EPC Contract: Features, Scope and Complete Guide

Table of Contents

1. 1. Analysis and comparison of salient features of different EPC contracts.
   2. Features of a good contract
   3. Fundamental principles for drafting the scope of the contract
   4. Scope of the project
   5. Sub-contracting
   6. Change in the contract element
   7. Price schedule in the contract
   8. Time schedule
   9. Terms of payment
   10. Limitation of liability
   11. Severability
   12. Governing law
   13. Settlement of dispute
   14. Responsibilities of the employer
   15. Securities
   16. Insurance
   17. Care facilities
   18. Negligence
   19. Force majeure
   20. War Risks
   21. Extension of time
   22. Suspension
   23. Termination at the employer’s convenience
   24. Termination for contractor’s default
   25. Assignment
   26. Interpretation of the contract and order of precedence
   27. Prevention of corruption
   28. Confidential information
   29. Mitigation/Management of risks involved in EPC contracts
   30. Contract also refers to many internal procedures of the employer

1. Analysis and comparison of salient features of different EPC contracts.

Engineering, Procurement and Construction (‘EPC’) is a particular form of contracting arrangement used popularly in many countries where the EPC contractor is made responsible for all the activities from design, procurement, construction, commissioning, and handover of the project to the end-user or owner.

Salient provisions/general features/contractual terms of EPC construction contracts in India, which should generally be included in any contract, are explained below:

2. Features of a good contract

Based on practical experience of different situations faced during contract implementations and theoretical principles of requirements of a good contract, the following should be considered essential features of a good contract for successful completion of a project:

1. 1. Legal validity
   2. True reflection of the agreement
   3. Clear scope of work
   4. Clear and coherent
      1. Should contain all essential clauses
      2. Should have detailed definitions
      3. Should be consistent in structures
   5. Fair and Equitable
      1. Risk to be allocated to the party best placed to control it, bear it and deal with it.
   6. Complete and Flexible
      1. Contract to cover most of the needs and be readily adaptable to fit the requirements.
   7. Recognition – Identifying the contract with the customer.
   8. The contract should be accepted by all, tested and have no ambiguous clauses.
   9. Provision for recourse for settlement of disputes.
   10. Clear banking, payments and insurance provisions.
   11. Offer a fair deal.
   12. Be written in a simple language.

3. Fundamental principles for drafting the scope of the contract

1. 1. 1. The contract should be drafted keeping in consideration the business to be undertaken.
      2. The scope of the contract should not be ambiguous.
      3. The scope of the contract should be diligently drafted, including all the references and timelines of all the major activities to be performed by the parties.
      4. When two or more contractors are involved in the project, division of scope should be clearly defined in the scope matrix with specific activities in terms of quantities with no overlapping or lapses. It must always mention the take-off points/scope limits.
      5. The scope of the contract should not be too complex or technical in nature.

4. Scope of the project

Scope of the project should be specific and clear in the contract, including but not limited to the following:

1. 1. 1. 1. Scope of design and engineering.
         2. Scope of supply of all equipment, machines, materials, tools, tackles, civil, spares, commissioning spares, etc., required to be supplied for completion of the project.
         3. Scope of all services and utilities, transportation, storage, port clearance, customs duty payment, handling, insurances, testing, erection, pre-commissioning, commissioning, defect liabilities, training, supervision, dismantling, demolition of plant, equipment & building, etc.
         4. All the scope activities which are unique to a particular project should be elaborated in clear terms.

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5. Sub-contracting

In case of big projects, the parties to the EPC contract may sub-contract a part or entire work of the contract to sub-contractors for the following purposes:

1. For smooth execution of the work.
2. For indirectly shifting the corresponding risk involved.

The employer should, however, never allow the total scope to be sub-contracted.

