Enabling Incentive Based Contracting


The growth in cloud and infrastructure technologies has given companies the ability to store, analyse and make decisions using advanced tools and drawing from huge data lakes. As emerging businesses enter their respective marketplaces, they are no longer needing to be digitally transformed as they are already digitally enabled. This gives them the edge in building scalable business systems, processes and infrastructure to support their operations.

There has been little development, however, in the way companies’ contract and price their goods and services. There are innovative mechanisms available, such as Incentive Based Contracting which has been in use in the MOD since the 1960s, but such contracts are typically very complex to manage with onerous contract frameworks, the burden of maintaining financial models and the need to report against delivery of requirements.

There has been some application with varying results across the public sector; Open Book and Incentive Based Contracts are commonplace for large defence, nuclear and construction contracts. Due to the highly regulated and safety-critical nature of these markets, notwithstanding the huge physical and financial risks, business operations are arranged so to collect and retain granular operational and financial data. This data then provides a ready-made platform for the operation of more complex contracting models which rely on transparency of such data.

Incentive Based Contracting rewards the Supplier for delivering measurable outcomes e.g. performance improvements or total cost of ownership (TCO) reduction. It provides a commercial and contractual framework where relationships are vested. This paves the way for effective commercial management and operations, stimulating partnered behaviours and driving future innovation.

To implement, Incentive Based Contracting requires skilled staff, accurate cost collection systems and appropriate contracting vehicles. In order to accurately track value metrics, businesses should look to leverage available technologies allowing them to accurately shape and manage contracts, and in turn develop their infrastructure to accurately share and optimise costing data. This facilitates extant contract management and has the benefit of also informing future contracts in the context of pricing.

Oft-quoted is the saying, “buyers are searching for the hole not the hammer and nail”. Both parties should strive for a culture of mutual trust, and be willing to share information in a transparent manner; getting to know their business partner as truly understanding their objectives is a much more effective basis for contracting.

The days of locking a contract in the drawer are over. We believe that there will be a rise in transparent Incentive-Based Contracts as critical commercial information becomes easier to store, analyse, validate and share.

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