Cards on the table

For each open book project it takes on for office fit-outs, general contractor Tétris Polska holds around 10 to 15 tenders for subcontractor services. These small tenders (packages) are for individual stages of the work: the construction, electrical installations, the furnishing, etc. Importantly, the investors for whom the office is prepared have total access to the contracts and bookkeeping documents related to the process, and they even have an influence on how it is conducted. “This is probably the most transparent investment process around. The investor not only knows what the final cost consists of but also has a word to say about the choice of contractors,” explains Rajmund Węgrzynek, the managing director of Tétris Polska.

Remedy for disputes

“Open book is a formula that has worked well globally,” claims Piotr Kunicki, a senior associate of law firm K&L Gates. He cites as an example the renovation of a number of stations on the London Underground: Victoria is currently being redeveloped and modernised using the open book formula in an investment of app. PLN 1.5 bln and Bank station for PLN 2.8 bln. “Many projects have also been carried out using this formula in the United States,” he says. However, such examples do not abound on the Polish market. There have been no precedents in public contracts carried out under the public procurement law, which would give ordering parties more confidence about the format. “The open book formula is likely to emerge in public contracts when EU infrastructural funds run out. At present, ordering parties do not want to take such risks, as they are afraid of losing the financing. The ordering parties would have to understand the open book structure first and then they would have to explain it to the controlling bodies,” explains Piotr Kunicki about the lack of progress in this field.

However, the drawbacks to the much more common lump sum approach are clear. This formula is partly responsible for the many still unsolved contractor claims against the General Directorate of National Roads and Motorways (GDDKiA). Under this model, the contractor receives a lump sum stipulated in the contract for its work. What this amount breaks down into is usually the contractor’s own secret – it includes the costs and hidden margins. These can be bigger or smaller, subject to whether the contractor manages to optimise the costs in the course of the contract’s implementation (e.g. by replacing exchanging materials with cheaper ones). The contractor will usually try to increase the sum of the contract by claiming that some of the investor’s expectations were not precise enough in the contract. Any changes the investor desires are more difficult. “The contractor will perhaps have already assumed the use of cheaper materials and can see the potential for increasing its profit from the work. It will probably not want to give in to the ordering party,” explains Piotr Kunicki.

The open book formula seems to position these relationships completely differently. “It is such a transparent process that there is hardly any leeway for claims,” remarks Ferdinand Baggeroer, the head of engineering firm CMT. The contractor whose margin has been set upfront and whose costs are reimbursed can focus more on cooperation with the ordering party rather than looking for profit. “This contract puts both parties into one team, whereas the lump sum approach sets them in opposition to each other,” believes Piotr Kunicki.

Risk on the investor’s side

Open book distributes the risk differently to the lump sum model. “Using this formula there is a greater risk for the investor that the initial costs of the project will be exceeded,” believes Artur Dziubak, the business development manager at Hill International. “It is very difficult to hold a competitive tender in an open book situation with a few different contractors. You usually first have to select a contractor and this is not a competitive environment. Therefore, it is not the best approach to achieve the most competitive price,” says Senan Corbett, a senior cost manager in the project management and consultancy team at Cushman & Wakefield in Poland. On the other hand, British examples of public contracts show that tenders using this formula are in fact possible.

Is it possible to limit the investor’s risk related to the budget? Yes, it is. “When the contractor guarantees a maximum price, an open book project becomes more similar to a lump sum project. It could be said that a hybrid of the two systems is formed. Because the guaranteed maximum price also forces the contractor to care about the project’s budget,” explains Artur Dziubak. The contractor guarantees that if the budget is exceeded, it will cover the additional costs itself. This is often accompanied by a provision regarding the division of savings resulting from cost optimisation between the investor and the contractor. The parties can, for example, agree that the savings are split 50/50 or in some other proportion. But how are these budgets estimated? “It is quite simple. Prices are no secret for experienced contractors,” says Rajmund Węgrzynek. Estimates are based on documents and guidelines submitted by the investor. In an ideal situation a detailed design is the basis for the estimate, but the parties often do not have one at this stage. In this case it is necessary to make do with less detailed guidelines, such as a functional and useable or spatial programme, a workplace report, or other documents and indications presented by the client. A field inspection of other offices is also useful, provided that they can constitute a point of reference. The more precise the indication, the less the risk of future disagreements. It could, for example, turn out that the contractor has included Plexiglass rather than regular glass windows in their order cost estimates, which the ordering party had not even considered. “It is important to spend a sufficient amount of time on the first cost estimate in order to consider everything important, including the quality of the materials, in order to avoid future surprises,” points out Joanna Gajewska-Sokołowska, the operations director at JLL’s EMEA Center of Excellence.

