By: N/A
Published: 18/07/2012
The key to putting together a solid project with good prospects of success in the current environment is to thoroughly prepare in advance, understand what the risks to the project might be, and take a practical approach to allocating those risks across the parties involved.

Scope of Work
In the post-earthquake environment it is more important than ever to make sure building owners fully understand the scope of works that will be required before any building contract is signed.

Preliminary assessments required may include the following - all of these issues are interlinked:

Surveying - to check:
  • Boundaries and building location - for district or city plan requirements.   This is especially important if existing use rights are to be relied on.
  • Ground levels for building requirements for flood prone areas.
Geotechnical input about:
  • Whether the site is suitable at all.
  • Whether land remediation may be necessary before any building starts.
  • This interlinks with CERA land zoning.
  • Foundation design requirements.
  • Building code compliance.
Engineering and Architectural input for structural design:
  • This interlinks with geotechnical and surveying information.
  • Important for assessing Building Code requirements.
  • Important for establishing scope of work required for definition in the building contract and for costing.
Legal 
  • RMA issues, in particular, relating to the whether the rules in the city plan will be met or whether resource consents will be required.
  • Existing Use Rights
    • This issue is important if a building is to be rebuilt on an existing site without the need for resource consent where the building would otherwise not meet the current plan rules.   The key tests are:
  • Can it be shown that the activity was lawfully originally established?
  • Will the replacement building be of the same or similar character, intensity and scale of building / activity?
  • Has the activity been discontinued for more than 12 months?
 Insurance
  • Will insurance be available for the construction phase and the finished building?
Finance

All of these issues will impact on:
  • The cost of the building project and the time frames required.
  • Whether the building will be marketable for tenants and for future sale.
  • Whether the project is commercial viable.
What elements of the above information will a financier need certainty about before making funding available for a construction project?
 
THE CONTRACTS
Consultants' Contracts
Contracts for services to acquire all of the above information will be required. Be aware that most consultants will attempt to offer standard terms of engagement.
Care needs to be taken to ensure:
  • The scope of services for each discipline is clear and interrelates with the work being done by others.
  • Be wary of gaps in complete information being created by the scope of services being too limited.
  • For example; just because the surveyor may have been asked to measure the building site and ground levels, don't assume the surveyor will assess existing use rights or as-built floor levels unless that is within the scope of their engagement.
  • Good prior planning of the information required is important.
  • Consultants are extremely wary of exposure to liability in the present environment and will therefore seek to limit the scope of their engagement and qualify their advice unless the requirements are very clear from the outset.
  • Be aware of reports which footnote that further investigation "may be required for certain conditions" or that assumptions have been made in formulating the report if that leaves you without a complete picture of what will be required to complete the build.
  • Specifically consider and negotiate the level of insurance the consultant will carry and what limitations of liability they will seek.  Many consultants will try to limit their liability right down to as low as the value of their fees.  This may be out of all proportion to the consequences of relying on their advice.  Be very aware that risk will fall on the building owner if not assumed by the consultant providing the advice.  Can the owner afford to take on that risk, is it insurable, does the risk affect whether the project is viable?
  • Be wary of other exclusions or modification of liability within consultants' standard terms.  For example, the standard NZIA contracts attempt to require the owner to indemnify the architect from claims that may be made against the architect by future owners of the property.  This is an attempt to modify the designer’s responsibility to future owners under the Building Act 2004.  The clause is not drafted as an exclusion of liability, which would not be permitted under the Act, but as an indemnity for liability that may be incurred by the architect. 
  • Also be wary of the limitation periods written into most consultants’ contracts.  They are usually for periods that are much shorter than the long stop provisions in the Building Act.
 
The Building Contract
All of the information above will feed into the development of the scope of works which is a crucial part of the building contract.

The more preliminary work that is done in advance means more accuracy can be achieved for pricing and scheduling the building project.
 
Pricing

Options range from:
  • Lump sum contract with tightly controlled variations - this requires good definition of the scope of work and engineering and geotechnical conditions.
to
  • Cost reimbursement contracts - essentially the lowest level of cost control.

Key decisions about how the contract will be priced and therefore the level of certainty the owner will have about cost are now more acute than ever.
 
Variations
One of the greatest risks of not having a detailed scope of work signed off prior to the commencement of the building contract relates to the potential for variations to be required once the contract is concluded.

