
include the need for integration between conflicting objectives and
divisions within the organisation, and often the need for radical and
possibly unpopular actions. Change, forming part of the strategic
management process, is inherent in business organisations.
Change can be classified into two major and three contingent
types:
• Recurrent change is incremental and routine, and requires no
major realignment of the organisation with its external environ-
ment. Operational change, which occurs at the lower levels of an
organisation through its day-to-day activities, is a form of recur-
rent change.
• Transformational change creates a fundamental shift between the
organisation and its external environment. Transformational
change can comprise strategic or competitive change. Strategic
change is immediate, fundamental, radical and discontinuous.
Most managers in an organisation are unlikely to see it coming.
It affects the organisation from top to bottom. Competitive change
creates a fundamental shift between the organisation and its
environment in the medium to longer term. This will normally
be felt as a sustained, deep-seated and continuous pressure on
the firm to readjust its activities.
The role of an organisation’s executive, for example the board of
directors, trustees or governors, is to manage change and place the
organisation at the optimum position within its environment. That
will first require deciding where that position is. ‘Placing’ implies a
forward position, action and change. Establishing where or what
that forward position is requires a strategic decision. A strategy is a
plan, a way of doing things, and as such strategy is pervasive. A plan
could quite feasibly be to maintain a status quo, or it could be a
vision of change. To be realistic and capable of achievement, the
strategy must be matched to available resources, and so the plan or
scope of activity is constrained within a boundary. Strategic manage-
ment can therefore be described as ‘defining a future position and
matching resources to that vision’.
The process of creating a strategy is generally as follows:
1. Investigate the situation – define the decision to be made.
2. Develop alternative decisions – to ensure the right problem is
being addressed.
3. Evaluate alternative decisions – options appraisal.
4. Select.
5. Implementation and follow-up.

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Analysing the environment Planning direction

Planning strategy, ‘the means

Implementing strategy
and how’

Figure 13.1. A simple model of the strategy creation process

This strategy creation process can be simply modelled as shown in

Figure 13.1.
Items 1 and 2 above are normally termed ‘strategy formulation’;
items 3 and 4 are termed ‘strategic choice’; and item 5 is term-
ed ‘strategic implementation’. It has been recognised for many
years that implementation is frequently the necropolis of strategy.
Strategy formulation tends to dominate over implementation.
Projects are an outcome of the strategic management process; they
are experienced through strategic implementation. The increased
use of projects has also brought the need to marshal project activity in
some coherent and beneficial way. Programme management offers a
structured, integrated and central approach to project selection and
resource allocation so that the aims and objectives of the organisation
as a whole can be balanced. Programme management is, therefore, a
business function, providing information, not data, and is designed
to support the core business of an organisation. As a business func-
tion, it must have demonstrable cost and time benefits. Programme
management can also be viewed as providing the link between stra-
tegic and project management. It has developed in response to the
widespread use of projects as a means of realising strategic change. As
a link, its role is two-directional. First, it assists the strategic deci-
sion-making process, and second, it delivers the changes necessary. Its
central position within the organisation enables it to ensure that the
strategic delivery of each project is consistent with that of the other
projects, and their own strategies. This means that the right projects
must be selected, that appropriate scarce resources are allocated as
and when necessary and that appropriate monitoring and control
procedures are established.

Basics of programme management

Programme management provides an umbrella under which several
projects can be coordinated. It does not replace project manage-
ment, but rather it is a supplementary framework. Managed in this
way, projects are more likely to be driven by business needs rather
than personal agendas, the chance of duplication is reduced and
interdependencies become more explicit and recognisable.

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Part of the role of programme management is to contribute to

that strategic decision-making process. By merging the boundaries
between ‘strategy’, ‘programme’ and ‘projects’, it makes the rele-
vance and importance of this interface, as the first step towards
effecting change, become apparent, and this interface should not
be undervalued. The need for this interface, as a communication
conduit, is essential given the volatile, responsive nature of some
strategic decisions (e.g. the reaction to an OPEC decision or major
corporate bankruptcies) on the one hand, and the relatively long
lead-in times of major projects and the complexity of their interde-
pendencies on the other. Strategic decisions are by definition broad-
brush, based on often incomplete or ambiguous information. The
potential for changes to strategic requirements during the project
development phase could be quite considerable. A permanent
channel for communicating changed strategic requirements through
to the implementation of projects is therefore essential.
It is argued here that it is not enough to just develop a strategy
without considering its implementation. The interface between stra-
tegic management and programme management facilitates an
opportunity for senior programme managers to advise on the feasi-
bility of implementation. Equally, programme management may
also influence the creation of strategy. By grouping together several
small construction projects, for example, and adding in their facili-
ties management requirements, a strategic decision to adopt a
Private Finance Initiative-type procurement route could be made.
In such a case it could be said that programme management had
influenced, along this interface, a change in financial strategy. That
example serves also to show another important face of programme
management, which is its ability to add value or benefit to the
organisation as a whole.
Although strategic management can be considered superordinate
to programme management in that it provides a framework for the
latter, it is not superior in the sense of being more important per se. It
is rather that they have different roles to play in the same organisation
and they complement one another. Having introduced programme
management through its interface with strategic management, the
next section examines in more detail the definitions, nature and
scope of programme management.

Defining programme management, its nature and its scope

Programme management is not a new concept. It was probably first
consciously used to deliver a defence initiative following the Second
World War that became known as the Polaris missile programme.

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Whilst network analysis and, largely, international peace have also

been attributed to the Polaris programme, sadly the benefits of
programme management have been largely overlooked since that
time. Reasons might include the fact that the early developments in
programme management were in the defence industries, areas that
are often of a sensitive or secret nature and with functions that are
essentially non-economic. Nevertheless, the need for an effective
interface between strategy and projects has continued to exist, albeit
largely unrecognised. However, with the current advent of several
public sector initiatives and major infrastructure investments,
the need for a distinct ‘discipline’ that can accommodate flexible
management structures capable of responding efficiently to uncer-
tainty and multiple goals has once more been recognised.
Project management is now a relatively mature discipline, having
developed many excellent tools for the delivery of predefined objec-
tives. It is concerned with the delivery of a unique piece of work.
Programme management is extensively interactive with strategic
management and individual projects and is instrumental in adding
value to the organisation. It is the role of the organisation’s strategic
management team to identify and articulate the need for change.
Projects are the instrument of change, a conduit through which the
organisation’s desires to improve, expand, adjust, etc. are delivered
or converted into reality. The need for programme management
becomes apparent when the scope of change is so extensive as to
require delivery through several projects over protracted periods.
The position of programme management in the organisation is
between strategy formulation and delivery. Its ethos is a hybrid of
strategic management and project management. It is a permanent,
pivotal function in any changing or developing organisation,
providing full-circle vision across the boundaries of strategy devel-
opment and project delivery.
Unfortunately, there is no convenient dictionary definition of the
word ‘programme’ for use within the context of business manage-
ment. However, several of the limited number of writers on
the subject of programme management provide insights into this
emerging discipline. They have attempted to remedy that situa-
tion by contributing their own definitions or descriptions, which
include:
• ‘the process of co-ordinating the management, support and set-
ting of priorities on individual projects, to deliver additional
benefits to meet changing business needs … a portfolio of pro-
jects which are managed in a co-ordinated way to deliver bene-
fits which would not be possible were the projects managed
independently’ (Turner and Speiser, 1992)

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• ‘a grouping of projects, either for purposes of co-ordinated

management or simply as a hypothetical construct to facilitate
aggregate reporting at the strategic level’ (Gray, 1997)
• ‘the co-ordinated management of a portfolio of projects that
change organisations to achieve benefits that are of strategic
importance’ (Office of Government Commerce, 1999)
• ‘a collection of projects related to some extent to a common
objective’ (Association for Project Management, 2000)
• ‘a framework for grouping projects and for focusing all the activi-
ties required to achieve a set of major benefits’ (Pellegrinelli,
1997).
Whilst there has not yet emerged an unambiguous and universally
accepted definition of programme management, this should not be
seen in a negative light. In fact the opposite is more appropriate;
unencumbered by definition, programme management is free to
grow, innovate and develop to find is own level and identity.
It is tempting to consider large projects or multi-projects as
programmes because there is an existing and extensive body of
knowledge and experience covering projects and project manage-
ment. Conversely, there is an absence of a coherent and widely
recognised body of knowledge surrounding programmes and
programme management. The difference between a ‘programme’
and a ‘multi-project’ can be illustrated by comparing the Polaris
missile ‘programme’ and an Olympic Games stadium ‘project’ by
looking at their respective time and strategic objectives/benefits
aspects. Polaris was to be completed ‘urgently’; there was no defined
date. An Olympic stadium has to be completed by a fixed time.
Polaris was designed to benefit the whole of the free world over a
long period; a stadium’s benefit can be said to be more parochial. A
stadium could serve a limited population, and alternative arrange-
ments are conceivable, albeit inconvenient. However, there was no
option of transfer for a failed Polaris programme. A stadium’s total
funding arrangements are put in place before work starts. Polaris
was funded by annual budget allocation.
The danger of attempting to employ project management tech-
niques to the management of a programme is in the level of detail.
This will destroy the inherent flexibility that programmes offer and,
more importantly, ignore their involvement with the organisation’s
strategic management. Thus, programme management supports
both strategy and projects. There are three parts to programme
management:
1. Selecting projects.
2. Assigning priorities to projects.
3. Coordinating those projects by managing their interfaces.

