SPE/IADC

SPE/IADC 21900
Incentive Contract: A Contractor's Viewpoint
T. Geehan* and J.P. Rospide, Sedco Forex Schlumberger
*SPE Member

Copyright 1991, SPEIIADC Drilling Conference.

This paper was prepared for presentation at the 1991 SPEJIADC Drilling Conference held in Amsterdam, 11-14 March 1991.
This paper was selected for presentation by an SPEJIADC Program Committee following review of information contained in an abstract submitted by the author(s). Contents of the
paper, as presented, have not been reviewed by the International Association of Drilling Contractors or the Society of Petroleum Engineers and are subject to correction by the author(s).
The material, as presented, does not necessarily reflect any position of the SPE or IADC, its officers, or members. Papers presented at SPE/IADC meetings are subject to publication
review by Editorial Committees of the SPE and IADC. Permission to copy is restricted to an abstract of not more than 300 words. Illustrations may not be copied. The abstract should
contain conspicuous acknowledgment of where and by whom the paper is presented. Write Publications Manager, SPE, P.O. Box 833836, Richardson, TX 75083-3836. Telex, 730989 SPEDAL.

ABSTRACT
them to maintain a viable working system.Time -dependent costs range between 40% to 70% of the total well
costs (see Ref. 1), this applies both to the operator and
the drilling c~:mtractor, thus a reduction in the time spent
on the ,,:ell IS adv~~geous to both. As drilling is the
core busmess of drillIng contractors a large reservoir of
experience and knowledge resides in-house, a means to
utilize this drilling expertise and extensive knowledge is
through the vehicle of incentive drilling contracts. In todays market place with higher utilization resulting in improved daily revenue for the drilling contractor the operators are looking for ways to improve efficiency and control total drilling costs. Again the mechanism of contracts
based on perfoffilance will play an ever increasing role.
The direction taken by one major operator to encourage
the integration of services with acceptance of a broader
range of liabilities (Ref. 2) could, if successful tend to
direct the industry standard contract to be partly ~r wholly incentive based. The use of incentive contracts re-orientates the participating members in the project to become
as identified with the quality of the fmal product as with
the perfoffilance of the day rate service, the quality element of the service is emphasized.

The use of incentive contracts in the drilling industry has

become more common over the past few years. The introduction of perfoffilance related remuneration has developed for several reasons, the prime one being an effort
to reduce overall drilling costs through increased efficiency. Another significant reason has been the operators desire to have their personnel concentrate on their core business which is fmding and marketing oil.
This paper reviews the experience to-date and offers
comment, from a drilling contractor's viewpoint, on the
types of incentive contracts presently in use. Discussion
covers all phases from bidding to operation at the rig site.
In particular certain work undertaken in France and
Mrica is discussed. The full range of incentive contract
types are described, and the required change in attitude
from the drilling crew is explained in order to allow successful completion. The need to maintain the correct approach in teffils of safety and environmental awareness is
also outlined..
INTRODUCTION

The generic teffil ""INCENTIVE includes contracts in

whic~ the contractor assumes varying degrees of risk,
se~ FIg 1. The degree of contractor responsibility determmes the type of incentive contract that is required.
Ranging from a simple progress incentive where the contractor ~ceives a day rate and a possible penalty or bonus
dependmg on actual progress in comparison with a prognosed progress, to a full turnkey where the contractor is
responsible for the complete well, including well planning, logistics, supplies and services, see Ref. 3. The
r~ge ~f i~centive contracts and drilling contractors partICIpatIOn IS as follows:

During the last five years the oil industry has experienced
a renewed interest in contracts which include some element of perfoffilance related renumeration for the contractor.This is not a new idea as footage and turnkey were
the nOffilal mode of contracting 20 to 25 years ago. The
reason for the latest upsurge in interest being the depressed state of the drilling contract market which has
lead drilling contractor companies to participate in risk
sharing in order to increase the revenue per unit time and
in doing so allowed
References and illustrations at the end ofthe paper.
27

