MarCH 2015

VOL. 15-3

P r aT T ’ s

EnErgy Law
R E P  RT

EDITOR’S NOTE: CHALLENGING FRACKING AB 1103 MANDATORY ENERGY DISCLOSURES

BANS FOR NON-RESIDENTIAL BUILDINGS
Victoria Prussen Spears Jane M. Samson

MORA COUNTY AND DENTON: IN THE COURTS

CONSTITUTIONAL CHALLENGES TO Steven A. Meyerowitz
HYDRAULIC FRACTURING BANS
Samuel Boxerman, Joel Visser, and Ben Tannen LEGISLATIVE AND REGULATORY UPDATE
Steven A. Meyerowitz
DRILLING DOWN: A DEEPER LOOK INTO THE
DISTRESSED OIL & GAS INDUSTRY – PART I INDUSTRY NEWS
Charles M. Persons Victoria Prussen Spears

TOP 10 PITFALLS IN EPC CONTRACTS

Seth Ginther, Roderick W. Simmons, and Angela
M. Carrico Stevens

FERC ENFORCEMENT REPORT EMPHASIZES

INTERNAL COMPLIANCE PROCEDURES,
SELF-REPORTING, AND IMPORTANCE OF
COOPERATION
Doron F. Ezickson, Greg Kusel, Gregory K.
Lawrence, and Christopher J. Polito
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Editor-in-Chief, Editor & Board of
Editors
EDITOR-IN-CHIEF
STEVEN A. MEYEROWITZ
President, Meyerowitz Communications Inc.

EDITOR
VICTORIA PRUSSEN SPEARS
Senior Vice President, Meyerowitz Communications Inc.

BOARD OF EDITORS
SAMUEL B. BOXERMAN
Partner, Sidley Austin LLP
ANDREW CALDER
Partner, Kirkland & Ellis LLP
M. SETH GINTHER
Partner, Hirschler Fleischer, P.C.
R. TODD JOHNSON
Partner, Jones Day
BARCLAY NICHOLSON
Partner, Norton Rose Fulbright
BRADLEY A. WALKER
Counsel, Buchanan Ingersoll & Rooney PC
ELAINE M. WALSH
Partner, Baker Botts L.L.P.
SEAN T. WHEELER
Partner, Latham & Watkins LLP
WANDA B. WHIGHAM
Senior Counsel, Holland & Knight LLP

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Editor-in-Chief, Editor & Board of Editors
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iv
Top 10 Pitfalls in EPC Contracts
By M. Seth Ginther, Roderick W. Simmons, and Angela M. Carrico Stevens*
This article points out 10 common pitfalls to watch for in engineering,
procurement, and construction contracts, and discusses how to avoid them to
make a project as attractive as possible from a bank or lender’s standpoint, and
to reduce the uncertainties and stress on the project company.
Engineering, procurement, and construction, or EPC, contracts are becoming more
and more common for power projects. When a customer or project company is
obtaining nancing, it is easier to obtain it if an EPC contract is being used. Banks
and lenders, at times, even demand EPC contracts for the certainty they provide.
This article points out 10 common pitfalls to watch for in EPC contracts, and
discusses how to avoid them to make the project as attractive as possible from a bank
or lender’s standpoint, and to reduce the uncertainties and stress on the project
company.

EPC BACKGROUND
Under EPC contracts, the customer or project company hires one contractor to
complete a project, such as constructing a power plant. The contractor will hire any
necessary subcontractors and will completely manage the project from start to nish.
EPC contracts are also negotiated for a xed price and for a xed delivery or
completion date, so that the contractor will bear the risk of any changes in cost and
delays in completing the project. EPC contracts typically also include certain quality
or performance standards to guaranty that the end result is what the project company
expected. For the project company, using an EPC contract is a less stressful process
because some of the typical uncertainties, such as cost, completion date and
management of contractors, are set from the beginning and are not the project
company’s concern. Additionally, the project company will not have to worry about
receiving an asset that has been poorly constructed and does not perform to the
standards expected.