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The first two parts are clearly the more important and require
a knowledge of and interaction with strategic management. A
programme will provide a capability, i.e. a benefit, whereas a project
(regardless of size or complexity) is only a process and enables a
benefit to be obtained. A project has (or should have) a clearly
defined objective which enables a benefit to flow. A programme
will deliver a benefit. Programme management also provides a
repeat-business/project framework, or way of thinking, that will
absorb and retain the benefits of organisational learning. Amongst
other things, that framework brings together related projects and
maintains a strategic view over them, and aligns and coordinates
them with a programme of business change.
Once the required projects have been identified, it will then
be necessary to implement them. That is of course the role of
project management, but under the overall control and direction of
programme management.

Project ranking within a programme

Selection of the projects to be included in that programme is an
exercise of major importance, and the process of benefits appraisal,
ranking and prioritising achieves that aim, the subject of subsequent
sections.
However identified, any range of beneficial and feasible projects
will need to be scheduled into a rank order. This process should not
be confused with prioritising, which is concerned with the timing
of activities within a programme or the allocation of resources.
Ranking involves placing the projects into a hierarchy, reflecting the
effect they will have on or the extent to which they will contribute to
delivery of the organisation’s objectives, creating a new value activity
or enhancing an existing value activity. If, for example, a car manu-
facturer wanted to introduce a new model and it had been decided
that the optimum way to do so was via a purpose-built factory, that
project would probably be placed higher in the hierarchy than
re-roofing the existing factory. Clearly, without a clear strategic
direction, it is impossible to establish a rank order. Without such
direction, the usual result is to keep the options open or to do
nothing. The rank order within the programme will be subject to
change through circumstances beyond the programme manager’s
control. In such a circumstance it will be necessary to review and,
possibly, realign priorities. Human resource opposition, discontent
and demotivation will invariably accompany this action at least,
which the programme manager must anticipate and attempt to
cater for.

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A project’s rank may be considered its key to success. A highly

ranked project will probably attract more resources, thus making its
success more probable, provided it is feasible. It is also important to
know how a ranking, be it high or low, is assigned, and often organi-
sational politics will creep into this process. Unfortunately, many
projects are considered to have failed because they do not achieve
what was anticipated of them. Reasons for this could include:
• lack of clearly defined objectives
• unrealistic or over-optimistic objectives
• the project was driven by technology rather than business need.
There are four ways by which a project may secure preference:
1. Differentiation – establishing unchallengeable claims on valuable
resources by distinguishing an organisation’s own products from
those of competitors, i.e. convincing others that only that partic-
ular project will satisfy the need.
2. Co-optation – attempting to absorb new elements into the deci-
sion-making structure as a means of averting threats to organisa-
tional stability or existence. This can involve either the claiming
of power or simply sharing the burden of power.
3. Moderation – attempting to build long-term support by sacrific-
ing short-term goals. The key to this strategy is an ability to esti-
mate and compare short- and long-term gains and losses.
4. Managerial innovation – an attempt to achieve autonomy in the
direction of a complex and risky project through the introduc-
tion of management techniques that appear to indicate unique
management competence. This is often seen as high-level inter-
vention, giving the impression of the project being important.
However, this can often stifle innovation from lower down in
the organisational hierarchy.
There is no formula that will uniquely identify those projects
deserving a high ranking, but some formal approach will form the
integrating factor in the array of choice. The evaluation framework
must itself be a part of the strategic plan and be flexible enough
to allow preselection of techniques and methodologies as appro-
priate. Also, programme management efficiency can be improved
by improved procedures for project evaluation, i.e. a requirement
for a rigorous and competitive analysis of the technical problems
and benefits likely to be produced and their cost implications.
The knowledge that there exists competition to secure a superior
ranking will force competing project sponsors to examine their case
and arguments more carefully. Finally, there is a likelihood that
there may be many proposals to select from, and a screening process

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is required to eliminate early on any projects that are clearly defi-

cient against preordained criteria, e.g. a minimum internal rate of
return.
Generally speaking, the selection criteria should include the
following questions. Does the project:
• take advantage of an organisational strength?
• avoid dependence on a known organisational weakness?
• offer an opportunity to gain competitive advantage?
• contribute to internal consistency?
• present an acceptable level of risk?
Finally, it should be noted that even if an individual project
delivers according to its plan, it does not necessarily mean that the
programme has added value.
The project-ranking process provides an excellent opportunity
to implement the techniques of value management to give a pro-
gramme or an individual project the best chance to add value. Value
management is a structured, systematic, challenging, team-based
process that keeps function and purpose to the fore and attempts to
make explicit the package of whole-life benefits an organisation is
seeking from a service, project, programme or product. It is not the
intention of this chapter to discuss value management in detail; it
has also been mentioned in other chapters.
The process of strategic management and its link with projects
and programme management are demonstrated in Figure 13.2.
Programme management has been defined in this chapter as an
integrating business function to support the core business of an
organisation. As a business function, it must have demonstrable
cost, quality and time benefits and have developed in response to
the widespread use of projects as a means of realising strategic
change. To be effective, programme management requires the right
projects to be managed, selected and coordinated and requires
appropriate scarce resources to be allocated as and when necessary.
It also requires appropriate monitoring and control procedures. It
has already been stated that programme management’s position in
the organisation is between strategy formulation and delivery. As
such, it has interfaces, distinct links or communication conduits
between strategic management in one direction and project manage-
ment in the opposite direction.

Programme management and procurement strategy

As indicated in Figure 13.2, programmes or a single project are an
outcome of the strategic management process. They also contribute

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Formulating
strategy

Strategic
management
process

Identify
need for
projects

Influenced by making Requires strategic

strategic choices and implementation
competing resources

Programmes Single projects

of projects

Procurement Procurement
strategy strategy

Figure 13.2. The link between strategy and programme management

Project programme level Programme unit

Project portfolio Project portfolio Project portfolio Value management

(1) level (2) level (3) level
Risk management
Procurement
Project 1
Project 2 Commercial
Project 1 management
Project 2 Project n
Project n Safety
Security
Project 1
Project 2 Physical assets
Project n Quality assurance
and compliance
Benefits management
Change management
Prioritisation
Learning and feedback

Figure 13.3. Programme-level procurement strategy

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to it. Previous chapters have discussed in detail procurement strate-

gies for single projects, and they will not be discussed further here in
detail. However, the discussion will explore procurement options at
the programme level.
Depending on the size and complexity of a programme, it is
possible that it would be broken down into portfolios of projects
with similar objectives, timescales, locations or complementary
resources, as indicated in Figure 13.3. A programme unit would be
set up to handle:
• programme strategy
• policy
• guidance
• coordination
• consistency across portfolios and projects
• other initiatives as set out in Figure 13.3.
The structure set out in Figure 13.3 permits long-term alliances to
be formed either at programme level or at portfolio level. Alliancing
would engender cross-project learning, continuous improvement
and performance benchmarking.
Programme and portfolio structuring also enhances the capa-
bility to enter into partnering structures and collaborative forms of
procurement. Clustering strategies (either generic or tailored) also
come to the fore. Procurement strategies for a single project or
across multi-projects within a portfolio can be adopted for inte-
grating design, constructor and asset management teams, and also
for maintaining a differentiated contract structure if so required.
The important point is that value management provides the inte-
grating structure for dealing with complexities across a programme,
or within project portfolios, multi-projects or single projects. As
a methodology, it can assimilate the structuring and simplifying
of complexity at programme or portfolio level through tailored
procurement strategies, by bringing the right team together at the
right time.

Summary
This chapter has demonstrated that, whilst programme manage-
ment is not a new concept, it is an extremely useful value-adding
addition to any organisation contemplating change. The absence
of an accepted definition of this management function is consid-
ered a powerful strength, allowing its future natural development.
Programme management contributes to strategic and project
management. Both of these managerial functions have been

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reviewed but, more importantly, the interfaces between them have

been explored. It is by the effective management of those interfaces
that considerable efficiency gains can be made. There is also scope
for improvement provided by the umbrella approach of programme
management. It provides an effective ‘gestalt’ for managing
projects, in the form of resources for implementing change in a
coordinated way to deliver business benefits. Programme manage-
ment is a value-adding business function, responsible in part for
the selection of projects, potentially using the application of value
management tools to assist with this task and in thinking through
customised procurement strategies.

