Means of mitigating the risks assigned to the contractor in the EPC contract: the experience of the International Federation of Consulting Engineers and Russian civil legislation

Varavenko Victor Evgenyevich PhD in Law Associate Professor of the Department of Civil Law Disciplines, Vladivostok State University of Economics and Service 690069, Russia, Primorskii krai, g. Vladivostok, ul. Gogolya, 41, aud. 5502 vevaravenko@gmail.com Other publications by this author     Lyapustina Natal'ya Aleksandrovna Junior Legal Adviser, LLC "DPO" 690069, Russia, Primorskii krai, g. Vladivostok, ul. Musorgskogo, 9, of. 1 natasha290900@mail.ru

Kovalev Denis Vital'evich Lawyer, LLC "Avers" Law Company 690000, Russia, Primorskii krai, g. Vladivostok, ul. Stanyukovicha, 52, of. 23 denis_kovalev_00@mail.ru

One of the key features of the EPC contract, an agreement concluded for the implementation of an investment and construction project on a turnkey basis, is the maximum assignment to the contractor of risks associated with the failure to achieve the goals of the project ^{[1; 22]}. It is believed that the EPC contractor, as a professional and highly qualified representative of the construction industry, is able to manage project risks more effectively than the customer. Project risk management, from the point of view of approaches adopted in project management standards, involves the formation of a risk management plan; the implementation of measures to identify risks and record them in the project risk register; qualitative and quantitative risk analysis; the choice of a risk management strategy and the development of risk response measures in the context of such strategies; risk control, including, including the detection of "materialized" risks and the application of measures to respond to them ^{[2; 309]}.

The contract as a project management tool incorporates a number of elements of the project risk management system, and the relevant processes acquire legal properties and become part of the contractual and legal regime of the investment and construction project. The analysis of contract forms corresponding to the EPC contract model, undertaken in one of the special works, showed that the terms of civil contract contracts perform the following functions in the field of risk management of an investment and construction project: description of identified project risks, consolidation of risk response measures, as well as the establishment of procedures within which response measures are implemented to risks ^{[3; 106]}.

The assignment of risk by the terms of the contract proforma to one of the parties implies the need to use organizational, economic and legal means to mitigate (mitigate) the burden of risk. From a theoretical and practical point of view, it is relevant to study the legal means included in the contractor's arsenal as one of the key participants in an investment and construction project structured using an EPC contract.

This work is aimed at identifying civil legal means used by the contractor to mitigate the harmful effects of events and actions, the risk of which is assigned to him by the terms of the EPC contract and establishing the possibility of using these means in the conditions of the Russian legal system. The object of the study is the risk management relationship of an investment and construction project. The subject of the study includes the terms of the model EPC contract - a model contract of the International Federation of Consulting Engineers for turnkey projects ^[4] (hereinafter referred to as the FIDIC 2017 Silver Book, UK) and the norms of Russian civil legislation regulating these relations ^{[5, 6]}.

1. Risks imposed on the contractor by the terms of the 2017 FIDIC Silver Book. The results of the analysis of the conditions of the 2017 Silver Book indicate that the risk transfer strategy to the contractor is implemented in seventeen cases ^{[3; 108 - 115]}, among which:

- one risk is expressed in the actions of the customer (the presence of errors in the customer's assignment, technical documentation, source data provided by the customer (clause 5.1 of the IC));

- three risks are embodied in events (the effect of unforeseen physical conditions on the construction site (clause 4.12 SC), exceptionally unfavorable climatic (weather) conditions (clauses 2.5, 4.10 SC), accidental death, damage, damage to the result of work, materials, documentation of the contractor before the parties sign the act of acceptance and transfer (clause 17.2 SC));

