Below are the main advantage and disadvantages of lump sum contracts (fixed price contracts). see our explainer video also for more insight.
Advantages of lump sum contracts,
- Client’s risk is minimal
- Fewer variations
- The client can arrange capital according to the payment plan.
- Contractors cash flow is predictable.
- The tendering process is more transparent and impartial.
Disadvantages of lump sum contracts,
- Contractors risk is high (ill productivity and mismanagement can lead the project into a loss)
- Improper details and specs in the design can lead project disputes
- Delays in the client’s financing can delay the project as well
- The design should be complete and available before the pre-contract process.
- Procurement time can be high
What is a Lump sum or Fixed price Contracts
In lump sum Contracts or fixed-price contracts, the contractor is evaluating the value of work as per the documents available. Mainly these documents can be specifications and the drawings. In pre-tender stage Contractor evaluates the cost to execute the project (based on the above documents such as drawings, specifications, schedules, tender instruction and the clarification received for the raised queries). And the contrast to these documents Contractor is evaluating and agreeing with the owner (or employer) to complete the works without exceeding the agreed lump sum amount.
The main condition of this contract type remains cost as agreed, Also the quality and the standard of the project according to the documents provided in tender stage. This is the simple explanation of the fixed-price contracts. But the Contractor is providing the rates and quantity breakdown for the lumpsum amount.
Apart from the fixed price, The client may be agreed to pay fluctuation of the material costs separately. But the loses due to bad productivity and loses due to material delays should be bare by the contractor. Schedule of Payments is agreed in the signing of the contract and payments are released based on the agreed completion stages of the project.
Apart from the above fixed-price contract, there are few more procurement routes in the construction industry. and those have different pros & cons as well.
Follow this link for a document which UNOPS used for Lump sum contracts.