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The Guide to Construction Arbitration - Second Edition

Contractors' Claims, Remedies and Reliefs

Introduction

The international construction market is highly competitive. Following the financial crisis of 2008 and the steep decline in the prices of oil and gas that followed, with the exception of some government infrastructure projects, in particular in emerging markets, there has been a dramatic decrease in construction work worldwide, in particular for major contractors who specialise in large and complex projects.

Employers with scarcer resources are awarding projects on tight budgets and employer friendly contractual terms, often to contractors who undervalue their bids in order to win the project, resulting in cash flow issues, delays and substandard works. In recent years, this increasingly common recipe has led to a very contentious international construction market and numerous construction arbitrations.

Contractors are required to complete projects on time, at the required quality and at the agreed cost. Their ability to do that can be affected by a number of factors outside of their control and properly drafted construction contracts, tailored to a project's specific jurisdictional and logistical risks, provide relief to contractors when such events occur.

This chapter will discuss the claims, remedies and reliefs available to contractors in major construction projects, in light of some of the current challenges faced by contractors in the international construction industry, by reference to market practice, and one of the most commonly used suites of standard form construction contracts, FIDIC.

Firstly, it will discuss the circumstances in which claims for extensions of time arise, and the procedure to be followed when making such claims. Second, it will set out the conditions that give rise to claims for loss and expense, and the usual requirements that contractors must satisfy for their claim to be successful. Third, it will look at the circumstances in which variations, payment and force majeure claims can give rise to extensions of time, loss and expense, and termination. Fourth, it will briefly discuss the other circumstances that give rise to a contractor's right to terminate the contract, related procedural requirements and consequences. Finally, it will provide tips for contractors to mitigate their risks and exposure to project- and jurisdiction-specific claims in the current construction market, by reference to one of the most contentious issues in emerging market projects in the past few years, force majeure.

Extensions of time

In most projects, contractors are required to complete the project by a set date. Construction projects are often time-critical and delays to completion of a given project can result in significant monetary losses to the employer. For example, if the completion of a power plant or an oil refinery is delayed, it will have a direct effect on the offtake agreement and the project revenue stream, affecting the ability of the employer to repay the lenders. Accordingly, as will be further discussed in Chapter 7 of this book, construction contracts usually contain liquidated or general damages provisions under which the contractor is liable for delays to the project.2

Large and lengthy projects will generally be divided into milestones that the contractor must achieve by set milestone dates. In such circumstances, contractors are likely to also be liable for liquidated or general damages if they fail to complete the milestones by the milestone dates.

A multitude of events can delay a project, some of which are outside of a contractor's control. Accordingly, contractors cannot always be held responsible for delays and liable for the resulting losses. Depending on the governing law and the provisions of the underlying contract, a contractor may be entitled to claim an extension of time when such events arise.

Events that can give rise to an extension of time include:

  • acts caused by the employer or one of its representatives (including other contractors employed by the employer);
  • events outside of both parties' control and that are the employer's responsibility under the contract, such as force majeure events, material or goods shortages or delays caused by the authorities; and
  • variations to the scope of works.3

Typically, construction contracts entitle contractors to an extension of time if they can prove that the event caused delay to an activity that is on the project's or particular milestone's critical path (the critical path of a project or a milestone is the longest path of logically connected activities such that the sum of the individual durations of each activity equals the overall duration of the project or milestone).

Contractors will usually be required to provide notice to the employer, or its representative, of the delaying event. The clock will start ticking either when the delaying event arises, or more often when the contractor becomes aware, or should have become aware, of the delaying event.4

In construction contracts, compliance with such contractual notices will usually be a condition precedent to any claim for an extension of time.5 These contractual notice requirements are often referred to as guillotine provisions and are enforced strictly in common law jurisdictions, in accordance with one of the underlying principles of contract law, pacta sunt servanda or freedom of contract.

Some civil law jurisdictions take a hostile view towards condition precedent clauses and time bars. Contractors should, therefore, always check the legal position in their chosen jurisdiction.

