Engineering, Procurement & Construction Best Practice Guidelines (Version 2.0)

This chapter describes key contractual clauses and contractual concepts which are often seen in the market for a “full-wrap” EPC contract, under which the EPC service provider undertakes to build and deliver the plant in compliance with the agreed time-schedule. The EPC service provider also manages the supply of the necessary equipment, and all the necessary ancillary works and activities. For other approaches such as “split contracts”, see the box on Split EPC contracts.

Under a standard EPC contract, the service provider will typically have to meet a precise deadline to reach the Commercial Operation Date (COD). Setting this deadline right is particularly crucial when the plant is willing to apply for feed-in tariffs (considering that, quite often, this is dependent on reaching COD within a certain date) or has to meet contractual deadlines within the terms of a corporate power purchase agreement (which might result in liquidated damages being payable to the off-takers of the Power Purchase Agreement in case such agreed deadlines are not met).

By executing a full wrap EPC contract, the Owner of a plant aims to reduce the risks derived from hiring several contractors in the construction phase. The Owner of the plant also strengthens their position by creating a single point of liability with the service provider, who will be liable and accountable for the timely and accurate execution of all the construction works carried out on-site, even when executed by sub-contractors (if allowed by the EPC contract). In this respect, all the relevant legal guarantees (e.g., time to complete the works, or performance related guarantees) associated with the execution of construction works will be issued by a sole entity, which will take full responsibility for the EPC contract. This results in one creditworthiness check rather than several and is especially useful when a parent company guarantee is chosen over bank guarantees. 

12.1. Interface between EPC contract and regulatory framework

The EPC service provider’s activities are also defined by the applicable regulatory requirements and permits obtained by the developer.

The construction of a PV plant requires a myriad of permits and approvals from public authorities and other regulated bodies. In this respect, the EPC service provider is responsible for obtaining and maintaining all permits and approvals which are strictly necessary for the construction activity (and if applicable, any short term O&M performed by the EPC), for the project (e.g., filing design amendments or other requests to the competent authority). Project related permits, licences and approvals, e.g. the construction permits (zoning permits, nihil obstat from public authorities, environmental impact assessment decree) are usually procured for the Asset Owner by developers in the pre-construction phase and  the Asset Owner must make sure that such authorisations will remain in full force for the entire EPC contract’s term. The termination of one of them may constitute a termination event under the EPC contract. Even if the plant’s Basic Design is not included under the scope of work of the EPC contract, the EPC service provider is obliged to faithfully comply with it, as it has been validated by the public authorities during the authorisation process. As many European countries’ grid requirements are strictly defined, the contractor has limited flexibility for altering the design and specifics of the PV power plant. Moreover, during the construction phase, the EPC service provider is also responsible for satisfying any conditions, listed under the permits, upon which the entry into the operation of the PV plant is conditional.

An example of the interaction between an EPC service provider and public bodies occurs at the end of the construction phase, when the PV plant is connected to the grid. Here, the EPC service provider is liable to the SPV and the grid operator for respecting the requirements detailed under the grid rules and concerning the technical requirements with which the PV plant must comply (i.e., voltage, reactive power to be injected into the grid).

It is not unusual that the construction of part of the infrastructure network (i.e., the segment that connects the power plant to the primary cabin) is outsourced to the EPC service provider. When this is the case, the service provider must also coordinate activities with the grid operator during the testing process.

12.2. Contractual risk allocation

The EPC contract is one of the most important elements of a solar project and it has a major impact on project financing and bankability. The EPC contract has mandatory principles and contains certain provisions which ensure the bankability of the entire transaction. The presence of these characteristics in the contractual framework makes it possible to carry out a risk allocation (both cost and technical risk allocation) between the EPC service provider(s) and the Asset Owner (or SPV). An appropriate and clear risk allocation, with a single point of reference, are the fundamental expectations of most Lenders. This makes it possible to shift the economic risk related to increasing costs directly onto the Asset Owner. The less well defined the risk allocation of a project is, the more equity support will be demanded from the Asset Owner (investor).

