Week 5 - Risks in Contracts

CON310:
CONSTRUCTION
CONTRACTS AND
DOCUMENTS
WEEK 5: RISKS IN CONTRACTS
REVIEW FROM LAST WEEK
• Last week we took a deeper look into the different types of CCDC
Contracts
UNDERSTANDING THE MAIN TYPES OF
CONTRACTS
• Today we will look at the Risks in Contracts
UNDERSTANDING THE MAIN TYPES OF
CONTRACTS
• https://youtu.be/9DT42vWFDEM
What is Construction Risk?

• Construction risk can very simply be defined as any loss exposure encountered
throughout the course of a construction project. Construction risk can present itself
through environmental factors, project delays, safety concerns, and more. Risk is an
unavoidable component in the construction process and can be found from
preconstruction through to closeout.
• The construction sector is often characterized by a high degree of volatility, uncertainty,

and risk. That is because construction projects tend to be incredibly intricate, resource
intensive, and dependent on a large volume of inputs. Though risk can fluctuate based on
the size and scope of the project, these are the most prominent construction risks that
contractors need to be aware of.
• Discussion
• What do you think are some risks that can
come up on a construction project?
Risks on a Construction Project

Change Orders:
• Formal documents outlining changes that must be made on a construction project.
• Change orders are formal documents that outline adjustments or amendments that must
be made to work at either the General Contractor or Subcontractor level. These are a
prominent construction risk as 35% of construction projects are subject to at least one major
change throughout their lifetime. Change orders also feed into project delays, trade stacking,
and other negative project ramifications.
Stop Work Orders

• Legally binding documents that force some or all parts of a project to cease production
• Stop work orders are legally binding documents issued entities that have the power to halt
some or all work on a construction project until remediation can be completed. Stop work
orders are generally issued by inspectors in response to payment disputes, contract breaches,
regulatory noncompliance, safety concerns, or unqualified workers on-site. Like change orders,
these documents can be incredibly damaging to project scheduling and effective supply chain
management.
Incomplete Drawings
• When architectural or engineering documents are not completed, leading to change orders.
• This construction risk is often a problem on complex projects, such as a high-rise office
building, where complete plans should consist of architectural drawings, mechanical
engineering drawings, electrical engineering documents, civil engineering plans, structural
engineering documents, and more. If plans are missing or incomplete, it will lead to change
orders when contractors prepare to conduct work that is not properly defined
Poor Defined Project Scope

• Project boundaries should be clearly defined in scope statements and other documents.
• Excellent project planning is critical to the success of construction projects. Defining
scope includes the formulation of scope statements, to define project boundaries,
and scope management, which is the active monitoring of cost, schedule, quality,
change, and more. If scope is not clearly defined and accurately managed, it can
introduce uncertainty to the project and open the door to legal action from other
stakeholders.
Poorly Written Contracts

• Gaps in contract language can expose various stakeholders to legal/liability risk.
• Well written contracts should protect stakeholders from lots of risk and provide
provisions for certain things, such as allowable non-compensable delays for events
outside of the General Contractors control (ex fires, lockouts, labor disputes). When
clauses like this are not included in contracts, it invites opportunity for contract
disputes, legal action against perceived damages or loss, and more.
Contract Disputes
• These tend to arise whenever work is not done in accordance with specifications or at cost.
• Contract disputes typically arise whenever there is a misalignment around cost. The
most common disputes between contractors pertain to a failure to complete work
on-time, a failure to adhere to plans/specifications, unsupported changes to
plans/specifications, or a failure to make payment according to schedule.
Increase in Material Costs

• Unexpected cost spikes can be destructive to projects when materials= half of project costs.
• Materials often represent at least half of the cost of a fixed-price construction
contract. Material prices are never fixed, and some market factors cannot be easily
anticipated, such as workforce stoppages where materials are being produced,
shipping complications/bottlenecks, trade tariffs, and more
Liquidated Damages
• A financial penalty on contractors when projects continue past the scheduled date of
completion.
• Liquidated damages in construction are funds that are deducted from the balance an
Asset Owner owes a contractor as penalty for every day a construction project
continues past the agreed-upon date of completion. This is a major construction risk
as most projects operate on razor-thin margins in the first place.
Regulatory Fines
• When works fail to meet regulatory mandates, it can lead to hefty fines for
contractors.
• General Contractors are responsible for ensuring that every worker present
on their project site is abiding by regulation and is trained and certified to be
conducting their work. If not, this can lead to massive fines for the General
Contractor.
Damage or Theft to Equipment and Tools

