Introduction to Subcontractor Agreements
Subcontractor agreements, sometimes referred to as subcontractor contracts, are key documents in the construction industry that specify a legally binding agreement between a contractor and subcontractor. By laying out all the key points concerning the specific tasks the subcontractor will be handling on the project, subcontractor agreements help establish crystal-clear boundaries that prevent serious legal issues and a major drain on resources from developing on the work site. Additionally, a well-drafted subcontractor agreement is an essential way to protect the original contractor from wrongful actions by the subcontractor, this is because manufacturers can sometimes hold the primary contractor partially liable for work done (or not done) by a third-party subcontractor if issues with the finished construction are discovered after completion of the project.
On a more basic level, subcontractor agreements provide an important means of establishing expectations and accountability among all parties involved . With so many different people working at the same time in such close proximity, any potential for disputes should be identified and settled in advance with as much specificity as possible. The types of issues a subcontractor agreement seeks to address include incomplete, improper or delayed performance of work as well as material or equipment defects, among other concerns.
Under Philippine law, a contractor who subcontracts some or all of his work is liable to the client for the acts and omissions of his subcontractors in the same manner and extent as for his own "acts and omissions" even if prior consent for the subcontracting was given by the client, unless the client assumes full responsibility for the work to subcontracted to such subcontractors. This means a general contractor can be held legally responsible for the actions of any independent contractors under their employment. For this reason, having a well-structured subcontractor agreement is ideal for establishing specifically what each party’s responsibilities will be toward mitigating situations which could lead to significant liability.
Essential Components of a Philippine Subcontractor Agreement
At the very least, an agreement between a contractor and a subcontractor in the Philippines should explicitly establish:
- Scope of Work – This section should outline the specific tasks that the subcontractor is expected to perform. Clarity is vital here, as it helps prevent disputes down the line. It can be a good idea to highlight key performance indicators (PIs), such as deadlines, quality benchmarks, etc.
- Payment Terms – Clearly stating the payment terms, including the scope of work that relates to the payment terms, any milestones linked to payment, methods of payment and possible penalties for late payments.
- Confidentiality – Many contracts contain confidentiality clauses, however, it is a good idea to expand on this by specifying what information or materials must remain confidential. Also, clarify how long the confidentiality clause will remain in effect after the work is completed.
Legal Compliance and Obligations
Under Philippine law, subcontracting is permitted, provided that the terms in the subcontracting agreement are compliant with the Labor Code of the Philippines and other related laws. However, activities that directly or indirectly involve the performance of a job or work that is essential to the business must not be subcontracted.
The Supreme Court has ruled in a number of decisions that when done in circumvention of the law or prohibited by law, a subcontracting arrangement may be declared a sham. This was the case in Tiu v. CA, et al., where a placement agency employed workers to be deployed to a company’s operations. The Court found these workers to be regular employees of the client company as the client company imposed requirements on the employees and treated them such that the client company was the real employer. For instance, the employees were required to wear uniforms and perform their tasks under the direct control and supervision of a plant engineer of the client company. Their day-to-day tasks were even discussed with the client company in meetings. No review of performance and completion of contract of service was undertaken, and the client company provided employees with lodging, food, transportation, equipment, and tools for the furtherance of the subcontracted services.
On the contrary, in Star Paper Corporation v. Director, Department of Labor and Employment (DoLE) (GRs No. 164387-88), the Supreme Court found no employer-employee relationship between the subcontractor and the employees who had been deployed by the service contractor to the principal. The Court held that the contractor had the substantial capital, tools, and resources necessary, and that it had undertaken and rendered appropriate training and supervision to its workers. In their engagements with the clients of the contractor, the employees of the contractor were under the area supervisors of the contractor. The area supervisors performed tasks akin to a foreman. They assign work and monitor the performance of the assigned tasks. The contractor also made hourly cash offers to the principals’ contract workers out of necessity to ensure the accomplishment of a specific task within 24 hours. The Court opined that these company orders were not incidental to the duties of an officemates but were a manifestation of the right to control the contractor and not that of the client principal.
A single employer-employee relationship exists in a contracting arrangement when the principal exercises the right to control the means and manner of doing the employee’s assigned work. On the other hand, where the control of the means and manner of doing the work rests with the contractor or his representative, a joint employer-employees relationship arises. "Joint employer relationship" refers to the simultaneous employment of the worker or employee by two or more employers, whereby each employer controls a certain aspect of the employment.
Ensuring Your Company’s Best Interests
When entering into a subcontractor agreement, it is most important to manage your risks and your liabilities. Confidentiality clauses are one of the top protections for your business interests. They not only protect the confidentiality of your plans, strategies, technologies, customers, suppliers and other trade secrets, but they also give you a strong argument for the protection of your confidential information. We have found that once your names, plans, processes and technologies are put down on paper, they may be easily copied or used without your permission if they are not protected. By having such clauses in your agreements, courts have sided with the party that has protected their interests. Also, it is critical that contracts, licensing agreements and other legal documents are completed and signed. It is not enough to have written contracts with your guidelines, pricing, pay rates, and checking in with client companies every two weeks at the minimum. It is also important to create a paper trail by documenting your communications with your subcontractors by sending them emails and keeping good records of invoices, receipts, bills, expenses, receipts, payments and all correspondence. It is important to note that the party that is going to make the most money from the contract will be deemed the principal and the party that receives the least will be deemed a subcontractor. So, parties under contracts should execute all fundamental and basic contractual requirements. Parties under a contract or agreement must perform their duties according to its terms and conditions. In the Philippines, a contract is a law between the parties. Its terms must not be against public order, morals, goods, people, or the state. The simplest contract is a mutual agreement entered into between two competent parties in order to do or refrain from doing certain services, transactions, or work for valuable consideration and often incorporates boilerplate clauses. The bottom line is to have transparency, be realistic, clear, detailed and specific when it comes to your engagement with your clients and subcontractors. Sign the contract and comply with the terms. Clearly define the scope of work, tasks, layers, and hierarchy of supervision levels and chains of commands. Make changes and revisions only if necessary, by mutual consent between the parties. This is the best way to protect the business interests of your company.
