CPD 2012096

NEC 3
a legal and practical consideration

Rachael Guan, senior associate
25 September 2012
Projects (Engineering & Construction) Practice

Overview
Background and structure of the form

Key differences between NEC and other standard forms
Take up of the form Hong Kong and elsewhere
Clause review: Compensation Events, Option X12
www.hoganlovells.com 2
General
Background
Launched in the UK in the early 1990s

Timing: construction industry being pushed to be less
adversarial
Now in its 3rd edition
Hong Kong government has now endorsed its use
Structure: an integrated suite
Engineering and Construction Contract
focus on this today
Engineering and Construction Subcontract
Professional Services Contract
Term Service Contract
Short Forms
Engineering and Construction Contract
Subcontract
Term Service
Framework Contract
Adjudicator's Contract
NEC Family of Contracts
Supply Supply Contract & Supply Short Contract
ECC TSC
Engineering and Construction Contract Term Service Contract
High ECS
Professional Service Contract
Engineering and Construction

Subcontract
Complexity
Project
PSC
ECSC
Engineering and Construction
Short Contract
TSSC
Term Service Short Contract
ECSS
Engineering and Construction Short
Subcontract
Low
Strategic
Partnering
Framework Contract
Dispute
Resolution Adjudicators Contract
business case design construction operation
Structure : building the ECC Contract
9 core clauses
6 main option clauses
Option A priced with activity of schedule
Option B priced with bill of quantities
Option C target contract with activity of schedule
Option D target with bill of quantities
Option E - cost reimbursable
Option F management contract
20 secondary option clauses
Option to insert bespoke clauses ('Z' clauses)
Contract Data, Works Information, Site Information
Key personalities
Employer
Contractor
Project manager contract administration
Supervisor quality of work and defects
Key differences with other standard
forms
Co-operation
Clause 10.1:
"The Employer, the Contractor, the Project Manager and
the Supervisor shall act as stated in this contract and in
a spirit of mutual trust and co-operation."
Philosophy of risk allocation
NEC:
"Risks belong with those who are best able to evaluate,
control, bear the cost and benefit from their assumption."
Risk parties over amend the form
Use of clear plain English
Non legal terms, use of present tense to impose

obligations, italics for definitions
For example:
20.1 The Contractor Provides the Works in accordance with the

Works Information.
21.1 The Contractor designs the parts of the works which the
Works Information states he is to design.
Flexibility
The modular ease to use different pricing options

(priced, reimbursable, target cost etc) whilst maintaining
the same rigour and provision for project management
NB predominant importance of the Works Information
Strong programme provisions
The usual way: programme of peripheral importance
Common mindset for employers: contractor's end date
Common mindset for contractors: time can be made up
one way or another
Result: employer faces costs of delay, contractor faces
liquidated damages
The NEC way: programme the corner stone of the
contract eg key dates, compensation events lever off it
IGNORE AT YOUR PERIL (and use the best
programming software you can get)
Early warning system
Must be given in a party becomes aware of any matter
that could:
Increase price
Delay completion
Delay meeting a key date
Impair performance of the works in use
Sanction on contractor: assessment of compensation
event cannot be any higher than it would have been, had
the early warning been given
Sanction on employer: breach of contract (damages or
compensation event) if it or project manager fails to give
Compensation Events
The time and cost impact of Compensation Events is

normally to be the result of Quotations by the Contractor,
once accepted not to be revisited.
No final account
NEC projects in the UK
Civil Engineering
British Airports Authority
UK Water Companies
Environment Agency
Highways Agency
Rail eg Crossrail
Power
Photo: Flickr, terminal5insider
NEC projects in the UK
UK Office of Government Commerce recommends the

use of the NEC 3rd edition
Central and Local Government
London 2012 Olympics
Other
BBC 5 year framework
contracts for professional
services and construction,
across the BBC's property
portfolio
NEC projects elsewhere
NEC say it can be used internationally

