Increased costs, liquidity problems and labour shortages are possible effects of the war between Russia and Ukraine. If you, as a party to an ongoing or upcoming contract, fear that the war may affect your project negatively, you should raise the issue for discussion with your employer or contractor at as early a stage as possible. Public employers should consider providing for indexation of the fixed prices demanded in the tender documents.
During the morning of February 24, 2022, Russia’s regular army entered Ukraine, officially marking the onset of war. This development suggests the need for the construction industry to assess the impact on ongoing and planned projects. The effects of the war on the Swedish construction industry have not yet become apparent, and it is challenging to foresee how the Swedish construction sector will be affected.
Possible consequences for the Swedish construction industry
Unfortunately, it is conceivable that issues with resources such as labor, delivery of goods, materials, and raw materials may arise. This due to delays, hindered production, and the recall of foreign labor for military service in their respective home countries.
For the Swedish construction sector, the most likely consequences of the war in Ukraine appear to be delayed deliveries and a shortage of personnel due to disrupted supply chains and recalled staff. The war in Ukraine also entails the following risks:
- Closure or partial shutdown of workplaces and projects
- Bankruptcy of collaborative partners heavily exposed to Eastern Europe
- Liquidity problems for collaborative partners
- Shortage of labor in general
- Increased costs for necessary supplies required for project execution
Identify risks and establish action plans
Contractors and employers should individually and collaboratively assess the disruptions risks posed by the war in Ukraine on ongoing projects and establish action plans to mitigate the identified risks. The Swedish standard contracts AB 04 and ABT 06 impose a mutual obligation on the employer and the contractor to communicate circumstances relevant to the project to the other party. The contractor typically needs to inform the employer in writing about known circumstances and conditions that affect costs and/or timeline for the contractor to be eligible for additional compensation and time extensions due to contract disruptions.
Specifically regarding fuel price increases
Recent significant increases in fuel prices in general, particularly diesel prices, have led to substantial cost increases for many construction projects. These increases are partly linked to Russia’s invasion of Ukraine.
Price changes in diesel fuel might completely jeopardize a project’s profitability in some cases. The standard contract includes a regulatory mechanism in AB 04 chapter 6 § 3, allowing a party to request a change in the agreed price if the cost change is due to any of the following:
- Government action (such as rationing or restrictions)
- War or other crisis situations with similar effects concerning necessary goods or services for the construction project
- Abnormal price changes for materials included in the construction project
In the case of increased diesel costs, theoretically, all three points above can be invoked to support a price increase. However, it must be emphasized that the party requesting the price change must demonstrate a causal relationship between the cost change and the claimed grounds.
Causal relationships are crucial
Any contractor who wants to use the diesel price increase for a change in the agreed price under AB 04 chapter 6 § 3, due to events like the war in Ukraine (point 2 above), must be able to establish a causal link between the war in Ukraine and the increased material cost.
For the third point, abnormal price changes concerning materials, the cause of the price change matters less. Instead, what matters is the deviation from the norm.
When dealing with a general market price increase for specific materials, it is generally more advantageous to invoke the third point (abnormal price changes concerning materials). Points 1 (government actions) or 2 (war or crisis) can be applied when there is a clear cause for the price increase, especially when the additional costs are specific to the construction project rather than part of a general price increase.
Assessment of the degree of unpredictability and impact
A price change also requires that the cost increase has been unforeseeable and has significantly affected the entire cost of the project.
The provisions in AB 04 and ABT 06 do not directly indicate what constitutes a “significant” impact on the cost or when a cost change can be considered “unforeseeable”.
There is also no extensive legal precedent specifying when the criteria are fulfilled. However, these matters have been addressed in an older legal case that established a fixed percentage for price change at 4.8 percent of the contract sum for the requirement of significance to be met. The case dates back to 1978, and it’s likely that, considering how much the construction market has changed since the seventies, it lacks relevance for today’s situations.
The assessment of significance is based on the total cost of the project. Apart from the 4.8% percentage mentioned in older practices, there is still a lack of guidance regarding when a price change should be considered significant. Within the legal discourse, there are differing opinions on whether the assessment of significance should be based on the industry’s overall conditions or if it’s the individual project’s economics that are crucial in determining what should be considered significant. However, a common understanding seems to be that the requirement for significance shouldn’t be set so high that the contractor operates at a loss on the project. Given this background, the legal situation can be considered unclear.
That the cost change is unforeseeable further implies that the contractor, during the submission of the bid, had no reason to calculate with the cost. Significant and abnormal price changes can, according to the legal case above, in themselves result in a cost change being considered unforeseeable. However, the judgment does not provide more direct instructions on how an anticipatable price increase should be calculated.
Important to notify the counterpart about changes
The provisions regarding price changes do not include an obligation to provide notice. However, from other rules in the standard contracts, it is evident that the parties have a duty to promptly inform the counterpart about significant changes. Under Swedish law, there is also a general duty of loyalty for parties in contractual relationships, which prescribes care for the counterpart. Therefore, an obligation to provide notice likely exists even when invoking a price change.
In ongoing construction projects, the contractor should therefore always promptly notify the employer about any potential price changes to ensure that a cost increase can be asserted. In future projects, a regulation concerning the right to price changes in the projects can establish predictability for both parties and reduce the risk of disputes.
Price changes can be managed through index regulation
Our experience indicates that it is common to include specific conditions about price changes in framework agreements and individual construction contracts with long durations – typically spanning several years.
Given the recent global events beyond the parties’ control, such as the Covid-19 pandemic and now the war in Ukraine, resulting in significant price changes over a short period, it is becoming increasingly common for parties to choose to regulate price changes, particularly in contracts with shorter durations. This is accomplished by having the employer stipulate index regulation of fixed prices in the specifications, or by the contractor including provisions in their bid regarding index regulation of fixed prices.
When, after assessing the scope of the work to be carried out in the construction project, a well-structured price adjustment model is developed – based on appropriate indexes (litera) under the Construction Index, for example – the bidder’s/contractor’s possibility to make unilateral risk assessments (and risk markups) for unforeseen future price changes is restricted (when offering fixed prices). This results in increased predictability in the project.
If you, as a party involved in an ongoing or future construction project, fear that the war in Ukraine might negatively impact your project, you should raise the issue for discussion with your employer or contractor as early as possible. Public employers should consider stipulating index regulation of requested fixed prices in the specifications to minimize the risk of bidder