Drafting target cost clauses with precision (AMEC Group Ltd v Secretary of State for Defence  110 (TCC))
The construction industry has recently seen an increase in the use of target cost contracts, with employers seeking to incentivise contractors to bring in construction projects within cost budgets.
Earlier this year, in the case of AMEC Group Ltd v Secretary of State for Defence  EWHC 110 (TCC), the Technology and Construction Court highlighted the importance of drafting target cost clauses with precision.
The contractor in the case, AMEC Group, was engaged by the Secretary of State for Defence ('the employer') under a guaranteed maximum price target costs contract for the design and construction of a nuclear submarine facility. The agreed maximum price was £142 million. The contract was subject to a pain/gain mechanism providing that any costs under- or overruns up to £142 million will be shared between the parties. If costs exceeded the maximum price, up to a cap of £50 million, liability would be borne by the contractor. Over this cap, liability would revert to the employer.
The question was whether the overrun above the cap ought to be borne by the employer, and if so, whether the costs would be those defined as 'Actual Costs', reasonably and properly incurred, or all costs, howsoever incurred. This ambiguity was caused by what was described by the judge as "unusual" and "badly-worded" clause.
The dispute had previously been referred to an adjudicator and a disputes review board ('DRB'), both of whom concluded that the employer's liability was for Actual Costs. The contractor challenged the decision and sought permission to appeal on the ground that the DRB had erred on a point of law and their decision was either "obviously wrong" or concerned a question of public importance and was open to "serious doubt".
Sitting in the Technology and Construction Court, Mr Justice Coulson refused to grant permission to appeal, concluding that the DRB's view was neither obviously wrong nor open to serious doubt. It was "plainly right" for the following key reasons:
- since the entire pricing and payment regime of the contract depended on the ascertainment of Actual Costs, it was only reasonable for Actual Costs to be recoverable once the maximum price plus £50 million had been reached;
- if the all costs, howsoever incurred, were recoverable, it would result in some "very odd results", such as allowing the contractor to recover from the employer the costs of rectifying its own breach of contract; this could only be allowed by the "clearest possible contractual provisions";
- the fact that the provision relating to costs above the maximum price plus £50 million referred to 'actual costs' in lower case, as opposed to 'Actual Costs' as defined in the contract, was irrelevant; the two phrases were used interchangeably.
This judgment provides a reminder to construction professionals that target costs arrangements including pain/gain mechanisms need to be drafted with the finest precision, making clear provisions for even the most unexpected circumstances.