Which type of ERP Contract is right for you?
Generally, we reach the tipping point to decide if it’s time to replace the existing financial system/enterprise resource planning (ERP) system. We’ve seen demos of various systems and selected an ERP service provider. It’s now time for contract negotiations. Which type of ERP Contract is right for you? Should you ask for a fixed bid contract or a time and materials (T&M) contract?
What is Fixed Bid & Time and Material Contracts?
- Fixed Bid – The agreed upon fee covers the entire project and will not change.
- Time and Materials – The scope of the project is agreed upon along with an hourly rate. But, the final cost of the project depends on how long it takes and what additional expenses are incurred. This is also termed as Assist Structure.
- Hybrid structure :
- Time and Material with an Average Cap: This is a contract based on the actual hours worked but with the addition of a “not to exceed amount”
- Time and Material with Shared risk: This model is designed to reduce the overall risk by aligning incentives and creating a spirit of partnership.
Benefits of Fixed Bid Contracts
- The client and the ERP developer spend time up front determining the full scope of the project. If we are clear about what we expect from the ERP, it is preferable to go for a fixed bid contract. If we want to discover the outcome, it is preferable to go for Time and material Contracts.
- It demands good communication prior to the start of the project. It gives both parties an opportunity to test each other out for compatibility.
- Helps determine a precise budget in advance
- Makes the ERP service provider highly motivated to complete the project quickly and efficiently
- The Client knows what the project is going to cost before signing on the dotted line.
Challenges of Fixed Bid Contracts
- It’s impossible to accurately predict every minute detail of a project’s scope and requirements ahead of time.
- Smart developers try to cover all reasonable contingencies. This causes fixed bids cost more than what you expect to pay for time and materials methodology.
Benefits of Time and Material Contracts
- Maximum flexibility to the buyer as he need not foresee every twist and turn of the project in advance.
- Places the developer’s and client’s focus where it belongs; on the quality of the end product, rather than on an artificial box created by a predetermined price point.
- Less expensive in the long run because there’s no need for the developer to arbitrarily pad the initial quote in expectation of complications that don’t end up occurring.
- Allows monitoring and managing of the project in detail
Challenges of Time and Material Contracts
- The buyer bears the entire risk of budget overruns and schedule Delays.
Time and Material with an Overall Cap
This method is acceptable because it offers the benefits of having controlled cost as well as the flexibility inherent in the T & M pricing.
This establishes a target budget with shared risk and rewards if the service provider exceeds or stays within the budget.
Example 1: The Service provider’s hourly rate may be progressively discounted as it exceeds the target budget and conversely, increases if it comes in within the budget. However, like Fixed bid contract, the shared risk structure requires an upfront clarify in the ERP implementation with a clear outcome by both parties.
Time and Material with the Shared risk
Example 2: If the project budget is mutually agreed upon to be $ 200000 and the actual project cost ends up with $ 180000 as a result of efficient workflow from the vendor and not because of a reduction in the project scope, then savings of $ 20000 would be divided by two and $ 10000 would be paid to the service provider. This is a win-win situation. This incentive bonus would encourage service providers to maximize project efficiency for the mutual benefit of the client and service provider.
There are pros and cons of both Fixed Bid and T & M Contracts and it is preferable to have hybrid contracts. Irrespective of the structuring of deals, it is advisable to have good communications and proper project monitoring and management. The last but the not the least, the customer references of a service provider is important.