By Published On: 30 November 2020Categories: Articles3.5 min read

Ever heard of a lump sum contract?

This kind of contract is widely used in world insurance, investment, auction, banking, to construction projects. Lump sum itself is a contractual agreement on how to pay for the production costs that the project owner gives to the contractor.

Want to know more about lump sum contract definition, advantages, and disadvantages for the project? Check out the reviews below!

Lump Sum Contract Advantages

  1. Because all the points of the project performance agreement have been written in the contract, the project owner will find it easier to control the project worked on by the contractor.
  2. The contractor selection process is made easier because the contractor submitting the price bid has seen the contents of the contract made by the project owner. This means that the contractor is considered to have agreed with the list of costs provided by the project owner, including the risk of unexpected losses.
  3. There is little chance of adding or reducing project resources. This is because the implementation period and scope of the project are fixed and written in the contract that was agreed at the beginning.
  4. The process of raising funds from both the project owner and the contractor is automatically faster because the process of evaluating project value by banking institutions is also easier. ‘
  5. The rhythm of the working relationship between the project owner and the contractor has become more dynamic. This is because both parties have agreed on the rights, duties, and responsibilities that must be undertaken during the project.
  6. The project budget payment system became clearer. The project owner is not required to pay the entire project budget at once in advance. Rather, the budget delivery schedule is carried out according to the terms agreed in the contract. As a result, both parties can control cash flow dynamically according to a planned schedule.
  7. The project owner gets benefits from a budget that he can afford and it is fixed. This budget has also been agreed upon by his party and the contractor in a written agreement.

Lump Sum Contract Disadvantages

 

 

  1. Speaking of losses, it looks like the contractor will feel one of the big losses. Yes, through the lump sum contract system, it means that the contractor must complete the project according to the performance requirements and the schedule agreed upon with the project owner, even though there are many unexpected things that affect the progress of the project. If this has happened, then the profit margin for the contractor will certainly be reduced if the problems that arise cannot be properly anticipated.
  2. The more anticipated unexpected losses that arise during the project by the contractor, the higher the project bid price that he submits to the project owner.
  3. Opportunity for contractor manipulative steps to get a large margin. Yes, because this lump sum contract gives contractors the freedom to regulate their own working methods, they may be looking for manipulative loopholes to get a bigger margin. For example, by reducing the quality of resources, raw materials, and K3 tools.
  4. The contract discussion agreement process can take a long time. This is because both parties will usually carry out in-depth reading and understanding of each point of the procurement document contained in the contract. After understanding each point, making an offer, and agreeing to it, then the contract can be signed.
  5. The proposed change of points in the contract after the project has started can take a long time. For example, when a contractor submits an additional raw material budget because the price of raw materials at that time has been higher than the initial estimate, the contract owner is unlikely to accept the proposal. Even if it is approved, the process will be very long. This is because the contract owner will do careful calculations so that they don’t get a loss. They will also ensure that the proposal given by the contractor is not a risk that has been included in the budget calculation from the start.

That is the definition of a lump sum contract with its advantages and disadvantages. Find more insights on project management here with Tomps.id!

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