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Incentives and Disincentives
Use of incentive contracts
A properly structured supply contracts have proved to be indispensable to successful procurement. By putting in shape the responsibilities as well as promises, contracts are believed to safeguard each and every entity in a procurement undertaking in opposition to the risk of unanticipated changes in the prospect behavior of business associates, thereby paving way to secured as well as efficiently arrangement, invest, along with produce in decentralized supply chains. The main purpose of a contract is to ensure that a buyer receives the preferred service / good when and how it is needed, as stated or promised by his/her supplier; and that the supplier's investment precise to a particular procurement will not be violated, in the logic that the buyer will without no doubt buy exactly what she ordered under the contracted terms.
It is clear that contracts exist in different types as well as incredibly number of dimensions in which apparently related contracts vary and this has always complicated issues to the buyers when it comes to choosing the right contract. It has been proved that a wrong choice of contract brings about savior consequences to the buyer in relation to cost as well as quality of supply. Nonetheless, economists as well as practitioners would in a way or the other settle on considering contract flexibility, the incentives for excellence as well as cost management, along with the allotment of procurement risk as the very significant dimensions influencing the manner in which the buyer choices the procurement contract (Kranton, K. 2003). The outstanding aspect of cost-reimbursement contracts (CRCs) is that the client is bound to refund every part of costs of production associated to the project as well as payment of supervision, (cost-plus-fixed-fee contract in relation to the FARs). Therefore the contractor has less worries in terms of the probable discrepancies involving estimated as well as definite production costs, hence any overrun costs will be defiantly taken care of. On the other hand, it is clear that CRCs bares the limitation in the sense that it does not provide the contractor with incentives to impose cost-reducing activities for the purpose of reducing the cost.
Though, in the event that the contractor's actions in cost-limiting activities bares no bite for the reason that, lets articulate, unpredictable proceedings negatively interferes with the completion of the project, it becomes hard to hold the contractor responsible for discrepancies linking estimated as well as actual production costs. A number of scholars who have handled the subject of incentives tend to concur with the fact that delivery incentives are best considered as effective motivators. It is also proper to point out the wide-ranging misunderstanding that delivery incentives validity applies only when timely completion is significant. Even when this does not prove to be essential for the client, Parker and Belden (1972) point out on the danger that exists, that the contractor may use the schedule as a trade-off for a lucrative performance or cost incentives.
As far as procurement market in terms of standardized goods as well as service is concerned, it is possible to measure parameters of excellence at some cost. The moment excellence is verifiable, it is therefore suitable to stipulate an excellence standard in that particular contract, and then it is proper to inflict a penalty whenever excellence goes below the stipulated standard and probably bonuses whenever excellence goes beyond the stipulated standard (Kelman, S. 1990). The penalties inflicted are supposed to be in such a way that the contractor is to supply the quality assured at the selection period instead of going against the contract in the name of saving money. In view of the fact that suppliers do poses dissimilar costs of dropping the stipulated quality and it is also probable that the buyer may not be in a position of noticing these costs, this makes it complex for the buyer come up with the level of penalty that provokes the contractor to provide quality.
On the other hand, procurement markets for non-standardized goods as well as services seem to bear dimensions of the exchange that has proved to be inexplicitly considered in the contract however much clear the contacting parties my see them. This emerges for the reason that these dimensions are unverifiable by third parties like courts of law. Further, the excellence of the goods/service contracted frequently consists of some dimensions that cannot be verifiable. According to Iossa and Legros, (2004), it is proper to point…[continue]
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