At a training center funded by the Norwegian Agency for Development Cooperation in Banju, Tanzania, students undergo a two-year vocational education to prepare them for employment. Results-based aid financing has significant impact in expanding access to services in developing countries. Photo by: Norwegian Agency for Development Cooperation / CC BY-NC-ND

Work in the global development sector is becoming ever more results focused. With aid flows now a $135 billion industry, the need to demonstrate impact and success to a skeptical public in developed countries is becoming a real priority.

It’s not surprising therefore that donor agencies are increasingly using new approaches and funding strategies, disbursing aid only if outcomes actually improve. Payment by Results — or PBR — is one approach donors such as the U.K. Department for International Development, the Norwegian Agency for Development Cooperation and a number of big private donors are testing out, in both bilateral aid to national governments, as well as to development actors and implementers in the field.

The ability to understand and manage a PBR contract is becoming a key competence required by any development and humanitarian aid organization hoping to access this new funding modality. As many institutional donors continue their drive toward results orientation and accountability, PBR contracts are quickly becoming a major source of funding.

Between September 2012 and 2013, 71 percent of DfID contracts, for example, already included a performance-related pay element. This funding trend has increased since and will continue doing so. It affects organizations working across almost all development thematic areas, although donors have largely tested the approach so far on major education, health and environmental program initiatives.

But what exactly is a PBR contract and how can nongovernmental organizations, social enterprises and other global development and humanitarian aid actors manage them efficiently and effectively?

A PBR contract pays the contracting party after the intended results have been achieved, or in other words, cash on delivery. The most important difference to traditional grant funding is that PBR contracts set key targets between a donor and contractor and only reimburses the contractor for results actually delivered. Typically, the donor will not advance any funds.

The PBR concept is, of course, something we are all familiar with in our day-to-day lives when negotiating and paying for work done — or in some case withholding payment if work is not finished or is substandard. After all, you only pay your plumber, mechanic or pizza home delivery after you have received the goods or services. It incentivizes, promotes quality and supports timely delivery of final outcomes.

The key focus of any PBR contract is the so-called Payment Milestone. This milestone is the event that qualifies the contract holder to receive funds. Such milestones could be outcomes, outputs or completed activities. So-called hybrid contracts use a mixture of these milestones.

The good news

A PBR contract provides the contractor with more freedom to achieve the intended outcomes and results, with the contractor responsible for choosing its own path toward delivering on targets. Unlike grants, donors paying by results are typically less prescriptive and less “hands on” in terms of detailed guidelines and rules governing the timing and methodology the contractor uses to deliver the project.

This means, for example, that an NGO holding a PBR contract can be far more flexible and responsive to changing circumstances. Another advantage is that PBR contracts usually generate less of an administrative and reporting burden — but only if the contract has been negotiated well in advance with the donor. Furthermore, if the contractor succeeds, it can use any income surplus to reinvest in building the program and organisation, ensuring its financial sustainability and future growth.

The risks

Like all donor funding, PBR contracts impose some — considerable — risks on the contractor.

The biggest risk, of course, is that you might not get paid: If your payment milestone is not achieved for any reason, the donor may not pay you. This imposes a material financial risk. It is worth remembering, however, that monies advanced under a traditional grant model can also be claimed back by donors if the work contracted is not delivered.

The next risk is cash flow. Because activities and equipment need to be prefunded, this can be a challenge for NGOs without healthy reserves, access to unrestricted funding or other forms of financing. It is therefore crucial to plan cash flow carefully — otherwise, you might run out of money halfway through the project. Unsurprisingly, the contractor’s ability to plan for this and being able to evidence prefinancing capacity is a critical evaluation factor for donors in this respect.

What’s a result?

Another major, but often-overlooked risk, relates to definitions used in the control of PBR contracts: What actually is a result?

It is important to be very clear in the contract about what exactly constitutes evidence of the completion of any given result milestone. Any dispute over the nature, quality or quantity of how a result is evidenced may lead to lengthy negotiations, during which time payment may be withheld. Clarity from the outset is therefore crucial.

Finally, you should be very careful to define only those milestones that are achievable. Some projects are inherently risky and unpredictable, making the resulting cash flow unpredictable too. This can only be smoothed by having clear outputs and results defined that are fully under your control.

These risks need to be managed. Here are six top tips for doing so in practice:

1. Controllable outputs.

The payment milestones should never include results that are not 100 percent under your control. Ensure that results are defined as clearly quantifiable, verifiable and achievable outputs. This should be a fixed precondition upon entering negotiation with the donor. Make sure you communicate this clearly from the outset.

2. Get the right people.

The ability to negotiate well, with a sound commercial attitude and approach, is critical to ensuring the project’s realistic success profile. All parties to the contract — donors, partners, suppliers, partners and all project staff — need to fully understand what constitutes success for the project and what the key deliverables are. Remember that delays in delivery means a delay in getting paid.

3. Plan your cash resources.

Running out of money halfway toward a milestone not only risks the contract being terminated, it will also impact badly on your organization’s reputation and future ability to tender and compete for this kind of funding. It is therefore vital to be clear about the available and dedicated cash reserves to prefinance any PBR project.

Create a phased budget plan and use it to authorize and keep in check all expenditure. You may also wish to obtain a professional cash-flow forecast to support planning and project administration.

4. Arrange prefunding.

Your organization may not have the necessary reserves or unrestricted income to prefund work until the first payment for interim milestones are received. However, that does not mean that you cannot tender and compete for the contract. Prefinancing can be obtained by teaming up with other organizations, through a cost-effective bank loan or financing facility (increasingly common in the sector from banks and other private sector agencies — although be sure to plan for the interest costs), or even by negotiating a shorter milestone period with the donor.

5. Conduct thorough negotiations.

Like any contract, clear, concise and open negotiations are key to a successful project. Unlike other contracts, your PBR-funded project will almost certainly fail if there are any ambiguities regarding the results, payment modalities or time frame. The contract also needs certain clauses inserted, such as a “get-out” or “force majeure” clause if circumstances outside your control make the project unviable.

6. Remember, it’s up to you.

This funding is still experimental for both donors and recipients — be creative and don’t be afraid to play “hard ball” with the donor to ensure you minimize the risk and maximize the flexibility this funding can offer.

Any NGO wishing to access the growing funding channeled through PBRs needs to develop the capacity to successfully attract and manage them.

If managed well, they are a good way to advance your mission, obtain the required funding, build sustainable programming, incentivize staff and partners, and showcase your organization as a “safe pair of hands” to manage this increasingly significant type of fund.

Despite continued uncertainty — and even naked hostility — from some within the development community, PBR funding and contracts are here to stay.

Do you think PBRs are here to stay? What’s your experience of working with them? Have your say by leaving a comment below.

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About the authors

  • Chris Meyer zu Natrup

    Chris Meyer zu Natrup is the founder and director of MzN International, a development consulting firm that provides innovative advice and business support to NGOs and international organizations. Together with his team, he researches how innovation and business principles can move the sector to become more sustainable, efficient and effective. He trained as a chartered accountant and holds a master’s degree in international relations. Chris regularly writes about innovations in global development and aid on his blog,
  • Dermott McDonald

    Dermott McDonald leads the funding advisory team at MzN International. He focuses on fundraising and strategic advisory for development and humanitarian aid organizations, helping them make sense of the complex institutional funding environment and advising them how to secure institutional funding. Prior to joining MzN, Dermott has worked in senior roles for a number of prestigious INGOs leading teams focused on large institutional grant acquisition and management, as well as supporting INGO strategy and programme development in Africa, Asia, Latin America and Eastern Europe.