The Sales Pitch: Pricing Complex Projects – Optimizing Data, Scope and Risk

January 29, 2014-

By Reno Koepp

In Part One of my blog series, Pricing Complex Projects – Is It Really All About the Cost?, I discussed the importance of the scope of products and services in complex projects. In most cases, it’s essential to find an optimal entry solution to be considered as a vendor and to progress to a contract negotiation. In this initial phase of discussions, the technical specifications and project models are given, including price. However, the seller always has latitude in the scope definition by determining the use of materials; which software features are absolutely necessary; and how to skillfully size the project team.

Scope Optimization

The first step during offer optimization should be scope optimization, followed by optimization of the cost for the defined scope and finally price optimization. Some best-practice suggestions for scope optimization are listed below:

• Compile a team of experts: Members should span a variety of fields and include various product specialists, service personnel, project managers, logistics, etc. They should work together to put a plan into place to analyze and thoroughly interpret the tender documents. At the end of the day, an agreement between the group should be reached and communicated within the organization. This will avoid miscommunication down the road between expectations of project managers and product managers.
• Provide the most cost-effective solutions:There are always going to be gaps in the tender that leave room for interpretation and negotiation. You should always keep the benefit of the provider in mind and think about the big picture project goals and of course, budget.
  • However, please keep in mind that that the best solution is not always the most cost effective solution. Technical experts tend to include everything in the offer, including what their most superior products can do which is counterproductive. This added value should be used to up-sell opportunities. The tender should be configured to the minimum solution that still meets the project’s requirements.
• Carefully negotiate compliance statements: In many cases, compliance statements should be submitted to ensure the provider agrees with certain requirements and specifications. During customer negotiations, one should remove some of the really critical compliance statements and commit to be compliant on a per se basis. Some statements may prove to be a low priority for the customer, but could cost the supplier hundreds of thousands of dollars.
• Determine your software needs: Make sure to offer only the absolutely necessary application software, including any required, mandatory features.
• Don’t include optional parts prices: There is a risk that these prices are included in the large scope of the project, and therefore are subject to the high “entry discounts,” which are typical for such projects. Since the customer will sooner or later buy these optional parts, they should be kept on a healthy level since they will ensure the “recovery” after the project’s entry phase.
• Consider service-heavy deals: This is about realistic time estimates, and especially the design of resources and appropriate skills. For example, project offices, cars, travel expenses, allowances, tools, etc., should be critically questioned. However, the calculated skills play a major role. If a top German project manager is budgeted for a project in India, you will very quickly find that salary expectations will more than likely differ substantially, making it a challenge to hire your ideal candidate. A local technician should be called upon instead of a foreign engineer. The local on-the-job training and timely replacement of expensive foreign resources is crucial.
• Shop around: Get quotes from different subcontractors and compare. Here, the scope for the entry solution should be clearly communicated to the subcontractors, rather than only forwarding the tender documents.
• Set an optimized rollout strategy: A faster rollout with additional resources is obviously preferable to a slow rollout. Otherwise, the project overhead costs will negatively impact the result.
• Leverage technology: Sophisticated Configure, Price and Quote (CPQ) software, is now widely available to help product and pricing managers configure a scope-optimized product. CPQ software, like that provided by Cameleon Software, in combination with price optimization solutions, is utilized with best-in-class companies.

Risk Analysis and Risk Contingency Budget

Completing a risk analysis is important to complex projects. Not all issues can be dealt with in great detail; however, some proposals for action and considerations in the pricing of complex projects should be made. Here are my suggestions for completing a thorough risk analysis for a complex project:

Step One: Collect and list all possible risks, such as multiple journeys for rework, product risks for new developments, delivery risks, currency fluctuations, project delays, design changes, etc. There are many software tools available to streamline the collection and categorization of this risk data.

Step Two: Assess the monetary impact for the project.

Step Three: Determine the probability of risk occurrence and obtain the final weighted risk.

There are many ways to handle the monetary risk amount in the profitability analysis. Proven methods include the following:

1. The risk-weighted value that exceeds a certain probability, for example 50%, is incorporated directly into the cost calculation, since one can assume that these risks will occur with high probability. Thus, these risks are considered a cost, and no longer a risk.
2. The pricing manager treats the risk contingency budget separately, and calculates the profitability before and after the risk. Depending on the weight of the risks, best-case and worst-case scenarios can be determined.
3. The third option is a combination of method A and B.

Many companies expect a best-case scenario without really accepting the fact that the project cost estimate represents just that, the best-case scenario. To win a contract, managers often try to “nice count” the offer. I’ve participated in a number of offer review meetings, and, in all cases, the last screw to adjust and to optimize is the risk contingency budget.

Pricing and risk optimization in complex projects go hand in hand. Successful companies accept the risks included in complex project offerings, and include the risk contingency into the margin assessment. The margins are represented by the pricing manager for management approval with and without risks. Moreover, risks should be treated separately from a commercial point of view, and also should be shown on the balance sheet. Appropriate provisions must also be set.

Only if the bidding team has reviewed the scope, the project plan for the rollout, and the costs and the risks, should they consider moving ahead to price optimization.

I look forward to sharing my thoughts on the challenges and best practices for pricing managers in my next blog. Stay tuned.