Significant price rises in current and future contracts: the Federal Public Service for Policy and Support (BOSA) published recommendations
It is widely known that the prices of raw materials and commodities are rising exceptionally around the world. The exceptionality of the price increases can hardly be disputed: for similar circumstances we must go back to the two World Wars and the Oil Crisis of the 1970s.
These significant price increases are felt everywhere. The same is true for public procurement. Many contracting authorities and contractors are therefore looking for practical solutions – within the rigid regulations on public procurement – to cope with the significant price increases.
The latter prompted the Belgian Federal Public Service for Policy and Support (BOSA) to publish recommendations* (hereinafter “the Recommendations”; The full version can be found through this link: https://www.publicprocurement.be/fr/documents/recommandations-concernant-les-hausses-de-prix-importantes-notamment-en-raison-de-la) on 16 May 2022 on how contracting authorities and contractors can deal with these considerable price increases in the context of public procurement. These recommendations are reviewed in this article.
Reasons to publish the Recommendations and their central message
The Recommendations rightly refer to a multitude of global circumstances that explain the current price problems. These include the economic recovery following the covid-19 crisis and the recent war in Ukraine, the various sanctions that were subsequently imposed on Russia, the crisis in energy supply, but also the uncertainties created by the military conflict. As a result, many finished and semi-finished products and raw materials have experienced significant to extreme price increases and fluctuations in recent weeks (including energy, fuels, aluminium, steel, copper, glues, hydrocarbon products, wood, etc.).
The Recommendations rightly point out that these circumstances can significantly disturb the contractual balance between the parties. It is therefore no coincidence that the central message of the Recommendations is for contracting authorities to try to restore the contractual balance “together” so as not to jeopardise the continuity of the contract. This objective can only be endorsed. Having a contract carried out at unrealistic prices is detrimental. It may force the contractor to perform at a lower quality. Similarly, it can put the contractor in financial difficulties (bankruptcy or judicial reorganisation). No party benefits from this. Certainly not the contracting authority. After all, isn’t it an old economic law that the disappearance of market parties ultimately leads to less competition and higher prices?
For the sake of clarity, the Recommendations are – as the word itself indicates – non-binding. They are therefore not legally binding and cannot be formally enforced against the other party. They can, however, be regarded by the parties as a guideline for the careful performance in good faith of the government contract.
The Recommendations deal with two situations in which the problem of price increases makes itself felt: existing and future contracts.
In this situation, the contract has already been awarded and is being executed.
In such cases, the contract will in many cases already contain a price revision clause, especially since such a clause is mandatory for most works contracts. The formulas used in these clauses must be based on objective and verifiable parameters and reflect the actual cost structure using appropriate weighting coefficients (Article 38/7, § 1, second paragraph, RD AUR).
Considering the current situation, however, it may happen that a price revision clause that reflected the actual cost structure no longer, in practice, absorbs the exceptional fluctuations and therefore does not adequately address the price development that the contractor experiences in the supply chain. This is due, inter alia, to the fact that the price revision clauses consider the price increase, but not the time difference related, on the one hand, to the necessary delay in the development of the revision indexes and, on the other hand, to the payment rhythm contractually agreed between the contracting parties. Moreover, an index considers a basket of products, so that stronger price increases of individual products are mitigated by other products with more stable price trends.
At the moment, the classic price revision clauses often fail to compensate for unforeseen price fluctuations. The Recommendations rightly point out that in such circumstances, it is more logical to rely on article 38/9 RD AUR concerning unforeseeable circumstances.
It is important that the correct procedure of the aforementioned article 38/9 is followed. If the contractor fails to do so, the request for revision lapses and, in principle, the contractor is no longer entitled to a revision.
The first step in the correct application of article 38/9 RD AUR is to inform the contracting authority about the rising prices and to inform them briefly about the influence of these circumstances on the course of the execution and the prices. This should be done within 30 calendar days after these circumstances occurred. In this respect, the Recommendations are unfortunately limited to the unmistakable, but not very enlightening, remark that it is sometimes “difficult” to “identify a clear starting point” in the current situation.
In addition, it is required that the company can prove that it suffered a very significant prejudice in order to be able to apply for a price revision. In any case, the threshold for this is 2.5% of the initial total amount for works contracts. If the contract was awarded based on price alone, or if price accounted for at least 50% of the award criteria, the following thresholds apply:
- EUR 175,000 for contracts with an initial contract value of more than EUR 7,500,000 and less than or equal to EUR 15,000,000;
- EUR 225,000 for contracts with an initial contract value of more than EUR 15,000,000 and less than or equal to EUR 30,000,000;
- EUR 300,000 for contracts with an initial contract value of more than EUR 30,000,000.