Bibliography
Association for Project Management. Body of Knowledge, 4th edition.
APM, High Wycombe, 2000.
Clark, P. Social technology and structure. In: Hillebrandt, P. M. and
Cannon, J. (eds), The Management of the Modern Construction Firm:
Aspects of Theory. Macmillan, London, 1989.
Ferns, D. C. Developments in programme management. International
Journal of Project Management, 15(3) (1991), 148–156.
Gray, R. J. Alternative approaches to programme management. Interna-
tional Journal of Project Management, 15(1) (1997), 5–9.
Grundy, T. Strategy implementation and project management. Interna-
tional Journal of Project Management, 16(1) (1998), 43–50.
Johnson, G. and Scholes, K. Exploring Corporate Strategy. Prentice-Hall,
Englewood Cliffs, NJ, 1989.
King, W. R. The role of projects in the implementation of business
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Handbook. Van Nostrand Reinhold, New York, 1988.
Langford, D. and Male, S. P. Strategic Management in Construction. Blackwell
Science, Oxford, 2001.
Lansley, P., Quince, T. and Lea, E. Flexibility and Efficiency in Construction
Management. Final Report. Building Industry Group, 1979
Office of Government Commerce. Managing Successful Programmes. HMSO,
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Payne, J. H. and Turner, J. R. Company-wide project management: the
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International Journal of Project Management, 17(1) (1999), 55–59.
Pellegrinelli, S. Programme management: organising project-based change.
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Turner, J. R. The Handbook of Project Management. McGraw-Hill, New
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Turner, J. R. and Speiser, A. Programme management and its informa-

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Future trends in construction
procurement: procuring and managing
demand and supply chains in
construction
S. Male

Introduction
This chapter describes construction as comprising different
demand and supply chain systems. It explores the impact of
procurement routes upon these and highlights the fact that a
demand and supply chain system in construction comprises two
interrelated parts. First, there is the demand chain, which is client
driven, and is set up by a chosen procurement route. This sets the
parameters for demand chain management (DCM) in construction.
Second, there is the supply chain, which is ‘main contractor’ driven,
and responds to the demand chain of the client and the associated
procurement route. Both ‘chains’ comprise the project value chain.
By distinguishing between DCM (the strategic choice of a procure-
ment route) and supply chain management (SCM), the main
contractor’s response to the demand chain, the chapter explores
the potential impact of the recent changes in procurement routes
that have emerged in construction as a result of industry restruc-
turing. The chapter also introduces the concept of the ‘strategic
supply chain broker’ and describes the role that the broker may play
within the management of future demand and construction supply
chain systems, depending upon the client type and chosen procure-
ment route.
A paradigm shift has occurred in the procurement of suppliers,
from being seen as an operational activity into one that is now stra-
tegic and linked to the long-term survival of a firm. SCM has
emerged as a strategic function of a firm. Its purpose is to manage
and integrate activities external and internal to the firm for the

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sourcing, acquisition and logistics of resources essential for gener-

ating products or services that add value to its customers. The manu-
facturing and retail industries have seen intense, prolonged, global
competition. They have provided the main theoretical and practical
developments in the field of SCM. The roots of the concept lie in
physical distribution management, subsequently evolving into logis-
tics management and then into SCM. Logistics management, with
its origins in the military, is a planning framework concerned with
optimising product and information flows within the organisation.
SCM relies on trust and cooperation to work effectively and, unlike
logistics management, its focus is on the internal and external inte-
gration of the supply chain and the management of materials, infor-
mation and money through it. By addressing internal linkages
within the firm and external relationships with suppliers and
customers, the intent is to deliver superior customer value at less
cost to the supply chain as a whole. SCM in construction is inher-
ently linked to procurement strategies adopted by clients and their
advisers and can add to or detract from adding value, depending on
the chosen procurement method. SCM encompasses operational
dimensions, and hence there are strategic as well as tactical dimen-
sions to the concept.
The next section discusses a typology of demand and supply chain
systems in construction, indicating their relationship to procure-
ment methods.

A typology of demand and supply chain systems

Earlier chapters have discussed innovative forms of procurement
and the move towards integrated teams. This section will reintro-
duce the client value system and the project value chain concepts,
and emphasise a typology of demand and supply chain systems in
construction, tailored to client types. This will lead into a discussion
of the concept of the supply chain broker, how this new type of role
may emerge as a response to the need for greater SCM in construc-
tion, and the alignment of this role with demand and supply chain
responses depending on client types.
One of the important considerations for SCM in construction is
the impact that the client (or customer) has on the process. The
client commences the process of procurement, bringing together
different skills through a procurement strategy to deliver a
completed product – a physical asset of some type – to meet a need.
All clients have distinct requirements and value systems, driven
by their own organisational configurations, business and/or social
needs, the external environment to which they have to respond and

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the manner in which they approach and interface with the construc-
tion industry. Earlier chapters highlighted the importance of main-
taining intact the ‘value thread’ throughout the project value chain.
Nigel Standing has segregated the project value chain into three
distinct value systems:
• The client value system, concerned with stakeholder expecta-
tions, business drivers, needs and requirements.
• The multi-value system, bringing together different technical
experts in design and construction from across the supply chain.
• The user value system, concerned with stakeholder expecta-
tions, business drivers, operational needs, requirements, fitness
for purpose, and functionality.
Different procurement routes have the capability of integrating
or segregating these different value systems. Figure 14.1 indicates
the levels of complexity that can creep into the project value chain.
The supply chain network in construction, as a set of contributors to
the project value chain, can be classified as:
• Professional service firms, who provide a combination of skills
and intellectual property to the process, typically comprising
the designers and other professional consultants. Depending
on the procurement route adopted, the delivery of professional
services can fall within either the client’s project-specific demand
chain or the main contractor’s supply chain.
• Construction and assembly firms. The on-site construction pro-
cess is exceedingly skills focused. It comprises a range of differ-
ent types of firms, which may have overall responsibility for the
management of the process or for supplying inputs into the pro-
cess. It involves fitting, installation, assembly, repair and on-site
and off-site labouring. These firms are brought together at a
location as part of the on-site manufacturing process.
• Materials and products firms. These comprise firms providing
the materials, products and hired plant involved in the on-site
process. These form part of the main contractor’s supply chain
and will involve the make (production), move (logistics) and
store (stockpile) activities to and at a particular site location.
The diversity and structure of supply chain networks in construc-
tion is driven by the demand chains created by a diversity of clients.
‘Main contractors’ act as managers of a supply chain hub or node,
and obtain their competitive advantage from three important
supply chain activities. First, main contractors function as resource
procurers and managers of supply chain networks on behalf of a
diverse range of clients. They need to be capable of responding to

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 Client value system Multi-value system User value
system

Client’s value Client’s value User value

chain system chain

Financier/ Designer’s Contractor’s

banker value value system value chain
chain

Internal Regulatory Regulatory

Contractor’s
stakeholders’ authorities’ authorities’
value system
value chain value system value chain

Corporate Business Project Design Construction Commission Operational

value value value value value value value

251
Project value chain

Specialist Quantity
Customer Customer’s
contractor’s surveyor’s
value chain value chain
value system value system

External Project
Client’s value
stakeholders’ manager’s
chain
value chain value system

Regulatory Supplier’s Financier/

authorities’ value system banker value
value chain chain

Figure 14.1. Typical value systems and value chains that impinge on project value chain. Source: Standing (2000)

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MANAGEMENT OF PROCUREMENT

the requirements of different demand chains, often created

through a diversity of procurement and contract strategies. To
respond successfully, they need an effective and efficient supply
chain network. Second, they need to be good at logistics manage-
ment. Third, they need to organise effectively and efficiently the
on-site production activity at varied geographic locations, where
the production activity of main contractors now involves exten-
sive subcontracting. Effective SCM for the main contractor will
require premeditated decisions on supply chain partners and stra-
tegic suppliers, those national/international firms from which they
procure on a very regular basis or which are critical to project
delivery. It is likely that tactical/operational supply chain decisions
will be made from preferred and approved lists of suppliers for
particular geographic locations. Equally, the ‘hub’ or ‘node’ capa-
bility of the main contractor needs to be developed more fully to
incorporate standardised procedures, processes and components
and an increased focus on delivering value to meet client require-
ments. As a comprehensive strategic activity, SCM will require main
contractors to consider the most appropriate organisational struc-
ture to meet these demands.
In earlier chapters, clients have previously been characterised in
terms of the economic demand placed on the industry in terms of
volume – frequency and regularity – and the extent to which stand-
ardisation may exist from project to project in terms of parts,
processes and design. Each type of project will be recapped briefly,
and described subsequently as a distinct type of demand and supply
chain system in construction requiring appropriate DCM methods
through choice of procurement method. Unique construction is
distinctive in terms of technical content, innovation, and the extent
to which it pushes the barriers of the industry’s skills and knowledge
to the limit. With this type of project there is limited, if any, scope,
for efficiencies in process or standardisation and repetition. This
creates a unique construction demand and supply chain system, and
typical DCM tools and techniques could include:
• use of competitive tendering coupled with strong pre-qualifica-
tion and post-tender negotiation processes
• control over product delivery, exercised through specifications
and forms of contract, and quality assurance processes for design
and construction, including supervision and checking of work-
manship during the latter
• a reliance on good professional advice.
Typical procurement routes that can work well under this system
are the traditional route, construction management, management

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contracting in particular, and certain variants of design and build,

all potentially overlaid with partnering structures to improve collab-
orative working.
Customised or off-the-peg construction tends towards the preceding,
with the possibility for standardisation through repeat design,
where clients may require only one or two similar physical assets, or
where there is some foundation in previous designs undertaken for
a range of clients but some adaptation is required for a new client.
This creates a customised construction demand and supply chain system,
and typical DCM tools and techniques could include:

• serial tendering with strong pre-qualification and post-tender

negotiation processes
• control through appropriate forms of contract, use of perfor-
mance specifications and intellectual property rights
• cross-industry collaboration.

