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Construction Contracts: the effects of the Canterbury Quakes
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The Canterbury earthquakes have thrown up many things to be learnt. This article highlights some key things to consider when planning a new commercial building contract. These issues apply wherever the building is to be located in New Zealand.
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. A good 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.
When planning a new building project 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. Even in post-earthquake Christchurch, solutions to these issues can be pieced together with careful planning.
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?
It is worth noting that several standard from building contracts including NZS 3910 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.
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.
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