Articles

SEPTEMBER 2020

INTRODUCTION

The term ‘Force Majeure’ – along with COVID- 19, furlough, and social distancing – is now firmly in the zeitgeist of 2020. No more so is this true than in the construction industry, where the scope and breadth of force majeure provisions have the potential to severely disrupt the US$10 trillion-dollar per annum industry that contributes 13% to overall global GDP.

With these numbers in mind, the significance of force majeure to the global construction industry cannot be overstated.

The global COVID-19 pandemic as a force majeure event is conceptually simple to grasp; nobody could reasonably have foreseen the pandemic or the scale of its effect.

Typical construction contract’s may or may not cater for the pandemic as a force majeure event, but to the ordinary bystander COVID-19 is likely to be a force majeure event and likely considered to be an exceptional event or circumstance.

This article has been drafted by authors from the comfort of dining tables, couches, and hastily purchased Ikea desks in homes across Dubai, Hong Kong, Brisbane, and London. For some, this has been the ‘new normal’ since the middle of January 2020, and a little later for others.

Although implemented to varying degrees across the world, most people have been subject to some form of lockdown policy; their freedom of movement curtailed to control the spread of COVID-19. This naturally extended to the enforced closure of much of the office buildings in all major cities across the world.

It is now September 2020, some nine months after the first effects of the pandemic were felt by most, and the green shoots of recovery are visible; life is inching slowly towards what was once considered normal. But what happens if, as some predict, COVID-19 returns? A second and third wave resulting in further lockdowns and restrictions on movement? Of course, the chief impact of COVID-19 is that it affects people’s health and can lead to loss of life and bereavement. Our focus in this article does not make light of the gravity of these impacts, and we are considering here what might be thought of as economic impacts for the construction industry, though it should be borne in mind that these impacts ultimately affect people’s livelihood and, indeed, lives.

It appears to us that the effects, which have been considered in many recent articles to live projects are either to navigate the contractual machinery or re-negotiate the terms to embrace and deal with the effect of COVID-19.

In this article, we consider in more detail how tendering contractors and employers might seek to manage the risk of a subsequent wave of COVID-19.

ACKNOWLEDGE THE RISK

Whilst we can say with conviction that we did not foresee COVID-19, we cannot apply that same conviction to any subsequent wave. There are some that argue a second and third wave is inevitable, indeed some countries are already actively dealing with further outbreaks in Asia and as we draft this there is a further spike evolving in Europe. Whether or not a subsequent wave materialises on a global scale is somewhat academic because what is clear and indisputable is that any subsequent wave is more likely to be considered foreseeable to a greater or lesser degree.

It therefore appears that in future construction contracts, prudent parties – contractors and employers alike – may wish to acknowledge the existence of that risk. It is a very real risk with considerable consequences that need to be managed proactively. How do you manage a risk such as COVID-19, where very limited historical data exists?

Firstly, two points of caution to consider:

• It is not advisable to ignore the risk. It does exist, it is real, and if it materialises it will likely adversely affect your construction project; and
• It is also not advisable to allocate all of the risk to the It may now be a foreseeable event, but the consequences are not foreseeable. In the absence of any historical data on which to assess the likely impact of the risk materialising, the contractor will have no choice but to estimate the total cost impact of a second or third lockdown. In effect, the tender price may likely include a significant premium for the risk of a second/ third wave lockdown – an event that may or may not happen. And the suffering contractor will still likely make a claim for additional loss and expense.

RISK ALLOCATION

If a subsequent wave is likely a foreseeable event, how might parties to a new construction contract manage and allocate that risk?

Can it even be a force majeure event if it is foreseeable? No matter how we define the event, how is it valued?

The answers to these questions will likely be debated and considered by parties all around the world in the coming weeks, months, and years as we all adapt to life under the shadow of COVID-19. This article is not a panacea to those discussions; all construction projects are unique and will need to be considered on their own unique set of circumstances. This article is a brief look at some of the measures that employers and tendering contractors might consider to proactively manage the risk of a second or third wave, which could include some or all of the following:

• To define a second or third wave as a recognised force majeure event;

• The use of a Provisional Sum to manage the cost of the risk;
• The use of the contract Variation mechanism; and
• Implementation of liquidated daily

DEFINE A SECOND OR THIRD WAVE AS A RECOGNISED FORCE MAJEURE EVENT

As Chartered Quantity Surveyors with a vast collective experience in the construction industry, and in dealing with construction-related disputes, it is with some reservation that we recommend implementing any fundamental change to a standard form contract, but we are living in truly exceptional times. For the parties to allocate the risk of a second or third wave the event must be specifically defined as a force majeure event. More than simply defining the event, the parties would need to devise a ‘trigger’ mechanism for the event i.e. by what measure or criteria is a second or third wave adjudged to have started? And by whom?

