REPORT ON PAYMENT DELAYS IN SRI LANKAN CONSTRUCTION INDUSTRY

PREPARED BY :
NATIONAL CONSTRUCTION ASSOCIATION OF SRI LANKA ( SOUTHERN BRANCH)

PREAMBLE

The issue of late payment has been considered one of outmost important to all contractors and to a lesser extent to those to expect speedy completion of a contract. As a matter of fact late payments are considered to the one of the main factors that have led some contractors to abandon the contract. This paper aims at outlining from a contractors perspective what are the main reasons for late payments and suggesting some improvements to safeguarded and security of contractors payment. From contractors experience it will draw examples of practices that they consider as unsatisfactory regardless of whether they arise from contracts financed by the government, World Bank, Asian Development Bank and any other organization. These experience are relevant to any funding organization as they can impact on any of them. Moreover what ever the funding agency it is the behavior of the borrowe/ employer that matters. Unfortunately it does not differs significantly when dealing with any of the funding agencies because the causes that generate such situations are the same whether they stem out from the inadequacy between the technical, ethical, legal and financial capacity of the recipient and the general set of contract document they are supposed to apply

2. WHEN DO LATE PAYMENTS OCCUR?

Late payments mostly occur in some determined condition the most frequent ones been listed below.

2.1 Work preliminary studies Poor preliminary studies are the major factor of late payment for the following reasons.

2.1.1 Available Budget Preliminary studies are the basis for determining the budget dedicated to the work, poor preliminary studies lead to therefore to insufficient budget, hence last minute changes in the scope of work and/or systematic denial form the employer to any variation order whatsoever. A case point a road project in a rural area: when it appeared that the bids were above the available buget a decision was made to reduce the scope of the work by suppressing a number of environmental annexes to the project namely ditches and drains aimed at protecting the village crossed by the road. During the work the village was flooded so heavily due to heavy rains and as a consequence it appeared that drains and ditches are indispensable and so ditches and drains were included back to the work. The result is financial discussions as to payment of reinstated ditches and drains came to a deadlock

National Construction Association of Sri Lanka (Southern Branch)

2 2.1.2 Time factor Procedure by the funding agency/ client usually failed to address the need for updating preliminary studies in a way consistent with the type of work. This is particularly detrimental for roads rehabilitation projects. It is not uncommon to have more than six month or sometimes more them one year elapsing between the preliminary studies and the inception of the work. Most predictably the road has continued deteriorate over that period, so that the work that should actually be performed bear no relations what for ever to the work prescribed in the tender document. This again leads to variation orders in the process of work an invariably to late or no payment.

2.1.3. Quality of Engineering Studies The quality of engineering studies is all too often substandard in comparison to normal practice in industrialized countries. Not that the consultants would not be capable of producing good quality engineering , but they are simply not required to do so. It is not uncommon for financing agencies financed road rehabilitation tenders not to contain any traffic studies, soil test data on existing structure, nor any serious study of available quarries and aggregates. Descriptions in the BOQ itemof work activity and estimated rates are also unrealistic in some instances. The contractor is then left with the choice either to perform sub stranded work, with a high risk of failure of his work during the warranty period, or to Propose adequate material and structures, however at a cost that will be reluctantly recognized by the employers, thus leading again to late payments or no payments at all. Poor preparation of project and works including lack of proper investigation was real nuisance which is spreading, insufficiently documented and poorly prepared bidding documents mean necessary poor quality in the products as well as additional costs, delays claims, damages to human, social and natural environment more over poor preparation of the project prepares the ground where unethical moves- of the employer, or his agent are likely to flourish .

2.2 Financial Structure & Management As suggested in annexed I the requirement that counter part funds are allocated to the project may clearly have a detrimental impact on payments to the contractor at best, counter part funds are put in place only for the first year of project implementation. Payment difficulties often arise during the second year and/or as soon as a variation is instructed that leads to additional work costs. Sanctions applied on the grant of funds also impact payments to the contractors, specially when the letter are not kept informed of such sanctions and have to continue the work for quiet a while before being entitled to terminate the work for non payment by the employer.

