How do the quality of requirement definition and the level of potential risk help determine the contract type that will be used?
Figure 4-1 illustrates the correlation between requirement definition and contract type. If the requirement is well-defined and the unknowns (risks) will be minimal (as in routine production-type contracts), the appropriate contract type will be firm fixed price (FFP), wherein the contractor accepts 100 percent of the risk. On the other hand, if the requirement is not well-defined and the unknowns are significant (as in research and development type contracts), the appropriate contract type will be cost plus fixed fee (CPFF), under which the government must take on 100 percent of the risk.
FIGURE 4-1. Contract Type versus Risk
In between these extremes, requirement definition falls somewhere between well-defined and very poorly defined, and the appropriate type of contract must be subjectively determined and subsequently negotiated with the contractor. Remember, when determining the appropriate method of procurement, with sealed bidding the requirement must be well-defined, and the only types of contracts allowed by the FAR in a sealed bidding situation are firm fixed price and fixed price with economic price adjustment. All other types of contracts, including firm fixed price contracts and fixed price contracts with economic price adjustment, must be negotiated. The various contract types are discussed later in this chapter.
How does the COR help conduct a risk analysis?
The COR, using his or her insight and expertise regarding the contract's specific technical requirements, assists the CO in identifying the potential technical and business risks of the acquisition. The COR and CO must account for:
Risks inherent in the requirement, given the:
- Type of requirements documents involved (e.g., commercial item description, design, performance, or functional requirements)
- Nature and complexity of the requirement
- Maturity of the requirement (e.g., extent to which the market is experienced in providing the deliverable; extent of change to specifications from prior acquisitions)
- Quantity required (e.g., magnitude needed relative to market capacity and the degree of certainty at the time of award that the required quantity will be available or likely to be produced)
- Quality required and the extent to which performance incentives are likely to motivate the contractor to optimize performance when quality is critical in meeting the requiring activity's functional need
- Delivery schedule (e.g., routine versus urgent requirement, degree of certainty at the time of award that delivery will be made when required)
- Period of performance or length of the anticipated production run
- Stability of the technology (e.g., prospects for technological innovation during the life of the contract that might lead the government to modify or terminate the contract).
Risks inherent in doing business with prospective contractors, given:
- The probable level of competition for the contract
- The adequacy of the contractors' accounting, estimating, and other management control systems
- The contractors' relative capability and experience (e.g., technological, organizational)
- The contractors' performance records
- The probable changes in the general level of business (boom, decline, or constant) over the life of the contract
- The probable extent and nature of subcontracting
- Terms of concurrent contracts, if any.
Market risks, including:
- Availability of the type and number of resources necessary for the work
- Trends in prices for labor, energy, raw materials, semi-finished goods, equipment, and other critical components.
Any other risks (e.g., adverse economic conditions, national emergencies).