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Managing construction risks in Asia-Pacific
Malaysia
Insight

Managing construction risks in Asia-Pacific: Malaysia

With its strategic location and significant natural resources, Malaysia is an internationally recognized investment-friendly jurisdiction with a significant construction industry. Malaysian law offers procedural safeguards and mechanisms for dispute resolution to facilitate, for example, regular and timely payment under construction contracts.

Its strategic location in the heart of Southeast Asia, coupled with its significant natural resources, makes Malaysia an attractive business environment. Indeed, Malaysia is internationally recognized as an investment-friendly destination.

Malaysia is a common law country, with its laws based historically on English law.

Under Malaysian law, a contractor cannot suspend its works even when the employer fails to pay, unless the contract contains that right

 

Are there any restrictions on foreign investment?

Malaysia is generally open to foreign investment, though a number of sectors are subject to foreign ownership restrictions. Such sectors include: financial services; insurance and Islamic insurance; oil & gas; communications and media; and professional services. A separate set of regulations is also imposed in certain industries (e.g., distribution and wholesale trade) to require a minimum ownership by ethnic Malays or bumiputera.

Ownership restrictions impose a 70 percent limit for foreign ownership, for example, for insurance companies.

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Foreign ownership of companies in certain industry sectors could be limited to 70%​​​​​​

 

Is your contract enforceable under Malaysian law?

Contracts are broadly enforceable under Malaysian law, and there are few form requirements.

It is good practice for parties to record their bargain in writing. While an oral contract would remain legally valid and enforceable under Malaysian law, in the case of default or disagreement, an aggrieved party under an oral contract will not have access to the statutory processes afforded under the Construction Industry Payment and Adjudication Act (CIPA Act). The CIPA Act is beneficial because it provides procedural safeguards and a mechanism for speedy dispute resolution through adjudication to facilitate regular and timely payment under construction contracts.

Parties may choose to use standard-form construction contracts, such as those published by the International Federation of Consulting Engineers (FIDIC), Pertubuhan Akitek Malaysia (PAM) or the Public Works Department (PWD). The PAM standard form is the de facto standard form for domestic building contracts, while the PWD form is that for domestic infrastructure contracts. A relatively new option is the Asian International Arbitration Centre (AIAC) suite of standard forms broadly based on the PAM form. The FIDIC form is the preferred choice of international contractors. Such standard-form contracts may aid the parties in ensuring effective and efficient contract administration.5

The three key categories of clauses below should be closely considered in construction contracts governed by Malaysian law.

a. Penalty or liquidated damages clause

Until recently, the general view under Malaysian law was that Section 75 of the Contracts Act would render liquidated damages clauses to be penal and therefore invalid. This was based on the idea that an injured party may not recover a fixed sum in a damages clause unless it can prove the actual damages suffered (except where it is difficult to establish the suffered damage or loss).

However, in a recent case,6 the Federal Court held that an injured party will not have to prove actual damage or loss in every case, although such evidence may be useful as a starting point. Instead, "reasonable compensation" as stipulated under Section 75 of the Contracts Act is to be determined through concepts such as "legitimate interest" and "proportionality." Reasonable compensation must also not exceed the amount stated in the contract.

b. Exclusion and limitation of liability clauses

Construction contracts often include exclusion or limitation of liability clauses. Generally, Malaysian courts uphold these clauses, especially in contracts entered between sophisticated parties dealing at arm's length. However, clauses that attempt to carve out from the Court's supervision consumers' right to enforce a contract and exclude all liability would be "patently unfair"7 and ultimately "void to that extent."8 Specifically, clauses that seek to limit the time that a party has to bring a claim may be rendered void by Section 29 of the Contracts Act 1950, as interpreted by the apex court in Malaysia.9

The courts construe exclusion clauses strictly. Courts will not enforce a clause that is so broad as to defeat the purpose or main object of the contract (e.g., excluding liability for a fundamental breach of contract).

c. Conditional payment clauses

Under Section 35 of the CIPA Act, "clauses which obligate conditional payment" are unenforceable under Malaysian law. This limitation is notable, as contracts in the construction industry often use such provisions. For instance, contractors commonly sublet work to subcontractors on a pay-if-paid basis.

