17/03/2015
Pricing and payment under
construction and supply
agreements
David Nancarrow
DLA Piper Australia
17 March 2015
Introduction
"A penny saved is a penny earned"
- Benjamin Franklin
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Pricing vs Payment
 Pricing – how the total amount payable is determined
 Payment – how the amount payable is paid
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Structures for pricing
 Number of possible ways to structure pricing:
 Lump sum or fixed price
 Guaranteed Maximum Price (GMP)
 Provisional sum (or provisional sum items)
 Cost reimbursable (cost plus)
 Schedule of rates
 Most appropriate structure will depend on the particular
circumstances and nature of the work
 Contracts can include a combination of pricing methods
 Pricing structure is not the same as the contract structure
 Lump sum = pricing structure
 EPC, Turnkey, etc. = contract structure
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Lump sum / fixed price
 Contractor provides fixed sum for the completion of the whole
of the works
 Rarely is it absolute – usually subject to adjustment
 Suitable when extent of work is known and work
can be can be accurately priced
 Not appropriate if the scope of work is not
known or well defined at the commencement
of the contract
 Can be easy to administer
 Lump sum/fixed price method impacts on
relationship between principal and contractor
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Lump sum / fixed price - variations
 Contract will invariably allow the fixed price to be increased in
certain circumstances:
 usually when the scope of work has been varied by the principal; or
 for cost increases which the contractor could neither reasonably
foresee or control, such as latent conditions, industrial action and
change in law.
 Should be clear processes set out in the
contract for claiming and determining
a variation
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Provisional sums
 Provisional sums are used when the principal has not yet
decided whether to include certain items as part of the scope
or the items are to be included but the quantity or type is not
yet known
 Process for converting the provisional sum into a confirmed
part of the scope must be clearly set out in the contract
 Key issues to consider and document include:
 clear description of scope
 reasonable estimate (the provisional sum)
 process for pricing
 Contractor entitlement to profit
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Cost reimbursable
 Cost-reimbursable or cost-plus structure compensates the
contractor for the costs of the work completed with added
amounts for profits and overheads
 Principal carries the risk of project costs increasing
 Requires detailed records and verification of costs to be
reimbursed (often referred to as "open-book")
 Can be an appropriate
method when quantities are
unknown or if the works
involve new or complex
methods or technology
 Allows for greater potential
for transparency in relation
to costs and profit
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$700.00
$600.00
$500.00
$400.00
Cost
$300.00
Costs + Profit
$200.00
$100.00
$0.00
Time
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Schedule of rates
 Amount to be paid is based on an agreed price per unit of
construction
 Unit of construction may be based on:
 time (e.g. hourly rate)
 quantity of material (e.g. tonnes of soil removed)
 quantity of construction completed (e.g. kilometres of pipe laid)
 The contract specifies units used and their value in a schedule
usually called "schedule of rates"
 Risk allocation:
 principal bears risk of quantity necessary for job
 contractor bears risk for fluctuation in unit prices
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Currency fluctuations
 Currency of pricing and payment is critical for cross border
projects where:
 key items sourced for construction are priced in a currency different to
the payment price
 where parties are headquartered in different jurisdictions and
principally operate in different currencies
 Risk of currency fluctuations can be hedged against
 Fluctuations in exchange rates can also work in favour of a
risk-bearing party
 Allocation of currency fluctuation risk should be expressly dealt
with in the contract
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Rise and fall
 The direct costs of performing the construction contract are
likely to rise and fall during the course of construction
 Not all risk cannot be controlled by the principal or the
contractor
 Contracts may provide mechanisms for adjusting contract
price to reflect changes in costs
 Cost adjustment may be applied to labour or materials
 If there is no adjustment mechanism for the rise and fall of
long-term costs, contractors may when tendering:
 overestimate the costs (inflating the project costs) or
 underestimate the costs (risking the financial viability of the project)
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Options for payment
 Options for payment:
 advance payments
 progress payments
 milestones
 value of work completed
 on-site
 off-site
 fixed
 Cash flow is critical
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Structures for payment – progress
payments
 Value of work completed progress payments are the most
common structure for payment in major projects
 Contractor remunerated for work completed during a given
period
 Progress payment process:
 contractor submits a description of work completed during the
previous time period, along with details of the value of the work
 completed work is certified and valued
 contractor is then paid the certified value of that work minus any
retention, advance payment deduction or any other sum owing from
the contractor to the principal
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Progress payment as interim payment
 Progress payments are not final determinations of the value of
the works
 Progress payments are an interim assessment of the value of
the works
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Materials not yet incorporated
 Contract must clearly state when the contractor is entitled to
be paid for materials which is ordered and partially complete
but not yet incorporated into the works
 Must state:
 the materials and equipment that will be paid for;
 the amounts payable;
 timing and requirements for payment.
 Other issues to be dealt with are:
 when does title pass/who bears the risk/who must
insure the materials; and
 the impact of the Personal Property Securities
Act 2009 (Cth) (PPSA)
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Subcontractors and employees
 Timing:
 responsibility of contractor to ensure that the timing of payment
provisions under a main contract align with the timing of payments to
subcontractors under any subcontracts
 Information requested from the subcontractor for payment
should align with the information required under the main
contract
 "Pay if paid" and "pay when paid" arrangements are prohibited
by law throughout Australia
 A contractor cannot make the payment of its subcontractor contingent
on the contractor being paid by another person (such as the principal)
 a provision of a construction contract that purports to do this has no
effect
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Security of payment
 Each state has enacted legislation
 In WA it is Construction Contracts Act 2004 (WA)
 Key provisions include:
 act applies to defined work carried out in WA
 prohibition on pay if/when paid clauses
 maximum 50 days from claim to payment
 implied provisions if contract is silent on payment progress
 dispute adjudication process
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Set off
 Right of set off common in construction contracts
 Set off rights allow the principal to set off any amounts owing
from the contractor to the principal from any amounts the
principal is otherwise obliged to pay the contractor under the
contract
 For example:
 if contractor owes principal liquidated
damages for late completion; and
Liquidated
Damages
Progress
Payments
 principal also owes progress payments to the
contractor; then
 principal can deduct the amount of the
liquidated damages owed from the progress
payments the principal owes to the contractor.
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Remedies for non-payment
 Interest
 Suspension
 Termination
 Security of payment adjudication
 Dispute resolution
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Conclusion
 Consider and agree methods that are best for project
 Ensure contract drafting is detailed and clear
 Train contract administrators
 Comply with the contract
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Questions
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Key Contacts
David Nancarrow
Partner
T: +61 8 6467 6028
[email protected]
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