Improving Security of Payment Building and Construction Industry

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9. Mutual Fund Insurance Page 113National Public Works Council IncImproving Security of Payment in the Building and Construction Industryprovision of a bank guarantee by the Head Contractor to the Principal pendingcompliance with time and quality elements under the warranty provisions of thebuilding contract. Under a Mutual Fund scheme, the builder may be saved the bankguarantee cost, but loses the use of the money with respect to the final payment.In other cases where a retention factor prevails, those monies are held by the Principalwho has the benefit of income from those funds pending the Head Contractor'scompliance with the warranty, time and quality provisions.Insufficient data exists to quantify the loss to the Head Contractor and the Principal inthe foregoing examples if the proposed final progress payment or the retention monieswere paid to the Mutual Fund.9.4.7 Further ResearchAs was previously mentioned with respect to Insurance, further research needs to beundertaken to obtain empirical data to quantify the number and overall impact ofHead Contractor insolvencies on Subcontractors in the Building and ConstructionIndustry. Without providing empirical data it is difficult to appreciate the size of theproblem and hence, the size of the potential risk.Further research needs to be undertaken on Head Contractor defaults due toinsolvency in the past five to ten years to determine the following critical factors inthe Building and Construction Industry:• The average number of Head Contractor insolvencies each year;• The average loss that Subcontractors have incurred from defaulting HeadContractors;• What is the nature of the loss for the Subcontractor (ie personal exertion,material, profits etc); and• In which sector(s) of the industry, if any, is the Head Contractor becominginsolvent with the greatest frequency.Through using such historical data, an estimate would be able to be made as topotential future losses by applying varying deductible and aggregate deductiblescenarios to measure their likely impact on the level of funding required.Similar research to that detailed at Section 8.6 will need to be undertaken in relationto the concept of Mutual Fund Insurance.
10. Prequalification Page 114National Public Works Council IncImproving Security of Payment in the Building and Construction Industry10.1 Recommendations• Prequalification is the process used by one party in the contractual chain to assess thecapacity of another party in the chain to successfully complete a project. Thisassessment involves consideration of financial, technical and management capacity.• For prequalification to be effective it must involve the verification, review andassessment of current financial and non-financial information by appropriately skilledand competent assessors.• The ability of prequalification to prevent or protect against non-payment or slowpaymentis limited.• Whilst prequalification will not prevent financial failure of a Contractor, a thoroughand rigorous prequalification process should help to identify and evaluate the risk ofsuch failure.• This Consultancy does not recommend that a prequalification process be mandated,although we recommend and encourage its utilisation on a voluntary basis.• Guidelines should be available through relevant professional and trade associations onthe appropriate format of such prequalification including guidance as to appropriatebenchmarks to assist users to evaluate the particular prequalification criteria.• It should be the responsibility of the evaluating party to assess and determine whetherprequalification has been met and to subsequently engage the Contractor.• The extent of the procedures undertaken by the Principal should adequately addressthe risk of failure of the Head Contractor.• For projects above $5 million the prequalification process should be undertaken bythe Principal on the Head Contractor.• No additional reduction of the risk exposure will be obtained by the Subcontractorundertaking his own prequalification process for projects above $5 million where thePrincipal has completed such a review.• For projects below $5 million prequalification is not a cost effective mechanism. Theprocedures undertaken by the Principal will be reduced in line with their reducedfinancial exposure. From the Subcontractor's perspective the level of financialinformation available in respect of smaller Head Contractors will limit theeffectiveness of prequalification.
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Improving Security of Payment Building and Construction Industry

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