The calculation of the very significant prejudice is in turn part of the contractor’s obligation to submit a quantified justification to the contracting authority within 90 calendar days after the provisional acceptance report has been notified to the contractor or within 90 calendar days after the end of the guarantee period, as the case may be.
The Recommendations give the advice to contracting authorities, in cases where this is necessary, to negotiate with the contractor to “jointly” find a better suited price revision clause and to replace or amend the clause in question. This is a clear and justified appeal to the constructive cooperation of the contracting authority. But be careful, it remains up to the contractor to invoke the unforeseeable circumstances and to ensure that all legal formalities have been complied with!
The Recommendations then discuss three possibilities that can be considered in practice. These are discussed below.
First possibility: consider replacing or modifying the price revision clause
In some cases, it is not advisable to include a general reference to the well-known “I” index, which is composed of a list with the price evolution of some 26 categories of building materials. This index contains a weighting according to the materials used on a typical worksite, which, however, sometimes fails to take sufficient account of the building products used for the realization of the contract in question (e.g., because of timber frame construction). In the latter cases, according to the Recommendations, it is preferable to work with specific parameters and formulas that are better adapted to the actual public contract.
It would however be going too far to say that a mere reference, for the impact of the construction materials, to the general construction index “I” could never be justified. Such an approach may indeed be appropriate, and may even constitute the best approach, if a large number of building materials of various kinds are used and in proportions in line with what is usually the case.
Second option: merely considering a limited time adjustment of the price revision clause
In many cases, a temporal adjustment of the price revision clause may help. Indeed, it is possible that the formula and index used adequately reflect the real structure of prices and their fluctuation, but that the effect of this fluctuation is visible with a delay (of one or more months, depending on the case). This phenomenon is inevitable and is due to the fact that the index is composed of prices from the recent past (but nevertheless from the past). In general, due to the index mechanism, such a delay is not a major problem. However, in the present situation, this is often different, and some prices have risen so rapidly that the difference between the current prices and the prices based on which the index is calculated can upset the contractual balance.
In such a case, according to the Recommendations, the parties could therefore agree that the contracting authority will provisionally pay a price based on the latest available index, but that this price will be settled one or several months later (e.g. two months for index building materials “I” version 2021 and one month for the old index building materials “I”) based on the index for the month in which the works that are the subject of the invoice were carried out. This final settlement could then lead to the payment of a price supplement by the contracting authority or to the return of part of the provisional payment by the contractor. The Recommendations note, however, that such a mechanism, if used, would have to be applied throughout the remaining duration of the contract.
Third possibility: in exceptional cases, take into account the actual prices
If the contracting authority considers that the conditions for the application of Article 38/9 RD AUR are fulfilled, it may also be appropriate, “in some exceptional cases” according to the Recommendations, to restore the contractual balance by granting a compensatory payment. To determine the amount of compensation, the contracting authority could consider, among other things, the actual price that the contractor had to pay to purchase the products required for the execution of the contract. This approach presupposes, however, that the contractor passes on precise data to the contracting authority.
This possibility could arise in particular in the event of strong price shocks. The parameters used in price revision formulas are based on average values, which do not or cannot take sufficient account of the actual price to which the contractor was subject at the time of purchase.
If necessary, according to the Recommendations, the parties could also consider a provisional remuneration. The provisional nature of the remuneration does, of course, imply that an upward or downward adjustment at the end of the contract is not excluded.
The Recommendations also address how contracting authorities can deal with future tenders. Two clauses are recommended in that regard. Firstly, it is recommended that a price revision clause be included in the contract documents in any event, even in cases where this is not required by law. It is also suggests that a clause be included to deal with the change in the contractual balance, without, however, giving any concrete examples.
With these Recommendations, the Belgian government underscores once more that public procurement contracts must also be conducted in an atmosphere of good faith and partnership. Consequently, it is up to all parties to “work together” to arrive at feasible prices that respect the contractual balance, or at least do not fundamentally disrupt it. This also follows from the clear request to contracting authorities to proactively check – both for current and future contracts – what prices are circulating and workable under the given circumstances. The Recommendations also have the merit of once again highlighting the creative and broad possibilities inherent in Article 38/9 RD AUR. Nevertheless, the added value of the Recommendations would have been greater if, for example, tried and tested use cases, with examples of concrete clauses and parameters from practice, had been included. The Recommendations also do not address the question of whether and when price revisions can be of such an order that they can result in a (prohibited) substantial change to the contract.
In short, the Recommendations are useful reading for anyone active in public procurement. But in response to historical circumstances, it falls too short.