• Insurance deductibles and project delays are the true costs of damaged or stolen equipment.
• Though most of this equipment will be insured to cover theft, paying deductibles can
eat into margins, and lost equipment can compromise project timelines, feeding into
a host of other construction risks.
Project Delays
• On most projects, being set a single day behind schedule can equate, thousand in costs.
• As a construction risk, project delays are one of the most prominent in the sector.
However, this risk is typically the product of other risks in this list compromising a
General Contractors ability to complete the construction phase on-schedule. That
being said, the cost of delayed completions for contractors can be immense. In fact,
depending on contract provisions, contractors could be charged liquidation damages
for each day over schedule.
Inaccurate Project Estimation

• Failure to budget work accurately can leave insufficient funds for materials, wages and more.
• Budgeting is a critical component of the construction management process. Budget
inaccuracies or estimation shortfalls can leave insufficient funds on the table for
materials, subtrades, wages, and more. Proven estimating procedures and
construction technology can be powerful in reducing this construction risk.
Natural Disasters
• Wildfires, earthquakes, hurricanes, flooding, storms, tornadoes, not site is immune to these
risks
• Natural disasters can take many forms depending on your location. If your site is
struck by any of these extreme weather incidents, it can lead to increased risk of
injury to workers on-site, severe damage and subsequent project delays, insurance
disputes, and more.
Poor Weather Conditions

• Any changes in normal weather conditions can lead to increased risk of incident on a project.
• No construction site is immune to the risk of poor weather conditions. Anything less
than sunny, moderate weather can lead to increased construction risk. Cold weather
can affect how materials are used, wet weather can damage foundations, and
extreme heat can put workers at risk and cause equipment malfunction. Monitoring
weather conditions to reduce risk is imperative to the safety and productivity of
every construction site.
Safety Hazards On-Site

• Construction sites are dangerous. On a day-to-day basis, construction workers may
encounter things like exposed electrical, heavy equipment, extreme heights, airborne
materials, and so much more.
Untrained Workers
• Workers conducting work without training are a threat to everyone else on
a project site.
• Few things are more dangerous than a construction worker conducting work that
they are not trained or certified to be conducting.
Unsecure Construction Sites

• With anything less than a secure perimeter, outsiders can easily gain access to project sites.
• If construction sites are not properly secured, it is possible for unwanted foot traffic
to gain site access and put themselves at risk of injury, accident, or death. This can
also lead to financial consequences if materials or equipment are tampered with or
stolen.
Labour Shortages
• An inability to source skilled labour or align that labour with project timelines can be
damaging.
• Labor shortages. It’s no secret, skilled construction labor is in short supply.
Cyclical construction cycles have driven workers out of the space, skilled workers
may be in high demand in certain regions, creating unavailability, and more. Regardless
of the cause, the construction risk is that subtrades may have difficulty resourcing
projects to meet project timelines, and General Contractors may pay the price.
Trade Stacking
• When too many trades are working in the same area, it can limit capacity and production.
• is also known as overcrowding and is the product of having or scheduling too many
trades to a single area of a jobsite. In theory, the more workers on-site, the more
productive the project will be. However, this is not true if some Subcontractors are
unable to complete their work or are forced to operate at a reduced or limited
capacity in-order to accommodate other workers in the area.
Material Availability
• An inability to source necessary materials can lead to delays or expensive substitutions.
• Material shortages (or availabilities) can halt construction projects in their tracks.
With the global economy still recovering from COVID-initiated supply chain issues,
some materials can prevent certain stages of project development from being
completed. This construction risk can lead to major cost overruns, scheduling
conflicts, and a host of other issues.
Incomplete Drawings
• This construction risk is often a problem on complex projects, such as a high-rise
office building, where complete plans should consist of architectural drawings,
mechanical engineering drawings, electrical engineering documents, civil engineering
plans, structural engineering documents, and more. If plans are missing or incomplete,
it will lead to change orders when contractors prepare to conduct work that is not
properly defined
Risk Allocation in Contracts:

Typically, in preparing the contract document bid package, the employer will be in a
position to decide on its intended risk allocation. While there may be a temptation to
allocate all or most major risks to the contractor, this must be tempered by an
understanding of the potentially adverse consequences of allocating risk where doing so
may preclude the submission of bids or result in an increase in cost such that the project is
no longer financially viable.
Improper risk allocation may also result in prolongation of construction completion

times, wastage of resources and/or increased likelihood of disputes.
While It is of course possible for parties to negotiate all the terms of any construction
contract, a number of standard form contracts have been developed and it is common for
one of these standard forms to be used as the basis for the final construction contract. (ie.
CCDC)
One of the features of standard form contracts is the intent to produce a 'fair and
balanced' allocation of risk.
The rationale for pursuing this is that doing so will provide the best chance of successful
project delivery
In order to achieve a fair and equitable allocation of the risks inherent in construction projects, a risk should be allocated
to a party if:
• the risk is within the party's control;
• the party can transfer the risk, for example, through insurance, and it is most economically beneficial to deal with
the risk in this fashion;
• the preponderant economic benefit of controlling the risk lies with the party in question;
• to place the risk upon the party in question is in the interests of efficiency, including planning, incentive and
innovation; and/or
• the risk eventuates, the loss falls on that party in the first instance and if it is not practicable, or there is no
reason under the above principles, to cause expense and uncertainty by attempting to transfer the loss to
another.
• Four principles are used for allocating risks in construction contracts:

