The Role of Modern Contracting Methods in Support of Chile’s Energy Transition

Overview

Over three-quarters of greenhouse gas emissions in Chile are attributed to the energy sector. Chile has embarked on an ambitious journey towards energy transition, highlighted by its commitment to combat climate change and promote sustainable growth.

After recognising the crucial role of the energy industry in environmental sustainability, Chile is pushing towards a greener energy matrix, by means of robust regulatory reforms and significant infrastructural upgrades. At the centre of these infrastructural upgrades is the construction of new energy sources and the expansion of the transmission grid.

Transmission as a sustainability pillar

Chile's approach integrates a comprehensive institutional framework to achieve greenhouse gas emission neutrality by 2050. Key areas identified for improvement include:

• renewable and clean electrical generation;
• electromobility enhancements;
• energy efficiency initiatives; and
• the development of green hydrogen technologies.

These goals require important modifications across various sectors, with a special focus on the expansion of the transmission grid to support a renewable energy-led infrastructure.

Significant regulatory changes have been implemented over the past decade, with the most crucial updates enacted through the 2016 Transmission Law (Law No 20.936). This law revised the General Law of Electrical Services to promote increased competition and support the growth of renewable energy, marking a pivotal shift in how electrical transmission is managed and expanded.

Current challenges to transmission line expansion projects

As Chile continues to navigate the complexities of its energy transition, legislative advancements play a crucial role. The Chilean Congress is currently debating the Energy Transition Bill which is aimed at further refining the regulatory landscape to facilitate smoother and more effective infrastructural developments. The bill proposes:

• more precise accountability mechanisms for project bidding and execution;
• revised investment valuation processes to adapt to real-time financial dynamics during project implementation; and
• enhanced roles and responsibilities for private owners and operators in managing tender processes and project executions.

The legislative process of the Energy Transition Bill begins with its first constitutional procedure in the Senate, where it undergoes debate and voting. If passed, the bill progresses to the Chamber of Deputies for further consideration. This procedural path ensures that the bill is scrutinised at every stage, allowing for modifications that align with the evolving needs of the energy sector and the interests of a variety of stakeholders.

Under the current legislation, the tender and contracting process for the transmission lines expansion works is solely led by a government authority called the National Grid Co-ordinator, which oversees the development of the design studies and drafting of the bidding documents for each project. Rather paradoxically, despite aiming to achieve more transparent and cost-efficient projects, the National Grid Co-ordinator has historically drafted very stringent EPC contracts, creating the following obstacles:

• high costs associated with expansion bids, often significantly exceeding reference prices;
• the frequent occurrence of deserted tender calls, indicating potential inefficiencies or a lack of attractiveness of the projects; and
• delays and conflicts in the execution of awarded expansion projects.

These issues highlight the complexities involved in upgrading Chile's transmission infrastructure – a critical element in the nation’s decarbonisation strategy.

Under the new legislation, the role of the National Grid Co-ordinator would be limited to reviewing the terms of the tenders prepared by the owners, requesting any necessary changes, and overseeing free competition during the bidding process.

The bill also introduces a mechanism to review the contract price for which the expansion work was awarded, but only if if there have been substantial changes that are not attributable to the contractor.

The inclusion of transitional rules for existing expansion projects underscores the bill’s comprehensive approach to addressing ongoing challenges with the bidding and construction of these kinds of projects.

By changing the approach from public to private and from traditional to more modern delivery models, the bill facilitates the implementation of modern contracting methods, such as alliancing and collaborative delivery models.

Collaborative contracting models for transmission line expansion projects

Collaborative models seek to align the interests of all project participants, to encourage them to work together for the benefit of the project. This is in stark contrast to traditional contracting models, under which project participants tend to prioritise their own interests over and above those of the project and/or others.

There are many different collaborative models, which incorporate key principles associated with collaborative contracting to different degrees.

There are no fixed definitions of the terms “collaborative contract”, “partnering contract” and “alliancing contract”, and these terms can be used interchangeably, with different people using the terms differently. For the purposes of this article, however, partnering contracts tend to be based on standard form contracts that incorporate collaborative elements but where each partner retains its independence and may individually incur benefits or losses. In contrast, alliancing contracts tend to require higher degrees of collaboration and risk sharing, with the intention being that all parties forming part of the alliance jointly share the risks and rewards.