Incentive Contract: Contractor'sViewpoint

* Turnkey
* Modified turnkey

* Footage
* Modified footage
* Incentive modified footage

* Perfonnance related! Quality mte

* Other incentive packages

For a drilling contractor the risk! reward ratio should be

such that the risk does not exceed the possible reward.
When an oil company drills and completes a well it will
recover the cost of the drilling operation from production
of hydrocarbons over the producing life cycle of the
reservoir. The drilling contractor on the other hand has
only one chance to recover his costs and make the desired
return on investment, allowing investment in the future
through R&D and acquisition of new equipment, that
being the renumeration received for the successful
drilling of the well.
The incentive contract should contain the following elements (Ref.3,4);
1 Wm/ Win situation for all participants involved

SPE/IADC 21900

As the drilling contractor has only the chance to make

profit on the drilling of the well and thus when bidding
on incentive, contingencies must be included, as must all
other related costs connected to the project, Le. the cost
of bid preparation. H the project is for a remote location
single well or a multi well field development considerable
cost can be incurred in the prepamtion of the bid. These
costs have to be recovered over the dumtion of the project
concerned, perhaps if the concept of integmted contmcts
gains favour (Ref. 2) then a mechanism will develop to
allow the cost of the bid prepamtion to be recovered for
all bidders. In a recently completed bid excerise several
drilling contractors each spent several hundred thousand
US dollars to study a large integmted turnkey project and
prepare the bid. As there were five bidders the opemtor
concerned in essence received a million dollars of contmctor's time for no cost.Although the contractor winning the bid should recover its bidding cost over the duration of the contract, the other four obviously cannot.
We must ask ourselves if this is wise for an industry
struggling to recover from the worst downturn in its history. Again from experience gained on this bid and others
time and problems (thus cost) could have been reduced if
the contractor had of been involved before the issue of
the tender.
In relation to the contingencies included in high risk incentive contmcts, if it is for a single well with little offset
information then the contingencies will be much higher
than on a field development with sufficient offset information. In each instance some level of contingency will
be included in the drilling curve and in the determination
of overall costs. This would appear on the surface to be
logical however after discussion with some operators
who believe that such contingencies can be covered by
increased efficiency by the contmctor, it needs to be stated again in unambiguous terms that some degree of contingency will be added.

2 They should allow the contractors to increase revenue

through safe and efficient operations which provide the
opemtor with savings resulting from decreased total dumtion of the contmctors opemtion
3 The contract should be operated in an atmosphere of
willingness to ensure success of the venture and good
communication between all parties concerned.
In a win! win situation both the operator and contmctor
. stand to gain in that the opemtor will get more effective
work done per unit time, thus reducing the ovemll costs
of the project by reducing the total time required, the
drilling contractor will gain more revenue per unit time
and also motivate and develop personnel through clearer
performance objectives and more opportunity for recognition of good performance.

One of the problems in promoting incentive contracts is

the danger of the "Law of Diminishing Returns". As the
drilling performance increases the opemtor will try to reduce the anticipated drilling times and thus it becomes increasingly harder to make the drilling curve. The negotiation of the drilling curve for a single well or field development should allow for the need to keep a win! win situation for both parties. An example would be in a field development situation to use the average drilling time for
the field rather than the best drilling time achieved. It
could result in the operator paying a premium for the
drilling activity but the total project costs will still be reduced.

Incentive contracts imply by definition acceptance of a

certain amount of risk, as the renumeration is based,
wholly or partly, on performance. Risk is categorized in
this definition as exposure in a technical and financial
sense. The elements which can be directly controlled by
the drilling contractor at the rig site are the management,
control ~d ~echnical utili~at.ion of the people and equipment. It IS dIfficult for a drilling contractor to accept risks
which ~ghtl~ belong with the the operator, for example
geol~~lcal nsks: unprognosed and! or abnormal drilling
condl00ns. EnVIronmental damage under most if not all
jurdication~ ultimately rests with the lease holder, the opemtor. ~gam the problem of damage to the producing
formaoon can best be solved by stopping the incentive
contract at some suitable point before the said formation
is drilled, for example the intermediate casing point.