National Construction Association of Sri Lanka (Southern Branch)

3 2.3
IN ACCEPTABLE CONTRACT CLAUSES

2.3.1

Imprecise contract clauses

Imprecise contract clauses leave the door opened to Engineers having their own interpretation, and since they are often under pressure from employers and/or financing agencies to limit payments to contractors because of inefficient budgets, their interpretation is usually to the detriment of contractors. Because practically all contract clauses are concerned (either technical and administrative)It is impossible to draw up an extensive list of such imprecise clauses. Here are just couples of examples Engineers can demonstrate a vivid imagination when it comes to withholding payment to the contractors. Transport distances of materials are commonly counted based on assumed supply point without any investigation as to its availability at those supply points. Some Engineers, before advance payments are made to the contractor, require that all mobilization works are put in hand even though environmental and other obstacles are on way. Revision of prices is likely to give rise to disputes where no undisputed statistical tool is available. In addition to that a new trend is observed of introducing so called environmental and social clauses in contract. Although contractors support in principle this move, they dispute the fact that corresponding clauses are seldom adequately quantified in contract, rather expressed in fuzzy terms; the contractor shall to the satisfaction of the employer/engineeror as instructed by the engineer and no adequate supervision measures are provided for. This trend should be clearly resisted and related requirements expressed in a clear, unambiguous and quantified manner, in order to place all bidders on a level playing field and disputes concerning the payments of related work or service. 2.4 2.4.1 Poor management practices. Because of lack of competence and training local officers are often unable to properly handle their share of the work of managing contracts. They are simply not up to the task and particular unaware of the need to pay contractors in time. it is not uncommon to hear from such local officials that they appreciate the fact foreign contractors usually have sufficient financial strengths to complete the work without being paid in time where as local contractors placed in similar situations would be left with no other possibility then to terminate the contract early. These officers are unaware how the foreign contractors played the ball and obtain all the money incurred by the payment delay such as interest on delayed payments de-valuation of rupee value, extension of time and other establishment expenses. This incompetent translate in to extended time for making decision that directly impact the payment of contractors, such as transfer of payment certificates, approval of variation orders, timely review of claims, etc. it is not uncommon to wait for one year until an instruction for variation is issued and related additional costs are assessed, thus depriving the contractor from legitimate payments during this period of time. The lack of competent of officials can hardly be remedied by the use of consultants, simply because availability of competent consultants is also highly problematic.
National Construction Association of Sri Lanka (Southern Branch)

4 2.4.2 The contractors work progress bills are passing to several officers for checking, certification, recommendation and approvals etc. In most government and provincial council institutions this cumbersome processes have been purposely designed to get the contractors to their table which will help the officer concerned to get some sort of benefit from the contractors. The time is unduly consumed for this process depending on the attitude of each of those officers. It is the practice in Sri Lanka that when the payment certificates are certified by the consultants/ Engineers and approved by the contract administration it should be sent to the respective accounts branch for make the payments. Then again contractors payments are getting delay in these branches due to lack of proper co-ordination and communication among technical branches, engineering branches, Consultants, Accounts branches, departments, ministries and treasury etc. to obtain necessary allocation details, imprest etc. in advance

2.4.3

3. LATE PAYMENT REAL CAUSES 3.1 Going deeper into the analysis of the phenomenon it is clear that in most of the cases, Late payments result from a lack of capacity from the borrowers/employers/ engineers to manager adequately the project in all its stages be it preparations execution and additional work, etc.., If we go further into the analysis of the phenomenon, it will not be difficult to discover that late payments are generally no more but the outside symptom of a much deeper disease. Either the employer has no money left

3.2

3.2.1

3.2.2. Either he does not want to pay the contractor but he prefers not telling the contractor in order to avoid a clash with him, 3.2.3 3.2.4 He raises contractual or legal pretexts in order to get bribes from the contractor, In case of government works the interference by political personalities has deviated the scope of work crating variations which are beyond the authority of the government officials. This may be in the form of increasing the physical dimensions, change of the location of the construction and all forms of legal impediments to get the project description amended. Commencing works to suit the needs of politicians haphazardly and later finding it difficult to obtain the necessary funds. Variation and extra works payment as a practice established by the client for his convenience( like preparation of various statement ) is paid only with the final payment of the contract. This practice is a restraint to the progress of the work. All the money spent including variation & extra work during the month need to be received by the contractor with the on coming interim payment. The cash flow of the month otherwise will be on a downward trend upsetting the work programme and adversely affect the programme milestones.

3.2.5

3.3

National Construction Association of Sri Lanka (Southern Branch)

5 The client agencies when variations not paid immediately are unaware of the variation amount until the final bill stage. Variation may heapup to an amount exceeding limit allowed for a particular authority . The contract stand a risk of getting unpaid for part of the variations or may have to wait an indefinite time until approval come form proper authorities for excess variation . This drawback to contractor workwise as well as mental need to be removed by early payment for variation. 3.4 This lack of capacity was most of the time hand with poor ethical practices burrowers, employer , engineers, officials of all hierarchic are very skilled for transforming these public short comings/ and even disasters/ into private success stories. It is a typical case of ( Thriving on chaos) and if chaos has so many advantages why try to avoid it?