In addition to the notice requirements, the contractor will be required to follow the procedure set out in the underlying contract in order to claim an extension of time. While it might vary depending on the contract, it will generally involve submitting detailed particulars and supporting contemporaneous records evidencing the entitlement to an extension of time.6 Contractors should negotiate the costs arising from such exercise with the employer when discussing clauses of this nature.

In order to produce particulars and records that satisfy the contractual and evidentiary hurdle for claiming an extension of time, contractors must ensure they have a good planning team.

Such particulars and records will generally be submitted to the employer's representative, who must, in consultation with the parties, make a fair determination of the contractor's claim.7

Contractors and employers should keep these records in the event either of them disagree with the employer representative's determination and the entitlement to an extension of time arises as an issue in future arbitration proceedings. During proceedings, such records will be required by the contractor to establish the existence of the alleged delaying event and by its appointed programming experts to provide opinion evidence on the impact that each alleged delaying event had on the contractor's ability to complete the works.

Employers may, by their conduct, waive some of the contractual condition precedents to claiming an extension of time with regard to one or more contractor claims. If such waiver is established, the employer may be estopped from denying an extension of time on the basis that the contractor failed to comply with those contractual condition precedents.

In common law jurisdictions, this principle is referred to as estoppel by conduct. It arises if (1) a party by its conduct (2) led the other to believe (3) it had waived or relaxed compliance with an obligation, and (4) the other party acted in accordance with that conduct (5) to its detriment.

In both civil law and common law jurisdictions, contracts can be concluded orally or by conduct and accordingly the employer's conduct leading to the contractor's belief it had relaxed the procedural condition precedents may constitute a variation to the underlying contract, having a similar effect as estoppel by conduct.

The ability to conclude an oral contract or a contract by conduct is limited if the underlying contract contains entire agreement, no waiver or no variations unless in writing provisions, in particular in common law jurisdictions where such provisions would be enforced strictly. In civil law jurisdictions, they would be enforced but may be balanced against overriding considerations of fairness and equity, which could have the same effect as estoppel.

Loss and expense

Claims for loss and expense cover all types of financial claims by contractors in construction disputes.

Claims for loss and expense arise when contractors can show that:

  • they suffered loss because of an employer breach of contract; or
  • they have an entitlement to additional money under the contract.

To successfully claim for loss and expense for breach of contract, a contractor needs to prove that (1) there was an obligation, (2) which was breached by the employer or its representatives, (3) therefore causing monetary loss to the contractor, and (4) that loss is not too remote.

Under English law, losses will not be too remote if:

  • a reasonable man would have realised losses of the same kind8 were a not unlikely consequence of the breach9 (referred to as direct losses); or
  • those losses may reasonably be supposed to have been in the contemplation of the parties at the time they entered into the contract10 (referred to as indirect or consequential losses).

The test for remoteness is very similar in other common law jurisdictions. In civil law jurisdictions, however, claimants are usually only entitled to those damages reasonably foreseeable at the time of execution, except in cases of gross negligence or fraud.

The ability to recover certain losses may also be limited by provisions of the contract. For instance, construction contracts often limit the parties' ability to recover indirect losses,11 except in case of fraud, deliberate default or reckless misconduct.

Events that may entitle contractors to additional money under the contract include acts of prevention by the employer or his or her representatives, variations and neutral events for which the employer is responsible under the contract.

Contractors will usually be required to follow the same procedure as for claims for an extension of time, and the same contractual condition precedents will apply.

The most common heads of claim are prolongation, disruption and acceleration. When a project is delayed because of an event for which the employer is responsible, the contractor is entitled to an extension of time, as discussed above, as well as any losses arising from the delay. These losses are referred to as prolongation costs.

Prolongation costs can include site and office overheads, financing charges arising from money borrowed to fund the project and loss of profit. To successfully claim for prolongation costs, contractors need to provide detailed particulars and evidence that each of the claimed costs were caused by employer delay. The contractor's ability to successfully claim the prolongation costs will also be subject to the rules of remoteness under the governing law of the contract.

In complex projects, when contractors experience difficulties proving the causal link between each alleged delay event, the actual delay to the project and the claimed prolongation costs, they are often tempted to combine all the alleged delay events into a global claim, instead of breaking down the delay and prolongation costs and linking them to specific delay events. Because of the lack of causal link, global claims seldom succeed, in particular when heard before an experienced and robust arbitral tribunal.

