What this chapter covers:
In awarding contracts, governments have an important and powerful opportunity to influence forest use and forest management, and to ensure that contract terms are complied with. The use of competitive processes for granting contracts will secure transparency, accountability and economic efficiency, as well as the sustainability of forest resources.
In this chapter, it is argued that the main goal of governments, when granting forest contracts, should be to achieve three things - the highest price for the resources granted, that resources be used for the production of the goods and services most valued by society, and that forest sustainability be secured. It is also argued that the most effective means of achieving this goal is by bringing competition into the process of contract award. The chapter shows how competition contributes to increasing (1) stability of political decisions on contracts, (2) transparency in the administration of public forests, and (3) collection of revenues.
The concept of economic efficiency and the implications of competition on forest contracts are briefly discussed. Four methods of contract award are presented. The first one, the auctions method, due to its appropriateness for bringing competition into the process of contract award, is discussed in detail. The other methods discussed are competitive negotiation, auction-negotiation hybrid allocation, and direct negotiation. Considering the key role that negotiation plays in all the processes of resource use through contracts, the principles of negotiation are discussed in the final section.
The audience for this chapter includes technical experts and government officers involved in the design and awarding of government contracts. The chapter will also be of interest to individuals, environmental and other non-governmental organizations involved in monitoring performance of forest utilization contracts in public forests or contracts for provision of goods and services, or those involved in monitoring government performance in contract administration.
The fundamental goal that must lead governments in contract award is to systematically grant contracts to the most efficient contractors, those that in addition to having the experience and professional ethics are also able to produce the outputs (utilization contracts) or provide services (procurement contracts) at a minor cost. This is known as productive efficiency. Awarding contracts to the more efficient contractors has several important implications for society’s well-being and for the sustainability of forests resources. The most efficient contractor is the one able and willing to pay the highest price for a utilization contract or the one offering services at the lowest cost under procurement contracts. That allows governments (in utilization contracts) to obtain the highest price for the forest resources. Such level of price is normally more in line with society’s expectations that result in a higher stability for contractors’ operations.
Awarding utilization contracts at the highest price, and procurement contracts at lowest cost, results also in a lowering of the rent gain to the contractors. A lower rent gain is an incentive that moves contractors to look for innovations and technologies that bring higher productivity. Therefore, contractors become less prone to using production methods that result in wastage of timber. At the same time, a contractor’s margin for bribery and for inducing public officers into corruption is reduced.
The more efficient contractors are also more able to bear the cost of abiding to the terms of the contract and to absorb the costs derived from using the resources for the production of the goods that are required by society: allocative efficiency. For marketed forest products, this means that timber is used to produce the highest valued products. For example, the production of high-value sawnwood rather than low-value pulpwood, or the production of high added-value goods that result in the generation of a higher number of employment and economic activities. It also means better possibilities of using forest sustainable management practices at the same time that prices are kept competitive at national and international markets.
Additionally, by granting contracts to the most efficient contractors, governments get more financial resources with which to achieve the goal of distributional efficiency. These increased financial resources may be used to compensate the sectors of society negatively affected by the use of forests and for taking care of the less benefited social groups. They may also be used for investing in resource conservation and development programmes.
The achievement of productive, allocative and distributional efficiency is known as economic efficiency. In the following sections, it is argued that competition is an essential condition for achieving economic efficiency, and the methods to introduce competition in the process of contract award are discussed.
The goal of economic efficiency guides a majority of the actions and programmes in the public sector of developed countries and its adoption has been an important factor in the economic progress experienced by many developing countries during the last decades. Its application to forest contracts should bring substantial improvement to compliance with contract terms, and therefore progress towards the sustainable use of forest resources. The question to be answered at this point is through which means can forestry officers better pursue the goal of economic efficiency in contract award? Experience has shown that introducing competition in the process of contract award is one of the most effective ways of achieving the goal of economic efficiency. In addition to promoting the achievement of economic efficiency, competition in the process of contract award has two other major benefits for sustainable forest management:
Reduction of uncertainty regarding the policies and terms of contracts for the use of forest resources. Competitive awarding processes reduce the uncertainty normally associated with the procedures for price determination, selection of contractors and negotiation of contract terms. The direct result is a higher participation of interested parties and the public in the formation of the terms of contract, and an increased political stability in decisions taken. In turn this results in a reduction of the perceived risks and uncertainty among potential contractors.
For forest utilization contracts, less uncertainty means an increase in the value of the contract and in the potential government revenues from the contract and the forest resources. In procurement contracts, less uncertainty reduces the cost of the contract and improves the level and quality of the goods and services provided.
Reduced uncertainty is achieved by the increased information with which prospective contractors are provided under the competitive process of contract award, and by writing contracts with clear unambiguous terms and conditions. This does not mean, for example, that the forest fees in forest utilization contracts, or the payments in contracts for procurement of goods and services, need be fixed. But it does mean that the method for establishing or revising fees or payments must be clearly established in the contract and consistently applied. In competitive auctions, any reduction in uncertainty will raise the bidder’s expected value of the contract and lead to higher bids (Smiley, 1979).