- the remaining thirteen risks associated with the actions of the contractor (non-receipt or late receipt by the contractor of permits (section 1.12 SK) errors in the coordinate system of the construction site (see section 2.5, 4.10 SK), repeated (after the elimination of defects) providing to the customer for approval documentation of the contractor (clause 5.2.2 SK), failure (delay) test (test) materials, equipment, intermediate results of the work made by the contractor (clause 7.4 SK), re-inspection (tested) of materials, equipment, intermediate results after negative results of initial tests (tests) deficiencies or replacement (paragraph 7.5 UK), elimination of defects in the materials, equipment, intermediate results of work by the third parties engaged by the customer, in case of refusal or evasion of the contractor from their elimination (7.6 SK), the implementation of measures to reduce the negative effect of delay in execution of works, approved by the contractor (clause 8.7 SK), failure (delay) test (test) on the conclusion made by the contractor (clause 9.2 (d), SK), inability to work due to the shortcomings of the contractor (clause 11.3, 12.3, 12.4 SK), elimination of defects in the result of the work by the third parties engaged by the customer, in case of refusal or evasion of the contractor from their elimination (section 11.4(a) SK), inability to work due to deficiencies precluding their consumer value for the customer (clause 11.4.(d) SK), holding according to customer's requirements of the investigation of the causes of faults when it is determined that the causes of faults are the result of the actions of the contractor (clause 11.8 SK), refusal or evasion of the contractor from cleaning of the construction site at the end of the execution of the works (clause 11.11 SK)).

The transfer of these risks to the contractor is as follows: in the event of one or more of these situations, the contractor has no right to demand an extension of the term of work, and is also obliged to reimburse the customer at his request for additional costs caused by a risky event or action. This means that all additional costs associated with an increase in the time of work (including possible penalties), as well as the need to compensate for additional costs of the customer, reduce the contractor's revenue from performing work on the project.

The EPC contractor includes in the contract price possible property losses associated with the need to eliminate the consequences of materialized risks in the form of a so-called "risk premium". At the same time, even an experienced contractor has a limited ability to anticipate the amount of such additional costs, as a result of which a situation may arise when the amount of such costs exceeds the amount of cash receipts in favor of the contractor. Such a situation can have a negative effect not only on the contractor (the probability of the contractor being declared bankrupt), but also on the interests of the customer: with the unstable financial condition of the contractor, the possibility of achieving the project goals is jeopardized.

2. Means of mitigation (mitigation) of risks assigned to the contractor, provided for by the terms of the 2017 FIDIC Silver Book. Mitigation of the negative impact of risks on the property sphere of the contractor is achieved with the help of a number of civil law means, which (according to the terminology adopted in the contract proforma) include a Performance Guarantee, retention of funds and an obligation to compensate for property losses (I ndemnity), to the analysis of which we proceed.

The guarantee of fulfillment of obligations is provided for in clause 4.2 of the UK. The contractor is obliged to provide the customer with a guarantee of fulfillment of obligations within 28 days from the date of conclusion of the contract. The customer pre-approves the guarantor, as well as the form of the letter of guarantee. The contractor is obliged to maintain the guarantee of ensuring the obligation in force until the moment of signing the act of final delivery and acceptance of the result of the work, including extending its validity period if the transfer of the result deviates from the planned deadlines. In case of a change in the contract price by more than 20%, the amount of the performance guarantee may be changed accordingly.

A claim for a guarantee of performance of obligations may be made in the following cases:

- the contractor has not extended the performance guarantee;

- the contractor will not pay the customer the amount, the payment of which is prescribed by the decision taken in accordance with clause 3.5 of the UK;

- the contractor will not eliminate the consequences of non-fulfillment of obligations specified in the customer's notification in accordance with subparagraph 15.1 of the UK;

- occurrence of circumstances-grounds for the customer's claim for termination of the contract in accordance with clause 15.2 of the UK;

- the contractor does not eliminate the shortcomings of the equipment in accordance with clause 11.5 of the UK.

Let us pay attention to the second basis for the claim for the guarantee of performance of the obligation specified above. Clause 3.5 of the UK establishes the procedure under which the customer's claim for compensation for additional costs caused by events and actions during the execution of the contract is resolved. Thus, the guarantee of performance of the obligation is applied to mitigate the consequences of the occurrence of a risky event or the commission of an action in all cases attributed by the FIDIC 2017 Silver Book to the contractor's risks, since the customer's claim based on the relevant grounds is resolved in accordance with clause 3.5 of the UK.

The retention of funds is provided for in clauses 1.1.60 and 14.3 of the UK. Withholding means the total amount that the customer withholds on the basis of sub-clause 14.3 of the UK and pays on the basis of sub-clause 14.9 of the UK. With the help of withholding funds, which is made by deductions from the amounts of interim payments due to the contractor for the work performed, a fund is formed at the expense of which the customer's requirements to the contractor can be met, including in cases referred by the terms of the UK to the contractor's risk area. The amount of regular contributions, at the expense of which the fund is formed, as well as its maximum size, is determined by the parties in the annex to the agreement. According to clause 14.9 of the UK, 50% of the fund formed as part of the retention of funds is subject to return to the contractor after signing the initial act of acceptance of the result of work, and the remaining 50% - after the expiration of the warranty period, after signing the act of final acceptance of the result of work.