One practical solution might be to name a specific (external) authority, such as a government department or supranational agency such as the World Health Authority (WHO). The identity of the authority would need to be tailored to specifically take account of the location and nature of each individual project.

One needs only to consider the different approaches to the COVID-19 lockdown implemented within the borders of the United Kingdom (UK) to appreciate the complexities of establishing a workable trigger mechanism for the event. Despite the UK occupying a land mass of less than 100,000 square miles, Westminster in England and the devolved governments of Wales and Scotland, none of which has a hard border, each implemented different restrictions upon the day-to-day lives of its citizens, at different times during the pandemic.

This is also true of the United Arab Emirates. Its seven constituent Emirates, which occupy a total landmass of just 32,000 square miles, each implemented their own unique rules to govern the movement of its citizens following the declaration of the COVID-19 pandemic by the WHO. Whilst Dubai implemented a strict 24- hour lockdown on 4 April 2020, this did not apply to citizens in the neighbouring Emirate of Abu Dhabi. At the time of writing this article, entry to Abu Dhabi is now restricted to those persons able to present a negative COVID-19 test from the previous 48 hours. This is a measure unique to Abu Dhabi and is not applied in any other of the seven Emirates.

Also, Hong Kong, Macau and PRC have all implemented differing approaches to the control and containment of COVID-19. In Australia, extraordinary and inconsistent measures, such are prohibiting domestic movement between some States and Territories, have been implemented. Any discussion of a disparate approach to the implementation of COVD-19 measures must of course consider the United States (US), which, at the time of writing, accounts for approximately 25% of the total number of confirmed cases globally. However, the US approach to the containment and control of the COVID-19 pandemic is the subject of a later article from our colleagues based in the US.

Assuming the parties can overcome this trigger mechanism hurdle, several challenges remain when assessing the contractor’s potential entitlement:

• Is entitlement limited to an extension of time (EoT) only?
• Or, does the newly defined force majeure event grant entitlement to an EoT with costs?

• How is the effect measured? The second/third wave taking effect may be linked to the ongoing effect of the first wave; how are these effects separated and accounted for?

All of these questions (and more) will likely be affected by the standard form force majeure clause in the contract, and so careful and precise drafting of the bespoke ‘COVID-19’ clause will be key.

USE OF PROVISIONAL SUM

A brief background: a Provisional Sum (PS) is a financial allowance included within a contract price to cater for an element of works that was not designed fully at the time of the tender, and usually takes one of two forms1: Defined or Undefined.

A defined PS is used for discrete elements of works, e.g. medical equipment for a hospital, that can be costed accurately by the employer or its agent at the time of tender, and will typically be a reasonable assessment of the actual cost of performing the works.

An undefined PS is, by contrast, a simple allowance of money for an undefined element of additional or varied works.

The different characteristics of a defined and undefined PS place different burdens on the tendering contractor.

Simplistically, in the case of defined PS, the contractor’s tender price and programme for the works must include sufficient allowance for its expenditure. Whereas for undefined PSs, there is no similar burden upon the contractor. Subject to the nature of the works instructed, the contractor may be entitled to additional preliminaries costs and an EoT upon the expenditure of an undefined PS.

This distinction is relevant in the context of a PS for the impact of subsequent wave of COVID-19. By the very nature of the subsequent wave as a force majeure event, the PS would need to be undefined. It would therefore be an allowance or budget held by the employer within the contract price in the event of a subsequent wave of COVID-19. When expended, i.e. when specific measures are implemented as a result of a subsequent wave of COVID-19, the contractor would seek additional payment and an EoT.

