Published 17/10 at 12:29, updated 25/10 at 13:01.
The recent cost increases for materials and goods affect both ongoing contracts and any contractors’ ability to bid for new projects. Although the standard agreements AB 04 and ABT 06 contain rules for managing the allocation of risk regarding unforeseen cost increases, the provisions are currently difficult to apply and there is no guiding case law for how they should be interpreted. Since the standard agreements do not provide a clear answer to whether, when or how a price adjustment should take place, some choose to manage and balance the risk based on ongoing price increases by agreeing on indexation, for example by using the Construction Index.
Indexation means that the parties use an index, a kind of comparative figure, to calculate a change in cost between two points in time. Advice on how to reason when designing an indexation is increasingly requested, by both employers and contractors.
Indexation allows the parties to a construction contract to adjust the contract price or other agreed prices against changes in an agreed index. The purpose of indexation is to maintain the transaction entered into by the parties at the time of signing the contract despite the fact that the conditions have changed. This means that neither party should gain from indexation, but no one should lose out by applying the pricing model. The application of an index is no guarantee that the contractor will be covered for its entire increased cost, but should normally be both labor-saving and decrease the risk of litigation, which benefits both parties.
The construction index is one of several indices that can be applied in cost regulation in construction contracts. The index contains a large number of index series (litera) which are also divided into main, sub and base groups. In order to create indexation that closely follows changes in costs, consideration should be given to dividing the contract pice into different head, sub- or base groups so that the regulation reflects as far as possible the type of contract in question.
For the purposes of application, the index of each main or sub-group’s base month (tendering month) are compared with the index of the month in which the work is performed. The settlement takes place on a monthly basis and any delays can be taken into account, with the exception of delays that occur between the giving the tender and the start of construction, which the parties may specifically regulate. In case of uncertainty about the calculation, the parties can advantageously use the application regulations for the Construction Index.
The construction index is often described as an impartial and objective tool since the index figures are set by Statistics Sweden. Although the method for regulation has been developed by representatives from both the employer’s and the contractor’s sides (the Committee for Construction Index, appointed by the Construction Contract Committee (BKK)), Statistics Sweden’s determination of the index figures takes place in consultation with representatives of the contractor’s side (Byggföretagen and Installatörsöretagen).
Objectivity has been called into question in view of the fact that point figures are determined on the basis of price data collected from suppliers and industry leaders rather than transaction data. For example, a report from the Swedish Competition Authority states that the Authority has not been able to assess whether the Construction Index corresponds to the actual cost trend for building materials. The Authority also pointed out that price information obtained from market participants can be questioned because the actors could act in their own case and report a higher price information to Statistics Sweden in order to be able to request a higher price for their goods at the negotiating table. The Swedish Competition Authority therefore currently recommends that broader indices be applied.
Whether the risks identified by the Swedish Competition Authority are real are currently unknown and Entreprenadindex has had a broad impact in the construction industry. Among others, the Swedish Transport Administration, one of Sweden’s largest and thus a leading employer of contracts, makes extensive use of the Construction Index, (see, for example, Information to the Swedish Transport Administration’s suppliers about handling cost increases or Cost regulation in contracts).
Alternatives to Construction Index
However, the parties to the construction industry may choose to index prices based on other indices, such as the Building Cost Index for Buildings (BKI) or the Consumer Price Index. The Building Cost Index for Buildings (BKI) measures the change in contractor’s cost and the developer’s cost for production factors in housing construction such as materials, wages, machinery, transport, etc. while
The Consumer Price Index (KPI) measures the prices that consumers actually pay in the domestic market and gives an average based on a number of representative products whose price information has been obtained directly or indirectly from stores in Sweden.
Our view is that neither the BKI nor the KPI give a true and fair picture of how the prices of building materials develop and that they are therefore as a general rule less suitable for regulation in a construction contract.
However, there is freedom of contract, which is why other contractual solutions for changing the agreed price due to cost increases are also possible. Reservations in tenders to private employers can be made, for example, for the price to be renegotiated or adjusted if the cost of a certain material changes in a certain agreed manner. There are also mixed forms between fixed price and current account.
Update: Statistics Sweden makes policy decision on Construction Index
On 8 October 2022, Statistics Sweden made a policy decision meaning that the authority intends to phase out its index assignments, including the Construction Index. A decision on decommissioning is expected at the end of 2022 and Statistics Sweden will, in connection with a possible decision, provide information about a decommissioning plan.
In any case, Statistics Sweden will provide the Construction Index throughout 2023. What happens next is not yet clear and it remains to be seen whether Statistics Sweden will make a final decision on decommissioning, whether the Construction Index will then be determined via a new supplier and whether this affects the applicability of and the construction industry’s attitude to the Construction Index.
In the construction industry, there is a great interest in finding common solutions to handle ongoing price changes. If you have questions about the design of an indexation or other questions about construction law – please contact us!