Negotiating contracts in the electric utility sector is a complex dance of preparation, communication, and risk allocation. With multiple stakeholders—utilities, investors, and customers—each contract negotiation is a critical step in shaping the future of energy projects. Laura Fraher, a partner at Barclay Damon and co-chair of the firm’s Power & Energy Construction Practice Area, offers insights into the intricacies of these negotiations, highlighting the importance of clarity, specificity, and strategic planning.
The landscape of contract structures in the utility sector is diverse, with each model offering unique advantages and challenges. The Engineering, Procurement, and Construction (EPC) contract is the most commonly employed model for large power projects. This ‘one-stop shop’ approach places full responsibility on a single contractor for the entire scope of the project, from engineering and procurement to construction. Traditionally, EPC contracts are lump-sum agreements, but there is a growing trend towards the Guaranteed Maximum Price (GMP) model, a cost-reimbursable, not-to-exceed approach that includes an open-book process.
An alternative to the traditional EPC model is the EPC Manager (EPCM) model, which is gaining traction, particularly for large, complex projects. In this scenario, the owner entity contracts with a construction manager responsible for the complete scope of engineering. However, the construction manager acts as a overseer for the procurement and construction phases, while the owner separately contracts with construction contractors and/or suppliers. This model offers a different risk allocation structure, potentially benefiting both the owner and the construction manager.
For the ongoing needs of the plant post-construction, Operations and Maintenance (O&M) or Long-Term Services Agreements (LTSA) are typically utilized. These contracts ensure the continued functionality and efficiency of the power plant, addressing the ongoing physical needs of the facility.
When negotiating contracts, clarity and specificity of language are paramount. Ambiguities should be addressed and resolved during the negotiation process, rather than relying on persuasive arguments in the event of a dispute. This proactive approach helps mitigate risks and minimizes the potential for disputes during the construction of a power project.
Schedule is another critical factor to consider. Agreeing on a realistic schedule is essential, as an unrealistically short schedule can lead to disputes, claims, and project extensions. Meaningful and legally enforceable penalties for failing to adhere to the agreed-upon schedule should be negotiated to ensure timely project completion.
To protect themselves from liability, utilities and power generators should include key contractual terms that allocate risks effectively. Some of the most important provisions include the warranty provision, indemnification provision, dispute resolution provision, schedule provisions, standards of performance, performance guarantees, changes provisions, and provisions regarding suspension, termination, and default. A robust warranty provision is particularly significant, as it guarantees the contractor’s entire scope of work and requires the contractor to repair or replace defective work for a significant period after completion.
Dispute resolution provisions are often overlooked but can be crucial in avoiding costly, protracted disputes. A well-crafted dispute resolution provision can define the appropriate parameters for resolving disputes. For large and complex projects, a mandatory three-step dispute resolution process is often recommended, involving negotiation, mediation, and binding dispute resolution. For smaller projects or lower-dollar value disputes, a simplified process may be more appropriate.
Fraher is currently involved in negotiating an EPC contract for a significant LNG vaporizer project. One of the key issues in this negotiation is addressing potential material escalation and the impacts of tariffs on the project. The focus is on clarifying contract language that may be applicable, including change in law, force majeure, and tax provisions, as well as negotiating and drafting new provisions specifically tailored to address these issues.
The insights from Fraher underscore the importance of strategic planning and clear communication in contract negotiations. As the energy sector continues to evolve, the ability to navigate these complexities will be crucial in shaping the future of power projects. The trends in contract structures and the emphasis on risk allocation and dispute resolution highlight the need for a proactive and thoughtful approach to contract negotiations in the electric utility sector. This news could shape the sector by encouraging more detailed and specific contract language, promoting the use of alternative contract models like EPCM and GMP, and fostering a greater focus on risk allocation and dispute resolution mechanisms. As utilities and power generators become more adept at navigating these complexities, the sector may see more efficient project completions, reduced disputes, and ultimately, more successful power projects.