In the construction industry, profit margins are often determined not only during the bidding phase, but primarily when cost estimates collide with the realities of project execution. Fluctuations in material prices, wage pressures, variations in subcontractor availability, administrative delays, and changes to the scope of work mean that even a well-prepared project can quickly enter a zone of heightened contractual risk. Under such conditions, the key question is not whether the risk will materialize, but how it has been allocated among the parties.

Therefore, the choice of a collaboration model should not be viewed solely as a formal or procurement issue. It is a strategic decision that affects cost predictability, implementation speed, the quality of change management, and the parties’ ability to respond to market disruptions. In practice, the most successful contractual arrangements are those that combine a clear division of responsibilities with mechanisms for price adjustments, scope control, and rapid dispute resolution.

Why has contractual risk in the construction industry returned to the spotlight?

Just a few years ago, many projects were based on the assumption that the market could be described in terms of relatively stable cost parameters. Today, this approach is increasingly proving insufficient. The construction industry operates in an environment where volatility affects raw material prices, energy costs, financing, and the availability of contractors all at the same time.

As a result, traditional contracts with a fixed-price structure become more prone to disputes, claims, and liquidity pressures. The longer the project timeline and the greater the complexity of the project, the more important it becomes to tailor the collaboration model to the actual risk profile.

Investor expectations also play a role. Increasingly, the focus is not only on the lowest initial price, but also on greater predictability of the final investment cost, continuity of execution, and minimizing the risk of work interruptions. From the client’s perspective, an ill-chosen contract model can generate indirect costs that exceed the initial savings offered in the bid.

Which sources of cost volatility have the greatest impact on construction contracts?

Is it just about the cost of materials?

No. Material prices are one of the most visible factors, but not the only one. The outcome of a contract is also influenced by labor costs, financing costs, supply chain logistics, equipment availability, and fluctuations in delivery schedules on the part of the parties involved in the investment process.

In addition, cost risk is exacerbated by design changes, an imprecise description of the subject matter of the contract, and discrepancies in the interpretation of the documentation. In practice, this means that even with moderate inflationary pressure, a contract may become unprofitable if no provisions have been made for indexation and change management.

What are the most common risks on the implementation side?

The risks most commonly observed are those associated with the execution phase, since that is where design decisions, resource availability, and responsibility for meeting deadlines all converge. It is important to consider them collectively, rather than in isolation from one another.

• underestimating the scope of work at the bidding stage,
• changes in the prices of materials and subcontractor services,
• an extension of the completion time due to administrative or technical reasons,
• staff shortages and wage pressure,
• indexation mechanisms that are not precise enough,
• Disputes regarding additional and substitute work.

When analyzing the construction market, it becomes increasingly clear that a contract’s resilience depends not only on the price itself, but also on the quality of the provisions specifying how the parties will respond to deviations from the baseline assumptions.

Which contract models are most commonly used, and how do they differ?

Does the flat-rate model still have an advantage?

The lump-sum model remains popular because it gives the investor a sense of control over the budget from the outset. In a stable market and with well-prepared documentation, it can work effectively. Its strengths lie in the simplicity of the billing process and the reduction of uncertainty on the part of the client.

The problem arises when the project is not fully developed or when the cost environment changes rapidly. In such a situation, a lump-sum contract shifts a significant portion of the risk to the contractor. This, in turn, can lead to an aggressive claims strategy, a decline in the quality of work, or difficulties in maintaining liquidity.

This model works best when the scope is precisely defined, the timeline is realistic, and the scale of design changes is limited. The fewer the unknowns, the more effective the fixed-price contract is.

When is it better to use cost-based or quantity-based compensation?

Cost estimation and quantity survey models are more flexible in the face of changes to the scope of work, as they allow for billing based on the work actually performed. This provides greater resilience to unforeseen quantity variations and errors in the initial estimate.

From the contractor’s perspective, this means a lower risk of entering into a contract with a hidden loss. From the investor’s perspective, however, it means a need for stricter control over costs, the quality of the bill of quantities, and ongoing supervision. Without these elements, the model may increase uncertainty regarding the project’s final value.

In environments with high cost volatility, solutions of this type tend to be more stable than a lump-sum contract, provided that the parties agree on transparent rules for the classification of work, indexation, and the approval of changes.

How should we evaluate the “design and build” model?

The “design-build” model is often seen as a way to streamline the investment process and minimize the risk of fragmented accountability. A single entity is responsible for both design and construction, which can potentially improve coordination and reduce the number of disputes between the designer and the contractor.

However, this model’s resilience to cost volatility depends on the quality of the description of the investor’s needs and on the maturity of the functional specifications. If the requirements are not sufficiently precise, the risk of changes resurfaces in the form of disputes over the standard, scope, or interpretation of the expected parameters.

This model copes well with a changing environment when, from the outset, it includes clear procedures for approving solutions, adjusting for inflation, and settling changes initiated by the contracting authority.

