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Back-to-back contract chains

View profile for Derryn Rolfe
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We often advise main contractors on their sub-contracts, either their standard Ts&Cs or agreements for specific projects, and one of the perennial problems is cascading liabilities down the chain.

The industry has had a problem for decades with “subbie bashing”, and although the HGCRA did a lot in respect of payment terms one of the things that it failed to address was making sub-contracts properly back-to-back rather than just an exercise in complete risk-dumping.

To be fair to the main contractors, developers have been amending JCTs for years to dump risk wholesale on the main contractors, so it’s probably not surprising that that gets shoved down the chain to those who are actually doing the work. But what is reasonable, what is workable, and what is going to cause a problem?

Let me first look at what the problems of risk-dumping are. Years ago, in the process industries, I used to work with a brilliant contracts manager called Bob. Bob had a saying that I adopted and have repeated constantly over the years: contracts don’t have to be fair, they just have to be clear. What he meant was that you can dump all the risk you like, but the price will go up. Sub-contractors, no less than main contractors, price for their risk. If the risk is unreasonable for the job, then the price goes up.

From a purely commercial point risk-dumping is not necessarily sensible. The second problem is going to be finding competent contractors who are prepared to take it on, even at a higher price. I did a major, high-value and prestigious project years ago that was of necessity quite risky, simply because of the regulatory requirements on the design. The client expected all the major contractors in the field to want it. But they didn’t.

Some returned the tender documents. One said “why would I want to take this on when there are plenty of projects on which I can make a risk-free profit?” I feel it neatly illustrates to risk-dumpers at any level that their chosen suppliers don’t have to work for them. The third problem is that there is going to be an increased risk of claims and disputes, because the agreement has been set up to be adversarial, rather than focussed on delivering a successful project. And last, but not least, negotiating the terms is going to take longer and cost more in lawyers’ fees and QS time than starting from a more reasonable position.

So what’s reasonable, and what’s workable? The basic premise is that each party should only be allocated the risks that it is able to control. A classic example is stats. The way things are, the client has to apply for new stats every very early on, usually before any tendering, just to get them on the list. They may or my not formally novate the stats agreements to the contractor, but they do tend to say that the risk from contract onwards is transferred to the main contractor – and if using a JCT they then delete the Relevant Event relating to lateness of the statutory undertaker.

However, the main contractor didn’t choose the undertaker. And it is absolutely guaranteed that the client chose on the basis of price. SO the contractor is left, possibly with no contractual link, trying to manage the actions of a third party that was not of its choosing. If it weren’t a statutory undertaker then this would be a nominated or named sub-contractor, and the client would retain liability for problems. But risk-dumping clients make the contractor liable when it can’t actually control the risks.

Another example is ground conditions. Nearly every client wants the contractor to take on the risk of ground conditions. But the client is the one who owns or bought the land. They had surveys done, topographical, environmental and otherwise, prior to purchase. Planning required them. The bank required them. The reports were disclosed in the tender package. But the client refuses to allow the contractor to rely on those reports, and lands them with the entire risk of ground conditions. It’s not hard to agree with the various consultants that the contractor can have reliance – even at a cost – and that would means that the contractor’s risk would be reduced, and the price would go down.

As it is with developers, so it is with main contractors. But whereas the main contractor has picked up all the risk of something, and is being paid for it, when it comes to subbies it can go one stage worse. Because sub-contracts often (and in the building sector, as opposed to engineering, often means always) give every sub-contractor the whole risk of any given hazard. SO if there are 5 sub-contractors, the main contractor is covered 5 times over. Regardless o where the problem may actually have arisen, the main contractor can go after all 5 subbies for their losses. If one of the subbies happens to go under, then there are still four others to go after.

Is that reasonable? No. Is it workable? Well, it works after a fashion, but insolvencies in building are at an all-time high, and this isn’t helping. Some big companies have been taken out by just ne risky contract. An industry in crisis is no good to anybody.

The answer is proper back-to-back sub-contracts. The main contractor retains the risk they are able to remove, reduce and/or control. They pass down to each sub-contractor only the risk that that sub-contractor is also able to remove, reduce and/or control. The damages for delay for each sub-contractor are not the entirety of the main contractor’s LADs, they are damages for the losses caused only by that sub-contractor’s actions, whether liquidated or at large.

It requires more thought of the main contractor, and a less aggressive approach, but they end up with a solvent, reliable supply chain that will return time and time again to work for them at a sensible price. That will deliver a project on time, on spec, and on budget because they are not having to spend every waking moment protecting themselves from risks they can’t control.

It’s not rocket science. But it doesn’t fit with the shark-like culture which is sadly so prevalent today.

If you have any questions about Back-to-back contract chains, please don’t hesitate to get in touch with our talented team who will be happy to assist.