Transparency. The simple fact that competitive processes demand that government actions be developed under explicit procedures, and often with the intervention of controlling authorities, results in substantial improvement of transparency in the governance of the forestry sector. Transparency in the process of awarding forest contracts is important to reduce the potential for bribery and corruption, achieve efficiency in the award process, ensure that the resources are allocated to their most valuable use, and maximize the financial return to the government (World Bank, 1997). Generally, the use of a competitive process for contract award tends to diminish the chances of corruption. If well used it increases the probability of detecting mismanagement and lowers the level of public benefits and bargaining powers of public officers. In countries where those chances might exist, special attention has to be given to reserve prices, selection of bidders and opening of bids, and information distribution. An explicit process and planning ahead also result in less expensive administrative processes.
Governments can bring competition to contract award through various methods. Auction, a public sale in which each bidder offers an increase upon the price offered by the preceding bidder, the article put up being sold to the highest bidder, for valid reasons, is one of the most recommended means of bringing competition into the contract award process.
By creating competition amongst the various contractors interested in a particular contract, governments are in a better position to reap the benefits derived from working under economic efficiency. The various forms of contract award, particularly auctions, their benefits, causes of failures and remedies are discussed below.
Four methods of contract award are discussed in this section: auctions, competitive negotiation, auction-negotiation hybrid allocation, and direct negotiation. They are discussed in turn along with the advantages and disadvantages of each, and the conditions under which each may be appropriate, such as level of competition.
Let us assume a hypothetical and ideal situation in which there is a known surface of forest formed by a single marketed tree specie whose price is known. In this situation, the government’s officers trying to achieve the goal of economic efficiency can call all interested logging firms to participate in a public auction based on timber price. The higher the price paid by the logging firm, the better for society. Hence, the logging firm that bids higher wins the forest contract. This type of auction is the simplest one and is known as first bid public auction.
The general procedure (see details in section 126.96.36.199) that ends up in granting a contract through this auction design is made up of four stages:
First,advertisement announcing the auction. Normally made through official government means of communication, nation-wide and, when necessary, international mass media.
Second,acceptance of participants in the auction or pre-qualification. In order to be accepted, the contractors should have the technical and economic capacity to carry out the actions set out in the contract’s terms and the skills and evidence of accountability as might be required by the government unit organizing the auction.
Third,development of the auction itself. On the day and place established in the advertisement, the auction committee formed by the authorized officers and watchdog authorities meet with the bidders. Bidders bid, for example on first bid auction, each bidder offering a price higher than the preceding one.
Fourth,granting the contract. Through a formal act, documented for future legal purposes, the item put up or contract is granted to the highest offer.
But in the real world, government officers rarely find themselves in such ideal situations. There are a number of factors that may cause public auctions to fail or result in non-desirable outputs. The government officers should always be alert to avoid situations in which even through auctions contract award could end up in non-optimal results. Some of the more important causes of auction failures are the possibilities of bidder collusion, chances of government corruption, issues of quality and changing technology, hold up problems, the bidder’s course case, small number of bidders, and the lack of information on the value of the resources being put up. To confront this situation, various auction designs have been developed. Some of the most common types of auctions are described below with a discussion on the situations and rationality that call for their use.
First bid open auctions. The first bid open auction (also called open outcry auction) described in the section above as an example falls under the category of auctions known as open auctions or the open bidding process. In open bid auctions, all bidders are gathered for the auction at the same time and place (or connected electronically). Each bidder knows what his competitors are willing to pay and uses this information to make or not his own bids. The auction proceeds by bidders signalling bids to an auctioneer who calls the next bid level, until only the highest bidder remains. The highest bid wins the forest utilization contract, or the lowest bid the procurement contract.
Several different methods of bidding are possible. Ascending bid or descending bid auctions are the most common. In ascending bid auctions for forest utilization contracts, bidding starts from a minimum, or reserve, price set by the government. It may be set higher through use of an appraised price for the timber and the contract. Bidding moves up from the minimum price until no bidder is willing to bid higher than the last bid price. The forest utilization contract is awarded to the highest bidder.
Descending bid, also called Dutch auction (Milgrom, 1989), for forest utilization contracts starts from a ceiling price, set above the estimated maximum willingness-to-pay of any bidder. The auctioneer then moves the price down in increments until a bid is made. The auctioneer will not go below a minimum reserve price (set as described above), which is not known to the bidders.
Open bid auctions are one of the auctions designed and used for awarding forest utilization contracts. They are not normally used in awarding procurement contracts.