For achieving a balance between the Lenders’ demands, and the Asset Owner’s interests, the key clauses regarding timing, cost and quality of the works should be aligned to market standards bearing in mind that different Lenders often have different requirements. In this regard,  important main drivers are:

• Single point of liability:  The EPC service provider should be the only one responsible for the Engineering, Procurement, Construction and Commissioning of the PV plant. This allows a total shift of the technical risk from the Asset Owner (SPV) towards the EPC service provider who must face any claims that may arise in connection with the construction of the PV Plant, and as such a thorough and detailed description, as exhaustive as possible, in order to avoid ambiguities and potential disputes of the scope of the works is required. This principle is considered a key element as it represents the first tool for the lenders in assessing the creditworthiness of the entire project. However, with regards to the main components the Asset Owner (SPV) may enter into different agreements for the procurement and installation or the EPC service provider might assign all its (warranty) rights regarding the main components directly to the Asset Owner (SPV) to allow direct claims of the Asset Owner towards the component suppliers.
• Fixed price provision excluding or limiting price adjustments: This element prevents small technical variations, or small alterations to the design leading to a revision of the price. It allows Lenders to easily assess and define all the costs in the banking base case and the Asset Owner to transfer most of the construction cost risk¹ to the EPC service provider
• Fixed completion date provision which excludes any request for time extension
• Pre-agreed construction standards and criteria: This requirement assigns the responsibility for achieving minimum standards on parameters like PR and peak power to the EPC service provider. It also makes the EPC Service provider responsible for ensuring compliance with the relevant grid regulatory framework. If a plant fails to meet the minimum guaranteed performance, the Asset Owner is usually granted the right to claim for a pre-defined financial compensation and to request the immediate rectifications of defects and other deficiencies which lead to such underperformance. If such underperformance is not rectified within a reasonable period of time the Asset Owner may have the right to reject the plant and get compensation for the suffered damages. However, performance risk shifting is mitigated through the insertion of a cap on the service provider’s maximum liability for payment of liquidated damages (“performance LDs”)
• Commercial risk shifting (procurement, inventory, and warranty of components): As the EPC service provider is the key point of contact for others involved in the construction phase, it is sometimes seen that they may provide a warranty on quality of electromechanical systems, in addition to the product warranty granted by the relevant component producer under national law
• Issuance of securities: The kind of securities usually provided by the EPC service provider very much depends on its creditworthiness. The securities can take the form of advance payment bonds, performance bonds and warranty bonds, of 5-10 % of the contract price, to be delivered by the EPC service provider to secure the relevant payments of the relevant LDs or the performance of the relevant works

In addition to the points above, the EPC service provider’s duty to rectify the constructed works are not generally included in all EPC contracts but limited to agreements executed to build large-scale plants. As EPC contracts tend to be tailored to the size of the project, often smaller plants are not expected to fulfil the same performance guarantees as bigger projects.

^{1 - It is generally accepted that certain events like force majeure or change in law may trigger a revision of some contractual previsions as the price or the duration or may constitute a termination event.} 

12.3. Price and payment

As for the payment, the EPC contracts typically provide for a payment schedule running in parallel with the construction milestones agreed between the parties.

It is not unusual to have a down-payment of around 10% of the full price, paid upon the execution of the contract (or upon satisfaction of specific conditions required for the contract to take effect). Afterwards, payments tend to be tranches of the full price, paid when relevant milestones have been met. Parties may also agree – in case there is no performance or warranty bond – to postpone the payment of the last 5% of the price until after completion of the works, and the expiry of the warranty period (usually 24 months after the PAC is issued) or until a Warranty Bond is provided by the ECP service provider.

EPC contracts are usually drafted including a fixed price clause which binds the parties to the total price agreed under the contracts. However, occasionally external factors, outside of anyone’s control can have a pronounced effect on a project. In these cases, a flexible approach to allocating responsibility for resolving issues should be taken, with the stakeholder most able to handle the issue taking the lead.

However, parties may negotiate specific cases and scenarios when a change in the price is allowed. In certain cases, the Asset Owner may retain the right to withdraw from the contract.

Events justifying a revision of price are generally limited to unforeseeable changes in conditions such as relevant and applicable changes in legislation, or natural events which make the execution of the works particularly burdensome on the service provider.

Every provision that could have an impact on the fixed price of the contract should always be carefully drafted and evaluated from a bankability perspective. This is because banks prefer stability in the price throughout the entire contract. Therefore, there should only be a very limited set of cases which can ideally be objectively assessed where a price adjustment is justifiable for solid reason or project specifics.

In case of delays in the execution of the works or technical defects in the operation, the Asset Owner may have the right to call for a reduction of the price and, under certain conditions, liquidated damages, provided under the contract.

In case of disputes over the payments, parties shall firstly meet to try and amicably settle the dispute. If a technical issue is the basis for a payment dispute, the parties may agree that a technical third-party – agreed before in the contract negotiations – should make a judgement regarding the technical issue. It should be noted that in the price determination, any review mechanism is generally excluded between the parties. Therefore, even in the event of an increase in the cost of materials, labour, or other unforeseeable factors, the agreed price shall not be subject to any change and no other arrangement in the payment mechanism may be adopted.

