CONTRACTS

Agreements between two entities, creating an enforceable obligation to do, or to refrain

from doing, a particular thing.

Nature and Contractual Obligation

The purpose of a contract is to establish the agreement that the parties have made and to
fix their rights and duties in accordance with that agreement. The courts must enforce a valid
contract as it is made, unless there are grounds that barits enforcement.
Statutes prescribe and restrict the terms of a contract where the general public is affected.
The terms of an insurance contract that protect a common carrier are controlled by statute in
order to safeguard the public by guaranteeing that there will be financial resources available in
the event of an accident.
The courts may not create a contract for the parties. When the parties have no express or
implied agreement on the essential terms of a contract, there is no contract. Courts are only
empowered to enforce contracts, not to write them, for the parties. A contract, in order to be
enforceable, must be a valid. The function of the court is to enforce agreements only if they exist
and not to create them through the imposition of such terms as the court considers reasonable.
It is the policy of the law to encourage the formation of contracts between competent
parties for lawful objectives. As a general rule, contracts by competent persons, equitably made,
are valid and enforceable. Parties to a contract are bound by the terms to which they have agreed,
usually even if the contract appears to be improvident or a bad bargain, as long as it did not result
from Fraud, duress, or Undue Influence.
The binding force of a contract is based on the fact that it evinces a meeting of minds of
two parties in Good Faith. A contract, once formed, does not contemplate a right of a party to
reject it. Contracts that were mutually entered into between parties with the capacity to contract
are binding.

Use contract in construction

 Describe scope of work.

 Establish time frame.
 Establish cost and payment provision.
 Set fourth obligations and relationship.
 Minimize disputes.
 Improve economic return of investment.
Major Contract Types (traditional)

Lump sum contract:

 This is also called as fixed price contract.

 In this contract, contractor agrees to perform specified job for fixed sum.

 The owner provides the contractor exact specification of the work.

 In this contract both the parties try to fix the conditions of the work as precisely as
possible.

Advantages of Lump sum contracts:

 Owner is aware of the cost of the project before the project construction starts.
 It avoids a lot of details and accounting by both owner and contractor.
 Low risk on the owner, Higher risk to the contractor
 If this contract is used with design-construct method of delivery, contractor gets
opportunity to use value engineering

Disadvantages of Lump sum contracts:

 Changes are difficult and costly.
 Contractor is free to use the lowest cost of material equipment, methods.
 The contractor carries much of the risks that he may end up with profit or loss in this type
of contract.
 This type of contract generally used for small works.

Facts to be noted in Lump sum contracts:

  This type of construct is suited for small job, precisely specified job, and low risk with
construction job.
 This is generally suited for the job where it is easy to make the measurement.
 Lump-sum contract should be avoided for underground work

Unit price contract:

 In this type of contract, the price is paid per unit of the work carried out.
 No total final price.
 Payment to contractor is based on the measure.
 Time & cost risk (shared)
• Owner : at risk for total quantities
• Contractor: at risk for fixed unit price.
 Ideal for work where quantities cannot be accurately established before construction
starts.

Advantages of Unit price contract:

 Easy for contract selection.

 Early start is possible.
 Saves the heavy cost of preparing many bills of quantities by the contractors.
 Fair basis for competition.
 In comparing with lump-sum contract, changes in contract documents can be made easily
by the owner.
 Lower risk for contractor.

Disadvantages of Unit price contract:

 Final cost not known from the beginning.

 Staff needed to measure the finished quantities and report on the units not completed.
 Unit price sometime tend to draw unbalanced bid.
(ForUnit-Price Contracts, a balanced bid is one in which each bid is priced to carry its share of
the cost of the work and also its share of the contractor’s profit.)

Facts to be noted in Unit price contract :

 This type of construction is usually followed in government sector for large infrastructure
construction.
 This type of contract provides owner a competitive bid.
Item rate contract:
For this contract, contractors are required to quote rates for individual items of work on
the basis of schedule of quantities furnished by the client’s department.

