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Memo- Contract Change Order PolicyMemorandum To: Honorable Mayor and Members of the City Council From: Steven J. Stadler, Public Works Director Date: January 10, 1997 Subject: Contract Change Order Policy On occasion, the City Council has raised questions and expressed concerns regarding the timing and/or amount of various change orders that periodically are processed for Council approval. Since change orders aze necessary on virtually all construction contracts and occasionally on professional service contracts, staff felt it would be beneficial to discuss a change order policy for the City. The following report summarizes the issues associated with public contracts and their change orders. TYPES OF CONTRACT There are two basic types of construction contracts that are employed by the City of Hopkins for major capital improvements; LUMP SUM and UNIT PRICE. The Lump Sum type of contract is primarily used for architectural type capital improvements involving structures and buildings (i.e. Moline Treatment Plant Renovation). In these type of contracts, the total contract amount is one base price and progress payments are based on percentage completion of significant specific elements or the contract as a whole. Usually, an itemized breakdown for significant aspects of the contract is requested with the bid proposal documents or subsequent to receipt of bids to be used in processing the pay request. The Unit Price type of contract is primarily used for other municipal type of improvements where the complexity of the building materials is relatively limited to a manageable number of line items where unit quantities (squaze yard, ton, lineal foot, etc.) can be estimated. The contractor then applies a unit price to each line item construction element. Then, through the extension and summation of the unit quantity and related bid price, a total estimated contract amount can be arrived at. Periodic pay requests are then based on field measurement of the quantity of line item elements on a monthly basis. In the Lump Sum contract method, the contract documents reference the specific contract dollar amount. If for any reason this contract amount must change, it requires a formal amendment to the contract documents which usually takes the form of a Change Order. In the Unit Price contract method, the controlling contractual obligation is the unit prices submitted with the bid proposal with the total contract costs being recognized as an estimate to be revised based on fitiat quantities installed. Therefore, the final contract amount could change without impacting the contract documents, thereby eliminating the necessity for any formal Change Orders being processed. However, under this Unit Price type of contract, if a line item construction element needs to be added, deleted and/or revised or the unit price for any particular line item elements needs to be changed, this would constitute an amendment to the formal contract document thereby requiring a formal Change Order to be processed and approved by both contractual parties. Under the guideline of the Uniform Municipal Contracting Law- the City is required to solicit competitive bids for any public expenditure that exceeds $25,000. It also limits to 25% the amount that a City can add to any contract without having to formally resolicit competitive bids for the additional work. This is based on the recognized fact that the vast majority of contracts are subject to some change from the original contract amount through its normal life. REASONS FOR CHANGE ORDERS Depending upon the type of contract method as described above, there aze numerous reasons why a formal amendment or Change Order to the contract becomes necessary during the progression of construction. These aze listed and described as follows: Errors and Omission In Design Due to the complexity or scale of many projects, various numbers of different disciplines (electrical, azchitectural, structural, etc.) and the numerous cross references from one plan sheet to another, the human element becomes a factor in recognizing that there will sometimes be certain errors and omissions that occur during the design phase that aze only discovered once the improvement is being built. Once it is recognized and identified, it becomes evident that it needs to be installed to protect the integrity of the improvement. And, had it been included in the original design, the contractor would have been properly informed and would have taken it into consideration in submitting his bid. Subsequently, a Change Order is processed to provide for this additional cost to be incurred by the contractor through no fault of his own. Unknown Conditions While the City tries to provide the contractor with as much information as possible through soil borings, as-built record plans, etc., there are times when unknown conditions exist and aze not discovered until the plans have been designed, contract awarded and construction initiated. Again, had these unknown conditions been discovered through a more detailed and expensive preconstruction investigation, it would have been included in the design plans, and bid proposal documents. Subsequently, the contractor, if he is made award of those conditions, would have taken that into consideration in submitting his original bid. Subsequently, a Change Order is processed to address the additional work incurred by the contractor to deal with a condition that was unknown to all parties at the time the contract was executed. Field Design Changes When the detailed plans and specifications aze prepared in the office, they take into consideration the best available information on existing conditions. However, plans and specifications are a scaled representation of much larger projects to be constructed in the field. Subsequently, once construction has been initiated, although a particular design may work on paper, it becomes appazent that it cannot physically be constructed in the filed due to a variety of