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Payment Terms:

The method of paying the agreed Contract Price to the Contractor for Works/Services performed under a Contract and the time duration within which monies are paid along with associated conditions, is collectively known as Payment Terms.

What difference does payment terms make in the Contract to the Contractor or to the Client?

Payment terms are a critical component from a Contract pricing point of view both for Contractors as well as for Clients and has a direct bearing on price. However, in comparison they appear relatively more critical for the Contractor and have a profound effect on cash-flow, that is ever scarce and, an expensive resource. In large value Contracts, it is more pronounced and one can come across situations where a Contractor has stopped performance, as a result of continued non payment of overdue invoices.

It is thus important for a Contracts Engineer to analyse the scope and arrive at a fair method of compensation for work done in a way that it does not put unnecessary financial burden on the Client or the Contractor.

On one extreme, the Contractor could be paid on completion of all Works/Services in which case there will obviously be a huge financial cost to Client and on the other extreme, Contractor could be paid the full Contract price in advance of the Contract completion in which case there is an associated financial cost to Client and a risk of improper use of monies paid and lack of motivation on the part of the Contractor in completing the Contract as agreed. A fair and best practice though is, compensating the Contractor commensurate with the actual progress or on the basis of achieving certain defined milestones.

Since individuals from a finance department paying an invoice are not technical/Contract experts, the Contract provisions with respect to the way progress is measured and invoices verified should be clearly defined with the required documents evidencing fulfillment of obligations.

Some standard practices commonly adopted in the calculation of Contractors progress or milestones achievement are as follows:

  • In manpower services Contracts, the number of hours/days/months of work put in by individuals is deemed as progress;
  • In term maintenance Services Contracts, payments are made in fixed installments on a monthly basis against Client certification;
  • In software Contracts a major milestone is the delivery/installation of the software. Other services such as maintenance and support are paid on a yearly / half yearly or such other basis while any consultancy e.g. customization is paid upon completion and testing of end product;
  • In lump sum FEED/engineering Contracts with a list of deliverables, submission of such listed deliverables at agreed times is a milestone while in a reimbursable FEED/engineering, progress is calculated on manhours consumed or agreed progress calculation basis;
  • In an EPCM it is a combination of fixed lump sums for known scope and progress achieved based on manhours/rates for reimbursable work;
  • In fixed lump sum EPC and large FEED Contracts with a large number of activities, the progress calculation could get highly complex. It usually involves use of software tools such Primavera, Artemis or MS Project where the Works/Services are broken down into its various meaningful work elements and assigning weights to each of such elements all adding upto a 100 percent (total Contract progress). If required, major work items are further broken down into their own work elements for facilitating progress calculation. During the construction phase, qualified and experienced quantity surveyors are engaged in reviewing and certifying progress achieved under the Contract with Planning Engineers actually responsible for data manipulation. Based on the progress achieved as certified by Client, payments are made.

In addition to payment against progress of works, Contracts could also include clearly identifiable milestones / line items such as:

• Against supply of all required materials (Prorata Basis);
• Achieving installation of large pieces of equipment;
• Mechanical completion of Works;
• Pre-commissioning;
• Test run of the plant;
• Submission of as-built dossiers;
• Others.

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