Set-off what?

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Making sense of ambiguous contracts

The primary concern for a developer and builder closing a development agreement is to reach a commercial deal on mutually agreeable terms. If you reach a deal, do the precise words in the contract really matter? What was the real deal struck if the words of the contract are ambiguous?

In Tomkins Commercial & Industrial Builders Pty Ltd v Pacific Diamond 88 Pty Ltd [2024] QSC 321, the Supreme Court of Queensland considered how to interpret a contract with terms that were clearly ambiguous, in a dispute about the Principal’s claim to liquidated damages and right to set-off.

Facts

The applicant (Tomkins) was a family owned and operated construction company. In December 2021, Tomkins entered into a contract as builder, with the respondent (Pacific Diamond) as principal, for construction works which was later varied by a deed of variation in August 2022.

Disputes arose between Tomkins and Pacific Diamond, which culminated in Pacific Diamond issuing three certified notices to Tomkins under the contract:

  • a certificate for liquidated damages due and payable in the amount of $2.6 million;
  • a payment certificate crediting to Tomkins $394,343 for work done, but setting off $2.6 million in liquidated damages, leaving a balance payable from Tomkins to Pacific Diamond of over $1.9 million; and
  • a notice that Pacific Diamond intended to have recourse to bank guarantees provided by Tomkins under the contract as security.

Tomkins applied to the Court seeking declarations that Pacific Diamond was not entitled to set-off liquidated damages in the way it had sought to do, that notices issued by Pacific Diamond were invalid, and injunctions against Pacific Diamond preventing their recourse to the bank guarantees.

Ambiguity in the Contract

The questions before the Court required an interpretation of the clauses in the contract relating to the timing of the principal’s rights to liquidated damages, set-off and recourse to security.

When Tomkins and Pacific Diamond had originally negotiated the contract, the first drafts of the contract exchanged were an amended standard form AS4300–1995 contract. Notably, Tomkins did not agree to allow liquidated damages to be payable on demand, nor for liquidated damages to be deducted from certified amounts payable to Tomkins or from security, and deleted relevant clauses from this draft contract.

In the midst of negotiations, the parties then opted to switch and use the standard form AS4902–2000 contract as the basis of their negotiations. After further negotiations, subclause 37.2(b) was deleted from the standard form contract. The deleted subclause would usually have provided for certificates the principal could issue evidencing the assessment of retention and other moneys due to the principal from the contractor.

While subclause 37.2(b) was removed from the contract, references to subclause 37.2(b) remained. This resulted in ambiguity in the contract, particularly regarding whether Pacific Diamond had an immediate right to set-off for certified liquidated damages, or whether a claim for liquidated damages was only on account until the final payment claim at the conclusion of the contract.

Filling in the Missing Pieces

The Court found that the contract was ambiguous, and in this case was required to determine the actual legally binding agreement formed from the intention of the parties.

The Court uses an objective standard to determine the agreement that parties reach. This means the Court will assess the words and text exchanged between the parties through the eyes of a “reasonable businessperson” to determine the precise bargain of the parties.

Where there is an ambiguity in the contract, the Court will also consider relevant context (including prior negotiations) through the lens of a “reasonable businessperson” to determine the text, context and purpose of the contract.

The Court concluded that the correct and commercially sensible interpretation of the contract as amended by the removal of subclause 37.2(b) was that Pacific Diamond’s right to liquidated damages was not payable until after the final certificates had been issued, and that they could not set-off against security or against the certified payments due to Tomkins under the contract in the way they had attempted.

The Court also concluded that the balance of convenience favoured granting Tomkins the injunctions sought restraining Pacific Diamond from having recourse to the bank guarantees.

Consequently, the Court made the declarations sought by Tomkins that Pacific Diamond did not have a right to set-off liquidated damages against payments certified as due to Tomkins. Additionally, the Court ordered that Pacific Diamond could not have recourse to security on the basis of the notices it had issued, which the Court also found invalid under the contract and set aside.

