Framework Agreements Part 1: Red flags and how contractors can negotiate their way out of them

Framework Agreements are broad terms that govern the ongoing commercial relationship between parties, usually relating to the provision of a combination of goods, services and/or construction works.  The main contract provides a framework that will contain the terms common to every transaction. The customer will then have the ability to issue separate “Orders” or “Call Off Contracts” to the contractor, detailing the specific terms of each transaction, such as the works to be carried out, the specified time and the contract price. Framework Agreements are ideally suited to regulate the provision of repeat works, where contractors are effectively on a retainer. This provides certainty to the customer that their requirements will be met, whilst also gives some incentive to the customer to provide higher volumes of work to the contractor.

Framework Agreements are known by a number of names including Master Services Agreements. They are becoming increasingly common in usage across various construction and service industries as a means of standardising terms across works or the provision of services. In particular, those tendering for public works or services will more likely find themselves responding to framework terms due to their popularity with public authorities.

The agreements can be full of pitfalls for contractors, who all too often do not obtain legal advice before unfortunately sometimes signing up to Framework Agreements which contain onerous terms.

Below are a list of red flags for contractors to watch out for when entering into a Framework Agreement and how you might negotiate them:

Liquidated damages

A liquidated damages clause requires you to pay an agreed sum of money to the customer in the event of specified breaches, such as delay of completion or falling short of agreed service levels. Liquidated damages can be easily enforced by the customer and so it is vital that you assess the likelihood of such a breach occurring and the affect a liquidated damages payment would have on the profitability of the contract.  Where margins are small and the likelihood of breach might be high, a risk assessment of entering into the contract should be performed. You should also consider if the purchase price needs to be increased to reflect the higher risk.

Negotiation points: Whilst the law has moved on slightly, a key principle of liquidated damages was always that the agreed rate must accurately reflect the level of loss estimated to be incurred as a result of your breach.  For example, if delay to completion will lead to the customer incurring £1,000 per week in lost profits, the customer might seek £1,000 per week in liquidated damages. However, if no loss is likely to be incurred as a result of the delay, you can push back on the inclusion of liquidated damages, citing that it is “not a genuine pre-estimate of loss”.  Further, if the delivery of the order is broken down into milestones, be sure to draft a mechanism by which the level of any agreed liquidated damages reduces with the completion of each milestone, reducing your exposure over time.

Retention

The cost of the customer holding onto a retention percentage post completion should not be underestimated. This can lead to real problems for cash flow or financing any debt, which can cost you additional money, whilst inflation can mean that your money is worth less by the time it is finally returned 12 months later.

Negotiation points: Retentions are often found in standard documents, but that does not mean they are always required by the customer. Whilst it is usual to accept retentions for construction projects (for example, the JCT requires a default 3% retention unless it is de-selected in the contract particulars) they should not be required without good reason, for smaller repeat works that you might find in a Framework Agreement. Do therefore always check if the customer genuinely requires a retention before locking up your money. If the first time a retention requirement has been raised, is on receipt of the contract, it is not unreasonable to ask for a retention to be removed or for you to increase the contract price as a result.

If the customer does insist on a retention, require that half of it is to be repaid on completion with the remainder to be paid at a later date of not more than 12 months. The customer should be required to hold the retention as fiduciary and must deal with the retention as if it is held on trust for you. On a more practical note, ensure your accounts department are kept in the loop of any required retentions and that there is a system in place for diarising repayments of retentions.

Bonds

Performance bonds or advance payment bonds are effectively a further insurance policy provided by a third party, and can be invoked should you breach the terms of the contract or become insolvent.  They are expensive to procure.

Negotiation points: If a bond is genuinely required by the customer and the first time it has been raised is on provision of the contract, it is reasonable to ask for the customer to bear all or some of the cost of the bond or alternatively to remove it from the contract.

Rebates

Customers may ask for rebates for volume discounts or early payment discounts.

Negotiation points: Carefully consider if the terms of the rebate are acceptable. Have such rebates been factored into your service costs? Are they likely to incentivise the customer to spend more with you or merely erode your profits? What is the value of an early repayment to the business in terms of any debt interests costs you might be servicing? Do your competitors offer such rebates? No one likes to give money back, but can you make it work for your business.

Precondition of payment or a condition precedent to payment (or completion)

These are requirements that need to be fulfilled before payment will be made by the customer or before completion can be certified on a construction project

Negotiation points: Read any such obligations thoroughly to ensure they are fair and industry standard. For example a requirement to send a valid VAT invoice is fair. A blanket requirement that there are no ongoing breaches or delays prior to payment is not fair.

Directors/group/parent guarantees

Such guarantees ensure that a related third party is liable for any breach of the contract. Any such party should be added as an additional party to the contract, but always ensure that the guaranteeing party is fully aware of the obligations being placed on them.

Negotiation points: Question if such a guarantee is really required and consider very carefully before agreeing to any personal liability such as a director’s guarantee. Personal guarantees are certainly not standard in this type of agreement and should always be considered a red flag. Can the customer’s concerns be eased by your works insurance cover (or that of your subcontractors) instead?

Warranties and guarantees

You should ensure that any warranties or guarantees required under the contract are commercially viable.

Negotiation points: You should incorporate any industry specific exclusions and your standard exclusions from your T&Cs into the Framework Agreement. For example ensure that any warranty is limited by the appropriate time period. Should any services or materials be excluded from the guarantee? If the warranty period is longer than usual, can the contract price be increased to reflect your greater risk.

Collateral Warranties

These are separate to your standard warranties, in that they are designed to ensure that there is contractual privity between those benefiting from the works and those providing the works, enabling the beneficiary to have a direct line of enforcement. There are two main types of collateral warranty that may be requested:

1. Third party beneficiary: This is a contract between you and a beneficiary who has an interest in the works being performed, such as a tenant, landowner, future purchaser or funder; and
2. Subcontractor: These are collateral warranties that you are to procure from your subcontractors. The agreement is between your subcontractor and the customer.

Negotiation points: For third party beneficiary collateral warranties ensure that the terms of the collateral warranty are no more onerous than the obligations under the Framework Agreement.

For subcontractor collateral warranties ensure that they are negotiated with the subcontractor before the Framework Agreement is completed. You should not put yourself in a position where you are contractually obliged to provide a subcontractor collateral warranty, without a mechanism by which you can oblige your subcontractor to provide that warranty.

Purchase Orders Outside of an Existing Framework Agreement

Contractors will often be issued with a purchase order for works which contain a link to T&Cs. Please review the T&Cs to ensure that you do not inadvertently agree to onerous terms, through the acceptance or performance of the purchase order. The documents should always state when and how the contract is formed and the parties are bound by its terms. Negotiating these can be difficult, but check there are no red flags.

Contracts are all too often agreed in the construction and service industry without proper review, but with real consequences when transactions do not go to plan. Framework Agreements in particular might govern a relationship that will run for years. They are worth investing in at the outset to ensure that they work for you, as well as your customer.

I have a wealth of experience negotiating Framework Agreements and other forms of contracts for the provision of services, from my time spent in-house as Legal Director for a nationwide contractor. If you would like any advice on a particular contract or transaction, please do not hesitate to contact me.