How PMs add value to contract

management
Article Resource Management February 1995

PM Network

DeLugo, Ernest M.

How to cite this article:

DeLugo, E. M. (1995). How PMs add value to contract management. PM Network, 9(2), 27–
30.
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Ernest M. DeLugo, Jr.

The following article outlines ways in which project managers can participate in project
management before construction projects begin. The author emphasizes that early
involvement of the project manager facilitates contract management and administration. The
article concludes with practical steps that can be followed in contract negotiation and
formulation. In sum, the author properly observes that investments made prior to
commencement of the project reap handsome dividends in completion of the project on time
and within budget.

Owen Shean, Legal Lights Editor

Investments made prior to commencing a project reap handsome dividends in completion of

the project on time and within budget.

Typically, project contracts and documentation are produced by legal departments and
administered by contract administrators, sometimes (and unfortunately) without the input or
benefit of the project manager's experience. As discussed in this article, this experience is
valuable when considering meeting schedules, controlling contractor's extra work orders,
managing the contractor's adherence to work quality and performance, and reducing the
possibility of contract disputes and litigation.
This article addresses the issues pertaining to procurement, construction, and performance
type contracts. The word contractor is used in its most general sense. The terms vendor and
subcontractor can be substituted.

The Role of the Project Manager

Simply stated, contract management (or administration) is the process of awarding a contract
and ensuring that the contractor's performance meets contractual requirements. Specifically,
it is the monitoring and control of the contractor's performance, including inspection and
progress reviews; authorization of progress payments; work authorization management and
approval; dispute resolution; and the recommendation of control modifications and approval
of the contractor's actions to ensure compliance with contractual terms during contract
execution. Since a contract is a legal document, it is imperative that the project team be
acutely aware of the legal implications of actions taken when managing or administering the
contract.

Communications and control are two key objectives of contract administration. When
properly designed, the contract can be used not only to mitigate the adverse impact of the
contractor's actions on the project but also to provide alternatives and remedies to the impact
of external forces on the project. For these reasons, the contract is the single most important
document that the project manager will use to control the destiny of the project. Since the
contract is a key project management tool, it is critical that the project manager provide
inputs and comments during the contract formation. The use of the project manager's
experience during the contract design process will provide the following benefits to the
project: coordination, quality feedback, ownership, feasibility, strategy formation.

Coordination. Since the project manager is involved in all aspects of the project and has
knowledge of the product and process, making him or her a participant in the contract design
process ensures coordination of all work requirements. On a multi-contract project, the
project manager can help eliminate potential areas of conflict in work scope and contract
requirements between the various contractors.

On a Detroit power plant project in Michigan, the city awarded six contracts for construction
of various parts of the project. Each contract was administered by a different person, each
with varying degrees of construction experience or background. The city's project manager
was not involved until construction started on site. During the project's construction, the
project manager was constantly besieged with extra work, extra costs, and delays associated
with work, scope, and contract conflicts; plus unspecified but necessary work items. Certain
basic construction requirements, such as soil testing and building painting, were not covered
in either the structural or civil contracts. In addition, contractors were responsible for their
own schedules; these schedules were not integrated into an overall master schedule. Because
of this confusion and conflict, getting a handle on the monthly project progress was difficult
and time-consuming. Early involvement could have caused the project manager to become
the focal point for coordination of the contracts and schedules, and allowed him or her to
provide the experience and oversight needed to make sure that all key construction
requirements were specified and accounted for.

Quality Feedback. Early involvement by the project manager will identify problems
encountered on prior projects. These problems can be discussed and preventive measures
implemented prior to initiation of construction, resulting in a higher quality and more
stringent control document. This feedback will help the contract team design a contract that
will steer the project toward a successful conclusion while avoiding the mistakes of the past.

A project manager returning from the completion of a recycle tissue project in the southern
United States was brought in early for the next assignment—another recycle tissue project—
to discuss project problems and brainstorm preventive procedures. From this exchange the
project manager was able to implement in the contract numerous preventive procedures and
criteria peculiar to the technology and product. In addition, a dispute resolution system,
which the project manager had used informally and successfully on the previous project, was
incorporated to minimize and avoid contract disputes. The document's improved quality
eliminated weak contractors from the bidding process. The project was completed two
months ahead of schedule and $500,000 under budget, with no outstanding contractual
disputes or litigation.

Ownership. By being involved in the contract design process, the project manager will have
ownership of the contract and its supporting documents. This early involvement can initiate
early team commitment, as the project manager leads and unifies the project team around the
project objectives. All projects benefit from ownership by the project manager and the project
management team. Early involvement also allows the project manager to promote early
commitment and ownership from senior management.

Feasibility. Milestone schedules, construction methods, progress payment schedules,

payment retention, and performance criteria specified in the contract will have the benefit of
being reviewed in advance for feasibility and implementation capability by the project
manager.

The completion date for the construction of a 100 megawatt, $130 million power plant in
Florida was identified as being critical in the utility's power purchase contract. If the plant
was not producing electricity by the contract completion date, the utility would have the right
to revise the contracted price of electricity and possibly cancel the power purchase contract.
Since the sale of electricity at the contractual price was an underpinning in the profitability of
the project, a delay would have destroyed the financial returns to the project's investors.
Approximately $6 million a year in investor income for 30 years was at risk.

Early in the contract formulation the project manager visited the site, identified construction
hurdles, and determined that the time given to construct the plan was aggressive, risky, and
probably was not feasible unless aggressive scheduling and planning was employed. Due to
this evaluation, the construction contract was written to require that the contractor perform
schedule acceleration wherever possible; hold project progress meetings every two weeks;
procure all equipment where possible in the United States to avoid delays; and work
scheduled overtime. In addition, a bonus for early completion was added to provide the
necessary monetary incentive. The project was completed two weeks ahead of schedule and
on budget.

