Industry trade

Keep the construction sector healthy with a fair distribution of risks. Which contractual conditions matter most to the bottom line of a project? | Dentons


Could the construction industry hurt itself with contracts that go too far?

Some argue that you can only have a healthy, sustainable industry if you keep the contracts fair and balanced. If you start to shift risk inappropriately, history shows the industry is in trouble.

But to what extent is the use of special conditions too important?

Not all special conditions result in an unfair transfer of risk. Certain special conditions will always be required to deal with questions specific to the project or site.

In my experience advising on troubled projects, there are certain contractual conditions that will create more cutbacks on project margins – or create this compression by their absence – than all others.

Consider these common special conditions:

Time bars

A conditional limitation clause may provide that a contractor loses the right to make a claim if the required notice is not given within the specified time.

Construction contracts spread the risk by identifying certain issues that the contractor is entitled to claim, if those risks materialize. The trade-off is that the principal does not have to pay for risks that do not arise, as it would be too costly for all risks to be assessed by the entrepreneur from the outset. However, it is so common, even on the largest projects, to experience poor deadlines and inadvertently lose contractual rights.

The consequences can be significant. In some cases they can be very unfair, especially when the principal has asked the contractor to change the scope or requested additional items and the contractor is not entitled to be paid for these work just because he didn’t get his notice on time.

The justification given for time bars is that:

  • The contractor should not be able to keep the receivables and then consolidate the principal with a huge debt at the end of the project. This makes it difficult, if not impossible, to manage budgeting and cash flow, including for government.

  • Principals need to know how much a variation will cost, so that they can change their minds about whether to educate and / or mitigate the impact.

It all sounds reasonable. But that is not how it works in practice. In my opinion, delays are one of the most contributing factors to a contractor’s inability to collect their claims.

At the time of tendering, it can be difficult for contractors to extend deadlines because their justification is reasonable and the theory is that with appropriate resources they should be able to be managed. But we don’t see them being well managed at all levels of the industry.

What is the solution ? Probably a combination of:

  • In fact, using the mechanism already present in clause 5.21 which allows for a proportional reduction of the contractor’s claim if the principal can demonstrate that the problem would have been avoided or reduced if the notice had been received earlier.

  • Make sure the deadlines are reasonable.

  • Limit the provisions relating to conditions precedent to the initial notice only, and not to the full justification of the complaint, which may take time to set up and require contributions from third parties, such as contractors or programmers forensic.

  • Entrepreneurs step up their game by giving advice. This requires the acceptance by the principal and his project managers that the notification is not an “act of war”, but a necessary step to preserve contractual rights.

Simultaneous delay

NZS3910 is silent on concurrent delays, which means that the common law position described in the Construction Law Delays and Disruptions Protocol applies. That is: when a delay event of a contractor takes place in parallel or at the same time as a delay event of a principal, the contractor is entitled to an extension of time, but without fresh. This position recognizes that the contractor should not be required to pay damages for his own delay, when he could not have avoided the delay anyway, because the principal responsible for the delay was occurring at the same time. time. However, the entrepreneur is not entitled to recover the time costs due to his own delays. A completely correct position.

Many contracts now include special conditions that modify this position and prevent the contractor from accessing an extension of time at any time when there is a competing cause of delay attributable to the contractor. The entrepreneur is generally only entitled to an extension of time, insofar as the delay of the principal exceeds the delay of the entrepreneur. In effect, this means that the entrepreneur is obliged to pay damages to the principal at a time when the principal is also late.

When a project is significantly behind schedule, it is rare that there is only one cause of delay, or only one responsible, for the entire duration of the delay. Perhaps due to the absence of any provision in NZS3910 dealing with concurrent delays, many contractors do not understand the importance of these special conditions and the impact they may have on their ability to request an extension of time. . If delays are the main cause for loss of project rights, I would suggest that competing delay clauses may be the second most important in terms of denying the contractor the right to an extension of time.

The consequences of failing to obtain an extension of time are, of course, the payment of damages.

Limit of damages

The emphasis is on uncapped liability in NZS3910, which puts the NZ at odds with the international market standard. This is certainly important, but perhaps more important to a contractor is a cap on damages, as this is where the project margin can quickly erode. If the industry as a whole is serious about ensuring that the industry remains healthy and sustainable and has enough headroom to retain and invest in its people, setting a cap on the market standard for damages is a must. an important step.

Managers may argue that the damages cap deprives them of the “stick” they need to ensure that the contractor has the incentive to complete the work as quickly as possible. It ignores the business reality that time is money. Every day that a contractor spends on-site for a delayed project is a day that they don’t spend to make money on the next project.

Contractually, this concern is sometimes addressed by providing that the principal can terminate the contract if the contractor exceeds the limit for damages. It’s a huge stick. With the threat of termination, an entrepreneur will most certainly be enticed to terminate. This should also be sufficient protection for the principal, although termination should not be taken lightly. It will be rare for the project to be completed faster if the principal has to hire a brand new contractor and that contractor is unlikely to be ready to give a guarantee when approving the work of the previous contractor.

Purchases of subcontractors

The role of a prime contractor is to plan and manage the work, hire the necessary specialized subcontractors and sometimes to self-execute certain parts of the work. It is a complex role and on several levels. In a fixed price environment, the prime contractor takes the risk of cost overruns by subcontractors and is also typically required to provide comprehensive warranties and approval for all work – even the parts of the work that are required. ‘he has outsourced to others.

It is therefore essential that prime contractors retain control of the subcontractor procurement process to ensure that they can control time, cost and quality.

Many contracts now contain special conditions requiring the principal or engineer to play a greater role in overseeing the procurement process of subcontractors and in some cases the final decision on procurement is taken by engineer or principal.

However, these parties cannot choose the same subcontractor as the prime contractor. A prime contractor is not incentivized by more than cost alone, as he may not be ready to accept the lowest price offer, if he has never worked with that subcontractor before, or s ‘it has not been proven to perform well.

Customers who have entrusted the risk of cost overruns and quality management to the prime contractor have a greater incentive to make purchasing decisions on cost alone.

I can’t think of an example where a procurement process led by a manager or engineer ended well. The driving force behind including special conditions for this seems to be the suspicion that entrepreneurs are making super-profits on outsourcing margins and that principals are understandably unwilling to pay for excessive margin. Obviously, the events of the past few years have shown that these arrangements are unnecessary as very few entrepreneurs make super profits, especially on projects that are heavily outsourced and not self-executed.

Conclusion

Balance and equitable risk sharing is a state that most industry players surely hope for. But in the absence of careful use of these special conditions, it is not difficult to foresee a real and serious risk for the industry of being out of balance. Sometimes you have to tilt the scale as you go.



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