A fixed-price contract is a type of contract where the payment amount does not depend on resources used or time expended. This is opposed to a cost-plus contract, which is intended to cover the costs with additional profit made. Such a scheme is often used by military and government contractors to put the risk on the side of the vendor, and control costs. However, historically when such contracts are used for innovative new projects with untested or undeveloped technologies, such as new military transports or stealth attack planes, it can and often results in a failure if costs greatly exceed the ability of the contractor to absorb unforeseen cost overruns.
Fixed prices can require more time, in advance, for sellers to determine the price of each item. However, the fixed-price items can each be purchased faster, but bargaining could set the price for an entire set of items being purchased, reducing the time for such bulk purchases treated as a whole batch. Also, fixed-price items can help in pre-determining the value of the entire inventory, such as for insurance estimates.
However, such contracts continue to be popular despite a history of failed or troubled projects, although they tend to work when costs are well known in advance. Some laws have been written which mandate a preference for fixed-price contracts, however, many maintain that such contracts are actually the most expensive, especially when the risks or costs are unknown.
The United States' Federal Acquisition Regulation (FAR) provides for the following types of contract with a fixed price element:
- Firm-fixed-price contract (FAR 16.202)
- Fixed-price contract with economic price adjustment (FAR 16.203)
- Fixed-price contract with prospective price redetermination (FAR 16.205)
- Fixed-ceiling-price contract with retroactive price redetermination (FAR 16.206)
- Firm-fixed-price, level-of-effort term contract (FAR 16.207)
- Fixed-price incentive contract (FAR 16.403)
- Fixed-price incentive (firm target) contract (FAR 16.403-1)
- Fixed-price incentive (successive targets) contract (FAR 16.403-2)
- Fixed-price contract with award fees (FAR 16.404).
Economic price adjustment may take account of increases or decreases from an established and agreed-upon price level, actual costs or a price index.
Airbus's German chief executive Tom Enders reflected that the fixed-price contract for the A400M transport aircraft was a disaster rooted in naivety, excessive enthusiasm and arrogance, stating, "If you had offered it to an American defence contractor like Northrop, they would have run a mile from it". He stated that unless the contract was renegotiated, the project must be abandoned.
A-12 Avenger II
The U.S. A-12 Avenger II development contract was a fixed-price incentive contract, not a fixed-price contract, with a target price of $4.38 billion and ceiling price of $4.84 billion. It was to be a unique, stealthy, flying wing design. On 7 January 1991, the Secretary of Defense canceled the program. It was the largest contract termination in DoD history. Rather than saving costs, the craft was projected to consume up 70 percent of the U.S. Navy's aircraft budget within three years.
The U.S. Boeing KC-46 Pegasus contract was a fixed price contract. Due to its history of cost overruns, it is an example of how fixed price contracts place the risk upon the vendor, in this case Boeing. Total cost overruns for this aircraft have totaled about $1.9 billion. However, Boeing was able to absorb those costs and has gained US Air Force approval to put the KC-46 into production.
The Canadian Construction Documents Committee's "Stipulated Price Contract" (CCDC-2), revised in February 2008, provides for a property owner and prime contractor to agree that work is done for a fixed price or lump sum.
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- Federal Acquisition Regulation, Part 16 - Types of Contract, accessed 14 December 2019
- Federal Acquisition Regulation, 16.203-1 Description, accessed 14 December 2019
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- A-12 Avenger II Advanced Tactical Aircraft (ATA) - 1983-1991
- "Boeing Racks Up Another $393M In Cost Overruns On KC-46 Program". 21 July 2016. Retrieved 2016-08-15.
- "Air Force approves first round of KC-46 tanker production". Retrieved 2016-08-15.
- Pawson, O., "Stipulated Price Contract", Canadian Consulting Engineer, accessed 14 December 2019
- Allan, B. (2004). Project management. 1st ed. London: Facet.