Claims for general disruption arise from the assumption that contractors arrange the activities required to complete a project in an efficient sequence. On that assumption, any event that affects the sequence of the works can lead to inefficient use of plants and manpower, which in turn would increase the costs of completing the project. When the employer is responsible for such events, a contractor is entitled to recover those costs.

Claims for disruption are generally difficult to prove. Contractors must show that the additional costs are caused by events the employer is responsible for instead of the contractor's inefficient practices.

The most commonly used method to prove disruption costs is the measured mile method, where the contractor compares the efficiency in the disrupted section of the works with the efficiency in an identical unaffected section. It will only work, however, when the contractor is able to identify an identical unaffected section of the works.

Acceleration claims are also fairly common in construction arbitrations. They can arise when:

  • the employer instructs the contractor to complete the works within a shorter period than originally required under the contract (referred to as express acceleration); or
  • because of one or more events for which the employer is responsible, the contractor must perform more work or delayed work within the same period (referred to as implied acceleration).

The contractual procedure to instruct acceleration and claim for costs arising from acceleration will generally be the same as for variation claims.

Claims for implied acceleration are rare and difficult to prove. They cannot arise in parallel to extension of time and loss and expense claims made because of the same event. They are generally only successful in circumstances where a contractor has incurred costs when successfully mitigating all the delay caused by an event the employer is responsible for.

Variations

Employers will often want the ability to make changes in a project. Those changes may arise from potential buyer or end user requirements, changes in technology or aesthetics concerns.

Properly drafted construction contracts will provide a sophisticated mechanism allowing:

• employers to make changes to the scope of the works after the contract is executed; and

• contractors to be awarded an extension of time and payment for costs arising from those changes.

In order to claim an extension of time or payment for additional costs, the contractor must follow the procedure set out in the contract. Upon request from the employer, a contractor will generally be required to submit a proposal containing any additional time and costs claimed, together with all supporting documentation.12

As for other claims for time and costs, the time and costs effect of a variation, if not agreed between the parties, will usually be determined by the employer's representative13 and be subject to any contractual condition precedents, such as notice requirements. In addition to time-related costs, contractors are usually entitled to any additional labour and material related costs that arise from the variation, subject to any contractual or legal limitations on liability.

The contractor should, of course, ensure that the supporting documentation includes all documents required contractually and from an evidentiary perspective to prove their entitlement to additional time and costs.

Force majeure

Events outside of the parties' control may arise during a project, affecting the contractor's ability to perform his or her contractual duties. A force majeure clause excuses non-performance by a contractor of his or her contractual obligations when impossibility results from a cause stated in the contract. Such causes are typically defined as an event or act that:

  • is beyond the reasonable control of the contractor;
  • was not reasonably foreseeable at the time of entering the contract;
  • could not have been avoided;
  • is not attributable to the employer; and
  • prevents the contractor from performing its obligations under the contract.14

Often, force majeure clauses may also specify a descriptive list of events such as war, terrorism, civil unrest and severe adverse weather conditions, which will be deemed to be force majeure events if they also comply with the conditions above.15 Force majeure clauses may also exclude particular events from the scope of force majeure in order to allocate liability in advance for such events.

To successfully claim force majeure, the contractor must prove that a force majeure event exists and that it is preventing performance,16 temporarily or permanently. What constitutes 'prevention' in this context will depend on the wording but also on the governing law of the contract. For instance, under English law, the prevention must be legal or physical. A contractor will not be able to claim that it was 'prevented' from performing the contract just because the cost of performance has increased above what was originally anticipated.17

As with other claims, the contractor must also comply with contractual condition precedents, such as notice provisions. Again, failure to comply with such contractual condition precedents may or may not have a debarring effect.

If successful, a contractor may be entitled to a graduated range of remedies, including extension of time, loss and expense, suspension of performance, termination of the contract and consequential provisions.

A contractor will typically be entitled to an extension of time for delays arising from being 'prevented' from performing his or her obligations under the contract. However, he or she will generally be under the obligation to minimise any such delay.