The previous procurement routes can also operate well under this
system.
Process construction occurs where there are repeat demands for
projects and a high degree of standardisation is possible through
the volume placed into the industry. Volume spends are highly
probable. Efficiencies can occur from standardisation of design,
components and processes. This creates a process construction demand
and supply chain system, and typical DCM tools and techniques could
include:

• use of forward planning and demand forecasting techniques

• rationalisation and consolidation of suppliers by spend
• use of strategic alliances, joint ventures and partnering with sup-
pliers using non-contractual forms of agreement
• use of performance management, continuous improvement,
quality circles, total quality management, just-in-time and inven-
tory management, and lean supply systems.

Prime contracting, design–build–finance–operate, design and build

variants, early-contractor-involvement procurement options and
framework agreements can all work well under this system.
Portfolio construction occurs where clients have large and ongoing
spends across a range of project types, with a diversity of needs in
terms of technical requirements, degree of uniqueness, process or
customisation, and content. Regular volume spends will permit
long-term relationships with some suppliers. This creates a portfolio
construction demand and supply chain system, and typical DCM tools
and techniques could include:

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• clustering of suppliers
• use of forward planning and demand techniques
• agile and flexible supply agreements, normally using some type
of framework agreement or ‘call-off’ contract arrangements
using schedules of rates and partnering philosophies
• use of the learning-organisation philosophy and supplier inno-
vation, benchmarking and continuous improvement.

Portfolio construction, by its nature, could involve any combination

of the above procurement systems.
This brief discussion has indicated the need to understand client
types, their value systems, and that construction industry demand
and SCM have to be attuned to the type of client. A schematic for the
construction demand and supply chain system is set out in Figure
14.2. The next section explores contractor-led SCM in more detail.

Contractor-led SCM
The Warwick Manufacturing Group (WMG) research into SCM in
construction identified the fact that first, the construction industry
faces major problems with its suppliers that are fundamental to prof-
itability. Second, world-class firms in other sectors of industry have
developed structured, disciplined relationships with their suppliers
to satisfy the needs of their final customers. WMG studied case
examples from manufacturing, construction and the results from
demonstrator projects as part of the research. Manufacturing
companies involved in the research were drawn from the aerospace
industry (3), oil operations (1) and shipbuilding (1). These case
examples demonstrated some striking similarities to construction –
small-batch production; a need to reduce cycle times; cyclic
demand; complex products, often with high levels of customisation;
and a need to drive down costs. However, there are also differences
from construction, most notably the level of global competition
faced by the firms in the case examples compared with those in a
predominantly domestic construction industry. WMG concluded
from its review of manufacturing that best-practice SCM in construc-
tion is not as advanced as that in the former, and that in the latter,
client behaviour linked to the choice of procurement route is
blamed for delays in implementing collaborative working methods.
The research on construction also involved working with four
construction firms and one major procuring client. Those firms in
construction involved in the research that had implemented SCM
were reported to have obtained increased work through negotiation
by an amount of the order of 30–70% across the companies studied.

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Client type 2 Client type 3

procurement system B procurement system C

Client type 1 Client type 4

procurement system A Project-focused procurement system D
demand chains

Strategic partners Main contractor Strategic partners

and suppliers demand chain ‘hub’ and suppliers
Tactical preferred procuring materials, Tactical preferred
and approved components, plant and approved
suppliers and equipment and suppliers
Locations 1–W services Locations 4–Z

Strategic partners Multi-project-focused Strategic partners

and suppliers supply chains and suppliers
Tactical preferred Tactical preferred
and approved and approved
suppliers suppliers
Locations 2–X Locations 3–Y
Strategic partners
and suppliers
Tactical preferred and
approved suppliers
Locations …N

N
Site location A Site locations … Site location B

Figure 14.2. Construction demand and supply chain system. Adapted from Langford and
Male (2001)

In addition, reductions in delivery time, increases in profit and

market share, and advantages in competitive-tendering work can
also accrue by bidding as a supply chain. As a consequence of its
research with manufacturing and construction firms, WMG proposed
a model for SCM in construction based on the ‘Building Down
Barriers’ project. It comprises two principal components, namely
organisational and project factors, each made up of separate activi-
ties. A schematic of the model is presented in Tables 14.1 and 14.2.
To summarise, construction has been argued to comprise a
demand and supply chain system, the former driven by client
requirements and the choice of procurement route. The latter is

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Table 14.1. A model for SCM in construction: organisational factors. Adapted from Table
A.1, Warwick Manufacturing Group (1999)

Organisational factors SCM characteristics

Business development There is a clear need to understand client business

drivers, and this requires establishing long-term
relationships with clients, where negotiation and not
competitive tendering is the preferred mode of
contractor selection. Contractors obtain a competitive
advantage from their supply chain, and this can lead
to business development opportunities for offering an
integrated design and construct service involving
suppliers, who are also client focused. The business
development function will also need to address
retaining teams to work on succeeding projects
Supplier sourcing Key suppliers should be selected based on their skills,
commitment to collaborative ways of working, a
willingness to support contractor business objectives
and continuous improvement. A supply chain
champion should be appointed, preferably from
within the procurement function of the main
contractor. The main contractor and key suppliers
should have a joint commitment to technology and
process improvement, with a protocol setting out the
rules of the relationship, which will be based on trust,
openness, consistency, fairness and respect
Management of change There needs to be a commitment from the main
contractor’s senior management to drive SCM into
the organisation and to develop an appropriate
strategy, including allocating resources to supply
chain training. There needs to be a supplier
measurement system implemented and a
commitment to SCM established through pilot
projects demonstrating measurable results and
benefits

driven by the main contractor’s response to the former. A typology

of construction types and related demand and supply chain systems
has also been proposed. The interaction between the project value
chain, procurement and SCM has been developed further and a
model of contractor-led SCM introduced.
The next section builds on the foregoing and explores the impli-
cations of the newer forms of procurement, involving collaborative
working, different demand and supply chain systems, and SCM for
the future operations of the construction industry. It argues that a
new role in the industry will emerge – the strategic supply chain
broker – as a natural extension of the drive towards collaborative

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Table 14.2. A model for SCM in construction: project factors. Adapted from Table A.1,
Warwick Manufacturing Group (1999)

Project factors SCM characteristics

Management of the Client needs must be to the forefront. Functional

design process specifications should be adopted, using a structured
and formalised design process to optimise
functionality and minimise cost, and employing value
management and value engineering. An integrated
approach to design should be adopted, with the main
contractor offering single-point responsibility for
project delivery. A clustering strategy should be
adopted for design development using suppliers and
users from the outset. There should be a commitment
to risk management and risks allocated to those best
able to manage them. Information technology should
be utilised to improve the communication of design,
cost and planning information
Cost management Profit and overheads should be agreed up front, with
target cost and incentive mechanisms utilised to drive
improvements. A formal, documented system of value
analysis should be adopted throughout, with costs
readily understood and transparent to all
Management of the Best practice should be adopted throughout and
construction process documented. Planning for the construction stage
should commence during detail design and should
involve suppliers within cluster groups.
Continuous-improvement teams should be utilised
extensively to remove waste, and resources should be
allocated to team training. If the preceding is
implemented then, consequently, quality checks on
suppliers become redundant

methods of working, with supply chain competing against supply

chain as a matter of course in the future.