Collaborative contracts can be either bilateral or multi-party. Multi-party contracts tend only to be used where a high degree of collaboration and risk-sharing is required amongst several partners, and they are therefore typically more often seen in alliancing arrangements.

The agreements that underpin these different arrangements take a variety of different forms; some are based largely on standard form contracts, with others operating under much more bespoke contractual frameworks. Collaborative contracts tend to include a range of mechanisms, tools and procedures aimed at driving collaborative behaviours in all project participants for the benefit of the project, including:

• express contractual obligations to co-operate and act in good faith;
• early warning mechanisms to promote proactive project and risk management, encouraging contemporaneous information sharing amongst project participants with a view to working collaboratively to mitigate and find solutions to issues that arise during construction;
• appropriate governance arrangements to encourage proactive monitoring of progress and joint decision making, and “real time” resolution of claims as they arise;
• requirements to re-locate teams to promote team members working as one team;
• payment mechanisms that operate to motivate and incentivise all project participants to work together for the benefit of the project, and can be linked to the achievement of agreed Key Performance Indicators (KPIs) or go further and impose a pain/gain share mechanism linked to the achievement of cost and/or programme targets – they are more likely to be based on a cost plus profit percentage payment model rather than fixed lump sum; and
• “no fault” clauses whereby project participants mutually release liability for breach of contract/negligence.

Not all collaborative contracts incorporate all these features, and it is important for the parties to choose a contracting model and contract terms that align with the degree of risk sharing and co-operation that they are comfortable with.

The advantages and disadvantages of collaborative contracting will depend on which model is selected, and in particular the degree of collaboration and risk sharing involved. Some of the potential benefits of successful collaborative contracting are outlined below, as well as some of the potential risks and disadvantages.

Potential advantages/opportunities of collaborative contracting models

Increased innovation and efficiency

A fairer apportionment of risk and liability, agreement on project objectives, and alignment of commercial interests can motivate (and appropriately incentivise) project participants to work collaboratively and take risks in pursuit of greater efficiency. If doing so benefits the project, it should (in theory) benefit all participants and lead to greater potential for projects to be delivered in line with time, cost and quality objectives.

Increased integration and flexibility and ability to innovate

A multi-disciplinary project team comprising design specialists, contractors and suppliers can work together at an early stage, share information to plan and scope the design and implementation of the works, and identify/resolve potential “buildability” issues, reducing the need for costly and disruptive changes during construction. An integrated project team can also work collaboratively to find design and technical solutions to complex and/or unanticipated issues that arise during the course of the project.

Contemporaneous risk management and governance

Risks can be identified and managed jointly by project participants at an early stage, and appropriate governance arrangements can help project participants to collaboratively make the decisions necessary to mitigate potential time, cost and quality impacts.

Fewer disputes (or disputes that need to be resolved by formal dispute resolution procedures)

There is potential to reduce the legal and administrative project costs associated with disputes through better conflict resolution and dispute avoidance procedures that seek to resolve differences in a non-adversarial manner as and when they arise and before they become disputes (eg, dispute board), and/or more limited rights to bring claims against other project participants (eg, a mutual waiver of contractual rights, or project insurance and agreements to share uninsured risks).

Potential disadvantages/risks of collaborative contracting models

More limited control

Collaborative models require owners to relinquish control of the project and to share decision-making powers with other project participants.

Increased administrative burden

Compared with traditional contracting models, the successful implementation of a collaborative model requires a much more significant investment of time, costs and resources into the joint administration of the contract throughout its lifespan to ensure that the project/risk management and decision-making mechanisms, processes and procedures associated with the model are properly implemented.

Impact of organisational/market instability

All participants must embrace and maintain a collaborative approach at all levels (including up to senior management). The success of longer-term collaborative arrangements can therefore be undermined by organisational changes (eg, replacement of senior personnel) and/or economic shocks (eg, recession) that cause participants to abandon collaborative principles in favour of a more adversarial approach.

