There is an old joke that say something like “What happens when you put 10 economists in a room? You’ll get 11 opinions.”
My experience with Target Price is similar: I’ve heard many opinions in favour and against it and probably in general it’s not “right” or “wrong”, but it’s a strategy that, depending on the context, can be more or less appropriate.
Basically, the idea is to share with the subcontractors the price level that they are supposed to reach – or if you want to see it the other way around how much you can afford to pay to build the wind farm.
On a smaller scale the idea is not new. It is what happen when you ask someone if they can meet a certain budget, for instance asking to an artist “Can you do me a portrait for 100$?”. The answer could be for instance something like “Yes, but the dimensions will be 20×20 cm”
There are indeed some arguments I can see in favour of it:
- BoP is (partially) a custom service with certain technical specifications that in some cases can be changed.
The implication is that the input of the subcontractor can be requested to hit the target, or some initial requirements can be changed. A classic example is the level of redundancy of the substation: fail proof solutions are not cheap.
- Material costs can be clearly identified (in some cases).
This is for instance the case when items like medium voltage cables are purchased – a key driver in the cost of cables is the spot price of the raw materials (copper, steel, aluminium) so it’s relatively easy to calculate how much you should pay.
However, it’s also easy to find arguments against it:
- To give a target price, the buyer should understands the cost structure.
This is not so easy as sit might seem: people dealing with BoP are usually operating in different markets, interacting with companies of different sizes and with different business models. Therefore having a clear view of the seller costs structure can be a daunting task.
- Price volatility should be low.
This is true in certain markets where it’s easy to find a steady supply of bidders. However, overheated markets with several competing projects executed at the same time can create price volatility: basically, the resources that you need to build the wind farm (for instance the crane, or the mobile batching plant) will go to another project – another wind farm nearby, or possibly something totally different.