Procurement Strategy

In the first article in this series, I defined success in the following terms:

For the owner, a completed project which meets the owner's needs, delivered within budget and on time.  
For the contractor, a project similarly completed to meet the owner's needs, a project that the contractor can be proud of and completed for a profit.  
Each is largely a question of definition.

Definition is the operative word.  Every alliance project seems to be "on time" and "within budget", without really disclosing what time and budget were; time only being set by the project board after considerable work, and no mention of whether or not the target outturn cost (TOC) was achieved, or if the reference was to the adjusted final target cost (FTC).  The two are quite different.

The reality is, provided a project is properly defined and carried out efficiently, then the project costs what it costs and will be completed "on time".  Any deviation from expectations is more a reflection of poor definition at the outset, than poor implementation.

Risk & Uncertainty 

The starting point in any project should be a consideration of the owner's drivers for the project, and then selecting a strategy which maximises the potential to achieve those drivers, and to identify and avoid or manage the risks associated with that strategy.  

Some considerations would be:

• technology risk - is the project one for which design is a significant element of the works, a chemical process is to be developed, electrical systems designed and procured, or software to be developed? In which case, progress payments may not reflect the value of the work provided, bringing in another contractor to complete the work may not be feasible, and there may be an element of technology capture, limiting the owner's ability to have the asset operated, maintained and upgraded in the future without the ongoing involvement of the original contractor.
• design risk - where the design may be dependent on the contractor's selected materials and equipment and method statement.
• ground condition and environmental risk - while a geotechnical baseline report may have been developed and agreed with the contractor, such risks cannot be eliminated.
• market risk - tendering may not be possible, as there is only one potential supplier/contractor.
• political risk - increasingly, changes in law may impact on projects (eg, covid lockdowns and climate change legislation).
• pricing risk - in most cases, contractors can be reasonably confident of prices at the time of award, but committing to those prices at the time required (often months or years after award of a head contract) may be a different matter.

Each risk may impact on the pre-selection of contractors/suppliers to be asked to tender; whether a competitive tender process is realistic; the evaluation criteria to be used to recommend a tenderer for award; the form of contract to be adopted, and securities required; and the amendments to the form of contract required to meet the requirements of the project.

Once that assessment has been made, consideration should then be given to the particular strengths and weaknesses of the preferred contractor - is additional security required? are there concerns over liquidity and solvency?  does the preferred contractor have further benefits which may need to be captured?

Many of these issues can be recorded and monitored using a risk register for the project.  Once these issues have been identified, considered and rated, an appropriate procurement strategy can be developed.  It's rarely one size fits all.

Who to ask?

It is advice as old as time to contract only with good people.  The trick then is to get the good people to tender.  For most residential and small scale developments, the consultant team (whether architects or engineers) tend to make the recommendations from people they've worked well with before.  The choices may be limited.

Larger projects tend to attract more interest.  Rather than accepting and considering offers from all and sundry, prequalifying tenderers can be a useful approach, the goal being to establish that the tenderers are capable of delivering the project.  The focus of prequalification is to obtain information about the potential bidders for the work, rather than have them focus on the project itself.

Typical questions asked in prequalification are:

• corporate entity to tender, and whether or not it is part of a larger group structure, joint venture or standalone company
• staff numbers and experience
• financial data and resources (including bond exposure)
• experience and track record, including site safety, exposure to damages for delay and disputes
• subcontractors to be included in the bid

Once collated and considered, a shortlist of tenderers (no less than three and no more than 6) can be finalised.

Early contractor involvement (ECI)?

There is much to be said for engaging with a contractor early in the process to procure valuable input on issues of design and buildability, and to explore opportunities for improving pricing and removing contingencies for risk and uncertainty. 

Care needs to be taken to preserve the competitive tender approach, if that is to be retained.  ECI can follow an informal approach to likely tenderers, seeking feedback on draft tender documentation; or it can be a formal stage, following award, under which the selected contractor assists in developing design, construction method and programme, and may also finalise pricing by removing provisional sums, prime cost sums and contingencies.

Such an approach can also assist owners to remove the need for variations, and associated cost and delay, following award.

Tendering?

If properly prepared, an invitation to tender represents a real opportunity for contractors.  The time and cost of preparing pricing and complying with tender requirements can be considerable.  Most contractors will consider not only the likelihood of success, but also the track record, substance and reliability of the owner.  

In one significant project for a now disestablished local authority, not one tender for a significant building project was received by the closing date.  In that case, the client had to find a contractor prepared to carry out the work, and to then negotiate with that one contractor.  Notwithstanding a shaky start, that project was successful.