6. Change in the contract element

Change orders in large projects are necessitated due to the following reasons:

1. 1. To curb ambiguity in the scope of the project which might have crept in the original contract.
   2. In case of additional requests by the employer emerging in the project due to various reasons.
   3. In case of change in technology relating to process and equipment.
   4. For any afterthought requirements/improvements concerning the existing project.
   5. To deal with situations which could not be predicted at the time of award of contract by the employer to the contractor.
      1. As per the general contractual practice and provision, the employer has the right to propose and subsequently order the contractor, from time to time during the performance of the contract, to make any changes, modifications, additions or deletions in the facilities provided that such changes fall within the general scope of the facilities and are related to the work and are practicable. The aforesaid implies that the employer has the right to issue the change order provided that the change order is (i) part of the project, (ii) is complimentary to the project and (iii) is mutually agreed by the parties.
      2. The parties i.e., the employer and the contractor, should agree with the revised price and time with reference to the change order. If the contractor and the employer fail to reach an agreement concerning the price and time in the change order, then the employer generally instructs the contractor to proceed with the terms specified in the change order but may refer the matter for dispute resolution i.e., to arbitration/conciliation.
      3. It is better if the terms of the change orders are mutually agreed by both the parties to the contract. Please note that oral acceptance to the revised terms in the charge orders cannot be enforced by law. The acceptance must be in writing.
      4. In fact, a change order is a mini contract with its own scope, specifications, completion schedule, and price. It can be concluded that such change orders are usually a source of conflicts and disputes between employers and contractors.

7. Price schedule in the contract

A detailed price schedule has to be provided for all the items to be supplied under the contract. The price schedule should be provided for all the items to be supplied by each party, including but not limited to the following:

1. Indigenous and imported supplies, technological structures, fabricated building structures, steel, and all the items which form a part of the scope of work.
2. Civil engineering works and supplies.
3. Storage, handling, erection, commissioning and performance guarantee.
4. Services, transportation, sea freight.
5. Custom clearance and supervision.
6. Engineering and design.
7. All the items/activities which are the part of the EPC project.
8. All the items which are unique and specific to a particular project either from supply, erection and services.

All appropriate, applicable taxes and duties (including the statutory taxes) should specifically be indicated in the price schedule. Provision for price adjustment due to variation in price indices should also be included in the contract.

8. Time schedule

Time is generally the essence in EPC contracts, therefore, the provision relating to the time schedule is of utmost importance. It should include the following:

1. Time should be made the essence of the contract.
2. Damages should be levied in case of violation of timelines specified in the contract.
3. Provisions for extension of time subject to imposition of liquidated damages in case of delay attributable to one of the contractors.

Though the contract provides the schedule for overall completion of the project, however, to bring more clarity and to bind the contractors, the sub-schedule of various activities of engineering, procurement and commissioning should be provided in the contract. There should be a clause to monitor the progress of the project scientifically as per these sub-schedules.

Contract schedule is objectively used to achieve the following:

1. It helps in planning, scheduling, monitoring and controlling the project activities.
2. It helps in the organization and fruitful management of resources.
3. It helps in advance actions for planning and accelerating the delayed project.
4. It helps in tracking the progress of the project and project activities.

A project has different types of project schedules that are used for different purposes by contractors as well as the employer.

1. 1. L1 Schedule:

      L1 schedule summarizes the project schedule and is also referred to as the Project Schedule (‘PM’). It highlights the major project schedules, milestones and key deliverables.

   2. L2 Schedule:

      L2 Schedule is also referred to as the Summary Master Schedule (‘SMS’). This is used for overall control of the project and is treated as an important schedule to monitor the project. L2 is the master schedule and is very important to indicate all major activities on a critical path. Any delay of the project is reflected in the L2 revised schedule, which determines the amount of delay in the project. L2 schedule is normally a part of the contract or agreed and signed by all the stakeholders of the project just after signing the contract and before the commencement of the work.

   3. L3 Schedule:

      This schedule indicates the integrated Critical Path Method (CPM) overview of the project. Many contractors follow this schedule for monitoring and controlling the project.

      The contractor uses it for engineering, procurement, construction, and commissioning purposes. This schedule also defines the overall critical path for the project.

   4. L4 schedule:

      This schedule is also known as the project working schedule where each schedule is expanded and followed. This also indicates the ‘work ahead’ situation on a short-term basis in the project.

   5. L5 schedule:

      It is a short-term schedule for a specific area having detailed activities to be coordinated on a day-to-day basis.

      Provision of using software for project schedule monitoring:

      There are innumerable software programs available in the market for monitoring the project schedule. However, Primavera, MS Project, and tools like ClickUp vs Monday are commonly used for scheduling the project.

