Split percentages, caps and carve outs in shared savings

Owners tend to remember one number from the savings clause: the split. Seventy five to twenty five, or sixty to forty, or fifty fifty. That number matters. It is also the least complicated part of the clause. The cap and the carve outs, which most owners skim, often decide more of the outcome than the split does.

The split

The split is the proportion of the savings each party receives. There is no standard. Public owners often keep most or all of it. Private owners negotiating with a contractor they want to retain may offer more. The contractor's argument for a larger share is that it drives better buyout. The owner's argument for a smaller one is that the owner paid for the contingency and allowances that end up forming the pool.

Some contracts use a tiered split, with the contractor's share rising or falling as the savings grow. A tier that gives the contractor a larger share of savings above a threshold rewards exceptional performance. A tier that does the opposite limits the owner's exposure on a project where the GMP was set generously. Read the tiers carefully, because they change the arithmetic.

The cap

A cap limits the contractor's share to a fixed dollar amount or a percentage of the GMP. Its purpose is to prevent a large payout on a project where the savings came from a conservative estimate rather than from good management. A contractor that sets a GMP with wide margins and then shares in the savings has been paid twice for the same caution. The cap is the owner's answer to that.

Consider a fictional $80 million performing arts center with a 70 to 30 split and a cap on the contractor's share of 1 percent of the GMP, or $800,000. If the pool is $1.5 million, the contractor's 30 percent would be $450,000, under the cap, so the split applies. If the pool is $4 million, the contractor's 30 percent would be $1.2 million, so the cap cuts it to $800,000 and the owner keeps $3.2 million. The cap changed the outcome by $400,000 and the split did not.

The carve outs

A carve out is a category of savings that does not enter the pool. The most common are unused owner contingency, which belongs entirely to the owner under almost every contract, and allowance reductions, which some contracts return to the owner in full by reducing the GMP before the pool is computed. Others include savings from owner directed deductive changes, savings from value engineering the owner proposed, and savings on scope the owner removed.

Each carve out shrinks the pool and therefore the contractor's share. Owners sometimes forget to apply them at closeout, because the contractor's savings calculation starts from the gross gap. The owner's calculation should start from the gap, subtract each carve out, and only then apply the split. Check your contract for the full list, because carve outs are often scattered across several clauses rather than listed in one place.

The contingency question

The largest carve out dispute is usually over contractor contingency. Some contracts treat unused contractor contingency as savings shared under the split. Others return it entirely to the owner, on the theory that it was the owner's money held for the contractor's use. Others let the contractor keep a share of it outside the pool. Under most AIA A133 based agreements the treatment is whatever the parties wrote in, so there is no default to rely on.

Why the owner should model all three

A projection of the savings pool that applies only the split will be wrong whenever the cap binds or a carve out applies. The owner's ledger should hold the split, the cap and each carve out as rules, and apply them to the projected pool every month. That way the board sees the contractor's likely share, not a gross figure that will be revised at closeout.

Costwitness stores the split, tiers, cap and carve outs as contract terms on the project and applies them to the projected pool in the monthly report. The software follows the rules as entered. Reading the contract and entering them correctly is a task for the owner or its counsel.

In the product

Shared savings, GMP baseline, Contingency ledger. Free tool: Shared Savings Calculator, Change Order Exposure.

Keep reading

Earlier: The sensitivity table: what the pool becomes if open items land either way. Later: The shared savings clause: how it works and what it pays. All articles on buyout and shared savings.