The most important and common types of construction contracts

Written by Marilyn Tétrault-Beaudoin, David H. Kauffman, Etienne Chauvin and Hélène Mondoux

Understanding the differences between the main types of construction contracts available under Quebec construction law is the key to managing costs and determining everyone’s obligations in a construction project. Construction contracts affect everyone in the industry, including contractors, public and private owners, insurers, sureties and lawyers. This article by De Grandpré Chait lawyers Marilyn Tétrault-Beaudoin, David Kauffman, Étienne Chauvin and Hélène Mondoux outlines the most important and common types of contracts under Quebec construction law: the lump sum contract, the unit price contract, and the cost-plus contract.

The lump sum contract

The lump sum contract, also known as a fixed price or stipulated price contract, establishes a single, pre-determined price for the entire project. Lump sum contracts reduce the possibility for the price to rise or fall in response to situations that arise along the way. This type of contract is governed by Article 2109 of the Civil Code of Québec (CCQ).

The price of a lump sum contract, however, can change. An owner usually reserves the right to request additional work during the project either by means of a pre-agreed mechanism included in the contract, or, in the event of disagreement, through dispute resolution mechanisms that may be found in the contract or, failing which, that exist under the law.

An example of such a lump sum contract is the standard contract CCDC 2 – 2008, provided by the Canadian Construction Documents Committee (CCDC). Note that the most recent edition of this contract (CCDC 2 – 2020) was designed in response to the introduction of prompt payment and adjudication legislation in other Canadian provinces. However, as similar legislation does not (yet) exist in Quebec, it likely is more suitable for the moment to use the previous edition (2008) of this contract rather than the 2020 version.

Tip: A detailed price breakdown of the scope of the work in the contract makes it easier to determine price adjustments in the event of legitimate changes during the course of the work.

When to use a lump sum contract
This type of contract works well for parties who, perhaps for different reasons, want an agreed-upon fixed price. For a risk-advertised or inexperienced owner, the risks inherent in a construction project to an owner are reduced. For the contractor, cash flow and profit margins are assured. As long as project plans and specifications are sufficiently developed, an owner can seek competitive bids and contractors are able to price and submit bids for the work

Advantages of lump sum contracts
Lump sum contracts make the cost of delivering the project more predictable. This is particularly important for an owner during periods of shortages in labour or materials.

Disadvantages of lump sum contracts
Since a contractor assumes more risk, the contractor will want the contract price to reflect a factor for the increased risk it will bear. If a contractor underbids or underprices the work or underestimates the construction schedule, the contractor will have to absorb the extra costs and delays.

Tip: Unplanned changes are almost inevitable, so be sure to include a mechanism in the contract for determining the costs associated with these changes. Remember not to let delays get out of hand.

The unit price contract
A unit price contract establishes a price for each specified unit of work or material to be performed or supplied in a contract or subcontract. The total price is determined by multiplying the unit price by the actual, measured quantity of work performed or supplied for each specified unit.

A unit price contract is a variation of the lump sum contract, since each unit price is a fixed amount. For this reason, Article 2109 CCQ also governs unit price contracts.

For larger scale projects, some public and private contracts include a ceiling, typically around 15% of estimated quantities, beyond which the unit cost must be renegotiated if the quantities estimated in the contract are exceeded.

 When to use a unit price contract
Unit price contracts are most appropriate for repetitive work or materials that are easily divisible into units, such as supplying concrete for a project, or excavating and backfilling quantifiable amounts. They also work well when the ultimate volume or quantity of work is not obvious at the beginning, or will vary over the course of a project. When building a highway, for example, anticipating the amount of rock versus soil that will have to be removed, each leading to markedly different costs, may be impossible. In such cases, it may be in the parties’ interest to establish a unit cost for each type of excavation, rather than using an arbitrary lump sum contract.

Advantages of unit price contracts
Costs can be adjusted easily if quantities vary. The contract arrangement involves less guesswork and is more equitable when quantities and variables are difficult to predict.

Disadvantages of unit price contracts
The actual cost of the work will only be known once the project is complete.

