NEC ECC Option C: Activity Schedule, Risk and total of the Prices (target cost)

[SPacer]

Hello all,

This is a question on how / if project risk is accounted for in an activity schedule and so the target cost (total of the Prices).

Under an Option C contract, the Activity Schedule named in the Contract data part Two is more of a bill of quantities. A cover sheet lists the totals for people, equipment, materials, subcontracts and fee. This is backed up with pages of supporting rates and quantities.

The total of the Prices (aka target cost, Clause 54.1) are the sum the Prices, defined as the lump sum prices for each of the activities on the Activity Schedule (Clause 11.2(32)). A fudge would be to add up the totals on the cover page categories above to get the total of the Prices and this is what has been done.

However, there is an additional item on the cover page for risk (plus the Fee on the risk). This adds 10% to the costs of the above items. The Contractor argues that this forms part of the target cost. Assuming the risks are reasonable, can these risks form part of the target cost in this way?

My working knowledge is that these risks just form part of the project budget used to source a prudent amount of funds by the Client (an informal ECI stage was carried out) and should not be included in the target cost.

They aren’t activities required to provide the works so shouldn’t appear on an activity schedule. I would treat these as matters to “be included in the Early Warning Register” in the Contract Data Part Two (which is blank in this case). These would then be raised as Early Warnings and those justified under the contract would be paid as Compensation Events, if/when they occur. The cost of the CEs will then be added/subtracted to adjust the target cost.

Many (most?) of the risks are dubious that are arguably solely within the Contractors ability to manage and is responsible for e.g. Contractor staff sickness, theft of plant and materials, mud on roads, general additional % to cover no specific risk.

An uncharitable person may come to the conclusion that the Contractor wishes to include the risk in the target cost as, should very few of these risks occur in practice, the Price of the work done to date is much more likely to come in below the apparently inflated target cost. This is beneficial to the Contractor in the gain calculation. They would likely get half of the 10% risk pot for marginal/negligible use of good project management or use of efficient or innovative practices.

Any advice or corrections to my understanding would be appreciated.

[dave_meller]

With reference to your penultimate paragraph, I can’t understand why the Contractor hasn’t included these risk items in his prices. That way, he would stand to gain the whole of the 10% if the risks don’t materialise.

The tone of your question suggests you think the Contractor is trying to gain something extra by doing this, but I would suggest that in fact, if you include this risk sum within the Target, the Employer/Client stands to gain half of the value of the risks that don’t materialise!

[SPacer]

On why they didn’t include these risks in their price, it is unclear. There was a tender process for the ECI I believe so maybe presenting the numbers as ‘project costs’ and ‘risk pot’ flattered the perception of the cost of the project (things that will definitely need to happen to provide the works) to win the tender. Or maybe the risk pot was added after the award of the contract in the ECI phase itself. I wasn’t involved at that time so we are where we are.

I understand and agree with your second point that the Client would get half. But this gets to the core of my question. As an example, lets consider £100 project costs and a £15 risk pot. Assume the risks in the risk pot don’t occur and the pain/gain is 50/50.

Treatment 1: The target cost is agreed as £115 (cost plus the risk pot). Final assessment comes in at £100 so the Client and Contractor share the saving 50/50 and get £7.50 each (this being the scenario in your second paragraph).

Treatment 2: The target cost is agreed as £100. Final assessment comes in at £100. The Contractor gets £0 and the client retains all of the £15 risk pot as those risks didn’t occur.

The Contractor will always prefer treatment 1. For a given scenario this treatment ensures they receive more money for the same actions and management, just by ensuring a particular definition of target cost is used (which may be the correct definition, but it seems to encourage bad incentives to inflate the risk pot).

In treatment 2, it doesn’t make sense to include a risk pot in the target cost. How could you plan to bill a 3% unspecified general risk under a defined cost payment model and so include it as an activity on the activity schedule? This treats £115 as the project budget to cover all reasonable eventualities (hopefully) and £100 as the target cost of people, equipment et al to provide the works.

So my question is: which treatment of target cost is the correct one, defined/assumed by the writers of the NEC contract: treatment 1 or treatment 2?

Thanks in advance

[dave_bates]

I think you may be referring to two different matters here. The Prices (target cost) should include the contractor’s risks under the contract. For Option C these risks can either be included in the priced activity items or as a general item in the activity schedule which appears to be the case here.

If the client is wanting to make budget provisions for its own risks then these should not be included in the Prices. The risk may contain items that if they occur become CEs and moved from the client’s “pot” to the Prices as well as items that sit outside of the Prices and the Price for Work Done to Date.

So in answer to your question, the contractor’s share is measured against the Prices which should include allowances for the contractor’s risk but not the client’s risk. Treatment 1, provided that it is the contractor’s risk pot.

[Andrew_W-I]

Out of interest, does the ‘tendered total of the Prices’ amount in Contract Data part 2 include or exclude the risk allowances?

I would suggest that this provides information to determine whether they are included or not included in the ‘target’.

[SPacer]

Thanks for the responses Gents.

Dave, you said “…Option C these risks can either be included in the priced activity items or as a general item in the activity schedule…” Could you share the clause or guidance where this is given? This would be helpful. I think there is another line of questioning on how the general risk item is conceived/checked but I will start another thread if need be.

I think the mixing of the issues comes from this it being an ECI and the work that should have been done to build a Project Cost. This could have been the the Contractors cost (people, equipment etc with risk inc. in the rates) and the contractor also assisted in advising for an appropriate level of client risk pot. This total is what was then sourced from available funds.

These then could potentially have been submitted together in error/ignorance, as the submission isn’t an activity schedule format so raises the possibility there could be further compounding errors. So we may be paying for the risks twice: in the prices and as an additional general risk line item that was originally intended as a client risk pot. I keep changing my mind, I currently don’t think this is the case on balance but it is too misty and muddied now to tell for certain.

Andrew, yes the total of the prices includes the risk allowance. This makes sense in light of the above, but logically to me it would be better to include all risks in the prices. Is there anything to stop the Client specifying this method of ‘all in’ pricing in the Scope/instructions to tenderers?