**PTA Formula**.

#### Formula for Point of Total Assumption (PTA)

PTA = (Ceiling Price - Target Price) / BSR + Target Cost

#### PTA Sample Questions Set 1

Target Cost: $60,000Target Fee: $15,000

Target Price: $75,000

Ceiling Price: $100,000

Buyer-Seller Share Ratio: 60:40

Q1.1 What is the PTA?

Q1.2 How much does the buyer pay when the actual cost reaches PTA?

Q1.3 How much profit/loss does the seller make when actual cost reaches PTA?

A1.1 By substituting the values in the PTA formula above, we get:

PTA = (100,000 - 75,000) / 0.6 + 60,000

= 25,000 / 0.6 + 60,000

= 41,666 + 60,000

= $101,666

A1.2 Cost overrun = 101,666 - 60,000 = 41,666

Buyer share ratio (BSR) = 60% or 0.6

Buyer's share of cost overrun = Cost overrun x BSR = 41,666 * 0.6 = 25,000

Amount buyer pays at PTA = Target Price + Buyer's share of cost overrun

= 75,000 + 25,000

= $100,000 (= Ceiling Price)

From here on, even if the actual cost rises to $150,000 (or more), buyer still pays $100,000 only. Do you know what this implies? Refer the conclusion section at the end of this post.

A1.3 The amount seller spent (actual cost) = $101,666

The amount seller received = the amount buyer pays = $100,000

So, the amount seller makes = 100,000 - 101,666 = - $1,666 (net loss).

So, in this case, seller is already in losses when the cost reaches PTA.

Now, let's modify the terms of the contract slightly.

#### PTA Sample Questions Set 2

Target Cost: $60,000Target Fee: $15,000

Target Price: $75,000

Ceiling Price: $80,000

Buyer-Seller Share Ratio: 60:40

Q2.1 What is the PTA?

Q2.2 How much does the buyer pay when the actual cost reaches PTA?

Q2.3 How much profit/loss does the seller make when actual cost reaches PTA?

A2.1 By substituting the values in the PTA formula above, we get:

PTA = (80,000 - 75,000) / 0.6 + 60,000

= 5,000 / 0.6 + 60,000

= 8,333 + 60,000

= $68,333

A2.2 Cost overrun = 68,333 - 60,000 = 8,333

Buyer share ratio (BSR) = 60% or 0.6

Buyer's share of cost overrun = Cost overrun x BSR = 8,333 * 0.6 = 5,000

Amount buyer pays at PTA = Target Price + Buyer's share of cost overrun

= 75,000 + 5,000

= $80,000 (= Ceiling Price)

A2.3 The amount seller spent (actual cost) = $68,333

The amount seller received = the amount buyer pays = $80,000

So, the amount seller makes = 80,000 - 68,333 = + $11,666 (net profit).

So, in this case, seller is making some profit even when the actual cost reaches PTA.

#### Key Points about PTA

- PTA can be more than the Ceiling Price.
- At or above PTA, buyer pays the Ceiling Price.
- At or above PTA, the contract price is fixed, and is equal to the Ceiling Price.
- At PTA, Buyer-Seller share ratio becomes 0:100.
- At PTA, a Fixed Price Incentive Fee (FPIF) contract becomes a Firm Fixed Price (FFP) contract.
- PTA doesn't mean point of zero profit for the seller. At PTA, seller may be making profit or loss, or no profit and no loss.
- Beyond PTA, all costs on the project are completely borne by the seller.
- Seller is usually more concerned about the PTA.

**this series**on PTA. I learned a lot about this topic while writing these articles and hope you learned as much as I did, reading them.

If you found these posts useful, do post your comments and let me know.

#### Full series (5-part) on Point of Total Assumption in FPIF Contracts

- Point of Total Assumption (PTA) - Test your PM Knowledge
- The Point behind Point of Total Assumption in FPIF Contracts
- Derivation of Point of Total Assumption (PTA) Formula
**Point of Total Assumption (PTA) - Interesting Facts (PMP)**(you are here)- Seller Fee Calculations in FPIF Contract

Image credit: Flickr / islandfreedom

This is by far the best and simple clarification I have found on the FPIF PTA and Seller's Profit Calculations, So now I am using following formulas for Seller profits calculations derived from this post...

