Posted: 3rd November
Preparing for a ‘No Deal Brexit’: What should be in my contract?
This is one of the most frequently asked questions that our clients across the UK have been asking us in recent weeks.
RLF Associate, Michael McLaren discusses the issues and the guiding principles.
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As if the next wave of Covid was not enough to contend with, a second shark is now circling the raft. There is a real risk that the UK may end up with ‘No Deal Brexit’ on the 1st January 2021. Our Clients are asking us what risks they face from the uncertainty surrounding Brexit, the impact on existing construction contracts and on those planned.
The key risks can be summarised as follows:
- The construction sector relies heavily on migrant labour, particularly from the EU. A reduction in available labour could create delays to projects. Shortage of labour will increase the cost of that labour.
- The free movement of goods will cease with the UK’s withdrawal from the EU. Approximately two thirds of construction material are sourced from Europe, which represents a significant risk to UK Construction.
- The resulting impact to lead-times on materials could create delays to projects and in turn lead to increased costs.
- As part of our recent market survey, RLF asked Contractors for their view on material supply in light of the Covid pandemic. Whilst the issues are different from what may be felt with a no-deal Brexit, the general consensus was that stockpiling was not a planned mitigation strategy.
Appetite for Investment
- The prospect of a no-deal Brexit has the potential to further reduce business confidence, creating a reluctance to invest from both overseas and UK investors.
- The EU provides a significant amount of funding for UK infrastructure projects. The continuation of this funding is not yet known.
- The UK Government may need to step in and provide this funding for future projects to protect this aspect of the industry.
- There is significant funding for UK SMEs every year from the European Investment Bank and the European Investment Fund. The withdrawal of this funding represents a real risk.
A weaker pound is generally considered a good thing to encourage foreign investment into the UK. Whilst this can generate additional demand within the construction industry, the corresponding increases in cost to purchase materials and labour from the Euro Zone could create a delay in projects being given the go-ahead until significant cost reductions can be found to off-set them.
The Government has proposed that in the event of a no-deal, the construction industry would benefit from a 0% tariff on the import and export of goods to and from the EU, albeit this is a short-term benefit for no more than 12 months. The great unknown here is what the longer-term impact will be, and the introduction of tariffs in future should be considered as a high risk.
What is the impact for construction contracts?
Under existing contracts, the risks from a no-deal Brexit scenario will generally impact the Contractor more than the Employer.
Why might this be the case?
- The main issue will stem from delays, caused by such issues as a restriction on available labour or materials.
- Contractors may attempt to claim that this delay constitutes a “Force Majeure” Relevant Event and seek additional time for the project.
- Arguments (and possibly disputes) will arise from this in that Brexit is a “known issue” and has been for some years.
- It is also questionable whether Brexit would prevent a Contractor from fulfilling their obligations under the contract. It may prove that they are more difficult to achieve, but not impossible.
What protection is there in existing contracts?
- In the NEC suite of contracts there is a wide change of law clause which can give rise to a compensation event.
- The NEC suites can include for a secondary option clause to cover increased cost through inflation. It is very unusual for our projects to include these provisions as Clients want the security of a fixed cost when committing to undertake a project.
- In JCT contracts, the change in law provisions tend to be drafted to apply only to legislative changes which have an impact on the physical design and construction of the works.
- If a JCT contract is utilised, this can include a fluctuations schedule, which could allow the Contractor to recover increased costs arising from taxes, levies or other costs.
We would recommend that Clients review their existing contracts carefully to understand what protection exists in the event of a no-deal Brexit. A renegotiation of contract terms may also be an option for our Clients and RLF would be happy to advise.
With the uncertainty surrounding a no-deal Brexit on the horizon, we expect the agreement of contract terms to become a more complicated task. The introduction of new definitions and amendments to clauses will be quite common, as we saw when Covid 19 impacted the industry.
Our recent Contactor Survey saw the majority of Contractors expecting tender prices to rise over the coming year, reflecting the anticipated increases in material and labour costs. The other aspect to consider is the allocation of risk. If Clients attempt to push as much of this onto the Contractor as possible, this will also raise tender prices.
This year has been one of great uncertainty and with Brexit only a few months away, 2021 looks to be a continuation of this. Our Contractor survey highlighted a real concern amongst the group that decisions may be taken by some Contractors to effectively “buy” work to fill the order books and ride out the storm. This poses other significant risks for Clients in the event of these Contractor businesses failing to make sufficient profit to remain viable.
A better strategy would be for all parties to have open dialogue and to identify the risks that do exist. Agreeing how best to deal with these risks and doing so with a fair allocation between both parties could create a more collaborative environment which will only be beneficial moving forward.
You can find our recent Contractor Survey here.
If you would like to discuss any of the issues raised in this article, please contact me and I would be happy to help.