Agile Contracting

Referring to the famous triangle of constraints, agile projects leave scope/requirements flexible. While agile methods provide great flexibility and allow us to manage changing requirements and priorities, this adaptability and scope flexibility can create problems when defining acceptance criteria for contracts or outsourcing works.

There are many ways that agile contracts could be structured. Here is an overview of them:

1. DSDM Contract

The DSDM contract was originally commissioned by the DSDM Consortium and continues to evolve. DSDM contract mainly focus on the concept of “Fit for the business purpose” and also “passing tests rather than matching a specification”. The DSDM contract is mainly in practice in the UK and Europe countries because this type of contract is based on the UK contract law, not the US one.

The DSDM Consortium developed a sample agile contract a number of years ago. It is based on the idea of switching from a traditional waterfall approach (fixed cost and variable time and functionality) to an agile timeboxed approach that fixes time and cost and then varies functionality. Let’s see some of the terms in DSDM contract:

Fit for Business Purpose

In Agreeing the detail of the System to be Developed and the content of Tests and criteria for Acceptance of the products of a Timebox, the following criteria will apply:

• Accomplishment of the entire MUST-HAVEs is a prerequisite for the Acceptance of the System;
• For all items completed and delivered to the User for implementation (whether as part of the MUST-HAVEs or as part of further items within Scope Agreed to be done as part of Development) the criterion for Acceptance is Fitness For Business Purpose.

Any assessment of Fitness For Business Purpose of any part of the System for any purpose associated with the Project (including Acceptance) will have regard only to the following factors: 

• There must be present all features (functional and non-functional) of the MUST-HAVEs current as at the time the assessment of Fitness for Business Purpose is being made; and
• As regards matters other than the MUST-HAVEs, the criterion is that the practical requirements of the User in having that part of the System operational are met, and for this purpose the Parties will have regard only to the use reasonably to be made of the System for its reasonable lifetime.

2. Money for Nothing and Change for Free

Jeff Sutherland introduced the agile contracting called “Money for nothing and change for free”. This type of contract is based on Fixed Price agreement:

“Money for nothing” portion allows customer to terminate the project anytime when they feel there is no longer financial justification for the backlog; customer pays for 20% of remaining contract value.

Paying 20% for the remaining value of contract will cover the risk of service provider’s risk of not fully utilizing the revenue of the contract as well as having additional costs of having an idle team.

“Change for Free” portion means as long as customer is engaged in and work closely with the team, then product owner can prioritize the backlog at the end of each iteration and the change will be free if the total amount of contracted work has not changed. This means that customer can add a new story to the backlog if a lower priority item with the same amount of time and effort to be dropped. If customer fails to work closely with the team, the commercial arrangement of the contract will change to Time & Material.

What can be done to manage the expectations for this type of contract is to mention that the project will cover e.g. 200 medium complexity stories. Thus, the expectations between product owner, stakeholders, and the development team is set clearly upfront that when a new story needs to be added, that should be of medium complexity and a similar one needs to be dropped from the bottom of backlog:

3. Graduated Fixed-Price Contract

In graduated fixed-price contract, both parties agree on schedule and rate variance of the entire project. For example:

In this type of contract, both parties are interested to have early completion of project: Customer pays less and service provider gets higher margin for resources. Both of the parties try to avoid late delivery: Customer pays more and supplier gets less margin. In another words, both parties are sharing same risk and reward in a typical project.

Note: Some references refer to this type of contract as “Target Cost”, which has the same concept (Target Cost Contract: Supplier and customer agree on a final price during project budget estimation and negotiation. If the project finishes early or late, the saving or extra cost would be shared between the two parties: supplier and customer. This is known as the pain or gain mechanism. The mutual savings in the underspend scenario, or the shared contributions in the overspend scenario, are meant to keep the overall cost of the contract down). 

4. Fixed-Price Work Packages

FP work packages broken down the traditional contract (~SOW) into smaller work packages, each with its own fixed price. As project progressed, the service provider is allowed to re-estimate the remaining work packages based on the new information available such as risks, clarify ahead of project challenges, etc. Using this type of contract allows the customer to reprioritize the work packages based on the new costing information and allows the service provider to re-estimate the costs and removing the need of adding unnecessary contingencies to cover the uncertainty ahead of project. If for a specific work package extra funding is needed, it is easy to justify it and asses it from customer point of view. Often, because the risk is localized to such a detailed level, the cost variations are small where a customer can secure the additional funding.

Note: Some references refer to this type of contract as “Incremental Delivery”, which has the same concept (Incremental Delivery Contract: customer can review contracts during the project lifecycle at pre-set points of time. These are the points where customer can make required changes, continue or terminate the project. This basically allows a longer project to be broken up into several distinct mini projects. At each review point, the parties can evaluate performance up to that point and decide whether they wish to modify the arrangement, continue as planned, or terminate altogether. the idea is for the most valuable components of the system to be provided for immediate use and benefit. Then, each subsequent increment will simply add other features and tools, thus continuing to enhance the overall value of the particular product).

5. Capped Time and Materials

Similar to traditional T&M contracts, but this type of contract puts an upper limit on customer’ payment. As a result, supplier gets benefit in case of early time changes. On the other hand, customer needs to pay for the capped cost limit. If the supplier reaches the limit before the work is finished, they have to complete the work at their own cost. If the supplier finishes the work before they said they would, customer only pays them for the time they took to do the work. Obviously, the supplier will want to ensure that it utilizes its time and materials in an efficient manner to keep the overall costs of the contract as low as possible since this will help preserve the longevity of the contracting relationship.