This guide outlines what sub-contracting in construction contracts involves, and the main issues to consider.
What is sub-contracting?
A sub-contractor is a party which agrees to perform part or all of the obligations of another party (main contractor) under a separate contract (master contract) with the ultimate employer (employer).
The sub-contractor will usually be engaged by a main contractor to perform a specific task as part of the master contract.
Main contractors usually sub-contract obligations because they:
- require additional resources: for instance if they undertake a particularly big job, such as a multi-site construction project;
- are responsible for making the professional appointments: for instance the architect, structural engineer, mechanical & electrical engineer and project manager;
- require additional specialist advice or expertise: more specialised consultants include archaeological consultants, traffic management consultants and surveyors;
- are required by law to appoint them: for instance a CDM co-ordinator in relation to health and safety.
Drafting the sub-contract
The main contractor will be responsible to the employer for its obligations under the master contract, regardless of whether any breach is caused by the sub-contractor failing to perform its obligations under the sub-contract.
The sub-contractor has to understand its obligations and must deliver in a timeframe and manner which will enable the main contractor to perform its obligations under the main contract.
From the main contractor's perspective, it will be important that the terms of the main contract are reflected in, or stepped down to, the sub-contract. This avoids 'gaps' in the main contractor's obligations under the master contract and the sub-contractor's obligations under the sub-contract. Any gaps are likely to mean liability sitting with the main contractor:
There is no fixed approach to sub-contracting, and different approaches have their advantages and disadvantages:
- standard form sub-contract:
- there are many different standard forms of sub-contract which are recognised in the construction industry. These seek to provide an "off the shelf" contract for the parties to use;
- the main advantage of using this method is avoiding the need to draft the sub-contract from scratch and hopefully saving time negotiating it. Standard forms can also be useful if the same parties are involved on repeat projects;
- the main disadvantages are:
- they will not reflect project-specific risks or unusual provisions in the master contract;
- they will usually be drafted to benefit one party more than the other. It is important to remember that it will still be necessary to review the sub-contract and it is possible that amendments will be needed;
- some obligations cannot be stepped down to the sub-contract;
- the same standard form will not suit all sub-contractors on all projects, and should be reviewed regularly to ensure that changes in the law and lessons learned on previous projects can be taken into account;
- incorporating the terms of the main master contract by reference into a framework contract;
- this is commonly a short sub-contract obliging the sub-contractor to identify and comply with the relevant terms of the master contract;
- advantages of using this method are:
- there is no need to amend or redraft the sub-contract if changes are made to the master contract, as these changes will simply be incorporated by reference;
- any issues caused by having to cross-reference between the two documents will be reduced or eliminated;
- this method also encourages the sub-contractor to focus on and carry out a proper review of the provisions of the actual master contract;
- the main disadvantages are:
- the risk that the sub-contractor will not identify everything and creating 'gaps' between the master contract and sub-contract (see above);
- having to determine the contractual effect of master contract terms if these are not clearly drafted - it is not always clear how certain terms would have been stepped down to the sub-contract;
- some terms are only relevant to the master contract and should not be stepped down to the sub-contract. This could lead to ambiguities and disputes about whether or not the sub-contractor should or should not have done something;
- certain clauses which are unique to the sub-contract will still need to be drafted;
- bespoke sub-contract:
- this is the most common approach, particularly on complex projects;
- each master contract clause will be reviewed to consider whether the obligations in that clause should be stepped down to the sub-contractor. Amendments and additional drafting will be required to ensure that the clauses work correctly in the sub-contract;
- the main advantage of using this method is that it allows the parties to address any unique issues
- the main disadvantages are:
- they will take longer to complete;
- sub-contract redrafts are generally necessary each time the master contract is amended.
The employer's involvement in sub-contracts
The employer, while negotiating the master contract with the main contractor, will want to make sure the main contractor will meet the performance requirements set out in the master contract and that the sub-contract costings match up. It will therefore want to review the main contractor's sub-contracting arrangements.
