Incentive adjustment (step 5)

6.1

Section 17(2) of the Act, and regulation 11(6), set out the requirement for the incentive adjustment:

“Where the Secretary of State determines that the amount resulting from step 4 should be increased so as to give the primary contractor a particular financial incentive as regards the performance of provisions of the contract specified by the Secretary of State, increase that amount by an amount (“the incentive adjustment”) specified by the Secretary of State, that amount not to exceed two percentage points.”

6.2

This document provides guidance for the Secretary of State to use when determining when to apply the incentive adjustment to a qualifying defence contract and what to consider when setting the adjustment between zero and two percentage points.

6.3

Section 30 of the Act sets out that “[the Act] and single source contract regulations apply to qualifying subcontracts (and to sub-contractors) as they apply to qualifying defence contracts (and to primary contractors)”. In the case of a qualifying sub-contract, the determination of the incentive adjustment is made by the contracting authority rather than the Secretary of State and this guidance must be modified by reading references to the Secretary of State as the contracting authority and references to the contractor as the sub-contractor.

6.4

It may be desirable for the Secretary of State to include a positive incentive in certain circumstances. The incentive adjustment is not automatic and will be applied exceptionally in the determination of a contract profit rate.

6.5

The incentive adjustment guidance is principles-based rather than rules-based.

6.6

The inclusion of an incentive adjustment is at the Secretary of State’s discretion. When considering whether to apply an incentive adjustment the Secretary of State should have regard to the following principles:

1. The incentive adjustment can be applied to any QDC using any regulated pricing method. The incentive adjustment must relate to the performance of the contract to which it applies.
2. The incentive adjustment must be used for delivering performance on a contracted performance metric. The contract should be priced on the basis that a contractor will deliver the performance specified in the contract.
3. The incentive adjustment must relate to performance enhancements which benefit the Secretary of State. The additional value delivered to the Secretary of State through the achievement of incentivised elements must be tangible and demonstrable.
4. The incentive adjustment must be within a range of up to two percentage points. A positive incentive adjustment will not be applied to all QDCs and is not an entitlement.
5. The link between the incentive adjustment and performance must be simple and measurable. The criteria for achievement must be measurable and set objectively.
6. The link between the incentive adjustment and performance, and the criteria for achievement and payment must be clearly stated in the contract. This includes:
1. the required level of performance;
2. how it will be demonstrated;
3. when it will be measured; and
4. if incentivised performance is delivered, when incentive payments will be made.

6.7

The incentive adjustment must not be linked to legislative obligations. An incentive adjustment must not be given for compliance with the Act, Regulations, or other legislative obligations.

6.8

The incentive adjustment should not be linked to a reduction in the Allowable Costs of the contract. Reducing Allowable Costs of a contract should be rewarded via the chosen regulated pricing method.

6.9

Subject only to this guidance and the maximum incentive adjustment of two percentage points provided for in regulation 11(6), the Secretary of State can determine the amount of an incentive adjustment and when to apply an incentive adjustment to a QDC.