While some standard form contracts such as FIDIC18 provide contractors with the ability to also claim for loss and expense (time-related costs, as well as costs of remedying the works due to loss or damage caused by a force majeure event) in some circumstances, in practice, construction contracts generally allocate cost-related risks of force majeure events to contractors.

In the event of a prolonged force majeure event preventing the execution of substantially all the works, contractors may be entitled to terminate the contract.19 If so, the force majeure clause will set out the length of force majeure before termination becomes available and the payments that must be made if the contract is terminated. Very often, the approach to termination is the same as with termination for convenience. However, any 'termination payment' may either exclude or limit greatly the amounts that may be paid or amount of loss of profit for the balance of the contract.

Payment

Non-payment or late payment claims are also very common contractor claims that arise in construction projects. In the current market, contractors often price their bids on a very tight margin and non-payment or late payment can quickly eat into their margin, in particular when a contractor has financing obligations.

The effect on the contractor's and subcontractors' cash flow can strongly hinder their performance and the contractor's ability to perform its obligations on time and at the planned cost, if at all.

Construction contracts usually require employers to make payments to contractors periodically, in accordance with an agreed schedule of payments.20 Before each payment is made, contractors must submit contractually compliant interim payment applications showing in details the amount they consider themselves to be entitled to together with supporting documentation evidencing the progress to the works against which payment is claimed.21

The employer must pay all duly justified payments, subject to any deductions it is entitled to make under the provisions of the contract22 (such as deductions for defective works, for instance). If the employer fails to pay the contractor by the prescribed deadlines without any valid justification, the contractor will typically be entitled to financing charges incurred because of such delay.23 Any prolonged failure may entitle the contractor to suspend work and, in extreme cases, terminate the contract.

In order to suspend the works or terminate the contract for non-payment, the contractor must comply with the procedure set out in the contract, including any notice requirements. The suspension and termination provisions of the contract will generally set out the length of notice before suspension and termination become available.24

Contractors will generally be entitled to an extension of time and associated time-related costs for delays arising from such suspension of the works, subject to the requirements set out in the 'Extensions of time' and 'Loss and expense' sections set out above.

Termination

Contractors generally have relatively limited termination rights in construction contracts. In addition to the circumstances set out in the 'Force majeure' and 'Payment' sections above, contractors are typically entitled to terminate a contract:

  • for a failure by the employer to submit reasonable evidence of financial arrangements demonstrating ability to pay the contract price;
  • if the employer substantially fails to perform, or materially breaches, its obligations under the contract;
  • for a failure by the employer to enter into a contract agreement in accordance with the contract or the prohibition on assignment;
  • if the employer engages in corrupt or fraudulent practice in relation to the contract;
  • for a prolonged suspension of the works instructed by the employer or his representative; and
  • for employer insolvency.25

Provided a prescribed reason arises, and the contractual procedure is followed, a contractor will be entitled to terminate the contract.

The consequences of termination will be prescribed by the contract and will generally include, on the one hand, payment of sums due and return of performance security to the contractor and, on the other hand, handing over of plants, materials and documents paid for to the employer, and removal of all other goods from site.26

As will be further discussed in Chapter 7 of this book, employers have generally more extensive termination rights. While a valid termination for default may have disastrous consequences for contractors, a wrongful termination may entitle them to payment for all the profit they would have made under the contract but for the wrongful termination and the cost of demobilisation.

Mitigating project- and jurisdiction-specific risks – force majeure claims

Large and complex projects require subcontractors in a variety of technical disciplines and providers of technology and commodities required to build the project. The larger the project, the more such third-party subcontractors and providers will be required – in complex projects, this will often involve numerous third-party subcontractors and providers from multiple jurisdictions with different and often inflexible acceptable risk profiles.

Given that force majeure claims have seldom arisen in the previous decades in politically and economically stable, developed and technologically advanced countries, contractors tend to treat force majeure provisions as mere boilerplate provisions, agreeing unsuitable and inconsistent force majeure provisions across their project agreements.