Open bid auctions are appropriate where it is easy to gather bidders in one place and where there will be a reasonable number of them to minimize collusion. Open auctions are particularly useful where several forest contracts are auctioned at the same time with a large number of bidders gathered. In open bidding auctions, if there are few bidders, collusion among them will be relatively easy, as they can meet beforehand and organize collusive bidding strategies, or watch each other during bidding (Crampes and Estache, 1997).
Klein (1998) noted “They are also convenient when part of the bidders do not have good information about the value of the concession. Open bidding gives them some better information because it reveals what others are willing to bid. If pessimistic bidders see that everybody is still bidding when they are thinking of quitting, they might continue to bid. And if bidders see that most others have started to drop out, they would revise their valuation downward”.
When dealing with technically complicated matters, open auctions set a stage in which technical proposals are first made comparable and then the bidding starts in a second stage, normally bidding based on one major core parameter, like commercial timber, or a price per hectare.
Open bid auction drawbacks. This type of auction does not reveal what the winning bidder might have been willing to pay (first bidding price design), because bidding stops when the winner offers just a little more than the second-highest price, but nobody sees how much more could have been obtained. The second bid open auction was designed with the intention of avoiding this inefficiency.
Standard sealed auctions. In sealed bid auctions, interested private or independent contractors prepare their offers. Bids are submitted in writing and opened after the deadline for submission. Bidders will not know how much other bidders have offered unless there is collusion among them. The one who bids the highest price wins the contract.
Vickrey auctions. A variation of the standard sealed bid is the second bid open auction known also as Vickrey (Vickrey William, Counter speculation, auctions, and competitive sealed tenders, Journal of Finance, March 1961, 16: 8-37). It is argued that in many sealed bid auctions, as well as in open bid/first bid auctions, bidders may offer less than the maximum amount they would be willing to pay for the resource being tendered. Under the Vickrey, or “second price” auction, this problem is addressed by awarding the resource to the highest bidder, but at the second-highest price. “The successful bidder pays the second-highest bid. In second-price auctions bidders bid what they think the contract is worth. They do not need to think about other valuations and can thus focus on valuing their own bid. This ensures that bidders are not inhibited from bidding the amount they would be willing to pay for the resource, because if they win they will pay less than that amount” (Klein, 1998). Ausubel and Cramton (1998) have demonstrated that Vickrey auctions result in higher bids than standard sealed bid auctions where subsequent transfer of the asset (contract) is possible, but not necessarily if transfer is not possible.
If there are few bidders for the concession, it is likely that there may be a large gap between the top two bids under the Vickrey auction, so that using a first-bid system is preferable (Klein,1998).
Sealed bid auctions are used in awarding both forest utilization contracts and procurement contracts. For forest utilization contracts, the contract is awarded to the highest bidder or, in the case of a merit system, to the bidder with the highest point total. For procurement contracts, the contract is awarded to the bidder offering the lowest price or, in the case of a merit system, to the bidder with the highest point total.
In sealed bid auctions, a minimum, or reserve price, is usually established for forest utilization contracts, or a maximum price in the case of procurement contracts. This reserve price may be announced to bidders or kept secret. Secret reserve prices have been found to result in higher bids in timber auctions (Elyakime et al, 1997). This is perhaps because keeping reserve prices secret reduces opportunities for low collusive bids (Klein, 1998).
Several studies have suggested that sealed bid auctions generate a higher price for forest utilization contracts than open bid auctions because they provide less opportunity for tacit or open collusion among bidders (Brannman, 1996).
The previous sections showed the advantages of introducing competition into the process for awarding forest contracts through competitive bidding. If competition is to operate successfully, it is important to design and plan the competitive contract award process with care. This section details the steps involved in awarding forest utilization contracts and procurement contracts under competitive bidding, competitive negotiation or auction-negotiation hybrid systems. The discussion emphasizes the necessary requirements for carrying out the competitive award process in a fair, transparent and equitable manner.
There are six main stages in the competitive bidding or competitive negotiation processes, or in auction-negotiation hybrid systems:
Invitation to tender, or request for proposal
In this first step, detailed specifications are developed for the requirements of the sale of forest rights under the forest utilization contract, or the requirements of the procurement contract. The criteria for selection of the winning contractor should be clearly outlined, and the definition of all terms and conditions of the contract clearly specified.
It is necessary here to clarify the difference between an invitation to tender (ITT) and a request for proposal (RFP). Both are documents issued to interested contractors which describe in detail the sale of forest rights or procurement needs. Both are requests for bids from interested contractors. Both specify the dates by which offers must be received, as well as the formal process for evaluation of bids and selection of the successful contractor (or rejection of all bids). The differences lie in the specification of the contract requirements. Invitations to tender are very specific in the requirements of what is to be done. Requests for proposals are used when the detailed specification for the procurement project, or the sale or lease of forest rights, cannot be provided to the same degree as in an invitation to tender. In requests for proposals the government employs the expertise of the various contractors to help define alternative methods or terms and conditions for the contract. In this sense the request for proposal is a two-step process.