Another aspect which becomes obvious on reviewing incentive contracts over the last 3 to 5 years is the increasing component of non-drilling activities included as fixed
price/ lumpsum payments. On land opemtions such items
include site prepamtion, rig moves, remedial treatment of
waste pits and site clean ups. Offshore rig moves and
running anchors have also been included in incentive
contmcts. H this trend continues and expands then
28

SPEI lADe

T. GEEHAN and J.P. ROSPIDE

drilling contractors will be required to develop/ recruit the

needed expertise to allow such work to be undertaken.

work completed. For example on setting casing and on

completion of the cementation or on completion and delivery of a requested suite of wireline logs.

A parallel is beginning to emerge between the oil industry

and other industries in general in terms of the realization Full reports on each of the various aspects of the project
of the need to apply quality control and quality assurance are also integral components in the acceptance criteria and
to the operations. The cost of low quality products to the as such they were supplied in a routine and timely manefficiency and profitability of business has become obvi- ner. It is hard to overemphasis the need to keep the wordous in recent years, see Ref. 5. An improvement in quali- ing of the incentive contract simple. Perhaps it can be
ty of products and services requires the instigation of the paraphrased as follows: STME WHAT HAS TO BE
"Quality Revolution" which in tum involves a change in
DONE BY WHOM AND WHEN to all parties concerned
the culture of the company concerned and has radical ef- AND WITH WHOM THE RESPONSIBILITY AND
fects on the manner of conducting business. One aspect AUTHORITY LIES TO ENSURE COMPLETION of the
of the new culture is the development of a team approach . said work. The contractor has problems accepting the opor informal partnership wherein the manufacturers and erator's personnel making decisions at the rig site which
suppliers form an integrated team and they forge a close result in the contractor losing money! The supply of
working relationship. As an example to emphasize this drilling consumables by which party contractually and the
approach the following is quoted from Ref. 5 " Symbols acceptance quality of the consumables must also be stated
help: ffiM calls all suppliers Business Associates. Ford in the contract. As deviations from plan or unforeseen
problems can be very expensive in terms of rig time and
takes out full-page ads in papers such as the The
Street Journal and USA Today to praise suppliers with extra logistical backup.
top quality records".
The switch from incentive to day rate must be clearly statIn terms of the drilling contracting business a system will ed in the contract, for example the first 6 hours combatdevelop in which the operators, more interested in devel- ing lost circulation, the first 6 hours circulating and conoping and managing their core business, will have a pre- ditioning mud (if the operator has control of the mud) or
ferred group of drilling contractors with the technical and the first 12 hours if the contractor has control. A matrix,
fmancial resources to undertake projects which require see Table 1, can be constructed to fully defme all possible
substantially increased drilling contractor participation situations to be expected during the drilling portion of the
from the inception to completion. A prerequisite for work and whose responsibility it will be, either incentive
membership of this group will be the acceptance of the or day rate. In such a manner everyone at the rig site is
quality culture in all aspects. A natural evolution will be fully aware of the situation and what is expected and
the use of contracts in which the contractor is identified when the responsibility shifts from contractor to operator.
with the end product and thus has much higher participa- This type of contract format is very useful in incentive
tion in the project: modified turnkey, full turnkey and contracts with medium to high level of risk, modified
footage type contracts. With the onus on the drilling con- footage and full footage. Initially such contracts are pertractor to drill the wellbore and integrate all the related ceived as difficult to administer; however, in practice it is
services such as bits, mud, casing, cementing and direc- a straight forward process.
tional drilling. Data acquisition and interpretation services
in relation to geology, lithology and reservoir characteri- The introduction of the concepts of QUALITY CONzation should by rights rest with the operator as it has di- TROL and QUALITY ASSURANCE will help to simplirect influence on its core business.
fy the acceptance criteria as it evolves to an internationally
accepted standard for equipment and procedures in estabThe remainder of the paper will address the operation of lishing how results will be quantified. In relation to ancilincentive contracts within the region of Europe and Africa lary wellsite services it can become more difficult; as yet
with particular reference to France.
there is no international defmition of a good cement job?
The drilling contractor must be careful that the operator is
DISCUSSION
not asking through the vehicle of the incentive contract
for guarantees that no service company has ever given or
The range of incentive contracts undertaken has been
is willing to give in way of a result for the fmal product
from full turnkey (Ref. 3) to Quality Rate (good perfor(see Ref. 6).
mance, matching or improving on predetermined criteria). The incentive sections in drilling contracts must be
The increased liabilities which are assumed in incentive
kept simple to allow them to be successfully impletementcontracts must be covered either in terms of contingencies
ed at the rig site. The defmition of the scope of work and
on drilling time, in pricing consumables or by buying inthe criteria for acceptance are very important components
surance coverage. In day rate contracts drilling contracin the incentive contract. This is particularly so in high
tors have "nonnal" insurance coverage based on the tradirisk incentives such as turnkey, modified turnkey or
tional dayrate liabilities. Increased coverage for catasfootage contracts. In France when such contracts where
trophic damage and/ or drilling risks, if it can be purin operation milestones were set for acceptance of the
chased, is very expensive. An example of such a problem