Given the extremely dynamic and changing political, economical and social landscape in many emerging jurisdictions in the past few years, there has been a dramatic increase in force majeure claims, often resulting in arbitrations, owing to the lack of properly drafted force majeure causes, untailored and unsuitable to the specificities of the particular complex construction project and the project's jurisdiction.

The various project agreements a contractor is party to are often governed by different laws (typically, a combination of the local law and English law where, for example, some subcontracts and purchase orders may be governed by English law, or laws derived therefrom, while the main construction contract may be governed by local law). This can lead to potential inconsistencies in the interpretation of force majeure provisions, even where the actual wording of the force majeure provisions is identical.

The absence of a consistent force majeure approach across all its project agreements can have serious consequences for a contractor. For instance, a force majeure event that prevents a subcontractor from performing its obligations, in turn preventing the contractor from performing its obligations under the main construction contract, causing delays to a milestone or the completion date, will generally result in the contractor being in breach of its time obligations to the employer – the consequences of which, as further discussed in Chapter 7, may range from liability for liquidated damages to termination of the contract and consequential costs. Force majeure events can have extremely serious time and cost effects on a project and therefore on the contractor's financial health and solvability.

In addition, if the force majeure provisions in its various project agreements are not symmetrical and there are significant gaps in liability retained by the contractor, it is very unlikely that it will be able to get financial support from lenders – and therefore the healthy cash flow necessary to complete the project within the agreed time, quality and cost.

The inter-related nature of the contractor's project agreements, as well as any relevant local law issues, should be carefully considered by contractors at the outset to ensure that the various force majeure clauses in all its project agreements have an identical effect – enabling the contractor to pass on employer claims down the chain.

Many contractors suffered heavy financial consequences and went into liquidation because of inadequate force majeure provisions in their project agreements. However unlikely the risk, contractors should always ensure liability arising from events outside of their control is passed down to the subcontractor or provider who has control over those events, and that suitable, detailed and tailored mechanisms are included in all their project agreements to address any claim that might arise in the project, however unlikely it is that the claim may arise.


Footnotes

1 James Bremen is a partner and Leith Ben Ammar is an associate at Quinn Emanuel Urquhart & Sullivan LLP.

2 See, for example, Clause 8.8 of the FIDIC Yellow Book.

3 See, for example, Clause 8.5 of the FIDIC Yellow Book.

4 See, for example, Clause 20.2 of the FIDIC Silver Book.

5 See, for example, Clause 20.2 of the FIDIC Silver Book.

6 See, for example, Clause 20.2 of the FIDIC Silver Book.

7 See, for example, Clause 3.5 of the FIDIC Silver Book.

8 Overseas Tankship (UK) Ltd v. Morts Dock & Engineering (The Wagon Mound, No. 1) [1961] AC 388.

9 C Czarnikow Ltd v. Koufos (The Heron II) [1969] 1 AC 350.

10 Hadley v. Baxendale (1854) 9 Exch 341.

11 See, for example, Clause 1.14 of the FIDIC Silver Book.

12 See, for example, Clause 13.3 of the FIDIC Silver Book.

13 See, for example, Clauses 3.5 and 13.3 of the FIDIC Silver Book.

14 See, for example, Clause 18.1 of the FIDIC Red Book.

15 See, for example, Clause 18.1 of the FIDIC Red Book.

16 See, for example, Clause 18.1 of the FIDIC Red Book.

17 Fairclough Dodd & Jones Ltd v. JH Vantol Ltd [1956] 3 All E.R. 921.

18 See, for example, Clause 18.4 of the FIDIC Red Book.

19 See, for example, Clause 18.5 of the FIDIC Red Book.

20 See, for example, Clause 14.4 of the FIDIC Silver Book.

21 See, for example, Clause 14.3 of the FIDIC Silver Book.

22 See, for example, Clause 14.6 of the FIDIC Silver Book.

23 See, for example, Clause 14.8 of the FIDIC Silver Book.

24 See, for example, Clauses 16.1 and 16.2 of the FIDIC Silver Book.

25 See, for example, Clause 16.2 of the FIDIC Silver Book.

26 See, for example, Clauses 16.3 and 16.4 of the FIDIC Silver Book.

Practical insight from experts on the ground