In which type of contract does a contractor assume the greatest cost risk?

In a Firm-Fixed Price contract, the contractor agrees to deliver specified goods or services at a set price, regardless of the actual costs incurred during the project. This arrangement places the greatest cost risk on the contractor because they must manage and absorb any costs that exceed the initial fixed price. If the contractor encounters unexpected expenses or cost overruns, they cannot pass these costs onto the client; therefore, they bear the financial risk.

In contrast, other contract types distribute or mitigate the cost risk differently. For example, in Cost Plus Incentive Fee contracts, the contractor is reimbursed for their costs plus an additional incentive based on performance, thus they are less exposed to risk. Cost Plus Fixed Fee contracts similarly provide a guaranteed fee to the contractor and cover costs, reducing their risk exposure. Time and Materials contracts allow for reimbursement of labor and materials, again limiting the contractor's risk in terms of cost overruns.

Thus, Firm-Fixed Price contracts represent the scenario where contractors undertake the highest potential financial risk.