wan

29

Incentive Contract: Contractor'sViewpoint

would be the loss of an MWD tool, costing approximately 500 kUS$, insurance coverage is very expensive.
Under day rate contracts the operator carries insurance
coverage for such items. If the drilling contractor includes the contingency of loss of an MWD per well or a
fraction of a MWD per well then the overall cost will increase.
Example
This example is not a case history but it is used to
demonstrate the concepts raised and the operational techniques used to increase efficiencies.
In France a modified turnkey project was undertaken on a
field development in the Parisian basin. It included a total
of 11 wells each with a total depth of approximately 2500
meters. The contract used the standard drilling programme as defmed by the operator to defme the scope of
work. As the project proceeded refinements and adjustments were made to allow an increase in performance.
The casing, liner and related equipment were supplied by
the operator. All other consumables and services:

-Bits
- Mud products
-cement
- Waste treatments
- Wrreline logs
were also included in the total price submitted by the
drilling contractor. The rig moves between locations were
also on a lumpsum basis. The mud engineering and
solids control operations were undertaken by the contractor's in-house service, the supply of chemicals and mud
products were sub-contracted to a mud company. The
processing of the drilling waste and site clean up were
also included the package and sub-contracted to a company with local experience.
Full turnkeys, in which all consumables and services
were included (see Ref. 1.), were also undertaken supplying a cased hole to given depth, the completion of the
wells was undertaken on day rate.
To aid in the rig site management of incentive contracts a
monitoring system was introduced in the France district
to control three aspects of the drilling operation;
1 Tripping
2 Running casing
3 Making up and testing the BOP's
In Figure 2 the tripping times for the rig concerned have
been plotted for some wells in the Parisian basin. From
the spread of results the average tripping time per 100
meters was determined as was the optimum. Then using
the form, see Table 2, performance criterion were set for
each trip and the results reported. An improvement in the
performance was observed in each of the areas monitored.
1..-

SPE/IADC 21900

In other areas of the operating region of Europe and

Mrica, incentive contracts ranging from full footage (paid
only for the depth of deliverable hole produced) to modified footage (part paid on day rate and part on foota~e
drilled, see Ref. 4.) have been under taken. Contracts m
which a simple bonus or penalty is applied if given predetermined performance are achieved or not have also
been operated. The experience to-date has been that such
incentive contracts have been of benefit to ourselves as a
drilling contract through increase revenue per unit time
and to the operator from an overall reduction in costs for
the project,i.e. true win! win situations.