The procurement, operation and management of future

construction demand and supply chain systems
A programme of work was conducted during the period 1994–2000
that postulated possible future scenarios for the structure of the
construction industry around demand and SCM. The European Large
Scale Engineering Wide Integration Support Effort, eLSEwise for
short, was concerned with contributing to the continued success of the
European construction industry by assisting the different sectors and
parties in their efforts to improve competitiveness. Large-scale engi-
neering (LSE) projects are complex, multi-disciplinary, engineered

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undertakings involving design, construction and potentially operation,

and are encountered at the top end of construction activities. Typical
examples include complex buildings, process plant, infrastructure and
other significant civil engineering works. An LSE project has many of
the following attributes:
• High capital cost.
• Long duration and programme urgency.
• Technologically and logistically demanding.
• The requirement for multi-disciplinary inputs from many
organisations.
• The creation of a ‘virtual enterprise’ for the execution of the
project, that is, a group of organisations collaborating as a ‘part-
nership’. The ‘virtual enterprise partnership’ could have lon-
gevity, and could design, construct, operate and maintain the
end product until decommissioning, and could execute other
LSE projects. It could be, however, a transient virtual partner-
ship, which disbands after the project is executed and handed
over or after decommissioning.
eLSEwise concluded that there would be a major shift of responsi-
bilities from client to contractor, with the latter expected to take
more risk. In addition, LSE clients would be outsourcing non-core
activity and decreasing in size, with a consequent loss of in-house
construction expertise. The research also confirmed a major shift in
procurement routes over the next decade, with increasing use of
strategic alliances and integrated supply chains in the LSE sector.
Profitability, capital cost, whole-life costs, health and safety, and the
timescale of projects were identified as key value drivers, and there
was an increasing focus on value for money from clients. Greater use
of information and communications technology (ICT) to assist
project processes was also seen as an important driver. The eLSEwise
research also focused on the competitive advantage of LSE contrac-
tors, with key sources of competitive advantage including:
• the capability to provide attractive financial packages
• the ability to build winning alliances
• the ability to accept and manage risk
• the ability to invest in sales and in research and development
• the identification of client/user needs through market research
• the ability to procure on a global basis
• technical expertise and the right technology
• the integration of local and global knowledge
• political backing.
The eLSEwise consortium also identified that an LSE contractor’s
core competencies were widening. The LSE contractor of the future

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would be a project-centred organisation able to provide flexible

logistics skills, manage human resources, provide technical
construction skills, organise a network of specialists, have the ability
to organise and control financial packages, and manage a complex
multi-layered and multi-skilled organisation. In combination, these
competencies would deliver an integrated offer.
The ideas raised in this work were extended further to include
investigating the consequences of the above for the domestic UK
construction industry using the structural-steelwork supply chain as
an exemplar. The ‘optimum solutions’ research (Brown et al., 2000)
proposes that construction supply chains in the UK will be much
wider, operating regularly with different support structures and also
with a greater reliance on ICT. On a more regular basis, construc-
tion supply chains will include funders, designers and other
members of the design team; a ‘general’ contractor; specialist
contractors and suppliers of components and providers of services;
and facilities managers. Their offering will be a total service package
to the client. Using current trends in the industry stemming from
the increased use of design and build, examples such as Mace’s
‘Branded Product’ and, more importantly, the Private Finance
Initiative (PFI) and prime contracting, the ‘optimum solutions’
research hypothesised that new roles will emerge in the industry,
namely different types of strategic supply chain brokers. It was also
hypothesised that there will be a requirement for phased, seamless
teams to emerge and become the norm.
Historically, management contracting, construction manage-
ment, and design and build are attempts at drawing together design
and construction interfaces and responsibilities. These other mech-
anisms to overcome contractual adversarialism, and the need for
single-point contact and responsibility are important drivers for the
possible emergence of the strategic supply chain broker. The impor-
tant facet of the role is that the broker is able and willing to take away
risk from the client as a one-stop shop supplier of skills, expertise,
product components and knowledge, at a price. Brokers will compete
on their expertise using their supply chain base.

A typology of brokers and their skills base

Whilst the concept of the broker has similarities to that envisaged by
Holti et al. for prime contractors in the Building Down Barriers
project, it goes further. It extends the work and draws on prime
contracting and the PFI. The role postulated here is for an organisa-
tion to emerge that will broker skills and finance, take and manage
risk, and deliver asset value throughout the project value chain, into
the end product and potentially beyond. At the upper echelons of

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broker firms, ‘world-class’ organisations would emerge, capable of

total systems integration, to compete nationally and internationally,
potentially at project and programme level.
This section proposes that a range of broker types will emerge.
First, brokers could decide only to respond to pre-demanded prod-
ucts, the normal situation in construction. Second, brokers could
go one stage further, not only offering the preceding service but
also undertaking market research to understand client needs and
requirements and then deciding to create demand on behalf of the
clients by anticipating their needs in advance. This type of broker
would use specialist staff experienced in tracking trends in clients’
business environments and understanding their strategic and oper-
ational requirements. It is likely that such brokers would specialise
in particular client types and projects. They would approach them
with proposals to deliver and/or manage the types of physical asset
they need. Third, two other forms of broker could emerge, based on
type of demand but also, more importantly, on the requirements of
knowledgeable and less knowledgeable clients. In this instance,
using the Pareto principle, approximately 80% of all projects
could be categorised as ‘routine’, comprising the ‘customised’ and
process types of construction. This would act as one of the drivers for
working with the same project teams to develop cross-project
learning and to develop standardised processes, systems and proce-
dures. This would form the basis of volume delivery within the
industry, and the emergence of ‘volume brokers’ developing a
brand reputation for timely, regular delivery to cost at an appro-
priate quality and functionality on relatively straightforward
projects. Some brokers would emerge to deal with unique construc-
tion, where approximately 20% of projects could be categorised as
innovative and leading-edge. The current management forms of
procurement could be the drivers behind the emergence of this
type of broker. These brokers would develop brand reputations as
‘innovative brokers’, with the requirement to deliver innovative
solutions. Brokers operating under these conditions would have a
pool of leading-edge supply chain members that would be niche
providers to the industry. Finally, brokers could emerge that provide
a one-stop shop for design and construction only, similar to design
and build but working consistently with integrated teams; or brokers
could emerge that would provide the total package from cradle to
grave – concept, design, construction and asset management. These
brokers would emerge from within the ranks of firms currently deliv-
ering prime and PFI contracts.
Table 14.3 draws the above together to propose a typology of
brokers. Broker types 3 to 8 will require a high level of knowledge

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Table 14.3. Types of strategic supply chain broker

Type of demand

Total package: Total package:

Combined combined combined
service for pre-demand- pre-demand-
Pre-demand- pre-demand- led and market- led and market-
led service only led and market- forecast-led forecast-led
Type of using integrated, forecast-led cradle-to- cradle-to-grave
project seamless team service grave service service

Routine, Type 1: design Type 3: forecast, Type 5: forecast, Type 7: forecast,

volume and make to design and make design, make to design, make to
market order to order order and order, operate
operate and manage at
programme
level
Unique, Type 2: design Type 4: forecast, Type 6: forecast, Type 8: forecast,
niche market and make to design and make design, make to design, make to
order to order order and order, operate
operate and manage at
programme
level

and skills that go beyond construction. It is also likely that as one

moves from type 3 to type 8, the additional expertise of supplying
finance as part of a package is likely to increase, depending on
whether the client is in the public or private sector.
Given the range of expertise required to deliver the service,
broker skills would require a ‘large company’ knowledge base,
with existing long-term relationships in place with key members of
the supply chain, and founded on trust. The ‘optimum solutions’
project postulated that brokers could emerge from a number of
quarters, namely the ranks of the major national or interna-
tional UK contractors, construction managers, consultant project
managers, management consultants or international consulting
engineering firms. Banks with strong interests in construction
activity, perhaps funding build–operate–transfer or PFI projects
internationally, could also act in a broker role using a specialist divi-
sion acting as the interface between the bank and the industry.
In addition, regional broker firms could emerge to cater for
the smaller, occasional procuring clients. However, it is likely
that if the broker types emerge as postulated above, construction
would consolidate into a very hierarchically structured industry,
with broker firms acting as the principal point of contact with
clients. Should this arise, construction would restructure in the
UK and concentrate around a major grouping of brokers, some

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competing nationally, some competing globally. Other parts of the

UK construction industry would comprise part of each broker’s
supply chain system, at the local, regional, national or international
level.
The broker’s authority, as supply chain leader, would be derived
from:
• previous experience and a core competence in market knowledge
• SCM expertise
• in-depth knowledge of the construction process but not neces-
sarily on-site delivery skills, which could be subcontracted in
• a capability to structure and manage the total delivery process
• an ability to package skills and expertise, take and manage risk,
and deliver and manage the project value chain in order to meet
customer requirements using supply chain members.
Brokers would compete on the basis of their supply chain net-
works, with ‘strategic team’ capabilities derived from supply chain
partners and strategic suppliers, and with tactical capabilities
derived from a team composition using preferred and approved
suppliers attuned to client, project type and geographic location.
Depending on the service offered, brokers would include asset
management within their portfolio of skills and services, with supply
chain member choice or corporate configuration reflecting this
alternative. It is also postulated that over time, brokers and their
supply chain delivery teams would develop ‘brand types’ and have
a reputation for delivering facilities of a particular functionality,
aesthetic type and quality. The broker, as a strategic network coordi-
nator, would determine the scope of work for teams, agree appro-
priate profit levels and balance differing team expectations, and
would expect risks and value-based, rather than cost-based, rewards
to be shared. Supply chain networks would operate under systems of
open book accounting. The broker’s responsibility would be to
meet customers’ needs, guarantee certainty of delivery and achieve
client satisfaction.
Having identified eight different broker types competing on the
basis of stable supply chains, we shall review in the next section the
concept of the phased, seamless team as a complementary concept.