Compensation for property losses is established by direct indication of the terms of the UK in relation to specific situations when the negative impact on the project is not due to violations of contractual, i.e. civil obligations committed by the contractor, but when such violations lie outside the civil regulation, but nevertheless the consequences of such violations directly affect the property sphere of the project participants, or when the negative effect is associated with the actions not of the contractor, but of third parties who are not a party to the contract and not even a participant in the investment and construction project.

 A feature of the application of compensation for property losses is the involvement of the customer to mitigate the risk imposed on the contractor: a situation where the customer by his actions contributes to the occurrence of a risky event that falls within the scope of the contractor's responsibility. These cases are provided for in clauses 1.12 (a) (compensation for property losses resulting from the customer's failure to obtain permits), 4.2.2 (compensation for property losses due to the customer's unlawful declaration of performance guarantee requirements) and 17.3 (a) (compensation for property losses due to the contractor's unlawful instructions of the customer) of the FIDIC Silver Book 2017.

3. Applicability of mitigation (mitigation) of risks imposed on the contractor by the terms of the 2017 FIDIC Silver Book under Russian law.

To establish the possibility of applying the provisions of the FIDIC 2017 Silver Book concerning the use of Performance Guarantee, Retention of funds and compensation for property losses (I ndemnity) to mitigate the risks imposed on the contractor, the terms of the Silver Book were compared with the norms contained in Section III of Part I, paragraphs Chapters 1 and 3 of Part 37 of the Civil Code of the Russian Federation. The purpose of the comparison was to identify analogs of the provisions of the UK in Russian legislation; to establish the existence of contradictions between the terms of the UK, on the one hand, and the norms, the general principles of Russian civil legislation, on the other. During the comparative analysis, the following results were obtained.

The terms of the 2017 FIDIC Silver Book on the application of the performance guarantee can be applied in the conditions of Russian law in the form in which they are fixed in the contract proforma, since they fully comply with the first-demand guarantee known to Russian law. Russian legislation provides for an independent guarantee as a named method of ensuring the fulfillment of obligations. In accordance with the provisions of paragraph 6 of Chapter 23 of Part I of the Civil Code of the Russian Federation, an independent guarantee is used to ensure performance, including contractual obligations.

The same should be said about the retention of funds, known to Russian law as a security payment, the application of which is provided for by the provisions of paragraph 8 of Chapter 23 of Part I of the Civil Code of the Russian Federation. A feature inherent in the terms of the IC on the security payment is the method of "depositing a certain amount of money by one of the parties in favor of the other party" (clause 1 of Article 381.1 of the Civil Code of the Russian Federation). This amount is formed gradually, due to deductions from the amounts due to the contractor for the work performed, which does not contradict the provisions of the Civil Code of the Russian Federation.

However, it should be borne in mind the limitations of the application of a security payment: it is used to ensure the fulfillment of monetary obligations, as directly directed by Article 381.1 of the Civil Code of the Russian Federation. Therefore, foreclosure on the amount of money generated by such deductions is impossible as compensation for non-fulfillment by the contractor of a natural obligation. For example, the customer will not be able to withhold a security payment in his favor if the fact of violation by the contractor of the obligation to perform work of proper quality is revealed. However, if the customer eliminates such a violation with the involvement of a third party in accordance with clause 11.4 (a) of the UK, he will be able to cover his expenses at the expense of a security payment.

The most curious is the correlation of the norms of civil legislation with the terms of the 2017 FIDIC Silver Book on compensation for property losses. The application of compensation for property losses (Indemnity) in the conditions of Russian law is provided for by the norms of Article 406.1 of the Civil Code of the Russian Federation. During the analysis of the conditions of the 2017 FIDIC Silver Book, three cases of using Indemnity to mitigate the risks assigned to the contractor were identified.