9. Terms of payment

The contract shall extensively lay down the terms of payment, including but not limited to the following:

1. Provisions relating to advance payments, progress payments as well as milestone payments in the project.
2. Provisions for time and amount/percentage of payment to be made subject to completion of certain activities/achievement of milestones.
3. Provisions concerning the procedures and protocols of payment.
4. Provisions for levying of applicable taxes.

Many times, sub-contractors have back-to-back arrangements for payment. The payment cycle of sub-contractors is much larger than that of the contractors who make payment on receipt of the same from the employer. Normally “pay when paid” criterion is followed for payment to sub-contractors.

9.1 Retention Money:

Retention money is the amount of money retained by the employer out of the running invoices which is not released until the contractors fulfil certain obligations to the satisfaction of the employer as per the provisions of the contract. Retention money is a kind of security requirement kept by employers against any kind of default of contractors.

The percentage of money of the contractors retained by the employer and the conditions for its release are also provided in the contract in very clear terms which may vary from one contract to another. However, some of such provisions have been explained in the below paragraphs to explain the payment terms of the contract.

9.2 Price variation

Provisions for payment of price variation as per the formula are provided in the contract. It is worth mentioning that the price variations are applicable from a specified date mentioned in the contract and are calculated as per the formula given in the contract. All conditions of the price variations based on the RBI index are recorded in the contract.

Few contracts also have provisions for payment of bonus on completion of the project before the stipulated time, while a few might have the provision for mobilization of the advance. The procedure for mobilizing the advance is also mentioned in the contract.

Normally, EPC turnkey contracts are fixed-price contracts. For changes in the scope of the contract, including price changes, a written acceptance from all the parties to the contract is required.

The payments to the contractor are regulated as per the approved billing schedules for various categories like supplies, erection, services and so on. Generally, in EPC turnkey contracts, advance payments to the contractors are made by the employer, and the same are regularized after successful commissioning.

A typical example of the payment amount as a percentage of contract value adopted in the EPC turnkey project for various activities is mentioned below. It is worth mentioning that this is a typical example of a contract where various payment specifics have been quoted, which may not be true for other contracts where the methodology and the amount of payments may vary quite differently. However, this example will demonstrate and explain how different payments are considered for payment in a contract.

1. 1. Advance payments to a contractor:
      • 1st advance payment = 5.0% of the contract value as the amount against the approval of the specified design and engineering drawings as mentioned by the employer in the contract for the project.
      • 2nd advance payment = 5.0% of the contract value as the amount against the placement of specified purchase orders as mentioned by the employer in the contract for the project.
   2. Progress payments:
      • 5% of the billing value for design & engineering approved by the employer.
      • 5% of the billing value for supplies received at site.
      • 5% of the billing value when the erection and other project activities are completed and certified by the employer.
   3. Retention of payments:
      • Normally, 12.5% value of each item of billing schedule is retained, which is released in the form of milestone payments as per the contract. Such milestone payments are made only when the employer is fully satisfied with the achievements and performance of milestones as per the detailed criteria mentioned in the contract.
   4. Milestone payments:
      Any EPC turnkey project has four milestones as per the contract:
      • Pre-commissioning/PAC (Preliminary Acceptance Certificate)
      • Commissioning
      • Performance guarantee
      • Final acceptance

      Milestone payments are subject to the certificate issued by the employer certifying that PAC/Commissioning/Performance guarantee/Final acceptance has been completed as per the terms of the contract and to the satisfaction of the employer.

