As the world faces uncertainty caused by recent global events, the construction industry is faced with the question of whether the current contracts model remains workable. Oliver Weisemann and Edward Foyle consider whether the new IChemE Blue Book is suitable for managing complex energy projects, especially in the transition to renewable energy. [1]
Recent global shocks, such as supply chain and performance issues caused by COVID-19, the wars in Ukraine and the Middle East, and global surges in the price of materials and energy costs, have caused many in the construction industry to query whether the Engineering, Procurement and Construction (“EPC”) contracts model remains workable. For contractors, EPC contracting on a fixed sum basis can mean huge cost overruns, whilst for employers the promise of delivery of a projects on time and at a defined contract price is often an illusion burst by numerous claims, variations and other asserted contractual entitlements. For large and complex projects, which combine parties from multiple disciplines and from multiple jurisdictions, an alternative to EPC contracting is contracting on an Engineering, Procurement, Construction and Management (“EPCM”) basis. Whereas an EPC contract (such as the FIDIC Silver Book) imposes entire responsibility and control of a project on a single contractor, in an EPCM contract, the employer instead engages a contractor to design and manage the project and engages various contract packages for the construction works directly, resulting in an employer having a number of contractual relationships.
Following the growth in use of bespoke EPCM contracts, the first standard form EPCM contract was released by the Institution of Chemical Engineers (“IChemE”) in May 2023. The IChemE Blue Book is intended for use for process plants. FIDIC is also producing its own standard form EPCM contract, which was due to be published by the end of last 2023, but is still pending publication as of the date of this article. FIDIC’s publication of a standard form may make use of EPCM contracting more popular still. This article considers the suitability of EPCM contracting specifically for use in the global effort to transition from fossil fuels to renewable forms of energy.
Some of the most significant challenges facing the construction of energy projects are the huge demands on global supply chains, the allocation of risks – due to both the increasingly large scale of projects – and high construction costs. EPCM contracting can help overcome these challenges.
In terms of risk allocation, in today’s market, and given the scale and ambition of many of the projects required to meet the energy transition, even the most prominent contractors are unable to take on the risk associated with delivery of a large energy project on an EPC basis, particularly if the project is a first of its kind. Even if a contractor were willing to take on such risks, a prudent employer would be to be comfortable with all project risks sitting with a single entity (no matter how strong) given the disastrous consequences failure of an EPC contractor could have on a project. Engaging multiple parties allows risk to be apportioned – and money to flow down contractual chains – in an appropriate, and more manageable way through the size and scope of the contract packages.
A significant advantage of EPCM contracting, which can be particularly valuable in the energy sector, is the increased speed of procurement. Procurement lead times of the complex types of plant in energy projects such as reactors, turbines and condensers are notoriously long. In an EPC arrangement, this may be exacerbated further by protracted negotiations with the EPC contractor, after which point the EPC contractor will need to produce a detailed design, following which it will be able to commence procurement and commence construction works. In an EPCM arrangement, it is possible to have the design completed by a separate consultant and commence procurement before the contract packages have been engaged. This feature of EPCM contracting can help an employer avoid delays in project commencement that could otherwise be caused by delayed delivery of key plant and equipment to site as a result of the current strains on global supply chains.
An EPCM arrangement should also reduce the costs of a project, at least at the outset, as each contractor and consultant engaged will have less of a need to allow a risk contingency in their price. By contrast, given the lessons of the last few years, there is more need than ever for EPC contractors to allow a significant risk contingency in their price – particularly if a project is a first of its kind. In addition, contracting direct may allow an employer access to a broader pool of contractors (including some an EPC contractor may not be willing to engage as a subcontractor), leading to more competitive pricing of contract packages.
There are, of course, risks to EPCM contracting. Those risks are significant and make it only suitable for experienced employers.
Ultimately, the success of an EPCM project will depend upon the employer’s active engagement in it. Although the EPCM contractor will assist the employer in matters such as procurement, construction management, payment and the like, the employer will have ultimate control of and responsibility for key decisions. An employer must therefore factor into the cost of the project the costs that it will have to incur itself to engage a skilled project management team – which will be essential to ensure that the project and various contract packages are kept under control (working alongside the EPCM) – and external consultants, such as lawyers.
The employer’s active role is also vital because, unlike an EPC contractor, which is subject to fitness for purpose obligation, an EPCM contractors’ duties are limited to performing its obligations with reasonable skill and care (or an enhanced version thereof). An EPCM does not have an absolute obligation to ensure successful project delivery. Establishing that a consultant’s services were not performed with reasonable skill and care is extremely difficult. An employer must therefore recognise that if the project were not delivered successfully, it would be challenging to prove a claim against its EPCM contractor.
Dispute proceedings are also likely to be more extensive and more complicated than proceedings against an EPC contractor. In an EPC arrangement, if there is a defect or completion is delayed, there is a single entity against which the employer may bring a claim. Under an EPCM arrangement, risk is spread across a range of contractors and the EPCM. Determining liability between these entities may not be straightforward. For example, complicated legal disputes may arise relating to causation – where more than one party is in breach of contract and potentially at fault for a defect / loss suffered by the employer. As the standard EPCM contract contains only reasonable skill and care obligations, the employer is likely to have to go through dispute resolution proceedings with the contractors that performed the works before bringing a claim against the EPCM. The employer also risks being dragged into multiple arbitration proceedings by the various contractors. Given the risk of multiple proceedings it will be important for the employer to ensure that joinder provisions are included in the arbitration agreements so that related parties can be forced to participate in the proceedings and the risk of inconsistent decisions by different arbitration tribunals is removed.
The employer may also have to accept that it will retain some risk. Careful drafting of the contract packages will be required to ensure that there are no gaps in liabilities and appropriate contractual caps are in place. However, where works are divided across contract packages it may not be possible to impose a single simple obligation that the works as a whole be fit for their intended purpose and will have a defined design life, as is standard in EPC contracts. If that overarching obligation sits with the EPCM contractor it may be reduced from a fitness for purpose obligation (which guarantees the outcome), to a reduced obligation of reasonable skill and care.
In order to meet the huge demand and scale of energy projects for construction works in the coming years EPCM contracting is likely to be increasingly used. The publication of standard forms is recognition of this increased use. Major players in the energy industry should have the skills and expertise required to take on the active role the employer must fulfil. A key question is whether they, and their financers, will be willing to take on the risk of potential increases to a project’s cost. It may be that only employers with large and diverse portfolios are willing to take those risks. For employers that are willing to have a bit more “skin in the game” and that have the balance sheet to allow them to do so – such as Great British Energy – EPCM contracting may allow more ambitious projects to be delivered and collaborative relationships developed with contractors.
[1] https://www.fenwickelliott.com/knowledge-hub/annual-review/ar-2023/review-of-institution-of-chemical-engineers-icheme-engineering-procurement-and-construction-management-epcm-contract-the-blue-book-first-edition-2023/
