Project Procurement Management: Notes for PMP Exam (based on PMBOK5)

Note:

These all  articles are dedicated to my teachers, my seniors, colleagues, internet bloggers, online technical material, reference books from where I learned all these. There are chances that the material presented here is duplicated somewhere on the web. If anything is replicated anywhere, I sincerely give proper credits to the contributor.

What is Procurement?

In simple terms, procurement is to obtain goods and services. It’s not simply buying the goods. Obtaining the services also comes under procurement.

What is Project Procurement Management?

Well, it is collaboration with outside suppliers in order to obtain or purchase goods and services for projects. These relationships are often created based on a contract (remember contract is always legal) so that the needed items or services are received on time and meet the standards requested by the purchasing company.

How this is done?

First you have to plan what your requirements are and you need to make or you need to buy. Based on all that stuff, you will prepare your procurement documents.

Once your planning is complete, you will conduct those procurement mainly selecting the seller and results into “Agreement” OR “Contract”. PMBOK guide calls in “Agreement” only.

Once you enter an agreement, you keep checking the performance of the procurement and if there is any change requirement, put the change request and accordingly you may need to change the project plan. That’s mean all the time; you need to control the procurement.

The most important part is closing the procurement. You have to close all the procurements doesn’t matter whether the contract is complete or terminated (we will see this later). This may also require negotiation.

So, I believe, you can easily understand from above that Project Procurement Management consists of following processes:

Plan Procurement Management— the process of documenting project procurement decisions, specifying the approach, and identifying potential sellers.

Conduct Procurements— the process of obtaining seller responses, selecting a seller, and awarding a contract.

Control Procurements— the process of managing procurement relationships, monitoring contract performance, and making changes and corrections as appropriate.

Close Procurements— the process of completing each project procurement.

Note: Above definitions are taken from PMBOK 5 of PMI.

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Plan Procurement Management:  It is the process of documenting project procurement decisions, specifying the approach, and identifying potential sellers. The key benefit of this process is that it determines whether to acquire outside support, and if so, what to acquire, how to acquire it, how much is needed, and when to acquire it.

Inputs                                    Tools and Techniques          Outputs

           

The Plan Procurement Management process also includes evaluating potential sellers, particularly if the buyer wishes to exercise some degree of influence or control over acquisition decisions. Thought should also be given to who is responsible for obtaining or holding any relevant permits and professional licenses that may be required by legislation, regulation, or organizational policy in executing the project.

Plan Procurement Management is all about:

• Determine whether to obtain products/services outside of organization
• Identify possible sellers and pre-meeting with them
• Identify explicitly what is needed
• Make-or-buy analysis is a compulsory process, needs to take risks into considerations
• Carefully writing terms and conditions can transfer/share risks.
• Teaming agreements or joint ventures
• procurement documents: request for proposal (RFP), invitation for bid (IFB), request for quote (RFQ), request for information (RFI), tender notice, invitation for negotiation, seller initial response the procurement management plan specifies how a project will acquire goods/services from outside, includes: contract type, risk management, constraints and assumptions, insurance requirements, form and format, pre-qualified sellers, metrics used, etc.
• Procurement Statement of Work (SOW) – performance (describe what can be accomplished), functional (convey the end purpose or result), design (convey precisely what are to be done), can be developed by the seller or buyer – detail enough to allow the potential sellers to decide whether they want/are qualified (at a minimum) to pursue the work

Types of Contracts:

A contract type is one of the tools & techniques of Plan Procurements. Whenever you are getting into an agreement with a supplier outside the organization for any procurement, you will be signing the contracts. Any legal contractual relationships generally fall into the following categories -

1.         Fixed Price Contracts

            2.         Cost Reimbursable Contracts

3.        Time & Materials Contracts

There are pros & cons for each type of contracts. Let's try to understand each one of this by getting into the details of each contract.

Fixed Price Contracts – We have fixed total price. The most important thing is that the scope of work has to be clearly defined. There are provisions of incentives also in these contracts if the requirements stated in the scope of work exceed any quantifiable measurements. On the other hand, if the completed work does not meet the defined standards or any other quantifiable measurement, damages are borne by the seller. In such type of contracts, the seller is at the higher risk.

• Firm Fixed Price Contracts (FFP) - Fee is fixed for the products or services. No incentives are given while cost overruns are borne by the seller. Seller is at the highest risk here. Scope of work has to be very clearly defined for such type of contracts. Example - a purchase order for delivering a product for a specified price by a specific date.
• Fixed Price Incentive Fee Contracts (FPIF) - Incentives are given to the seller in case the pre-defined performance targets are met or exceeded. The performance targets & the financial incentives are decided before the start of the work. In order to safeguard seller's interest, price ceiling is also decided. Any cost above the ceiling is borne by the seller. Example- the seller will be given additional 5% of the total price if the required software product is delivered 2 weeks earlier than the specified scheduled date.
• Fixed Price with Economic Price Adjustment Contracts (FP - EPA) - These type of contracts are usually signed where the project duration is spanning over the years. This safeguards the interest of both buyer & seller against any external conditions beyond their control e.g. inflation rate, currency exchange rate fluctuation in case of outsourced projects.