Section 35(2) of the CIPA Act defines "conditional payment provisions" to be those that make: (i) the obligation of one party to make payment conditional upon that party receiving payment from a third party; or (ii) the obligation of one party to make payment conditional upon the availability of funds or financing facilities of that party.10 In interpreting Section 35(2) of the CIPA Act, the courts have held that Section 35 is to be given an expansive interpretation and conditional payment is not limited to the two instances provided in Section 35(2) of the CIPA Act.11 Section 35 effectively takes away the right of the paying party to conditional payment upon satisfaction of certain conditions (such as completion of the construction project, or receipt of payment by a third party). Instead, Sections 36(3) and 36(4) provide default payment provisions, which provide that the frequency of progress payment shall be "(a) monthly, for construction work and construction consultancy services; and (b) upon the delivery of supply, for the supply of construction materials, equipment or workers in connection with a construction contract,'12 and that the "due date for payment under subsection (3) is 30 calendar days from the receipt of the invoice.'13

The CIPA Act applies to construction contracts signed after April 15, 2014.14 In 2019, the Federal Court affirmed the Court of Appeal's decision that the CIPA Act, including Section 35, did not apply to a contract entered prior to the CIPA Act's implementation. Thus, conditional payment clauses agreed prior to April 15, 2014 may be valid and enforceable. It has also been held that a conditional payment clause is only void for purposes of adjudication, stating that if Parliament had wanted the prohibition to be of general application, it would have amended the Contract Act, and not restricted the prohibition against conditional payment clauses to statutory adjudication under the CIPA Act.15

US$
36
billion

Demand for construction in Malaysia in 2019

 

How does a contractor secure adequate cash flow in Malaysia?

Various contractual and statutory mechanisms allow a contractor to secure adequate cash flow in Malaysia. The CIPA Act in particular was enacted to deal with payment disputes (critical to contractors' cash flow), through an interim dispute resolution process.

The CIPA Act aims to address the issue of non-payment for work performed within the construction industry. It applies to all construction work, including consultancy agreements, although excluding buildings of fewer than four stories that are occupied by natural persons.16

Under Malaysian law, a contractor cannot suspend its works even when the employer fails to pay, unless the contract contains that right.17 Generally, if a contractor suspends work owing to non-payment, this would constitute a repudiatory breach entitling the employer, in turn, to terminate the contract. Many contracts also expressly disallow suspension for late or non-payment.

Section 29 of the CIPA Act seeks to militate against the harsh effects of a strict application of the common law.

It provides that a party "may suspend performance or reduce the rate of progress of performance of any construction work or…consultancy services" if a contractor has obtained a favorable decision in adjudication, and the owner fails to pay the adjudication amount. The contractor would also be entitled to a fair and reasonable extension of time for the period of the suspension.

This section therefore suggests that if a party wishes to suspend, or reduce the rate of work, they must first pursue an adjudication process under the CIPA Act. This tiered process is thus consistent with the stated objectives of the CIPA Act to streamline the performance of the construction industry, and secure a more efficient and effective process.

 

When does a right to terminate arise from a breach of contract under Malaysian law?

The position in Malaysia mirrors the approach reflected in most common law jurisdictions.

Generally, the right to terminate a contract arises when there has been a fundamental breach.18 Section 40 of the Contracts Act provides that when a party to a contract has refused to its obligations, the other party may terminate unless the reneging party has signified, by words or conduct (including silence), that it wishes to keep the contract going.

Section 54 of the Contracts Act also provides separate grounds for termination. When a contract contains reciprocal promises, and one party to the contract prevents the other from performing those promises, the contract becomes voidable at the option of the aggrieved party. Similarly, Section 56 provides that if time is of the essence and a party promises to perform a certain act by a specified time and fails to do so, the aggrieved party may elect to void the contract.

 

When might the parties' obligations be amended, or performance excused, due to unforeseen circumstances?

While Malaysian law does not have a generally recognized concept of force majeure, it allows parties to agree on the legal consequences of force majeure events or circumstances. Parties may freely agree which circumstances will qualify as to frustrate performance of the contract.

Separately, Section 57 of the Contracts Act provides that a contract is rendered void if some event "which the promisor could not prevent" makes performance of the contract impossible or unlawful.19 Case law suggests that "impossibility" includes circumstances in which performance of the contract is radically different from what was originally agreed between the parties.20

When an agreement is rendered void, any person who has received any advantage must restore the status quo, or compensate the person from whom benefit was (wrongly) received.21 A contractor must also be aware that if it fails to conduct reasonable due diligence —which might have made it aware that the promised act was either unlawful or impossible—it must make compensation to the promisee (i.e., the employer) for any loss that the promisee sustained following non-performance.22

 

How can disputes under construction contracts be resolved?

The CIPA Act aims to provide an efficient and expedient dispute resolution processes. Under Section 37(1), a party may commence adjudication, arbitration or litigation concurrently. It is uncertain, however, whether this position would still apply if the contract contained specific clauses that barred concurrent actions. Arguably it would apply, as the courts have held that the parties cannot contract out of the CIPA Act23 and that the provisions of the CIPA Act would trump contractual provisions.24 Due to the complexities involved with resolving a dispute once it arises, parties would do well to provide advance consent to clearly drafted dispute resolution mechanisms.