South Africa
New Zealand
Australia
Middle East
and Hong Kong
NEC projects in Hong Kong - Government
Drainage Services Department
2009: Improvement works to the Fuk Man
Road Nullah in Sai Kung (ECC Option C
Target)
Happy Valley Underground Stormwater
Storage Scheme (ECC Option C Target),
DSD's largest contract to be designed and
managed in-house: $678m contract awarded
to Chun Wo 3/9/12. Due to complete 2018
Village sewerage in Yuen Long Kau Hui and
Shap Pat Heung: $145m contract awarded to
Kwan On Construction 5/9/12. Due to
complete 2016
NEC projects in Hong Kong - Government
Architectural Services Department
advisory stage: design and build of new Tin Shui Wai Hospital
2011, for 10 years: Total Facility Management Service for graded
historic buildings and declared monuments (Term Service Contract)
Highways Department
Tender recently closed: Pok Oi Interchange
Why not watch the HK Government's YouTube video on its

experience using NEC!
http://www.youtube.com/watch?v=fDwbzFQXxeI
NEC projects in Hong Kong - private
CLP Power
2010: Castle Peak Power Station maintenance services (NEC3
Framework Contract (5 years) and Term Service Contract
(Option C Target)
HK Academy (completion
mid-2013)
Commitment from MTR
Corporation to use NEC3
on an upcoming project
Clause review
Compensation Events
Wide number of triggers:
Breach of contract by the employer
"Physical conditions" which the contractor encounters (term
wider than "ground conditions")
"Prevention" wider than typical force majeure
Changes to the Works Information
Compensation Events deal with time AND money
The time and cost impact of Compensation Events are the
result of quotations by Contractor, once accepted not to
be revisited. No final account!
Time consuming rules = PRESSURE!
Compensation Procedure
Notification of compensation event Response

PM notification, with instruction (61.1) By PM within 1 week or longer if agreed (61.4)
Contractor notification 8 weeks from becoming aware (61.3) If no reply, 2 weeks notice, then deemed
compensation event
(Contractor can notify before it happens) Project Managers decision early warning
not complied with (61.5)
Must be a separate notice (13.7)
Replies & Assessment

PM reply within 2 weeks of submission (62.3) -
options for reply (revise, accept, make own
assessment)
Quotations (fully inclusive)
PM assesses (64.1) if:
Within 3 weeks of instruction (62.3)
Failure to submit quote or programme;
Include alterations to programme if
Quote assessed wrongly;
affected by compensation event (62.2)
Programme not submitted or rejected for
permitted reasons (64.2)
Option X12 Partnering
Partnering: early formation of team that will deliver the
project (client, contractor, designer, project manager)
who sign up to early overarching partnering agreement
NEC is a collaborative contract but probably not a
partnering contract
Option X12 attempts to bridge the gap:
If partner fails to implement decision of Core Group under its
own contract then breach its own contract plus
compensation event
Incentive payments to each partner based on key performance
indicators
Option X12 Partnering
But
Still no early contractor involvement
Not a multi-party contract: clause 12.2(6): "This option does not
create a legal partnership between the Partners who are not
one of the Parties in this contract."
Partnering breakdown?
NEC guidance notes: "final sanction against any Partner is
for the Partner who employed them not to invite them to partner
again."
Risk: move back towards adversarial contracting.
Option Z: Additional conditions of contract
NEC guidance notes: "only when absolutely necessary"

My experience: lots!
Legal case review
Just a handful of cases have involved NEC contracts

Costain v Bechtel [2005] EWHC 1018 (TCC) obiter, arguable
that when assessing sums payable to contractor, project
manager must act impartially between employer and contractor
Anglian Water v Laing O'Rourke [2010] EWHC 1529 (TCC)
NEC style of drafting "a triumph of form over substance".
Compass Group v Mid Essex Hospital [2012] EWHC 781 (QB) -
NEC: claims to be a form people don't litigate over

NEC's use coincided with statutory adjudication in UK,
and rise in other forms of alternative dispute resolution
Conclusion
If you choose to use NEC, embrace the NEC approach

but be aware of its most sensitive areas
Hong Kong Singapore Vietnam
Timothy Hill Paul Teo Nasir PKM Abdul
timothy.hill@hoganlovells.com paul.teo@hoganlovells.com nasir.abdul@hoganlovells.com
+852 2840 5023 +65 6302 2559 +84 8 3829 5100
Damon So
damon.so@hoganlovells.com
+852 2840 5018
Tokyo
Beijing/Shanghai Tony Marshall
Terence Wong tony.marshall@hoganlovells.com
terence.wong@hoganlovells.com +81 3 5157 8200 /
+86 21 6138 1607 +44 (20) 7296-2604
www.hoganlovells.com
Hogan Lovells has offices in:

Abu Dhabi Caracas Ho Chi Minh City Moscow San Francisco
Alicante Chicago Hong Kong Munich Shanghai
Amsterdam Colorado Springs Houston New York Silicon Valley
Baltimore Denver Jeddah* Northern Virginia Singapore
Beijing Dubai London Paris Tokyo
Berlin Dusseldorf Los Angeles Philadelphia Warsaw
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Budapest* Hanoi Milan Rome
"Hogan Lovells" or the "firm" refers to the international legal practice comprising Hogan Lovells International LLP, Hogan Lovells US LLP, Hogan Lovells Worldwide Group (a Swiss Verein), and their affiliated businesses, each of which is a
separate legal entity. Hogan Lovells International LLP is a limited liability partnership registered in England and Wales with registered number OC323639. Registered office and principal place of business: Atlantic House, Holborn Viaduct,
London EC1A 2FG. Hogan Lovells US LLP is a limited liability partnership registered in the District of Columbia.
The word "partner" is used to refer to a member of Hogan Lovells International LLP or a partner of Hogan Lovells US LLP, or an employee or consultant with equivalent standing and qualifications, and to a partner, member, employee or
consultant in any of their affiliated businesses who has equivalent standing. Rankings and quotes from legal directories and other sources may refer to the former firms of Hogan & Hartson LLP and Lovells LLP. Where case studies are
included, results achieved do not guarantee similar outcomes for other clients. New York State Notice: Attorney Advertising.
Copyright Hogan Lovells 2010. All rights reserved.
* Associated offices
NEC 3 A Legal and Practical Consideration
25 September 2012
Tony Kwok
General Background
Background:
1st Edition of The New Engineering Contract (NEC) issued 1993
Now 3rd Edition of NEC contracts issued 2005
Variety of projects such as airports, power plants, highways etc.
Extensive global coverage with success (e.g. UK, India, HK, UAE etc.)
Partnering contract requiring collaboration
33
General Background
Background:
Distinct lack of case laws involving NEC
Successful implementation dependent on peoples behaviour
Philosophy is to reduce conflicts through collaborative partnering
Nevertheless, key practical issues often encountered on projects provide

useful lessons learnt and further improvements
34
Common Pitfalls of Using NEC
Contract Documentation
Works Information
Risk Register
Programme
Assessing the Amount Due
Subcontractors / Suppliers
Time Bar / Sanctions
35
The
The ECC
ECC uses
uses plain
plain
Potential Pitfalls English
English which
which can
can place
place
it
it at
at odds
odds with
with common
common
industry
industry terminology
terminology
The
The terms
terms Preliminaries,
Preliminaries, used
used in
in other
other forms
forms of
of
Preambles,
Preambles, Provisional
Provisional Sums
Sums or
or contract
contract
Prime
Prime Cost
Cost Sums
Sums do
do not
not appear
appear
in
in the
the ECC
ECC
Incorporated
Incorporated into
into the
the
Extensive
Extensive amendments
amendments
contract
contract as
as part
part of
of the
the
or
or additional
additional conditions
conditions
Works
Works Information
Information or
or
BoQ
BoQ
36
Possible Solutions
Provisional
Provisional Sums
Sums etc,
etc, may
may be
be accommodated
accommodated by
by
including
including an
an assumed
assumed scope
scope of
of works
works in
in the
the Works
Works
Information
Information for
for the Contractor to
the Contractor to price
price and
and include
include a
a
time
time allowance
allowance
When
When the
the scope
scope of
of the
the works
works is
is defined,
defined, a
a
compensation
compensation event
event is
is issued
issued changing
changing the
the Works
Works
Information
Information leading
leading to
to a
a revised
revised cost
cost and
and time
time
Clear
Clear and
and accurate
accurate Works
Works Information
Information reduces
reduces the
the
need
need for
for amendments,
amendments, especially
especially when
when core
core clauses
clauses
aim
aim to
to set
set out
out general
general obligations
obligations
37
Works Information
Key document provides the contract with the flexibility it does by leaving the
finer detail to be prescribed within the Works Information.
Is more than just a specification and drawings and is cross-referenced
throughout the core clauses, examples:
11.2(2) Completion is when the Contractor has done all the work which
the Works Information states he is to do
11.2(25) Disallowed Cost is cost which was incurred only because
the Contractor did not follow an acceptance or procurement procedure
stated in the Works Information
21.1 The Contractor designs the parts of the works which the
Works Information states he is to design
27.4 The Contractor acts in accordance with the health and safety
requirements stated in the Works Information
40.1 Tests and inspections required by the Works Information
38
Works Information
Potential Pitfalls
Incomplete in terms of coverage, with a lack of clarity