There are also some veiled reasons for payment delays. 3.5 Profit factor: Some officers involved in making payment consider the gross payment received by the contractor as his profit. They are unaware of contractors commitments to his workforce, material suppliers, overhead, taxes and social works which when met the contractors may even go down to a negative balance for himself. 3.6 Social Status : Some contractors do well and may rise on the social ladder and may even display their wealth. This may create a negative attitude to their welfare from few paying officers and hinders the co-operation to the contractors causing payments delays. 3.7 Jealousies : Jealousy is an inherent feature of human being and accentuated by the competitive social structure. It plays its roll mostly to the detriment of person considered well off in life. The contractors too when considered as well off are liable to get jealous treatment in some instances. 3.8 Grafts : Grafts are prevailing in all levels of the administrative structures, public or private. There are situations when no positive response can be obtained without a graft. This melody has taken deep root in the construction industry and the contractors are one of its main victims. It is necessary to remedy such restraints to the development of the construction industry and mostly small and medium grade contractors. The present contract conditions are not strong enough to overcome these viruses and the payment delays would continue unless suitable amendments are made to the contract conditions to create a level playground to the clients as well as contractors.

National Construction Association of Sri Lanka (Southern Branch)

6 3.9 Going further, it appears that the real trouble is stemming out of the rules of the games set by contractual documents. The basic premises underling the whole structure of the classical/ and still in force/ contractual documents is that the contractors are greedy villains the employer has to depend himself from and that the employer/ either as a public entity or as a private person/ it supposed to be the representative of the state it is altogether decent, fair, righteous and competent and that dispute/ if any/ shall be resolved by a judicial system, independent from the employer and enforcing in all fairness the rule of the law. From these premises, the ensuing rationale is to grant the employer and his engineer some economical coercion power over the contractor, the contract is no more a contract between two parties equal in rights; it become a link of serfdom based on the hope of economical reward at a time freely disposed of by the employer. Hence the employer is grant the possibility of acting according to his own whim without having much fear from the contractor. It is clear that every body/ and the government even more than any body else/ that these premises/ at least regarding borrower and the employer/ are utterly false. If such were not the case there would not have been things such as Capacity building , Institutional development or integrity sermon Admittedly the check and balance system which is at core of the democratic process has promoted an improvement of the way governments are managing their departments by limiting the consequences of injustice and incompetence. The point is that in contract of works the check and balance system does not work adequately hence the permanent temptation of the employer to misuse his rights to protect his vested/ or not vested/ interest in total impunity. So it could be of interest to try to create a kind of check and balance system in the construction contractual system to avoid seeing the same causes of producing the same effect. Of course capacity building has still to be pursued and when putting the emphasis on capacity building and institutional development, the government is on the right tract. But we are entitle to high light that the aim of capacity building and integrity level aimed only at restoring the ideal described in 3.4 where the state entities are endowed with the sword of the justice. It is still a long way before such a ideal become a day to day reality. In the mean while the sword system described in 3.2 and 3.3 it is a built in encouragement to incompetent and corruption since it has no built in self defenses against these coverages will go on undisturbed showing of its capacity of nuisance and the benefit it can provide to the people who know how to manage the incompetence. Show contractors can not wait until the achievement of the capacity building process until they come back on the infra structure market. Meanwhile making the capacity building process work without and internal systematic counter power against the incompetent and corruption might never work. Contractors for their part favours more balanced contracts which could help them to resist blackmails and to check the spreading of irresponsible incompetence.

3.10

3.11

3.12

3. 13

3.14

3.15

National Construction Association of Sri Lanka (Southern Branch)

7 4. Proposed Improvements 4.1 Speedy formulation and enactment of construction industry payment of security act to safeguard and the advancement of construction industry. Better prepared contract, financial information in real time to the contractor on the funding of the project, more balance contracts giving to the contractor right to terminate the contract under fair economical conditions when the contract is evidently and gravely mismanaged could help prevent most situations of late payment. The need for better preliminary study has been emphasized in the document about quality assurance. The overall quality assurance system ICTAD is advocating could be used as a check list which would prevent employers to issue flawed or poorly prepared tender documents. Contractors and subcontractors in the construction industry run on cash. Cash flow is the lifeblood of the construction industry. The quick and prompt payment terms are therefore crucial to every contractor and sub contractor. Certification and payment should be the subject of careful strategy and planning. Most standard forms of contract provide for monthly payments which are based upon the value of work completed in the previous month. The process of valuing work on a monthly basis can be time consuming and therefore in recent years there has been a move to introduce milestone or stage payments whereby a pre-agreed sum is paid only when work has reached a certain stage of milestone. This information is usually provided at tender stage by the tenderer who needs to invest time and effort into ensuring that the stage or milestone payment plan is calculated to maximize cash flow. Much work and time involved in the payment procedure of bills lessens by adopting the lumpsum method of payments. This is easily adoptable in Type buildings, like school buildings, medical centers and so on where the quantities of each B.O.Q items is already established by previous measurements. Only underground works need measuring because variations of ground conditions. Percentage payments from the total contract amount can be established before hand for each stage of works viz. D.P.C. to window level, and so on. Only variations need special attention. Even other buildings can be paid on this basis where accurate B.O.Q. are available. Small omissions and additions which escaped will calculated on the BOQ rates. 4.5 The comments made here are aimed at getting a more balanced wording of the contract that as shown by the experience tend to differ reliable, experience and quality oriented contractors to bid at the detriment of the infra structure programmers in the country. In order to allow contractors to check incompetent or un-ethical employers maneuvers, the following provisions should be introduced in contracts. The right of the contractor to be informed of the actual funding of the project;

