NEC3 compensation events: forecasting versus actual cost

In a recently published decision, the Northern Irish High Court has considered the correct approach to the assessment of compensation events under an NEC3 contract. The decision considers the extent to which an assessment is required to be made on the basis of forecasts as opposed to actual cost information when an assessment is being made after the impacts of a compensation event are known. This appears to be the first decision of a UK court on the assessment of compensation events under this popular form of contract.

Northern Ireland Housing Executive v Healthy Buildings (Ireland) Limited

The Northern Ireland Housing Executive (“the Employer”) engaged Healthy Buildings (“the Consultant”) as an asbestos survey consultant in relation to two contracts in the form of the NEC3 Professional Services Contract. The Employer gave an instruction changing the scope of the works to the Consultant but failed to notify this as a compensation event as it should have done under the terms of the contract. The Consultant notified the instruction as a compensation event four months later, and quotations to assess the effects of the compensation event were provided three and five months after the notification. All of this was well outside of the timeframes as provided for under the contract. The Employer rejected the quotations and assessed the effect of the compensation event as being zero, 11 months after the initial instruction was given by the Employer.

The dispute was referred to adjudication and subsequently to the High Court. The parties disagreed as to whether the Consultant’s records of actual cost were relevant to the assessment of the compensation event. The court was therefore asked to determine two questions:

• Should the assessment of the effect of the compensation event be calculated by reference to the change in forecasted charges under the contract or the actual cost incurred by the Consultant?
• Were actual costs relevant to the assessment process for compensation events?

The Consultant relied principally on clause 63.1 which remained in standard form and stated that “changes to the prices are assessed as the effect of the compensation event upon … the forecast Time Charge for the work not yet done.” The clause went on to state that the point at when the Employer should have instructed the Consultant to submit a quotation “divides the work already done from the work not yet done”. As the Employer should have instructed the Consultant to submit a quotation at the same time as its initial instruction, the Consultant contended that the compensation event should be assessed by reference to a forecast of its increased charges alone.

The Consultant also relied on clause 63.6 which stated that the assessment of a compensation event is to include “risk allowances for cost and time for matters which have a significant chance of occurring”. Clause 65.2 also stated that the assessment of a compensation event was not to be revised “if a forecast upon which it is based is shown by later recorded information to have been wrong”.

Decision

The court answered both questions in favour of an actual cost approach. In doing so the court relied on established caselaw in relation to the assessment of damages which suggested that assessments should be made with the benefit of full information. The court asked rhetorically, “why should I shut my eyes and grope in the dark when the material is available to show what work [the Consultant] actually did and how much it cost them?”

With regard to the NEC3 wording in particular, the court emphasised the need to take a business-like interpretation to the contract. The references to forecasting in the language of the contract were therefore to be limited to a situation in which the timeframes stipulated by the NEC3 assessment provisions were complied with, and not where quotations or assessments were being made after the event:

“While in the wording of the contract the word “"forecast”" is applicable if what should be done is done what in reality the consultant was doing in August and October 2013 was making a claim for work done. It seems to me that to give an efficacious and business-like interpretation to the contract a quotation which arises in those circumstances, rather than as a genuine forecast, ought to be informed by the best information available as to the actual cost and time incurred by the consultant as a result of the instruction.”

Conclusions and implications

This appears to be the first time the compensation event assessment provisions of the NEC form of contract have been considered by a UK court. The “forecast vs actual” issue determined by the court (sometimes referred to as the “prospective vs retrospective” debate) is one which arises frequently in disputes under the NEC form. The decision is likely to be of significant relevance to a wide range of parties contracting under the NEC.

It is not clear from the court’s decision whether a party still needs to make a “forecast” in relation to a compensation event when carrying out an assessment after the event by reference to actual cost. The tenor of the court’s judgment and the phrasing of the two questions answered by the court suggests that no forecast is needed, although this could be said to significantly narrow the language of the contract.

The court’s suggestion that the use of forecasts is to be confined to situations in which the timeframes for assessment under the contract had been complied with raises an issue over situations where an Employer is favoured by the difference between lower actual costs incurred by a Contractor and a genuine (but higher) forecast sum. Such a benefit might be said to arise from the Employer’s own breach of contract by not notifying or assessing a compensation event when it should have done so.

The decision may encourage Employers not to notify or assess compensation events promptly (in breach of contract) with a view to basing future assessments on actual rather than forecasted impacts. This could be said to be contrary to the overall philosophy of the NEC, described by one TCC judge as being “to avoid disputes at the end of a project by having intensive management machinery to deal with issues during the process of a project” (WSP Cel v Dalkia Utilities Services).

An alternative approach for Employers wishing to avoid forecasted assessments is to instruct the Contractor to submit quotations for compensation events based on conservative assumptions (under clause 61.6 of the standard NEC3 wording). Risk events which subsequently materialise and fall outside of the stated assumptions are then dealt with as separate compensation events as and when they arise.

This case is from Northern Ireland and we will need to wait to see if a similar approach is followed by the English courts. It is worth noting also that the new NEC4 contracts, due to be released in June this year, do not appear to make any major changes to the compensation event assessment provisions, and as such the impact of this case will remain relevant.

References:

WSP Cel Ltd v Dalkia Utilities Services Plc [2012] EWHC 2428 (TCC)

Northern Ireland Housing Executive v Healthy Buildings (Ireland) Limited [2017] NIQB 43