Unit Price Contracts in Construction

A unit price contract is an agreement where the client pays the contractor for individual portions or “units” of work. 

In construction, a unit price contract is calculated based on the cost of each separate unit of work instead of a fixed fee for the entire project — in contrast to lump sum and GMP contracts. Unit price contracts are often referred to as measurement contracts, measure and pay contracts or remeasurement contracts because payment is based on the measured quantities of the completed work. 

In this article, we’ll explore unit price contracts and their advantages and disadvantages — plus an example of a unit price contract at work.

How Unit Price Contracts Work

A unit price contract is an agreement that divides the work into fixed-cost units that the contractor bills for separately. In essence, a unit price contract establishes a set cost for a specific, repetitive element of a project, which is defined as a "unit."  

In other words, the unit price reflects all costs of performing a predetermined portion of work — like excavating ten cubic yards of soil or laying one mile of a sewer pipe. 

When bidding for a unit price contract, the contractor will do the following:

1. Estimate the cost of materials for the unit of work 
2. Estimate the labor cost, including overhead costs and profit markup, to complete that unit of work
3. Add the material and labor costs together to determine the unit price for that specific and defined portion of work

Unit price contracts are commonly used in construction projects where the duration, scope, or requirements may be incomplete or difficult to estimate or involve repetitive tasks or resources. 

Unit price contracts are usually relatively easy to negotiate due to their straightforward pricing model that calculates the cost of each chunk of work. The contractor provides estimates for the cost of individual units and owners can then compare and negotiate prices for those units.

When to Use Unit Price Contracts

In unit price contracts, the amount the contractor bills reflects the completed work or provided units. Because of this, using a unit price contract is the logical choice for projects in which the ultimate quantity of work is uncertain. This is especially true for projects where the scope or duration is undefined and entails repetitive elements.This approach provides greater adaptability to adjust costs as the project unfolds and actual quantities become apparent. 

Unit Pricing in Other Contract Types

In construction, project owners and contractors may use different contract components to build the right contract for a project, and unit pricing is no exception. Here are a few common ways unit pricing is used in other contract types:

1. Lump Sum Contract with Unit Price for Extras

In a lump sum contract, the contractor agrees to do all of the work for a fixed price. But there can still be unit prices included in the contract for extra work. For example, if there is a potential that more excavation than anticipated may be required, the contract may specify a unit price for any additional excavation beyond the scope included in the lump sum.

2. Cost-Plus Contract with Unit Prices

In a cost-plus contract, the contractor is paid for the actual costs of materials and labor, plus a percentage or fixed fee for overhead and profit. Unit prices might be used in this type of contract to estimate certain portions of the work, or to handle changes or additions to the scope.

3. Time and Materials with Unit Pricing

In a time and materials contract, the contractor is paid for the actual cost of labor and materials. A unit price schedule could be used to determine the price for certain tasks that are repetitive or predictable.

Advantages of Unit Price Contracts

Both project owners and contractors can benefit from unit price contracts. Here are some examples of the advantages of unit pricing:

In summary, a unit price contract can offer advantages for both contractors and owners. Contractors benefit from greater pricing transparency and assurance of payment for work performed, while owners benefit from increased visibility into project costs and the flexibility to adjust the scope of work as needed.

Disadvantages of Unit Price Contracts

While unit price contracts offer many advantages, understanding the drawbacks for both parties involved and how to mitigate them is key to a successful project. Here are a few of the disadvantages of unit price contracts for both owners and contractors:

Overcoming the Challenges of Unit Pricing

There are several potential solutions to mitigate the disadvantages of a unit price contract, including the following:

• Require regular cost tracking and updates: Requiring regular tracking of costs and updates to the project budget can help identify potential cost overruns early on, giving the owner and contractor the opportunity to make necessary adjustments to stay on track.
• Set up document-sharing system: Set up a documentation system for both parties to easily share information including documents regarding work completed, materials used, and labor hours. This helps to minimize potential disagreements and disputes later on, while increasing transparency and promoting a more collaborative relationship between both parties. 
• Include a clause for price adjustments: If a contract extends over a period of several years, including a clause that allows for price adjustments to reflect current market conditions and prices is key for contractor profitability. To prevent misunderstandings or disputes later on, it is crucial for both parties to come to an agreement on the terms and conditions for price adjustments upfront. Furthermore, the contract should explicitly outline the timing and methods for making price adjustments, as well as the procedures for informing the other party about any modifications.

Example of Unit Price Contract

We’ve discussed the ins and outs of unit price contracts. Let’s look at a hypothetical scenario of how these contract types play out in a construction project. 

A government agency approaches PavePro Construction, a contractor specializing in road and highway construction, about a new highway project. For this project, the agency doesn’t clearly understand the exact quantity of materials required or the exact duration. In this case, a unit price contract is the best solution, allowing for greater flexibility. 

The agency decides to use a unit price contract in order to simplify negotiations and quickly start the project. PavePro Construction divides the work into identifiable chunks and then calculates the unit price for each including the quantity of materials used, such as concrete and asphalt, overhead and labor costs as well as adds in their profit markup. The nature of this work is repeatable, involving the same equipment, materials and labor and so the contractor is able to easily calculate the cost per unit or chunk of work. Despite the agency's uncertainty regarding the number of units needed to complete the project, they agree to the PavePro’s unit price, and both parties sign the agreement. 

Under a unit price contract, PavePro Construction is paid based on the actual units of work performed or the quantity of materials used, rather than a fixed or lump-sum price. The client is therefore protected from overpaying for the work done, while PavePro Construction is incentivized to complete the project as efficiently as possible in order to maximize their profit.

During construction, PavePro Construction keeps detailed records of the units of work performed and quantity of materials used and submits invoices to the agency on a regular basis. The invoices, submitted based on the payment terms and schedule dictated in the contract, include a breakdown of the units executed and the corresponding cost. This provides the client with a transparent view of the project's progress as well as cost updates, allowing them to track the project against their budget.

The agency decided to extend the highway by an additional five miles, which was not part of the agreed-upon initial project scope with the contractor. However, under the unit price contract, the agency can easily request the contractor to take on the additional work without the need for renegotiation. The contractor then simply bills for the additional units constructed once completed. 

Once the project is complete, PavePro Construction provides the client with all the necessary documentation, including invoices and receipts, along with a final invoice that outlines the total cost of the project. The client conducts a final inspection and approves payment to PavePro Construction.

Mitigating Risk With Unit Pricing

Overall, a unit price contract offers a balanced approach to risk-sharing for all parties on a project, and mitigates risk in projects where scope, duration or requirements may be unclear.

The contractor takes on the risk of pricing individual units of work, while the owner assumes the risk for the project as a whole, creating a mutually beneficial relationship where both parties share in the risks and rewards of the project.

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