August 1, 2012 by Jim Barnes
Bidding and contracts are the lifeblood of construction in Canada. So why do so many projects end up in chaos?
Without plumbing the depths of game theory, contracts work best when “information asymmetry” is minimized. When one party to a transaction knows a lot more about it than the other, the results can be chaotic. One risk, “moral hazard,” can see either the buyer or seller maneuvering to benefit unfairly. Another, “adverse selection,” sees inferior products or services being selected.
These are real-world concerns. All the sources we interviewed for this article called for “transparency” and “clarity” in contracts as being crucial to effective management.
Risk is a common concern. While risk should be allocated to those best able to control the underlying variables, some see it in their interests to offload risk wherever possible.
There are penalties for that. Faced with liability for a risk he or she cannot control, a contractor will raise the bid to compensate.
“The owner, in effect, penalizes himself for improperly allocating that risk,” notes Terry Brown, owner, STBR Consulting Ltd. of Kelowna, B.C. Another potential penalty is that qualified contractors simply will not bid on the contract, reducing the pool of competitors.
Even if a contract is accepted, a contractor may find ways of managing the risk. “Contractors are very good at taking care of themselves,” notes Walter Strachan, vice-president of Risk Management at CBCL Ltd. Consulting Engineers in Halifax, N.S. and chair of the Canadian Construction Documents Committee, Ottawa, Ont.
“Talk to anyone in the industry and you’ll hear about projects that didn’t work out quite the way anyone hoped,” notes Ron Devries, Devries Contract Solutions, Gananoque, Ont. “I ask owners, ‘Do you really think that contractors want to contribute money to your projects?’”
The low-bid contract model remains very common, especially in the public sector.
“That model worked and the industry liked it because winners and losers were clear. It all comes down to a number—it’s dollars and cents,” says Devries. “But from an owner’s perspective, low cost doesn’t mean best value.”
Those who argue in favour of low-bid contracts say that the quality is designed in and the materials are predefined—all they need is the lowest price for construction, according to Devries.
“Here’s the fallacy: Yes, design will determine the quality of the materials and the functionality of the building and so on. But it doesn’t deal with other quality aspects, like the quality of the workmanship, the time, the methodology that is being used—all those things.”
Eric Lee, senior director, Industry Practices, Canadian Construction Association, Ottawa notes several challenges in the low-bid environment.
“For one, contractors often find that the bid documents are not complete,” he notes. “Everybody is bidding the job on the basis of the bid documents provided to them. However, if the bid documents are not clear, then you are trying to compare apples to oranges. Everybody bids the project based on different assumptions. Then clarifications go into the addenda. You have so many addenda coming out, it is just a mess. It leads to a lot of disputes.”
Another challenge is variation in construction materials pricing, particularly when the owner delays a decision on awarding the contract.
“Low-bid has its place, but there is a discussion occurring in the industry at all levels about using best-value as an alternative procurement method,” says Brown. “As we come to better understand life-cycle costs for buildings—for instance, energy efficiency—you can find that a higher-priced bid might cost more at the front end, but then operating costs are lower all the way through the life of the building.”
A variety of other approaches to construction has emerged over the years, including cost-plus, construction management, design-build, integrated project delivery and public-private partnerships (P3s). “Each of the dozen or so procurement methods fit different circumstances,” notes Brown.
What all these approaches have in common is that the contractor is providing services beyond just construction. This might include advisory services on pre-construction, budgeting and scheduling, notes Lee.
“In an ideal world, integrated design is the preferred model, because of the close collaboration,” says Jim McKee, executive director, Royal Architectural Institute of Canada, Ottawa. “The move towards factors like LEED (Leadership in Energy and Environmental Design) and building information modeling are drivers of that.”
However, he notes, satisfying the user’s needs remains the architect’s highest priority and in the evolution toward the potential multi-party contractual framework, “We’re still in the early days. It’s kind of an unknown beast in Canada.”
Sustainability is becoming a hot topic in construction contracts, as liability related to third-party certifications such as LEED appears.
“That is an awfully onerous obligation to take on, especially if they don’t have complete control of it. That causes great grief in the construction community,” notes Devries.
“The only thing our members can control is to perform the work in accordance with the construction contract and the drawings,” notes Lee. They cannot control the certification process.
“It’s not like the building code. Whether you make [the certification] or not is quite subjective,” says Lee. For example, delays or problems may result from the way the owner handled the certification documentation.
Faced with this complexity, many have turned to standard contract documents such as those supported by the CCDC.
“Having standard documents is not about saving money for the architect. It can save money for the owner, but more importantly it can simplify the process for everyone because they’re working with a document that they are familiar with,” says RAIC’s McKee. “We want clarity of roles and transparency. If you run into a problem with the project, you want to be able to use the CCDC document or other contracts to re-establish clarity and get back on track, rather than falling into an adversarial dynamic.”
The savings in time and effort can add up. “If you have a custom contract each time, then you have to read the 35 pages every time. With CCDC [standard documents], you only have to read the supplement, because you are already familiar with the base document,” says Strachan.
Some are concerned about the choice of language in such documents.