The invitation to tender or request for proposal is the “blueprint” that allows a bidder to determine accurately what is involved in both preparing a bid and carrying out the contract if they are successful. The invitation to tender or request for proposal should be designed and written with care as it forms the basis for the bids. For forest utilization contracts (leases, licences or short-term permits) a valuation of the resources involved in the contract should be conducted prior to the release of the ITT or RFP, and the minimum bid or “reserve bid” should be determined.
Advertise the contract and invite potential contractors
The second step is to announce and advertise the contract, and invite expressions of interest, tenders or proposals. The contract may be advertised regionally, nationally or internationally; potential contractors may be contacted direct and invited to bid, or both advertisements and invitations may be used. The choice of method will depend on the size and nature of the contract, and on the potential bidders. The objective is to achieve as much competition as possible. Therefore, as many qualified contractors as possible should be attracted, to ensure the greatest number of bidders for the contract or resources being put up under auction or competitive negotiation.
The size of the contract will influence the number of bidders. The larger the contract, the fewer the number of contractors who will be able to meet the requirements. Fewer bidders will reduce competition and thus the government’s ability to capture or negotiate a fair share of the value of the resource, or to secure the lowest possible cost under procurement contracts. This is a fact that governments should take into consideration when formulating policies regarding the forestry sector.
To attract bidders, the government will need to allow enough time for contractors to evaluate the contract requirements, and to put together and submit the bids or proposals. The information package and any additional information on the contract must be available and distributed to potential contractors well ahead of the auction. Where pre-qualification of bidders is carried out, the minimum pre-qualification conditions will need to be established and indicated in the announcement.
There are several steps that may be taken to limit the opportunity for collusion or bid rigging among bidders:
Pre-qualification of bidders
It may be useful to invite potential bidders to submit information on their qualifications to ensure that they have the capability and capacity to undertake and manage the forest and to complete the contract. This may limit the number of potential bidders, but it will ensure greater uniformity of bidders, facilitate the evaluation of bids or proposals, and reduce the administrative costs in awarding contracts.
Pre-qualification of bidders may help to ensure that unreliable bidders do not take part in the auction. Pre-qualification also helps the government to gather information on the interest and “willingness-to-pay” of potential bidders (Crampes and Estache, 1997). It may also act to ensure that all bidders conform to certain required criteria (Klein, 1998). However, pre-qualification procedures may involve subjectivity in selecting qualified bidders, and therefore it may become open to influence, favouritism, bribery and corruption (Klein, 1998).
Information submitted for pre-qualification could include company financial and ownership information, subsidiary and related companies, information on their operations in the country and in other countries, annual reports to shareholders and audited statements for the past three years, and preliminary information on their proposed operations in relation to the contract. More detailed information would be required of qualified bidders as part of their tender or proposal.
Entry fees. Competitive bidding can transfer the cost of gathering information on the forest, the contract and contract conditions to potential bidders (Gillis, 1992). However, the difficulty and costs to potential bidders in obtaining information on the forest, the timber, the contract requirements, and the costs of fulfilling the requirements can be a significant problem in auctioning forest contracts. There are high costs incurred by potential contractors in information gathering, and duplication of effort if each bidder must gather the same information. The costs along with the risk and uncertainty of inadequate information can discourage bidders and result in lower bids on forest utilization contracts or higher bids on procurement contracts for goods and services (Gillis, 1992).
One way of overcoming this difficulty is for the government to undertake or contract out the forest inventory, information gathering, and project cost analysis. The government can then make the information available to all bidders by charging potential bidders an entry fee for the bid package to cover the cost of the information gathering (French and McCormick, 1984). This can be more cost efficient than each potential bidder collecting the information independently. Charging entry fees may reduce the number of bidders, but it may mean that only seriously interested bidders participate. And it may increase bid levels, as bidders will incur fewer costs in information gathering and less risk and uncertainty about the forest (French and McCormick, 1984).
Submission of bids or proposals
The invitation to tender or the request for proposal should include a specific time, date and place where bids must be delivered. This is usually included in the contract advertisements and announcements.
When the deadline date and time have arrived, the bids are opened in public and the names of those who tendered bids are announced. The deadline for receiving bids would have to be strictly observed to avoid any appeals or legal challenges. Late submissions should not be accepted. For transparency, sealed bids should be opened in public, making corruption, bribery, wrongful award or other illegal practices more difficult to conceal (McAfee and McMillan, 1988).
Oral bid auctions are visible and transparent, but they increase the opportunity for behind the scenes collusion among bidders, tacit or implied threats to bidders, or tacit collusion among bidders. Combining sealed bids with the opportunity to improve on verbal offers at a subsequent oral auction can combine some advantages of oral bidding and sealed tenders. However, if this procedure is to be used, bidders must know ahead of time, so that they may prepare and be present at the opening of the sealed bids.
