Contractor entitlements for employer-caused delays in EPC projects: An analysis of off-site overheads and loss of profits

Disputes arising from Engineering Procurement and Construction contracts, whether stemming from contractor delays, employer-induced disruptions, or premature terminations, invariably centre on one critical question: quantum. When an employer is responsible for a delay in completion, contractors often seek damages in the form of lost profits and unabsorbed head-office/ off-site overheads. These claims are particularly challenging as these anticipated commercial losses are rarely established through direct documentation.

Off-site overheads

Off-site/ head-office overheads consist of the indirect business costs a contractor incurs, which are not specifically attributable to a particular project, such as administrative expenses, executive salaries and office rent. When an owner-caused delay prolongs the project, contractors can claim a share of these unabsorbed head-office costs for the extended contract period. The underlying theory is simple: due to the uncertainty created by delay, the contractor cannot easily take on additional work or reduce ongoing overheads, and the project’s reduced activity no longer contributes adequately to covering these costs.

Loss of profits

Furthermore, project delays may deprive the contractor of opportunities to deploy resources on profitable alternative work, resulting in lost profits. Recuperating such “loss of opportunity” hinges on demonstrating, often through previous years’ accounting records and turnover data, the realistic profits that might have been earned in the relevant period.

To prevent parties from advancing unrealistic damages claims, Indian courts and tribunals have increasingly relied on mathematical formulae drawn from engineering and construction law principles like the Hudson, Emden, and Eichleay formulae, whose legitimacy was expressly recognised by the Supreme Court in McDermott International Inc. v. Burn Standard Co. Ltd. These key formulae are discussed hereunder:

Hudson formula

The Hudson formula is a widely used method for the calculation a contractor’s claim for unabsorbed overheads and lost profit due to owner/ employer-caused delays. The formula – 

(Head Office overheads and Profit Percentage as in contractor’s tender/100) × (contract sum/contract period) × period of delay

There is an element of constraint to the application of the Hudson formula, namely, it is assumed that, in relation to profits and overheads, the contractor would otherwise have been able to recover such amounts but for the delay, as held in Alfred McAlpine Homes North Ltd. v. Property & Land Contractors Ltd.

What, in effect, this means is that a contractor needs to establish that if not for the delay, it would have recovered these overheads and profit through other profitable work [Bailey, J. (2016). Construction Law (2nd ed.). Informa Law from Routledge]. For this, evidence is required to be adduced by the contractor, which means that it must demonstrate that it suffered a reduction in turnover that was directly attributable to that delay, as noted in Harmon CFEM Facades (UK) Ltd. v. Corporate Officer of the House of Commons.

Emden formula

The Emden formula mirrors the Hudson formula but uses the contractor’s actual head-office overheads and profit percentage instead of the tender/contract percentage. As noted in Norwest Holst Construction Ltd. v. Co-Operative Wholesale Society Ltd. Emden’s application requires strict conditions: the contractor must prove the loss occurred and show that the owner-cause delay directly prevented it from accepting other profitable work or diminished its overhead recovery during the financial period. The delay should not correspond with a simultaneous increase in turnover, nor should overheads claimed be ones that would have been incurred regardless of project progress. Additionally, there should be evidence that a profitable market existed and that the contractor was unable to deploy resources elsewhere during the delay.

Eichleay formula

The Eichleay formula, unlike the Hudson and Emden formulae, specifically calculates only unabsorbed head office overheads during project delays attributable to the employer. Using a three-step approach, it allocates actual overhead costs based on the delayed project’s proportion of total company billings and determines a daily rate for the extended period. While US courts consider it the primary method for such claims, its applicability is yet to be seen in the UK, Australia and India.

AT Brij Paul Singh v. State of Gujarat is one of the earliest cases in Indian jurisprudence to reference Hudson’s Building and Engineering Contracts, establishing that when a party defaults in construction contracts, it is liable to indemnify the affected party for loss of profits, with compensation calculated by reference to the Hudson formula.

The Delhi High Court in Daiichi Sankyo Company Limited v. Malvinder Mohan Singh held that the issue of the applicability of a particular formula in the facts and circumstance of a particular case rests within the domain of the arbitrator.

Evidence for delay and actual losses as a pre-requisite

In National Thermal Power Corporation Limited v. Wig Brothers Builders and Engineers Limited, Ahluwalia Contracts (India) Ltd. v. Union of India and Indo Nabin Projects Ltd. v. Powergrid Corporation of India Ltd., the Delhi High Court held that if the aggrieved party fails to substantiate actual losses and merely relies on formulae, the claim for the damages for overheads and loss of profits may be rejected.

Similarly, the Division Bench of the Bombay High Court in Edifice Developers and Project Engineers Ltd. v. Essar Projects (India) Ltd., upheld the Single Judge’s order setting aside the arbitral award wherein even when no evidence was adduced for the claim which was allowed and damages were awarded.

Similarly, in Essar Procurement Services Ltd. v. Paramount Construction, the Bombay High Court held that if an award is passed solely based on the formula without substantiating evidence of actual losses, then the award is susceptible to be set aside as it suffers from patent illegality and is in conflict with the public policy of India.

What qualifies as acceptable evidence?

In National Highway Authority of India v. Som Dutt Builders-NCC (JV), the court upheld an award after concluding that the contractor’s monthly workforce deployment reports were sufficient evidence to establish overhead losses resulting from delay.

In M/s Unibros v. All India Radio, it was emphasized by the Supreme Court that the nature and quality of evidence generally includes independent contemporaneous evidence, like the total number of tendering opportunities received and declined owing to prolongation of the contract, financial statements, or any clauses in the contract related to delays, extensions of time, and compensation for loss of profits. Further, conditions for establishing loss of profits were also laid down: first, there was delay; second, such delay was not attributable to the contractor; third, the claimant’s status as an established contractor; and fourth, credible evidence to substantiate the claim of loss of profitability.

In Batliboi Environmental Engineers Ltd. v. Hindustan Petroleum Corporation Limited, the Supreme Court held that to succeed in a claim for loss of profit and for overheads, the builder/ contractor has to prove that there was other work available which he would have secured if not for the delay, by producing invitations to tender which were declined, or through books of accounts to demonstrate a drop in turnover and that this is the result from the particular delay rather than extraneous causes (such as no change in the market thereafter affecting the profitability of the work).

The decisions in Unibros and the Batliboi Engineers have been reaffirmed and relied upon in catena of judgments, including Union of India v. Santosh Dodrajka, MBL Infrastructures Ltd. v. DMRC, Deoraj Singh v. Central Coalfield Ltd., Damodar Valley Corpn. v. Reliance Infrastructure Ltd. and Executive Engineer, Water Ways Division v. Modi Project Ltd. wherein the Courts have upheld or rejected the claims depending upon production of acceptable and sufficient evidence for delay and loss.

From judicial precedents, a clear pattern emerges, i.e., the claimant must provide credible evidence substantiating actual losses for unabsorbed overheads and lost profits. Arbitral Tribunals are required to examine such evidence, but where such an evidentiary threshold is not met and yet these claims are awarded, a court under Section 34 of the Act may set aside the award.

About the authors: Aditya Ganju is a Partner and Vatsal Agrawal is an Associate at AG Chambers.

Disclaimer: The opinions expressed in this article are those of the author(s). The opinions presented do not necessarily reflect the views of Bar & Bench.

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