The construction industry has suffered for ages from contracts and procurement processes that crudely allocate various risks resulting in misaligned incentives and consequent disputation.
The simplicity of a competitively tendered fixed price, from contractors and other non-owner participants that are prepared, even on complex mega-projects, to make heroic assumptions regarding risks they cannot control but are asked to accept, is too attractive for most owners to resist. This remains so despite the long history of non-owner participants seeking to subsequently mitigate their losses through claims in order to generate a margin and remain financially viable.
Such claims are often settled, even though they lack legal merit under the contractual terms accepted by the contractor, because the additional costs or delays did not result from any want of care or diligence by the contractor. Rather they often result from the occurrence of risks that the contractor accepted but could not control.
More disturbingly, conventional fixed price contracting can create commercial incentives for non-owner participants to act in a manner contrary to the interest of the project owner, and vice versa. This misalignment of commercial interests discourages the collaboration between project participants that is needed to jointly solve the problems that arise on construction projects.
It was from a desire to overcome this misalignment of interests that ‘collaborative contracting’ was born. The expression embraces a wide and flexible range of approaches to managing the relationship between project owners and other project participants, based on the recognition that there can be a mutual benefit in a more collaborative relationship. If the project owner contractually commits to share the benefits it receives from outstanding performance by the non-owner participants, the contract can financially motivate the non-owner participants to achieve such outcomes, even if they need to expend more effort and money to do so. This is often expressed as the establishment of a win‑win scenario.
Enthusiasm for collaborative contracting by those who usually determine the contracting model for a project – the project owners – tends to follow the cycles in the construction and engineering market. The preference of project owners, particularly the less experienced ones, for the simplicity, price certainty and risk transfer of conventional contracting is greatest when contractors are hungry for work and prepared to price risks aggressively to win new projects. But when the construction and engineering industry is busy, project participants become more selective about the projects they tender for and the risks they will accept. Accordingly, many project owners embrace collaborative contracting approaches during such times to better attract participants to their projects and keep construction prices down.
For similar reasons, collaborative contracting models are often considered for ‘mega’ projects, where the pool of project participants with the financial strength and capabilities required to undertake the project can thin out to a level that constrains the project owner’s ability to extract value and transfer risks through conventional competitive tendering processes.
The economic impact of COVID-19 is also creating fresh interest in collaborative contracting as governments seek to stimulate their economies through spending on infrastructure. The preference is for ‘shovel-ready’ projects where construction activities and associated job creation can commence immediately. The ability of collaborative contracting models to alleviate the lengthy, sequential procurement processes of conventional contracts, can make projects more ‘shovel ready’.
But collaborative contracting is more than a response to an overheated construction market, a health pandemic or inadequate competition for mega projects. It is a mechanism that can overcome the inherently adversarial nature of conventional contracting, and unlock significant productivity improvements that would enable the industry to deliver more infrastructure for less.
Read more in our paper.