The cost-plus contract and construction management contract

Under a cost-plus contract, an owner pays the contractor’s costs for all project-related expenses and amounts payable to subcontractors as part of the cost of the work, plus either a percentage of the cost of the work or a fixed fee to cover the contractor’s profit, administration and overhead.   Cost-plus contracts are governed by Article 2108 CCQ.

A sample cost-plus contract is CCDC 3 – 2016.  Despite appearances, a construction management contract for services and construction, such as CCDC 5B – 2010, actually functions as a cost-plus contract, particularly during the construction phase.  For this reason, we have grouped the cost-plus contract and construction management contract together.

A cost-plus or construction management contract may limit the project hard costs to a ceiling price, often known as a guaranteed maximum price (GMP), with or without an incentive mechanism for the owner and contractors to share the savings between the ceiling or GMP price and the actual cost of the work.

When to use a cost-plus contract or a construction management contract
Cost-plus contracts are mainly used in two contexts. First, they are suitable for fast‑track construction projects, where a time-sensitive project must begin before plans and specifications are fully known or developed. Second, they are suitable for projects where the parties don’t want to or are not in a position to agree upon a fixed price, preferring that an owner simply pays for the cost of the work plus a fixed fee, percentage or hourly rate to the contractor.

Advantages of cost-plus contracts and construction management contracts
During periods of shortages in labour or materials, cost-plus contracts are particularly useful at times when lump sum contracts are not obtainable or realistic.

Disadvantages of cost-plus contracts and construction management contracts
The total cost of the work can only be known once the project is complete. An owner takes on more risk of budget and schedule overruns than with a fixed price contract and conversely a contractor takes on less risk than with a fixed price contract. These contracts make project management and organization more complex, especially when unpredictable events disrupt the flow of work.

Factors to consider when choosing what type of construction contract to use
Before choosing what type of contract to use, both owner and contractor must assess their budget constraints, project timelines, and risk tolerance.

Budget constraints
Owners with budget constraints benefit from a contract that makes the final cost of the work predictable, which entails a fixed price type of contract. They also may benefit from competitive tendering, where they can choose the best value-based pricing.

Contractors with financing concerns should use a contract that includes a pre-determined modification and adjustment mechanism in the event of modified or unforeseen work to sustain cash flow.

In difficult times for the construction industry, all parties may have to accept more risk.

Project timelines
With cost-plus contracts, the longer a construction project takes, the more likely an owner will have to pay the contractor’s extended overhead and expenses for general site conditions, i.e., the fixed site costs incurred for carrying out the project. Delays can also lead to more complicated claims for indirect damages and impact damages.

By the same token, if the delivery date is crucial, an owner will want to ensure that the contractor rigorously respects the project schedule. To do so, an owner may consider including an acceleration clause in the construction contract and/or setting out penalties for delays.

However, delays caused by owners, government or regulatory authorities, superior force, or other events beyond a contractor’s control (sometimes as defined in the contract), may entitle the contractor to additional compensation and schedule relief. The contract should therefore address and plan for these possibilities.

A contract may also state that the parties will share the consequences in cost and delay of foreseeable events, like COVID-19 restrictions or shutdowns.

Risk tolerance
The contract price is often proportionate to the allocation of risk under the contract. For example, if a completion date is not crucial, an owner can avoid an increased contract price by not incorporating expensive mandatory acceleration clauses or penalties in the contract.

Conversely, the risk assumed by a contractor is commensurate to its potential for profit. The greater the potential profit, such as under a lump sum contract, the more a contractor will be prepared to take on risks inherent in construction projects.

How can De Grandpré Chait’s construction law lawyers help?

The best contract is the one that meets the needs of all parties and is suited to the project. Sometimes, this can even mean combining several contract types or using a contract that we have not mentioned here such as design-build or integrated project delivery (IPD) contracts. Other than for smaller and simple construction projects, most standard contracts recommend adding project-specific supplementary conditions to a contract, as one size does not fit all projects. Importantly for Quebec, most standard form contracts in the construction industry for retaining contractors, architects, engineers and subcontractors, are published in both English and French, with reasonably integrated concepts.

De Grandpré Chait’s construction law team can help you create a tailor-made contract that is suitable for your construction project.