Case Study: Opportunity Contracting and Switching the Deal

There are hundreds of systems integrators in the US alone. The total global count is well into the thousands. Each company has its own way of managing the projects it sells. Moreover, you will see variance among projects, as both the customer and the individual project manager influence the execution of a project. Very few integrators can demonstrate consistent, disciplined execution performance across projects because of the infinite number of variables.

project manager rescue.jpgDespite the innumerable variables among thousands of companies, if you examine the ways in which integrators go about the business of procurement, a few core methods emerge. Some integrators use the central procurement method, with which a centralized procurement department researches, vets, and contracts suppliers and installation contractors. Some integrators leave the research and vetting process to the individual project manager, only using the centralized department for the contract paperwork. Other integrators leave the entire selection and contracting process in the hands of the project manager. Finally, some integrators use all three methods, depending on the project and the relationship with the client.

In our case study example, the Prime Contractor followed the central procurement model:  a small group of procurement managers selected and contracted most of the suppliers and installers. This model developed over the course of the company's history in Europe, dating back to the founding of the company in the late 1940s. So, in most of the world the company's culture accepted the model. However, most of the personnel in the US operations group did not mature in their careers while working for the company. Almost all of the project and field managers in the company matured in their careers working for a variety of different systems integrators. Each of these managers had their own set of beliefs concerning how a project should operate. This dynamic naturally caused internal friction between the regimented, disciplined, and sometimes bureaucratic methods of the parent company and the more freewheeling behavior of its American employees.

The schedule change in the project eliminated the opportunity for the Prime Contractor to follow its standard procedure by vetting the subcontractors needed for the project. When the schedule changed, the centralized procurement department had barely started searching for a mechanical and electrical installation company. Just as it was difficult to switch the material manufacturing and procurement process to the new schedule, switching installation labor also proved to be difficult.

Opportunity Contracting

Because the primary platform supplier could not support the schedule change, the Prime Contractor needed to find another supplier for three additional platforms in the system. This presented an opportunity for the Installer Company to sell more services to the Prime.

As we illustrated in our last post, the contracting structure for the primary platforms looked like this:  The Owner contracts...

...the Prime/General Contractor, and they contract to buy a platform from...

...the Supplier, who makes the material, and they contract...

...Installer Company A, which provides project management,  and they contract...

...Subcontractor B, who provides direct supervision and tools, and they contract...

...Labor Companies C, D and E, which provide the direct labor.

Installer Company A became aware of the problems the primary platform supplier had in meeting the accelerated schedule. The Prime contractor asked Installer Company A if they knew of other platform suppliers. Company A not only did, but they also represented two different platform manufacturers, and quickly offered proposals to supply both the materials and labor to install the other three platforms, to meet the schedule and budget. The Prime issued a Project Services Agreement for the additional platforms to Company A, which quickly issued an additional contract to Subcontractor B for the work. Company B then issued additional contracts to Companies C and D for the labor.

As the installation teams (the B and C levels of the hierarchy above) for the platforms supplied by Company A completed the initial phases of platform construction, the conveyor mechanical installers started working to install the most complex parts of the system, the high-speed sorters. While the central procurement group was confident in the abilities of the installation contractor, local site and project managers discovered they did not share that confidence.

Observing the installers' work, the site managers quickly came to the conclusion that this specific subcontractor lacked the necessary skills and knowledge to install the mechanical system properly. The site-level project managers, keenly aware of their schedule compression, quickly decided that the installation subcontractor the procurement group hired would not be up to the task.

The project managers faced a dilemma. Keeping the current installation contractor on the job put the project in jeopardy of failing to meet schedule. They needed to replace the installation contractor. The field managers concluded that turning to central procurement was not a viable solution because they did not trust the procurement group’s ability to find a qualified replacement.

One night, while having a few beers at a local restaurant, the field managers talked about their dilemma. Listening to the conversation at the bar was Subcontractor B’s field manager, who was also the owner of Subcontracting Company C, which was providing the labor (confused yet?). His company typically provided automated equipment installation. He picked up the platform installation work to fill a hole in his schedule and keep his crews working. Recognizing an opportunity to pick up additional work for this crew, the contractor offered his company's services as a ready replacement for the conveyor installer. The site managers, already impressed with the performance of the subcontractor building the platform, saw this opportunity as the solution to their problem.

Executing on the opportunity proved to be simple, as the subcontractor was already working under an existing contract to the Prime Contractor. The project manager and the platform installation supervisor, using incomplete drawings and conveyor lists of the system, estimated the hours needed to complete a segment of the project. Subcontractor B, recognizing that he needed help from Company A for the billing, insurance, and equipment, discussed the opportunity with the Owner of Company A, who supported the arrangement. The Prime Contractor’s project manager issued a time and materials change order for 10,800 hours of labor to install an unspecified number of conveyors under the platform contract to the subcontractor.

This appeared to be a win-win solution for all the parties. The Prime Contractor’s project managers obtained the services of an installation crew they knew could do the job, thereby eliminating the schedule and quality risks. Company A won more business that it did not have to sell, increasing the potential profit it could earn on the job. Subcontractor B also picked up more business, and Subcontractor C obtained another 12 weeks of work for his crews.

It all looked good. Unfortunately, the contractual conditions changed.

Switching the Deal

While this was a simple solution for the field managers, at the home office level the procurement department now faced a dilemma. Company policy did not allow time and materials contracting, so the procurement manager had to convert the time and materials change order into a fixed-scope and price contract. Moreover, the field issued the change order under the platforms contract, not the conveyor installation portion of the work. While this appears to be nothing more than a technical internal accounting issue, it important because of impacts beyond the accounting of profit and loss statements.

When the project manager and Subcontractor B’s manager estimated the effort needed to complete the work, they did not look at a complete scope of work. This was a complex system of seven different sort systems, and no two systems were alike in size or path. While it appeared that most of the system sat on top of the platforms, a significant portion of the system hung below the platform. When the site manager and Subcontractor B estimated the work, they considered only the parts of the system above the platforms, overlooking the conveyors below the platforms.

The procurement managers were not present when the project manager and the subcontractor estimated the work, so they had no visibility to the discussed and agreed-upon scope of work. However, the procurement manager had the complete scope of work assigned to the first installation contractor. Assuming that the site manager had fulfilled his responsibility to ensure that the proposed hours addressed the entire scope of work, the procurement manager converted the time and materials change order into a fixed scope and price Project Services Agreement (PSA), using the complete scope of work. Meanwhile, on the site, Installation Crews B and C immediately replaced the original contractor and started work on the conveyors.

It took a few weeks for the procurement manager to issue the PSA. Following the Prime Contractor's standard practice, the PSA referenced a document for the detailed scope of work, including the complete listing of drawings. The procurement manager did not send the referenced documents with the PSA, since those documents typically are part of the Request for Proposal (RFP) that the bidder had accepted and made a proposal to.

shit hits fan clip form airplane.gifIf you are reading carefully, you may see where all of this is going. Yes, fecal matter is about to hit the oscillating ventilation unit.

Not only did the procurement manager assume the project manager had covered the entire scope of work in negotiating the change order, he also assumed that Installer A was fully aware of the scope of work. However, Installer A was never part of the scope discussion. Moreover, Installer A had never performed a conveyor installation contract before, and depended on the technical knowledge and business experience of Subcontractor B to understand the nature of the work and the requirements. Therefore, the owner of Company A accepts the PSA as submitted, unaware that he has accepted a scope of work far greater than the people in the field have agreed to perform.

It only gets worse.


Note:  Just as a reminder given the nature of this series, I am a logistician and IANAL (I am not a lawyer).

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