Purchasing and Supply Chain Management, 3e MonczkaTrentHandfield

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Contract ManagementChapter 14
Purchasing and Supply Chain Management
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Chapter Overview

• This chapter addresses contracting from several
  perspective.
• The different types of contracts available to
  purchasing managers are discussed.
• The benefits of long-term contracts and alliance
  agreements are presented.

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Chapter Overview

• Unique contracts and basic requirements of
  writing contracts are addressed.
• The chapter concludes with the issue of
  contractual disputes.

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Types of Contracts

• Purchasing contracts can be classified into
  categories based on their characteristics and
  purpose.
• Almost all purchasing contracts are based on some
  form of pricing mechanism.
• The two basic types based on price mechanisms
  fixed-price and cost based contracts.

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Types of Contracts

• Firm fixed price Price stated in the agreement
  does not change, regardless of any type of
  environmental change.
• Fixed price with escalation/de-escalation Base
  prices can increase or decrease based on specific
  identifiable changes in material prices.

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Types of Contracts

• Fixed price with re-determination Initial
  target price based on best-guess estimates of
  labor and materials, then renegotiated once a
  specific level or volume of production is
  reached.
• Fixed price with incentives Initial target
  price based on best-guess estimates of labor and
  materials, then cost savings due to supplier
  initiatives are shared at a predetermined rate
  for a designated period.

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Types of Contracts

• Cost plus incentive fee Base price is based on
  allowable supplier costs, and any cost savings
  are shared between the buyer and supplier based
  on a predetermined rate for a designated time
  period.
• Cost sharing Actual allowable costs are shared
  between parties on a predetermined percentage
  basis and may include cost productivity
  improvement goals.

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Types of Contracts

• Time and materials contract Supplier is paid
  for all labor and materials according to a
  specified labor, overhead, profit, and material
  rate.
• Cost plus fixed fee Supplier receives
  reimbursement for all allowable costs up to a
  predetermined amount, plus a fixed fee, which is
  the percentage of the targeted cost of the good
  or service.

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Considerations When Selecting a Contract Type

• Issues to consider when determining the
  appropriate type of contract
• Market uncertainty
• Industry practices
• Desired length of the agreement
• Outcomes sought from the agreement

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Considerations When Selecting a Contract Type

• Issues to consider when determining the
  appropriate type of contract (contd)
• Relationship between contracting parties
• Process or technological uncertainty
• Suppliers impact on cost or other performance
  variables
• Total dollar value of the agreement

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Long-Term Contracts

• Industrial buying contracts often classified
  based on length of contract term.
• Spot Contracts non-recurring limited basis.
• Short-term Contracts routinely made over
  limited time horizon one year or less.
• Long-term Contracts continuing basis for a
  specified or indefinite time exceeds one year.

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Long-Term Contracts

• Benefits of Long-Term Contracts
• Assurance of Supply
• Access to Supplier Technology
• Access to Cost/Price Information
• Volume Leveraging
• Supplier Receives Better Information for Planning

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Long-Term Contracts

• Risks of Long-Term Contracts
• Supplier Opportunism
• Selecting the Wrong Supplier
• Supplier Volume Uncertainty
• Supplier Foregoes Other Business
• Buyer is Unreasonable

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Long-Term Contracts

• Contingency Elements of Long-Term Contracts
• Initial Price Must be set at a level that will
  be beneficial for the buyer yet motivate the
  seller to perform.
• Price-Adjustment Mechanisms - An appropriate
  index must be selected to gauge price adjustments
  against.

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Long-Term Contracts

• Contingency Elements of Long-Term Contracts
• Supplier Performance Improvements Long-term
  contracts can be an incentive for suppliers to
  improve over time.
• Evergreen, Penalty, and Escape Clauses These
  elements in contracts can ensure longevity as
  well as termination when desired.

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Nontraditional Contracting

• IT Systems Contracts
• Also known as systems outsourcing, IT Systems
  Contracts are designed to provide access to
  expensive computer networks and software that
  single companies couldnt afford on their own.
• I.e. SAP, Oracle, IBM, and EDS
• Other systems and services outsourced include
  facilities management services, research and
  development, logistics and distribution, and
  accounting.

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Nontraditional Contracting

• Minority-owned Supplier Contracts
• Minority owned supplier is defined as having a
  minimum 51 ownership by minorities such as
  African American, Hispanic Americans, Native
  Americans, or Asian-Pacific Americans.
• Women-owned businesses and firms owned by
  physically disabled people are separate classes
  of firms with unique designations.

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Nontraditional Contracting

• Consulting Contracts
• In writing contracts for consulting services it
  is important to remember the person is an agent
  for your organization not an employee.
• As such, the consultant retains ownership of any
  intellectual properties developed during the
  consultation.

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Nontraditional Contracting

• Consulting Contracts
• Language must be written into the contract
  specifying that the intellectual property shared
  remains with the buyer.
• The development of a standard contract template
  for all consulting services will help ensure the
  buyer get the most protection from the contract.

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Nontraditional Contracting

• Construction Contracts
• Construction contracts are often the result of a
  lengthy bid process.
• The contract process can be lengthy as well
  buyers should consider the following
• Bid submissions should include a breakdown of the
  total price into different costs by type, phase,
  or area.
• Safety requirements should be part of the
  construction contract.
• Penalties for cost overruns, delays, etc. should
  be included in the contract.

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Other Types of Contracts

• Purchasing Agreement
• Agreements that group similar items together for
  procurement.
• The results are less paperwork, lower costs, and
  leveraging of volume of business.

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Other Types of Contracts

• Purchasing Agreement
• Variations of purchasing agreements
• Annual Contract
• National Contract
• Corporate Agreement
• National buying agreements
• Blanket Order
• Pricing Agreements
• Open-ended order

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Other Types of Contracts

• Online Catalogs and E-Commerce Contracts
• Electronic commerce further reduces
  administrative overhead.
• Automated online catalogs allow users to buy
  directly from national contracts.

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Settling Contractual Disputes

• Action Description
• Legal action File a lawsuit in court
• Non-legal actions
• Arbitration Use of impartial third party to
• settle dispute.
• Mediation Intervention of third party to
• promote a settlement.

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Settling Contractual Disputes

• Action Description
• Non-legal actions
• Minitrial Exchange of information,
  followed by negotiations
• between managers of each
• 
  organization.
• Rent-a-judge Neutral party conducts trial
• and is responsible for final
• decision.

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Settling Contractual Disputes

• Action Description
• Non-legal actions
• Dispute A progressive schedule of
• prevention negotiation, mediation,
• arbitration, and legal proceedings
  agreed to in the
• contract.

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Settling Contractual Disputes

• Factors to consider in selecting
  dispute-resolution mechanism.
• Status of relationship between parties.
• Outcome desired by purchaser.
• Desired speed in obtaining resolution.
• Quicker resolution is generally cheaper.
• Courtrooms are more public.