A COST PLUS CONTRACT IS NOT A BLANK CHEQUE

Commercial, Construction

Whether it is for residential or commercial projects, using the right type of contract is important for financial and project management for both owners and contractors.

A cost-plus contract is a broader type of construction contract that allows the contractor to perform the work and be compensated for actual costs incurred, plus an agreed amount for overhead and profit. This type of contract is useful when it is difficult to estimate the project’s scope or overall costs upfront, and where projects require an immediate start without needing precise cost estimates upfront. The idea is to adjust the scope and project budget as changes occur, ensuring that both the contractor and the owner share a balanced risk.

While cost-plus contracts offer financial security for contractors and flexibility for owners, without careful cost tracking and clear contract terms, they can lead to higher overall costs compared to a fixed-price contract. Although a contractor may expect to be compensated for any unexpected costs incurred under a cost-plus contract, it should not be taken as a blank cheque.

More importantly, there is an overarching principle that a contractor must act reasonably and manage resources efficiently, as demonstrated in case examples below.

OneSteel Manufacturing Pty Ltd v United KG Pty Ltd [2006] SASC 119

Background and dispute

  • OneSteel and United entered into a cost-plus contract, under which United agreed to perform works to reline and upgrade a blast furnace at the steelworks operated by OneSteel.
  • The issue in this case concerned the proper interpretation of the definition of “Reimbursable Costs” under the contract, and whether such costs should be limited to direct actual costs.
  • OneSteel contended that it was an implied term of the contract that Reimbursable Costs should be confined to those costs which have been reasonably and properly incurred, and that United’s failure to provide information supporting the Reimbursable Costs constituted a breach of the contract.
  • United argued that OneSteel’s interpretation is contrary to the principles relating to the implication of terms, and that the parties have clearly defined Reimbursable Costs in such a way that those implied terms should not be included.

Decision

  • The Court held that, in the absence of a clear expression to the contrary, a provision in a building contract that entitles the contractor to be reimbursed for costs incurred will be subject to an implied term that the costs will be reasonably and properly incurred.
  •  The court expressed that “In the absence of such a provision, the building owner has an entirely open-ended obligation, and the contractor has been handed a blank cheque, which would put a premium on inefficiency and extravagance”.
  •  Furthermore, the Court found that United were obligated to support its claims by providing OneSteel with information containing evidence of the costs it claimed it was entitled to.

 

C&V Engineering Pty Ltd v Metropolitan Demolitions Pty Ltd [2022] NSWDC 154

Background and dispute

  • C&V Engineering Services Pty Ltd (“C&V”), was subcontracted to Metropolitan Demolitions Pty Limited (“Metropolitan”) as a steel fabricator for a development in Circular Quay involving work on three buildings, Buildings A, B and C.
  • There was a verbal instruction from Metropolitan to C&V to fabricate soldiers for Building B on an hourly rates basis. The urgency of the fabrication was acknowledged, and the work was to be performed according to the labour rate set out in C&V’s standard terms and conditions (as part of C&V’s quote).
  • Metropolitan disputed C&V’s invoice for labour charges related to Building B, that these were not reasonably and properly incurred, with reference to the authority in Onesteel case.

Decision

  • The Court found in favour of C&V in that labour rates were in accordance with the standard terms and conditions provided in their quote. These rates were consistent across the buildings involved in the project, and Metropolitan’s post-contractual conduct indicated an agreement to these rates, where Metropolitan ultimately accepted delivery of the soldiers.
  • While the Court accepted the labour rates, it also implied a term for business efficacy that C&V was entitled to charge for costs reasonably incurred. This means that C&V was not entitled to charge more than what would represent reasonable competence and economy in carrying out the work. The court did not agree to a “blank cheque” for labour costs, implying that the time incurred must be reasonable.

This decision affirms the findings in OneSteel case that any reimbursable or additional charges must reflect reasonable and properly incurred costs.

 Key takeaways

Contractors using a cost-plus contract should keep in mind that this type of contract doesn’t automatically entitle them to claim additional costs from the owner. The overarching principle is that any reimbursement for costs incurred will be subject to an implied term that the costs must be reasonably and properly incurred.

Finding the right contract for a project helps owners and contractors balance their risk with the potential increase in costs. There is no single best contract type, but Keystone Lawyers can assist you with finding the right contract and reviewing any contract terms to help avoid unexpected disputes down the track.

keyboard_arrow_up