When are variations not variations?

A construction contract typically contains a variations clause, allowing for the SO to instruct for variations to the works. These variations can take the form of additions or omissions, and at times may be substantial in nature.

But can a contractor contend that a variation order is in fact NOT a variation, but constitutes an entirely new or replacement contract? A contractor may want to advance such an argument in one of the following circumstances:

Firstly, where the contractor faces a substantial omission variation, resulting in the balance of the contract works to be unprofitable or at the very least unpalatable at the contract rates. In pricing for a contract, it is common practice for contractors to price certain items at better margins, whilst allowing for thin margins or even losses in some items in the quantities. Imagine a situation where the better-margin items are omitted leaving the unprofitable balance of works. A contractor would want to argue for the balance works to be paid at a fair price instead.

Secondly, say that variation works are ordered for entirely new works not envisaged by the original contract (albeit for the same project). For example, an apartment project receives a variation to include an entirely new recreational complex for sporting facilities. Whilst the contractor may be willing to undertake the works, the contractor must nevertheless balance that against the need to complete the works on a timely basis, as well  as to consider whether these new works are acceptable to be carried out under the contract rates.

Thirdly, where the variations are within the scope of the contract works, but there are so many variations ordered to the extent that there is a substantial increase in technical queries, and number of construction drawings to be complied with (in the case of McAlpine Humberoak Ltd v McDermott International, the number of drawings increased from 22 to 161, yet the Court of Appeal dod not agree that the original contract has been replaced). A contractor placed in such a situation may contend that what he originally tendered for has changed so substantially that he cannot possibly be tied down to the original contract rates.

In USA, the trend is to consider cases with overly substantially variations to be an abandonment or cardinal change of the original contract works, beyond the reasonable expectation of parties at the time the contract was entered into. Consequently, such abandonment or cardinal change would allow the contractor to argue for payment on the basis of quantum meruit or fair rates (as opposed to the contract rates which may be relatively depressed). It is important to note that there is no need for the employer to in fact intend to abandon the original contract, because such intention is implied from the conduct of the employer.

Thus far, I am not aware of any such argument being mounted successfully in Malaysia as yet. At most, variation works that did not fall within the scope of the contract would be priced at fair market rates, but there does not seem to be much readiness to re-price the rest of the contract works on the basis of abandonment or cardinal change.

For the appropriate case with the right factual matrix, the USA position would be an interesting proposition to make.

Kheng Hoe Advocates advise primarily contractors in CIPAA, litigation and arbitration of construction disputes. We can be reached at khenghoe@khenghoe.com. 

A.I.s post-CNC and post-CPC?

The Architect has a wide ambit in giving instructions during the subsistence of a construction contract.

Condition 2.1 of the PAM Form 2006 requires the Contractor to comply (mandatorily) to instructions issued by the Architect. Failure to do so (provided the Architect’s instruction is within the ambit of the contract) would subject the Contractor to severe penalties including set-off of all costs paid to third parties to comply with the Architect’s instructions, as well as potential termination of the contract.

But whilst the Architect may do much, he nevertheless does not have carte blanche to do as he wishes. As mentioned, the scope of the Architect’s instruction must first and foremost be within the ambit of the contract.

Besides the scope, the Architect also has to be mindful of the timing in which he issues his instructions.

During the contract period, if an Architect issues his instructions but these instructions are not made on a timely basis, it could lead to a successful application for an extension of time by the Contractor. A late instruction may also lead to a loss and expense claim (for example, where works have to be re-constructed in order to comply with the Architect’s requirements).

Once a CNC is issued, any instruction by the Architect would almost inevitably lead to an extension of time. This is because once post-CNC, every task would be deemed critical as the Contractor is on extended time and would also be incurring liquidated damages on a daily basis.

What about after CPC?

Whilst the PAM Form does not stipulate that Architect’s instructions are only to be given during the currency of the contract, nevertheless it would seem logical that Architects are not entitled to issue instructions once CPC has been obtained. After all, the very definition of CPC is that the Works are practically completed save for minor defects. Therefore, how would it be justifiable for the Architect to continue issuing instructions when the Architect himself has acknowledged that the works have been practically completed?

As for the issue of ongoing defects rectification, by right such rectification works should not require an instruction from the Architect. After all, the obligation to carry out such rectification works are already stipulated in the contract itself, and there is no need for a further instruction to compel parties to do what they have already contracted to do in the first place.

Call us for any queries with regards to CIPAA, arbitration, litigation or mediation of construction disputes. We can be reached at khenghoe@khenghoe.com. 