Percentage rate contract:

 In this contract owner prepare schedule of items with quantities, rates, unit and amount
shown therein.
 The contractor offer percentage above, below or at per with rates given in schedule.

Cost plus percentage Contract:

 When there is uncertainty of work and rate of labour, materials etc. are liable to fluctuate
abruptly this type of contract is adopted.
 In this type of contract owner and contractor makes an agreement that contractor will be
paid on basis of actual cost incurred plus fixed percentage as overhead profit.

EPC contract:
 EPC stands for “Engineering, Procurement & Construction is a significant form of
contract in construction industries.
 In EPC owner provides the basic engineering to contractor and contractor
Needs to perform detailed design based on the basis design received by owner

Build-operate-transfer contract (BOT):

 An agreement between a private company and a governmental body.
 In this type of contract the private company finances, designs, constructs, Operates and
maintains the infrastructure project for a certain period time and then transfer ownership
to the government.
 TENDER
A tender is an offer in writing for executing certain specified work or for supplying
specified materials subject to certain terms and conditions like rates, time limit, etc. between the
contractor and the department or owner or party. The construction work is usually done by
contract. Sealed tenders are invited and the work is usually entrusted to the lowest tender.

CLASSIFICATION OF TENDERS:
Tenders are broadly classified into:
1. Open or public tender: In this type of tender any contractor can enter into competition
and all formalities of giving opportunity to compete are to be fulfilled. It is compulsory
for public works and because of competition; it may result in low cost. But there are
chances of dispute as mistakes found out at a later stage are difficult to be adjusted. It is
also not suitable for complicated and specialized jobs.
2. Selected or limited tender: For this type of tender, the architect after consultation with
his client invites a limited number of contractors for filling up the tender of the project. It
results into competition on a small scale. But it proves to be useful for specialized and
skilled works. It also leads to early successful completion of the project.
3. Negotiated tender: This is the advanced form of selective tender and the contract is
given by negotiations with one or at the most two contractors . As such, there is no
competition in this type of tender and hence, it may prove to be costly. But when the
work is to be completed in target time without sacrificing for the quality, the negotiated
tender may prove to be the only alternative.
Invitation to tender:
An invitation to tender is a formal invitation to make an offer for the supply of goods or services.
An invitation to tender might be issued for a range of contracts, including:
1. Equipment supply
2. Design by contractors
3. Trade contractors
4. Main construction contractors
5. Demolition or enabling works

PREQUALIFICATION OF CONTRACTORS:
Under this procedure, the competency of the contractors is determined before the tenders
for the work are released. The tenders are then supplied to those contractors who are qualified for
the job. Normally, a contractor will be required to fill up a detailed questionnaire form.
Questionnaire may contain the following information
 Contractors past experience
 Present works on hand
 Financial stability
 Technical qualifications
 Plants and equipment's etc.

Advantages of prequalification:
1. Facility for acceptance
2. Sufficient time for decision
3. Sound contract
 4. Facilities for unqualified contractors
5. Better class of contractors
Disadvantages of prequalification:
1. No real competition
2. Doubt of favouritism
3. Complicated questionnaire form

TENDER AND ITS PROCESS:

1. Preparation of tender documents:
Information to be given in a tender document are as follows:
1. General conditions of tender
2. Schedule of items of work with clear specifications
3. Special conditions

2. Issue of notice inviting tender or tender call notice:

Tender for work or supply are invited by issuing tender notice in prescribed form. In the
tender notice the following particulars are given:
i. Name of the authorities inviting the tender
ii. Name of the work and its location
iii. Estimated cost
iv. Time of completion
v. Cost of complete set of tender forms and conditions
vi. Date, time and place of tender
vii. Amount of earnest money and security money
viii. Validity of tender etc.
Tender notice is posted in the notice board of the department and for major work the tender
notice in brief is also given in the newspaper.