Common Challenges and Resolutions
Despite having a well-written subcontractor agreement, challenges can still arise. Below are some common issues:
Disputes on Scope of Work
If you are working under a fixed price contract in the Philippines, you will want to ensure the subcontractor understands exactly what he is responsible for under the subcontractor agreement. Before entering into an agreement with a subcontractor, make sure the scope of work is clearly defined. This means having every task clearly outlined in the document, along with any applicable time restrictions. If a subcontractor is expected to complete his work by a certain date but fails to do so, this can result in a breach of agreement.
Making Difficulties into Opportunities
When issues do arise, it is best to address the problem directly and diplomatically. If the two parties have a good working relationship , it may be possible to solve the issue amicably. Even if the parties do not necessarily get along, working together to find a solution is nearly always preferable to seeking legal recourse. Going to court or arbitration can be quite expensive, not to mention stressful, so all avenues for solving the issue amicably should be explored first. Having a clear subcontractor agreement in place can help both parties avoid costly litigation.
Compatibility Tests
The contract must be clear and thorough enough to weed out potentially undesirable conditions for both parties. A good way to determine compatibility is to test the waters. This means doing some digging in the form of interviews and referrals to get a better idea of how things might unfold. The compatibility test should include the following steps:
Wherever possible, it is best to get the responses of interested subcontractors in writing.
Tips for Writing Effective Agreements
Importantly, there are some practical tips for drafting effective subcontractor agreements in the Philippines. For example, in the course of entering into the agreement, you should not only consider statutory and any local or industry-specific requirements, but also use language that is clear and unambiguous and that will not be misinterpreted. As discussed further below, one way to achieve this is by seeking legal advice from a qualified practitioner.
Use Clear, Concise Language
Given the commitment involved, even the best laid plans for subcontractor relationships can sometimes go awry. To protect your interests, you need to clearly articulate terms in your subcontractor agreement that are in line with your company’s objectives and well understood by both parties. Both parties need to understand their rights. Therefore, the agreement should use language that makes it clear that performance standards need to be met, and that poor performance is unacceptable and could lead to termination. Whether it’s to incentivize performance, or to avoid future disputes, use easy to read and consistent language.
Seek Legal Advice
Because a subcontractor agreement addresses a complex relationship, it is important to seek legal advice. A qualified practitioner will be able to consider your individual situation and customize the documents that address your needs, and help you in reviewing contractor proposals, especially in case of competitive bidding. In addition, considering the rapidly changing legal environment and increasing burden on employers, it is highly recommended that employers and contractors seek advice from legal professionals in the drafting process or in case of a dispute.
Real Life Examples: Successful Subcontractor Agreements
To round up my discussion on best practices for creating a successful subcontractor agreement, I thought I would share some case studies;
Case Study 1: Successful Marketing Collaboration
Company A in Makati City, Philippines, is an international business consulting firm specializing in Philippines Business registrations and licenses. Out of the kindness of his heart, one of Company A’s partners started a related feasibility study company in Cebu City, Philippines. The larger company set up a contract wherein the smaller Cebu City company is the primary authority on all feasibility studies and they turn to the larger company for input when necessary. The larger company provides a base salary for two of its employees who work full-time on feasibility studies for the smaller company, and they also pay for all travel expenses incurred by their employees when they have to go to Cebu for work. In addition, the smaller company sends business to the larger company on a regular basis. Due to this relationship, the larger company has a viable office in Cebu City at about half the overhead. The smaller company benefits from the larger company’s high reputation with clients in an industry with low margins.
Case Study 2: Long-term Manufacturing Relationship
Companies B and C in Manila, Philippines , are two of the oldest and largest manufacturing firms in the region; both firms came into existence over a century ago. Both firms have been in business since before World War II and have been involved in the government’s "Big-Brothers" program where Big-Brother companies can put smaller companies in place as long-term strategic partners to supply them with materials or equipment. Company B builds and designs heavy machinery and equipment while Company C is a manufacturer of pressure vessels. Each company has a few suppliers, but most importantly, each has a strategic partnership with the other. They are involved in one of the longest relationships on record in the Philippines with each company’s survival depending heavily on their partnership.
Case Study 3: A Working Subcontractor Agreement
A Manila, Philippines-based telecommunications company uses a Cebu City, Philippines, based subcontractor to provide all maintenance and upgrade crews. The terms of the subcontractor agreement used by the Manila company generally provides for the subcontractor to provide at least two or more crews on a regular basis. The subcontractor is compensated on a per man per day basis after submitting bi-monthly invoices to the Manila company. All per diem allowances and travel expenses are paid upon submission of receipts. The relationship has worked satisfactorily for over three years and has been profitable for both parties.
In general, strong relationships between general contractors and subcontractors result in more quality work and a stronger capacity to take on ever larger jobs. It is usually wise to put a written subcontractor agreement in place outlining the roles, rights, and obligations of each party.