By: Paul Emanuelli
This article is an excerpt from The Art of Tendering: A Global Due Diligence Guide.
Recent audits and legal decisions underscore the importance of establishing clear contract performance benchmarks to measure contract success and enforce contractual obligations. For example, in the July 2020 report entitled New Zealand Transport Agency: Maintaining state highways through Network Outcomes Contracts, New Zealand’s Auditor-General found that while the New Zealand Transportation Agency had achieved good outcomes in managing a new results-based contract structure for highway maintenance, the new program continued to use outdated, specification-based performance benchmarks to manage those new contracts.
By way of background, in 2013 the Agency contracted out management and maintenance activities for 90 percent of the roads in the state highway network, including traffic control, road resurfacing and rehabilitating, and maintaining road markings and street lighting. As the report explained, the new contracts shift the emphasis “from the services a supplier will carry out to the outcomes those services will achieve.” While the new program enhanced the co-ordination of previously fragmented maintenance activities that were performed under multiple prior contracts, the report found that the ongoing use of older specification-based contract compliance benchmarks was not aligned with the need to assess the overall condition of the highways under the new contracts. This resulted in an overall lack of clarity in confirming whether the contractors were meeting their objectives. Rather than repurposing old contract management strategies to administer new contract structures, this report underscores the importance of developing new contract performance benchmarks when deploying new contracting strategies.
Similarly, in its November 2020 report entitled Weapon System Sustainment, the U.S. Government Accountability Office (GAO) reviewed the mission readiness of 46 different types of military aircraft and recommended the adoption of better performance tracking metrics. By way of background, the report noted that the Department of Defense “spends tens of billions of dollars annually to sustain its weapon systems in an effort to ensure that these systems are available to simultaneously support today’s military operations and maintain the capability to meet future defense requirements.” As the report explained, the “mission capable rate” measures “the percentage of total time when the aircraft can fly and perform at least one mission”. This benchmark is “used to assess the health and readiness of an aircraft fleet.” While the GAO concluded that none of the aircraft achieved the desired 80 percent mission capable target, the report provides a useful example of the importance of establishing performance benchmarks to assist in measuring the success of achieving portfolio management goals.
Finally, in its September 2021 report entitled Defence’s Contract Administration — Defence Industry Security Program, Australia’s Auditor-General noted the need to adopt escalation procedures for contractor non-performance. The Auditor-General concluded that the Defence Industry Security Program (DISP), which is aimed at supporting Australian contractors in meeting their security obligations under Department of Defence contracts, failed to establish “fit for purpose arrangements to monitor compliance with contracted DISP requirements.” The report also found that the Department failed to establish “effective arrangements to manage identified noncompliance with contracted DISP requirements.” More specifically, the report found that “Defence does not know which of its active contracts should, or do, require the contracted entity to have DISP membership, a situation which limits the effectiveness of DISP as a security control”, and that “contract managers are not provided with relevant information to help them monitor and manage contractor compliance with contracted DISP requirements.” In fact, the Auditor-General concluded that “Defence has not established an appropriate framework to manage non-compliance with contracted DISP requirements, with a clear escalation pathway.” The report ultimately recommended that when implementing new contract performance standards, government institutions should ensure that those new contract performance requirements are “supported by an agreed implementation plan and appropriate levels of resourcing.”
In fact, as recent legal decisions illustrate, the failure to properly define and administer performance benchmarks can significantly undermine the downstream enforcement of contractual obligations. For example, in its June 2020 decision in Blackpool Borough Council v Volkerfitzpatrick Limited, the England and Wales High Court of Justice found that the failure to clearly define life-cycle expectations undermined the Council’s right to recover full damages in connection with a breach of contract claim. The dispute dealt with the construction of a new tramway depot that was brought into operation in 2012 in the coastal town of Blackpool, England. The Council brought an action against the company that designed and built the depot, claiming that “significant parts of the tram depot as designed and constructed do not meet their intended design life of 50 years”. In fact, the Council claimed that the design was not suitable for the exposed coastal marine environment where the depot “suffers from regular exposure to the elements.”