3. Submission of bids and their scrutiny: After the tenders are received, they should be
properly scrutinized with respect to the following items:
1. A list of tenders which are received should be made with the details of the deposit
cheques.
2. It should be checked and verified that each tender is duly signed and it contains the
address of the contractor.
3. It should be seen that the contractor has not altered the terms and conditions of the tender
and at the same time, he has not mentioned some other terms and conditions.
4. The rates of each item should be entered in figures and words. The calculations showing
the amount of each item should be carefully checked.
5. The totaling of the amounts from page to page also should be done carefully in order to
arrive at the final cost of construction in each case.
6. After all the tenders are scrutinized, a comparative list should be made. The tender
showing the lowest amount should be placed first and the tender showing the highest
amount should be placed last.
4. Accceptance of tender: Generally, the tender with the lowest amount is accepted. But in
some cases, the rates of the lowest tender are so low that it becomes evident that the work will be
spoiled, if contract is given to such tenderer. In such cases, the owner decides for or negotiates
with the second lowest contractor.
 VALUATION
TECHNICAL TERMS
1. EXPENDITURE
The whole amount can be spent during the financial year or not.

2. CAPITAL COST
Total cost including all the expenditure incurred from beginning to the completion of a work.

3. PROVISIONAL SUM
Estimate of bill quantities for some special work to be done by a specialist firm whose details are
known at the time of preparation of estimate.

4. RATE OF COST
The cost per unit of subhead which is arrived at by dividing the up-to-date final charges on a sub-
head by its up-to-date progress.

5. PREMIUM
The tendered percentage rate above the notified rates.

6. REBATE
The tendered percentage rate below the notified rates.

7. PLINTH AREA
It is a covered area of a building measured at floor level. It is measured by taking external
dimensions excluding plinth offset if any.

8. RATES
Rates followed are of sanctioned schedule of rates or non-scheduled, this fact is to be mentioned
under this sub – head.

9. CONTINGENCIES
Incidental expenses of miscellaneous character which cannot be classified approximately under
any distinct sub-head, but is added in the cost of construction necessarily.

10. VALUATION
Valuation is the technique of estimating or determining the fair price or value of a property such
as building, a factory, other engineering structure of various types, land…etc.

12. SALVAGE VALUE

It is the value of end of utility period without being dismantled.

13. SINKING FUND

The fund is gradually accumulated by way of periodic on annual deposit for the replacement of
the building or structure at the end of its useful life.
14. DEPRECIATION
Depreciation is the gradual exhaustion of a usefulness of a property. Decrease or loss in the value
of a property due to its structural deterioration use, life wear and tear, decay and obsolescence.

15. SCRAP VALUE

Scrap value is the value of dismantled materials. For a building when the life is over the end of
utility period of dismantled materials as steel, bricks, timber. Etc. will fetch certain amount
which is scrap value of a building.

OBJECTS OF VALUATION
It is the technique of estimating and determining the fair price or value of a property such
as a building, a factory or other engineering structures of various types, land etc.

Six important Purposes of Valuation:

The main purposes of valuation are as follows:
1. Buying or Selling Property
When it is required to buy or sell a property, its valuation is required.
2. Taxation
To assess the tax of a property, its valuation is required. Taxes may be municipal
tax, wealth tax, Property tax etc, and all the taxes are fixed on the valuation of the
property.
3. Rent Function
In order to determine the rent of a property, valuation is required. Rent is usually
fixed on the certain percentage of the amount of valuation which is 6% to 10% of
valuation.
4. Security of loans or Mortgage
When loans are taken against the security of the property, its valuation is required.
5. Compulsory acquisition
Whenever a property is acquired by law; compensation is paid to the owner. To
determine the amount of compensation, valuation of the property is
required.Valuation of a property is also required for Insurance, Betterment
charges, speculations etc.
6. Valuation of Building:
Valuation of a building depends on the type of the building, its structure and
durability, on the situation, size, shape, frontage, width of roadways, the quality of
materials used in the construction and present day prices of materials. Valuation
also depends on the height of the building, height of the plinth, thickness of the
wall, nature of the floor, roof, doors, windows etc.
The valuation of a building is determined on working out its cost of construction
at present day rate and allowing a suitable depreciation.