  • Litigation: One option is for the dispute to be resolved through litigation before specialized courts in the Kuala Lumpur High Court and Shah Alam High Court (in the state of Selangor). These courts have jurisdiction over: building, engineering and other construction disputes; claims by or against engineers, architects, surveyors, accountants and other specialist consultants; claims by or against local authorities in connection with their statutory duties in relation to land development and building construction; and arbitration-related proceedings, including challenges against arbitral awards25
  • Statutory adjudication: Under the CIPA Act, statutory adjudication is temporarily binding in nature. Section 37(3) allows for a party to refer its dispute to both arbitral and adjudication processes. However, parties who desire a final and binding process that is both fast and effective ought to consider arbitration
  • Arbitration: This is the preferred forum of dispute resolution. It is defined by efficient procedures, confidentiality (often desirable in large-scale construction projects) and certified qualified adjudicators. The Asian International Arbitration Centre (AIAC) is Malaysia's hub for alternate dispute resolution. It provides for a "Fast Track"26 arbitration process that allows for "summary" or "documents-only" hearings. Substantive oral hearings must be completed within 160 days from commencement,27 and a documents-only proceeding must be completed within 90 days.28 The arbitrator's fee and administrative charges are fixed in accordance with a pre-established scale. Malaysian parties are not limited to choosing the AIAC as the applicable arbitral institute. For example, parties to a Malaysian contract frequently choose the rules of the Singapore International Arbitration Centre (SIAC) or the Hong Kong International Arbitration Centre (HKIAC).

 

1 World Bank, https://data.worldbank.org/indicator/SP.POP.TOTL?locations=MY.
2 World Bank, https://data.worldbank.org/indicator/NY.GDP.MKTP.CD?locations=MY.
3 World Bank, '4.2 World Development Indicators: Structure of Output' (2019) available at: http://wdi.worldbank.org/table/4.2.
4 https://www.statista.com/statistics/665028/value-of-construction-work-malaysia/.
5 Zarabizan bin Zakaria, Syuhaida binti Ismail and Aminah binti Md Yusof, 'An Overview of Comparison between Construction Contracts in Malaysia: The Roles and Responsibilities of Contract Administrator in Achieving Final Account Closing Success', See http://www.inase.org/library/2013/rhodes/bypaper/EET/EET-02.pdf.
6 Cubic Electronics Sdn Bhd v Mars Telecommunications Sdn Bhd [2018] MLJU 1935.
7 CIMB Bank Berhad v Anthony Lawrence Bourke & Anor [2018] 1 LNS 1887, [2019] 2 CLJ 1.
8 Contracts Act, section 29.
9 New Zealand Insurance Co Ltd v Ong Choon Lin (t/a Syarikat Federal Motor Trading) [1992] 1 MLJ 185.
10 CIPA Act, section 35(2).
11 Econpile (M) Sdn Bhd v IRDK Ventures Sdn Bhd & Another Case [2017] 7 MLJ 732, which decision was affirmed by the Court of Appeal in [2020] MLJU 939. Note that this decision is subject to the determination of the Federal Court.
12 CIPA Act, section 36(3).
13 CIPA Act, section 36(4).
14 Jack-In-Pile Sdn Bhd v Bauer (Malaysia) Sdn Bhd [2020] 1 MLJ 174.
15 Bond M&E (KL) Sdn Bhd v Isyoda (M) Sdn Bhd (Brampton Holdings Sdn Bhd) [2017] MLJU 376.
16 CIPA Act, section 3 'Non-Application'.
17 Kah Seng Construction Sdn Bhd v Selsin Development Sdn Bhd [1996] MLJU 359.
18 Contracts Act, section 40.
19 Contracts Act, section 57.
20 APT Associates Sdn Bhd v Adnan Ishak & Ors [2016] 4 CLJ 277.
21 Contracts Act, section 66.
22 Contracts Act, section 57(3).
23 MRCB Builders Sdn Bhd v Southern Builders (J) Sdn Bhd [2018] MLJU 1426.
24 Irdk Venture Sdn Bhd v Econpile (M) Sdn Bhd [2020] MLJU 939.
25 Lim Chong Fong, 'Malaysia: Resolution of Construction Industry Disputes: Arbitration, Statutory Adjudication or Litigation in the Construction Court?', 19 February 2016, available at: http://www.mondaq.com/x/467878/Building+Construction/Resolution+Of+Construction+Industry+Disputes+Arbitration+Statutory+Adjudication+Or+Litigation+In+The+Construction+Court.
26 Asian International Arbitration Centre, 'Construction Industry Payment and Adjudication Act 2012', https://www.aiac.world/wp-content/adjudication/CIPAAct-7.pdf p 168.
27 Ibid.
28 Ibid.

 

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The author would like to thank Azman Davidson, Malaysia, for its contributions to this chapter.

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