ReplyDeleteSeller Profit @ PTA = Ceiling Price - PTA

Actual Seller Profit for Cost Overrun = Seller Profit @ PTA - Cost Overrun

Hi Mangesh,

ReplyDeleteThanks for your comments.

Your second equation sound a bit convoluted to me. Another point which I hope you understand is that seller profit at PTA may in fact be negative i.e. a loss.

To calculate the seller profit at any point, simply use the equation:

Seller Profit or Loss = Buyer's Price - Actual Cost

Buyer's Price = Target Price + Buyer's share of cost overrun

Therefore,

Seller Profit or Loss = Target Price + Buyer's share of cost overrun - Actual Cost

I have a few examples on this post:

Seller Fee Calculations in FPIF Contract

Let me know whether they make sense. If you have further comments, feel free to post them.

Thanks.

Hi Harwinder,

ReplyDeleteYou are right on both the points,

Thanks for further clarifications.

Sir,

ReplyDeleteI came across a question in Ohliverman site where PTA is calucated using (Benefit/cost sharing: 80% / 20%). Please can you tell how Benefit/Cost is related to BSR.

@ Anonymous,

ReplyDeleteThat's a good question:

"Benefit/Cost sharing" and "Buyer-Seller Share Ratio" mean the same thing and usually expressed as X%/(100 - X)% or X:(100-X). For example, 80%/20% or 80:20.

BSR means Buyer's Share Ratio (X). Usually it's expressed in decimals. For example, if the Buyer-Seller Share Ratio is 80%/20%, then BSR will be 0.8 (or 80%). Similarly, if Buyer-Seller Share Ratio is 60%/40%, then BSR will be 0.6.

I hope this answers your question. Feel free to ask more questions.

All the best.

What are the definitions of the PTA Terms:

ReplyDeletetarget cost - is this supposed to be out of pocket cost to seller without profit built in?

target price - is this what the seller and buyer believe is a fair price to pay for the project?

Hello Dave,

ReplyDeleteThese are good questions. I think I should have done a post to explain the basic terms first.

===============

Target Cost

===============

a. Target Cost is what the project is estimated to cost. It may include cost of raw materials, labor, equipment, facilities etc.

b. It does NOT include seller's profit.

c. It's an estimate, not the actual cost.

===============

Target Price

===============

a. Target Price is Target Cost plus Target Fee.

b. Target Fee is also known as seller's profit.

c. Target Fee is decided in the beginning of the project, as part of the contract between the buyer and seller.

I hope it's clear now.

Thanks again.

Hardwinder,

ReplyDeleteIn the examples above why are we assuming buyer will pay ceiling price for all transactions?.

-Vikram.

Hello Vikram,

ReplyDeleteIf you refer to point 2 in the conclusion, buyer will pay the ceiling price only when the actual cost is at or above the PTA.

Buyer does NOT pay the Ceiling Price if the cost is below PTA.

So, I'm NOT assuming buyer will pay the Ceiling Price for "all transactions".

If you have further questions, let me know.

Thanks.

Hi,

ReplyDeletecould you please provide an example of when the PTA can be above the Ceiling Price? I think that by definition this is not possible ... but I am still struggling to understand the concept (thought your posts have been very helpful)

thanks!

Hello Anon,

ReplyDeleteThe example is right in front of us. Refer to Example 1 above. The CP is $100,000 and PTA is $101,666.

Let me know if you further questions.

Harwinder,

ReplyDeleteJust wanted to say 'thank you' - yours is one of the best PM prep websites out there! I passed my exam today :-)

Anon

Hello Anon,

ReplyDeleteCongratulations and thanks for your comments. Your words are really appreciated.

Good luck.