Review of bids or proposals and contractor selection
The next step is the review of all bids or proposals. A few important guidelines should be followed:
Criteria for selection should include, as a minimum:
With pre-qualification of bidders, all bidders should have the necessary experience and ability to carry out the concession management obligation. If all bids or proposals meet the previously established conditions, the decision should then be based primarily, or exclusively, on the financial terms of the proposals. In that case, the selection of the winning bid will be easy.
The winning bid is announced and the selected contractor is contacted and informed of the success of his bid. The announcement of the selected contractor, along with the results of the review process, should be made public immediately following the review of bids or proposals.
To maintain independence of the review process governments should consider creating an independent evaluation team, which includes outside parties, to administer the contract awarding process. This can help to demonstrate the equity of the process, and generate confidence by bidders and the public that the award process is fair and impartial. Alternatively, the process of evaluation of bids or proposals could be contracted out to an independent organization.
In the case of competitive bidding, once the contractors submit their bids they should be legally required to fulfil the obligations of their bid or proposal and be held legally liable. It is important for governments to be firm on this point, or the award process will deteriorate into undisciplined competitive negotiation, with added administrative costs. In addition, the government may find itself liable to being sued by the other, unsuccessful bidders.
Negotiation of the final contract conditions and signing the contract
Once the successful bidder is notified, representatives from government and the contractor will meet to discuss final details of the contract and, following that, to take part in a formal signing of the contract. With competitive negotiation, there is greater flexibility to change the terms of the contract and more time will be needed to negotiate the final contract. Under competitive bidding, negotiation will involve only the details of the implementation of the contract. In competitive bidding, any major changes in the contract at this stage would require a new invitation for tenders or proposals, once again open to all parties.
For competitive contract award to work successfully, several requirements need to be fulfilled. These include:
Competitive auctions can raise concern about the entry of contractors who are not owners of processing facilities, leaving existing processing plants without timber supply. This problem has been dealt with in Cameroon by introducing a ‘pre-emptive right’ for owners of existing processing plants. Under this system, forest utilization contracts are competitive bids, but if the owner of an existing processing plant in the area does not win the auction, he can match the winning bid (Karsenty, 1998).
An additional issue in competitive bidding is that domestic and small-scale operators may be excluded; because they may not have the financial resources to compete against larger foreign operators (Karsenty, 1998). To compensate for this, some contract areas may be reserved for small-scale or national operators, or such operators may be given preference in awarding contracts if their bids are within a certain percentage of the winning bid (Karsenty, 1998). However, such decisions must take into consideration the principles of economic efficiency and government distributional goals.
Another way of favouring local and domestic contractors is by the use of a merit point system. This system can incorporate other national development objectives by including factors other than price (Sample Bidding Documents, World Bank, 1986). Table 9.1 provides an example of a merit point system (Sample bidding documents, World Bank, 1986).
Table 9.1: Example of a merit point system
Evaluation and comparison of bids
Merit point system
The bid scoring the highest number of points will be deemed to be the highest evaluated bid.
Competitive bidding is the most common form of contracting out for governments in the sale of government goods and services, or the sale of public rights (to airwaves, oil and gas and mineral exploration rights and production leases, etc.) (McAfee and McMillan, 1988). In forestry, competitive bidding has been used with success in the allocation of forest utilization contracts in Venezuela and Malaysia (Sarawak and Peninsular Malaysia), Ghana, Côte d’Ivoire and, more recently, Cameroon (Gillis, 1992; Grut, Gray and Egli, 1991). Competitive auctions of short-term timber sales are widely used in North America, and in a limited way for longer-term timber quotas. In cases where information is available, price bids have been higher than the fees paid under administratively established royalty rates.
In competitive negotiation several potential contractors are contacted and invited to submit proposals. Proposals are evaluated on cost or price, and on the other terms and conditions of the proposal. Some of these other factors that might be taken into account when evaluating bids include the contractor’s history and experience in similar projects or contracts (references or recommendations from previous clients), the capacity to carry out the contract (financial, manpower and organizational capacities), and the bidders’ additional commitments in their proposals. The best proposal is then selected from among the qualifying submissions for negotiation of final terms and conditions.
This approach to contract award may be appropriate when government seeks independent ideas from potential contractors on how to harvest the timber, manage the forest or provide forest management goods and services.
There are some advantages to this approach to contract award. First, competitive negotiation is less formal than competitive bidding, so, once a contractor is selected, the major terms of the contract may be refined and consolidated in negotiations with the chosen contractor. Alternatives proposed by the other bidders may also be incorporated into the negotiations to improve the overall proposal and the final contract.
Negotiating skills are very important under this form of contract awarding, but the negotiating position of government is greatly improved compared to direct negotiation (sole source contracting). The government has additional information, costs and prices from the other proposals that it may use in negotiations with the chosen contractor. In addition, the increased number of competitors will raise the level of the prices and commitments for forest utilization licences, or reduce the costs bid on contracts for provision of goods and services.