Takeaway

Having ruled, the Court also recognised that Pacific Diamond’s claim to liquidated damages had not been extinguished entirely but simply delayed until a later time, with the expectation that Tomkins and Pacific Diamond might continue their dispute using the arbitration clauses in their contract.

In this case, it seems the commercial dispute between the parties had been exacerbated with a legal dispute arising from ambiguity in the drafting of the contractual terms of their agreement.

It is important when negotiating a contract, well before a commercial dispute arises, that the parties carefully and unambiguously decide on the proper contractual processes and risk allocation that will define their business relationship throughout a project. Doing so will help avoid unnecessary legal disputes when commercial resolutions are difficult to find.

Righting the Wrong in Wrongful Termination

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A common reason why an owner may seek to terminate a building contract is that they believe the builder has taken too long to complete the works. They would then claim that the builder has failed to proceed with due diligence under the contract.

For this argument, an owner must be able to show that the builder did not proceed with the works with due diligence within the time stipulated in the contract – which is a breach of the contract and the statutory warranties (as set out in section 18B of the Home Building Act 1989 (HBA)).

This concept of claiming a ‘due diligence breach’ was established in Re Stewardson Stubbs & Collett Pty Ltd v Bankstown Municipal Council [1965] NSWR 1671, which stated that the requirement of due diligence is breached when there is a failing to act with a level of promptness that is expected of a reasonable person undertaking a building project with regard to the contract. However, several cases have since challenged the ease with which owners are able to terminate building contracts by way of alleging a breach of due diligence.

Let’s start with a review of the statutory warranties

Implied into every residential building contract, the HBA states that the works under a building contract will be completed within the time stipulated in the contract or, if there is no time stipulated, within a reasonable time. For example, it must take into account instances that are out of the builder’s control such as third party delays. The HBA also determines that the owners must allow reasonable access to the site for builders who may be seeking to rectify any defects.

Turner Corporation Ltd (Receiver and Manager Appointed) v Austotel Pty Ltd (1994) BCL 378

In this case, Turner appealed the decision in favour of Austotel for the recovery of costs of engaging third parties to rectify defects in Turner’s work without notice and without allowing Turner to rectify the defects. The Court found that the owner did not follow the procedural steps and notice provisions in the contract relating to the defects. Here it is important to acknowledge sections 18BA(3)(a) and (b) of the HBA whereby the owners, through their own conduct, prevented Turner from rectifying the defects and were ultimately unsuccessful as a result.

Hometeam Constructions Pty Ltd v McCauley [2005] NSWCA 303

In this case, it was decided that practical completion of the building work would be in May 2000, and in July of the same year a notice of default was served on the builder for failing to proceed with the building works with due diligence, and by the date for practical completion. In August 2000, the owners terminated the contract, claiming that the builders had failed to remedy the situation. The Court held that there had been no breach of contract, and the builder’s delay and lack of programme for completion, was not enough to amount to a substantial breach of due diligence.

Patel v Redmyre Group Limited [2021] NSWCATAP 132

In this case, the builder worked on the restoration of a residential apartment terrace which was to be completed within 32 weeks. However, the building was not complete by the time specified in the contract and the owners issued a notice of termination with immediate effect. At the time the notice was issued to the builder, the work was 26 weeks behind schedule. The builder sought to rectify the defects, but the owner did not allow access to the site. NCAT held that the builder did not fail to proceed with due diligence and no damages for delay or incomplete works were awarded as the owners failed to mitigate the loss and provide reasonable access to rectify the defects.

THINGS TO CONSIDER

In summary, whether you are a builder or an owner, there are some useful points derived from these cases that may be helpful in understanding if there has been a failure on the part of the builder to proceed with the works with due diligence:

  1. What is the reasonable and relevant time period for a diligent builder to complete the works?
  2. Whether the works are incomplete and, if so, whether there are any circumstances preventing the builder from performance of the works, as well as the pace of performance. This may include any disputes in relation to payment, lack of instructions, a change in scope, request(s) for variations, all of which would cause delay;
  3. Whether there is a lack of activity on the project for a significant period of time that cannot be satisfactorily explained;
  4. Whether the owner mitigated his/her/its loss by allowing reasonable access to the site for the builder to rectify its defects; and
  5. Whether the builder issued extension of time claims and updated programmes if required by the contract.