Cost Reimbursable Contracts - These type of contracts are beneficial for sellers from cost point of view when the scope of work is not clearly known at the start and can change as the work progresses. In such contracts, sellers are paid the actual cost (whatever seller is spending) incurred to accomplish the work along with seller's profit. In these types of contracts, buyer is at a higher risk as the total cost is not known at the start of the work.

Note: In "Incentive Fee" Contracts, Fee is based on measurable performance, while in "Award Fee" Contracts; Fee is solely based on subjective determination of buyer's performance by the selller.

•           Cost Plus Fixed Fee Contracts (CPFF) - Seller is reimbursed the actual cost of performing the work and a fixed fee. This fixed fee is calculated as a percentage of the initial estimated cost. Fixed fee does not change with actual cost.

•           Cost Plus Incentive Fee Contracts (CPIF) - Seller is reimbursed the actual cost of performing the work & the incentive fee. This fee is based upon the performance of the seller. Performance is determined based on the pre-defined performance targets.

•           Cost Plus Award Fee Contracts (CPAF) - All the cost of performing the work is reimbursed plus the incentive (award) is given to seller based upon its performance. The point to note here is that - subjective evaluation is done for seller's performance. And a subjective evaluation may be biased as most of the times it is not based on the facts.

•           Cost Plus Fee (CPF) Or Cost Plus Percentage of Cost (CPPC) - Seller is paid the actual cost of completing the work plus a fee. This fee is calculated as a percentage of actual cost of completing the work. Percentage is pre-determined but the fee will vary with the actual cost.

Time & Material Contracts (T&M) - These types of contracts are mix of cost-reimbursable and fixed price contracts. Generally, the project durations are longer, scope of work is not clearly known at the start. It resembles cost-reimbursable in a way because the actual cost is not known in advance and resembles fixed price in the sense that unit rate for the labor and/or material is agreed upon at the start of the work. It is also used when you have to start the work immediately.

Some terms to know

• Point of Total Assumption – Only in FPIF contracts - in budget overrun, the point at which the seller assumes all additional costs for delivering the product/service.
• PTA = (Ceiling Price – Total Price) / Buyer’s Share Ratio + Target Cost
• Target cost = Total cost = Estimated cost, Total price = Total cost + Total profit
• Request for Proposal (RFP) – cost reimbursable contract, functional/performance SOW
• Invitation for Bid (IFB) / Request for Bid (RFB) – fixed-price contract, design SOW
• Request for Quote – time and material, any type of SOW
• Cancellation for Convenience – buyer can cancel and pay up to the point
• Cancellation for Cause - default by either party, may result in legal actions
• Escrow – survivability of seller in doubt, put the product in escrow (esp. if seller not give up intellectual properties)
• Force Majeure – standard disclaimer refers to ‘Acts of God’
• Indemnification / Liability – responsible party
• LOI Letter of Intent – not legally binding
• Privity – the contractor may use sub-contractor, no direct contractual relationship with buyer
• Retainage – amount to be withheld to ensure delivery
• Risk of Loss – how the risk is borne by the parties
• Time is of the Essence – Time is the most important thing in contract. Delay in delivery will cause cardinal breach of contract
• Work Made for Hire - All work owned by the buyer
• Sole Source (preferred vendor) vs Single Source (only one vendor, say only one vendor has a patent, you may need to compromise on the quality in this case)

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Conduct Procurements:

Conduct Procurements is the process of obtaining seller responses, selecting a seller, and awarding a contract.

The key benefit of this process is that it provides alignment of internal and external stakeholder expectations through established agreements.

Inputs                                Tools and Techniques    Outputs

      

During the Conduct Procurements process, the team will receive bids or proposals and will apply previously defined selection criteria to select one or more sellers who are qualified to perform the work and acceptable as a seller.

A short list of qualified sellers can be established based on a preliminary proposal. A more detailed evaluation can then be conducted based on a more specific and comprehensive requirements document requested from the sellers on the short list. A weighting system can be used to:

• Select a single seller that will be asked to sign a standard contract; and
• Establish a negotiating sequence by ranking all proposals by the weighted evaluation scores assigned to each proposal.

There may be a prior agreement in place and in this case, the buyer and seller roles will have already been decided by executive management. In some cases, the seller may already be working under a contract funded by the buyer or jointly by both parties. The effort of the buyer and seller in this process is to collectively prepare a procurement statement of work that will satisfy the requirements of the project. The parties will then negotiate a final contract for award.

