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The true cost of tendering - Why do projects end up costing more than the tender price?

Avoid the tender trap with target cost contracting By: John Brewster, CEO, Genus Interiors

Why do so many projects end up costing far more than the original tender price?  My contention, based on over 35 years industry experience, is that the problem frequently lies with the nature of the traditional tender because it allows contractors to manipulate the process at the expense of the client. 

Target cost contracting, the latest concept in partnership contracting pioneered by Genus Interiors, offers a way to overcome the shortcomings inherent in the tender process, offering a way to avoid the tender trap.

Whether it is national infrastructure projects or examples from our own work experience, we have all come across projects that have cost far more than the tender price or have run late. An extreme case is the Scottish Parliament building at Holyrood: the £50m project cost has escalated to over £430m – a massive £380m overspend – and is more than three years late. But there are many other examples and the cumulative scale of these cost and time overruns on both public and private sector projects is immense.

Research findings

Two recent reports, although not specific to refurbishment projects, highlight the issues involved. Research into government construction projects found that taxpayers are regularly deceived by contractors who manipulate the tender process, with tenders often bearing little resemblance to the final price or timescale of the completed work. 

And a National Audit Office report into defence spending highlighted overspends and delays. Sir Raymond Lygo, ex-chief executive of BAE Systems, hit the nail on the head when he commented to the BBC: “A well-known fact, whether anybody admits it or not, is you'll never get any programme through the government if you ever revealed the real cost. After a year you say 'I'm terribly sorry but the costs have now risen for this reason and the other reason'."

While these comments were about the defence sector, the sentiment will ring true with most of us in the interiors, facilities and building management industry. The issue that Sir Raymond highlights is widespread and endemic.

However, the government have finally woken up to this abuse. With so much being spent, they are determined that the tax payer will receive value for money. To help ensure that this objective is met, they have announced that on all government projects, the construction industry must deliver Partnering and Best Value. This involves a move away from the old methods if delivery of value for money is to be achieved.

Why does the tender trap seem to work so well for contractors?

The traditional tender process encourage contractors to base their prices on the start of a project, not its total end cost.  Experience teaches them that low tenders win contracts, even when they know for certain that there will be subsequent additional costs.   

Take the refurbishment of an office building.  A good contractor will be able to identify aspects of the project likely to involve additional work and should have a fairly accurate idea of the costs involved.  But, because the tender process encourages them to keep apparent costs down, there is no incentive to mention any extra work in their bid.  Of course, the extra work does not disappear.  It just turns up later as an additional requirement, added to the initial price and increasing the project value.

And do not accept the story that additional costs are always unforeseen.  The government construction research mentioned earlier also found that the level of under-pricing remained constant over time.  The conclusion was that, even though tender prices are regularly exceeded, contractors do not use this knowledge to cost subsequent projects more accurately.  There is no incentive to do so.

Escaping the tender trap: target cost contracting 

Target cost contracting is a unique form of construction contract that addresses the problems inherent in the traditional tender process. The principles behind it are simple and ones that Genus has espoused for many years: that projects should be priced on their maximum end cost, that clients should know their maximum financial commitment and that projects succeed when client and contractor work together in partnership.

Under target cost contracting, the bid price forms the target cost. This is a guaranteed maximum cost for the client, based on the specification. But the client only pays the actual cost for executing the work, so long as it does not exceed the target cost maximum. Any savings are split, normally on a 50/50 basis between the contractor and client, although this can be adjusted to include the professional architect and QS team.

Unlike the traditional tender, which effectively represents a minimum cost for a project that is likely to be exceeded by an unknown amount, target cost contracting establishes a maximum cost for the client. The figure may be higher than the artificial minimum, but is realistic and can be used to make informed decisions.

Secondly the model encourages the contractor to look at the total project costs because it does not allow them to pass on any extras. And that will also bring out into open discussion at pre-bid stage any areas where contingency costs need to be incorporated. Which means the client can base decisions about which contractor to use and the scope of any works on much more transparent information.

It also gives the client an opportunity to benefit from any project savings. Unlike traditional fixed price contracts, savings are shared. This provides an incentive for client and contractor to work together to keep on top of costs and look for areas where genuine savings can be implemented.

Target cost contracting encourages an open, non-adversarial working relationship between the client and contractor. For example, at Genus we take an open-book approach to accounting where the client can have complete access to our actual costs and margins. They can see where and how we make our money and how any savings are to be shared.

Most contractors will argue that this approach places too much risk on their shoulders. I respond by asking why the client should assume all the risk. And if contractors put as much effort into pre-bid investigation as they do into finding extras, then there should be no need for budget overruns.

Target cost contracting requires contractors to do their homework upfront and to maintain constructive relationships with their suppliers and any sub-contractors.  And it requires clients to invest in project briefs that provide sufficient information for contractors to make informed decisions. But there are considerable benefits and it offers a practical way to get out of the tender trap.

For more information, contact John Brewster, Genus Interiors, phone 01582 840484, fax 01582 840171 

email: john.brewster@genusgroup.co.uk 

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