   5. PAC payment:
      • 5% of the contract value is paid on successful completion of preliminary acceptance after erection and testing of all the equipment of the project. For this payment, all the equipment should have been supplied, erected and individual as well as integrated trial run of the equipment, wherever applicable, should have been carried out successfully. The payment is subject to the issuance of the PAC.
   6. Commissioning payment:
      • 5% of the contract value is paid by the employer to the contractor on successful completion of the commissioning of the project as per technical conditions and capacity utilization specified in the contract. The payment is subject to the issuance of commissioning certificate by the employer. Commissioning is also the stage when the project is contractually handed over to the employer and the ownership changes hands from the contractor to the employer.
   7. Performance guarantee payment:
      • 5% of the contract value is paid by the employer to the contractor on successful completion of the performance guarantee as per the achievement of technical terms and parameters mentioned in the contract within six months from the date of commissioning. The payment is subject to the issuance of a PG certificate by the employer. This is also the stage at which the performance of the equipment and process technology is demonstrated and proved by the contractor to the employer. In case of non-achievement of PG parameters, the contractor is given various commercial options of settlements to get it accepted by the employer, which includes non-payment of PG milestone as liquidated damages.
   8. Final acceptance payment:
      • 5% of the contract value is paid by the employer to the contractor on successful completion of the defect liability period of one year from the date of commissioning or 18 months from the date of PAC, whichever is earlier. This also includes successfully liquidating the defects attributable to the contractor relating to design, quality of material and erection to the satisfaction of the employer. This payment is released only when all the responsibilities, including technical, scope, statutory compliance of labour laws of sub-contractors of the contractor to the employer, are completed as specified in the contract. The payment is made subject to the FAC issued by the employer.
   9. Payment to sub-contractors:
      • As regards the payment to sub-contractor by the contractor, “pay when paid” concept is followed.
   10. Mode of effecting payment:
       • Payment is made by the employer by transferring the amount to the bank account of the contractor through electronic transfer. However, payment to foreign suppliers and contractors are made via letter of credit after meeting the conditions of L/C by the supplier and furnishing the necessary documents/certificates as per the terms of L/C and the contract.
   11. For foreign payment against L/C:
       Following documents are required:
       • A clean bill of lading
       • Commercial invoice
       • Certificate of the country of origin certified by the chamber of commerce of that country
       • Detailed packing list
       • Certificate that the materials are suitable and securely packed for dispatch by air/sea/road as the case may be
       • Inspection/Quality certificate for consignment
       • Relevant drawings and catalogue of the item imported
       • Manufacturer’s/supplier’s guarantee/warranty/quality test certificate of the item
       • Proof of insurance of supplies
       • Dispatch clearance certificate issued by the employer
       • Certificate by the supplier that the supply does not belong to the “negative list” which is not allowed to be imported as per prevailing Government of India’s foreign trade policy
       • Certificate by the supplier of wood used that it conforms to the international standards for packaging
       • Proof of sending non-negotiation document to the concerned executive of the employer.

10. Limitation of liability

EPC contracts may also provide for limited liability of the contractors by specifying in the contract that the contractor shall not be liable to the employer for any indirect or consequential loss or damage viz. loss of use, loss of productions or loss of profit or interest loss or any other loss.

11. Severability

EPC contract also provides for severability clause – that is, if any provision or condition of the contract is prohibited or rendered invalid or unenforceable, then such provision/condition shall not affect the validity or enforceability of any other provisions/conditions of the contract.

12. Governing law

EPC contract specifies that the said contract shall be governed by the specific law or generally by the law of the land.

13. Settlement of dispute

The procedure for resolution of dispute is also specifically mentioned in the contract. An appropriate arbitration clause is provided in the contract for resolving the dispute.

14. Responsibilities of the employer

The contract also specifies the responsibilities of the employer which may include the following:

1. 1. Responsibility for handing over the project site’s legal and physical possession to the contractor on the effective date of contract.
   2. To help the contractor for obtaining the State/Central Government Licenses and statutory clearances required for the project work as per the contract.
   3. Providing raw materials and utilities for pre-commissioning and commissioning of the project with properly trained manpower for operation and maintenance of the facilities successfully.
   4. To continue to operate the facilities after commissioning and facilitate performance guarantee tests as per detailed provisions in the contract.
   5. Timely payment as per the terms of the payment specified in the contract.

15. Securities

In a typical EPC contract, the following types of securities may be provided:

1. 1. Performance bank guarantee for the specified amount is provided, up to the end of the defect liability period, which may be extended due to applicable reasons.
   2. Bank guarantee towards commissioning is provided for a specified amount valid up to the date of commissioning of the project.
   3. Bank guarantee towards final acceptance for the specified amount to be provided.

16. Insurance

In a typical EPC contract, the provision of Comprehensive Marine-cum-Erection Insurance policy with 115% of contract prices with the employer being the principal beneficiary is kept. The comprehensive policy covers almost all risk to indigenous cargo insurance, third party liability insurance, and automobile liability insurance.