• PM may not be the lead negotiator on procurement, but may be present to assist may need senior management approval before awarding the contracts
• Bidder’s conference is a Q&A session with bidders, all bidders receive the same information (bidder are careful not to expose their technical approach during the session => may not have many questions)
• NOT to have secret meetings or communications with individual vendors
• May set up qualified sellers lists
• Review seller proposals: weighting systems, independent estimates (organizations own estimate to ensure that there is no significant difference in the proposals, screening systems (kick out non-qualified vendors), seller ratings systems (depends on past performance, experience etc.), expert judgement
• Advertising and Analytical techniques are two important tools of conducting the procurements.
• Resource Calendars is an important output of Conduct Procurements as The quantity and availability of contracted resources and those dates on which each specific resource or resource group can be active or idle are documented.
• Contract Negotiations and Tactics

• Fait Accompli – not negotiable terms

Deadline – deadline for deliverables, we have to finish this by 4 PM

Good Guy/ Bad Guy – one friendly, one aggressive

Missing Man – main person is missing

Limited Authority – not given authority, I cannot do anything

Fair and Reasonable – what is fair?

Unreasonable – making unreasonable demands, you have to do this or get out

Delay – especially in critical moments




• Attack – force compliance, you are the worst person, I have ever seen

Agreement is legally binding and should include (PM should NOT attempt to write the agreement): statement of work, schedule baseline, performance reporting, period of performance, roles and responsibilities, warranty, payment terms, fees and retainers, incentives, liability, penalties, etc.

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Control Procurements:

Control Procurements is the process of managing procurement relationships, monitoring contract performance, and making changes and corrections to contracts as appropriate. The key benefit of this process is that it ensures that both the seller’s and buyer’s performance meets procurement requirements according to the terms of the legal agreement.

Procurement is administered (controlled) by both buyer and seller for their respective interest.

Control Procurement process manage procurement relationships, monitor contract performance, and make change and corrections. A procurement administrator is generally not part of the project team. Most of the times, there is a specialized procurement department.

Agreements can be amended at any time prior to contract closure by mutual consent, in accordance with the change control terms of the agreement. Such amendments are typically captured in writing.

Inputs                                Tools and Techniques             Outputs

          

• It may identify early signs and capture details for pre-mature termination of contract
• Claims administration process deals with changes/disputes, disputes is best to be settled through negotiation.
• If not settled through negotiation, it may need Alternative Dispute Resolution (ADR) by 3rd parties.
• Contract Change Control System: for handling change requests to the contracts (defines who has the authority to approve changes (usually not the PM, but may be assigned the authority))
• Work performance data means the actual performance data from the project i.e.  the cost incurred and the invoice needs to be paid.
• Payment Systems: Payments to the seller are typically processed by the accounts payable system of the buyer after certification of satisfactory work by an authorized person on the project team. All payments should be made and documented in strict accordance with the terms of the contract.
   

Question: How you will monitor the contract performance, in case of all three types of contracts?

Answer:

• For Fixed Price contracts, look out for Bait and Switch (replacement of good quality material with cheaper materials as seller is getting the fixed price), look out for excessive change requests by the seller
• For Cost Reimbursable contracts, audit all invoices, look out for additional charges, tie payment to milestones, make sure people with the required skill sets are doing the job (because seller is paid for each invoiced cost, you need to audit the invoices)
• For Time and Materials contracts, ensure hours are not padded, follow the milestone dates.
• Seller performance evaluation documentation: Seller performance evaluation documentation is prepared by the buyer. Such performance evaluations document the seller’s ability to continue to perform work on the current contract, indicate if the seller can be allowed to perform work on future projects,

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Close Procurements:

Close Procurements is the process of completing each procurement. The key benefit of this process is that it documents agreements and related documentation for future reference. Please note it is different from “Close Project or Phase”.

It involves administrative activities such as finalizing open claims, updating records to reflect final results, and archiving such information for future use. There may be unresolved claims, but all those unresolved claims after the procurement closure are subject to litigation.

The rights and responsibilities of the parties in the event of an early termination are contained in the terminations clause of the contract.

Every procurement must be closed, doesn’t matter whether it has completed, cancelled or terminated.

Inputs                          Tools and Techniques    Outputs

        

• All work is completed, deliverables accepted, claims settled OR terminated by either party
• It is generally done prior to administrative closure of “Close Project or Phase”
• Settlement of claims/invoices, audit, archive (Record Management System), lessons learned
• Contract is complete when all the specifications are satisfied, no matter the customer is satisfied with the product or not. Note project may not be completed yet.
• Procurement Audit is the structured review of the procurement process from Plan Procurement Management through Control Procurements is used to capture lessons learned from the procurement exercise.