• Which party can best control the risk and/or its associated consequences?
• Which party can best foresee the risk?
• Which party can best bear that risk?
• Which party ultimately most benefits or suffers when the risk eventuates?
Disclaimer Clause
Owners tend to shift most of the project risk to another contracting party
(usually the contractor) through disclaimer (exculpatory) clauses. Such clauses attempt to
transfer one party's risk (which may be a legal liability) to another by contractual terms. In
other words, these clauses are intended to exclude an owner's liability in contract and also
often in tort for cost incurred by a contractor.
As soon as the contract includes a disclaimer clause to shift certain type of risks to the
contractor, this is the time that problems begin. When a risk is shifted to the contractor
and the contractor has no means by which to control the occurrence or outcome of the
risk, the contractor must either ensure against it or add a contingency to the bid price.
Indemnification/Hold Harmless.
• An indemnification clause obligates one party (the "indemnitor") to compensate the other
party (the "indemnitee") for losses or damages (physical injury or monetary) caused by that
other party. In its purest form, indemnity is intended to save a party from the legal
consequences or from the outlay of money for defense costs, damages, etc. thus shifting all or
partial responsibility for payment to the party who caused the damages. Indemnification
clauses are often closely tied to representations or warranties, which are promises that
specific things are a certain way.
Limitation of Liability
• Sometimes referred to as a damages cap, it seeks to limit the amount payable in damages on a
breach, restrict the types of loss recoverable or the remedies available, or imposes a short
time frame in which damages are recoverable. It is common to base the cap on a percentage
of the value of the contract.
Waiver of Subrogation
• An agreement between two parties in which one party agrees to waive subrogation
rights against another in the event of a loss. The intent of the waiver is to prevent one
party's insurer from pursuing subrogation against the other party. Subrogation occurs
when an insurance company pays its insured and then sues the entity or person
responsible for the loss to recover the amounts paid to their insured.
Suggestions to avoid dangers within contractual

terms:
As a Contractor:
• Bid wisely on projects that make sense
• Evaluate the costs of materials in your bid
• Factor site safety into your bid
• Choose your business partners wisely
• Do your due diligence
• Avoid bad contracts
• Read the contract. Often contracts are signed without reading.
• Have the contract vetted by others. Ie.) Estimators, Project managers, General managers
• Get Professional assistance. Consult a lawyer, insurance broker and risk management advisor.
As a Consultant:
• Allocate risk to the party best situated to control the risk.
• Allocate risk through indemnity provisions.
• Use Insurance to support indemnity provisions.
• Require additional insured status and evidence of insurance.
• Include waivers of subrogation.
• Review documents.
REFERENCES
• https://mycomply.net/info/blog/20-construction-risks/
• https://www.whitecase.com/insight-alert/allocation-risk-construction-contracts
• https://www.pmi.org/learning/library/construction-contracts-risk-allocation-1025
• https://www.canadianconsultingengineer.com/features/dangerous-contracts/
• http://constructionexec.com/article/the-basics-of-risk-management-in-construction-contracts
• https://www.constructionbusinessowner.com/insurance/6-rules-risk-mitigation-construction-
contracts
• https://rmas.fad.harvard.edu/basic-guidelines-contracts-and-contract-risk-management
DISCUSSION/INDEPENDENT STUDY
• How do you think not understanding the contract can affect you?

Week 5 - Risks in Contracts

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CON310:

What is Construction Risk?

• The construction sector is often characterized by a high degree of volatility, uncertainty,

Risks on a Construction Project

Stop Work Orders

Poor Defined Project Scope

Poorly Written Contracts

Increase in Material Costs

Damage or Theft to Equipment and Tools

Inaccurate Project Estimation

Poor Weather Conditions

Safety Hazards On-Site

Unsecure Construction Sites

Risk Allocation in Contracts:

Improper risk allocation may also result in prolongation of construction completion

• Four principles are used for allocating risks in construction contracts:

Suggestions to avoid dangers within contractual

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