Terminating a contract based on the failure to proceed with due diligence is a risky one and this is why it must be approached carefully. Otherwise, the owners claiming a breach of due diligence could be found to have repudiated the contract and be liable for damages.

Legal advice should always be sought before terminating a contract.

If you have questions or would like to discuss this article, please contact us.

The DBPA: when defects are just not enough

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OXFORD (NSW) PTY LTD V KR PROPERTIES GLOBAL PTY LTD TRADING AS AK PROPERTIES GROUP ABN 62 71 068 965 [2023] NSWSC 343

 

FACTS

 

On 8 October 2015 the first and second defendants (AK Properties Group), the ‘Owners’, entered into a contract with the plaintiff, the ‘Builder’, whereby the Builder was to construct a six-unit apartment building. The third and fourth defendants, Mr Eswaran and Mr Sharma, entered into a Deed of Guarantee and Indemnity with the plaintiff, where they guaranteed the fulfilment of the Owners’ obligations under the contract.

The plaintiff brought proceedings against the four defendants to recover amounts claimed in nine separate invoices. However, the Owners sought a cross claim against the director and the shareholder of the Builder, Mr Kazzi, and the architect of the Building, Mr Mahedy. Here they claimed that the works were incomplete, the work was defective, and that there was interest that had to be paid on borrowing that was used to fund the completion and rectification of the works. Furthermore, the first and second defendants also sought damages from the plaintiff under section 37 of the Design and Building Practitioners Act (DBPA), alleging that there were defects in the work that had occurred from the act of negligence by the Builder.

The DBPA establishes, under Part 4, that individuals and companies owe a statutory duty of care to the owner and subsequent owner of land where construction is being carried out in order to avoid economic loss caused by defects. This duty of care applies to a person who carries out construction work in or related to a building, where building is defined by section 1.4 of the Environment Planning and Assessment Act 1979 as “any part of a building and also includes any structure or part of a structure”.

 

ISSUES

 

The issue that was to be decided by the Court was the “extent to which the costs admittedly incurred by the Owners should be attributed to rectification of defects, rather than the completion of the work” [287]. As the DBPA states, economic loss may be incurred where there is a cost for the rectification of defects, including damage caused by defects, rather than work completion. Additionally, with respect to s37 of the DBPA, there was debate as to whether there was a ‘personal’ breach of duty that had occurred.

Another issue that the Court had to consider regarding the cross claim of the Owners was their entitlement to Hungerfords v Walker (1989) 171 CLR 125 damages. Here it notes that there may be an interest on damages following the time of the breach due to the fact that the plaintiff in this case incurred an economic loss by being deprived of the use of money and, thus, an opportunity to invest. This case brought forward the issue of whether the interest that was paid in order for the works to reach a stage of completion should also be included in the amounts recoverable.

 

HELD

 

The Court held that the Builder did not complete the works and that much of the work that had been completed was defective. Hence, while the Builder had originally sued for their entitlement to the invoices, it was the Owners of the property who were entitled to their cross claim for the incomplete and defective works. Importantly, the Owners made a claim based on Hungerford v Walker damages, stating that they had to take out additional loads to fund the building works in order for them to reach practical completion by a certain date which they were unable to repay. The Owner’s claim was for Hungerfords interest alone and the Court found that they were entitled to this interest.

Regarding the owners claims against Mr Kazzi personally under the DBPA, the Act provides that “a person who carries out construction work has a duty to exercise reasonable care to avoid economic loss caused by defects”, going on to define construction work as the “supervising, coordinating, project managing or otherwise having substantive control over the carrying out of” the building work. While the Builder “offered the formal submission that Mr Kazzi was not a ‘person’ for the purpose of s 37 of the DBP Act” [332], it was determined by the Court that, due to the affidavit that noted Mr Kazzi to “attend the Property on a weekly basis… to oversee the construction of the Building” [330], he was therefore a person who had substantive control over the work in this instance; Stevenson J citing Boulus Constructions Pty Ltd v Warrumbungle Shire Council (No 2).