Pricing LADs for sub-contracts

How to determine the LAD to be imposed for delays in sub-contracts?

This is a tricky question, because:

a. On the one hand, any delays by the sub-contractor may potentially cause a delay in the main contract (or to other sub-contractors). Delays in the main contract may be subject to very substantial LADs up to RM50,000.00 per day or even beyond;

b. But the sub-contract sum may be much less, as the sub-contract may be for one particular aspect of the work only. If the entire sub-contract is worth a mere RM500,000.00 or RM1,000,000.00, then the profit margin of the sub-contractor may well be only in the range of RM50,000.00 to RM100,000.00 (assuming a 10% margin). That means imposing a RM50,000.00 LAD charge per day of delay would totally wipe out the entire profit of the sub-contractor in 1 single day!

Surely a sub-contractor would never agree to accept a sub-contract of this nature. And if indeed the sub-contractor is minded to accept such a sub-contract, he would price the sub-contract at a premium to allocate for the LAD risk. This would increase the price of the sub-contract (and the cost for the main contractor) rather substantially.

It has been generally accepted that the Federal Court decision in Selva Kumar requires for actual damage and loss to be proven notwithstanding any LAD clause. Actually, the decision in Selva Kumar and the subsequent decision of Johor Coastal is somewhat more nuanced than this general principle, but this general principle seems to have been accepted as canon.

This means that even if the main contractor imposes RM50,000.00 per day LAD for delays, the main contractor cannot in fact levy such a sum without suffering actual damage and loss on its part. In other words, the generally accepted reading of Selva Kumar has effectively rendered liquidated damages to be equivalent to unliquidated damages, yet subject to the maximum of the amount specified.

Because of that unique position in Malaysian law, I would suggest that it is better for main contractors to be silent on the LAD to be imposed on sub-contractors in the event of delay. Perhaps a general clause to the effect that if the sub-contractor delays, then the sub-contractor will be liable for all losses, damage and expense suffered by the main contractor by reason of the delay would suffice.

In this way, there will not be a very substantial figure reflected in the sub-contract which would compel the sub-contractor to increase its price (or refuse the sub-contract), yet at the same time the main contractor may still reserve its rights to claim for any actual loss, damage and expense suffered by reason of delays.

It would of course be recommended that the provisions of the main contract including the LAD clause be highlighted to the sub-contractor from the onset, so that the sub-contractor cannot argue that the substantial LAD imposed by the employer on the main contractor is unreasonable and/or otherwise beyond the contemplation of parties at the time of entry into the sub-contract.

Kheng Hoe Advocates advices clients on CIPAA, mediation, litigation and arbitration of construction disputes in Malaysia. We can be contacted at khenghoe@khenghoe.com. 

Can LAD be more than the subcontract value?

The imposition of LAD in construction contracts is commonplace. The PAM Form stipulates that such LAD is a genuine pre-estimate of loss, and therefore arguably it may fall within the exception of Selva Kumar and Johor Coastal requiring strict proof of damages. Admittedly, that point has not been successfully canvassed as yet.

However, when LAD is translated at the sub-contract level, it may lead to a situation where the LAD imposed is totally out of proportion to the sub-contract value. A main contract, for instance, may be valued anywhere from RM20 million to RM100 million. LAD imposed on the main contract could perhaps run to the sum of RM100,000 to RM150,000 per day.

One of the sub-contractors appointed by the main-contractor may have a sub-contract value of say RM1 million. Can the main contractor impose LAD of RM100,000 to RM150,000 per day on this particular sub-contractor whose contract value is only RM1 million?

Theoretically, why not? After all, a delay by this relatively minor sub-contractor may still lead to a delay in the main contract which would in fact cost the main contractor RM100,000 to RM150,000 per day. All the more if the sub-contract makes reference to the main contract, and therefore the sub-contractor is deemed to have taken cognisance of the terms of the main contract. In other words, the sub-contractor cannot argue unreasonableness, being damages out of the contemplation of parties, as required by Hadley v Baxendale.

So what then is the solution? Is it for the sub-contractor not to agree to an LAD clause? That too would not be helpful for the sub-contractor. This is because an LAD clause in fact seeks to put a cap on the amount of LAD claimed. If there is no LAD clause, the main contractor can claim all reasonably foreseeable damages suffered, and surely a sub-contractor can reasonably foresee that the main contractor would be subject to LAD by the Employer should there be delays in the project. Without an LAD clause, the damage on the sub-contractor may even be far worse.