4.2

4.3

4.4

4.4.1

4.6

4.6.1

National Construction Association of Sri Lanka (Southern Branch)

8 4.6.2. Right of the contractor not to proceed in case of not sufficiently funded increasing work quantities; 4.6.3 Right for the contractor not to proceed in case of none payment or of foreseeable situations of non payments; 4.6.4 In case of an arbitration provision of a clause imposing additional financing from financing agency. The right of the contractors that the engineer shall substantiate with resons in his payment certificate if the certified amount is less than the claimed amount or if payment are withheld.

4.6.5

5. Why Payment is necessary in time 5.1 5.2 Cash in hand is fuel to run an enterprise without coming to a halt. From contractors perspective it is clear that payment delays in client agency X may impact Client agency Ys project progress and quality and client agency Y payment delay may impact client agency Z etc. and ultimately affect the whole industry, economy and the society. This will create bad image of the contractors and the industry. Foreign contractors with their legal expertise obtain all the money due to them, in case of a late payment to cover up losses made on rupee devaluation, extra payments at interest to service bank overdrafts and overhead expenses occurred due to slow progress. The local contractor is in degraded position as none of these payments are easily available to him. The contractors ability to tender and obtain further work is decapacitated. Expatriate contractors who enter the country as small time contractors become large time contractors in few years . There are instances where large number of foreign contractors who came to Sri Lanka obtained projects and invest on their own property development projects which is good for the economy. Foreign contractors are able to make such investments because they receive huge financial support from their government with very low interest rates. Bill payment of their contracts are also made in due time and if delayed they are given interest as well rupee devaluation payments and extra claims etc. Financial weakness of our contractors caused by long delayed payments some times keep them lumbering in the contract scenario loosing re investing capacity which is not good to the economy. The contractors play welfare roles in their areas such as donating funds for charitable projects, helping for sick people and various development works in the area, payment is necessary without delay so that they could perform their benevolent activities; It is very important to contractors themselves to make aware and acquire latest technologies, machineries, management techniques and developments in the industry around the globe. Contractors themselves face depriving of growth and development compared with other countries due to payment delays inherited in the Sri Lankan construction industry.

5.3

5.4 5.5

5.6

5.7.1

National Construction Association of Sri Lanka (Southern Branch)

9 Specially large and medium scale contractors employ large number of technical and managerial staff such as engineers, technical officers, quantity servers, supervisors etc and it is the contractors responsibility to look after them by providing further training opportunities , their welfare and job security to obtain higher productivity and job satisfaction which will enhance delivering good quality and speedy completion of project to the nation .Payment delay is the major drawback to this aspects and good professionals working with the contractors some time leave the country due to this situation. It is the responsibility of the contractors to look after their employees such as skilled and unskilled labours by providing on the job training in house training, providing recreation facilities, welfare, safety enhancements, job security to obtain higher productivity and job satisfaction which will enhance delivering high quality and speedy construction to the nation. With delayed payments contractors con not afforded to do these important activities. 5.8 The development of their enterprises is their aim as well as the countrys aim which can be achieved if the contractor get their payments without delay. The construction industry industry is one of the most significant source of employment to engineers, technicians, skilled labor and managers. When the monthly salary not paid on the set date the employee as well as his family face untold hardships. The development of the country, the development of the construction industry depend on the timely payment. The well being of the employees and their dependents must relieved from the shocks of delayed salaries due to payment delays. Payment delays leads to skilled and unskilled labour shortage in the country and create bad image on the industry by them.

5.9

5.10

A well structured constriction industry is a backbone of a healthy economy.

National Construction Association of Sri Lanka (Southern Branch)