Six Methods of Valuation

1. Rental Method of Valuation
2. Direct Comparisons of the capital value
3. Valuation based on the profit
4. Valuation based on the cost
 5. Development method of Valuation
6. Depreciation method of Valuation

Market Value
The market value of a property is the amount which can be obtained at any particular time from
the open market if the property is put for sale. The market value will differ from time to time
according to demand and supply.
The market value also changes from time to time for various miscellaneous reasons such as
changes in industry, changes in fashions, means of transport, cost of materials and labour etc.

Book Value
Book value is the amount shown in the account book after allowing necessary depreciations. The
book value of a property at a particular year is the original cost minus the amount of depreciation
allowed per year and will be gradually reduced year to year and at the end of the utility period of
the property, the book value will be only scrap value.

Capital cost
Capital cost is the total cost of construction including land, or the original total amount required
to possess a property. It is the original cost and does not change while the value of the property is
the present cost which may be calculated by methods of Valuation.

Capitalized Value of a Property

The capitalized value of a property is the amount of money whose annual interest at the highest
prevailing rate of interest will be equal to the net income from the property. To determine the
capitalized value of a property, it is required to know the net income from the property and the
highest prevailing rate of interest.
Therefore, Capitalized Value = Net income x year’s purchase

Sinking Fund Method

In this method, the depreciation of a property is assumed to be equal to the annual sinking fund
plus the interest on the fund for that year, which is supposed to be invested on interest bearing
investment. If A is the annual sinking fund and b, c, d, etc. represent interest on the sinking fund
for subsequent years and C = total original cost, then –

Rental Method of Valuation

In this method, the net income by way of rent is found out by deducting all outgoing from the
gross rent. A suitable rate of interest as prevailing in the market is assumed and Year’s purchase
is calculated. This net income multiplied by Year’s Purchase gives the capitalized value or
valuation of the property. This method is applicable only when the rent is known or probable rent
is determined by enquiries.

Direct comparison with the capital Value

This method may be adopted when the rental value is not available from the property concerned,
but there are evidences of sale price of properties as a whole. In such cases, the capitalized value
of the property is fixed by direct comparison with capitalized value of similar property in the
locality.
Valuation based on profit
This method of Valuation is suitable for buildings like hotels, cinemas, theatres etc for which the
capitalized value depends on the profit. In such cases, the net income is worked out after
deducting gross income; all possible working expense, outgoings, interest on the capital invested
etc. The net profit is multiplied by Year’s Purchase to get the capitalized value. In such cases, the
valuation may work out to be high in comparison with the cost of construction.

Valuation based on cost

In this method, the actual cost incurred in constructing the building or in possessing the property
is taken as basis to determine the value of property. In such cases, necessary depreciation should
be allowed and the points of obsolescence should also be considered.

Development Method of Valuation

This method of Valuation is used for the properties which are in the underdeveloped stage or
partly developed and partly underdeveloped stage. If a large place of land is required to be
divided into plots after providing for roads, parks etc, this method of valuation is to be adopted.
In such cases, the probable selling price of the divided plots, the area required for roads, parks
etc and other expenditures for development should be known.
If a building is required to be renovated by making additional changes, alterations or
improvements, the development method of Valuation may be used.

Depreciation Method of Valuation

According to this method of Valuation, the building should be divided into four parts:
1. Walls
2. Roofs
3. Floors
4. Doors and Windows

And the cost of each part should first be worked out on the present day rates by detailed
measurements.
The present value of land and water supply, electric and sanitary fittings etc should be added to
the valuation of the building to arrive at total valuation of the property.
Depreciation is the gradual exhaustion of the usefulness of a property. This may be defined as
the decrease or loss in the value of a property due to structural deterioration, life wear and tear,
decay and obsolescence.

Methods for calculating depreciation

1. Straight line Method
2. Constant percentage method
3. Sinking Fund Method
4. Quantity Survey Method