The phased, seamless team

Traditional, contractually based relationships can stray into
adversarial interactions when problems occur. The Latham and
Egan reports attest to this, as has every major review of construction
since World War 2. Traditional procurement is also more likely to be
linear and sequential, with one task following another and with
different organisations procured at a particular point in time to suit

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a particular project programme. This may militate against securing

the right skills at the right time regardless of position within the
supply chain. The ‘optimum solutions’ study proposed that under-
pinning the concept of the strategic supply chain broker is the use of
a phased, seamless team. Seamless teams would pre-exist around
a particular broker. Teams would be familiar with each others’
working practices owing to long-term relationships and would
recognise the value of timely information exchange to manage key
project interfaces throughout the supply chain. The seamless team
would operate on the basis of a moral and psychological contract
founded on trust. Process and procedure would not be contractually
based, and rewards and incentives would be based on performance
indicators tied into client-focused value and not cost-driven service
delivery. Teams would operate in a solution-oriented culture where
pooling and sharing of information would occur using a combina-
tion of face-to-face problem solving supported by information tech-
nology. Project processes would dictate when team members came
in and others left as the project progressed, and would require the
team to operate with seamless handover processes and procedures.
Team expectations, roles, responsibilities, skills and competencies
would be fully understood among team members. Under this
approach, deeper levels of commitment and cross-project learning
would occur. The principles behind the seamless team would permit
concurrency of inputs and skills for the benefit of the project and
product, buildability, and decision-making taking full account of all
aspects of the total process. Interfaces would be owned and informa-
tion flows improved since they would be internal to the team. This
method of working would lead to savings in time and money, and
greater opportunities for continuity of work and learning.
The next section draws the chapter together to reach a series
of conclusions about future demand and supply chain systems in
construction.

The future
The construction industry comprises numerous project-based
demand chains that are created through the procurement process
for individual clients. The choice of procurement route is a strategic
decision made by the client and/or its advisers and has a funda-
mental impact on the project-based demand chain. It has the
capacity to assist or hinder the transfer of value through the project
process – the ‘value thread’. Main contractors occupy a ‘node’ or
‘hub’ role in the demand and supply chain system. Their role is to
balance the competing needs of different project-based demand
chains with the procurement of their own multi-project supply

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networks. Main contractors, through their supply networks, are

ideally placed to become supply chain leaders working directly for
clients. However, as the analysis of the broker role has shown, this
may not necessarily be the case in the future.
Equally, contractors as ‘manufacturers and assemblers’ face
considerable end-product diversity due to different client types,
their individual requirements and design team influences, coupled
with the impact of the choice of procurement route on roles and
responsibilities. Regular, knowledgeable, volume-procuring clients
are in a position of considerable market power to influence their
own project-focused demand chain. However, whilst they may place
considerable volumes of business into the industry, they are not in
the majority numerically. Infrequent procurers, numerically greater
in number, are in a much less powerful position to influence their
supply chains, owing to much lower-volume, ad hoc spends. Equally,
some contractors have the advantage of organisational size and can
influence their own multi-project supply chains owing to their own
market purchasing power; others have much less capability in this
area. The author’s experience from studies of pathfinder prime
contracts, PFI and partnering also indicates that agreeing incentive
systems through the supply chain is one of the more difficult areas.
It depends on the procurement system and contract chosen.
One of the most comprehensive examples of implementing
the early-involvement methods described above for demand and
SCM in construction currently is prime contracting. The Highways
Agency is also experimenting with early-involvement methods, and
the PPC 2000 contract for partnering also permits this. The PFI, like
prime contracting, is output and not input specification based. It
has been applied in a variety of ways, including application to
customised, process and portfolio client asset bases. A consortium
supplying a finance, design, build, operate and transfer asset under
a PFI, perhaps for up to 25 years, has an opportunity of delivering
improved value for money throughout its supply chain when opti-
mising capital and through-life costs. However, in general, PFI does
not have a mandatory requirement to use structured value manage-
ment, value engineering, and risk management, partnering, SCM,
clustering or incentivisation procedures, although good practice
would suggest that these should be adopted. NHS Procure 21 inte-
grates these aspects formally. Under the PFI, consortia have to live
with the consequences of the decisions made early in the project
life cycle for a long time. Prime contracting and the PFI become
powerful systems for procuring volume asset bases if both involve
the mandatory requirements set out above. Both would require trust
to be widespread within the industrial supply chain base of construc-
tion. Evidence from research studies conducted by the author does,

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however, suggest that within some PFI consortia the use of existing
procurement routes is being reinforced under the guidance of the
‘special purpose company’, without the movement to greater inte-
gration within the supply chain that the system could provide.

Supplier Supplier
network location

Logistics management
Make Move and store

Location

Service offered

Corporate
configuration

Potential
Product Size
capacity SCM Ownership Client
type and and age
to increase structure type
design of firm
workloads

Extent of
centralisation/
decentralisation

Marketing
strategy

Procurement
routes

Project-focused
Make or buy A core competency of the
demand chain
In-house versus construction firm
out-house

Clustering

Design Manufacture Operation

Figure 14.3. A framework for construction SCM in the construction firm. Adapted from Male
(2002)

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Figure 14.3 draws the preceding together and sets out a framework
for thinking about SCM within the construction firm.
This chapter has also postulated the emergence of a new role in
construction, the strategic supply chain broker, as a response to
increasing levels of collaborative working with supply chains. The
PFI and prime contracting are seen as the most likely procurement
routes to lead to the emergence of a strategic supply chain broker in
the industry. Brokers, emerging as supply chain leaders and coordi-
nators, would be single-point contacts for clients, brokering skills
and finance, working with long-term integrated, phased, seamless
teams of supply chain members capable of offering capital invest-
ment or cradle-to-grave solutions. Strategic teams would comprise
supply chain partners and strategic suppliers, with brokers deciding
on the composition of tactical teams, drawn from preferred or
approved suppliers, depending on client or project requirements
and on geographic location. The exploration of the broker concept
has also included differentiating between brokers that may work

Strategic management
competency
Focus – understanding clients’
business and/or society’s needs
for creating, using and/or
managing physical assets as a
corporate resource

Project management Procurement management

Programme management
competency competency
competency
Focus – process Focus – acquisition of
Focus – achieving business
managing the multi-value physical assets by
and change management
system and supply chain organising and administering
benefits through managing
through the project life the multi-value system and
an integrated value system
cycle to deliver benefits supply chain

Asset management
competency
Focus – managing asset
performance through time
within the context of the client,
user value system and supply
chain

Figure 14.4. A framework for broker competencies

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 Table 14.4. Clients, demand and supply chain systems and the emergent broker rolea

Private sector clients Public sector clients

Knowledgeable – regular Less knowledgeable – Knowledgeable – Less knowledgeable –

procurers infrequent procurers regular procurers infrequent procurers

Consumer Consumer Consumer Consumer Consumer Consumer Consumer Consumer

clients: clients: clients: clients: clients: clients: clients: clients:
Response large small large small large small large small
from the owner/ owner/ Speculative owner/ owner/ Speculative owner/ owner/ owner/ owner/
industry occupiers occupier developers occupier occupier developers occupier occupier occupier occupier

Unique 3 NA NA
Typesa
2, 4, 6
Customised 3 3 3 3 3 NA NA
Types 1 Types 3 Types Types 1 Types 5–8

267
and 2 and 5 or 1–6 and 2 + finance
4 and 6
Process 3 3 3 3 NA NA
Types 1, 3, Types 1 Types 5–8 Types 5–8
5 and 7 and 3 + finance + finance
Portfolio 3 3 3 NA NA
Types 1–8 Types 1–6 Types 5–8 +
finance
DCM Sophisticated Followers Sophisticated Reluctant Reluctant Sophisticated Sophisticated
orientation leaders External leaders followers followers leaders followers
Internal advisers Internal External External Internal Internal
advisers advisers advisers advisers advisers and external
Wait and Wait and advisers
see see
a
‘Type’ refers to type of broker; NA, not applicable

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MANAGEMENT OF PROCUREMENT

purely in the context of single-project delivery and those that

may work also at the project programme level. Figure 14.4 draws
together the skill base that would be required by the different types
of brokers. It also reflects key themes surrounding procurement.
Table 14.4 indicates that different broker types will gravitate to
certain types of clients. It acknowledges that certain broker types
would cater for the needs of the smaller, irregularly procuring
clients. The problem remains, however, one of the cost of collabora-
tive approaches. It is likely that in such instances, the smaller, irreg-
ular procurers will continue to adopt more traditional, non-
collaborative approaches to construction. If this is the case a struc-
ture for the industry different from that of today will emerge, with
large corporate clients served by leading-edge supply chains, work-
ing collaboratively, and small, irregularly procuring clients func-
tioning under traditional ‘adversarial’ approaches.

