The Challenges of Contractual Management in Projects Financed by Multilateral Banks in Latin America.

In the Latin American region, development projects play a crucial role in driving economic growth, reducing poverty, and improving the quality of life for its inhabitants.

To address the socio-economic and environmental challenges of the region, multilateral banks such as the Inter-American Development Bank (IADB), the Central American Bank for Economic Integration (BCIE), the World Bank (WB), the Development Bank of Latin America (CAF), and the French Development Agency (AFD) play a fundamental role by providing financing and technical assistance for infrastructure, environmental, education, and health projects, among others.

These institutions work closely with governments, private entities, and non-governmental organizations to promote sustainable development and contribute to the well-being of communities in Latin America.

However, despite their commendable efforts, the contractual management and dispute resolution in funded projects still present challenges and risks that must be addressed to ensure the success and effectiveness of these initiatives.

In this article, we will specifically explore some of the main challenges faced in contractual management in projects funded by multilateral banks.

We will delve into the issues that arise when the FIDIC® engineer belongs to the contracting entity, the implications associated with legislative prohibition of variations exceeding 15% in some Latin American countries, the lack of understanding of standardized contracts by the involved parties, and the risks associated with delays, stoppages, and non-completion of funded projects.

Additionally, we acknowledge that the business and collaboration model of these financing organizations prevent them from having a direct role in the contract execution phase, limiting them to providing more general guidelines and managing resource use based on principles of efficiency, transparency, and effectiveness.

Furthermore, we will present the strategies that certain multilateral banks are adopting to strengthen contractual management, recognized as a key element to ensure the success and sustainability of funded projects in the region.

Given that the FIDIC®[1] contract model is most commonly employed in agreements exceeding ten million dollars, the focal point of the issues lies primarily within this contractual modality.

Challenge 1: FIDIC Engineer

In the Latin American region, it is common for the FIDIC® engineer to be an employee of the contracting public entity or an internal department.

This gives rise to several conflicts and inconveniences, particularly when facing pressure from state workers, internal entities, or supervisory authorities.

Consequently, the potential lack of impartiality may impact decision-making and contractual management, leading to mistrust in the process.

Moreover, this lack of objectivity could compromise the quality and fairness of determinations[2], thereby affecting the project's long-term success. Additionally, it may hinder impartial and efficient dispute resolution, prolonging conflicts and resulting in costly litigations.

To address this challenge, institutions are opting to use Dispute Avoidance and Adjudication Boards (DAABs) to promote transparency and impartiality in contractual management.

Challenge 2: Legislative Prohibition of Variations Exceeding 15%

One of the most significant challenges in contractual management of development projects in Latin America lies in complying with national laws limiting budget variations to a maximum of 15%.

This legislative restriction may result in project stoppage or suspension when unforeseen changes require significant budget adjustments.

For instance, in Argentina, legislation restricts budget variations to a maximum of 15%. Such legal constraints hinder the ability to inject additional funds into the project, even when unforeseen circumstances necessitate increased investment to maintain viability and progress.

To overcome this challenge, banks assess the technical necessity and reasonability of variations, which may exceed this percentage, thereby avoiding unnecessary obstacles.

This approach provides greater flexibility and support for efficient project continuation.

Challenge 3: Involvement of the Financing Entity

Financed projects are entirely managed by the contractor and contracted party.

While the financial entities exercise rigorous control and monitoring of project results, it is important to note that this control mainly focuses on executive aspects rather than the contract itself.

The detailed and meticulous supervision is the responsibility of the contracting client.

In the event of contractual responsibility issues, they are resolved exclusively between the contractor and the contracting parties, with the bank, despite its oversight role, unable to directly intervene in contractual matters. Nevertheless, the bank carries out monitoring efforts to ensure adequate problem resolution and contract compliance without exercising direct influence in the process.

As a result, development entities are considering greater involvement during the bidding preparation and contract conditions phases before awarding contracts to include more factors of success in funded projects.

Challenge 4: Unfamiliarity with FIDIC® Contracts by Involved Parties

The lack of understanding of FIDIC® contracts by parties involved in the project may lead to ambiguities, misinterpretations, and possible contractual breaches.

Inadequate management of changes and variations can hinder project adaptability to changing needs and compromise contractual management and project profitability for both parties.

To prevent such issues, multilateral banks are investing in training all involved parties on the terms and conditions of the contract, promoting clarity and transparency in contractual management.

Furthermore, some countries, through their engineering and construction guilds, are increasingly interested in modernizing contractual practices by incorporating international contracts into their modernization agenda.

Challenge 5: Risks of Stoppages, Non-completion, or Arbitration in Funded Projects

The possibility of project stoppages, non-completion, or prolonged arbitration poses risks for financiers.

Instances of judicialization, which fall beyond the control and temporal scope of development credits, are also unwarranted. Additional costs and payment delays can affect project financial liquidity and create uncertainty in return on investment.

Also, stoppages, non-completion, or arbitration resolutions can affect the financier's image and reputation as a reliable partner in future projects.

To address these challenges, banks emphasize proper contract management and strongly promote the implementation of preventive measures and effective conflict resolution mechanisms such as DAABs or the intervention of adjudicators to minimize risks of stoppages and arbitration, ensuring the viability and success of funded projects.

Conclusion

In Latin America, projects sponsored by multilateral banks are crucial in driving economic growth, poverty reduction, and improved quality of life.

Despite contractual management and dispute resolution challenges in funded projects, success and effectiveness can be ensured.

Challenges such as FIDIC engineer from the contracting entity, legislative prohibition of variations exceeding 15% in some Latin American countries, unfamiliarity with FIDIC® contracts, and risks associated with delays and stoppages are being actively addressed.

Multilateral banks emphasize that beneficiaries draft increasingly clear and effective contracts for each public work they finance, enabling better project infrastructure delivery.

Active collaboration from the financing entity during project and construction design, along with training to comprehend FIDIC® or other international contracts used in projects, is essential.

Additionally, amid a growing litigious and controversial environment due to disruptions in international supply chains, the post-effects of COVID-19, and economic and macro fiscal fluctuations, contracts must have effective contract management and dispute resolution mechanisms available in a timely manner. Dispute Boards that offer preventive measures and conflict resolution mechanisms to minimize stoppage and arbitration risks are vital factors in the success of funded projects in the region.

It is expected that development banks will continue to support countries in designing contracts with these essential characteristics for modern, resilient infrastructure that demonstrates value for money and meets citizen expectations and to help achieve this purpose contract management is a proven fundamental tool.