Last edited 13 Jan 2016

Managing contractual disputes in the UAE

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[edit] Introduction

Contracts are valid agreements between two parties which oblige each to do, or not to do certain things. The terms of the contract should be such that it is enforceable in law by the parties. Both parties must clearly understand (i.e. there must be a meeting of the minds) the terms of contract.

The contract specifies certain conditions to allocate the exposure of risk. If the risk of contract is not correctly analysed, then it can lead to undesirable risk for the parties. ( It is best for both parties to the contract to understand what risks they are accepting. Through this they will be able to manage the risk and will be able to take necessary actions so that it can be minimised.

The terms of the contract are very important, FIDIC a renowned international contract. The form of the FIDIC contract represent a compromise between the parties. The main benefit in this type of contract is that most of the terms are widely interpreted the same way in courts.

[edit] Types of risk in contract

There are different types of risk which vary depending upon the type of contract, the costs of performance and the degree of the responsibility taken by the parties.

Risk may erode the value of the contract, and if there are not good incentives for both parties, this may result in disputes. Planning and bad management is another reason for failure in execution of a contract. Miscommunication may also lead to loss in momentum which increases the cost in contract. Lack of transparency between the parties is another contract related problems. Other areas of risk include leakage in revenue, overrunning in cost, failure to meet business needs etc.

This parties must fully understand the terms of contract to manage their risk. This is the first step to avoiding disputes in contracts.

[edit] Factors that increase contract risk

The main reason for an increase in contract risk is that the parties does not identify and manage risk using a systematic approach:

  • Dependence on third parties for other services such as logistics, manufacturing, payroll etc.
  • Companies licensing patents, copyrights, trademarks etc. for exploiting newly developed infrastructure rather than development of infrastructure required for production and sales of goods internally.
  • With the increase in globalisation, regulatory and geopolitical risk is on the increase and leads to operational and business risk in contracts.
  • There is a need of stronger corporate governance and fraud awareness with procurement of international contracts.

The parties sometimes lack focus on the administration and different risk management processes of the contract. During the time initiation of contract, the parties to the contract should review the terms of the contract with regard to financial as well as business implications. The legal department should review terms and conditions and eliminate any undesired liability, legal obligations other limitations that exist in contract. Furthermore, the initiator and administrator of the contract should reduce the knowledge gap in terms of contract. (LLC, 2011)

[edit] Limitation of liability

Due to the risks in construction contracts, there is chance of loss exposure. By proper allocation and managing of risks, the parties in the contract can limit their liability.

There are different types of liability that can occur after initiation of contract. Under UAE law, civil liability is a matter of either tort or contract. The contractual liability can be limited on agreeing on certain terms of the contract. The liability ceiling limit can also be agreed between the parties of the contract. UAE law also includes statutory exceptions with regard to employment or environmental law. Decennial liability is where the liability arises due to defects. The tort based liability scope is broader than contractual liability because it includes foreseeable and unforeseeable damages. Thus a limitation of liability clause helps both the parties in limiting their loss exposure. (Attia, 2012) Under UAE law, the parties are free to agree the terms of construction contract.

UAE law of contract differs from the Red book used in the middle-east region. The contractor while initiating the contract in UAE law must carefully check the decennial liability clause because it differs from Article 390 of the UAE civil code. In UAE law, the contractor should also have a ceiling limit on commercial liability exposure while under standard clause of red book there is no limit on commercial liability exposure.

[edit] Risk allocation

Contract risk must be allocated fairly between the parties. The partitioning of the contract should be in terms of the quantitative as well as qualitative factors of the contract. Proper portioning of contract will help in taking precautions and to exploit any comparative advantage to one party. If there is any unforeseeable event then the parties may be able to negotiate and modify the terms of the contract.

The quantitative part of partitioning deals with differentiation in price may be upon a fixed or flexible value of the contract. The fixed price provides a certain amount of revenue to the contractor against the contractual obligation. On the other hand, flexible price depends upon the valuation of performance. For example – If the transaction is in spot price, then the risk is transferred to seller for fluctuations in the value of sale.

Qualitative partitioning enhances the efficiency of risk allocation between the parties. Clauses such as force majeure reduce the chance of specified events that may affect the value of the contract. The common law of doctrine is applied when unexpected events occur during the performance of a contract.

Apart from the above two types of risk, there is residual risk after all the precautions are taken by the parties. The parties manage this residual by self-insurance by hedging its contract and other unexpected events. Professionals coming from UK are take insurance against professional liability. The liability in the middle-east region differs as per the country. (Triantis, 1999)

[edit] Importance of the fair allocation of risks

Risk allocation must be fair between the parties for successful performance of the contract. This can be done by modifying the clauses of the risk in standard format. Non-standard risk should be further allocated between the parties. Fair allocation needs to be proper and valid transfer of risk and the performance of contract.

The reasons for unfair allocation may be due the fact that parties do not follow formal methods of risk assessment during initiation. The risk is not fairly allocated between the parties who will be able to manage it in the best way. Risks are often transferred to third parties who are unable to manage it.

The fair allocation of risk can be done by following these steps-:

  • The parties to the contract must do formal risk assessment before entering in to the contract.
  • The risk should be fairly allocated to the parties who will be best able to manage the risk. At the pre-tendering stage, the risk should be fairly allocated on the basis of the efficiency of the parties. It has been found that the project initiator is less willing to take risk. If the risk is not allocated on the basis of efficiency then it will create problems at the contract delivery stage.
  • Parties to the contract are not following the clauses of the standard format. The variation of clauses of a standard contract are in the interest of the dominant party. It should only be changed if there is a local reason for changing it.
  • When the risks are transferred to outside contractors and consultants then it is possible to manage.
  • Financial cost to be borne by the parties from changes in clauses should be analysed. This means that the price of risk must be included in the tender price.
  • It has been seen that there is a lack of awareness among the principals regarding the risk allocation.

