Benefits of Fixed Price Contracts: What You Need to Know
Fixed price contract is used when a seller and buyer agree on the total cost of a service or good and it provides many benefits.3 min read
There are many benefits of fixed price contracts. This type of contract is when a seller and buyer agree on the total cost of a service or good, which is listed in the contract. Both parties agree to this and sign it to honor the agreement, and the terms of the contract will determine how long the fixed price will last for.
Advantages of Fixed Price Contract in Construction
This type of contract gives the seller and buyer a scenario that's predictable and provides stability for both parties during the contract's length. Buyers might be worried about the price of a service or good increasing suddenly, which affects their business plans. In turn, sellers might be concerned about the value of their service or good suddenly dropping, which reduces their income with no warning. Buyers can benefit from how predictable a fixed price contract is, since any uncertainty on the project's final costs that goes past the original estimates will shift to the seller entirely.
Employees from the buying company can favor the fixed price contract since it gives them a solid budget to show to their superiors to get approved compared to a contract where the costs can indefinitely rise over time. If the market causes the value of the service or good to increase, buyers get a benefit while sellers lose possible profits they would have enjoyed if they didn't have a fixed price contract.
It may cost the buyer more money in the beginning to have this type of contract; however, it's useful because the buyer can budget for what the contract will cost and ensure there are enough funds for the agreement to be fulfilled. A fixed price contract has definite parameters for the contract's total value and using this kind of agreement as a business owner has many advantages. These include the following:
- Letting your company stay in control of the amount owed.
- Staying in control of the maximum value of the contract.
- Managing the hiring cost outside the company.
It's a benefit to control the cost of hiring since the contractor and business will figure out the total agreement value before they sign it so there are no surprises. The contract's monetary value won't increase, either.
Disadvantages of Fixed Price Contract in Construction
A fixed price contract allows a buyer more predictability about the service or goods costs in the future, but it can come with a price. Sellers might realize they're taking a risk by having a fixed price, so they'll end up charging more than they would normally for a price that's fluid. If the price of the service or good drops suddenly, the seller has a disadvantage and the buyer has an advantage.
When the service or goods costs dramatically increase, the buyer won't be able to honor the contract. This means the seller has to take it as a loss and see what their legal action is.
Fixed Pricing Comes with Risks and Benefits
There can be several different approaches to getting a fixed price, but all approaches have the same goal. This is to fairly balance the risk between the client and consultant by having a risk premium that covers uncertainties and contingencies. It creates an estimate of materials and time that's needed to finish the project. Having a risk premium also protects against any unexpected surprises that may come up in a project. Estimates should not be delivered lightly, as they tend to stick in the client's mind for a long time.
You should also make sure to follow the rules in this situation. It's nearly impossible to have an accurate estimate without having a project task list unless this particular project has been delivered before and has no risk factors. Those who deliver the project are in charge of making the estimates, so they must be accurate. Any conflicts need to be resolved before the project's estimate is part of the fixed price. With each project, you'll need to analyze and rate what the risk factors are, so the correct premium can be put towards it.
If you need help with fixed price contracts or understanding the benefits of using them, you can post your legal need on UpCounsel's marketplace. UpCounsel accepts only the top 5 percent of lawyers to its site. Lawyers on UpCounsel come from law schools such as Harvard Law and Yale Law and average 14 years of legal experience, including work with or on behalf of companies like Google, Menlo Ventures, and Airbnb.