Industry urged to adopt contract clauses to manage market volatility

Due to Brexit, Covid-19, and various other factors the construction industry has found itself faced with significant challenges impacting the timeframes and delivery costs of projects

In particular, the scarcity and pricing volatility of materials and labour continues to be a major headache for the industry:

Material prices have shot up over the past year with the overall price index increasing by 20.1% from July 2020 to July 2021. Certain materials have been particularly affected with imported plywood, fabricated structural steel, and imported sawn or planed wood suffering the largest price increases over the same period of time:

In addition, other factors such as rising freight costs, shortages of haulier staff, the establishment of new cross-border systems and most recently the petrol shortage crisis in the UK have left the industry reeling.

In response, the Construction Leadership Council (“the CLC”) recently urged the construction industry to take up clauses to manage volatility in their contracts. The CLC emphasised the importance of adopting the provisions which address market volatility that already exist in certain standard forms of construction contract in order to encourage collaboration and minimise disputes that might otherwise arise from the challenging landscape of the industry[1].

The JCT Design & Build Contracts, contain optional fluctuation provisions which provide mechanisms for dealing with the effects of inflation, allowing the contractor to be reimbursed for price changes to specified items over the duration of the project. Among others, the fluctuation clauses address changes to the cost of labour, transport, materials, and taxation (depending on which option is chosen) entitling the Contractor to an adjustment to the contract sum. Such provisions will only apply to contracts, however, if chosen by the parties – where the parties have not included the JCT fluctuation provisions, the Contractor will bear the risk of any increase in the price of goods and materials.

In NEC4 Engineering and Construction Contracts, the Secondary Option X1 similarly provides an index linked price adjustment mechanism. This mechanism allows for the price to be adjusted to take account of increases in prices after the base date but, similar to the JCT price fluctuation provisions, this will only apply to the contract if the parties have chosen to include Secondary Option X1.

Despite their availability, it remains to be seen whether employers will be willing to incorporate these clauses into their contracts. Due to the low levels of inflation in recent years, clauses to manage volatility were rarely adopted in standard form contracts. We expect employers will continue to resist such provisions, given the inherent cost uncertainty that comes with them and they will argue that contractors are still best placed to manage this risk given that they have ultimate control over their supply chain.  Although if the cost of leaving contractors to carry the risk of inflation is vastly increased tender prices from the outset, we may see greater uptake of volatility clauses, albeit on a limited basis.  

Whilst the price fluctuation provisions may provide protection against increases in the cost of materials what about any delay in the delivery of materials to site? Generally, contractors are required to carry the risk of delays in procuring materials unless there is an express entitlement to an extension of time. Unlike the price fluctuation provisions, most standard form contracts do not include any express or optional entitlements to address this risk.

Contractors could potentially have a force majeure claim, depending on the precise wording of the relevant provisions under their contract. However, contractors should be very wary of trying to rely on force majeure provisions to cover off this risk in future contracts. Most force majeure provisions include a foreseeability test and given that it looks like shortages in materials could be a problem for the foreseeable future it is unlikely a force majeure claim would satisfy any such test.

If contractors are concerned about delays in the supply of materials for future contracts, they would be wise to raise the issue early with employers to negotiate a bespoke entitlement to an extension of time. However, given the inherent risk of project delays in adopting such an approach, even where employers are willing to grant some relief to contractors, it is likely to be limited.

Whatever method is used to address this risk it seems clear that cooperation between parties when it comes to sharing risk is key for the industry’s prospects of successfully navigating this challenging period.