Whilst the PS will provide the employer with a budget, it does not provide any cost certainty. Following the ordinary rules for the assessment of a PS, the contractor is likely to be able to recover the actual costs it has incurred as result of the matter relied on. In the instance of a subsequent wave of COVID-19, this is likely to extend to both the costs of delay, and the costs of disruption arising from inefficient working.

A related consequence may be that a contractor, in knowing the employer is holding a specific budget amount in the form an undefined PS, will expect and actively seek the value of the undefined PS to be expended. For example, when submitting a loss and expense claim (related or unrelated to COVID-19) the contractor will be aware the employer has a specific budget available on the basis of the known amount set aside for the undefined PS.

CONTRACT VARIATION

All standard contracts include some form of change management procedure. In FIDIC form contracts such as the 1999 Red Book, change is managed under the umbrella of Clause 13 ‘Variations and Adjustments’. Simplistically, it provides a process for the instruction, implementation, and valuation of Variations when instigated by contractor or the employer’s agent.

In the context of a subsequent wave of COVID- 19, it is plausible that the employer’s agent could instruct varied methods of working (e.g. the social distancing of trade employees) using the contact variation clause. The instruction would then fall to be valued in accordance with the relevant valuation rules i.e. under most forms of contract, primarily using rates and prices from the contract.

Any such instruction issued would not automatically entitle the contractor to an EoT or the related prolongation costs. The contractor would need to demonstrate that the variation caused a critical delay to the works before the employer would need to consider the award of an EoT and associated costs.

The parties may also wish to amend the variation clause to provide a specific remedy for any varied works instructed, or measures implemented, as result of a subsequent wave of COVID-19. The benefits of tailoring the variation clause to account for a force majeure specific variation, might include:

• A more equitable share of the risk. For example, the initial 15/30/45 days of delay might yield only an EoT but no costs; and
• Incorporation of express record keeping requirements as a condition precedent to any cost assessment.

LIQUIDATED DAILY RATES

Standard form contracts typically provide tiered valuation rules for the assessment of variations and claims. Whilst nuances exist between the common standard forms of contract, a tiered valuation approach generally prescribes the following process:

• Use of contract rates and prices; or
• Where no rate or price exists, the use of contract rates and prices for analogous works; or
• Where no such analogous works exists, the reasonable Cost of executing the

Liquidated daily rates are an alternative to this approach, that may prove attractive to both parties. Whilst relatively uncommon outside of the oil & gas industry, and certain major state infrastructure contracts, liquidated daily rates operate on a similar principle to liquidated and ascertained damages (LADs).

As part of its tender, a contractor could be required to provide a rate which it will be entitled to be paid in the event of a subsequent wave of COVID-19. As a bespoke pricing mechanism, liquidated daily rates can be flexible to provide for a whole range of scenarios. For example, the parties could agree a rate per day for the delay or suspension of the whole of the works, as well as for discrete elements of the works as the examples set out below:

• Complete project suspension: US$ 50,000/day;
• Pre-cast yard: US$ 10,000/day; and
• Skilled welders: US$ 350/man/day.

The main advantage of liquidated daily rates is to provide certainty; certainty of cost for the employer, and certainty of revenue for the contractor, both of which are a valuable commodity in the contracting environment. Also, as this is part of the tendering process, the associated rates are subjected to the commercial tension achieved through competitive tendering. If the parties – both the employer and contractor – work collaboratively and apply their collective experience to derive a comprehensive schedule of liquidated daily rates, the end result can be a very effective risk management tool with the potential to deal with any subsequent wave of COVID-19.

CONCLUSION

In summary, it appears to us that whilst standard forms of contract will in some way cater for the effects of future waves of COVID-19, albeit on a ‘wait and see’ approach, there will undoubtedly be ambiguity and interpretation required in relation to amongst other things ‘foreseeability’. Therefore, aside from the nuances available in different contract forms and accepting the reliability provided by retaining standard forms of contract, the opportunity perhaps is for employers and contractors alike to seek to tailor some specific aspects of the terms and pricing mechanisms to proactively meet the challenge and effects of future waves of COVID-19 on our industry.

Contributed by:

Mike Allen - Managing Director, Secretariat (Hong Kong)
Conrad Bromley - Managing Director, Secretariat (Dubai)
Paul Roberts - Managing Director, Secretariat (Brisbane)