In construction, especially when budgets are tight and stakeholders and clients are paying close attention to costs, guaranteed maximum price (GMP) has become an increasingly popular contract choice for project delivery. This is largely because project owners believe GMP helps manage risk and maintain profitability by “capping” the dollar amount that can be spent by a contractor on a construction project.
In this article, we will zero in on guaranteed maximum price, also known as GMP. We’ll define guaranteed maximum price, touch on what your construction company should understand before committing to a GMP contract, what the key features of guaranteed maximum price contracts are, and what advantages and challenges such agreements pose. Finally, we’ll include a short list of best practices for contractors who agree to guaranteed maximum pricing.
What is a Guaranteed Maximum Price (GMP)?
In other words, a GMP contract is an official budget cap agreed upon before construction by both the contractor and the project owner.
A guaranteed maximum price contract differs from traditional cost-plus or lump-sum contracts. The point of a GMP is to provide stakeholders with both cost transparency and the security of a spending ceiling. When selecting a GMP contract, the goal of the project owner is to reduce the risk of overspending. This is particularly concerning for project owners financing large-scale developments.
How does a guaranteed maximum price contract work?
While every GMP is a little bit different, the following tenets are associated with guaranteed maximum price agreements:
- The contractor is paid a fixed fee for services. The contractor is also reimbursed for actual costs incurred during the project, including labor, equipment, materials, and more.
- When the project is complete, total reimbursement to the contractor cannot exceed the guaranteed maximum price, unless there’s a formally approved change order. This is true even if the contractor “overspends.”
Keep in mind that projects completed under a GMP contract may come in under budget. If this occurs, how these savings are distributed is up for negotiation and is decided well in advance during the contract stage. Savings may go to the owner or be shared at an agreed-upon rate between the owner and contractor.
Remember, though, that if project costs exceed that guaranteed maximum price, it’s almost always the contractor who’s responsible for absorbing the overspend, unless a change order was approved.
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What to expect in a GMP contract?
It’s no surprise that guaranteed maximum price contracts are highly detailed. After all, every single aspect of construction must be laid out and priced. When creating a GMP contract, expect to include:
- A very detailed scope of work that clearly defines what’s included in the price of construction
- A written commitment to highly transparent accounting in which the contractor provides open-book access to all spending records
- A clearly defined change order process, as any changes must be approved and may increase the GMP.
- A commitment to maintaining contingency funds, as additional money may be required to complete construction after a change order is approved.
What are the benefits of using a GMP contract and construction?
In general, the benefits of using a guaranteed maximum price contract for construction projects are:
- Increased transparency for project owners that allows them to see how money is being spent on everything from labor to raw materials.
- Increased confidence and cost certainty for project owners, which can make budgeting and securing financing for large-scale projects easier.
- Improved risk mitigation for project owners, as the contractors are now taking on some financial risk, too.
- Opportunity for increased project efficiency for project owners, since overages will generally become the responsibility of the contractor.
Clearly, most of these benefits directly help the project owner, not the contractor. This is often exactly the point. These benefits make a GMP all the more appealing to a project owner, and for a contractor that wants the job, offering a guaranteed maximum price contract can be key to winning the job.
What are the drawbacks of using a guaranteed maximum price contract for construction?
There are drawbacks to using GMP, too. Some challenges include:
- A very intensive pre-construction process in which a highly detailed scope must be put together to set the GNP. This is an incredible amount of work for all parties involved.
- Reduced flexibility for the project owner, since change order processes are complex and may even require renegotiation with the contractor.
- A potentially increased risk of dispute, especially as costs near the guaranteed maximum price limit, and especially if the project owners are requesting changes.
- A potentially higher bid price, as contractors may cushion pricing to protect themselves from the risk of delivering a project over budget.
When should a guaranteed maximum price contract for construction be considered?
In general, GMP contracts are best for projects with a highly defined scope and design, project owners who are insistent upon cost control, and projects that lend themselves to true collaboration and transparency between owners and contractors.
Guaranteed maximum price contracts are used in all sorts of contexts, including large commercial developments and institutional projects like building schools and medical facilities.
Inventory management during GMP
Increased transparency is essential for contractors that enter a guaranteed maximum price contract with project owners. Virtually every inch of work on the project must be documented, from demolition day to groundbreaking. There are all sorts of tools, software, integrations, and best practices to help contractors get through a GMP construction life cycle with detailed documentation of all work performed, materials used, and labor provided.
One of the easiest ways to increase transparency from the very start is to digitally track how raw materials, equipment, and all other construction and supplies and materials are used throughout the project. Inventory management software like Sortly allows you to track the costs, usage, location, condition, and more of every single item your team requires, from a screwdriver to copper wire to a tractor.
Plus, with the ability to check items in and out via barcode and QR code from any mobile device as they leave a construction warehouse and enter the job site, it’s never been easier to track inventory usage day after day.
When construction comes to an end, or whenever an audit is needed, stakeholders can simply generate customized reports to see what items, raw materials, and supplies have been used, what the value and cost of these items are, how much of these items are left in storage, and whether there’s any reason to worry there may not be enough to complete work.
This easy, comprehensive guide can help you:
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About Sortly
Sortly is an inventory management solution that helps you track, manage, and organize your inventory from any device, in any location. We’re an easy-to-use inventory software that’s perfect for construction businesses of all sizes. Sortly builds inventory tracking seamlessly into your workday so you can save time and money, satisfy your customers, and help your business succeed.
With Sortly, you can track construction inventory like supplies, parts, tools, equipment, and anything else that matters to your construction business. It comes equipped with smart features like barcoding & QR coding, low stock alerts, customizable folders, data-rich reporting, and much more. Best of all, you can update inventory right from your smartphone, whether you’re on the job, in the warehouse, or on the go.
Whether you’re just getting started with inventory management or you’re an expert looking for a more efficient solution, we can transform how your company manages inventory—so you can focus on building your business. That’s why over 15,000 businesses globally trust us as their inventory management solution.
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