“There are certain key issues where, for a variety of reasons, the language cannot and should not be too rigid,” says Devries. “If it’s too rigid, you will not get the consensus of all the parties. If it’s a little bit flexible, you can get everyone on board and say, ‘This allows us to interpret it based on the situation we find ourselves in,’” he says.
Standard documents also address the demographics problem. Many knowledgeable staff in the bid-calling organizations are nearing retirement, notes Lee. As well, the bid-calling authority might have had its staff downsized. Some management functions might even have been outsourced.
“If you don’t understand the process and the principles, very strange decisions can be made by the bid-calling authority,” says Lee. “It can cause a lot of c
Supplementary conditions can be used to flush out the standard documents, where necessary. In B.C., for example, the government mandates a number of standard supplementary conditions—how the contractor handles its insurance, how it handles its risk, how it pays its bills… because that is embedded in the legislation and the practices of the province. When they use a CCDC document, they have to amend some of the universal language.
“There are a lot of things you can do with a supplementary condition. We don’t like them, but we know they are a reality,” says Strachan. “You recognize the document—you’ve seen it many times before—and then you can read the supplement and quickly understand what makes it unique.”
Canada has one of the most complex bodies of legal precedents surrounding construction bidding and tendering in the world, says Devries. The concept of Contract A and Contract B is unique. “That’s a huge milestone in Canadian procurement, and it generated a host of other legal precedents.”
“It sets the stage for fairness,” he says. “The idea that you can’t just take my bid and do whatever you want with it is very important.”
“Construction is a litigious business, and it’s becoming more litigious as time goes on,” notes Strachan. “Lawyers are advocates for their clients. When they write a contract, they want to protect their client in every way possible. The fact that other partners in the construction transaction feel that it is too risky or too biased is not their concern.”
You have to be pragmatic, as well as protect yourself legally.
“Legal representation cannot do construction procurement. If you leave it to them, contracts tend to become far more complicated and unbalanced,” notes Devries. “You need a legal opinion to guide you and you need to understand the risks. But it is up to procurement professionals to weigh all of these risks and legal issues and come up with what they think are the best procurement processes and documents.”
The CCDC standard documents offer an alternative to legal action with the opportunity for final and binding arbitration in contract disputes. “Typically, 90 per cent of the disputes get resolved through negotiation,” says Brown. “If for any reason that doesn’t work out, you can go on to the next stage, mediation, and ultimately—if needed—binding arbitration.”
There are a few advantages of binding arbitration over litigation. For one, the process might be quicker and cost less. As well, the affected parties choose the judge. “If they go to court, they get whatever judge is assigned to the case,” notes Brown. In addition, arbitration offers the potential for confidentiality.
“The owners want to make sure that they are working with qualified contractors on certain very specialized projects, and the contractors want to make sure that they are competing against their peers. You need to make sure that you are securing contractors with the experience and depth to work effectively on these specialized projects,” says Brown.
“On certain projects, contractors have demonstrated that their experience and innovative ideas relating to constructability, schedule control, and so on are of great importance to owners. Owners will accept that one contractor may be significantly higher in bid price, but overall may be less costly in the end because of these attributes,” says Gary Hartman, president, Contraspec Ltd., Edmonton, Alta.
“Owners sometimes consider RFPs instead of stipulated price bids to capture this. However, the process needs to be made fair and completely transparent through properly identified evaluation processes,” says Hartman. More information has to be made available to owners and specifiers to ensure this.
Generally speaking, CCDC has focused on standard contract documents to date, rather than standard bid documents,” notes Devries. “The whole public bid process is fairly complex. It is well worth their time. It would be very worthwhile to have a set of industry guidelines for owners and others.”
The industry is undergoing rapid change and contracts are straining to keep up. Standard documents help keep everyone on the same page and still focus on what makes each project different. Regardless of the contract model, the stakeholders should work together effectively and transparently with equitable contracts.
Sidebar: Rule by consensus
The CCDC, operating under the auspices of the Construction Industry Consultative Committee (CICC), has no real international peers. Since its foundation in 1974, it has generated a couple of dozen standard documents that are reviewed for utility approximately every five years. Besides standard contracts, the group also publishes guideline documents.
The committee comprises a spectrum of stakeholders, including: owners, architects (RAIC), engineers (Association of Consulting Engineering Companies—Canada Specifiers (Construction Specifications Canada) and construction contractors (CCA)).
“We have all the disciplines plus the owners at the table in a non-confrontational environment, trying to work out a risk-balanced approach to contracts… That is unique,” says Strachan.
The group also attempts to maintain contact with local industry through a series of symposia around its revisions. A common misconception is that CCDC is biased toward contractors. “There are four contractor members on the committee, out of 14 people who make decisions,” notes Strachan. “All decisions are by consensus, so four people would have to convince 10 people.”
“We work pretty well with absolute consensus,” notes Brown. All the stakeholders have to be satisfied with the document. “That’s one of the reasons why it does take some time to get a document out,” he notes.
For more information on the guides and standard documents available from CCDC, its mandate, activities and committee members, visit: www.ccdc.org.
Jim Barnes is On-Site’s contributing editor. Send comments to email@example.com.