It can be concluded that risk should be efficiently allocated. Different allocation strategies can be adopted, such as; educating the principals, developing guidelines, engaging professionals, undertaking scope of contract in more detail terms.

[edit] Managing risk

Risk and conflict are two basic features of contracts. Conflict starts when the risk in a contract is not fairly allocated between the parties. If the risk is not shared equitably between the parties then there will be conflict. This can be solved only better governance and proper allocation of project risk. Risk should be negotiated and allocated on the basis of commercial and negotiated strength. If the parties to the contract are stronger and weaker then stronger party will try to shift the risk to the weaker party. Thus, improperly allocated risk will have an impact on total cost of project as well as ability to manage it. However fair risk allocation between the parties is not an easy task. The effect of risk allocation must be researched and documented during initiation of contract. The allocation of risk should be on the ability to mitigate the risk. (Shapiro, 2010)

By taking Insurance each party can further indemnify their obligations. However English law differs between the damage claim and damage claim under indemnity. At the drafting of the contract, the risk obligation should be identified and should be assumed by each of the party. These obligations should be insured to cover the obligation. The contractor should further try to ensure sub-contractors also cover the risk. (SC., 2015)

[edit] Unforeseeable physical conditions

FIDIC standard forms of contract constitute the international standard form. The important feature of the red book is the risk which is allocated to the contractor in relation to the unforeseen physical conditions. Under the red book of FIDIC the contract is not affected by any unforeseen difficulties and costs. The practical difficulty which arose in this clause was what constitutes an adverse physical condition and artificial obstruction. For example – Artificial obstruction was concluded as being created by the parties themselves. If the materials are prevented from sending it to the site then it will be called an artificial obstruction. Now a major change has been undertaken, clause 4.12 which said that physical conditions meant natural as well as man-made physical conditions which exist in the contract. Before amendment, it was further depending upon the conditions which existed on site. But now the area also includes the offsite area.

[edit] Ways to avoid pitfalls

If the contractor claims additional payment, this can only be done by serving notice as per the requirement of red book. After the event happens, the contractor must give notice not later than 28 days. Further detailed claims must be filled within 42 days after the contractor is aware of the claim. Now as per the red book of FIDIC there is no ceiling on that amount claimed by the contractor.

Variation in the terms of contacts should be well documented on the instruction of employer, or an employer’s request and value engineering proposal of the contractor. However changes in the terms of the contract must be documented in writing if it is through instructions of the engineer.

If the project completion is after the due date of completion of project then the contractor will be liable for damages. If an extension of time is available for the contractor then the requirements of the contract must be accordingly fulfilled. The contractor permitted an extension in completion time if there is a variation in the terms of contract, exceptionally bad weather, unforeseeable circumstances etc. The contractor further must strictly comply with the necessary notice requirement for the claim.

[edit] Dispute resolution

Disputes under the Red as well as Yellow book of FIDIC are referred to Dispute Adjudication Board (DAB). It may be started at the time of initiation of contract or when the dispute actually occurs. This process may also be known as an informal process which increases the party involvement and the need for speed to resolve it. The notice of dissatisfaction must be given to both the parties. If the DAB is not able to give a final decision it will be resolved by arbitration. Effective record keeping will help both the parties to accurately solve the dispute between them. (, August 2011).

[edit] Conclusion

This article was prepared to correctly analyse standard format of contract as issued by FIDIC. After initial drafting of the contract, there should be fair allocation of risk between the parties. The risk allocation should be allocated based on the ability of the party to control it. Improper allocation of risk may hamper the quality of the contract and also increase the cost of project. It must be managed and coordinated between the parties appropriately.

The allocation of risk should be in a rational and realistic manner. Responsibility of the parties to the contract must be assigned to the party who can best manage the risk. Risks which are not in the control of both parties should be shared. (Zamorsky, 2015). If the risk in the contract is not correctly analysed, then it will lead to unique risk for the parties.

The terms of contract are very important. FIDIC represents a type of compromise made between the parties. The main benefit in this type of contract is that most of terms are widely interpreted in the same way in court.

Disputes under Red as well as Yellow book of FIDIC are referred to Dispute Adjudication Board (DAB). If the DAB is not able to give final decision then it will be resolved by international arbitration.

[edit] External references

  • (n.d.). Contract Definition. Learn Law, 1.
  • (August 2011). Standard Form Contracts: FIDIC. Construction standard from contracts, 1.
  • LLC, P. C. (2011). Managing Contract Risks. The Increased Importance of Contracts as a Risk Management Tool, 1-10.
  • reality?, E. r. (July 2001). A survey on risk allocation in major WA. Athol Yates & Bill Sashegy, 5-10.
  • SC., W. H. (2015). Risk Management in Construction Contracts: The Basics. REALDEAL, 1-4.
  • Shapiro, B. S. (2010). TRANSFERRING RISKS IN CONSTRUCTION CONTRACTS. Law Corporation, 1-5.
  • Triantis, G. G. (1999). UNFORESEEN CONTINGENCIES. RISK ALLOCATION IN CONTRACTS. University of Virginia School of Law, 10-15.
  • Zamorsky, T. (2015). Construction Briefing - Risk Allocation. CPR Introduction, 1.