The Court then sought to establish whether Mr Kazzi acted in a breach of a duty to exercise reasonable care. The Court considered the findings in The Owners – Strata Plan No 87060 v Loulach Developments Pty Ltd (No 2) [2021] NSWSC 1068 at [59] and noted that “it is not sufficient simply to assert a defect and allege that the builder was required to take whatever precautions were needed to ensure that the defect not be present”, reiterating the notion that the Act was developed to establish that a duty of care is owed. Should a party seek a breach of the duty, the other elements of negligence must be proved i.e. that a duty exists, the duty was breached, and the breach caused loss. The judge here determining that a defect is not enough to establish a breach of duty.

 

TO CONSIDER

 

With regard to this case, what is of central importance is that while the DBPA is highly influential in its purpose of protecting owners through the establishment of a duty of care, a defect alone is not enough to establish a breach of that duty.

 

Rise and Fall Clauses in Construction Contracts

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Overview

Rise and fall clauses (also referred to as cost escalation clauses) in construction contracts have been a highly discussed topic in the past few months, given prices for material such as timber, steel and concrete have been on the rise since early last year. There are various contributing factors as to the reason why these price increases have been observed, including the effects of the COVID-19 pandemic on the global commodities supply chain.

This article will outline the nature of rise and fall clauses and how these clauses may affect your construction contract as well as outline the elements to keep in mind when drafting a rise and fall clause to suit your construction contract.

Rise and Fall Clauses at a Glance

Rise and fall clauses essentially increase or decrease the price of a fixed-price or lump sum construction contract depending on the varying price of the materials to be used in completing the works under the contract. For example, if the price of timber rises during a construction project, and timber is a material that is to be used to complete the works under the contract, a rise and fall clause in the contract could mean that the contract price would increase correspondingly to accommodate for this rise in timber prices. Surveying the “price” of any given material is therefore crucial and, in Australia, is often done by reference to the indexes published by the Australian Bureau of Statistics (discussed below).

Rise and fall clauses were at their height during the inflation of the 1970s and 1980s. Since then, we have seen their relevance recently after the effects of the COVID-19 pandemic and the Russian-Ukrainian war.

Putting Together a Rise and Fall Clause

If you are considering a rise and fall clause to be included in your construction contract, you should first be aware of relevant legislation that may impact its legality.

The following table sets out whether a rise and fall clause in your residential or domestic building contract can be implemented based on the State or Territory in which the construction works are to be performed:

Legality of Rise and Fall Clauses in Different States
NSW Yes
QLD Yes
WA No, if the contract for works is less than $500,000
SA Yes
NT Yes
TAS Yes
VIC No, if the contract for works is less than $500,000
ACT Yes

 

 

Constitutive Elements

Rise and fall clauses implement mathematical formulas to calculate the change in contract price. The following are some of the more common elements implemented in rise and fall formulas:

a) Affected Material and Price

The affected material is essentially the specific material or commodity which is subject to fluctuating price. Considering rise and fall clauses typically do not apply to the entirety of a contract sum, the clause will apply to parts of the contract. The critical component of this element is to ensure the affected material is defined clearly and precisely.

b) Applicable Price Index

Price indexes record the value in the fluctuating price of a certain material/commodity. In the Australian setting, the price index most often referred to is the Producer Price Indexes (PPIs) published quarterly by the Australian Bureau of Statistics (ABS). The ABS provides a measure of the movement in the prices of the materials/commodities over a period of time. Other price indexes which are published by the ABS, and that may be of relevance to construction contracts, include:

  • the Consumer Price Index (CPI) which measures inflation;
  • The International Trade Price Indexes (ITPIs) which measures fluctuations in the prices of goods imported into Australia and exported from Australia; and
  • the Wage Price Index (WPI) which measures changes in Australian employee wages.