We have already started to see horror stories where there have been physical discoveries of significant land stability issues after contracts have been signed and work has commenced.  Those discoveries have meant that the scope of the foundation designs included in the contracts have proved to be inadequate for the actual ground conditions. That has led to significant delays where further geotechnical work has been required and foundations redesigned.  That in turn has led to significant cost increases and uncertainty over allocation of those costs between the participants.

In addition to focusing attention on pre contract planning, these issues also highlight the need to have a thorough understanding of the provisions of the building contract being used relating to the following:
  • What will amount to a variation requiring an increase in cost and extension of time?
  • What circumstances requiring additional work are, on the other hand, simply parts of the contractor’s risk forming part of the contractor’s obligation to complete the project?
    • In this regard, note that many standard building contacts treat the discovery of unforeseen ground conditions that could not reasonably have been foreseen by an experienced contractor as giving rise to variations at the cost of the owner. In the current environment it is hard to define what ground conditions may be unforeseeable and what may now part of what can be expected.  Specific consideration therefore needs to be given to defining when conditions will give rise to additional costs.
  • When variations can be required and who can require them?
  • In what circumstances can the contract be suspended to allow further investigations and design to be carried out?
  • What costs will be incurred while the operation of the contract is suspended?
  • In what circumstances can the contract be abandoned altogether and what costs will be payable if that occurs?
 
Risk allocation
At its most basic, a building contract obliges a builder to complete the building work specified in the contract.  Without any other provisions, the builder would take on the risk of things happening to the uncompleted works before completion and would simply have to keep going until the job was completed. 

The building contract therefore needs to allocate risks and costs relating to those risks in a commercially sensible way that allows the job to get done.
If a contract doesn’t have a developed set of rules to allocate risk, then generally the contractors' only way to be excused from the obligation to complete arises in the extreme case of things changing to such an extent that the contract could be said to be frustrated. 

Frustration requires a fundamental change in circumstances which have not been dealt with in the contract that change the whole nature of the contractual obligations.  If those circumstances occur, the contract can be brought to an end.  The circumstances that might cause a contract to be frustrated are hard to define in advance.  In addition, it is hard to predict what a builder might get paid for and what the building owner might get left with. 
It is therefore worth thinking about the following issues and working with the participants to allocate who will take on what risk and how the costs of that risk will be shared. 

Points to consider include:
  • What type of risks and events that might cause damage to the work and materials on site is the builder responsible for during the building period?
  • Conversely, what risks will be excluded from the builder's responsibility and will be borne by the owner?
  • How will risk of damage from earthquakes, floods or other natural events be dealt with?
  • What insurance is available for damage during the building period?  What is its cost, what is excluded and what will the excess be?  It is crucial to understand these issues before finalising the allocation of risk between the parties and before starting work.
  • If the building work is damaged during the building period, what will that do to the time frame for completion of the project?  Will that mean the project may have to be suspended?  How should that be managed and who will bear cost associated with downtime and delayed finishing dates?
  • How will additional costs of putting right damage or, in a worst case scenario, starting a project all over again be quantified?
  • What situations might bring the project to an end?  In those cases how should the builder be paid for work they have done?
  • What other third parties might be affected by damage to the contract works, especially if that causes delays or increases in cost?
The key to putting together a solid project with good prospects of success in the current environment is to thoroughly prepare in advance, understand what the risks to the project might be and take a practical approach to allocating those risks across the parties involved. 
 
It is worth noting that several standard form building contracts including NZS3910 allocate to the building owner the cost of risks arising from "any such operation of the forces of nature as an experienced contractor could not foresee or reasonably make provision for, or insure against". 
 

In the current environment the clause is uncertain because it is not clear whether it includes earthquakes. This point should be clarified in any new building contract.  In many cases builders are specifically excluding the risk of damage or delay from earthquakes from their responsibility.

In addition the builder may not be able to obtain contract works insurance that includes earthquake damage. If that is the case under the standard NZS3910 clause the risk of damage or delay from earthquakes also falls back on the building owner.

It is therefore important that risk of loss or damage arising from natural disaster is clearly identified and allocated and matched to the insurance available.     

At the end of the day, allocating risk of damage and delay to a building project is a commercial exercise that takes into account factors including the commercial strength and financial ability of each party to cope with suffering financial loss, the ability of the parties to obtain insurance, other commercial pressures such as the need to have a project completed within a particular timeframe, and the complexity of the project.





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PO Box 4341, DX WX11179, Christchurch 8140.
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