Frequently Asked Questions - Cash Flow
Arbitration certainly produces results in more complex cases. As more time and preparation goes into arbitration, it has not received the level criticism that adjudication has. It has further benefit in that it provides more finality.
Any construction contract under the Order, with very few exceptions, may go to adjudication. If you are not paid on time and paid in full, use it! Adjudication is a faster and cheaper dispute resolution method that arbitration or litigation. Make sure that you have a dispute or difference and give notice of your intention to refer a dispute to adjudication under Article 7 of the Order. This right may be exercised at any time. When forming the Contract, it is worth thinking about naming a "good adjudicator". This will satisfy you that you have somebody capable at the helm if a dispute does get this far.
Under Article 12 of the Order pay when paid clauses are now banned unless the third party is insolvent. Your money cannot be withheld due to a pay when paid clause. This is illegal and you must take action if the payee attempts to do this. As we indicated at the previous section, main contractors may try and get around this by including pay when certified clauses in the Contract, such a clause should not be agreed, when entering the contract initially.
Under Article 9 (2) of the Order the payer must now issue a notice within 5 days of the due date, identifying what will be paid, what the payment relates to, and on what basis it has been calculated. If you do not agree with the calculations you must write and give your reasons.
Construction contracts must now provide a final date by which each interim payment has to be made. The Scheme specifies 17 days from the due date. There are two main points here. Firstly, you should mark on a calendar when you are due payment and follow it up. Secondly, object strongly when formulating a contract if the contract contains a period longer than 17 days from the due date when a payment must be made or if it tries to alter the due date disadvantageously.
Under Article 10 of the Order parties intending to withhold payment must give notice that they intend to do this and reasons for their actions. The notice period may be a period specified within the contract, otherwise it will be 7 days under the Scheme. If no notice is received, payment cannot be withheld. Take action!
The Construction Order is supposed to help you by making bills more certain to be paid and making disputes easier to settle. The measures that were introduced to ensure this were:
- new rules to make payment fairer;
- the right to suspend work for non-payment;
- the introduction of Adjudication.
If your Contract doesn't allow for these then the Scheme for Construction Contracts will kick in.
In order to get the Construction Order to help you, you need to exercise your rights under points 1, 2 and 3. We will deal with them individually.
The Order provides certain rights to parties to a construction contract in respect of payment. If you keep an eye on these, you will improve your cashflow. These are:
- For payment by instalments or stage payments for contracts over 45 days duration;
The Order now regulates the provisions which must be found in construction contracts both standard form and those that you have drafted yourselves. Article 8 of the Order states that unless the duration of the works are to be for less than 45 days contracts must provide for stage or other periodic payments.
- To be informed of the amount to be paid in any instalment and when it is due for payment and the basis on which any amount is calculated;
The Contract must provide a mechanism for determining what payments become due, when these are due and what the final date for payment is. Article 9 of the Order means that the payee must now specify the amount of the payment to be made or proposed to be made within 5 days of the date on which a payment becomes due.
- To be given notice if it is intended that any payment be withheld;
Article 10 of the Order provides that payment may not be withheld after the final date for payment unless the payee has given a Notice of Intention to Withhold Payment.
- The right to suspend performance if payment is not made within a specified period; and
Article 11 of the Order gives a right to suspend performance for non-payment if monies due under the Construction Contract are not paid in full by the final date for payment and no Notice to Withhold has been given.
- The outlawing of pay when paid clauses
Article 12 of the Order prohibits pay when paid clauses except where a person from whom the payer is receiving payment is insolvent. If your contract does not comply with the Order then the Scheme for Construction Contracts Part 2 applies. By way of the Scheme for Construction Contracts the Order makes provision for the referral of a dispute arising under a construction contract to adjudication.
In order to remain profitable and improve cashflow, contractors should make prompt and comprehensive applications for payment as soon as the first payment becomes due and make sure that all dates for subsequent applications are met! Therefore it is good practice to ensure that the final payment is treated in the same way as all previous payments should be and apply promptly for the outstanding payment due.