However, while the Council was awarded £1.1 million in damages as partial compensation for some of the design defects, the Court noted that the award was “significantly less than was claimed” since the additional claims were based on the Council’s assertion that the depot’s “design life obligation” was supposed to be for 50 years, whereas the Court concluded that the design life expectations established under the contract were for a period of not more than 25 years. As this case illustrates, the failure to clearly define the baseline assumption for the building’s design and construction undermined the ability to fully recover damages for the alleged defects.
Further, the August 2020 decision of the Ontario Court of Appeal in Grasshopper Solar Corporation v. Independent Electricity System Operator illustrates how even clearly defined contractual obligations can be compromised by weak contract management practices. The dispute dealt with the cancellation of a solar power facility contract due to the contractor’s failure to meet the prescribed milestone date for commercial operations.
The resulting decision highlighted how the equitable doctrine of estoppel can potentially undermine the enforceability of contractual terms when one of the contracting parties waives strict compliance with those terms during the performance of the contract. In challenging the contract termination, the contractor alleged that the Independent Electricity System Operator, the government agency responsible for administering the contract, led the contractor to believe that it would not be terminated notwithstanding the failure to meet the operational target date. More specifically, as the Court of Appeal summarized, the agency released a July 2013 bulletin informing its solar facility contractors that the operational deadlines would not be strictly enforced. However, in March 2019, the contractor was subsequently served with a non-compliance warning letter where it was reminded that the deadline for achieving commercial operations was September 2019. In July 2019, the contractor brought a court application to clarify its contractual rights.
The application judge ruled that the agency was not estopped from enforcing the operational deadline and had the right to terminate without paying damages notwithstanding the prior bulletin since the agency did not agree that it would never terminate the contract for non-performance. The contractor appealed that decision. The Court of Appeal upheld the lower court ruling. As the Court of Appeal noted, “although the doctrine of estoppel cannot vary the terms of a contract, it may operate to prevent a party from relying on the terms of the contract to the extent necessary to protect the reasonable reliance of the other party.” However, the Court of Appeal cautioned that “the doctrine has the potential to undermine the certainty of contract and must be applied with care, especially in the context of commercial relationships between sophisticated parties represented by counsel.”
The Court of Appeal ultimately upheld the lower court ruling after concluding that while the contractor may have held the belief that the deadline would not be enforced, the agency and contractor did not arrive at a “shared assumption” that was “unambiguous and unequivocal” regarding the waiver of that deadline. Rather, while the 2013 communication bulletin stated that deadlines would not be strictly enforced at that time, it also clarified that the agency was “maintaining its rights under the contract” with respect to the enforcement of future obligations.
In coming to its decision, the Court of Appeal clarified that while the doctrine of estoppel may serve to suspend certain rights, it does not automatically nullify those rights. Rather, estoppel can be lifted through reasonable notice, such as the March 2019 warning letter served to the contractor after the original July 2013 bulletin, which reactivated the original contractual obligations. As this case highlights, contract managers should be careful to avoid any communications or actions that could be interpreted as suspending their right to enforce the original terms of a contract since the doctrine of estoppel can potentially be relied on to, in effect, freeze those future contract obligations unless reasonable notice is later provided to revive those obligations.
Finally, in its April 2021 decision in Tower Restoration v. Attorney General of Canada, the Ontario Superior Court of Justice rejected a contractor’s extra-cost claim after finding that the contractor should have anticipated the challenging conditions under which it was expected to perform its work. The dispute dealt with a $3.2 million contract awarded to a low bidder for the replacement of windows at the Millhaven Maximum Security Penitentiary. The contractor encountered logistical issues accessing the interior of the facility, which led to delays and increased its costs. However, the Court rejected the $1 million extra-cost claim, ruling that the contractor “knew or ought to have known that, by submitting a lump sum bid, it would be required to take on obvious and inherent financial risks associated with replacing all the windows within a fully occupied maximum-security penitentiary housing hundreds of federally-sentenced prisoners.” The decision highlighted the importance of ensuring that bidders are fully informed of the site conditions that they will encounter during contract performance to better shield purchasing institutions from future extra-cost claims. While this extra-cost claim was ultimately rejected, this case serves as another useful reminder to purchasing institutions of the importance of clearly defining contract performance expectations to avoid downstream disputes.
As these recent case studies illustrate, purchasing institutions should ensure that they clearly define their contract performance benchmarks if they hope to enforce future contractual obligations.
