Amit Kathpalia, MRICS, FIE, FICCP, AFFMASCE, Member SCL (UK), Infrastructure Contracts Specialist and Trainer
Cash flow forms the lifeline of a construction project and is enabled through timely and correct payments as per the terms and conditions of the contract. Timely payments assume greater significance in the construction industry due to length of projects, high costs and the large number of parties involved. Performance of the contractor and the subcontractor largely depends upon regular payments for work undertaken.
Delays in payments are endemic in the construction industry all over the world. The European Commission’s report on payment behaviour in business-to-business transactions, published in 2018, mentions that the construction industry is the most affected by delays, with 65 per cent of the stakeholders having experienced delayed payments. Extensive research all over the world and in India has shown that delayed payments in the construction industry has four major outcomes – cash flow problems, increase in disputes, insolvency and bankruptcy, and delays and cost overruns in projects.
From 1944 onwards, a series of high-powered government committees were constituted in the UK to identify the problems and find solutions to the poor performance of the construction industry.
The report of Sir Michael Latham – Constructing the Team – is hailed as a landmark report that changed the face of the construction industry in the UK to the extent that it now has the minimum value under disputes and minimum time taken to resolve disputes as compared to any other country in the world.
Steps taken by the UK to improve payment culture and reduce disputes in the construction industry
Enactment of the Housing Grant, Construction and Regeneration Act [HGCRA], 1996
Locally called the Construction Act, this act was legislated primarily to enable timely payments to all parties in a construction project, since the effects of delayed payment from the upper tiers have a cascading and magnified effect on the lower tiers.
The HGCRA, 1996, has the following major components:
- Classifying construction contracts as a separate category of contracts.
- Ensuring mandatory provisions in all construction contracts for a time-bound payment schedule (submission of bill followed by time-bound acceptance/partial acceptance/rejection with reasons) and time-bound payment of accepted amount.
- Recognising right of contractor and subcontractor to claim interest on delayed payments and suspend performance fully/partially.
- Banning of conditional (pay-if-paid and pay-when-paid) clauses in contracts that lead to delays in payments down the chain.
- Specifying default periods for payment, if not specified in the contract.
- Right to refer any payment dispute any time to 28-day time-bound fast “interim binding” statutory adjudication that can only be appealed against through arbitration/litiga- tion on practical completion of contract.
Formulation of the New Engineering Contract (NEC)
This suite of contracts was proposed to be adopted by the entire construction industry in the UK. The NEC has very strong components of early warning, equitable risk sharing, partnering and pain-gain sharing and has various models of contracting for different types of projects.
The two new models that have been recently introduced are prime contracting that is being efficiently used by the Defence Estates Department for all defence construction projects and alliance/partnership contracting that is being successfully utilised by Highways England Company Limited, a government-owned company responsible for operating, maintaining and improving England’s motorways and major roads.
Project bank account
A project bank account is a trust account opened for every construction project to enable timely and simultaneous payments to all parties down the construction chain and to enable payments to subcontractors for their completed work in case of insolvency of the upper tier.
These measures have dramatically reduced disputes and improved efficiency in the construction industry.
It is estimated that out of 15,000 cases referred for adjudication in the past 10 years in UK, less than 300 have gone into arbitration/ litigation. As per the Arcadis Global Construction Dispute Report, 2020, UK now has the least value of disputes ($17.8 million) as compared to the global average of $30.7 million. It also takes the least time to resolve disputes – an average of 9.8 months versus the global average of 15 months.
The Indian construction industry, as is well known, is riddled with lack of trust, disputes, delays and cost overruns. Dr P.R. Swarup, Director General, Construction Industry Development Council, estimates that Rs 3 trillion is held up in public sector projects. DrBibekDebroy, chairman, Economic Council, estimates the figure to be Rs 1 trillion. As per NITI Aayog, the average time to resolve a construction dispute through litigation is seven-eight years. Further, of the 12 companies referred to the National Company Law Tribunal under the Reserve Bank of India in the first list, 10 were related to construction/ infrastructure.
While there are no figures on the value of construction disputes in India, a broad correlation with cost overruns indicates the value to be in the range of $8 billion-$9 billion.
It would be worthwhile to study some of the best practices in other countries that have resulted in enabling timely payments, improving trust and reducing disputes in the construction industry and ascertain their suitability for India.