Thursday, 16 June 2011

Effective Pricing Negotiation Strategy of Variation Claims in Commercial Building Construction

The valuation of variations is near daily task on large construction contracts. It is a norm in the construction industry where one of the contracting parties disagrees about the valuation of work done. Thus, the valuation of variation orders has been admitted as one of the main causes for conflict and disputes in construction management. A mechanism is required to accommodate the process of the changes in order to derive a more objective decision-making. An appropriate mechanism should be identified as a potential feasible solution for modeling the decision making process in the valuation of variation.

As abovementioned, Ms. Supatchana Pumpipat conducted a research studies for proper quantification of variation claims by emphasizing the varied works impact to cost structure which will be claimed by the contractors. Therefore, the major objectives for her study were to: (1) classify the variation works types in civil works of commercial building project and identify the problems that incurred in managing variation; (2) find out how to price the varied works that is generated from variation order that could be caused of claims and disputes; and (3) propose proper valuation process and the effective negotiation on the accepted price for both contractor and owner.
Conclusion

Based on the Case Study, the rebuilding shopping mall project garnered variation orders that were classified into five (5) categories such as:

i) New work – are the additional item in the some part of building for more suitable and aesthetic of the building. Frequently, this category is initiated by owner

ii) Modified work – are the existing of buildings becomes unsuitable for their present use, and then improvement, repair and maintenance are often required to keep them in usable condition.
Change work – are covered amend in some parts or whole scope of work that is stipulate in the contract

iii) Move work – are Moving things without creating any damage to those items including storage of those items, they assume a duty to be included in this section.

iv) Demolishing work – are move the existing part out and would not be reused. And the occupancy of debris that comes from the demolishing process will be agreed before starting work.

v) Correcting Work – items that are corrected or fix the damage of building. Most of them are architectural work.

At first, the author would like to identify the specific valuation method in each variation categories but based on interview, the valuation methods is not related to the variation categories. The valuation methods depend upon the condition and the character of the varied work.

The formulation procedure was initiated in order to manage the emerging variation orders. Basic flows of steps were provided but still flaws were found in processing time in every step. Some VO can be process without any difficulty and some may takes time to verify the submission documents, verify evidence, to gather data to confirm entitlement of the contractor to claim VO. Resolutions to variation order impact through variation order management were viewed and as to the effectiveness of current procedure. Current procedure is useful but can be developed to improve processing period and administer each changes lessening the probable effect to the whole project particularly on the cost.
Actually, the problems of this project are generated in every stage of variation procedure which will only base on the contractor’s viewpoint such as follows.

1. Notification - Information of change is given by either the PM or Contractors or whoever identifies the variation and all site instructions that may constitute a variation should readily indicate and require the Contractor to submit quotation. In the event that the Contractor submits a proposal like for example value engineering, this is the only time when the Project Management team conducts a preliminary analysis on time, cost, quality and the overall effects of the change in the construction.

2. Evaluation – the stage of gathering data to confirm support documents submitted by the Contractor. Determine the quantities, cost and time involved in the variation request. Coordinate the change with the trade in the construction for probable effect on the progress of the work and the work itself. At the same time coordinate with the contractor’s QS for comparison, checking and correcting evaluation. This will greatly discourage dispute in final cost later and save time on repeated evaluation in cases of disagreements.

3. Negotiation-in the event that the contractor still does not agree and cannot settle among QS of both parties, it is only then that the variation is elevated to negotiation. And in times that QS from both parties cannot decide on particular issues, negotiation among PM is recommended to settle the variation.

4. Final Approval– will include informing the Accounting department for the additional cost due to the variation for budgeting and cash flow management.

Nonetheless, one of the common reasons for dispute is the valuation of variation. The current traditional approach has been claimed inadequate to provide a scheme of compensation for any delay or disruption involved due to variations. Actually, rules for variations, when appropriate, the rate and price quoted is used in the valuation for variations. However, the rate or prices may not necessarily be an accurate figure for individual work items. In other words, it represents the collective amount of the project. Therefore, the rules of valuation should not be implemented in a loose way, simply because the rates to which they are applied are imperfect.

A valuation scheme in valuing variations has been provided. The possible outcomes of the scheme when the valuation is to be determined are as follows:

1. Applying original rate and price from similar works in the bill of quantities.

2. Using the original rate and price of similar works as the basis of valuation, applying necessary adjustment and/or allowances.

3. Determining new rate and price derived from fair valuation.

However, there was an issue arise on this scheme as it is potentially creates conflicts and disputes. The conflicts and disputes has been identified, namely the distinction of the varied works compared to the original works, i.e. similar character and/or under similar conditions. In the case of similar work characteristics and/or work condition, the varied works are valued using the original rate and price of similar works in the Bill of Quantities. If the work character and/or work condition is not similar but in the opinion of the assessor is still appropriate, the original rate and price of similar works in the Bill of Quantities will be used as the basis of valuation applying necessary adjustment and/or allowances. If the work character and/or work characteristic are totally different from those mentioned in the Bill of Quantities, new rate and price will be established by fair valuation. A mechanism for valuation of variations is essential if our understanding of construction management is to be advanced.