So, an LAD clause is not only to protect the rights of the main contractor, but it also serves to cap the liability of the sub-contractor. It would be up to the sub-contractor to insist that a reasonable sum of LAD be imposed, failing which the sub-contractor may be well-served to walk away from the sub-contract.

Kheng Hoe Advocates helps clients in CIPAA (adjudication), mediation, litigation and arbitration of construction disputes. We can be reached at khenghoe@khenghoe.com.

Pakatan Harapan and force majeure

Since GE14, there has been a flurry of announcements by the new Pakatan Harapan (PH) government, almost on a daily basis. These announcements have ranged from feel-good measures (live World Cup, yay!) to major policies and even outright cancellation of contracts.

Query: Can any of these announcements lead to a plea of force majeure by a contracting party?

Under the PAM Form, force majeure is a relevant event which entitles the contractor to an extension of time. However, it is not an event which allows the contractor to claim for loss and expense. It is also not an event that is expressly stated to be an event permitting any party to determine the contract.

However, common law generally accepts force majeure to be a good defence to any claim for breach of contract, where the force majeure event renders performance of a contract to be impossible, and that event is unforeseen or unavoidable.

Therefore, a sub-contractor may not be able to insist on performance by the main contractor where the entire contract has been cancelled by the PH government. The sub-contractor may even be hard-pressed to claim for losses incurred in, for example, undertaking preparatory works or procuring supplies for the purpose of the sub-contract.

But the factual matrix of each individual case would clearly differ. Hence, if a contract was negotiated by the BN government on the basis of certain exemptions (eg. no GST), what happens now if SST is imposed instead (and at a higher rate) by the new PH government? What if the costing of the entire contract was predicated on the basis of the savings from the GST exemptions, whereby now the savings may not only be entirely eradicated but in fact the higher-rated SST would lead to losses for the contracting party.

Would that be sufficient to establish force majeure?

Or would the Courts instead follow the case of Trandin Aviation Holdings Ltd v Aero Toy Store LLC to hold that changes in economic/market circumstances affecting the profitability of a contract cannot be regarded as a force majeure event?

But surely a change in governmental policy cannot be equated to a change in economic/market circumstance, all the more so when it is the government that caused the change in the economic/market circumstance in the first place?

Perhaps these would be appropriate circumstances for parties to resort to mediation instead.

Kheng Hoe Advocates is a boutique law firm focused on construction disputes. We assist clients in arbitration, litigation, mediation and CIPAA cases. For queries, contact khenghoe@khenghoe.com. 

Can omissions lead to a reduction of the contract period?

Variations are not only limited to additional or varied works, but oftentimes include omissions as well. When variations in the form of omissions are issued, then the contractor would have enjoyed a savings of time required to complete the works.

Question: Can that savings of time be reflected in a reduced contract period?

Under the PAM Form, it is expressly stipulated that in assessing any extensions of time, the Architect may take into account “the effect or extent of any work omitted under the Contract, provided always that the Architect shall not fix a Completion Date earlier than the Completion Date stated in the Appendix”.

Therefore, it seems clear that:

a. the contract period cannot be reduced notwithstanding omissions; BUT

b. the entitlement to extension of time can be reduced by taking into account any previous omissions (in other words, the float time has increased by reason of the omission and therefore, extensions of time may not be as critical).

How about extensions of time that have already been granted? If a contract period cannot be reduced, can a previous extension of time be reviewed and reduced in light of omissions?

Again, the answer would seem to be no. Whilst the PAM Form is silent on interim reviews, however the PAM Form provides for a final review of the Completion Date, but stipulates that “(no) such final review of extension of time shall result in a decrease in any extension of time already granted by the Architect”.

It would seem therefore that once an extension of time is granted, it is already definite and any review can only enhance the extension of time granted, not decrease it.

Kheng Hoe Advocates is a boutique firm handling CIPAA and construction disputes. Whilst based on KL, we have strategic alliances in Penang, Melaka and Johor to service our clients nationwide. A lot of disputes which we handle relate to issues surrounding time. For queries, e-mail us at khenghoe@khenghoe.com. 

The dangers of starting work based on letters of intent

Sometimes, works are commenced based entirely on letters of intent. Presumably, this is because the employer wants the work to start immediately, whilst the details of the formal contract are still being worked out. For a contractor, being asked to start work on a letter of intent is oftentimes perceived as being as good as having secured the contract.

So, everything is hunky-dory, right? Well, not quite.

A contractor who starts work on a letter of intent may face difficulty subsequently to claim for its full entitlement should a formal contract fail to be signed. Clearly a contractor would still be able to claim for works actually carried out based on quantum meruit. However, how about the other costs incurred, including preparatory costs, which would oftentimes be provided for by way of preliminaries in a formal contract? How about materials ordered for purposes of the work, but which are not required as yet? Can the contractor claim reimbursement for these materials?

