Increasing margin certainty on a cost reimbursable project

We were appointed by a joint venture comprising of a global construction and engineering organisation, and a wastewater infrastructure company. Our expertise was called upon to produce audit compliant commercial and procurement procedures. Our client intended to utilise these on a £120m NEC3 Option E, cost reimbursable contract.

The risk of cost reimbursable contracts

There is a common misconception that cost reimbursable costs are zero risk contracts for contractors. If this culture creeps into a project team, then it becomes blind to obligations it will have to ensure the expenditure of cost is reasonable in the context of the project. If cost is expended inefficiently or, worse still, wasted then there will inevitably be conversations about who bears that part of the cost. The outcome of those discussions will present a risk to the margin return anticipated by the contractor.

Devising the procedures

We understand this business risk and our approach was to use the following:

• The contract. What are the rules, in the terms and conditions and any appended documents, relating to cost expenditure.
• Processes of the JV and the parent companies. We took a positive view of the challenge created where two organisations come together and pulled out the best available processes.
• Our experience. We know what good looks like and where decision making needs control points and documents recording what was spent, why it was spent, and how value for money was achieved.

We blended the contract and existing processes with our experience to produce a document which set out the end-to-end processes for all project team members.

Labour & Plant Expenditure

As there was a significant direct labour and plant expenditure, we created weekly controls which gave the project team visibility where there was a discrepancy in its data. This might be where the payroll hours differ to the labour allocation sheets, plant items being charged to the project did not match the site plant returns, or labour production was trending higher or lower than the assumed production rate in the base estimate.

The controls posed questions of the project team which they were required, on a weekly basis, to investigate and close out. In doing so, the project team were taking a ‘little and often’ approach to eliminating margin risk.

Client collaboration

The controls were shown to the joint venture’s water sector client who requested, and were granted, access to the data and information.

This enabled the two parties to work together to identify cost risk and manage this proactively, thereby avoiding an all-too-common situation where costs run out of control and there is no visibility until the point that the budget has been, or is likely to be, exceeded.