12.4. Bonds and guarantees

Depending on the creditworthiness of the EPC service provider, the EPC contract may provide for the issuance of some of the following bonds on the service provider’s side to secure its obligations under the EPC:

• Advance Payment Bond: This is generally issued upon payment of the down-payment or as a condition for making such a payment if required by the Asset Owner. The Advance Payment Bond will usually cover 10-15% of the price

• Performance Bond: This is sometimes required by the Asset Owner and generally issued upon release of the Advance Payment Bond or issued directly upon execution of the EPC contract if no advance payment is provided and there is no issuing of an Advance Payment Bond. The Performance Bond will usually cover 10-15% of the price and will remain in full force until the PAC has been issued and the delivery of the Warranty Bond

• Warranty Bond: This is generally issued upon release of the Performance Bond (if required by the Asset Owner) and issuance of the PAC. The Warranty Bond will usually cover 5% of the price and will remain in full force and effect until the expiry of the 24-month EPC warranty period, usually ended by the FAC being issued

All the guarantees above are typically issued as irrevocable,  autonomous guarantees by a bank, or another acceptable financial institution and/or a parent company of the EPC service provider, each with an appropriate credit ranking. Sometimes banks require that such bonds are exercisable upon first demand.

• Asset Owner’s parent company guarantee: The EPC service provider may ask for the issuance of a guarantee securing all the Owner’s payment obligations throughout the contract. This is usually done through the issuance of a parent company guarantee, provided that such parent company is sufficiently creditworthy. The Asset Owner’s parent company guarantee is generally issued upon execution of the EPC contract and will be in place for the entire duration of the EPC phase, usually covering around 60-80% of the price, depending also on whether or not a down payment is foreseen in the EPC contract.

12.5. Limitation of liability and Liquidated Damages

Under the EPC contract it is common to set general limitations on the liability applying to both parties. The EPC service provider’s liability is usually limited to a range of [●] and [●] % of the total price, with exclusion of any limitation for willful misconduct or gross negligence. 

Liability for indirect damages or losses, and punitive or consequential damages is usually excluded for both parties. Under standard EPC contracts, the service provider also is usually liable for payment of specific LDs or compensations provided to remedy the damages suffered by the Asset Owner for specific violations of the contract.

Standard Liquidated Damages (LDs) are the following:

• Delays Liquidated Damages: These are often calculated on the basis of an agreed formula or as a fixed amount due per each day/week of delay on the deadline set for reaching the COD. The amount should be linked to the potential loss of revenue suffered by the Asset Owner

• Technical Delay Liquidate Damages: These are generally linked to a failure to meet certain technical thresholds for productivity, power curve or PR, agreed between the parties, during the 24-month warranty period

The LDs/compensation aim to reflect the anticipated loss of revenue or increase in operating costs (or both) resulting from failure to achieve the required performance over the life of the project, or in the agreed deadline.

It is worth noting that the EPC contract will state a maximum amount payable as liquidated damages/compensation for each category (which is usually a percentage of the price comprises between 5-15%, that in extraordinary cases may reach even higher amounts for the single category price). Should the agreed cap amount be reached, the Asset Owner should have the option to terminate the contract, after having granted the EPC service provider the right to reasonably increase such specific LD/compensation cap to avoid the termination of the EPC contract and to ask for full repayment of the accrued liquidated damages.

12.6. Termination, withdrawal and force majeure

Termination clauses are very sensitive and are typically negotiated over a long period between the parties. Generally, the EPC service provider has very limited contractual termination rights, which are predominantly linked to failure of payments that are not remedied within the relevant cure period.

If a bank is financing the project, a direct agreement will likely be put in place between the bank, the EPC service provider and the Asset Owner. Under the direct agreement, the EPC service provider’s termination right will be further limited. This is because the EPC service provider will have to inform the bank in advance about its intention to terminate the agreement and the bank will have the right to cure the issue.

At the same time, the Asset Owner will typically have no right to terminate for convenience but the right to terminate the EPC contract for any material failure by the EPC service provider in meeting its obligations including deadlines, payments of liquidated damages and quality standards. Typically, there is a right for the EPC service provider to cure any  breach within a reasonable cure period before the Asset Owner can terminate the EPC agreement.

In case of termination for violations of the relevant obligations, the non-defaulting party will be entitled to claim for damages within the limits set forth under the contract.