17. Care facilities

The EPC contract may have a provision for “care facilities” so that the contractor will be responsible for care and custody of the facilities until the handing over of the project.

18. Negligence

A provision dealing with negligence is also provided in an EPC contract. It is a very strong tool in the hands of an employer to be used in case of any negligence by the contractor in the project.

If the contractor is found neglecting the execution of facilities, then the employer may revoke or cancel the contract holding the contractor fully liable for the damages sustained by the employer.

19. Force majeure

Any delay or non-performance by either party due to force majeure shall not constitute a default or breach of contract. The contract generally provides that if the performance of the contract is substantially prevented, hindered or delayed for a period of more than 90 days on account of force majeure during the currency of the contract, then the parties shall propose a mutually satisfactory solution.

20. War Risks

Notwithstanding anything contained in the contract, the contractor shall have no liability whatsoever for or with respect to:

1. 1. Destruction or damage to the property of the employer or any third party.
   2. Injury or loss of life.

21. Extension of time

The extension of time can be considered by the employer for many justifiable reasons, including the following situations:

1. 1. Change in scope of facilities.
   2. Occurrence of force majeure.
   3. Suspension order given by the employer.
   4. Default of employer in meeting employer’s responsibilities as specified in the contract.
   5. When the contractor claims the extension of time, based on the justification of extension, the employer accepts it.
   6. Change of law which impacts delay in the project.
   7. Suspension and subsequent resumption of contract by the employer.
   8. Any reason which was not predicted at the time of award of contract but has been accepted as a justified reason for the extension of the contract by the employer.

22. Suspension

The employer may suspend the contract for a short duration, but the contractor is given the right to resume the work within a specified period after that suspension. If resumption is not allowed by the employer, then the contractor may give the notice for termination of the contract.

In case of resumption of the contract by the employer after suspension, the contractor will be eligible for time extension for the suspended period and additional prices for suspended period as per mutually agreed terms.

23. Termination at the employer’s convenience

The employer may terminate the contract by giving a notice of termination, and thereafter the employer shall pay to the contractor the price attributable to the parts of facilities executed by the contractor as on the date of termination.

24. Termination for contractor’s default

Following are typical provisions of a contract to terminate the contract on contractor’s default:

The employer, without prejudice to other rights or remedies it may possess, may terminate the contract by giving a notice of termination:

1. If the contractor becomes bankrupt/insolvent; or
2. If the contractor assigns the contract to a third party.

The employer will give notice to the contractor for default and ask to remedy the following situations. It may terminate the contract if the contractor still does not comply:

1. If the contractor has abandoned or repudiated the contract
2. If the contractor has failed to commence work on the facilities for specified days or has suspended the work
3. If the contractor persistently fails to execute the contract
4. If the contractor does not have adequate resources to execute the contract.

Upon termination of the contract under the said conditions, the employer may get the contract executed at risk and cost of the contractor. The contractor will be entitled to be paid the price for the part of facilities executed as on the date of termination.

25. Assignment

The contractor shall not assign the contract to any third party without prior written consent of the employer.

26. Interpretation of the contract and order of precedence

Whenever there is a conflict on any issue, between the provisions of the General Conditions of Contract (GCC) and Special Conditions of Contract (SCC), the provisions contained in the SCC will prevail. Further, the interpretation of the contract should be followed as per the order of precedence of the documents as per the following, if any of these documents form part of the contract:

1. 1. Contract Agreement along with the appendices
   2. Special Conditions of Contract with its annexures
   3. General Conditions of Contract with its annexures
   4. Technical Specifications in the contract
   5. General Technical Specifications provided in the contract
   6. Safety Code for contractors
   7. Any other document in the contract

27. Prevention of corruption

It is included in the contract that the contractor will not adopt any corrupt practices, failing which the employer may disqualify the concerned contractor’s tender as per the guidelines. It may ban the business dealings and demand due compensation as per the provisions of the contract.

28. Confidential information

The contract carries a clause that the employer and the contractor will keep the data shared by one party with the other as confidential and will not divulge the same to a third party without written consent.

Contractors will also seek the same level of compliance from the sub-contractors for confidentiality.

The employer will use the data/information only for Operation & Maintenance (O&M) of facilities. Likewise, the contractor will also use the information/data for design and erection of the project.