The main difficulty with final accounts is not lack of understanding of the contractual provisions, as these are relatively straight forward. The real problems are as follows:
since the work has already been carried out there is no incentive for payment to be made.
Unlike interim payments contractors/sub-contractors do not have the commercial weapon of threatening to walk off site unless payment is made.
too often, the final account is successfully fudged off for many months, even years. Staff come and go, and the contractor/sub-contractor soon finds himself chasing payment for work which was carried out many years ago.
the final account should be put together or built up from day one, on and off site. It is important to have effective procedures in place to put together all the relevant information and documentation to substantiate the monies you assess as being due to you.
Final payment needs to be applied for as soon as it is allowed under the Contract. Why have the money sitting in someone else's bank account gaining interest, when it could be sitting in yours? The date for application is likely to be regulated by the construction contract. For example the DOM/1 form of Sub-Contract provides that the sub-contractor is to send to the contractor all documents necessary for the adjustment of the sub-contract sum (final payment) within 4 months of practical completion of the sub-contract works (sub-contract).
The final payment is then due within 7 days of the issue of the final certificate by the architect under the Main Contract. Before the date for final payment the contractor must send the sub-contractor a notice informing him of the amount of payment which the contractor believes is due to the sub-contractor. If the sub-contractor does not agree with the amount, he must write and put his position forcibly giving reasons. Such reasons would include alternative calculations for the monies due, correspondence detailing the claim and any action proposed to be taken. Like DOM/1 every standard form construction contract will:
provide a date for final payment;
require the payee to issue a notice indicating that payment is intended to be withheld if this is the case.
Every standard form of contract in the construction industry has some form of provision for retention or reserve. As with all issues like this, the starting point is to look at the contract and find out what it actually says.
DOM/1 is a typical contract, the provision for dealing with retention is at Clause 21.5 which provides:
- up until Practical Completion, the Contractor can deduct the percentage which is stated in the Articles of Agreement. The Articles of Agreement provide that if no percentage is inserted it will be 5%. In many instances this rate may be negotiated to 3%. It is worthwhile providing evidence that a percentage of 5% is not required from previous projects completed within a 6 year period.
although the reduction in the retention percentage may appear minimal, it may have a disproportionate impact on a contractor's profitability. When you consider 2% of PSX thousands of pounds retained by the employer/contractor over the period of the contract and 12 months after Practical Completion of the works. Example contract sum PS300,000.00, retention at 5% and 3% will be PS15,000.00 and PS9,000.00 respectively, a difference of PS6,000.00 over a possible period of 2 years. Thus, a 2% reduction would make available to a contractor an extra PS6,000.00, which should be working for him.
upon practical completion but before a Certificate of Completion of Making Good Defects is issued, only one half of the percentage of retention can be deducted. Ensure you have a calendar marked with dates on which retention should be requested and take action on those dates as they occur.
upon the issue of a Certificate of Completion of Making Good Defects, all retention monies are to be released, by way of an interim payment, to the contractor. Again this date should be marked on your calendar as two dates, when to request the release and when to receive payment.
Remember that if a contract or sub-contract does not make specific provision for retention then the employer/contractor has absolutely no right to withhold retention. If retention is provided for, the percentage and release dates may vary accordingly. First check if the contract allows for the taking of retention, and secondly check the rate of percentage. Negotiate a lower rate where possible. Lower rates add substantially to the profitability of a contractor.
In some instances a contractor/sub-contractor can wait for the release of retention for long periods after the works have been completed. Use effective procedures to chase these monies on a regular basis. It may only take a few letters and threats of adjudication or arbitration. These actions may only be minor but accumulatively they add substantially to the profitability of a company and its cashflow.
