Eversheds Sutherland

Top 5 COVID-19 issues affecting construction contracts

eversheds-sutherland.com/global/en/what/articles/index.page

28-07-2020

United Kingdom

Construction and engineering

Litigation and dispute management

COVID-19 has delayed and disrupted (and will continue to disrupt) construction projects globally. For many projects that disruption
is severe and construction contracts simply do not provide parties with all of the answers to questions posed by these unprecedented
circumstances.

Whilst we have seen parties cooperate in the short-term, positions will harden and there will be an increase in related disputes in the
medium to long-term if parties are unable to resolve issues commercially with a focus on what is best for the project.

We have set out below the Top 5 COVID-19 issues that we see arising out of the current crisis, and our advice on what steps
businesses should be taking now in response to these issues.

(1) Solvency of contractors and suppliers

Even before COVID-19, solvency was a live issue within the construction industry, not helped by a gloomy economic outlook in the
wake of Brexit. Profit margins on construction projects are routinely reported to be in the region of 5-6%, which gives little margin for
error.

Suspension of works and decreased productivity reduces the flow of cash to contractors and their supply chains. Increased cost of
plant and materials further erode tight profit margins.

Government intervention and stimulus has provided some relief but cannot last forever. Reported increases in administrations and
insolvencies of construction SMEs is concerning. Any failures in the supply chain can have serious knock-on effects causing
disruption and increasing costs. When these compound, it can be fatal for even the biggest of construction companies and wreak
havoc on major projects.

Solvency issues may also impact a party’s access to financial resources and their ability to renew any security in place, which may in
turn result in an increase in calls on performance bonds.

(2) Liquidated or delay damages

Delays and disruption due to COVID-19 will increase the risk that contractors will be liable for delay damages, which puts further
pressure on cashflow. In many cases there will be a limited contractual basis for the contractor to avoid paying delay damages (see ​
(4)Contract administration and assessment of contractor claims).

Increased risk of insolvency may mean that employers will seek to withhold payments where the contract allows. However, a prudent
employer will see this as a dangerous game of brinkmanship which could seal the fate of a contractor and have a serious adverse
impact on the project.

(3) Ongoing disruption and pressure to increase productivity

There has been considerable focus on the immediate delays arising out of the first wave of the virus. However, the bigger issue will be
how to deal with the longer term impact of COVID-19.

If productivity does not improve, most projects will suffer significant delays and increased costs for the foreseeable future. It is
impossible to assess the impact of this disruption in the long-term with any certainty. It is fair to say, however, that for many
construction and infrastructure projects with works periods measured in years or decades, the potential costs of ongoing delays and
disruption will be material.

There is also pressure on contractors to increase productivity. The Roadmap to Recovery issued by the Construction Leadership
Council sets out a strategy to “accelerate the process of industry adjustment to the new normal”. This may take the form of
increasing working hours, re-sequencing works or changing construction methods. Any such steps may further increase the
contractor’s costs. Once again, typical construction contracts rarely provide clear grounds for the contractor to recover these costs.

(4) Contract administration and assessment of contractor claims

1/3
Where a contractor has made a claim arising out of COVID-19, contract administrators will find it difficult to grant satisfactory relief.
It seems likely that, in most cases, contractors’ claims for relief, especially of a financial nature, will be rejected.

(a) There are likely to be limited grounds for relief. Few construction contracts include provisions which effectively allocate
all risks associated with a global pandemic. Contractors are likely to attempt to rely on other terms, such force majeure or acts of
prevention; or illegal or impossible acts, government intervention or change in law. Even if the contractor can find a trigger event
that applies, it may not allow both time and additional costs (e.g. force majeure under JCT suite only acts as trigger for claiming more
time).

(b) Lack of available information. As the true impact of COVID-19 remains an unknown, contract administrators are likely to
refrain from granting relief rather than risking making a determination which may not be revisited and which could increase in scope
over time..

(c) Lack of trust. There is a suspicion that contractors will inflate claims arising out of COVID-19, or use them to hide delays for
which they are culpable.

(5) Negotiation or risk increased adjudication and litigation

Government advice remains that, where possible, parties should cooperate and avoid enforcing contractual obligations. The success
of any project may require serious consideration of re-scheduling and re-pricing, which is easier to do at an early stage.

Rises in costs, risk of insolvency, along with potential changes to the way we work and live, may simply result in many projects
ceasing to be commercially viable. Where no commercial agreement can be reached, parties may seek to terminate contracts to avoid
ongoing obligations.

However, the general uncertainty makes it difficult for parties to construction contracts to accurately price and schedule future
works. Even if the key objectives of a project (i.e. time, cost and quality) are re-negotiated, the contractor will be expected to take on
the ongoing risks associated with COVID-19, which could make its position unprofitable and make future claims unavoidable.

Parties may have to face a wide range of external threats to their business and, with the failure of their contracts to prescribe
solutions, may become entrenched in their contractual positions. This is likely to lead to an increase in adjudications and
litigation/arbitration, as parties seek to resolve claims to unlock cashflow.

What steps should businesses be considering now?

Aside from engaging in constructive dialogue, parties to construction contracts should take steps to protect themselves such as:

(a) Maintain detailed contemporaneous records of the status of and progress to the works surrounding COVID-19, including all
additional costs, to be in a position to (i) prepare for or respond to any claims, and (ii) properly assess the long-term cost and time
implications to the project.

(b) Regularly review and update the programme for the works so that it reflects the anticipated effect of current events on the
completion date.

(c) Carefully review those contractual rights and obligations associated with COVID-19 so that the allocation of risks is understood.

(d) Ensure that all notice requirements and timescales are strictly complied with. Keep a careful eye on payment notices as there
must be a heightened risk of a cash-strapped party deploying aggressive ‘smash and grab’ style tactics in order to obtain payment in
the short term.

(e) Where any contractual compromises are reached, ensure that proper consideration is given to the ongoing allocation of risks
associated with COVID-19.

Jonathan Douglas
Partner
+44 20 7919 4626
+44 20 7919 4626

Jessica Neuberger
Partner
+44 207 919 4797
+44 207 919 4797
Connect with Jessica Neuberger on LinkedIn

2/3
 Nick Pinder
Partner
+44 207 919 0829
+44 207 919 0829
Connect with
Nick Pinder on
LinkedIn

Richard Black
Principal Associate
+44 207 919 0789
+44 207 919 0789
Connect with Richard Black on LinkedIn

This information is for guidance purposes only and should not be regarded as a substitute for
taking legal advice. Please refer to the full terms and conditions on our website.

This information is for guidance purposes only and should not be regarded as a substitute for
taking legal advice. Please refer to the full terms and conditions on our website.

3/3