Today is Part Two of a series of posts that are addressing the different types of contracts homeowners normally consider when working with a general contractor. Yesterday I discussed the Competitive Bid process which included most of what I think are the few positives and most of the negatives to using this method when evaluating and hiring a contractor. I don’t generally like them because I believe it creates an adversarial atmosphere in what should be a collaborative team environment. The competitive bid process is one of the two most common methods we typically use in our residential architectural practice. The other, which will be the focus of today’s post, is the Contractor Cost + Contractor Fee Contract – commonly referred to as a “Cost Plus” contract.
Cost Plus Fee Contracts
The Cost Plus contract has been gaining more and more traction in my world over the last 12 years and is now my preferred contract. When I discuss the process of hiring a contractor (both the when and the how) I always talk about the different sorts of contracts we might consider using use because it has an impact on the timeline. Competitively bid projects don’t generally involve the contractor until the very end of the construction document period – once all the decisions have been buttoned down and successfully represented in the drawings and project specifications. By contrast, the Cost Plus contract typically involves the contractors really early in the design process – sometimes as soon as the completion of the schematic design phase when the only design drawing is a floor plan. But I’m getting ahead of myself – let’s talk about the Cost Plus process before we get into the advantages.
A Cost Plus Fee contract with a contractor is exactly what it sounds like – the actual cost to build your project plus a management and coordination fee for the general contractor. The management and coordination fees are generally a predetermined percentage of the actual costs. In my neck of the woods, we typically see around 15% as the percentage used regardless of the skill level of the contractor. That might sound peculiar, that it would seem obvious to assume that “more better” contractors can charge a higher percentage fee than just “better” contractors … but you would be wrong. The more better contractors make more money charging the same percentage rate for the simple reason that 99 times out of 100, they work with better subcontractors who charge a higher fee for their work. See? It’s pretty simple and obvious when it’s laid out. I’ll admit that a really skilled contractor can get a better product out of an inferior subcontractor than a less skilled contractor but those are typically isolated instances and most of the more better contractors I tend to work with eventually weed out the sub’s who create more problems than they solve.
One of the significant advantages of a Cost Plus contract is that the contractor can be brought on very early in the process and can be a valuable member of the design and construction document process. Most contractors can start providing “budget” pricing with just a plan. Since a high percentage of homeowners think that the only way to get the best price for the end product is a competitively bid process [where all the contractors are put into a cage match and have them slug it out over the price until the lowest bidder is left standing victorious] the idea of paying the contractor whatever he charges PLUS a management and coordination fee is ludicrous. Cost Plus contracts let the contractor develop pricing at various points of the creative process and they help manage the expectations of the finished product. The contractor is also an asset to the architect (me) by helping me solve certain problems as they develop on paper rather than in the field when someone is going to have to pay to build it, tear it out, and then build it again … not really the most cost-effective way to solve a problem. Before you say “that’s not my money, the contractor has to pay for their mistakes…“, let me point out that most people get loans from the bank to finance their construction projects and they pay interest on those loans … since we all know know that Time = Money, as the homeowner paying interest on your construction loan while the contractor is fixing a problem, even when you win, you still lose.
Every project that I have managed and processed over the past several years where the contractor used a Cost Plus contract, the costs are completely transparent. Unlike competitive bid projects when the actual cost of things is a total mystery, the Cost Plus contracts require the contractor to submit a bill or invoice for every single expenditure on the project. If they run over to Home Depot and buy a box of nails, I’ll see the receipt when I process the application for payment. Most of the applications for payments on a Cost Plus contract could be used as ballast to anchor a battleship they’re so extensive. Keeping track of the expenses is paramount to the success of a Cost Plus job because if the contractor can’t produce a bill of sale, they can’t submit it as an expense.
One thing that needs to be made clear about Cost Plus contracts – the contractor is still bidding the work! In fact, contractors bid the work far more often in a Cost Plus situation than in a competitive bid process. They are constantly providing budget estimates throughout the design and construction document process and when the contract is finally executed and the owners are going to the bank to get their loan, they are bringing in the final budget bid that the contractor provided. It is this same budget bid document that I use to track the progress of the project and measure percentages of the billed work completed when I process the applications for payment for the contractor. To use an analogy from yesterdays post, this bid budget can let the homeowner know what size bed they are getting into before they buy the bed. Another benefit that most people don’t consider is that the competitively bid project tends to create a lot of change orders (move an outlet – that’ll be $125) for every possible modification along the way. As many times as not, when the homeowner changes the scope of work in a Cost Plus job, there isn’t any change in the total cost for that scope. The electrician installing that electrical box is generally being paid time and materials for the work he does and since moving or adding a box literally takes a few minutes, you don’t get dinged for all the little revisions. Imagine that you are installing 100 outlets in your house and the fee to install them is $8,000. Most of the time if you come in and add another 10 outlets you’ll still only pay the $8,000 and not an additional $1,250 for 10 outlets at $125 per outlet.
**On a side note, since the owners get a copy of these payment applications, they know the names of every subcontractor and product on their project. If years later you want to modify the gate latch on your fence, you could always go back to your paperwork and see the name of the person who originally performed the work – amazingly valuable information if you ask me.**
Last, but not least, I want to spend a minute talking about what I think is the single most valuable aspect of the Cost Plus contract – teamwork. The single largest issue I have the the competitively bid project is the adversarial environment that is created in which everyone is keeping an eye out for themselves to make sure they aren’t going to get screwed. In this instance where the competitive bid is bad, the Cost Plus contract is fantastic. The contractor knows that he is going to be compensated for the full extent of the work he is asked to perform – which I think it is fair to say that most people think that’s completely fair. Another benefit to the contractor is that since they know they aren’t going to get penalized for making a mistake during the bid process, they are far more likely to fix genuine mistakes when they happen without having to be caught and told to do so. Contractors have a bad reputation for cheating people and I’m not sure that it’s entirely deserved. Whenever you force someone into a corner, the only way they can get out is going over the top of the person that put them there. Mistakes happen and most contractors don’t have an issue with fixing their mistakes – it’s when an honest mistake is made and they are forced to suck it up and pay for it …. well, I just don’t think it’s a very collaborative position to take to make a person give you something without expecting to compensate them for the work. Cost Plus contracts expose all the costs so the owner pays for what they receive and the contractors are compensated for the work they provide. Since the architect isn’t having to play the heavy and go looking for the stuff the contractor is trying to get away with, architects are more likely to be open to what the contractor is saying, the financial bullsh*t filter is removed and everybody’s cards are on the table.
All that’s left is that the three interested parties have the same goal – to complete the project with everyone walking away thinking that they got what they wanted … and ideally what they expected.