The Playbook states: 'The fundamental principle is that contracts should be profitable. Fair returns and expectations need to be reasonable for suppliers to remain interested and for the market to be sustainable' (p.49). Where a framework procurement stabilises and justifies fair supplier returns and expectations through the agreed levels of fees, profit and overheads, this aligns commercial interests and motivates the framework provider, clients, manager and suppliers to work together on value improvement activities.
All the frameworks reviewed provide for fees, profit and overheads to be quoted and agreed separately when the framework is procured. However, many of these amounts are expressed as percentages rather than lump sums, and often the amounts quoted at framework level are maximums that can be reduced in mini-competitions. These approaches give rise to two risks:
■ Percentage fees, profit and overheads can rise in step with increased costs and therefore do not incentivise efficiency savings. To tackle this risk, it is preferable for fees, profit and overheads to be quoted as lump sums, or to be converted into lump sums at an early stage, so that they do not rise in step with increased costs and can more easily be linked to incentives based on achievement of agreed targets
■ The discounting of maximum fees, profit and overheads in mini-competitions can perpetuate a race to the bottom. To tackle this risk, call-off processes and evaluation criteria should not encourage suppliers to quote the lowest fees, profit and overheads but should require them to demonstrate how they will earn these amounts through the delivery of required and desired client outcomes and through innovations, efficiencies and other benefits.
These principles of a Gold Standard can also be applied when assessing the levies charged by framework providers. In assessing a Gold Standard framework, clients and suppliers should focus on the quality and range of the services that framework providers and managers offer, as described in Section 6, and how these services will help clients and suppliers to deliver agreed outcomes, to improve value and to reduce risks by implementing Construction Playbook policies.
As regards the range of commercial cost models used for framework projects and programmes, the Construction Playbook recognises scope for flexibility in that 'Where the scope of a project is certain, fixed pricing may be appropriate and, where there is increased uncertainty in scope, a variable approach may be more suitable to achieve best value for money' (p.50).
A collaborative approach to frameworks and framework projects is not dependant on adopting a particular cost model. Different approaches to pricing will be appropriate according to the nature of the framework projects, and these can include:
■ The use of ESI to identify fixed costs for tier 2 and 3 supply chain works packages and to examine the scope for efficiency savings in each works package, using the 'Two Stage Open Book' model and leading to the build-up and agreement of fixed project prices that comprise the approved package costs and separately agreed supplier fees, profit and overheads (Annex 3 case studies 2, 5, 6 and 8)
■ The combination of separately agreed supplier fees, profit and overheads with a schedule of rates for predictable and repetitive work types that is reviewed through ESI Supply Chain Collaboration in order to seek and agree efficiency savings in tier 2 and 3 supply chain costs (Annex 3 case study 9)
■ The use of benchmarks to establish maximum costs and the combination of ESI with incentives for suppliers to achieve efficiency savings against those maximums, for example using the 'Cost Led Procurement' model (Annex 3 case study 7)
■ The payment of actual supplier costs expended on a programme of numerous similar projects, with cost savings against benchmarks used as one of the measures that determine the allocation of additional projects among multiple suppliers (Annex 3 case study 4)
■ The payment of alliance members according to the delivery of required outcomes across the whole programme, with incentives for delivering improvements against historic baseline performance (Annex 3 case study 1).
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Network Rail reports that its framework alliances 'are based upon a target cost model with pain and gain share. There are Key Result Areas in the alliance agreement that affect how much pain and gain share the Alliance parties get. The Alliances all have 5% included in the Key Result Areas for cross Alliance collaboration to encourage sharing of lessons/best practice. 'The Alliances are set up to deliver customer outcomes; these can be updated annually The Alliance key objectives and focusses are on improved value and reduced risks; reduction of overruns; improved safety; stable unit rates tested via should costs; improved track quality; dedicated specialist teams formed to deliver projects at speed and get early contractor involvement; build-up of target cost to inform annual budgets providing out-turn certainty'. |
In cases where the scope of a framework project is not certain enough for fixed pricing, many review participants use target prices and shared pain/ gain arrangements, mostly through the NEC3 or NEC4 Option C 'Target contract with activity schedule'. This pricing mechanism is well-established and successful, but there are limits on what a pain/gain formula can achieve. Review participants report that this approach can have unintended consequences where tier 1 suppliers generate the gains they seek by demanding discounts from tier 2 and 3 supply chain members.
Incentive payments can also be linked to success measures that determine whether suppliers have achieved other agreed outcomes and objectives. Gold Standard targets for each success measure are objectively measurable and state the method of recording relevant data, the party responsible for measuring that data and the system for reporting to framework clients and suppliers.