In this case study, we will see how an early completion bonus can be a win-win opportunity for all the stakeholders of a project. Rather than spending time on pure price negotiations or worst-case legal subjects, the parties should collaborate to find win-win solutions and optimize the overall project value.
The context of this case study is a multicultural negotiation for a privately developed concession to build and operate a hydro-power plant during 30 years. The power plant included multiple turbine-generator units.
The main project stakeholders were the following:
- The local Utility, the off-taker of the entire electricity production
- The Project Owner, the private developer
- The EPC Contractor
- The EM Contractor, supplier of the turbine-generator units as a subcontractor to the EPC Contractor
At the start of the negotiations, the Owner wanted to have a single taking-over of the entire power plant. This was probably because the single taking-over date would be the starting point of the 30 years’ concession period and of the loan repayment.
Initial exchange of arguments:
The EM Contractor explained that, due to the nature of the project, there would be value in allowing a sectional take-over (i.e. a taking-over per unit). In fact, the hydro-power project was of the run-of-the-river type, with a regular flow of water that would remain unused for energy production until the last unit would be commissioned and the overall power plant taken-over.
Acknowledging the advantage, the Owner wanted the EM Contractor to operate the units during several months without taking-over.
The usual business practice is that the units should not be used for commercial operation before the taking-over. Use before taking-over (except for commissioning and trial run) triggers deemed acceptance in standard contracts. Also, the insurances are different for the construction phase (CAR insurance) and operation phase (equipment breakdown insurance).
A win-win solution was found with an early completion bonus
The parties agreed to a mechanism of a single, final taking-over of the units which would be the reference date for the concession period. However, any unit that could be commissioned before this final taking-over would be transferred to (including a transfer of risk and insurance obligation) and operated by the Owner. An early completion bonus for each unit, digressive for the number of units put into service, was contractually foreseen from the start to motivate the Contractors all along the construction phase to find fast-track solutions.
The advantages for each of the stakeholders were as follows:
- The Utility benefited from early generation, avoiding further outages that were regularly occurring in the country and replacing very costly emergency diesel generated electricity by the lower tariff hydro generated electricity.
- The Project Owner benefited from their part of the bonus payments from the Utility (linked to the early operation). The early start-up of the electricity production improved the operators’ learning process leading to lower outages, higher availability and probably less warranty issues after the overall take-over of the power plant.
- The EPC Contractor and the EM subcontractor benefited from potential early completion bonus.
Actual impact of an early completion bonus
In spite of facing lots of challenges during the execution of the project (with considerable margin slippages), the Contractors managed to put into service certain turbine-generator units before the guaranteed taking-over date. The early generation was very welcome for the country and the Utility. The early completion bonus represented a relief for the extra construction costs that the Contractors incurred (also linked to acceleration measures). This outcome created a positive transition for the Owner from the construction to the operation phase.
Writing and agreeing on the complex early completion bonus mechanism consumed quite some time of the negotiation teams. But bringing the discussions to a win-win subject created a positive atmosphere during the contract negotiations based on trust, respect, transparency and pro-activity. This atmosphere was also beneficial to resolve other subjects that were not themselves win-win situations.
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