Most owners and their financiers require certainty of price, and timely delivery.  This is especially the case in commercial and infrastructure development where there is a commercial model driving the project, off an expectation of income from the completed project.  Typically, tenders will be called for lump sum prices, using the NZS3910 form of contract and conditions of tendering.

That approach assumes that there is sufficient project definition, design, site investigation and consideration of issues of consent conditions, site access, buildability and price certainty.

The reality is rather more depressing, with projects awarded on a lump sum basis with inadequate design; limited geotechnical investigation; and no consideration of project risk.  In most cases where time or cost have been overrun, the issue is a combination of lack of resources, inappropriate risk transfer and a procurement strategy unaligned with project risks.

The most stark example is in Electrix v Fletcher Construction,  where the parties were unable to agree on the terms of a subcontract for the Christchurch Justice Precinct.  Fletcher and the Ministry of Justice had agreed on a guaranteed maximum price which included approximately $16 million for the electrical package for the project.  Fletcher was to be responsible for design under a "novated" contract, on the basis that design coordination was not complete (10% for the project & 20% for electrical). 

The parties were unable to agree on a price, or terms, so to maintain programme Fletcher engaged Electrix under a number of letters of intent.  Electrix then carried out work for which it invoiced $21.6 million.  Electrix sued for a further $7 million (invoiced but unpaid), and Fletcher counterclaimed for $7 million in over-payment.  Finding that no contract had been concluded, the High Court held that Fletcher was liable in quantum meruit for the market value of the work carried out by Electrix, amounting to the payment of a further $7 million.

Form of contract

There can be no doubt that there is benefit in the familiarity of a standard form, used for almost all projects.  The challenge, however, is that few projects are "standard".  Selecting the wrong form of contract, along with an inappropriate allocation of risk, is consistently identified as a cause of project dispute.

Most publishers provide forms of contract for owner's design - contractor build; design-construct; turnkey; and process engineering - electrical and mechanical work.  Each may require some amendment by special conditions to meet local law requirements, the needs of the owner, the project and the contractor.  The starting point, however, has to be selecting the right form of contract, rather than simply trying to adapt the contract you know for a purpose for which it was never designed.

Each publisher also has its own approach to contracting, with the Institute of Engineers providing a suite of contracts all based on mutual trust and good faith, written in clear language (the NEC suite of contracts); the International Federation of Consulting Engineers taking a more traditional approach for international contracting (the FIDIC suite of contracts); and Standards New Zealand adopting a more traditional, local approach to owner's design, with NZS3910 expressed in plain language.

Evaluation and award

During the tender process, further information may become available which needs to be circulated to all tenderers; similarly, tenderers may seek clarification of any number of issues before their tenders are finalised for submission.

It is well settled law in New Zealand that a tender process will give rise to a process contract under which owners are bound to comply with the tender rules they have adopted (see the line of cases culminating in the Privy Council decision of Pratt Contractors v Transit NZ).

The goal of the tender process is not to eliminate proposed contractors, but to get as many bidders to finalise their best bids so that the owner has the best options for award.  This may involve negotiating the removal of tender qualifications or further refining bids to get the best possible offers for the work.

Tendering also provides an opportunity for innovation and feedback from experienced contractors on any design issues, price saving or buildability concerns prior to award.

Once the tenders have been finalised, most tender processes conclude with a tender recommendation, summarising the tenders received, the process followed and the tender recommended for acceptance.  The contract is then awarded by letter of acceptance, followed by a conformed contract for formal signature.

Probity

It is critical for any procurement strategy to be appropriate for the project and to be perceived as being run fairly.

On the first issue, having technical and legal documents independently reviewed prior to issue for tender by either or both of an experienced contractor and construction lawyer to ensure that the approach is feasible and appropriate for the project, and buildable.

On the second, increasingly probity auditors are used to ensure that a level playing field is maintained during the tender process.

An alternative, amalgam of the two roles is to engage an independent neutral to review and comment on the tender documents as a peer reviewer; to monitor the tender negotiations as probity auditor; and to then act as initial disputes resolver (independent certifier. using NZS3910:2023 terminology) akin to a one person disputes board, one step removed from the owner's consultant team.  This approach has been successful on other projects.

Conclusion

The core issue in any project development is to identify risk early, and to continue to proactively manage risk during the project; to identify uncertainty and to reduce that uncertainty as far as practicable; and to adopt a contract structure and tender process appropriate to the project, rather than simply following a business as usual approach.

There will always be an unanticipated event or potential for disagreement.  How a project is procured and managed, and the quality of the relationships between the parties, will be key to navigating through such challenges productively.