The acceptance of risk and in turn the quality of the fmal

product requires a shift in the thinking patterns of those
normally concerning a day rate contractor, in essence receiving and implementing orders to that of project team
with the objective to deliver a final product. The change
from what can be termed "Day Rate Mentality" to that of
"Project Mentality" is .essential if high risk incentive projects are to be successfully completed. On day rate contracts the onus of the Rig Superintendent is to ensure efficient and safe operation of the rig crew and rig equipment, on high risk incentive contracts is added to this the
responsibility for other third party services and for the
delivery of the completed product. The secret to attaining
success is not new, extra resources must be applied
linked to good planning and open and full communication
with all parties involved. It is also assumed that the increased cost for the extra resources required will be recoverable in the revenue gained from the project. This
raises a key point which is: responsibility must be linked
to the appropriate authority to make decisions on the operation. It is essential to develop within the rig site management the foresight to make the proper short term decisions that will result in the long term gain. On this point it
is vital that close communications are maintained both at
the rig site between the drilling contractor's personnel
and the operator's representative but also at the base level
between the contractor's rig manager and the operator's
drilling personnel to ensure a full flow of information and
to minimize problems.
This leads on to another very important component in the
successful operation of incentive contracts, the motivation of the personnel involved. The "human factor" is the
I most important variable in the overall efficiency of the rig
! site operation. Within a drilling contractor's organization
, there exists a wealth of experience in terms of drilling,
link this to extensive training programs and the result is a
professional team prepared to undertake their core business -DRll..LING. Under incentive contracts the motivationallevel of the drill crews is increased as there exists a
more direct avenue for them to utilize their knowledge
and experience than when operating under a day rate contract. On incentive contracts with particularly high risk elements the full input of the rig management is expected
and required on all aspects of the drilling programme and
its implementation. This motivation is further augmented
in monetary terms by the application of a bonus system
whereby .if the rig meets or improves on the predetermined performance part of the resulting bonus earned is
1 distributed to the crews.
...-L
30

SPEI lADe

T. GEEHAN and J.P. ROSPIDE

An integral part of incentive contracts, as in day rate contracts, is a safe and environmentally sensitive working
culture. Thus all incentive contracts contain a safety element, in that if there is a lost time accident then all or part
of the bonus payable to the rig crew is penalized. A
strong point can be made that efficiency is gained through
good planning and implementation not haste and omissions. The safety policy in use at the rig site is always
taken as the most stringent between the local governmental regulation, operator's requirements and the contractors
own. To the safety policy has also been added environmental audits to ensure compliance with environmental
regulations. The operation of incentive contracts must be
in such a manner as not to contravene safety and environmental policies.

ACKNOWLEDGEMENT
1?e auth.ors wish t~ thank all their colleagues for the asSIstance m preparatIon of this paper and to the rig crews
through whose effort incentive contracts have been successful. ~e authors wish to thank in particular both
Frank WIlliford and Alan Mckee of Sedco Forex for their
contributions to the discussion on incentive contracts.

REFERENCES
1 D.W. Marshall "Incentive Drilling Operations in
Remote Locations", SPE/IADC 18669, presented at the
SPE/ IADC Drilling Conference, New Orleans March
. '
1989.

SUMMARY AND CONCLUSION

There are benefits to be gained by both the drilling contractor and the operator from the use of incentive based
drilling contracts. The use of incentive contracts, in
which the drilling contractor is allowed to participate
more fully, promotes a move from equipment rental to a
drilling service with added value. The level of risk accepted by the drilling contractor should be such that the
potential upside gain and downside loss are in approximate balance. The incentive contract must be operated in
an atmosphere of open and full communication between
all participants with a willingness for the contract to be
successful. A win! win situation must be available for
both parties involved.
From a contract viewpoint it must be kept as simple as
possible to allow ease of application at the rig site. The
triggers for change from incentive rate to day rate and
back to incentive rate must be clearly sign posted. The
scope of work and allocation of responsibility for the
supply of drilling consumables has to be fully defined
within the contract. The acceptance criteria for work
completed has to be agreed and included in the contract,
particularly so in the higher risk type of incentives, these
milestones being points to allow payment for the work
completed.