It is our experience that retention and percentages of retention are accepted as standard issues in most contracts. This general acceptance should not be the norm and should be challenged whenever the issue arises. It is particularly unfair to groundwork sub-contractors or structural steel sub-contractors who may complete their works long before practical completion of the main contract. If they have to wait a very long time for release of retention on large sums, this may have a disastrous impact on cashflow and profitability. In such circumstances, it is definitely worthwhile negotiating for a lower rate or zero retention where possible. In some instances the monies involved in retention equate to the profit on the project.
It has recently be described as unfair in the in the UK by the House of Commons Report "Construction Matters" printed on 8 July 2008.
Some contractors/sub-contracts provide for the employer/contractor to be entitled to a discount upon certain conditions being fulfilled. This provides a classic example of the importance of reading the Contract.
To take DOM/1 As an example, Amendment 10 changed the rules regarding discounts and was issued in 1998.
Before Amendment 10, the mechanism for payment under DOM/1 was detailed at Clause 21. Clause 21.3.2 provides expressly that the discount can only be made if the contractor complies with the payment obligations; in that payments are made within 17 days of the date due. If the contractor does not comply with the provisions of the sub-contract in respect of the payment dates, then discount cannot be deducted which would entitle the discount to be claimed back together with interest.
In not allowing the deduction of discount, a sub-contractor minimises his exposure to making a loss. Furthermore, it reduces his break even point on the project, increasing the opportunity to make money and become profitable.
A much more difficult question is whether the contractor has to comply with the obligation every month before he can deduct the discount from the total. If a payment in one month is made late, is it simply the percentage reduction in relation to that month that can not be made or does the contractor lose his right to deduct any discount at all? In any event, it is essential to track times of payment in discount circumstances.
The percentage of discount identified in the Articles of Agreement Part 7 is 21/2%, unless a different percentage is inserted. A lower rate should always be negotiated because why is a discount being given? It should not be because of habit or custom.
The edition of DOM/1 which incorporates Amendment 10, however, is totally different It does not provide for payment terms to be met for the discount. Therefore unless this has been specifically amended, the Contractor is always entitled to deduct discount.
It is therefore vital to not only know which standard provisions, if any, is incorporated into the sub-contract but also which edition and which amendments are incorporated.
The right to deduct discount applies to all payments whenever made and may be lost by late payment, but this would depend on the specific terms of the contract/sub-contract.
If the discount is related to prompt payment, then is each payment considered in isolation, or if one payment is late is no discount allowed whatsoever? Once again, need effective procedures are needed to monitor when payments are due, and to check whether or not the contractor/employer should be deducting any discount at all. Also ensure you have a standard letter to send out if discounts are deducted although payments are made late.
When discounts are taken ensure that they are not deducted before retention is deducted. If the opposite is carried out it would equate to giving the employer/contractor a large figure for discount - not a good idea if you are trying to improve your cashflow or profitability.
All too often we see cases where discount and retention have been wrongly deducted from contract sums. In fact, it is so universally accepted it seems like the industry norm. This shouldn't be the case! Contractors should avoid offering discounts and negotiate low rates for retention from the outset, as both impact severely on cashflow and profitability. We will take discount and retention in turn.
The first step, is to claim everything that is due to you. In practice, the amount that you will recover will depend not only on when you submit a claim, but also on your evidence. This highlights the importance of good record keeping. Often you will have a claim for something without realising it. Potential heads are:
- unforeseen events;
- delay caused by design team;
- error in documentation;
- tendering process;
A well thought out and well prepared claim, can include any or all of these heads and bring in substantial rewards. In a claim you may recover:
- straight forward monetary loss i.e. full recovery for any measured work or variations;
- wrongfully deducted discounts;
- damages for breach of contract;
- the costs of the claim;
- an extension of time is also a valid head of claim and will not only be the foundation for claims where there has been a time element, but will also help to protect you against any claims against you for ascertained or general damages.
None of the above will be recovered unless you take action, and take it promptly.