Your contract options

The client will determine the type of contract based on the amount of risk the client is prepared to accept, the time available to complete the project and the amount of information available at the time of selecting the contract type. The type of contract used will be a balance of these factors to determine what is considered the best form of contract for the project. The success of the project will, in part, be determined from the type of contract used.

Contract agreements attempt to allocate risk to the parties constructing the project. Risk may be allocated based on which party to the contract could foresee, control, and/or finance the risk and which party benefits or suffers most if the risk eventuates.

If the client has engaged consultants to determine the extent of the project and to estimate the expected cost based on thorough design and documentation, then the risk to the client can be significantly reduced when construction starts. That is provided the consultant and client have investigated the site and completed a thorough design supported by high quality documentation.

Contract documentation and the completeness of the design and information are factors the contractor should consider at the time of tender.

A contractor should also consider how reliable the information is, based on investigations and local knowledge when providing design and build style contracts, as the risk associated with design will in large part pass to the contractor. When consultants are engaged to provide design in the design and build contract, much of the risk is shared with the consultant and their professional indemnity insurance.

A brief outline of some of the features in the three common forms of contract and some of the pitfalls are explained below. It should be noted that there are other forms or types of contract that may be used in the construction industry. The basis of construction contracts are based around the three types discussed.

Lump sum contracts

Lump sum contracts are frequently used by clients in an attempt to limit or define the amount that they will pay for the work. However, the reality is that the lump sum amount provided by the contractor is not the final price the client may pay. To explain this, a contractor will be asked to provide a lump sum price for a quantum of work that is considered by the client to be well defined. A schedule of prices may be included in the contract documents and is used to determine progress payments and for valuing variations. The client will generally not guarantee that any quantities are complete or accurate.

Standard conditions of contract allow for a variation where the quantities differ significantly from those shown in the schedule of prices. The problem arises in determining what is considered a significant discrepancy.

On rare occasions the contract documents may specify what is considered a large discrepancy, however, in the majority of cases, the documents will be silent on this, and so it becomes a case of negotiation to determine when a change of quantity is significant.

There is no clear definition of what is significant and this will vary in terms of percentages, depending on the activity being considered. Concrete work, being easily measured, should have a small percentage difference, where earthworks, being less easily defined, will have a greater percentage difference considered as being significant.

Measure and value contracts

On the other hand, measure and value contract, start with a design and contract documentation that is considered reasonably complete, with the client paying the contractor the rate for a particular type of work for the measured quantity constructed. The quantities in the schedule of prices are provided for the purposes of tendering and can be taken as a reasonable assessment of the quantity for an item. Where the actual quantity is different to that shown in the schedule of prices, to such an extent that a contractor would use different methods or resources to construct that item and the rate being used is considered unreasonable, then the change in quantity is treated as a variation.

Problems can arise where the engineer measures a different quantity to that being claimed by the contractor. This is particularly pertinent in earthworks quantities, where the original site information can be incomplete. It is strongly recommended that the contractor have the site surveyed by a registered surveyor before and during construction to determine actual quantities. The contractor should advise the engineer that the survey is part of the contractor’s methodology and include the cost of these surveys in the unit rates.

Cost reimbursement contracts

In a cost reimbursement contract the contractor will complete the work as specified and be reimbursed for the costs together with an allowance for profit. Determination of the profit component will be determined as a percentage of the costs incurred. The contractor supplies rates for plant, labour and materials and a profit margin at the time of tender.

As with measure and value contracts, it is important that quantities can be verified by survey or other means.

It is important in all cases, that the contractor negotiates a form of tender that is acceptable without placing undue risk on the contractor’s business, and that thorough forms of

measurement are incorporated in the contract to minimise disputes during and at the completion of the project.

As always, the best contracts are those where open negotiation can take place from the outset and throughout the life of the project so that disputes are minimised.

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