2 J.P. De Wardt, "Drilling Contracting in the Nineties"

IADC/ SPE 19902, presented at the IADC/ SPE Drilling
Conference, Houston, February 1990
3 M. Mannering and A. Mckee "Technical Presentation"
internal Sedco Forex Schlumberger, Sept 1986
'

4 J.P. Cahuzac "Incentive - Type Contract Improves Rig

Performance", SPE/ IADC 16090, presented at Drilling
Conference, New Orleans, March 1987
5 T. Peters, "Thriving on Chaos, Handbook for a
Management Revolution", Pan Books 1987.
6 B.. Redding "Script of presentation at IADC Annual
Semmar on Contracts and Risk Management", Dallas,
Nov. 1990

The operator requesting incentive type contracts must be

aware that the cost for preparing the bid will be included
in the project price. The contracts should be bid in such a
manner as to allow the drilling contractor some possibility to gain ~rom im~roved.performance: If the margins become ~oo tIght the mcentIve starts to disappear (win! lose
scenano).
To create a win! win situation there must be a move tow~ds a system wherein there exists a spirit of partnership between the operator and drilling contractor, a move
away ~om the traditional buyer and supplier of service
mentality.
The contrac~ taken under inc~ntive terms MUST always
to operated m a safe and envIronmentally sensitive man-

ner.
31

SPE 21900
Table 1 Matrix to determine mode of operation
Incentive Rate

Day Rate

Ref

Operation

Drilling

Hole Opening

Running Casing

Cementing

Surveying

Formation Integrity test

Coring

Logging

Completlonsl Testing

10

Well Abandonment

11

Repairs

12

Miscellaneous waiting

13

Remedial operations

14

UnDroDnosed Formation Droblems

x
x
x
x

Note: Each of the sections can be further divided to give a more detailed system

Table 2 Control of Performance

CPERATOR

WELL NUMBER

REPORT NUMBER

DATE

RIG

CPERATION
1 TRIPPING

D D

D D

out in

5" 3 1/2"

Depth
Objective

hrs

mlns

Result

hrs

mins

Comment

2 CASING

D D

13318" 951S"

20" 13 318"

7"

Other

D
9518"

7"

Depth
Objective

hrs

mlns

hrs

mlns

hrs

mins

Result

hrs

mlns

hrs

mins

hrs

mins

Comment
3 BOP'S

13318 951S

D
41/2

N/U

NlD

Objective
Result
Comment
Name of Rig. Supt.

Signature

32

Other

SPE 21900

YES

CONTRACTOR
NO

INCENT IVE DRI LLI NG

PARTICIPATION

OFFSET
YES
I-DATA
AVAILABLE

'" DAYRATE
'" OTHER
INCENTIVE
PACKAGES

'" INCENTIVE
MODIFIED
FOOTAGE

< 100%

..--

" OTHER
INCENTIVE
PACKAGES

CONTRACTOR
CONTRACTOR
TO FURNISH
YES
TO FURNISH
,.--IALL SUPPLI ES
MOST SUPPLIES
NO & SERVICES
& SERVICES

..-NO

*
*

DEGREE OF
CONTRACTOR
100%
I.RESPONSIBILITY
FOR WELL PLANN ING
& CONTROL

i* FOOTAGE

INCENTIVE
MODIFIED
FOOTAGE
MODIFIED
FOOTAGE

* MODIFIED
TURNKEY

INCENTI VE SPECTRUM
INCREASING CONTRACTOR
PARTICIPA TlON

I
~ TURNKEY

FIGURE 1 INCENTIVE TYPES

WELL #3

o*
o

WELL #4-

.6.

WELL #1

WELL #2

00

o
c

*
"

AVERAGE
- - - - - -

"
FIGURE 2 RIG XX TRIPPING TIME: POOH

33

YES
~

OPTIMUM