News & Insights

Development Bureau issues Practice Notes for NEC public works projects in Hong Kong

At the NEC Asia-Pacific Users’ Group annual conference in November 2016, the HKSAR Government announced that it would use the NEC suite of contracts (as far as practicable) for all future public works projects. This follows the HKSAR Government’s previous announcement that all new government works contracts tendered in fiscal years 2015 and 2016 would use the full suite of NEC3 contracts as far as possible, for extending the HKSAR’s trial on the use of NEC3 contracts. In October 2016, the Development Bureau issued the “Practice Notes for New Engineering Contract (NEC)-Engineering and Construction Contract (ECC) for Public Works Projects in Hong Kong” (Practice Notes). This article summarises the main features of the Practice Notes.

Aim of Practice Notes

The aim of the Practice Notes is to provide guidance for Projects Offices of the Works Departments (WDs) in the preparation and administration of public works projects and consultancy agreements using the NEC form, including the Engineering and Construction Contract (ECC), Term Service Contract (TSC) and Professional Services Contract (PSC).  The Practice Notes will be updated from time to time.

Key Topics

The Practice Notes focus on common issues encountered at the pre-tender and tender stages and practical issues in managing NEC ECC projects during construction. The Practice Notes incorporate amongst others, the HKSAR Government’s library of standard amendments to NEC ECC standard documents and library of standard additional conditions of contract. The following are key topics discussed, which really puts together the practices that have been adopted to date in running NEC public works projects in Hong Kong. The Practice Notes will provide useful guidance as to how NEC for public works would be run in the Hong Kong context.

Guidance for Choice of Option

The Practice Notes mainly focus on the four main Options, namely Options A (priced contract with activity schedule), B (priced contract with bill of quantities), C (target contract with activity schedule) and D (target contract with bill of quantities), as they have been used in pilot trials in Hong Kong. The Practice Notes give a comparison between the four main Options in terms of opportunity for costs savings, comparison with the HKSAR Government General Conditions of Contract, what the contractor is paid for, financial risk, risk allowance and the tendered total of the Price, preparation of the activity schedule/bill of quantities and changes to the Price and price adjustment for inflation.

The Practice Notes provide that in selecting the main Option, considerations specific to the project, including cost certainty, quantity certainty, risk allocation and sharing, completeness of design, potentials to drive more efficient project delivery and costs savings and resources available for open book accounting for target cost contracts should be taken into account and evaluated.

Pain/Gain Share Mechanism for Target Cost Contracts

A 50:50 split of pain/gain share for the first 10% of over spending (i.e. the Employer’s expenditure is normally capped at 105% of the final target cost) and for all range of under spending is recommended, although the Project Offices may adjust the recommended mechanism to suit the needs of their particular project.

Cost Saving Design and Alternative Proposals

For Options C and D, the target cost will be deducted by the agreed construction costs savings if a Costs Savings Design proposal is accepted. Any Project Manager’s costs or addition in future operation and maintenance (O&M) costs due to the Cost Savings Design will be deducted from the sum due to the Contractor. For all Options, upon Completion of the works, the Contractor’s share in the agreed construction cost savings due to the Cost Savings Design, after the deduction of the total of the Project Manager’s costs and addition in future O&M costs, will be paid to the Contractor.

Facilitating Healthy Financial Management under Target Cost Contracts

To address the potential issue of “negative cash flow” for Options C and D (as previously contractors could only claim for costs actually incurred), NEC clause 11.2(29) is amended by introducing “forecast will have been paid by the Contractor at or after the concerned assessment date but before the next assessment date, for the cost components in the Schedule of Cost Components” in the assessment of interim payments. Such estimated amount includes payments due to People, Plant and Materials, and Equipment (which are cost components in the Schedule of Cost Components) and needs to be substantiated by proof, such as invoices at the payment application, and evidence of payment made as forecast in the following payment application.

Payment Checking for Target Cost Contracts

The Practice Notes contain a suggested framework for a payment checking mechanism.

Sample checking for smaller value items (items less than $300,000 and not related to payment for People, insurance and subcontracts) is introduced to ensure that adequate control of payment is in place, while keeping the resource requirement from the Project Offices on payment checking to a more reasonable level. This seeks to strike a balance on allocating resources to check small value items. The Practice Notes provide that the extent of cost checking will depend on the scale of the project and resources available from the project team for checking, but normally, full checking is preferred.

If there are staff constraints in conducting full checking of the applied payments for target cost contracts, the Project Offices may propose to adopt a payment checking mechanism to allow selective checking of applied payments which is subject to the approval of a project officer at D2 rank or above.

Equitable Risk Allocation and Management of Compensation Events

The Practice Notes provide that in general, the time and money entitlement of the default NEC principle may be adopted if appropriate, except for events such as weather events (excluding severe weather events for Options C & D), utility interference, prevention events, shortage of labour as amended in the Government’s Library of Standard Amendments in NEC ECC.

Building Up a Partnering Culture

Under the Practice Notes, good practices are adopted from previous NEC pilot projects, such as the setting up of joint site office, champion group meetings and organization of partnering workshops, all of which promote a good partnering spirit within the project team, a core value in NEC.

Drafting Tender Documents

The Practice Notes incorporate the Library of Standard Amendments to NEC ECC, additional conditions of contract (Z clauses), General and Special Conditions of Tender, Notes to Tenderers, and sample templates of Contract Data Part one and Part two, Grand Summary of the activity schedule / bill of quantities, General Particulars and Preambles to Specifications for the Works Information, Preambles to the activity schedule, General Preambles to the bill of quantities, Form of Tender and Articles of Agreement.

Effective Project Management

The Practice Notes contain guidelines for NEC project management, including:

  • control of time – communications/correspondence, early warning mechanism (one of the key procedures in NEC), risk reduction meetings, provision of risk register, provision of programme;
  • control of cost – payments to Contractor under Options A – D, auditing, financial control and supervision system (Options C & D) (information required for monthly payment assessment and payment checking mechanism);
  • Compensation Events – grounds for compensation events and mechanism for notifying/assessing compensation event; and
  • Control of quality – defects and rectification.

Costs Control and Corruption Prevention for Subcontracting

The Practice Notes address concerns about subcontract prices being intentionally inflated by the Contractor, since NEC clause 52.1 lays down the principle that the Defined Cost includes only amounts calculated using rates and percentages stated in the Contract Data and other amounts “at open market or competitively tendered prices” with deductions for all discounts, rebates and taxes which can be recovered.

As part of the HKSAR Government’s practice of having the Project Manager closely monitoring subcontracting activities, the Practice Notes provide that the Project Manager should check whether the tender prices and rates of the subcontracts and supply contracts submitted by the proposed Subcontractors and suppliers are competitively tendered or open market prices or rates without activities or items which are substantially over or under-priced or erratically priced, before acceptance of the proposed Subcontractors or suppliers.

Key Contacts

Joseph Chung

Partner | Litigation and Dispute Resolution

Email or call +852 2825 9647

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