Very interesting indeed, but, i can't get then difference between ceiling price and PTA. Would you like to explain a little deeper this topic ?

ReplyDeleteHello Harwinder,

ReplyDeleteExamples really giving insights into PTA calcs.

Two points I would like to clarify:

-I see it is assumed that if sellers' costs does not go higher or equals PTA, the target fee is paid. I mean it is implicit in the PTA formula, but is this the general legally contracted condition?

-What do you mean by Conclusion #5?

Thanks,

Gabor

Hello mlopez,

ReplyDeleteThanks for your feedback, and sorry for the late response.

I'll surely try to explain more if you ask me specific questions.

Thanks.

Hello Anon.,

ReplyDeleteSorry for not responding sooner.

I didn't really get your first question. Can you rephrase it?

Regarding the second question (conclusion #5 - at PTA, FPIF contract becomes FFP contract), I mean that "at or above" PTA, the buyer pays the "Ceiling Price". Here, that "Fixed Price" is referring to the "Ceiling Price". Once the project cost reaches PTA, no matter what the final cost of the project is, the buyer pays the "Ceiling Price". The seller has to absorb all the cost beyond the PTA. So, from the buyer's perspective, once the project cost reaches PTA, the project is a FFP contract with the contract price fixed at the "Ceiling Price".

Let me know whether it's clear now.

Thanks.

Hi Harwinder,

ReplyDeleteThanks for FFP, it is ok this way.

Regarding 1):

In the PTA formula it is inherent that the target fee is paid, even if the costs exceed the target costs. So for me it is just a bit strange that this being an incentive is talked about even if the target costs are exeeded.

Maybe if target costs is used instead of target price in the formula, then seller should take cost sharing responsibility over a bigger part.

Regards,

Gabor

Looks my answer did not pass validation :).

ReplyDeleteLet me repost.

Thnx for 2), FPP it is clear now.

For 1), my concern is:

Why PTA formula talks about target fee (incentive) when costs exceed target costs at all?

That is, in my opinion it would be better to use target cost instead of target price in formula to put a bigger part for shared responsibility.

Regards,

Gabor

The "Conclusions" gave me amazing perspective on the concept. I have not seen such lucid explanation anywhere else. Thanks a million!

ReplyDeleteHello Anon.,

ReplyDeleteI'm glad to hear that. Thanks for your feedback.

Hi,

ReplyDeleteI'm not clear on answer A2.3.

It seems that the Amount Seller Spent would be (cost overrun ($8333) x seller share ratio (0.4)) + Total Cost ($60,000)=$63,333. The answer given is $68,888. I'm confused.

Thanks for any help.

Your grasp of the material is simply brilliant. I have gone through a lot of PMP material, but none as lucid as yours.

ReplyDeleteBravo!!!

Thanks, Henry. I appreciate your comments.

ReplyDelete@Anonymous (May 23, 2011),

ReplyDeleteI must have overlooked your question. I hope you've already passed the PMP exam by now. For the benefit of others who might be following these comments, I'll answer your question.

Q2.3 is asking for seller/profit lost when actual cost reaches PTA. The actual cost is what the seller actually spent. The buyer share of the cost run, which is $5000 and is calculated in A2.2, has already been added to $75K to arrive at $80K price that the buyer pays.

So, I'm just looking at the net output and net input of the seller. The seller spent $68,333 on the project (net output), and received $80,000 from the buyer (net input). So, the total profit that the buyer made is $11,666.

Let me know if it still doesn't convince you.

Thanks.

i was hard to remember this PTA formula and understand.. .now its much easier and you did it... Thanks.