Strategy Formation. Early involvement of the project manager embraces project

management's commitment to an understanding of the project objectives, schedule, resources,
and potential problems. From this, the project manager will be able to help the contracting
team form a contract that will steer the project towards its desired conclusion while
mitigating risk. This also provides the project manager with a timely definition of the types of
personnel and talents needed to implement the project objectives. By defining those
requirements early, the project manager can secure the needed human resources before they
are committed to other projects. In some cases, this advance notification can initiate early or
accelerated training programs if resources are determined to be deficient.

A tissue manufacturing plant had to deliver a certain daily rate of “to spec” high-quality
tissue by a specified date in order for the purchase contracts to remain valid. These contracts
were negotiated a year before construction and the contracted tissue price was now at a
favorable price above the present market rate. In addition, in order to receive state grants and
tax incentives, the plant had to hire 70 percent of its operating and maintenance personnel
from the surrounding community—an area of high unemployment and no experience in the
operation of this type of plant.

As part of the project management strategy, training was given a high priority and added to
the project schedule and critical path. Vendor classroom training began six months into the
plant's 14-month construction and operation schedule. The project's schedule strategy
required that the plant's personnel, in order to gain further equipment familiarity, assist in the
inspection and installation of the equipment. In addition, systems and equipment were split
up into subsystems for immediate training and operation.

The plant was constructed on schedule. At the time of the plant's completion, the operating
personnel had received eight months of quality training. Very often a plant, during its initial
production, will miss production objectives and schedules as personnel and equipment
struggle through the production learning curve. Due to the project manager's early emphasis
on training, however, this plant exceeded its startup production goals and delivered a quality
product months before the contract date. A tremendous accomplishment given the original
quality of resources.

Experiences of a Project Manager

The following items should be considered during the contract formation. Not all items may
be applicable to your projects, but they are an indication of critical contracting issues.

• Provide contract language that requires the contractor to furnish “key” engineering
drawings and schedules within 30 days after the Notice to Proceed. Failure to do so
should be considered a major contractual commitment and an explicit condition for
payment of mobilization or other draw requests. Key engineering drawings and
schedules include the Project Master Drawing List; Engineering Procurement
Schedule; Construction Progress Schedule (CPM), Electrical One Lines; P&IDs; Plot
Plans; Heat and Material Balances; and Drawing Lists.
• Provide contract language that requires that the Construction Progress Schedule and
Engineering Design and Procurement Schedules (including milestones) be updated
monthly. Failure to keep the schedules current should be a condition for penalties.
• Require that the contractor provide supplier invoices and subsequent proof of
payment for all expenditures along with the monthly draw request.
• Require that, to the extent practical, all major equipment be factory coordinated and
tested with their matching components from other vendors prior to shipment. There
should also be a right for the customer's engineer to witness all shop tests.
• Require that prototypes or “serial number one” equipment have extended warranties,
i.e., greater than one year.
 • Hire an expediter to monitor and report on the production status of critical equipment.
Vendors have been known to overcommit manufacturing capacity just to make the
sale.
• Request that spare parts for major pieces of equipment be received on consignment
from the vendor. This will prevent a tie-up of cash in spare parts inventory.
• Request that the contractor post a Letter of Credit for the startup period and a bond or
Letter of Credit for the construction period.
• Require that the contractor provide financial affidavits, at each draw request,
certifying the financial condition of the company. Where possible, request actual
financial statements.
• Require that the contractor provide lien waivers from suppliers at each draw request.
• Require that the contractor be responsible for any hazardous waste disposal and
compliance with environmental regulations during the construction process.
• Request that the contractor provide Builder's Risk Insurance and that it includes the
cost of delay and transit coverage.
• Establish a production shortfall or performance clause as part of the stated liquidated
damages.
• Require that the Force Majeure clause exclude site labor disputes. Force majeure
events should also be the only unpenalized cause for schedule extensions.
• Require a Schedule of Values (Earned Value Report) to establish the worth of certain
tasks and milestones such as hardware fabrication, delivery, and installation.
• Require that both the contractor and supplier be responsible for performing the
Acceptance Test (including labor, materials, and supervision). The cost for these
services shall be fixed and shall be part of the original contract cost. The customer
provides monitoring personnel.
• Specify a time limit on the contractor's obligations to fix equipment under warranty
and remedy performance defects. The time limit expiration should trigger the award
of penalties.
• Require that the contractor submit its requests for progress payment using American
Institute of Architects (AIA) forms G-702 and G-703. These are industry-standard
forms that include built-in release of lien statements and a listing of change orders.
• Design and incorporate into the contract a dispute resolution system. By planning
ahead on how to handle contract dispute, you can mitigate the impact of disputes on
the project schedule and budget. Litigation can even be avoided. An excellent book
that provides guidelines for the system design is Getting Disputes Resolved:
Designing Systems to Cut the Costs of Conflict by William L. Ury, Jossey-Bass
Publishers.

Securing the Project's Success

Utilizing project managers at the early stages of a contract's formation can provide significant
benefits to the project process. The cumulative effect of these benefits is that the project will
be successful.

Ernest M. DeLugo, Jr., PMP, has over 23 years of experience in the management and
financing of projects. He is currently a senior project management consultant for Educational
Services Institute (ESI), an Arlington, Virginia, based project management consulting and
training firm. Mr. DeLugo is also a member of the Southern New England PMI Chapter.
This material has been reproduced with the permission of the copyright owner. Unauthorized
reproduction of this material is strictly prohibited. For permission to reproduce this material,
please contact PMI.

PM Network • February 1995