The main contractor should be allowed to manage the delivery of the construction project, but best practice is for the employer not to sign the master contract until the sub-contract(s) are agreed and ready for execution.
Examples of the issues which the employer should look out for are:
- sub-contracting assignment and novation:
- the employer will want control over the sub-contractor further sub-contracting its work. For instance, it will want any future sub-contractor to have the technical expertise and financial strength to perform its obligations;
- for more detail on assignment and novation please see our guide;
- liquidated damages:
- if the master contract requires the main contractor to pay liquidated damages to the employer for late completion of the works, the employer should ensure that the main contractor will be able to recover enough under its sub-contract to pay the employer. This will avoid the main contractor not having sufficient funds to pay the employer;
- for more detail on liquidated damages please see our guide;
- collateral warranties:
- collateral warranties create a direct contractual link, which would not otherwise exist, between the employer and the sub-contractor. This allows the employer to make a contractual claim against sub-contractors, should sub-contractors fail to perform their obligations under the sub-contract;
- should the employer have to step-in and replace the main contractor in the sub-contract, it will have to ensure that it is happy with the sub-contract as a whole and the obligations it might assume;
- for more detail on collateral warranties please see our guide
- breakage costs: the employer should ensure that it is comfortable with any breakage costs payable if the sub-contract is terminated early, since it will be potentially liable for various termination scenarios under the main contract.
The main contractor's principal concerns in sub-contracts
Examples of the issues which the main contractor should look out for are:
- headroom: the main contractor should give itself enough time under the sub-contract to enable it to perform its obligations under the master contract, bearing in mind that the sub-contractor may be 'on the ground' and in possession of the relevant information. Examples are:
- notifications and time limits: if the main contractor is obliged to notify the employer within for instance 20 days of an event which might cause delays and therefore give rise to an entitlement to an extension of time, it will need to ensure that the corresponding period in the sub-contract is less than 20 days, to give it time to pass information up the contractual chain to the employer;
- exercising rights: if the employer has 20 days to exercise a right under the master contract which has been stepped down to the sub-contract, the main contractor will want more than 20 days to exercise the right under the sub-contract;
- information: the same principle applies to information which the sub-contractor will need to give to the employer under the master contract. The sub-contractor should be obliged to provide the same information under the sub-contract;
- extensions of time and other reliefs: the main contractor will want to ensure that it is entitled to the same remedies and reliefs under the main contract as the sub-contractor is entitled to under the sub-contract. This avoids the situation where the sub-contractor may be entitled to for instance an extension of time under the sub-contract, to which the main contractor is not entitled under the main contract;
- certification of completion: again, the main contractor will want to ensure that certificates issued by third parties confirming completion of the works apply to both the sub-contract and master contract, to avoid inconsistency and potentially achieving completion under one, but not both, of the contracts;
- payment: the main contractor will want to ensure that it is not obliged to pay its sub-contractors before it has been paid by the employer. Recent changes to the Construction Act are aimed among other things at the abolition of conditional payment clauses and introducing a 'fairer' payment regime, and improving rights for contractors to suspend their work in non-payment circumstances;
- dispute resolution: the main contractor will not want to be bound by a decision under the dispute resolution procedure (DRP) in the master contract while it is still involved in the sub-contract DRP. Recent changes to the Construction Act are aimed among other things at to encouraging the use of adjudication for the resolution of disputes;
- is there more than one sub-contractor? The main contractor will wish to ensure that each sub-contractor is obliged not to do anything which would harm the project by preventing other sub-contractor from performing its obligations. For an example of how this is dealt with in PPP projects, see our guide to interface agreements;
- caps on liability: are they lower in the sub-contract than in the master contract, and does the main contractor want to take the risk of the gap? What about small, specialist sub-contractors who are unable to accept the same level of liability under the master contract?