On the other hand, difficulties may arise among the related parties in perceiving the conditions to be encountered during execution. Each party may perceive the works characters and/or work conditions differently according to the nature of their own needs and for their own benefits. A framework has been developed to fairly assess all changes resulted from authorized variations and relate the changes to the final decision of valuation method to be. The form of contract also has been especially drafted to accommodate the risks of different perceptions on this matter and distribute the risks fairly to the involved parties. This result in the recommended way to deal with variation events is to look back to the forms of contract to make a careful assessment.

Finally, based on the findings, it can be concluded that each of the condition of contracts has stipulated clearly the rules for method of valuing the claims of variation works. However, the adequacy and appropriateness of the mechanism are different based on the different types of contracts. The selection of the type of contracts to be used for a particular project may influence the project implementation in terms of contractual administration related to claims for variation works. By selecting an appropriate type of contracts for a project to be implemented may reduce the tendency of disputes arising from valuation of variation claims. Disputes related to claims of variation works can be avoided by overcoming the problems of the disputes. This may only be achieved through the proper selection of type of contracts which contain the most effective methods of valuing the variation claims. Despite the fact that BQ rates/Contract rates is the most instant method and agreeable among the contracting parties, it is recommended that this method should be improved by rationalization of the rates accordingly depend on the nature of the work of similar character executed under similar conditions. In other words, the BQ rates/Contract rates despite being the most agreeable rates they should be adjusted accordingly so that the rates for varied works will be fair to both contracting parties.

Recommendation

It is also suggested that the application of Information Technology by using an expert system as a potential decision-making tool in the valuation of variation claims to be further explored as it has the potential to deliver the best solution in the valuation of variations which based on the expertise of the professional decision-makers. It has been previously explored that the valuation of variations needs a mechanism that represents the expertise and knowledge of the human experts for its decision-making. Decision-making by experts regarding the valuation methods to be applied, based on the determination of the extent of the changes affecting the work characteristics and/or work condition, plays an essential role in the valuation scheme.

However, the majority of human decision making is answerable to more than a single person, and involves higher level functions that can be constrained and frustrated by any attempt to enforce rigid or methodical practices. In other words, consensus decision-making is required from several human experts for an appropriate decision. The human experts for the valuation of variations are the quantity surveyors due to their important role and involvement in financial and technical aspects of a construction project management.

Here are some knowledgeable key points to manage a Variation Order:

- Out-Source Information - for variations that need price comparison, outsource information must be obtained such as price indices from the government, quotations from suppliers and price information from consultants.

- Data collection – is to collect the correct information to support the validity of the any variation order. It can be Site Records such as site diaries, weather charts, site instructions, inspection reports, shop drawings and materials approval, RFIs and other forms of communication like emails, transmittals, minutes of meeting and project reports.

- Investigation - For variation order due to differing site conditions, site investigation is imperative. It is essential in determining the actual site situations and for observing if the proposed change were feasible to the site. It is also done to verify quantities, type of material applied by the contractor and to confirm the methods proposed for application for use.

- Know your references - reference materials would be the basis for evaluation first, entitlement of the contractor to a variation order, validity of the change, and determination of quantities either additive or deductive. Reference may include Construction Contract, Drawings, Specifications and other forms of site communications.

Her thesis abstract is copied and pasted.

Abstract

Construction industry is often described as a volatile industry which can be true in implementing a project. Construction itself is more often unpredictable due to the different situations a project may face. Variations may occur in the preparation, during construction and even upon completion of the project. The veracity of inconsistent nature of construction, variation management procedures must be considered to minimize the effects particularly to project cost, time schedule and overall quality of the project.

There are an increasing number of construction contracts resulted in claims and disputes. All of the parties involved in the Thai construction industry are fully aware that disputes not only lead to cost overruns, but can end up as expensive and lengthy courtroom battles. However, very few studies related to construction contract claims and disputes in Thailand have been presented. This study is an attempt to gain further insight to construction contract claims and disputes in the Thai construction industry.

The big challenge for Thai Construction industry is to advance the management styles to cope up with challenges faced in a project. Procedures in managing contract and change orders are viewed to know the effectiveness and liability ensuing steps observed. Disruptions in cash flow and programme when mitigated and handled correctly may create confidence in handling changes that transpire in any project.

However, knowledge and skill in managing this challenging changes and observing effective procedures may eventually create a norm in Project Management system in the industry where tradition of strong relationship among Owner and Contract still prevails.

From the aforementioned information, it can be seen that the engineers have high levels of responsibility and must be knowledgeable and experienced in their work. They also have to work carefully to complete their work. Therefore, it is suitable for both engineers and involved personnel to study work data and past court cases that are related to their work, so that they can be careful about their work.

1 comment:

Muditha Pathirana said...

A good article. Recently I have to negotiate a rate with a CONTRACTOR. for a similar item in BQ the rate is Rs.1,000 but for the variation contractor submitted a rate of Rs. 6600. In most of contracts there is no guidance given to price variations. But my opinion is we need to insert a new clause for this PRICING OF VARIATIONS.