Another case that may lead to the termination of an EPC contract is the occurrence of a force majeure event. This can be a natural event (or any other event) which is out of the affected party’s control and has a negative impact on the fulfilment of the affected party’s obligations. The EPC contract generally provides a sample and non-exhaustive list of force majeure events. Each party shall have a duty to mitigate the impacts of force majeure events, to minimise the suspension time and restart the performance of services as quickly as possible. However, if the force majeure clause is triggered, the affected party is exempted from any obligation and liability due to its default for the period during which the force majeure event actually prevents the affected party from fulfilling its contractual obligations. To invoke this mechanism the affected party has to inform the other of the forecasted restart day and the measures to be adopted to preserve the balance of obligations originally set forth under the contract. To protect the interests of each party, both may have the right to terminate the contract should the force majeure last for a period longer than a determined threshold (generally 90 consecutive days or 180 days in aggregate), or it jeopardises the performance of the relevant obligations.

Force majeure clauses have recently taken on particular importance following the outbreak of the COVID-19 pandemic due to its material impact on the execution and performance of services under the contracts. In response to the pandemic, many governments have adopted highly restrictive measures to reduce the spread of the contagion, such as lockdowns which led to partial or full freezing of some industrial activities. National lockdowns made travel for EPC service providers impossible in some countries and their lack of presence on the plant sites completely halted construction works. Due to the wide range of cases, a deeper analysis of a force majeure event’s impact on an EPC contract must be carried out on a case-by-case basis. In fact, a definition of force majeure is missing from European legislation and therefore the direct and indirect effects need further investigations. Fortunately, the energy sector has been considered as essential for national economies, for the most part, and no extreme measures have been directly imposed on the contractors. However, there have been some delays in construction timelines as the contractor’s obligations have been prevented or obstructed by consequential events such as strikes and discontinuation in the supply chain. For the future it should be noted that COVID-19 restrictions cannot be seen, in general, as an unforeseen event and are, therefore, unlikely to fall under force majeure events.      

Another sensitive clause is the right to withdraw an EPC contract. Like termination events, withdrawal events are few and well-defined. They generally occur when a force majeure event lasts more than the agreed maximum period, or one of the parties is subject to insolvency proceedings or other similar procedures (depending on the crisis, these can range from difficulty in meeting obligations to the bankruptcy of the service provider or Owner). Other withdrawal events may occur if a change in the applicable law leads to the introduction of further compliance requirements, or other unforeseeable charges, so burdensome that they affect the contractual relationship. In these cases, the affected party must notify the other party in writing, indicating the date of effective withdrawal, and the description of the withdrawal event. This is to give the other party the necessary time to find a reliable replacement.

12.7. Ownership, expiration of warranties and transfer of risk

The Asset Owner acquires full title of ownership over the components to be installed (except the mounting system, panels, and inverters) usually upon PAC  and full payment of the invoices for such components.

For the main components (PV modules, mounting system, transformers and inverters), the timing of transfer of warranty rights and guarantees against the suppliers is usually the issuance of the PAC, as they must be installed and tested by the EPC service provider, unless the EPC service provider grants an own warranty for the components for an initial warranty period of usually 2 years following PAC. Until the PAC issuance date, the EPC service provider retains full title on the main components by virtue of its role as installer and operator of the plant and until the Asset Owner fully pays the invoices for such components.

As the EPC service provider is the only responsible subject for the operation of the plant until the PAC, they also retain the risk of loss. The Asset Owner can also accept the risk of loss and damage from commissioning of the PV plant onwards, as from that date it gets the revenues of the PV plant and pays the OPEX.

After PAC, the equipment warranties remain with EPC provider until FAC is reached, at which point the warranties are assigned to the Asset Owner. However, it is also seen that module warranties and claims are already assigned to the Asset Owner upon PAC, i.e. the Asset Owner benefits from direct claims against the module supplier/manufacturer instead of  against the EPC service provider.

12.8. Assignment and set-off

In general, the EPC contract should exclude each party from reassigning the contract without the prior consent of the other party. The rationale for this is maintaining the same set up as on the date of execution. This principle is based on the Owner’s interest in having a solid and reliable counterpart for the construction of the plant. The same key concept is the rationale applicable to the limitation of subcontracting. To the extent the EPC contract allows for the services to be subcontracted, the EPC service provider shall remain fully responsible for the services performed by its subcontractors.

Since solar power plants are increasingly financed through non-recourse financing schemes, the EPC service provider cannot set-off its claims and assign its rights against the Asset Owner. On the other hand, the Owner is always entitled to assign the receivables arising from the EPC contract in favour of lenders.