Another advantage in competitive negotiation is that, in negotiations, the contractor is able to explain and justify the various elements of the bid, perhaps leading to arrangements for sharing risk. Competitive negotiation may also help to establish a more cooperative government/contractor relationship that can help in administration of the contract over its term. Finally, competitive negotiation may have administrative advantages over competitive bidding. It is more flexible and less demanding in terms of administrative process and control. For the government, competitive negotiation reduces the costs of bid preparation compared to competitive bidding (Klein, 1998).
However, there are important disadvantages to competitive negotiation. First, it will not achieve transparency. Negotiations between the government and the chosen contractor are not open to public scrutiny. It therefore provides opportunities for collusion, bribery, corruption and political favouritism. Competitive negotiation will be administratively more costly than direct award, simply because there are more potential contractors and more bids and proposals to evaluate. However, it will likely lead to improved contracts, higher prices on forest utilization contracts, lower costs on contracts for provision of goods and services, and easier supervision and monitoring of the final negotiated contract. In choosing this option, governments must balance impartiality and transparency in the award process against the benefits of added flexibility and the potential of a better final agreement.
Achieving the competitive conditions for effective operation of the competitive bidding system may be difficult in many countries, and in many local situations within countries, especially in the forestry sector. Hybrid systems involving combinations of negotiation and competitive bidding may therefore be useful where it is difficult to achieve fully competitive bidding.
Hybrid methods have commonly been used in awarding oil and gas exploration and development contracts. For example, in Indonesia exploration contracts are awarded to companies offering the highest “signature bonus” (Gillis,1992). Signature bonuses have been sizeable, especially for more promising tracts. Gillis suggested that signature bonuses could be useful in allocating timber rights and in forest revenue systems to capture a larger share of the value of the forest contract (economic rent) (Gillis, 1992).
When forest contracts are allocated by negotiation, conducting competitive bidding in those areas of the country where there will be competition will provide an indication of the true value of the contracts. It will then provide a basis for negotiating the value of forest contracts in other areas of the country (Grut, Gray and Egli, 1991).
In direct negotiation of contracts, or sole source contracting, only one contractor is involved, and that contractor, along with the officials representing government, negotiates the terms and conditions of the contract. This method is applicable when there are few potential bidders, when there are few, or only one, qualified contractors, when a monopoly situation exists, or when one contractor has the specialized skills required to fulfil the contract requirements.
If direct negotiation, or sole source contract method, is chosen, the government, in order to be in a strong bargaining position, must have as much information as possible on the forest conditions, the value of the forest, the costs of contract performance and the contractor involved. It is important for the government to specify the contract requirements in as much detail as possible. It is also important to establish the set of criteria to evaluate proposals from the contractor, so that they may be used in the negotiation process. Negotiation skills are crucial in sole source contracting. Recommendations for negotiating under a number of different situations are included in section 9.5 of this chapter.
The advantages of direct negotiation are that they allow some flexibility in negotiating major terms of the contract after the contractor is chosen. The administrative process is simpler, cheaper and quicker. Therefore this method will be appropriate when a contract must be finalized quickly, e.g. for provision of emergency forest fire fighting, salvage logging of damaged timber, or for small contracts for goods and services. In most cases, direct negotiation will not be appropriate for awarding long-term forest utilization contracts. Direct negotiation is appropriate only for short-term utilization contracts for small volumes, pockets of timber, and salvage harvesting of fire-, insect- or disease-damaged timber.
A major disadvantage of direct negotiation is that governments are usually at a significant disadvantage during negotiations, particularly with respect to price. The government usually has less information on costs and prices than the contractor, who is able to prepare and present costs and prices data to serve their own interests. This disadvantage may lead to higher costs in the purchase of goods or services, or lower revenues in selling forest rights or assets. A study of the US Department of Defence weapon procurement practices examined unit prices on major weapons systems procured on a sole-source basis compared with those procured by competitive bidding. Competitive procurement resulted in savings of 16 to 80 percent, with an average saving of 51 percent (Yuspeh, 1976).
The other major disadvantage of direct negotiation is that the process is usually highly secretive or completely confidential. Therefore, it ranks low in terms of transparency. It provides opportunities for bribery and corruption, and leaves the government open to accusations of favouritism, collusion or conflict of interest.
Direct negotiation has been the most common method of allocating forest concessions in Africa and Asia (Gillis,1992). Prospective concessionaires apply for a concession, and are awarded concessions following negotiations with the forest administration. This has allowed considerable possibility for collusion and ‘financial irregularities’ to occur (Grut, Gray and Egli, 1991; Gillis, 1992). Because of this, and because it has not produced the potential benefits or forest revenues, this method is not recommended for long-term forest concessions (Grut, Gray and Egli 1991; Gillis, 1992; World Commission on Forests and Sustainable Development, 1999).
