Common Engineering Contract Types
This article was originally published on LinkedIn
In common law legal systems, a contract (or informally known as an agreement in some jurisdictions) is an agreement having a lawful object entered into voluntarily by two or more parties, each of whom intends to create one or more legal obligations between them. (Wikipedia)
The Common Engineering Contracts Types are:
- Lump sum turnkey (LSTK)
EPC: The EPC contractor (EPCC) agrees to deliver EPC, which is an acronym that stands for engineering, procurement and construction. It is a common form of contracting arrangement within the construction industry.
Under an EPC contract, the contractor designs the installation, procures the necessary materials and builds the project, either directly or by of the work. In some cases, the contractor carries the project risk for schedule as well as budget in return for a fixed price, called lump sum LSTK depending on the agreed scope of work.
When the scope is restricted to engineering and procurement, this is referred to as an EP, E and P or E+P contract. This is often done in situations where the construction risk is too great for the contractor or when the owner does the construction.
The ‘keys’ to a commissioned plant are handed to the owner for an agreed amount, just as a builder hands the keys of a flat to the purchaser. (One should recognise that some EPC contracts terminate at Mechanical Completion but before Commissioning while LSTK contracts always include Commissioning.) EPC is gaining importance worldwide. It requires good understanding by the EPCC to return a profit.
An owner decides for an EPC contract for reasons that include:
- Reduced stress for owner
- Easy work and growth of the company.
- Single point of contact for owner simplifies communications.
- Ready availability of post-commissioning services
- Ensures quality and reduces practical issues faced in other ways
- Owner protected against changing prices for materials, labor, etc.
- Cost is known at the start of the project
Besides the plant siting, in an EPC contract the owner defines:
- Scope and the specifications of the plant
- Project duration
- The cost (the price to be paid to the EPCC) is negotiated and finalised and paid in mutually agreed installments.
EPCM: EPCM (engineering, procurement, and construction management) is a common form of contracting arrangement for very large projects within the infrastructure, mining, resources and energy industries. In an EPCM arrangement, the client selects a head contractor who manages the whole project on behalf of the client. The EPCM contractor coordinates all design, procurement and construction work and ensures that the whole project is completed as required and in time. The EPCM contractor may or may not undertake actual site work.
An EPCM contract is a natural progression for an EPC contractor as, if one is able to do an EPC of a project, then getting a bigger EPCM job is advantageous. It helps to tap the already present competencies while ensuring better control over the project. Also, the value of the project managed through an EPCM contract is far greater than the individual EPC contracts.
Normally, an EPCM contractor completes the basic work such as site surveys, getting clearances from authorities, doing the basic engineering and preparing the site for the subcontractors. Subcontractors are chosen by the EPCM company, but they have an agreement directly with the final customer (investor).
EPCI: EPCI stands for Engineering, Procurement, Construction and Installation.
It is a common form of contracting arrangement within Offshore construction. Under an EPCI contract, the contractor will design the structure(s), procure the necessary materials, undertake construction and transportation, and set it up at the offshore site. The contractor does this either through own labour or by subcontracting part of the work. The contractor carries the project risk for schedule as well as budget in return for a fixed price, called Lump sum or LSTK depending on the agreed scope of work.
In EPCI contracts, the contractor rarely carries the project risk unconditionally. Rather, contractor and customer have detailed discussions on the division of the risk. Risk of delays and cost overruns due to lacking Weather windows is an example of a typical risk that may be born by the customer rather than the contractor.
Lump sum turnkey (LSTK): Lump sum turnkey (LSTK) is a combination of the business-contract concepts of lump sum and turnkey. Lump sum is a noun which means a complete payment consisting of a single sum of money while turnkey is an adjective of a product or service which means product or service will be ready to use upon delivery.
In the construction industry, LSTK combines two concepts. The LS (lump sum) part refers to the payment of a fixed sum for the delivery under e.g. an EPC contract. The financial risk lies with the contractor. TK (turn key) specifies that the scope of work includes start-up of the facility to a level of operational status. Ultimately the scope of work will define just exactly what is needed.
Thank you for reading this piece of information.
I’m also aware that different industries have different forms of contracts which take place under different applicable laws. What other forms of contract exists in your industry or country?
My name is George Nwogu, an Engineer, Project Manager/Planner/Control and Trainer from Nigeria. I’m currently a PM Consultant and Project Planner at Bizville Project Management
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