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International Arbitration in 2022

Construction arbitration in the face of energy transition and climate change

Trend 1 outlined some of the key developments that have accelerated the pace of global energy transition, notably the commitments made at COP26, the groundbreaking decision in the Shell case by the Hague District Court and the European Commission’s “Fit for 55%” legislative package.

In this trend, we evaluate the likely impact of the proliferation of planned renewable and low carbon energy projects on construction arbitration and consider the related risks of increasingly extreme weather events on ongoing major projects.

Energy transition - new project risks

The size, scope and ambition of renewable and low-carbon projects are on the increase. Rapidly developing new technology, new entrants to the market and developing government policies (such as subsidies) will create new risk profiles for ‘green’ energy projects across the globe. We anticipate that this will translate into a rise in new, novel and ultimately high-stakes disputes being taken to arbitration as these projects progress from planning through to construction and operation. The key reasons for this include:

  • Reliance on new technology: many (but not all) energy transition projects rely on relatively new technology. Even tried-and-tested technology such as solar and wind continues to evolve – think molten salt solar and floating offshore wind. Where novel technology fails to operate as intended, or is more expensive or complex to construct, there may be serious consequences for all project participants. Delays to completion, failure to achieve commissioning standards or, ultimately, lower than anticipated output may lead to complex and high-value claims. This may be particularly acute against a backdrop of time-limited State subsidies or finance commitments. Moreover, new technology can also take longer to achieve regulatory and planning approvals if it is necessary to prove the safety case and/or the regulator is unfamiliar with the technology, a common issue in recent nuclear new-build projects.
  • Lack of developed industry standards may lead to warranty or fitness for purpose claims against contractors. Even where specifications are available, issues can arise – in the widely reported UK Supreme Court case of MT Højgaard v E.On [2017] UKSC 59, the foundations for an offshore wind farm failed less than a year after completion even though the contractor had complied with the relevant industry specification.
  • Lack of industry standard forms or settled interpretation of existing standard forms, such as FIDIC in the context of new project structures (with different risk interfaces to traditional energy projects), may result in a greater number of claims where the parties differ in their understanding of their contractual rights in relation to a novel project. A common feature of many energy transition projects is that the owner takes on interface risk, largely due to the uncertainties involved. Uncertainties can be difficult to manage and price, and the potential for disputes arising is increased, especially where novel scope is undertaken on a fixed-price or EPC basis.

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Energy transition – arbitration procedure

Arbitration is likely to continue to be the preferred method of dispute resolution for large-scale energy projects, particularly where parties from across the globe are involved. In 2019, the ICC Commission on Arbitration and ADR and the ICC Commission on Environment and Energy issued a joint report on the “Arbitration of Climate Change Related Disputes”, outlining the benefits of arbitration in resolving disputes arising out of existing traditional, energy projects as a result of climate change regulation and a changing market towards renewables and low-carbon, and those arising out of the challenges and complexities of new projects themselves.  Among the top benefits were access to arbitrators with appropriate climate change-related expertise, availability of expedited procedures, the ability to join parties or consolidate multiple arbitral proceedings and enforceability of awards.

Time will tell whether any arbitral institutions go further to position themselves as being particularly suited to resolving disputes arising from energy transition projects, as we have seen the ICC, HKIAC and others do in respect of Belt and Road disputes, but we anticipate some market pressure to do so.

For example, there is likely to be a desire for an expedited arbitration procedure to obtain a final and binding award on a technical issue, especially where there are multiple identical assets being constructed (eg wind turbines or solar panels.) This might enable the parties to move on with the project with the certainty and enforceability of an arbitral award and thus without the uncertainty of a critical decision being re-opened at a later stage when it is very difficult or expensive to carry out remedial works.

More broadly, the need to commence operation of assets on time to ensure financial viability is particularly acute for renewables projects. We anticipate that owners/ operators will increasingly focus on means to avoid lengthy delays caused by disputes on live projects.

Well-established mechanisms, including expert determination and dispute boards may assist, but expedited or fast-track arbitration is likely to become increasingly important, whether to resolve a technical point or more broadly to ensure continued progress.

Finally, we expect to see the continued growth of investor-State arbitration if States resile from the subsidies and incentives to invest in green energy projects made as part of wider commitments to net zero and emissions targets.

Delay, disruption, defects and disputes – all are set to be on the rise as significant investment pours in and construction gets under way on new renewables and low-carbon projects across the globe. For many, these projects mark a journey into uncharted waters as new technologies are developed at pace, new regulatory frameworks are set and the ability of familiar contractual mechanisms to manage project risks is tested. The certainty: international arbitration will no doubt be the go-to for dispute resolution over the coming years.

Samantha Lord Hill
Counsel,
Dubai

Extreme weather

Turning to the current effects of climate change, extreme weather events have the potential to significantly delay and/or disrupt existing construction projects and will test the resilience of assets like never before. This will in turn test the contractual risk allocation, in particular whether such events were foreseeable.

Examples of delay or disruption events include extreme temperatures reducing working hours, strong winds disrupting power supplies, or flooding delaying the transportation of materials. Construction contracts normally set out who is to bear the risk of extreme weather events - for example, whether the contractor is entitled to an extension of time. However, it is not always clear what actually constitutes a qualifying weather event under a given contract (even where a standard form contract is used), and it could fall to a tribunal to determine this crucial point.

Many contracts include a requirement that the weather event must have been unforeseeable. However, climate change might pose some difficulties here: (i) the threshold of what is unforeseeable will shift (and in some regions has already shifted) as extreme weather events become more commonplace; and (ii) some contracts assess foreseeability by reference to historical data, assuming weather patterns are constant, which is no longer the case.

As for asset resilience, extreme weather events risk causing or worsening defects that might not otherwise have arisen and/or been uncovered. They may also impact the operability of assets and/or reduce expected outputs, thereby impacting the ability of the owner to recover capital expenditure costs.

Such outcomes are likely to result in an increase in claims being brought against contractors and construction professionals relating to the design parameters and tolerances. We may also witness more claims based on alleged negligence or breach of the standard of care, for failing to account for the effects of climate change in design and construction.