Included as addition conditions of contract (Z clauses)
Duplication with the contract provisions
Often based on standard documentation taken from previous projects which were
not ECC based, conflicts in terminology and referencing
39
Works Information
Possible Solutions
Put sufficient time and team effort into drafting accurate and complete Works
Information
Ensure that all the Works Information requirements have been covered
Ensure that there is no duplication with other contract provisions
Check for the use of terminology and referencing that is not compatible with the
ECC
Review the ECC to identify each clause that refers to Works Information
Responsibility for design is to be identified in Works Information
40
Risk Register
Cl. 11.2(14)
The Risk Register is a register of the risks which are listed in the Contract Data
and the risks which the Project Manager or the Contractor has notified as an early
warning matter. It includes a description of the risk and description of the actions
which are to be taken to avoid or reduce the risk.
41
Risk Register
Cl. 16
The Contractor and the Project Manager give an early warning by notifying the
other as soon as either becomes aware of any matter that could
increase the total of the Prices,
delay Completion
Delay meeting a Key Date or
Impair the performance of the works in use.
The Contractor may give an early warning by notifying the Project Manager of any
matter which could increase his total cost. The Project Manager enters early
warning matters in the Risk Register.
42
Risk Register
Potential Pitfalls
The contractual Risk Register is in effect for information only

Misunderstand that this allows the reallocation of risk or the quantification of risk
values or probabilities
Some people use the project risk register* as the contractual Risk Register
43
Risk Register
Possible Solutions Ensure
Ensure that
that the
the Risk
Risk Register
Register only
only
contains
contains the
the two
two columns
columns stated
stated in
in
the
the contract
contract aa description
description of
of the
the
Do
Do not
not use
use the
the project
project risk
risk risk
risk and
and the
the measures
measures to
to be
be taken
taken
register
register as
as the
the contractual
contractual Risk
Risk to
to reduce
reduce the
the risk
risk
Register
Register
Must
Must not
not contain
contain owners
owners of
of Risk
Risk transfer
transfer done
done by
by choice
choice of
of
risk
risk or
or values
values this
this is
is covered
covered options
options and
and amending
amending the
the
by
by the
the contract
contract standard
standard contract
contract through
through Z
Z
Clauses
Clauses
44
Programme
Cl. 31.2 The Contractor shows on each programme:
the starting date, access dates, Key Dates and Completion Date,
planned Completion,
the order and timing of the operations,
the dates when the Contractor plans to meet each Condition stated for the Key Dates
and to complete other work needed to allow the Employer and Others to do their
work,
provisions for float, time risk allowances, health and safety requirements and the
procedures set out in this contract
the dates when the Contractor will need
access to a part of the Site if later than its access date,
acceptances,
Plant and Materials and other things to be provided by the Employer and
Information from Others
for each operation, a statement of how the Contractor plans to do the work
Other information which the Works Information requires.
45
Programme
Potential Pitfalls
The
The ECC
ECC promotes
promotes best
best practice,
practice, through
through
extensive
extensive programme
programme requirements
requirements
Substantial
Substantial resources
resources required
required to
to
continually
continually update
update programme
programme
Project
Project Manager
Manager has
has to
to proactively
proactively drive
drive
and
and accept
accept the
the programme
programme
A
A pragmatic
pragmatic approach
approach is
is taken
taken to
to a
a lower
lower
level
level of
of information
information and
and to
to less
less frequent
frequent
ECC
ECC does
does not
not ask
ask for
for a
a critical
critical
updates
updates of
of the
the programme
programme
path
path and
and logic
logic linked
linked
programme
programme
46
Programme Right type and
level of resource
Request critical path
Open dialogue, challenge
and logic linked
& joint production
programmes in the
of the programme
Works Information
Possible
Contract is amended Project Manager and
Solutions
to simplify programme Contractor meet at the
requirements earliest opportunity
Balance the costs Need to decide the
expended against the approach to a
benefits provided particular project

47
Cl. 50
The Project Manager assesses the amount due at each assessment date (Cl.
50.1)
In assessing the amount due, the Project Manager considers any application for
payment the Contractor has submitted on or before the assessment date (Clause
50.4).
48
Potential Pitfalls
No requirement for the Contractor to submit an application

The Project Manager has to make assessment even if the Contractor does not
submit an application
Failure to certify by the due date will lead to potential claims for interest on late
payment and possible enforcement notices
49
Potential Pitfalls Default NEC Payment Timeline
Final date of payment:

Assessment Date Project Manager payment takes place
issues payment
certificate;
Contractor submits
invoices
Within 21 days
Within 7 days
50
Possible Solutions Amended NEC Payment Timeline
Final date of payment:

Assessment Date Project Manager payment takes place
issues payment
certificate;
Contractor Contractor submits
submits payment invoices
application
Within 21 days
Within 14 days
No later than
5 days before
51
Possible Solutions
Amend
Amend the
the Amend
Amend the
the
contract
contract to
to make
make contract
contract to
to set
set
the
the submission
submission of
of the
the period
period for
for
an
an application
application a
a certification
certification as
as
condition
condition 14
14 days
days after
after the
the
precedent
precedent for
for Assessment
Assessment Date
Date
payment
payment
52
Subcontractors and Suppliers
Cl. 26
Sets out the general conditions against which subcontractors shall be procured.
Procedures governing subcontract procurement.
Cl. 52.1
Defined Cost includes only amounts calculated using rates and percentages stated
in the Contract Data and other amounts at open market or competitively tendered
prices with deductions for all discounts, rebates and taxes which can be recovered.
53
Potential Pitfalls
Cl. 52.1 imposes a general obligation to seek competitive quotes, but also allow
the Contractor to use open market prices as an alternative
This has led to debate with the Contractor as to what level of competitive tendering
is required and what constitutes open market rates
Payments from Main Contractor to Subcontractors need to be transparent and
clearly linked to the respective Subcontract works
54
Possible Solutions
Additional clauses to make competitive tendering a mandatory requirement

Employers approval over Contractors supply chain processes
Ensure target cost is competitive in the first instance ensuring Contractor has to
effectively manage the supply chain
Financial threshold for obtaining 3 quotes
Regular review of the key Subcontractors (IPAs etc.)
55
Time bar / Sanctions
The procedure relating to compensation event follows a logical chain as
follows:
Notification (8 weeks) Cl. 61.3 Contractor notification
tests 8 weeks time bar
Decision on Validity / Instruction to (1 week)

Quote Cl. 61.4 Default acceptance of
compensation event if no
Quotation (3 weeks) response from the Project
Manager within the timescales (1
week + 2 weeks)
Reply (2 weeks)
Implementation Cl. 62.6 Default acceptance of
quotation if no response from the
Project Manger within the

timescales (2 weeks + 2 weeks)
56
Time bar / Sanctions
Internal procedures not aligned with Understand and comply with the
contractual timescales contractual timescales
Sanctions apply to both the Commit sufficient resources; otherwise
Possible
PossibleSolutions
Contractor and the Project Manager amend the contract to extend timescales
Pitfalls
PossiblePitfalls
potential for either party to suffer

loss if the sanctions are enforced
Need a clear, quick and accountable
Solutions
Possible
decision making process in client

organisations
Mix up of early warning notice and Keep compensation event notices from
compensation event notice other communications
57
Summary
In order to delivers its benefits users must understand the NEC is a fundamentally
different form of contract requiring intensive management and a different approach
by the parties in terms of both documentation and management requirements
Users must understand these issues and invest the time and resources required to
overcome these potential problems and deliver the benefits the contract can offer
It is the people who ultimately drives the success of a project whichever contract
form is adopted
NEC helps by providing a framework against which people should behave
58

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NEC 3

a legal and practical consideration

Projects (Engineering & Construction) Practice

Background and structure of the form

Launched in the UK in the early 1990s

Engineering and Construction

Risk parties over amend the form

Non legal terms, use of present tense to impose

20.1 The Contractor Provides the Works in accordance with the

The modular ease to use different pricing options

The time and cost impact of Compensation Events is

Photo: Flickr, terminal5insider

UK Office of Government Commerce recommends the

NEC say it can be used internationally

Why not watch the HK Government's YouTube video on its

Notification of compensation event Response

Replies & Assessment

NEC guidance notes: "only when absolutely necessary"

Just a handful of cases have involved NEC contracts

NEC: claims to be a form people don't litigate over

If you choose to use NEC, embrace the NEC approach

Hogan Lovells has offices in:

Copyright Hogan Lovells 2010. All rights reserved.

Nevertheless, key practical issues often encountered on projects provide

Incomplete in terms of coverage, with a lack of clarity

The contractual Risk Register is in effect for information only

requirements earliest opportunity

Balance the costs Need to decide the

expended against the approach to a

benefits provided particular project

No requirement for the Contractor to submit an application

Final date of payment:

Final date of payment:

Additional clauses to make competitive tendering a mandatory requirement

Notification (8 weeks) Cl. 61.3 Contractor notification

tests 8 weeks time bar

Decision on Validity / Instruction to (1 week)

Manager within the timescales (1

Implementation Cl. 62.6 Default acceptance of

quotation if no response from the

Project Manger within the

Sanctions apply to both the Commit sufficient resources; otherwise

potential for either party to suffer

decision making process in client

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