Summary
The arguments set out in this chapter combine theory with extrapo-
lation, with argument and counter-argument about the pluses and
minuses of SCM for procurement. The debate has been supported
by an investigation of the major forces that are now shaping and
changing the nature and structure of the industry. The chapter has
also been intended to offer the reader a series of models that can
be used in practice to assist them to think through the issues
surrounding procurement in construction in the future.

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Index

Page numbers in italics refer to tables and figures.

acceptances benchmarking
counter-offers 24 benefits 76
definitions 24 competitive 75
Achieving Competitiveness Through definitions 74–75
Innovation and Value generic 75
Engineering [ACTIVE] 13 internal 75
admeasurement 68 key performance indicators 77–78
standard ICE contract 70 performance target setting 76–77
advertisements, legal standing 25 BOT see build–operate–transfer
agencies, privity of contract 29 Britannia Alliance 117–118
alignment, partnering 98 Topsides Alliance 120–128
alliances brokers
see also framework agreements competencies 246
accountability 122 innovative 240
agreed schedules 125–126, 125, 126, role 240–242
127 specialisation 242
alignment supply chains 228, 236–237, 239–242,
objectives 117–118, 123 241, 246, 247
procurement 124–125 volume 240, 241
charters 122 budgets, funding constraints 38
contracts 118–120, 121–122 build–operate–transfer [BOT]
finances 119, 121 joint ventures 131
formation 120–121 private finance ventures 147–148,
incentives 121, 127–128 150–153
liaison 121 procurement 7
management 120–121 terms 152–153
public sector 187–189 Building Down Barriers [BDB] 13,
quality management 128–129 195, 207–208, 235, 239
safety 126–127
management 128–129 CCC [Confederation of Construction
strategic 67 Clients] 193, 194
team-working 122–124 change
‘approvals’ regimes, wish lists 36–37 competitive 216
control of 62
Banwell Report [1964] 96 management of 216, 236
BDB [Building Down Barriers] 13, operational 216
195, 207–208, 235, 239 recurrent 216

271
MANAGEMENT OF PROCUREMENT

strategic 216 construction industry

transformational 216 companies 3
CIB [Construction Industry Board] 13 cross projects 197
client value drivers, procurement 201 demand/supply issues 9
clients employment 3, 9–10, 12
adversarial relationships 11 fragmentation 10–11
characteristics 196–198, 199 GDP contribution 2
contract plans 19 off-the-peg projects 197, 233
contractors portfolio programmes 197–198,
objective alignment 117 233–234
trust levels 89–90 process 197, 199, 233
cost certainties 205 research and development 9
dissatisfied 9, 74 total quality management 97–98
joint ventures 132–133 training 9–10
knowledge base 196–197 unique projects 197, 199, 232–233
partnering benefits 102 variability 2–3
pre-tendering process 19–21 work characteristics 5
project management 60 Construction Industry Board [CIB] 13
risk attitude 16–17 construction management [CM] 205
success definition 77 construction programmes, tendering
wish lists 35–36 22–23
Clients’ Charter Construction Round Table 10
adoption targets 192 construction/delivery leadership 195
requirements 193–194 contingencies
CM [construction management] 205 risk allocation 62
collaborative agreements, joint specifications 61–62
ventures 142 continuity of workload, partnering 104,
collateral contracts 27 106
concession contracts see build–operate– contract law
transfer [BOT] acceptances 24–25
conditions 27, 152–153 consideration 26
Confederation of Construction discharge of contracts 30–31
Clients [CCC] 193, 194 intentions to contract 25–26
Charter 192, 193–194 offers 23–25
confidence, partner cooperation 169 privity of contract 29
consideration remedies
definitions 26 damages 31–32
past 26 injunctions 32
Construction Best Practice quantum meruit 32
Programme 11, 13, 78 rectification 32
Construction Clients Forum 10 rescission 32
construction companies specific performance 32
see also contractors terms
site workers 8–9 certainty 26–27
SMEs 11–12 collateral contracts 27
subcontractors 3–4, 12 conditions 27
tender bids 8 exclusion clauses 28
construction contracts 149 implied 28

252

272
 INDEX

innominate 27–28 contracts

representation 27 alliances 118–120, 121–122
warrenties 27 amendments 70
contract strategies collateral 27
choice of 115–116 cost incentive 83
combined 115 cost-reimbursable incentive 85–86
cost based 68 definitions 23
design and build 65–66, 65 discharge
direct labour 64 agreement 30
flexibility 62 frustration 30
framework agreements 66–67 partial performance 30
goals 4 time expiry 30–31
incentivisation 78–81 the Engineer 70
management contracting 64–65, 64 evaluation 92
overseas contracts 62 fixed-price incentive 83–85, 84
partnering 67 General Conditions 69–70
price based 68 incentive-based 79–81, 93
primary joint ventures 130
cost 61 moral hazards 80–81
performance 61 payment mechanisms 16, 18
time 61 performance-based 79
secondary 62 plans 19
selection of 4–5, 6, 7 pre- 20
traditional 63–64, 63 and project management 34–35
contractors risk allocation 15–16
see also construction companies; secondary 149–150
incentives; incentivisation standard forms 24, 47–48
clients amendments to 48
objective alignment 117 strategic alliances 118–120
trust levels 89–90 cooperative management, structure 6
costings 59 cost incentive contracts 83
early involvement 213, 244–245 cost-reimbursable incentive contracts
key drivers 116–117 85–86
main, management role 230, 232 cost-plus-award fee 85
profits 116–117 cost-plus-incentive fee 85
reputations 80–81, 82 cost-reimbursable payments 69
risks costs
contingencies 16 contract objectives 61
controllability 18–19 risk management 16
management 17 counter-offers 24
selection cross projects 197
evaluation 20–21
expertise criteria 19 D&B [design and build] 65–66, 65,
price criteria 19 68, 206
self-interests 79, 80–81 damages
suppliers, cost controls 59–60 liquidated/agreed 31–32, 46
supply chain management 234–237, mitigation duty 31
235, 236, 237, 245 quantum meruit 32

253

273
MANAGEMENT OF PROCUREMENT

reliance 31 fragmentation
defective work companies 10
risk assessments 43–44 functional 11
and specifications 44–45 framework agreements
testing regimes 44 see also alliances
demand chain management [DCM] benefits 66–67
228, 247 communication 172
demand chains complementary resources 167
off-the-peg projects 233 control mechanisms 170–171,
portfolio construction 233–234 174–175, 177–178, 185
process construction 233 cultures
unique projects 232–233 blending 175, 180
design traits 164
and construction 6 definitions 163
leadership 195 dependence on 181
design and build [D&B] 65–66, 65, finance 166, 176
68, 206 goal setting 167, 174, 184–185
design teams knowledge
partnering benefits 102–103 institutionalising 182
project briefs 58–59 integrated 181
traditional roles 8 interpartner 179–180
direct labour contracting 64 protecting 181
discharge of contract transfers 178–179, 182–183, 184,
agreement 30 187
frustration 30 models 164, 183–184, 183
partial performance 30 motivation 173
time expiry 30–31 mutual trust 168–169
disputes, prevention by partnering 98, organisation
99 capability 168
divided management, structure 6 specification 174–175
traits 165–166
eLSEwise initiative 237–239 outcome control 171
employees see workforce ownership
empowerment, project managers 55–56 balance 186–187
Engineer, the 70 equal 177
Engineering and Construction majority 176–178
Council, Conditions of minority 177
Contract 70–71 separate companies 175–176
European Union, tendering partnerships 163–165, 169–173,
regulations 151, 196 185–186
exclusion clauses 28 public sector 187–189
legislation 28 reviews 189
reward systems 182
finance, design, build operate and risks
transfer [FDBOT] 208–209 allocation 166, 172–173
fixed-price incentive contracts 83–85, control 169–170
84 social control 171, 174
flexibility, contract strategies 62 trust within 171–173, 186

254

274
 INDEX

funding constraints justification for 89–90

budgets 38 partnering 98
contractor’s rights 39 weaknesses 81
external 38–39 injunctions 32
innominate terms 27–28
GDP contribution, construction Institution of Chemical Engineers,
industry 2 Conditions of Contract 71
General Conditions of Contract 69–70 Institution of Civil Engineers,
ECC 70–71 Conditions of Contract 70
government contracts 71 Institution of Electrical Engineers,
ICE 70 Conditions of Contract 71–72
IChemE 71 Institution of Mechanical Engineers,
IEE 71–72 Conditions of Contract 71–72
IMechE 71–72 insurance
international contracts 72 remedial works 47
JCT 72 subrogation 46
integrated management, structures 6
Highways Agency, early involvement integration
programme 213, 244 supply chains 194–195
targets 192
implied terms 28 types of 195
incentives team skills 194–195
alliances 121, 127–128 targets 192
cost 86 intentions to contract 25–26
cost contracts 83 interfaces, minimising 5
cost-reimbursable contracts 85–86, international contracts
87–88 Conditions of Contract 72
fixed-price contracts 83–85, 84 contract strategies 62
and objectives 90, 91–92 joint ventures 134
payments 94 invitations to tender 24
performance related 62 invitations to treat 24–25
quality 88
quantifying 86, 91 Japan
and risks 5, 86 integration 10
rolling bonuses 88 research and development 9
safety 88 SMEs 12
time 87–88, 87 JCT Conditions of Contract 72
incentivisation joint ventures
see also motivation benefits
baseline data setting 90–91 clients 132–133
benefits 80, 81, 91 partners 141–142, 143–144
contractors agreement 92 collaborative agreements 142
contracts 78–80, 93 communication 137–138, 142–143
evaluation 92 company representation 139–140
placement 92 contracts 130, 151
definitions 78 disadvantages 142
effectiveness 86, 92–93 establishing 134–136
initial planning 89–90 guarantees 142