ReplyDeleteSiva

Great explanation. In summary PTA can be viewed as what the buyer is willing to help the seller with costs but not beyond. It can be confusing if one thinks of the PTA as the full amount the buyer reimburses the seller. It is the sum of two values. The first value is the target cost ($60,000). The second value can be confusing. It is the total overrun cost that the buyer is still willing to "pitch in" and pay for a percentage of the cost. The buyer will pay for some not all. But the PTA is helpful for the seller as it will tell the seller that any costs beyond PTA, the buyer will not help out and they are on their own. The PTA should not be confused with profit. As in the example above, if the target fee was a measly $10 rather than $15,000 with ratio of 60/40, then the seller will lose all the $10 profit after spending $40 beyond the $60,000 target cost. Even though the buyer is willing to pitch in to assist well beyond the $40 (up to $41,666 in the first example) the seller should make sure the target fee is sufficient to cover overruns and still have profit left over.

ReplyDeleteHi Harwinder,

ReplyDeleteI have a question. In FPIF consider a scenario where Actual Cost is less that Target Cost:

Target cost 100,000

Target Fee/Profit 20,000

Target Price 120,000

Actual Cost 90,000

Ceiling Price 130,000

Share ratio 80/20

This this case will the 10,000 (Difference between Target Cost and Actual Cost) be distributed between the buyer and seller?

I feel that it should not because the Seller should get it as profit as he managed the cost well, but i think I saw in some website that it is divided. Can you please confirm?

Thanks,

Priya

Priya,

DeleteThat depends upon the terms of the contract. There would be a share ratio for both cost overruns and underruns. The PMBOK Guide, 4th Edition, also says so.

Best regards.

Thanks for your quick response. Assume that there is a BSR ratio of 80/20. My question is that even if the Actual Cost is less than Target Cost will there be any division based on the ratio?

DeleteI feel that in the above question which I have posted the sellers profit should be 20,000(Fee/Profit)+10,000 (which is Target Cost - Actual Cost) = 30,000.

Is this correct?

Thanks,

Priya

As I said earlier, it depends upon the terms of your contract. Let's say if there's a 80:20 share ratio for underruns also, then seller profit will be 20,000 + 2,000 = 22,000.

DeleteThanks a lot for clarifying.

Delete-Priya

@Harwinder.

ReplyDeleteThanks a lot for excellent article.

Just a small correction to your post to Anonymous on Aug 12, 2011)(10:16AM).

You mentioned: " So, the total profit that the buyer made is" - it's actually "Seller". Kindly check the same.

Have a great day.

- Amar

You are right, Amar. Thanks for pointing it out. I can't make changes to previous comments (the system doesn't allow it).

DeleteIF incurred cost is below Target cost , in case of FPIF, how much will be paid to contractor?

ReplyDeletefor example TC = 2000 TF =100 AC= 1800, what will be reimbursed to contractor.

It depends on the buyer-seller share ratio for cost under-run, as mentioned in the contract.

DeleteMoreover, PTA concept is only applicable for cost overrun.

Ok, thanks, means here the term "fixed price" may be understand as cieling price.

DeleteAm I correct.

otherwise where the term fixed price will applicable?

Lucid explanation! Awesome work HS!

ReplyDeleteOne in ten thousand readers actually drops a word of encouragement, and you are that one! Thank you :)

DeleteIn terms of the sellers total profit/loss, I came up with the formula:

ReplyDelete-- SSR(TC-AC) + Target fee --

Also, to get the Total Cost, I have:

-- AC + Target Fee; or if AC = CP, then just simply the CP --

For me, they are very straight forward formulas - almost too easy. Is there any flaw in them that I am missing?

Hello Steven,

DeleteYour formulas may actually be correct. But personally I find it hard to remember formulas. The PTA concept is not that hard to grasp. If I can understand the concept, I don't need to remember the formulas at all. Having said that, if you can make nifty formulas and actually memorize them for the exam, there's nothing wrong in it.

Thanks for sharing your work!

On your conclusion point 7, you mention that at PTA all costs are borne by the seller. This is not necessarily true. The seller assumes all costs when actual costs reach the ceiling price. If PTA is below the ceiling price, the seller's profit deceases, but up until the ceiling price is hit, the buyer is sharing in a portion of the costs.

ReplyDeleteSorry for the late response. What you said is not correct. Please read all the articles in the series and you'll get the answer.

Delete