Not everyone likes change: Variations in construction contracts Construction insights: Middle East and emerging economies series

The construction and infrastructure sectors are booming in the Middle East region, driven by economic diversification and energy transition goals. To keep projects on track and ensure their financial success, it is more important than ever for parties to carefully manage the risks of disputes arising and resolve them effectively should they arise.

In this series of articles, we will draw on our in-depth experience to provide you with insight into the issues and challenges that commonly arise on construction and infrastructure projects in the Middle East region and guidance on how to avoid these developing into time-consuming and expensive disputes.

Our first article in the series below discusses variations in construction contracts.

Insight 1 – Not everyone likes change – variations in construction contracts

Introduction

Change can be hard for all of us, and for those working in the construction sector, it is no different. Given the nature of complex construction projects, it is not uncommon for all sorts of issues to arise which may require a change or variation to a project.  How the parties respond is crucial, as variations can provide fertile ground for disputes.

To help you manage and avoid this dispute risk, this article identifies the key issues you should keep in mind regarding variations, highlights traps for the unwary and provides some tips on best practice when managing variations.

Variations – the fundamentals

Although there is no global definition of “variation”, it is widely accepted that a variation amounts to a change to the agreed scope of work as set out in the contract documents.  This may give rise to an entitlement to additional payment for works beyond the agreed scope, and as such a claim for variation. Whether a change amounts to a variation,  when and how this can be agreed and how it is valued depends on the terms expressly set out in the contract plus any implied obligations and specific mandatory provisions under the governing law of the contract.

What are the key issues?

To recover additional payment for any changes to the original scope of work, a contractor must typically demonstrate the following four requirements. These requirements are not always straightforward and we have included examples of how disputes can easily arise:

1. The additional work did not form part of the original scope of work (or any previous variations). The original scope may not always be clear, for example where there is reliance on "Good Industry Standards" and similar obligations. What is your definition of Good Industry Standard and is the proposed additional work required by Good Industry Standards? As you can imagine, this can quickly become complex.
2. The contract provides for payment for any additional work. Where there is a variation for the omission of work, is such an omission possible in light of the contractual provisions?  How should a variation be valued? Where BoQ rates are applicable and are significantly lower than market rates, does the contract provide for the escalation of prices?
3. The variation was ordered by an authorised individual with due authority to issue a variation. This can be a trap for the unwary. Typically where an engineer is appointed to administer the construction contract on behalf of the employer, they are not authorised to issue a variation prior to obtaining the employer's approval. What systems are in place to obtain this approval – does it work?
4. Any further contractual requirements have been complied with. For example, applicable notice requirements and whether the required notice has been sent to the correct person within the specified time period. In the UAE, there are different potential laws that may apply. Whilst a failure to comply with notice requirements may not be fatal under onshore UAE law or KSA Law, failing to comply with notice requirements under ADGM Law, DIFC Law and English Law may relinquish your right to pursue a claim.

What can you do to manage the risk of dispute?

(1) Understand the scope of the work

Whether or not a change constitutes a variation under a particular contract will depend on the specific applicable contract terms and statutory provisions. At the drafting stage, the parties should strive to ensure clarity in the scope of work; this will make it more straightforward to deal with any variations in future as any change will be easier to identify. As set out above, commonly used terms in contracts can lead to uncertainty in the scope of the works, for example, where there is reliance on "Good Industry Standards" and similar obligations. Where there is disagreement as to whether an item of work is already included in the scope, it may require detailed input from technical experts.

However, even where the express terms of a contract are clear as to the specifications and scope of work, due to certain implied obligations, any purported extra work may not always constitute a variation. For instance, there may be duties to exercise reasonable skill and care, duties to act in good faith and duties to cooperate.

(2) Understand the procedure for issuing and valuing a variation

Assuming a change to the works does constitute a variation to the original scope entitling the contractor to additional payment, these are the key points to check regarding the process for issuing a variation:

1. The manner in which a variation should be issued or instructed, including notice requirements;
2. The time within which a variation should be instructed;
3. Whether the contractor is required to provide a cost proposal prior to executing the additional work; and
4. Whether the variation must be valued by the engineer or employer prior to the contractor commencing the additional work.

(3) Clarity in how to value a variation

Parties should also be clear as to the methodology for the valuation of a variation (in particular the applicable rates). The precise methodology for valuing a variation will depend on the specific type of contract and the agreed contractual mechanism, for example; (i) a lumpsum fixed price contract; (ii) a measurable and value contract; or (iii) a cost reimbursable contract. An agreed method to calculate costs and materials upfront in view of real-time price changes will certainly form a blueprint to mitigate the risks of variations becoming the issue of a full-blown dispute.

The core principles of the SCL Delay and Disruption Protocol, 2nd Edition  provides that:

"Where practicable, the total likely effect of variations should be pre-agreed between the Employer/CA and the Contractor to arrive at, if possible, a fixed price of a variation, to include not only the direct costs (labour, plant and materials) but also the time-related and disruption costs, an agreed EOT and the necessary revisions to the programme."

To the extent a variation is likely to impact critical path activities and lead to potential delays, parties should, where possible, be proactive in seeking to agree the time and cost impact of a variation (and therefore any impact on the programme). Similarly, any compensation for disruption caused by variations should, where possible, be agreed in advance.

Conclusion

Given the nature of live construction projects, it is not always possible to avoid a change in the scope of works. However, with clear drafting at the outset, a good understanding of the contract’s terms, and parties ensuring they operate the contract in accordance with those terms, change does not have to be painful; parties can avoid becoming embroiled in disputes which may severely impact the project.

Look out for our next article in this series which will consider extension of time claims and assessing delay.