29. Mitigation/Management of risks involved in EPC contracts

1. 1. Risks in a project and how risks are managed in large projects:The risks related to a project can be in the areas of scope, costs, schedule, and quantity.It is essential that planning and sub-planning are prepared for mitigating the risk in these areas. There are Excel sheets/templates available for managing the risks. The steps for it are:
      1. Identify the risks
      2. Assess the probability of risks and impact
         • Small
         • Huge
      3. Communicate the risks to concerned persons to mitigate the risks
      4. Take advance actions by the concerned person
   2. Indemnification:
      1. Risk-shifting provisions
      2. Provisions for indemnification
      3. Who indemnifies whom and to what extent
      4. Confirm the time for statutory and commercial indemnities
      5. Additional insurance
   3. ‘Risk-Free Contract’ is a misnomer. However, it is essential to manage the risks so that they are either excluded, shared, limited or underline the pre-emptive steps to be taken. Care needs to be taken to ensure that the risk is adequately allocated to the appropriate party such that the risks are managed smoothly, thereby minimizing the loss or damage. This will usually require an initial in-depth risk analysis, the development of a risk management plan, and careful negotiation of the relevant agreements by the contractors. Following is a (non-exhaustive) list of steps to be taken to reduce or manage the risks:
      1. Contractors act in a consortium and also appoint sub-contractors. So the contractors should be held responsible for the part of the work completed by them, but there should not be joint and several liability of the members of the consortium.
      2. EPC contracts should specify the responsibility for providing critical material and supply, as shortage or low-quality material would directly impact the cost and time of construction.
      3. The employer to monitor compliance with the construction plan and activate early warning mechanisms. Liquidated damages to account for all time overruns payable by the EPC contractors to the employer. Cost overruns to be absorbed by the employer only when the event leading to delay is employer-induced and other specific events which are outside the control of the EPC contractors. Contractors must ensure that such provisions are addressed in the contracts so that the employer is held liable for the delays in the project attributable to them.
      4. In case of non-adherence to performance standards and technical specifications, the burden of loss should be allocated to the contractor or operation & management contractors.
      5. Force Majeure involves events which are outside the control of the parties involved, so its management requires significant attention. Force majeure events may increase the cost and delay the project activities. To ensure that the EPC contract adequately covers measures for handling such a risk, it is necessary that the following measures are included in the contract:
         • To what extent are parties excused from performing their obligations under the agreement?
         • Which party is responsible for assessment of damages?
         • Which party is responsible for the restoration of the plant or remedy the defects in the plant and equipment resulting from the force majeure event?
         • Which party shall bear the cost for such restoration and rectification?
      6. In international EPC contracts, the risk of new or amended laws and regulations and/or the risk of changes in judicial or administrative interpretation of the laws is commonly observed. These risks are typically viewed as outside the contractor’s control, and therefore, allocated to the employer through a change order provision.
      7. Incorporation of reasonable clauses which assign the risks more equitably among the stakeholders is advised. Risks are to be allocated to parties who are capable of managing them, thereby not stalling the work for extended periods.

30. Contract also refers to many internal procedures of the employer

In some of the EPC contracts, which are too detailed, following are the few procedures:

1. 1. Safety procedure
   2. Drawing approvals
   3. Quality assurance plan approval
   4. Manufacturing inspection
   5. Dispatch clearance
   6. Payment approval procedure and procedure to get advance on projects/financial arrangements
   7. Holding up of applicable taxes and duties due to misinterpretation of contractual provisions relating to taxation. Clarity should be provided on how the taxes and duties will be handled in case of change in taxation laws.
   8. Other factors.
      There are many work procedures that are not part of contracts but are in practice in employers’ organizations for their internal functioning, which may be forced on the contractors. Normally, contractors should have the right to refuse any such procedure, which incurs extra labor and cost to contractors. However, it may not be in the overall interest of the contractors to refuse to fulfil all such demands made by the employer which may fall outside the scope of contractual liabilities leading to possible conflicts with the employer on such issues.

Example : Every organization practices its procedures relating to inspection of newly purchased material after receipt from suppliers at its works. These procedures are sometimes very cumbersome and time-consuming. Though such procedures are not part of the contract and contractors do not know about it but they have to be accepted by the contractors while receiving the materials in the employer’s premises.