The answer is far from certain, and would very much depend on the wordings of the letter of intent.

Another clear disadvantage for the contractor would be its inability to claim for payment under the Construction Industry Payment and Adjudication Act 2012 (CIPAA) which only allows claims to be made based on a written construction contract. Of course, one may argue that the letter of intent is in fact a written construction contract in essence, but that remains at best an arguable point.

For the employer, it is not entirely without risk as well. If a contractor subsequently refuses to sign on the formal contract, perhaps due to disagreements over certain terms, the employer would be left in a lurch. Appointing a substitute contractor to replace the existing one usually comes at a higher cost. There may also be issues with defects, quality and workmanship of the earlier contractor- how can the employer clearly determine which contractor is at fault? The earlier contractor would also be unlikely to leave the work without raising disputes over payment- how much is in fact due? Is the contractor to be reimbursed only for costs, or for a reasonable and fair valuation of its works? Who is to determine what is reasonable and fair?

All these issues and more ought to encourage parties to sign on to a formal contract where possible before commencing work. This would help all parties clarify their respective rights and obligations, allow the contractor access to CIPAA procedures, and at the same time reduce the potential for future construction disputes.

Kheng Hoe Advocates is a firm of construction lawyers based in Kuala Lumpur, with strategic alliances in Penang, Melaka and Johor Bahru. For queries, contact khenghoe@khenghoe.com. 

The pesky task of co-ordinating design

An architect/engineer appointed to design a building is expected to be responsible for all design works. However, not all design works are carried out by the architect/engineer.

Instead, there would be various parties involved who would undertake different aspects of the design work. Commonly, there would be mechanical and electrical works to be designed, in addition to various other specialist disciplines.

The architect designing the building is expected to ensure that all the other design works are properly co-ordinated, otherwise it may lead to substantial loss and expense at a later stage when it is discovered that the designs conflict with each other.

However, what if a contractor is engaged on a design and build basis? Unlike an architect (who is expected to take responsibility for the overall design), a contractor engaged on a design and build basis may not be expected to co-ordinate his designs with that of other disciplines.

All the more so when in most design and build contracts, the contractor’s design is subject to approval by the architect.

An architect wishing to disclaim liability for design co-ordination would need to ensure that the letter of acceptance issued to the contractor expressly requires the contractor to undertake design co-ordination. In fact, some experts would take the view that even a general clause would be insufficient, but instead there must be a descriptive clause to indicate which trades are to be involved, and that all loss and expense flowing from a failure of proper co-ordination would be borne by the contractor concerned.

Given the risks involved, it may serve architects well to encourage employers to adopt Building Information Modeling to have a better 3-D perspective of the project, thereby rendering design coordination a whole lot easier.

Kheng Hoe Advocates represent clients from the construction industry in CIPAA, arbitration and litigation. For any query, e-mail khenghoe@khenghoe.com. 

Is a contractor bound by a programme that is approved by the architect/engineer?

Programmes are intended to be flexible documents, and not part of the contract documents. That is rightfully the case, because obligations in contracts are supposed to be fulfilled strictly. On the other hand, a programme would contain so many activities with different start and end dates that it is almost certain that it would have to be revised from time to time.

The fact that a programme is not part of the contract documents is made clear by Clause 3.6 of the PAM Form that says:

“The Works Programme shall not constitute part of the Contract, whether physically incorporated or not into the Contract Documents.”

It is the responsibility of the contractor to furnish the Architect with the proposed programme. If the works are delayed, the Architect may instruct the contractor to revise the programme and the contractor is obliged to do so (Clause 3.5 PAM Form).

If the programme is not part of the contract documents, then of what use is it?

Clause 3.7 PAM Form states that the programme is used as a basis for the Architect to monitor the progress of works, as well as for the Architect to assess any applications for extensions of time.

The same clause stipulates that notwithstanding the acceptance of any programme by the Architect, the contractor remains legally bound to fulfill all his obligations, duties and responsibilities under the contract.

In other words, the programme is by and large left to the discretion of the contractor (subject to approval by the Architect). A contractor may revise the programme from time to time, but any revision of the work programme (even if the revised work programme is accepted by the Architect) does not relieve the contractor of his responsibilities under the contract.

Kheng Hoe Advocates is a firm of construction lawyers focused on construction litigation and construction disputes. We can be reached at khenghoe@khenghoe.com.