It is that old guy-meets-gal scenario: contractor bids for job, contractor wins job, contractor negotiates with TBM manufacturer, and a deal is done. In most tunnelling projects, the relationship between those involved in delivering the scheme is hierarchical, with the client at the top. They in turn have a direct contractual relationship with the main contractor, who in turn has contractual relationships with its subcontractors, including its TBM supplier.
If a machine gets stuck in the ground, it is down to the contractor and TBM supplier to find a way to get it moving again. But what happens if and when the relationship between contractor and supplier breaks down, be it over a payment dispute or a blame-game regarding a fault with the machine?
Singapore’s Land Transport Authority (LTA) is currently procuring contractors for the third stage of its Downtown Line Three metro system, with TBMs on the second stage due to be launched in the summer and construction on the first stage nearing completion.
The company was tired of having to step in to resolve disputes between contractors and TBM suppliers, and so looked for a way of having leverage over both parties, says LTA deputy director for contracts on Downtown Line Two Sandee Heng.
“In recent years we have had problems with tunnelling contractors putting up claims for extra payment and refusing to do anything, and in the meantime the TBM is stuck in the ground,” says Heng.
“Because the tunnelling is done by the subcontractor, the client has no power to tell them to order spare parts or do something to get the tunnelling going.”
Heng says that in seeking to resolve this issue and give the LTA greater control over its projects, she looked at the LTA’s existing relationships with subcontractors in other areas.
“In other civil engineering works – for example an underground station – you always have a warranty for water proofing, for piling works, given by our contractors,” she says.
“So I thought if we can have this for other areas, we can have this for tunnelling. In addition to the warranty, the TBM manufacturer also has to put up a performance bond. It’s SGD 1M (USD 785,000) per drive. It is an on-demand bond that the LTA can call on. Obviously if they comply we will not call on it.”
With one recent dispute between a contractor and its TBM supplier allegedly leaving the machine stuck in the ground for six months, it is understandable that the LTA has sought a way to get things moving again.
However, it is understood that delays caused by disputes are far from the only reason that the deed and performance bond have been introduced.
A key concern behind the scenes at the LTA is the quality of contractors its heavily price-focussed procurement process may attract, although this is not admitted publicly.
On Downtown Line Two and other recent metro projects the LTA awarded the contracts on a 70/30 split between price and experience respectively. This focusing of the competition resulted in greatly reduced tender prices – on one contract the winning tender was more than SGD 200M (USD 150M approx.) cheaper than the closest competitor – and on Downtown Line Three and further metro schemes, contracts will be awarded on an 80/20 split, almost guaranteeing the lowest bidder the contract.
The concern is that contractors without the technical ability to successfully deliver the projects may end up winning jobs, and the LTA views a direct contractual link with the TBM supplier as a way of safeguarding the future of the project.
This attempt at safeguarding can also be seen in the new contractual requirement in LTA’s tunnelling schemes that the TBM manufacturer has a full-time representative working with the contractor’s team.
Robbins TBM Singapore country manager Pierre-Alain Scherwey – whose firm is bidding for packages on stage three of the Downtown Line – welcomes this requirement.
“This is something that we like to propose on all projects,” says Scherwey.
“One specialist from the TBM manufacturer on the job site is a very good thing for the contractor if he has any questions about the machine, the parts or anything else. They can be answered quicker as the contractor can speak face to face with the supplier. The contractor saves money if the TBM goes fast and completes the tunnel ahead of schedule. However, this is significant money for the contractor to pay as our man is an expert, so often they prefer to manage by themselves.”
The requirement for a TBM firm employee onsite can also help ensure proper treatment of the machine during the project, which is of concern for the manufacturer if there is a buy-back option on the TBM. On Downtown Line Two the early signs are that the increased financial and on-site involvement of TBM suppliers are helping guarantee the LTA technical excellence on their projects.
“So far the main benefit has come at the design stage on the specification of the machine,” says LTA project manager Simon Hoblyn.
“What we tended to see was the machine manufacturers playing a bigger role in the final design as they didn’t want any corner-cutting by the contractor.” Dowtown Line will be the fifth MRT line in Singapore. When fully completed, the line will be about 42km long with 34 stations.
Stage one of the Downtown Line is targeted for completion in 2013, while stage two is targeted for 2015 and stage three is targeted for 2017.
As construction on stage one nears an end and stage three is still in planning, stage two is preparing for its peak later this year. Downtown Line Two is 16.6km with 12 stations and one depot. The project is fully underground and is split into 10 main civil contracts between seven contractors and three TBM manufacturers. Shafts are currently being built and tunnelling is due to begin early summer.
The contractors are: GS E&C, SK E&C, McConnell Dowell, Alpine, Sembawang E&C, STEC, Ssang Yong.
There are 19 TBM drives on the project, and each one carries with it a SGD1M performance bond for the TBM supplier. Herrenknecht machines are on 10 of the drives – four slurry TBMs and six EPBs. Kawasaki slurry TBMs are on five of the drives, and Hitachi EPBs are on the remaining four drives.
At SGD 10M (USD 7.85M), Herrenknecht’s exposure to performance bonds on Downtown Line Two is significant, especially when you consider that on-demand performance bonds require no justification by the holder (LTA) for drawing on them.
Herrenknecht declined to comment. Scherwey says the financial risk is one that firms have to be willing to take.
“It is not an unacceptable demand and I can see it from the client’s point of view – the way to get companies involved is to get money involved,” says Scherwey.
