Chapter 4. Infrastructure Contracts & Low Carbon Materials
Introductory articles on emerging exposures, risk mitigation and
insurance risk transfer for clients of Omnisure.
A compendium of introductory ESG articles on emerging exposures, risk mitigation and insurance risk
transfer for clients of Omnisure with claims examples.
Martin Birch – March 2022
Chapter 4 – Infrastructure Contracts & Low Carbon Materials
In order to meet the Paris Agreement goals of capping global warming at no greater than 1.5 degrees Celsius, it is essential that there is a transition to low embodied carbon materials according to an article written by Corrs Chambers Westgarth lawyers (CCH). Cement, steel and aluminium each produce 7-9% of global carbon emissions and billions of dollars of infrastructure is built each year using these materials.
If the necessary transition is to occur, it will be critical that the construction and infrastructure sector successfully pivots to using materials and products which involve drastically reduced greenhouse gas emissions when manufactured, transported and used. Without sufficient and reliable supply chains, it is challenging for principals seeking to procure infrastructure to insist that low embodied carbon materials be used in their next project.
CCH explain how this still leaves important contractual issues to be addressed. How should contracts provide for the requirement that the contractor must use low embodied carbon materials? Refer to our Foundation Document 1 for further information in relation the use of low embodied carbon materials forming part of a contract specification. Read about the consequences if the builder does not comply with that contractual promise, as well as example of a builder’s breach of a contractual promise in relation to the use of low embodied carbon cement and subsequent defects claim. There may be a clear breach of contract, but what is the principal’s remedy?
A defect is a breach of contract. The measure of damages for breach of contract is the amount needed to put the wronged party in the position it would have been had the contract been properly preformed. In the case of a traditional defect, and subject to any clear contract terms to the contrary, this can be reduced to a monetary amount being the cost of rectification of the defect. In some cases, this may necessitate demolishing the infrastructure and starting again.
Please refer to Ch 4 our Foundation Document to learn about a reasonableness test which comes into play. If the impact of the defect is relatively low compared with the cost of rectification, then the alternative approach may be to award the wronged party damages equal to the diminution in value of the project. Read about the dilemma if the ‘defect’ is not using a low embodied carbon material, where ‘rectification’ is hardly the right response. In other words, if the objective is to lower the lifecycle greenhouse gas emissions of the project, rebuilding using the low carbon material would simply exacerbate the problem. Read also about how the alternative approach of diminution in value is problematic in the sense that the principal has a project which is fit for purpose (and can be fully utilised as intended), but the ESG credentials of the building are compromised. Such losses are likely to be difficult to quantify and, together with the inherent risks and costs of litigation, this will be a barrier to the principal successfully bringing a claim.
Our Foundation Document explains how a contractual promise is ultimately only as good as the remedy for its breach. A large infrastructure or building project is typically treated as a one-off transaction between the builder and the principal, rather than an ongoing relationship. CCH explain that to make low carbon materials promises meaningful, it will be necessary to also agree the remedy for their breach at the time of contract. For breach of non-monetary obligations, one approach which has support in case law, takes the form of a liquidated damages regimes according to CCW. Read our Foundation Document in relation to liquidated damages regimes and how the contractual terms need to be carefully crafted to ensure they are ultimately enforceable, and how the risk of unenforceability can increase.
Given the difficulties of valuing the loss suffered by the principal, a defensible approach to quantifying liquidated damages may be to consider one of the objectives of procuring the low embodied carbon materials, namely to reduce greenhouse gas emissions. For this objective, the builder could be required to pay an amount equal to the cost of carbon offsets to cover the additional greenhouse gas emissions from the materials actually used.
Carbon offsets come in a variety of forms and prices. There are guaranteed, immediately available carbon offsets in the form of existing carbon credit certificates or carbon offsets which may accrue over time and so carry an inherent risk that the offsets may not ultimately eventuate.
Different forms of carbon offsets come with different levels of confidence in their impact on greenhouse gas levels. Reforestation offsets directly support withdrawal of CO2 from the atmosphere. Other projects which purport to have the benefit of displacing a higher greenhouse gas emitting alternative may, however, be subject to scepticism. Independent third-party verification is important.
Once a type of carbon offset is identified for use in determining the liquidated damages amount, the next question is to determine whether to fix the liquidated damages amount by reference to market price for those carbon offsets at the time of the contract or at the time the liquidated damages are payable. Please read our Foundation Document for further information on the use of carbon offsets in this setting.
Other remedies and their limitations
Injunctions and specific performance: Once the project has been built and the builder has used the wrong materials it is generally too late to insist on compliance with the contract through remedies such as injunction or specific performance. The principal would need forewarning that the builder was about to breach.
Other ‘nuclear’ remedies: In theory it is possible to list the failure to use low carbon materials as a major default giving the principal a right for to terminate the contract, or to make the use of low carbon materials a condition to the achievement of practical completion. But in most projects these remedies will not be practicable..
Other important considerations: Regardless of other measures taken to ensure an obligation to provide low embodied carbon materials is enforceable, it is essential for the principal to carefully consider the ubiquitous and general clauses limiting or excluding the builder’s liability for indirect or consequential loss. Please refer to our Foundation Document for further information on the above alternative remedies.
There is increasing pressure for the construction sector to transition to low embodied carbon materials and to do so effectively. Unlike some other non-financial obligations (eg occupational health and safety, modern slavery reporting and privacy, which have their own legislative enforcement regimes) attention must be given to putting in place contractual enforcement regimes to make the promises meaningful. This is especially true at a time when supply chains transition and the risk of non-compliance is at its highest. Not ensuring that contractors deliver on their promise to use low embodied carbon materials runs the risks of reputational damage for ‘green washing’ and, in the extreme, potential class actions and other legal claims.
1 Our Foundation Document is the original full text version of “ESG Discussions – Introductory articles on emerging exposures, risk mitigation & insurance risk transfer” for clients of Omnisure, compiled by Martin Birch. Register on our website for a full copy.
Please contact Martin Birch for a copy of the full-text Foundation Document at martin.birch@omnisure.com.au
