Claims Management – responsibility of Purchasers? Or maybe not?
2020-01-10. Does claims management belong in a plant operator's purchasing division?
Claims management is a complex management discipline used to correctly handle the consequences of deviations, changes and impairment of performance in industrial CAPEX projects. It serves to cope with intended and unintended changes to the services in accordance with the contract within the project. The incorporation of intentional changes to the subject of the contract into the project in a process-optimised and cost-effective manner when the contracting parties gain additional knowledge during the course of the project is the responsibility of contract & claims management, as is the anticipatory identification of any impending consequences for the project and the prevention of such consequences. This goes hand in hand with the contractual anchoring of suitable compensation regulations for impairment of performance without fault. The linguistic clarification of contractual terms such as "acceptance procedure", "consequential damage exclusion", "extension of time for completion " etc. pp. are of course the original responsibility of contract & (preventive) claims management, right?
Both contracting parties in an investment project - the client and the contractor - must take the above-mentioned regulations regarding the definition and handling of the subject of the contract into consideration from the initiation of the project until the acceptance of the system within the project. They need to do this in order to jointly implement the system in an optimised way, both in terms of cost and construction time. So far so good.
"Are you a contract & claims manager? Or a lawyer?! No? But surely a purchaser?"
Small talk starts this way if a contract & claims manager loses explanatory words about their day-to-day work in projects and their efforts to deal with the consequences of ambiguities in the project contract as well as minor and major disasters within the project.
The terms "contract" and "claim" are sure to cause the other person in the conversation to assume that the contract & claims manager must have legal training in order to be successful in his or her field of work. But even if the other person is not a lawyer, they must surely be a purchaser? Because purchasers arrange the contracts with contractors, right?
These assumptions are as one-dimensional as they are false. A purchaser needs a technical understanding of systems and their components, as well as a commercial understanding of, for example, payment protection instruments, consequential loss regulations, cash flow curves, etc. pp. in the project agreement in order to be able to procure these technical systems on the supplier market with minimal risks.
Last but not least, the project purchaser also needs legal knowledge, for example, to be able to design clauses for contractual penalties in the event of delays in construction by the contractor. And the points above are just a few examples of subject areas where the project purchaser needs to be an expert. But the main thing is that they are an expert when it comes to purchasing!
The purchaser needs to be able to trust providers of value-intensive goods in order to acquire these types of capital goods. If nothing else, a purchaser buying a complex system from a supplier needs to ask themselves: "Can they do this?", "Will they finish on time?" and "What do I need to do to secure my purchase?". Trust is required in the same way as when these goods are acquired by a system operator from the system installer. In contrast, the selling plant manufacturer asks "Will I be paid on time?", "Did the purchasing system operator hide loopholes in the project agreement that will have an impact on the results of the project for me later?"
Ultimately, it is important for both parties in the project to have a sense of security with regards to their involvement in the project. Security that can only supposedly be obtained, for example by exchanging a down payment bond for 10% of the contract amount. Trust in the other contractual partner is required in order to be able to make the right decisions regarding the company’s own approach in the project.
The right instrument, but in the wrong hands.
The quality of purchasing activities demonstrated by the client of an industrial plant when purchasing the plant has a significant influence on the capital expenditure (CAPEX) of the plant, but also on the later expenses for the operation of the plant (OPEX). In addition to the "hard" qualifications that a purchaser should have, i.e. their acquired specialist knowledge, the purchaser must also have "soft" qualifications, such as working cooperatively, a feeling for people’s reactions in negotiation situations and, last but not least, a sense of the right strategic approach during the purchasing process. The basis of all of their work in the purchasing process should form the basis of trust for the contractors and suppliers involved in the design, construction and commissioning of the system.
The activities associated with claims management, which are required to correctly handle impairment of performance during the course of the project, however, can disrupt the maintenance of this basis of trust. In short: The remedy doesn't fit the purpose. If the purchaser applies the means and methods of claims management in his role as purchaser when dealing with a contractor involved in the project, this will result in a conflict of roles. The conflict of roles results from the extreme contrast between the objectives of the role of the purchaser and that of the claims manager.
To put it bluntly, the purchaser is extremely optimistic when talking with the plant manufacturer: "We will pay you a princely price for the system which you are going to build for us with excellent technology within a reasonable period of time." The claims manager, however, has a very different attitude when dealing with the plant manufacturer: "We wanted to pay you a princely sum, but the plant your company has built is very defective and it took too long to set it up. We therefore demand that you pay a contractual penalty!" These two statements made by the purchaser, if they are also the claims manager, contradict one another.