TOP PITFALLS
Fixed Completion Date
The completion date should either be a specic date or a set amount of time from
the date of the EPC contract. This is an essential element that banks look for in

*
M. Seth Ginther, a member of the Board of Editors of Pratt’s Energy Law Report, is co-managing
partner of Hirschler Fleischer’s Energy and Infrastructure Group. He founded and leads the rm’s
government affairs, regulatory and economic development consultancy, HF Consulting LLC. Roderick
W. Simmons is vice chair of the rm’s Business Section, and co-managing partner of the rm’s
Renewable Energy Practice Group. Angela M. Carrico Stevens is an associate in the rm’s Business
Section. The authors may be contacted at [email protected], [email protected], and
[email protected], respectively.

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 TOP 10 PITFALLS IN EPC CONTRACTS

deciding whether to grant funding for the project. In conjunction with the deadline,
the bank or lender will review the ability of the contractor to enter into change
orders. The bank will want as much certainty as possible in having the project
completed on the date given, with little exibility, if any, for the contractor to change
that dateÙprovided that such a provision should take into account delays in the
project that are caused by the project company and due to no fault of the contractor.
In addition to a xed date, the project company may also want to include certain
milestone deadlines for completion of portions of the project. The project company
will likely also want the contractor to provide it with reports on progress, and should
include in the contract the types of reports, the format and the frequency with which
they should be provided. However, the project company should keep in mind that
any such reports should not be at intervals so frequent that they disrupt the
contractor’s work on the project.
Fixed Price
Another key component of an EPC contract is a xed price for the project. In the
contract itself, it states the amount the project company will pay to the contractor for
the completed project, which is generally broken down into monthly payments to the
contractor. In the event that the contractor incurs more cost than expected, whether
the cost stems from an increase in material prices or additional fees to have the work
completed by the time stated in the contract, an EPC contract should be clear that
the contractor bears all of those costs and none of those costs should be the burden
of the project company. A strong xed price provision is typically a requirement from
a bank or lender.
Performance Guaranty
As mentioned, in addition to a xed price and a xed date, EPC contracts are
attractive to both project companies and banks because they guaranty a certain level
of quality in the asset that is produced. In the case of the construction of a power
plant, the project company can specify the standards at which the completed plant
should operate, and if the power plant does not meet those standards, the project
company has recourse against the contractor, typically in the form of performance
liquidated damages.
One potential downside to performance guaranties, and EPC contracts in general,
is that while performance standards can be set at the beginning, the project company
generally cannot specify how the contractor will cause the project to meet those
standards. As a tradeoff for many of the xed terms in EPC contracts, the project
company loses the ability to manage the project on a day-to-day basis, turning that
responsibility over to the contractor. Nonetheless, the project company should take
the time prior to entering into the EPC contract to specify as many of the standards
for the project as possible, in as much detail as possible. If the end product is expected
to meet certain output metrics for production, be limited in its consumption of
utilities or level of emissions, that should be included in the initial contract and actual
numbers should be provided whenever possible. If the project company does not
specify standards for a power plant, for example, it could cost the project company
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 PRATT’S ENERGY LAW REPORT