255

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MANAGEMENT OF PROCUREMENT

heterogeneous 133–134 joint ventures 137

homogeneous 133 partnering 101
horizontal 133 strategic alliances 117–118
international contracts 134 off-take contracts 150
long-term projects 131 off-the-peg projects 197, 233
management of 130, 136, 141, 143 supply chains 233
management teams 138, 139–141 offers
objectives 137 communication of 25
partnership balance 138 counter- 24
project termination 138 definitions 23–24
resources 131–132 revocation 24
risk allocation 136–137, 139 standing 25
subcontractors 131–132, 139 operational teams
sustaining 138 constraints
vertical 133 funding 38–39
work allocation 139 regulatory 39–40
third party rights 40–41
key performance indicators [KPI] 77–78 timing 41–42
wish lists 35–36
large-scale engineering [LSE] projects operations contracts 149
characteristics 238 overseas contracts see international
competitive advantages within 238–239 contracts
ICT use 238, 239
risk allocation 238 partnering
Latham Report [1994] 74, 193 barriers
liquidated/agreed damages 31–32, 46 external 110–111
loan agreements 149 internal 111–112
benefits
management alignment 98
joint ventures 130, 136, 138, 139–141 clients 102
partnering commitment 106 design teams 102–103
strategic 215–216 mutual 103–104
structures 6 suppliers 103
management of change 216, 236 charters 108, 109
management contracting [MC] 64–65, confidence 169
64, 205 conflicts
manufacturers, integration 194 prevention 98, 99
moral hazards 80–81 resolution 101, 108, 110
motivation, framework agreements 173 for continuity of workload 104, 106
Movement for Innovation [m4i] 13 continuous improvements 108–110
multiple interfaces, disadvantages 19 and corporate cultures 106–107,
111–112
NHS Estates Procure 21 procurement definitions 67, 99–100
method 213, 244 forms of 104–105, 104
framework agreements 163–165,
objectives 169–173
alliances 117–118, 123 implementation 112, 113
and incentives 90, 91–92 long-term 104, 105–106

256

276
 INDEX

management commitment 106 concession pre-qualification

mutual objectives 101 150–151
objectives 108, 109 funding 147
organisational structures 111 joint ventures 131
post-award project-specific 67 partnering 104, 106
project alliances 67 and prime contracting 209–213
promotion of 194, 201 project value chains 209
public sector attitudes 110–111 risk transfers 212
relationships within 99 secondary contracts 149–150
risk allocation 112, 122 special project vehicles 147
single project 104, 105 whole-life costs 211
strategic alliances 67 privity of contract 29
team selection 107 agencies 29
workshops, initial 107–108 definitions 29
past consideration 26 process construction 197, 199, 233
payment mechanisms 16, 18, 38–39 supply chains 233, 247
admeasurement 68, 70 procurement
cost-reimbursable 69 see also supply chains
end-of-project 89 definitions 1
fixed price 68 initiation, clients 229–230
incentives 94 options 7, 201, 203
incremental 88–89 programme management 224, 225
target costs 69 project value chains 204
performance sequential 242–243
criteria 79 team structures 243
incentives 62, 79, 82 tendering 203, 204
indicators 77–78, 82 traditional 203, 204
performance target setting 76–77 phasing out 192
PFI see private finance initiatives product-en-main procurement 7
Polaris programme 218–219, 220 profits, contractors 116–117
portfolio construction 197–198, 199 programme management
supply chains 233–234, 247 benefits 225–226
post-award project-specific partnering communication 218
67 definitions 219–220
PPC2000 Partnering contract 213, future projects 220–221
244 procurement strategies 224, 225
PPP see public–private partnerships projects
pre-contracts 20 evaluation 222–223
pre-tenders 20 ranking 221–222
Prime Contracting 13, 207–208, selection 223
209–213, 244 role of 218, 219
private finance initiatives [PFI] strategic management 217–218,
see also finance, design, build 220–221, 223, 224, 225
operate and transfer project alliances 67
bid evaluation 153, 209 project management
collaborative working 147 clients’ roles 60
concession agreements 147–148, and contracts 34–35
148, 151–153, 161 teamwork 56

257

277
MANAGEMENT OF PROCUREMENT

project managers incentives 88

appointment strategies 50–51 management, alliances 128–129
appointments and reputation 82
briefing documentation 52–53
interviews 54–55 Railtrack 86, 181
short listing 53–54 rectification 32
sourcing 53 regulatory constraints
completion of services 56 environmental 40
empowerment 55–56 health and safety 40
human skills 49–50 planning 39–40
job descriptions 51–52 rescission 32
payment terms 52 research and development 9
qualifications 60 risk allocation
role 60–61 contingency sums 62
terms of appointment 51–52 fixed price contracts 68
project preferences 222 framework agreements 166
project value chains 198, 200–201, joint ventures 136–137, 139
200, 230, 231 large-scale engineering projects
private finance initiatives 209 238
procurement strategies 204 partnering 112, 122
supply chains 230 public–private partnerships 155–157,
project value drivers 201, 202 156
public sector strategies 15–16, 18, 62
accountability 196 risk management
contracts clients’ 16–17, 18
conditions 71 contractors 17, 18
partnerships 110–111 early warning systems 47
framework agreements 187–189 process 16
tenders risk matrices
lowest 8, 59 assessments 42–43
process 188 defective work 43–45
public sector comparators [PSC] delays 45–46
158–159 insurable risks 46–47
public–private partnerships [PPP] risks
conflicts of interest 154 controllability 18–19
contract flexibility 155 costs of 16, 43
definitions 153–154 and incentives 5, 86
finance laying off 42–43
debt 158 potential 16, 17
indirect 157–158 transfers 212
public 155, 157
joint ventures 131 safety
procurement 159–160, 160, 161 alliances 126–127
public sector comparators 158–159 management 128–129
risk allocation 155–157, 156 incentives 88
SCM see supply chain management
quality secondary contracts 149–150
contract objectives 61 shareholder agreements 149

258

278
 INDEX

small and medium-sized enterprises team-working, alliances 122–124

[SME] 11–12 tendering
South Africa, Public Sector European Union regulations 151
Procurement Reform Initiative 13 negotiated 20
special project vehicles [SPV] 147 open 19
specific performance 32 public sector 8, 59, 188
specifications, and defective work 44–45 recording 22
standard forms 24, 47–48 selective 19–20
amendments to 48 single-stage 203
strategic alliances 67 two-stage 203
strategic management tenders
change 216 analysis
definitions 215–216 bid prices 23
programme management 217–218, construction programmes
220–221, 223, 224, 225 22–23
strategies factors 22
creation process 216–217, 217 bidding period 21
implementation 217, 217 documentation 203, 205
subcontractors invitations 24
insurance 46 invitations to treat 24–25
joint ventures 131–132, 139 pre- 20
relationships with 11 public contracts, lowest 8, 59
use of 3–4, 12 terms
suppliers certainty 26–27
costings 59–60 collateral contracts 27
integration 192, 194 common 152
partnering benefits 103 conditions 27
relationships with 11 exclusion clauses 28
selection 236 implied 28
supply chain management [SCM] 228, innominate 27–28
246, 247, 248 representation 27
contractor-led 234–237, 235, 236, specific 152
237, 245 warranties 27
supply chains 228 third parties
brokers 228, 236–237, 239–242, 241, privity of contract 29
246, 247 rights 40–41
clustering 212–213 time factors 41–42
logistics management 229 contract objectives 61
off-the-peg projects 233 delays 45–46
portfolio construction 233–234 fixed 220
process construction 233 incentives 87–88, 87
project value chains 230 total quality management [TQM]
types 195 benefits 98
unique projects 232–233 in construction industry 97–98
supply contracts 150 definitions 96–97
traditional procurement 7, 8–9
target cost payments 69 training, construction industry
tax exemptions 157–158 9–10

259

279
MANAGEMENT OF PROCUREMENT

turnkey procurement 7, 68, 206–207 wish lists

amendments 35–36
unique projects 197, 199, 232
‘approvals’ regimes 36–37
supply chains 232–233, 247
prioritising 35
USA, Construction Industry Institute
workforce 3, 9–10, 12
[CII] 13
motivation 76
warranties 27 quality 80

260

280