What contractual mechanisms best protect the parties from cost spikes?

Is the adjustment enough?

Indexation is one of the most important tools, but it does not, in and of itself, solve all problems. Its effectiveness depends on whether the mechanism is appropriate for the contract’s cost structure, the frequency of updates, and the actual sources of volatility.

A poorly designed cost adjustment mechanism may appear to work. If it covers too narrow a basket of costs, sets too low a limit for adjustments, or is triggered with a significant delay, it fails to safeguard the contractor’s liquidity and does not reduce the risk of conflict.

Therefore, the best results are achieved through provisions that combine cost escalation with early-warning procedures, the requirement to document cost changes, and regular reviews of the schedule and budget.

What provisions should be included in the contract?

A good contract does not eliminate uncertainty, but it establishes rules for managing it. In practice, solutions that allow for a quick and predictable response—before a problem escalates into a formal dispute—are particularly useful.

• a clear definition of the events that trigger a change in price or deadline,
• the procedure for filing claims and response deadlines,
• an indexation mechanism based on agreed-upon indicators or indices,
• rules for billing additional and substitute work,
• the obligation to report risks and schedule deviations on an ongoing basis,
• an alternative dispute resolution process before proceeding to court.

It is precisely at this stage that industry experience and knowledge of market practices are most important. PMR Market Experts publishes regular industry reports that help assess trends in the construction sector and better align contractual decisions with market realities.

Which collaboration models are best suited to handle cost volatility?

There is no single model that works for all investments. The most resilient models are typically those that distribute risk in proportion to the parties’ influence on specific areas and allow for a reasonable adjustment of economic terms. This means that a well-structured cost-plus contract can be safer than a poorly designed lump-sum contract, and the “design-build” model can work effectively only when the investment is prepared to a high standard.

The best results are achieved by hybrid models or those supplemented with precise adjustment clauses. These are solutions that maintain budgetary discipline without ignoring market volatility. This is particularly important for long-term contracts that are implemented in phases or depend on administrative decisions.

An assessment of a model’s resilience should address at least three questions: whether the scope can be clearly defined at the outset, whether price risk can be objectively measured, and whether the parties have the operational capacity to manage change on an ongoing basis. Without answers to these questions, the choice of a cooperation model becomes an intuitive decision rather than a strategic one.

How can you prepare to choose a contract model?

What market data is really needed?

The choice of a collaboration model should be based on data, not merely on the parties’ preferences. An analysis is needed of cost dynamics, the structure of the supply chain, practices in a given construction segment, and the actual availability of contractors and subcontractors.

In Polish analyses, studies conducted by, among others, specialized analytical centers and research firms can be helpful. This approach is complemented by sector-specific market forecasts, which make it possible to assess whether the observed cost pressure is temporary or more structural in nature.

What steps should be taken before the bidding process begins?

Most risks can be mitigated before signing a contract. The preparatory phase is usually less expensive than managing a dispute later on. That is why documentation audits, market testing, and a scenario-based approach to risk allocation are becoming increasingly important.

1. verify the completeness of the project documentation and the scope of work,
2. determine which cost items are most susceptible to fluctuations,
3. determine which risks the investor can control and which the contractor can control,
4. plan an indexation mechanism appropriate to the implementation horizon,
5. Develop a procedure for approving changes and additional work.

In more complex projects, it is also advisable to seek expert guidance early on regarding contract structure, market analysis, and procurement strategy. This approach enhances predictability even before the procurement process begins.

Key Findings

The best model for collaboration in the construction industry is not the one that nominally shifts as much risk as possible to one party, but the one that maintains the project’s feasibility despite cost volatility. In a climate of heightened uncertainty, the following factors are particularly important: the quality of project preparation, transparency in the allocation of responsibilities, and effective adaptation mechanisms.

When choosing a contract model, it’s worth keeping a few guidelines in mind:

• A flat rate works best in a stable environment and within a precise range,
• A cost estimate or bill of quantities model offers greater flexibility when the scope is uncertain,
• "Design and Build" limits the diffusion of responsibility, but requires a clear definition of needs,
• Indexation is important, but it should be part of a broader change management system,
• The decision regarding the contract model should be based on an analysis of the market, cost scenarios, and the investment profile.

If you need to assess which contract model will best protect your project against cost volatility and how to translate market data into practical contractual provisions, it’s worth seeking consulting support. To minimize the risk of disputes and better prepare the investment for the realities of the construction market, it is advisable to consult with experts.

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Hume’s Institute stands for knowledge. PMR Market Experts stands for experience. When we join forces, you gain a competitive edge. See how we can support your business.

Hume’s Institute stands for knowledge. PMR Market Experts stands for experience. When we join forces, you gain a competitive edge. See how we can support your business.

Dariusz Śmiejkowski

Chief Executive Officer