The complexities of Vail Valley construction contracts
Vail, CO, Colorado
In the first part of this series, we considered the various “flavors” of construction agreements. As you will recall, like ice cream at a dime-store counter, they come in two basic varieties: “Fixed- price” (or lump-sum) contracts and “cost-reimbursable” types of contracts.
Cost-reimbursable contracts may include “pure” cost-plus arrangements and the more chimerical cost-reimbursable and fee agreements.
You’ll recall, too, that fixed-price contracts set a lump-sum price for a specific scope of work. Cost-reimbursable contracts reimburse the contractor for his “out-of-pocket” costs in completing the work and then add to those costs either a fixed sum or a percentage in order to determine the contractor’s overhead and profit.
In the first part of this series, we also detailed the various species of fixed-price agreements and bared the distinctions between them.
In this column, we will distinguish between the various classes of cost-plus and cost-reimbursable and fee agreements, both of which are variations on the basic theme of cost-reimbursable kinds of agreements.
Among the “pure” cost-plus agreements are: Cost-plus-fixed- fee, cost-plus-percentage-fee, cost-plus-incentive fee and cost-plus-guaranteed-maximum agreements. Among the cost-reimbursable and fee agreements may be included cost-reimbursable-fixed fee and cost-reimbursable-incentive-fee contracts.
In cost-plus-fixed fee agreements the contractor is reimbursed for all direct costs, overhead and administrative costs at a percentage of labor costs, and a fee that is a lump-sum-fixed amount.
The fixed fee is typically negotiated at the time of contracting and altered only if the work changes substantially from the bidding specifications.
Cost-plus-percentage-fee contracts call for the contractor to be reimbursed for all direct costs plus a percentage of labor, for overhead and administrative expenses, and an additional percentage based on the total costs to establish a fee.
Cost-plus-incentive fee agreements provide that the contractor is reimbursed for all costs of labor, material, equipment and tools plus a mark-up on all labor costs to cover administrative expenses and an incentive fee to establish the contractor’s profit. The incentive fee keys off a target amount established at the time of bidding, usually in either the form of a target number of man-hours of labor or a total-costs target.
If the contractor successfully finishes the project for less than the target figure, it receives a percentage split of the difference between the actual figure achieved and the target value. If the contractor exceeds the target costs, it loses a specified amount based upon the overage, usually up to a prenegotiated minimum or “floor” amount that it will receive as its fee.
Cost-plus-guaranteed-maximum contracts are agreements in which the contractor is reimbursed for all costs, including labor, material, equipment and tools, plus a percentage mark-up on labor costs for overhead and a mark-up for its fee, according to its bid schedule of prices up to (but not to exceed) a guaranteed maximum amount. In construction parlance, these are often referred to as cost-plus “GMax” contracts.
Barring changes in the scope of the work, any costs incurred by the contractor that exceed the guaranteed maximum price are charged to the contractor’s account.
Owners often favor these agreements as they favor the contractor’s efficiency and allow the owner to make determinations based on a known quantity, the ultimate price of the construction.
Cost-reimbursable and fee contracts differ from cost-plus agreements in that the owner pays all direct costs and a fee to the contractor. The fee reimburses the contractor for all indirect costs, including administrative costs, overhead and profit. In other words, these indirect costs are subsumed within the fee, whereas in the cost-plus agreements, indirect costs, similarly to the direct costs, are reimbursed and the fee for profit is factored on top of both.
In cost-reimbursable-fixed fee contracts the fee stays fixed unless there is a major change in the work and the contract allows for a fee adjustment. In cost-reimbursable-incentive-fee agreements the contractor may alter its fee if it is successful in performing the work for a lower cost than anticipated. Similarly to other incentive-based agreements, the contractor is rewarded for its efficiency.
It should be clear by now that the variety of construction agreements is both subtle and potentially complex. Both owners and contractors need to be aware of the various contractual means by which the goal of “bringing in” the project can be accomplished and the sliding scale of risks inherent to both in employing one contractual mechanism as opposed to another.
In Part 3, we will explore methods of project delivery, such as designing and building agreements and “designing, bidding and building arrangements in the construction setting.
Rohn K. Robbins is an attorney licensed before the bars of Colorado and California who practices in the Vail Valley. He is a member of the Colorado State Bar Association Legal Ethics Committee and is a former adjunct professor of law. He may be heard at 7 p.m. Wednesdays on KZYR radio (97.7 FM) as host of “Community Focus.” He may be reached at 970-926-4461 or by e-mail at firstname.lastname@example.org.
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