reasons. Some of these reasons could be that conditions changed at the time of construction from when the design was prepazed. Subsequently, a field design is performed which may require a major change in the construction method or scope to protect the integrity of the original project's design and/or intent. Subsequently, this often times requires additional work beyond the scope of the original project which necessitates a formal amendment or Change Order to the original contract document. Change in Scope/Additional Work Many times, it becomes economically feasible and efficient to have the contractor perform additional work beyond the scope of immediate contract because of timing, favorable unit prices, ease of construction coordination, etc. lso, on large dollar volume contracts, the economies of scale theory provides the City with more favorable unit prices than could be obtained through competitive bidding on a much smaller size project that would fall within the 20% discretionary limitations provided to the city. Also, this relieves the city of the timely competitive bid solicitation process thereby allowing it to perform smaller projects on a timely and economical basis through a Change Order process. Lump Sum Contract As defined eazlier, lump sum contracts lack specific unit prices for every individual item that comprises the overall improvement. Subsequently, because the contract document is locked into a specific dollar amount, any variation or deviation for any of the above reasons requires a formal Change Order to the contract lump sum amount. Change In Schedule/Completion Date Every contract document contains a substantial completion date as well as possible interim completion dates or specific phases. Factors such as unusual weather conditions, strikes, material delivery delays, expanded project scope, etc., are all beyond the contractors control and subsequently affected his ability to meet the contractual completion date. As evaluated by the project manager many times and extension or modification to the contractual completion dates are appropriate. However, they must be done through a formal Change Order process to amend the contract documents. CHANGE ORDER PROCESSING Change orders aze prepared at either the request of the Contractor who formally notifies the City of a claim for additional compensation or by the City requesting additional work of the Contractor. In either event, once the discovery or proposal is identified, a detailed description of the additional work is prepazed and a method of payment is identified. This information is then submitted to the Contractor for consideration and cost proposal. The Contractor's response and proposal is then evaluated by the Project Manager to determine if all issues have been identified and if the additional cost is reasonable for the requested work. Many times, the Project Manger will either adjust the cost proposal or request a resubmittal from the Contractor to better reflect a cost that would be reasonable and acceptable to the City. Once this negotiation process is complete, a formal Change Order document is then prepazed and sent to the Contractor for execution. Once it has been agreed to by the Contractor, it is then processed to the City Council for formal approval. Sometimes the contractor must be given immediate approval to perform necessary additional work in order to prevent a costly work shutdown. In these cases, if the change is significant in cost, staffusually consults with the City Manager, informs City Council in the weekly update and processes the change order for formal approval at the next City Council Meeting. PROPOSED CONTRACT CHANGE ORDER POLICY In order to establish a consistent policy for administering contracts, it is desirable to establish procedures for administering contract change orders, cost overruns and final contract acceptance and initiation of contract warranty periods. When the City Council awazds a construction contract, a 5 - 10% contingency item will also be added to the project financing to cover change orders. Staff requests the percentage range as each project differs in its susceptibility to potential change orders, i.e:, some projects are much more straight-forward and more easily and accurately specified. A 5% limit on change orders will be established. No Council action will be required if the total value of contract change orders processed does not exceed 5% of the original contract awazd amount. If construction contract change orders exceed the 5%, council review and approval of each change order will be necessary. When the budget is established for an approved professional services agSeement a 5% contingency will be used. Similar to construction contracts, no council action would be necessary as long as additional engineering services fees were within 5% of the original agreement amount. The following procedure will be used for final approval of a construction project: _ • After the project has been reviewed in the field with the engineer and contractor and all final "punch list" items have been corrected, Public Works Director shall certify to the council that the work has been completed in accordance with the plans and specifications. A recommendation for final payment will also be made. • The council shall consider a resolution which would accept the work and authorize final payment. • The date on which the council adopts this resolution will be used as a date for the city's final acceptance of the project and initiation of the normal one-year contract warranty. • After adoption of the resolution, final payment shall be made to the contractor. An example of applying this proposed policy to the 1'` Street North Improvement project: Engineer's estimate of construction costs: $246,000 5% limit on change orders: $12,300 Engineering Services Fees: $47,4b0 5% limit on additional fees: $2,370 )f City Council agrees with a change order policy, staff will prepaze a new legislative policy for City Council approval at an upcoming council meeting.