Negotiation is an important component of most forms of contract award. In competitive and direct negotiation, or sole-source contracting, the government’s capacity to negotiate is a determining factor in achieving deals that are fair to society and that secure sustainable use of forests. With competitive bidding, negotiation is not involved in awarding the contract, but negotiation is still involved in the timing of the deliverables, payments, details of performance requirements, and other minor items. In order to be effective in negotiations, governments must ensure that key people are knowledgeable in contract negotiations, and have the expertise and training in the skills of negotiation to do an effective job. Effective negotiation will take less time, cost less and produce superior results, so it is worth the effort to develop this expertise within the public sector.
There is a large amount of literature available on negotiating, methods and techniques. This section reviews negotiation techniques which are widely used, based on the principle of negotiation developed by Fisher, Ury, and Patton of the Harvard Negotiation Project (Fisher, Ury, and Patton,1991). The three major stages in negotiation are explained together with the special characteristics of negotiation in an international setting. This review of negotiations concludes with ways to deal with power imbalances which are a common occurrence in negotiations with large international companies.
There are two main styles of negotiation: the traditional competitive approach, and the cooperative approach. In the competitive style of negotiation, the objective is to win. “Winning” is defined as doing better, or getting more (i.e. a larger share), than your negotiating adversary. Negotiation is viewed as a zero-sum game in which one side wins and the other loses. Competitive negotiation tends to be confrontational in nature, and thus it may negatively affect the relationship between the parties (Stanford, 1994). Because the emphasis of competitive negotiation is to “divide the pie”, scant attention is paid to “making the pie bigger”. Often opportunities for mutual benefit are lost in the adversarial nature of the discussions. Competitive negotiation involves granting concessions until an agreement is reached. This form of negotiation is often employed in single contract transactions where the parties do not anticipate an ongoing relationship with further contractual arrangements between them. However, many forest contractual arrangements involve long-term, ongoing relationships. A different approach to contract negotiations can adversely affect the ongoing working relationship between the two parties, to the detriment of the agreement itself.
The objective in cooperative negotiations is to get the most you can for yourself or your organization, while finding a way to create more value for both sides than could be obtained by competing against each other. Cooperative negotiations promote good working relationships between the parties and focus on the interests rather than the bargaining positions of each side. Thus the cooperative negotiation strategy will search for “win-win” situations (Fisher, Ury and Patton,1991). However, it does not mean that both sides get everything they want, nor does it mean that negotiations will always be amicable.
Public policy decision-making and forest contracts lend themselves to a cooperative approach to conflict resolution. Consensus building is particularly important when the range of potential interests in public forest lands is considered. In cooperative negotiations, finding mutually acceptable solutions will promote acceptance and support for the agreements arrived at.
There are three stages in preparing for, and participating in, negotiation. Each of the stages emphasizes certain parts of the overall negotiation framework.
Data collection is the first stage in which relevant information is gathered prior to the start of negotiations; information on the issues, details of the contract being negotiated, laws, regulations or international standards involved, and information on the other party and their interests. In negotiations, information is power. The more information available to each party the less the uncertainty, and the more likely a better outcome, satisfactory to both sides, will be reached. Information on the potential contractor(s) will help to identify the interests which the other side is seeking and help in reaching a better outcome. Being prepared is one of the most important steps in the negotiating process.
The analysis stage, the next stage, involves analysis of the information to establish bargaining positions and strategies. Analysis involves creating options based on the information collected and the knowledge of the interests and concerns of the other side. At the analysis stage the negotiators or team must determine the value of the contract and alternatives to the government, and the value of the contract and alternatives to the other side. The negotiators must also determine the value or cost of a “non-agreement” alternative for the government and for the other side, and the requirements with respect to price and administrative duties which must be met for an agreement to go ahead.
Data collection and analysis must be carried out prior to face-to-face negotiations. Without the analysis, the negotiators will be unable to evaluate whether or not to accept an agreement, or whether they would be better off with the best “non-agreement” alternative. It is at this stage that the style of negotiation is decided, along with the composition of the negotiating team. Other factors to be addressed in planning negotiations include the need to obtain technical expertise during negotiations, the composition of the other team and scheduling the place and time of the meetings.
The discussion stage occurs when face-to-face negotiations take place. In this third phase, the negotiators and the team must have control and self-discipline to focus discussion on interests rather than positions to prevent the dialogue from becoming confrontational and unproductive.
The cooperative approach to negotiation involves a number of important points that are highlighted below. For a full discussion of negotiation and cooperative models the reader is referred to the references at the end of this chapter.
Focus on interests not positions
The first objective in preparing and conducting cooperative negotiations is to focus on the interests of the parties. Interests reflect the needs, wants and concerns that make parties adopt their particular negotiating positions. A key point is to anticipate and understand the issues and interests that are likely to arise in negotiations and that will need to be addressed. This does not mean that the government negotiators need to agree with the other side’s views. However, knowing the other party’s issues and concerns may open up opportunities for workable alternatives.
