Summary: In this article, we look at construction risks facing developers as they balance competing priorities of funders, government regulators, operators, contractors and off-takers/consumers. Being innovative and adaptable – by looking for solutions that account for the particular environment in which a project will be delivered and operated – will in the long term, save time and money, so that developers can focus on the important things.
Going off grid
An estimated 1.1bn people worldwide lack reliable access to electricity. Often, this is because it is impractical or uneconomical to connect them to central grid networks. Rather than waiting to be connected, an increasing number of ‘off-grid’ power projects are springing up, as new generation and storage technologies, falling costs and new sources of funding mean these projects are ever more viable.
This growth in off-grid projects offers significant opportunities, not just for the end users, but also for developers, funders and building contractors. However, those opportunities are not without risk; many off-grid projects are in places where a grid connection is too difficult or expensive to implement. This may be because the project is located on a remote island, in a mountainous and heavily forested region or at risk of political instability or extreme weather events. Wherever a grid connection has not been made available is likely to be a challenging environment in which to operate.
In addition, the delivery and operation of off-grid power projects often involve multiple stakeholders with differing interests. The support of local people will be crucial; however, the project developer will also need to balance the competing priorities of funders, government regulators, operator and contractor.
There is, therefore, significant risk and complexity involved in constructing an off-grid power project. Although off-grid power projects may superficially resemble more conventional ‘on-grid’ projects, the two are different beasts entirely, requiring different approaches to planning, assessing needs and managing risk.
Laying the foundations
For large infrastructure projects, it is common to use an engineering, procurement and construction (“EPC”) contracting methodology. As the name suggests, under this methodology, the contractor is responsible for all aspects of construction. This responsibility includes the preparation and suitability of the detailed design of the project (usually based on a set of employer’s requirements, or a specification, provided by the company developing the project), procuring materials and labour, and carrying out the construction works, normally in return for a fixed lump-sum price.
The contractor also commonly bears a significant proportion of the project risk, such as the risk of unforeseen ground conditions arising, discrepancies or inconsistencies in the specification, and/or changes in applicable legislation or building standards. In addition, the contractor’s entitlement to additional time or money to complete the works is usually subject to stringent requirements, including limited notice periods.
In theory, this limits the scope for delays or cost overruns, with the contractor being a single point of responsibility for completion of the project. Although this methodology might result in a higher contract price (as contractors tend to increase their price to reflect the increased risk that they are adopting), it is intended to offer the employer (and its funders) greater certainty of price overall.
However, this approach assumes that it is possible to correctly evaluate the projects risks and for the contractor to price these accordingly.
In off-grid power projects, however, this assumption may very well be mistaken.
To take one example, EPC contracts often provide that the contractor is deemed to have fully reviewed the specification before entering into the contract. If the contractor subsequently discovers any inconsistencies or discrepancies between different parts of the specification, or between the specification and any regulatory requirement, then the contractor will be responsible for any consequential increase in cost.
However, specifications for power projects may be highly detailed, and contractors often have very limited time to review them prior to executing the contract. If some discrepancy is subsequently discovered which gives rise to substantial increases in cost, this can easily lead to claims for variations and associated time and costs – and increase the prospect of disputes and/or a breakdown in the relationship between contractor and the party procuring the project. Such an outcome would (of course) preferably be avoided; it will likely be expensive, time consuming, and stressful for all involved. In such cases, allowing the contractor to seek additional time and/or cost for discrepancies discovered within (for example) 21 days after executing the contract, could help reduce the risk of unnecessary disputes.
The fixed cost, all-risk-on-the-contractor approach – as clearly as it might be recorded in the contract – can, therefore, represent a false economy. Whilst ostensibly moving risk away from the employer and onto the contractor, this approach can in fact increase the likelihood of disputes, with consequential increases in cost and delay to completion (and revenue-generating operation) of the asset. Where projects are particularly risky and complex, as is the case for off-grid power projects, it may be sensible to take a more nuanced approach to sharing those risks.
Anything but vanilla
Naturally, each project will have its own characteristics and risk profile, so a ‘one size fits all’ approach is rarely appropriate. Below, we consider some examples of the types of risks which can arise in these projects, and how the construction contract can be used to address these.
When constructing large projects in remote parts of the world, procuring labour can present unexpected challenges. In one case we have seen, a large number of workers who were hired locally left the site at harvest time to return to their homes. This had a significant impact on the programme of works, including the timing of delivery to the site of plant and materials, resulting in higher costs. Although extreme, this reinforces the value of good due diligence and planning, both in terms of the programme of works, but also in making sure at the outset that the contract anticipates various potential outcomes and addresses them accordingly.
On large projects, building materials are commonly procured from all over the world, particularly where the project includes complex or high-value proprietary materials which can only be procured from a single supplier. The difficulty in off-grid projects lies in getting the materials to site. EPC contracts often include a provision that the contractor has satisfied itself that there is sufficient access to the site for its purposes. In practice, however, the employer may be better-placed to take responsibility for access to the site, especially where that access will be needed for many years after construction works have been completed.
The risk of unexpected ground conditions in EPC contracts is commonly placed on the contractor, sometimes with the caveat that the contractor is entitled to additional time and cost to the extent that the unexpected ground conditions could not be reasonably foreseen by an international EPC contractor. However, when carrying out construction projects in some parts of the world, ‘site conditions’ extend to more than just the type of soil or level of groundwater. In parts of Southeast Asia, including Burma, Thailand, Cambodia, Laos, Vietnam and the Philippines, there are areas with significant unexploded ordnance (“UXO”). Aside from the risk of injury and loss of life, the time and cost implications of safely removing UXO from a site can be significant. It is therefore important to ensure the contract takes account any potential site issues that might be particular to the location of the project, with a right for the contractor to claim additional time and money as necessary.
As mentioned previously, off-grid power projects may fall prey to weather. Tropical storms can cause damage to the works as well as significant delays to the programme. In some cases, inclement weather is anticipated and accounted for in the programme of works, such as an annual monsoon season. However, if there are delays to items of work which are due to be completed before the monsoon begins (for example, by lack of access to site), then this can amplify the knock-on effects. In our experience, contracts that foresee and make suitable and reasonable provision for the contractor to obtain relief from its time-related obligations (where its works are pushed into known seasons of adverse weather by events for which it is not responsible) are far less likely to end in dispute.
Each off-grid power project will have its own characteristics. The nature of the project, the funding structure and various national and local considerations will all impact the types of risks which may arise and the appropriate response. It is crucial to avoid thinking that, simply because one approach worked in the past, it will work for all future projects. Being innovative and adaptable – by looking for solutions that account for the particular environment in which the project will be delivered and operated – will, in the long term, save money, time and stress.