a substantial amount of revenue in the future to operate a plant that is not operating
to the high standards the project company expected or projected.
Intellectual Property
As in most standard contracts, there should be a clause in which the contractor
represents that it has the right to any intellectual property that it uses in the course
of the project. The clause should further specify that if the contractor does not, in
fact, have the right to such intellectual property, that the contractor shall indemnify
the project company for any costs and expenses the project company incurs as a result
of the contractor’s intellectual property infringement.
Security Provided by Contractor
It is typical for the contractor to provide some sort of guaranty to the project
company in the event that the contractor does not meet all of the standards and
specications set out in the contract. This security could take many different forms
such as a guaranty from a parent company of the contractor, the project company
withholding a portion of each payment to the contractor, a bank guaranty of a
portion of the project or a guaranty on any advance payments made.
The goal is not only to protect the project company, but to be clear about the
penalties the contractor will face.
Defects Liability
A defects liability clause is fairly typical, but may not appear in every EPC contract.
These clauses vary, but he purpose is to obligate the contractor to either repair or
compensate the project company in the event that there is a defect in the project after
completion. The project company may want to include a defect liability clause that
lasts for a certain period of time after completion that covers the entire project, and
then possibly include a longer period of time for coverage of certain critical pieces of
the project.
Liquidated Damages
An EPC contract should contain liquidated damages clauses for delays in the
project and for the project not meeting the set performance standards. Because a xed
completion date for the project is an essential component for an EPC contract, both
from the perspective of the bank or lender and the project company, there should be
consequences for the contractor not meeting that deadline. Delay liquidated damages
will be payable by the contractor to the project company as compensation for losses
the project company endures as a result of the delay. The EPC contract should
contain a per diem amount for liquidated damages based on a delay, and that amount
should be calculated by the project company to, as accurately as possible, reect loss
or damage that the project company will incur due to the delay. Similar to the
necessity for the project to be completed on time, the project meeting certain quality
and performance standards is essential to the project company’s ability to earn the
revenue it expects. The project company should insure that the EPC contract also
contains a provision for liquidated damages for a difference in the quality or
performance of the project, from what was described in the contract.
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 TOP 10 PITFALLS IN EPC CONTRACTS

A provision regarding performance-based liquidated damages should also be

included in the contract and should similarly take into account the amount of
revenue the project company will lose due to the asset not performing as expected,
but should be calculated over the life of the project. Therefore, if the completed
project only performs at 80 percent of the capacity that the project company
expected, and specied in the contract, the liquidated damages should compensate
the project company for the 20 percent decit in production.
Crafting liquidated damages clauses can be difcult, but the project company
should invest a fair amount of time at the outset to determine what its expectations
for the project are and how much it will cost them if those expectations are not met.
The clearer and more specic the liquidated damages clause is, the smaller amount
of room for dispute in the event that the contractor does not meet the standards set
out in the contract. A strong liquidated damages clause is another provision that a
bank or lender will require for nancing. Some contracts may contain a cap on
liquidated damages, which banks and lender typically realize is unavoidable.
Limits on Liability
While EPC contracts, overall, are friendlier to the project company, most
contractors will not enter into EPC contracts that have no limit on the contractor’s
liability. The amount of the cap will vary from contract to contract, but a cap that
is 100 percent of the price of the contract is not uncommon.
Similarly, most contractors will also require limits on liquidated damages, which
will typically be a much smaller percent of the total value of the project (but that can
be left to negotiation between the parties). While caps on liability are important to
the contractor, liability for certain acts, such as gross negligence and willful
misconduct should not be limited.
Variations/Change Orders
A strong contract will limit the number of changes, if not prohibit them altogether,
the contractor may unilaterally make to deadlines, quality, design, etc. There should
be a provision though to allow the project company and the contractor to agree on
certain changes as the project proceeds. The contractor may have suggestions for
improvement for the project company that would produce a better end-result.
A project company will probably also want to include the right to suspend the
project in the event that circumstances change and further research needs to be
conducted. This provision should be very clear though in describing not only the
process for potential variations and which party has the right to make or approve such
changes, but also how the cost of the variation will be determined and factored into
the nal price. As with most contract clauses, the more specicity that can be
provided in the contract itself, the less room for dispute down the road, and the more
attractive the arrangement will be to lenders.
Termination
As previously mentioned, it is to the benet of the project company to include
clauses giving the project company the ability to suspend or even terminate the
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 PRATT’S ENERGY LAW REPORT

project, in the event that circumstances change, such as the need for the project,
non-performance by the contractor, or other situations such as the contractor’s
insolvency. There may be certain termination provisions that the lender requires in
the contract. The contractor will likely require some termination rights, upon events
such a non-payment by the project company, or force majeure.

CONCLUSION
There may be other issues that arise in the negotiation of an EPC contract that are
sensitive to the parties to that contract. As in most cases though, the more time that
can be spent thinking through the potential issues, and memorializing them in the
contract, the easier it will be down the road when these issues arise. Experienced legal
counsel can certainly help in working through the various contract clauses and in not
only drafting a contract that the project company and contractor are satised with,
but a contract that is attractive to lenders.

134