Collaborative contracting: key considerations for complex projects

Basic principles of collaborative contracting

Collaborative contracting stands in contrast to traditional contracting models where one authority—typically the project owner—is the sole decision-making party, and other parties responsible for project delivery are contracted individually. As the name implies, collaborative contracting takes a more collective approach by combining a joint project governance structure with resource, risk and reward being shared among the owner and key project delivery partners to ensure that each party is incentivized to achieve, and shares the responsibility for, the successful completion of the project. Key factors in ensuring the benefits of collaborative contracting are achieved include selecting the right key project delivery partners, implementing an effective joint project governance structure and designing a risk/reward-based payment mechanism that incentivizes collaboration and shared responsibility.

Selecting key project delivery partners

In the collaborative contracting model, key project delivery partners considered in addition to the project owner typically include the designer, the engineering firm and the construction contractor. For some projects, it might also be appropriate to include subcontractors or suppliers as part of the key project delivery partner group where such parties are critical to the successful completion of the project. Increasing the number of partners adds complexity to project governance and the risk/reward sharing mechanisms, so as the composition of the key project delivery partner group is determined, the parties should seek to strike a balance between representing project expertise and maintaining a practical number of “cooks in the kitchen”.

Project owners should also give thought to how key project delivery partners will be selected. Where the scope of work or services to be provided is well defined and uncomplicated, a basic competitive selection process focusing on credentials, experience and pricing (unit, overhead and profit rates) might be suitable. However, where the work or services to be provided involve novel technologies or other complexities, owners might consider contracting with multiple potential partners on a preliminary basis and paying them to advance and develop their work or services for the project before making a decision as to which party will ultimately join the key project delivery team. While the latter approach adds time and cost to the procurement, it also gives owners the opportunity to conduct a more fulsome evaluation of a potential partner and their proposed work or services for the project before committing to include that party in the key project delivery partner group.

Effective project governance

The joint governance structure that defines collaborative contracting requires several levels of management teams to make various decisions as issues arise, including day-to-day decisions, strategic decisions and trouble-shooting decisions, generally on a consensus basis. Where a consensus cannot be reached, an executive board or senior management team will decide the issue by majority vote.

Collaborative contracts typically reserve certain matters to be decided solely by the owner and allow the owner to override a vote of the executive board or senior management team. These exceptions to the joint governance structure give the owner, as the party ultimately paying for and owning the project, the final say but may be accompanied by the owner bearing certain risks in respect of any matter for which the owner exercises a reserved discretion or override, which is a departure from the collective risk/reward sharing that is fundamental to collaborative contracting.

Accordingly, the joint governance structure should be used to make as many decisions as possible. For that to happen in practice, the governance structure must be effective, efficient and responsive to the needs of the participants and the project. To achieve those objectives, it is imperative that each party contributes to the development of the joint governance structure and puts forward competent and engaged personnel to participate in project governance who are solution-oriented and committed to a collaborative approach to project execution. This often requires a shift in mindset among personnel who are accustomed to operating in a more adversarial manner under traditional contracting models.

Designing a risk/reward-based payment mechanism

The structure of payments in collaborative contracts is an important mechanism in incentivizing collaboration and shared responsibility. A basic principle is that all key project delivery partners are paid their base costs as the project progresses, but a portion of the contract price (typically profit and all or a portion of the contractor’s overhead) is contributed to risk/reward pools which are available to fund project issues as they arise. To the extent the risk/reward pools are not used to deal with project issues, they are paid out to the partners as risks are retired and project objectives achieved.

This “skin in the game” is intended to align all parties to resolve issues quickly and on a best-for-project basis so as to preserve the risk/reward pools. However, for large and complex projects, a template or standardized approach is unlikely to achieve the desired collaboration and shared responsibility. Crafting a mechanism that achieves these benefits takes considerable thought and effort with regard for the particulars of the project. For example, the size of the contributions to the risk/reward pools should be tailored to the project scope, scale and risk profile.

In addition, while using risk/reward pools to incentivize cost and schedule discipline is typical, for many projects, the risk/reward pools can also be used to advance other project objectives, such as collaborative behavior, prompt completion of warranty work and performance guarantees.

What’s next?

We predict that collaborative contracting will continue to find favour with owners as a viable way forward for the biggest projects that carry the biggest risks. For many aspects of these complex projects, there is no one-size-fits-all approach, and we expect to see continued customization of the model based on project-specific considerations to ensure the promised benefits are achieved.