The role conflict of the purchaser in the project.
Admittedly, this example is greatly exaggerated, but the conflict of roles experienced by a purchaser who is also supposed to be the claims manager in a purchasing project is very striking in this example, although this does not of course occur in reality. Why is this a conflict of roles and objectives in the first place?
Simply because the purchaser’s objective is to efficiently buy high-priced capital goods in a cost-optimised way with deadlines which are as tight as possible. However, the purchaser’s claims manager is responsible for asserting their company’s knowledge of the project and the imponderables of reality and its consequences for the project when dealing with the plant manufacturer with the aim of optimising costs. However, this approach disrupts the relationship between the purchaser's purchasing organisation and the seller's sales organisation. The consequences are obvious. In the future, the seller will probably tend to make higher bids to these plant operators than in the past in order to curb the dreaded "claims management activities" of the purchaser for the benefit of their own profits. This is all due to the fact that the role of the plant operator’s purchaser was extended to include claims management, which in turn had an impact on the relationship with the contractor's sales department.
Is this just a role conflict or also an issue of qualifications and timing?
Contract & claims management are disciplines that ideally build on the stable foundation of smooth project management. Methods in contract & claims management aim to guarantee the project management objective, namely the achievement of the project's budget, deadline and quality objectives.
However, as a project is continuously exposed to the fluctuating framework conditions of everyday life, contract & claims management must also be performed within the project in order to compensate for the consequences of these fluctuations for the contracting parties in the project. Contractors' change order requests must be checked; contractors submit claims for the extension of the construction period to the plant purchaser, which need to be assessed with regard to the reason and the amount. There is also a daily flow of incoming and outgoing contractual correspondence, which needs to be checked and managed in order to use the contract & claims management project funds in a way that has a positive effect on the company.
A further important aspect is that contract & claims management requires extensive specialist knowledge, which is not congruent with the specialist knowledge acquired by a purchaser during their training and professional practice. If contract & claims management involves accompanying activities as a subset of project management, it should also be considered how these can be accommodated into the working day of a project purchaser in a timely manner.
Claims management is more than writing complaints.
Assuming that the claims manager in the project has a service function with the project, they could also be regarded as a "sub-project manager for deviations, changes and impairment of performance". As a service provider in the project for the project manager, it is the claims manager's responsibility to make a significant contribution to ensuring that the consequences of these "deviations, changes and impairment of performance" are mitigated for the project. They act as the "right hand" of the project manager, the project manager's adviser and sparring partner for problems in the project, a negotiation expert, a "strongman". A troubleshooter.
This clearly sets the claims manager apart from the role of the purchaser, whose synonymous function would actually be "sub-project manager procurement of external materials and services". They also perform a service function for the project, namely the cost-optimised preparatory purchase of goods and services for the project rather than ongoing procurement during the project until the end of the defect notification period. At time X, the purchaser is "out of the project", simply because they need to start preparations for the next project and ensure it can be realised in time. Nevertheless, it is necessary for these two "sub-project managers" to coordinate the procedure with the respective external partner companies in the project. They remain at liberty to do so.
Conclusion: Cobbler, stick to your lasts.
Claims management on the part of operators (and therefore purchasers) of industrial plants should not be allocated to purchasing in order to avoid conflicting roles and capacity problems in relation to the procurement and steering of investment projects. Even if seasoned purchasers consider themselves to be "very savvy" and usually know how to report a deficiency to a defaulting contractor, claims management is much more than just writing "angry letters". If the purchaser of an industrial plant makes a complaint, this can disrupt the purchasing relationship with the seller of the plant, but this can be avoided. The key is to separate the duties between purchasing and claims management.
Conclusion: If the project is large enough for a full-time claims manager to be profitably employed by the plant operator, the claims manager should be a different employee than the purchaser. Large enough means a total project investment greater than or equal to €100 million. If the company has up to 10 smaller projects and these also total or exceed the threshold of €50 million in capital expenditure, this full-time claims manager is worthwhile.
If the project investment costs and/or the number of projects are lower than these amounts, the claims management tasks should be performed by the project manager. However, this should be decided on a case-by-case basis. The thresholds are fluid. But whatever you do, don't make the purchaser a claims manager. It won't work.