Limited recourse against non-performing parties

A model under which participants have more limited contractual rights to bring claims against others can be problematic (eg, under a model where project participants mutually release liability to each other, they may have limited recourse against a participant who fails to perform in accordance with the contract, unless such failure amounts to wilful misconduct or fraud).

Project insurance

Traditional insurance policies may not be compatible with collaborative models where participants agree to limit their legal recourse against one another, as this limits insurers’ prospects of pursuing subrogated recovery actions. Bespoke project insurance products designed specifically for collaborative contracting models are therefore required and can be more expensive.

What makes a contract “collaborative”?

An issue that should be highlighted is that in collaborative contracts it is not simply a question of adapting traditional contractual forms and inserting clauses that impose duties of co-operation or acting in good faith, as these duties are already understood to be incorporated into contracts, at least in civil law legal systems like Chile's.

A contract must involve a structure of shared governance and distribution of risks (costs and profits) that differs from the traditional model in order to be considered collaborative. The design takes place by involving all relevant parties (eg, engineer, builder and principal) at an early stage of the project.

Likewise, the remuneration obtained by the participants in a collaborative contract is linked to the achievement of the project's objectives. Although the formulations vary, usually all or part of the profits of the participants are related to a risk pool, from which the profits will be shared (by reason of meeting or exceeding the performance of the project) or that can be used to cushion the cost overruns. The logic applicable is that the benefit of each participant is not a function of the amount of work done or individual productivity but is proportional to the overall success of the project.

That is why, for example, regardless of the many declarations of co-operation, good faith and “friendly” dispute resolution mechanisms that are made in a contract where the price has been agreed as a simple lump sum, said contract can hardly be qualified as “collaborative”.

Key success factors and common pitfalls of collaborative contracting models

In many ways, collaborative contracts are more about the way the parties interact than the detail of the contract terms. A failure to properly understand and/or properly engage with the contractual arrangements underpinning a collaborative model by either the owner or the contractor can undermine the success of the project. If one party attempts to operate the collaborative contract as if it were a traditional contract, or acts in an adversarial way, this will quickly lead to a breakdown of trust in the relationships between the participants, which are so crucial to the success of the model.

Collaborative contracting models tend to be more successful where all parties commit fully to the philosophy of collaborative contracting, embrace the underlying principles and adopt a collaborative mindset. It is important that this is maintained throughout the project. If initial enthusiasm and commitment wane over time, this can lead to a breakdown of trust in the relationships between the project participants and undermine the success of the project.

Collaborative contracts require a great deal of management time and resource throughout their lifetime if they are to succeed, because issues must be tackled as they arise rather than being left to the end of the project. There is a greater chance of success where participants ensure that their project teams are adequately resourced, and suitably experienced, to operate the various contractual mechanisms incorporated into collaborative contracts to help develop and maintain collaborative relationships between them (eg, project and risk management processes, governance procedures and dispute resolution mechanisms).

It is important to agree objectives for the project at the outset that provide for mutually beneficial outcomes for all participants, and that they be quantifiable and measurable to help encourage behaviours consistent with the collaborative model. These should be closely monitored to check they remain relevant to the project and can be an effective means of driving desired behaviours amongst the participants.

It follows, then, that the later in a project’s lifecycle a decision to adopt a collaborative approach is adopted, the less likely it will be to succeed, as it becomes more difficult to agree and implement an incentives regime that will reward the project outcomes that are required and more difficult for the project participants to adopt the collaborative mindset and project management procedures that are needed to make the collaborative approach succeed.

Implications for the future

Through these legislative reforms, the government is driving forward the economic and environmental sustainability of Chile’s energy infrastructure. The ongoing legislative efforts are expected to streamline new contracting methods, such as alliancing and collaborative models, for the transmission line expansion projects. By addressing the technical and financial asymmetries in the traditional delivery systems, these developments are likely to bolster investor confidence by enhancing collaboration and efficiency.

As these reforms take shape, they promise to significantly impact the overall economic viability of the nation’s energy infrastructure, thus accelerating the pace of Chile’s energy transition and ensuring that the country meets its ambitious 2050 goals.