Subparagraph 1.12 (a) of the UK provides for the obligation of the customer to compensate the contractor for property losses if the customer has not received the necessary permits for construction within the prescribed period. The terms of the UK oblige the Customer to obtain "planning permission, zoning or construction or similar permits, licenses and (or) approvals for Permanent Facilities and Structures, as well as other sanctions, permits, licenses and (or) approvals described in the Customer's Requirements as received (or received) By the customer". Please note that the implementation of these actions is subject to regulation by the norms of urban planning legislation and is not included in the content of the contract obligation, which means that the provisions of civil legislation on counter-execution are not applicable here. According to paragraph 1 of Article 328 of the Civil Code of the Russian Federation, "The fulfillment of an obligation by one of the parties, which is conditioned on the fulfillment by the other party of its obligations, is recognized as counter" (italics of the authors – V.V., N.L.). At the same time, their fulfillment by the customer is a prerequisite for the timely and proper execution by the contractor of design and construction works, the failure of which may have negative property (civil) consequences for the latter.

In a situation where the contractor commits a violation of its obligations to perform work due to the customer's failure to perform actions to obtain the necessary permits, the customer is obligated to compensate the contractor's property losses, which is a means of mitigating the contractor's risk associated with untimely or otherwise improper performance of work under the contract.

The second case of using Indemnity is related to the contractor's obligation provided by the UK to provide the customer with an independent guarantee of performance of work under the contract. If the customer makes a claim under the guarantee of performance of obligations, when he does not have the right to such a statement, which jeopardizes the use of the contractor's risk mitigation means, the customer is obliged to compensate the contractor for property losses related to the statement of such a claim (Article 4.2.2 of the UK). However, the Civil Code of the Russian Federation provides that the beneficiary (in our case, the customer) is obliged to compensate the guarantor or principal (contractor) for losses caused due to the fact that the documents submitted by him were unreliable or the claim was unfounded (Article 375.1 of the Civil Code of the Russian Federation). Since Article 375.1 of the Civil Code of the Russian Federation directly provides for compensation of losses in the event of the described situation, and not property losses provided for in Article 406.1 of the Civil Code of the Russian Federation, the provisions of Article 4.2.2 of the UK contradict the current Russian legislation and, therefore, are not enforceable.

The third case is related to the situation when the contractor acts in accordance with the instructions of the customer during the performance of contractual obligations, which ultimately leads to a violation of the rights of third parties. Clause 17.3 (a) of the UK establishes that the customer, in certain cases, undertakes to compensate the contractor for property losses incurred in connection with any claim by a third party regarding an alleged violation of intellectual or industrial property rights related to work performed under the contract. Such a rule can be implemented if the alleged violation is an unavoidable result of compliance with the Customer's requirements.

The content of clause 17.3 (a) of the UK should be interpreted in conjunction with Russian legislation establishing the contractor's obligation to fulfill the customer's instructions received during construction, if such instructions do not contradict the terms of the construction contract and do not constitute interference in the contractor's operational and economic activities (Clause 3 of Article 748 of the Civil Code of the Russian Federation). Paragraph 3 of Article 748 of the Civil Code of the Russian Federation establishes in which cases the contractor has the right to refuse to execute the instructions received from the customer. Among them there is no direct mention that the customer's instructions should not violate the rights of third parties to the results of intellectual activity and means of individualization. However, in civil law it is presumed that such rights are protected. In this regard, if the contractor, acting in accordance with the instructions of the customer, allegedly commits a violation of the rights of third parties, which leads to the statement of property claims by such a third party to the contractor, it is quite fair and appropriate to apply clause 17.3 (a) of the UK, since property losses incurred by the contractor for the execution of the instructions of the customer may become the subject of a lengthy trial and, as the authors of the well-known comment to the Civil Code of the Russian Federation note, in such a situation, the contractor will have a guarantee that the customer will cover the corresponding costs ^{[7; 740]}.

***

The results of the analysis indicate that it is possible in principle to apply the conditions of the 2017 FIDIC Silver Book, which establish means of mitigating the contractor's burden of risk, in the conditions of Russian civil legislation, taking into account the following exceptions:

(1) a security payment may not be used as a means of mitigating the consequences of a contractor's failure to fulfill an obligation in kind;

(2) compensation for property losses may not be applied in the event of an unlawful claim by the customer for a guarantee of performance of contractual obligations provided by the contractor.

The interrelated application of several civil legal means is primarily aimed at ensuring a stable property position of the contractor as one of the key participants in the investment and construction project. At the same time, ultimately, their application contributes to the achievement of the project objectives, which is in the sphere of interests of both parties to the contract.