Negotiators who have a sound understanding of both their own and the other side’s interests are able to find ways in which these interests might be satisfied – options for agreement (Stanford, 1994). There are significant benefits if options are prepared ahead of time during the analysis stage, or independently after initial face-to-face meetings. Negotiating sessions which focus on developing options of benefit to both parties can take the negotiations to a more positive level, where positions are no longer discussed, interests are addressed and new options devised.
Conflicting interests will undoubtedly arise in negotiations. However, in negotiations, it will benefit both sides greatly if conflicts can be avoided, circumvented or overcome. One way to minimize or avoid conflicts is to base proposals on objective criteria which are independent of the will of the negotiators or the negotiating teams. Examples of objective criteria include recognized standards, established laws and regulations, professional standards, industry practices, or community standards of behaviour or fairness. For example, in negotiating prices, instead of negotiating based on what a seller demands as the price, or what the buyer wants to pay, work towards a price based on some standard such as market value, replacement cost, depreciated book value, competitive market or international prices.
Impact on relationships
Negotiators are often in a dilemma during negotiations. They want to succeed in the negotiation, but they do not want to do so at the expense of harming the ongoing relationship with the contractor, or damaging the operation and performance of the contract. They want to achieve an agreement that will be acceptable to the other party, an agreement with which both sides can live. It is therefore important that negotiators separate the substance of the negotiation from the relationships between the parties. Concentrate negotiation efforts on the problem, issues and conflicts in the parties’ interests, not on the people conducting the negotiation.
Successful negotiators are able to articulate and communicate their positions clearly and persuasively. They are also able to listen and understand the other side’s position, to listen and understand, rather than listening in order to prepare a rebuttal or defence. If negotiators listen, and the other party appreciates that they have been listened to and understood, it will improve the negotiating process and facilitate the identification of problem-solving options.
Commit or walk away
Negotiations may reach the point where a decision has to be made on whether a contract can be reached that will be better than no agreement or the best alternative course of action without an agreement. In the analysis phase, in preparation for face-to-face negotiations, it is important to have assessed the “non-agreement” alternative. If an agreement cannot be reached that is better than the “non-agreement” option, then it is better to “walk away”. Negotiators need to be prepared to do so.
Because forest contract negotiations often involve international companies and organizations, it is important to discuss international negotiations, including their skills and special aspects. First, in international negotiations, negotiators cannot assume that a common value system will exist in the negotiations. Culture has a profound impact on negotiating behaviour. Language, oral and written communications during negotiations, is often subject to misinterpretation (Sunshine, 1990). Foreigners may not know, understand or appreciate the social customs, shared professional expectations, or fully understand the economic, political and legal systems of the host country.
For international contractors, negotiations may be complicated as well. Several host government ministries may be involved in the negotiations, the number of interested parties may be large, and the complexity of the agreement and the negotiations can be great. In negotiating contractual arrangements for public forest lands, ministries representing economic development, trade, the environment, agriculture and forestry may all be involved. Dealing with this team of representatives, and knowing the requirements, regulations, issues and objectives of all the participants on the host country’s team can be difficult.
In addition, international negotiations involve a high degree of political visibility creating pressure on the national team to achieve agreements that will be politically popular. The challenge is to also achieve an agreement that is economically sound for the government and the country.
Effective international negotiators will need to have strong cross-cultural sensitivity and communication skills. Preparing for international negotiations involves:
Power imbalances between the negotiating parties are of particular concern in negotiating with large corporations and international companies. These companies have a wealth of information at their disposal, expert knowledge on forest industry costs, market prices and timber values, and substantial technical and negotiating capacities. Government institutions will often have less power, less information and less experience. In addition, large corporations and international companies are able to gain bargaining power by talking of moving their investment to other countries offering better terms.
Government organizations can, at least partially, compensate for these power imbalances by strengthening their information data and improving their analysis capability, and by careful and thorough preparation for bargaining. Data collection and analysis stages, prior to face-to-face negotiations, are crucial. Thorough preparation is the key to success. Review the team’s potential sources of negotiating strength during the analysis phase. There are advantages in hosting the negotiation as it gives control of schedules, facilities and easy access to technical support and staff. Do not assume the other side knows all your perceived weaknesses. Use options designed in the analysis and planning phase to present a negotiating package that will maximize the appeal to the other party’s interests as identified in the analysis phase (Sunshine, 1990).
During face-to-face negotiations, take advantage of the previous preparations. Anticipate objections from the other party to your position and know the monetary or other quantitative alternatives likely to be discussed. Continue to negotiate on the basis of merits and not positions and support those interests with objective standards.
If the other party is still intent on exploiting its power advantage, then it is essential to be prepared in advance to walk away and adopt the “non-agreement” alternative. The “non-agreement” alternative should be the standard against which any proposed agreement should be evaluated. This comparison can prevent acceptance of terms and conditions or a contract that is unfavourable.
9.6 Chapter summary
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