What Is a Firm Fixed Price Contract?
What is a firm fixed price contract? A firm fixed price contract lists a specific price that isn't subject to adjustment of any kind.3 min read
2. Advantages and Challenges of a Firm Fixed Price Contract
3. When a Firm Fixed Price Contract Is Appropriate
4. Benefits for Both Parties Involved
5. Firm Fixed Price Contracts in Federal Government
6. Federal Acquisition Regulation
Updated November 23, 2020:
What is a firm fixed price contract? A firm fixed-price contract lists a specific price that isn't subject to adjustment of any kind. With a firm fixed price contract, the party buying or purchasing must pay the selling party a specific, fixed amount. This fixed amount doesn't change under any circumstances. Things like unexpected costs going up or the seller needing to spend more on raw materials have no bearing because the price is set and not subject to change unless noted explicitly in the original agreement.
Prices That May Change in a Firm Fixed Price Contract
If specifically noted in the contract, some things can be changed even in a firm fixed-price contract, such as:
- Contract changes
- Economic pricing
- Defective pricing
This type of contract is usually used in situations where costs can be calculated with a high level of confidence and accuracy. Firm Fixed price contracts are also used when the specifications of a project are unlikely to change.
Advantages and Challenges of a Firm Fixed Price Contract
A firm-fixed-price contract, or a firm price contract for short, puts the least amount of administrative paperwork burden on both contracting parties. For the contractor, however, the risk increases because he or she is accepting responsibility for all costs and this can result in either increased profit or loss. This can be an incentive for the contractor to manage costs more effectively and to work in a streamlined manner. A firm fixed price contract can be used with award fee incentives, performance incentives, and delivery incentives as long as the incentive is a reward for factors unrelated to costs.
When a Firm Fixed Price Contract Is Appropriate
When getting commercial supplies or services based on defined functional or detailed specifications, a firm fixed-price contract is a reasonable option. This is especially true in cases where the contracting agency is able to confirm fair and reasonable prices from the beginning. For example, when:
- Price competition is adequate
- Previous purchases of the same or similar materials and services provide a basis for making a realistic price comparison
- Information on costs and pricing is available to review
- Factors that are uncertain can be potentially identified and estimates can be made in regard to the cost impact they may cause.
When a contractor accepts a firm fixed-price contract, he or she is acknowledging the acceptance of potential cost-related risks.
Benefits for Both Parties Involved
Both buyers and sellers see benefits in this type of fixed-price contract. Sellers, also sometimes referred to as providers, are able to charge a higher base fee with a fixed price contract. The price can't go up, so it isn't as likely to garner resistance the way it might if the price were high and still open to later negotiation on extra charges. For the buyer, the higher amount being paid at the offset delivers peace of mind because the price isn't going to change and can't go up for any reason.
Firm Fixed Price Contracts in Federal Government
Federal government's senior leaders are under extra pressure as fiscal prices increase, forcing increased attention to buying into a firm fixed price, or FFP, contract. The Better Buying Power memoranda from the U.S. Department of Defense is one example of this in action. FFP contracts provide a simple and cost-effective way for agencies to contract for supplies, though it isn't always ideal when contracting for services. Inflexible FFP contracts can make agencies miss the chance to save when requirements change. Agencies can even spend more and end up with an increased level of red tape and time-consuming paperwork to manage.
Federal Acquisition Regulation
The Federal Acquisition Regulation, or FAR for short, provides a list of four things to consider when determining if a fixed price contract is a reasonable option. These four considerations include:
- Specific functions and details specifications of supplies and services
- Ease of confirming fair, reasonable prices
- Identifiable risks and ability to estimate costs accurately
- The willingness of the contractor to accept the risks
The hidden costs created by uncertain factors create a challenge for both parties in the early stages of establishing this type of contract.
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