“However, it would have to be a very big problem for the LTA to call on the bond – I don’t see that the LTA has an interest in harming the TBM manufacturers. I hope contractors will be fair enough and LTA will be fair enough. The question to ask is what is the relationship between the bond and problems onsite such as delays? They can’t just claim SGD 2M (USD 1.58M) for minor things.”
Or can they? The strict definition of an on-demand bond is that the bondholder (in this case the LTA) does not need to give any justification for calling the bond.
Berwin Leighton Paisner Associate Iain Suttie says: “As you will appreciate, the purpose of an on demand bond from a sub-contractor in favour of the client is to allow the employer certain and ready access to cash for use on the project in the event of some default. The bond demand should be conclusive in itself and not require the client to prove in detail that a loss has been incurred as a result of the sub-contractor’s default.”
The TBM manufacturer’s performance bond would typically be supplied to the LTA by a bank with whom the TBM supplier has an account. The bond essentially guarantees that the TBM supplier has a certain level of cash in its bank account that can be accessed immediately by the bondholder, i.e. the LTA.
While Suttie says that the additional risk that comes with supplying a bond should be priced at tender stage by the TBM firm, Hill Hofstetter partner Jim Sharkey warns that a call on a bond can still have a sizeable impact on firm’s financial health.
“On demand performance bonds are great for the party that’s got them, but they are clearly not very popular with firms,” says Sharkey.
“Their credit lines can be buggered up by an on-demand performance bond [if it is called on] and they have no ability to argue against this.”
Heng tries to reassure TBM firms that the LTA will only call on the performance bond as a last resort and will be discriminating.
“We work very closely with the project, so when we have a problem we know who is at fault, whether it is the contractor or the TBM manufacturer,” says Heng. “We will not just penalise the TBM firms.”
Engineering consultant Nigel Legge says he is doubtful that anything in tunneling could ever be as clear cut as Heng says.
“I’m not sure it’s so simple in reality – determining causality and responsibility are typically complex and obfuscation is the norm,” says Legge.
“If providing a TBM warranty is what clients require then contractors and manufacturers will have to comply. Contractually and legally though this could have significant ‘can of worms’ potential.”
This ‘can of worms’ potential was illustrated by a case in the Singapore courts late last year in a dispute between a property developer and its contractor over the dveloper’s calling of a performance bond.
Under Singapore law there are only two arguments TBM manufacturers can fall back on to delay or even stop a calling on an on-demand performance bond: one is fraud, the other is ‘unconsionability’. While an argument of fraud asserts deliberate dishonesty on the part of bondholder in calling the bond, ‘unconscionability’ merely implies unfairness.
In the case of contractor Gammon versus developer JBE Properties, the Singapore High Court Judge said Gammon had shown ‘a strong prima facie case of unconscionability’ when arguing for a deferring of the bond.
JBE had called on the bond to rectify defects in a property Gammon had built for it after the contractor had failed to do so. While Gammon acknowledged that the defects existed, it argued that the calling of a SGD 2.2M (USD 1.74M) bond for what were minor cladding defects was unconscionable as it was wholly disproportionate to the value of the works – it equated to more than 25 per cent of the original contract value. Gammon also alleged that the awarding of the rectification works to a rival contractor was a ‘sham’, with the letter of award being a one page document that included no details about the scope of the work.
The judge granted Gammon an Interim Injunction which deferred the calling of the bond until further notice, and ordered Gammon to complete the rectification works in six months.
JBE appealed against the judgement, and the result of the appeal offers even more hope to TBM manufacturers worried about the lack of justification needed for the calling of an on-demand performance bond.
The Singapore Court of Appeal made some observations on whether the bond was, in fact, and on-demand performance bond, or whether it was actually an ‘indemnity performance bond’ – that is one where the bank is only liable to pay out the performance bond on upon proof of breach by Gammon and loss by JBE.
On the facts, the Court of Appeal was of the view that Clause One of the bond was the crucial determining factor as to its nature. Clause One stated that the Bank was obliged to indemnify JBE only against ‘all losses, damages, costs, expenses or [sic] otherwise sustained by [JBE]’ as a result of Gammon’s breach of the Building Contract. This meant that the Bank’s obligation under the bond was limited to indemnifying JBE against actual losses sustained by it due to Gammon’s breach of the Building Contract.
Since the payment obligation of the Bank was so limited, the Court of Appeal concluded that the Bond had the character of a true indemnity performance bond. Following from its ruling that the Bond should be construed as a true indemnity performance bond, the Court of Appeal held that JBE was not entitled to call on the bond unless it proved that it had suffered actual loss at the date of its call on the bond as a result of Gammon’s breach of the Building Contract. The Court of Appeal found that JBE had failed to do so and upheld the granting of the Interim Injunction accordingly.
Allen & Gledhill partner Ho Chien Mien, who represented Gammon, says in a recently published paper on the case that any client that intends to obtain an ondemand performance bond from its contractor should look at the wording of their contracts closely.
“[They] should ensure that the terms of the performance bond do not suggest or contain provisions which indicate that the issuing bank of the performance bond is only obliged to indemnify the developer against losses, damages, costs, expenses ‘sustained by’ the developer as a result of a breach of the contractor’s obligation under a building contract,” says Chien Mien.
“Further, a [client] demanding payment on an on-demand bond should also ensure that it is properly able to justify such a call, even if only on a rough and ready basis.”
While on-demand performance bonds may make TBM manufacturers uncomfortable, they should take solace from the fact that Singaporean law offers greater protection to issuers of such bonds than many other countries’ legal systems. Indeed, it appears it would be very difficult, given the legal precedents, for any bond to be truly ‘on-demand’.