Ferdinand Baggeroer believes that the key to securing an investor’s interest is drawing up a design that guarantees that it gets what it wants. “If I was the investor, I would not start an open book project without a design,” says the head of CMT. However, lack of time is an issue in a lot of investment processes. “Of course, it would be better and more peaceful for everybody if there were no such gaps. However, in practice it is different. Clients are often under time pressure because the decision to open a new office has been made too late. It often occurs, not only in open book contracts but also in the case of lump sum contracts, that investors do not have the time to prepare sufficiently detailed documentation. And even if they have the time, they do not want to pay the costs related to the preparation of full documentation,” argues Rajmund Węgrzynek.

To minimise the risks carried by projects, the investor should also have the support of an experienced project manager. “We encourage our clients to find such help. It is additional security and a guarantee that the process will go as planned,” says Paweł Brodzik, the managing director of Tétris Polska.

Transparency and freedom

However, Rajmund Węgrzynek emphasises that the transparency of calculations given by the open book formula is a form of security for the investor. “The client is sure that they will not overpay because all the offers, i.e. the items in the final price, are on the table,” he states. According to Tétris’ calculations, its projects are usually completed below the guaranteed maximum price. It is common knowledge that lump sum contracts quite often finish with the budget have been exceeded due to extensions to the scope of the work. “Open book makes it possible to plan the process in a way that avoids unpleasant surprises – and in a more orderly manner,” claims Paweł Brodzik.

According to Joanna Gajewska-Sokołowska of JLL, the freedom given by open book over the choice of materials and specific solutions during the course of the project are a significant advantage for the investor. “Even if it turns out that contractors have additional requirements for the project and the investor would like to make changes, costs can then be saved from some other part of the initial plan. This option of shifting funds during the course of the project’s implementation means that is unnecessary to obtain additional funds or the consent of the regional or global management of our company,” she says.

Furthermore, thanks to having access to the contractor’s work at each stage and being aware of what has already been contracted and how much it costs, the investor can easily and quickly understand what changes are possible. “You do not have to rely so much on what the general contractor says if you are familiar with and understand the entire process,” says Joanna Gajewska-Sokołowska. She also adds that having this control is one of the factors that has convinced her of the usefulness of open book and claims that: “Now I cannot imagine taking on a project without being able to intervene during its implementation.”

Attachment to lump sum

Why is the open book formula not so popular in this country? Ferdinand Baggeroer believes that it is a formula that assumes some degree of trust between the investor and the contractor from the outset, and that it works well for parties that have had previous good experiences of each other. “The fact that there are few such contracts in Poland is partly down to the short history of the market. Investors from abroad have had a huge impact on the market over the last 25 years. What was their level of trust in local companies when they first came? At the beginning: zero. Thus it seemed natural for them to go for the lump sum model, which in principle shifts the majority of the risk onto the contractor,” explains Jerzy Binkiewicz of CMT. Senan Corbett adds that open book is not an approach contractors are particularly enamoured of: “Personally I think it is not popular because it requires contractors to give clients access to the real costs of construction – the materials, the labour and overhead costs, as well as the profit and risk margins. This is what contractors are usually unwilling to do,” he points out.

Furthermore, under the open book formula general contractors have to disclose the identities of their subcontractors and their actual rates to their investors. Much of this information is from their own workshops, which take years to build. “If you were sure that the company you are cooperating with keeps all such information confidential, the situation would be different. However, you cannot be sure of this, just as you cannot be sure if the client will continue to cooperate on subsequent projects or if they will terminate this as soon as they obtain all the knowledge they need,” says a representative of the industry. There is also the issue of profitability. “In theory, a contactor can expect to make a greater profit margin in a non-open book situation,” suggests Senan Corbett.

Art Servis, which operates in the fit-out sector, is one company that sometimes agrees to contracts using the open book system. “We cooperate with some loyal clients on this basis. We are currently having one contract of this kind,” reveals Janusz Lipiński, the vice-president of Art Servis. He also adds that he is an advocate of the model and would like to have more such contracts. “However, at this time I do not think that the market has matured enough for this and it certainly could not be the basis of our operations,” says Janusz Lipiński. At present Tétris seems to be laying down a challenge to the market by declaring that the time has come to popularise the open book formula. Since the beginning of its operations in Poland in 2015, the company has carried out around 15 projects on an open book basis, including large contracts for Black & Decker (4,300 sqm), Sage (2,300 sqm), MM Conferences (1,100 sqm) and JLL, which is part of the same group (13,700 sqm). “Open book is currently applied in app. 15–20 of our contracts. However, we would like to at least double the proportion,” says Rajmund Węgrzynek.

What is open book?

A contract implemented using the open book formula is (particularly in the US) alternatively known as the ‘cost plus margin’ model. It is based on the parties agreeing upfront on a fixed margin for the contractor and the cost categories that are to be subject to reimbursement. This kind of contract is normally used when the total cost is difficult to estimate and the investor agrees to cover this without having a full knowledge of what it will be.