UK: The Use Of Standardised Construction Contracts - The Benefits To Employers And Contractors In An Uncertain Economy

Last Updated: 4 March 2010
Article by David Savage

Introduction: The nature of construction projects

There are certain features of a construction project that create particular challenges and risks for developers and contractors alike. In the first place, no two developments projects are exactly the same. Large sums of money must be committed over time frames that may span many years. There are many variables (such as ground conditions and future material prices) that can be impossible to accurately predict in advance yet can have an enormous impact on the ultimate cost and duration of the project. Furthermore, the technical designs can be enormously complicated and require carefully co-ordinated interaction between numerous specialist subcontractors and design consultants.

It is no wonder therefore that the construction industry has been traditionally beset by disputes and insolvencies, particularly during difficult economic times such as those we continue to experience at this time.

Standard contracts to the rescue?

In order to manage and mitigate these risks, the use of standardised construction contracts has become commonplace. Standard form construction contracts attempt to impose some certainty regarding the consequences of future events and to appropriately allocate risks as between employer and contractor.

Standardised contracts also allow contractors and employers from different countries to negotiate from a common starting point, irrespective of the location of the intended works. In order to ensure that the standard form contracts are acceptable to both parties, it has therefore been considered important for the contracts to achieve a fair balance between the rights and obligations of the parties.

Introducing FIDIC

The most common suite of standard form construction contracts used in relation to international contracting are those produced by FIDIC, otherwise known as International Federation of Consulting Engineers (the acronym stands for the French version of the name). FIDIC contracts have been used throughout the Middle East for many years.

The best known of the FIDIC contracts are the Red Book (for works designed by the employer) and the Yellow Book (for works designed by the contractor). There is a Short Form of Contract for relatively small or simple projects and FIDIC also publishes model agreements for professional services.

FIDIC is an international organisation representing the consulting engineers and, not unsurprisingly, the engineer usually takes centre stage in administering any FIDIC contract (although the engineer has been given less power in recent editions of some of the contracts).

Another trend over recent years in the world of FIDIC has been a move to pass responsibility for settlement of disputes away from the engineer in favour of "dispute boards", whereby board members are given jurisdiction to hear and advise the parties on issues and disputes as they arise. This move addresses previous criticisms that the engineer was not sufficiently independent (and might even be blameworthy himself for the circumstances behind a claim or dispute). However, dispute boards have themselves sometimes been criticised as expensive and unnecessary.

Playing fair

In addition to its widespread familiarity within the international construction market, a key advantage of the FIDIC range of contracts has been the generally accepted fairness of allocation of risk under the forms as between employer (i.e. client) and contractor.

The starting principle here has been that any particular risk should be borne by the party best able to manage it, such that the contractor should take the construction risks which he can reasonably estimate, while the employer should take the risks of the unforeseen circumstances which cannot be accurately assessed in advance. This approach means that the employer only pays for those circumstances which actually arise, rather than potentially paying a large premium for the contractor to cover all potential risks via adverse pricing.

Consequently, there was some consternation from contractors when FIDIC broke with this tradition in 1999 by publishing the Conditions of Contract for EPC Turnkey Projects (more commonly known as "the Silver Book"). This contract expressly passes additional risks to the contractor in order to increase certainty of price, time and performance for the employer. FIDIC's justification for moving away from its traditional approach was to observe that many privately financed employers needed greater certainty of final price and completion date and were prepared to pay a premium to contractors in return. FIDIC says it is simply responding to market demand by providing a contract that reflects this increasingly common commercial arrangement.

An impossible dream?

Of course a perfect balance of risk may be an impossible dream, as there will almost always be some imbalance between the negotiating strength of the parties (in terms of both financial clout and, perhaps, legal sophistication). In every case it is important that parties choose the appropriate contract for the job and consider whether amendments should be made to suit the particular circumstances and risk profile of the project. It is also important to note that the governing civil code articles in Middle Eastern jurisdictions can sometimes override the express contractual terms.

In the current buyer's market, there is a temptation for employers to exploit their position and seek to impose onerous contract terms on contractors. However, employers should be aware that wholesale transfer of risk onto a contractor is likely to lead to either an unnecessarily steep increase in tender prices or, if the unlucky contractor does not accurately price the risk, an increase in claims and disputes (and raise the potential risk of contractor insolvency). Many employers may feel that neither scenario is ultimately in their best interests.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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