Visit the link below for the ABS factsheet with further information on each of these indices.

Use of Price Indexes in Contracts

c) Risk Buffer

A risk buffer functions to apportion the risk of increasing material prices between the owner and the contractor. For example, a risk buffer may operate such that the first 3% increase in a commodity or material is borne by the contractor, any percentage above this amount will be subject to the rise and fall clause.

d) Reference and Adjustment Dates

Reference (or base) dates concern the specific date from which the rise and fall of price of a specific commodity or material is to be calculated under the contract. The reference date may be any of the below:

i. the date of tender;

ii. the contract date; or

iii. a date some months following the date a Contractor is given access to a site.

Adjustment dates, as the name suggests, concern the date at which the price of any given material/commodity is to be adjusted under the contract. This may be monthly or yearly, depending on the scope and timeline of the construction project.

To Consider

If you are considering including a rise and fall clause in your construction contract, it is important to take into account all constitutive elements of a rise and fall clause, particularly reference dates and jurisdictional limitations. A rise and fall clause must be certain and specific in order to avoid ambiguity and operate correctly. If you are contemplating including a rise and fall clause in your contract, consider the specific requirements of your project and seek legal advice.

 

Striking a balanced construction contract to ensure successful project delivery

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The construction industry is still grappling with the impacts of COVID-19 on the supply of materials, equipment, and labour due to delays in procurement and long lead times. These impacts have been coupled with a significant increase in the cost of construction materials (including increased procurement costs) as a result of inflationary pressures, rising transport costs, and the increased costs of critical resources such as oil, gas, and coal.

Parties to a construction contract are therefore faced with a significant challenge to ensure that successful projects can be delivered. This is a complex balance that needs to be negotiated and dealt with by parties to construction contracts to mitigate risks.

We have been advising both our developer and builder clients on the need to enter into construction contracts with clear allocation of both time and cost risk and relief. When it comes to risk allocation under a contract, our view is that a party who has better control of a risk ought to bear the risk. For those risks outside the control of either party, they should be shared equally.

Where there are uncertain risks allocated under the contract to the contractor, they will often price tenders with an excessive margin which in effect passes this cost to the principal. The principal bears that higher cost regardless of whether the risk actually materialises. In some cases, the principal may be better served by balancing that unquantifiable risk in whole or part to avoid an inflated tender price that covers these contingencies. One example is by using a hybrid contract where some of the scope is lump sum and some is cost-plus.

It’s our experience that parties may have different objectives that may guide which party is willing to take on which kinds of risk and the contract can be negotiated with this in mind. Also, more balanced contracts are often easier to administer during the life of the project as there are palatable outcomes for both sides avoiding disruptions and excessive claims. A balanced approach may also be enough to minimise the complications caused by parties breaching contracts or becoming insolvent due to increased costs and an inability to claim under the contract.

Fixed-price contracts are widespread in the industry and do not always provide the full range of adjustment mechanisms that are needed to fairly distribute time and cost risks between the parties. Many of these mechanisms only exist by virtue of the contract granting rights to the parties and industry participants cannot rely on legislation and common law to cover these risks.

These mechanisms include:
• extension of time clauses;
• delay costs clauses;
• variation clauses;
• rise and fall clauses;
• force majeure clauses; and
• provisional sum and prime cost items.

Extension of time clauses

An extension of time clause extends the time a party has under the contract to reach practical completion. Ordinarily, the clause will operate where a specified event occurs and a party must provide details of the legal and factual basis of the claim. A common requirement is that the contractor must prove the delay will impact works on the critical path and must not have caused or contributed to the delay.
Common examples of qualifying causes of delay include inclement weather, force majeure events, variations, industrial action, and legislative changes.
There are strict mechanisms requiring claims to be submitted within a certain timeframe of the event and sometimes ongoing requirements to notify for continuing delays. Our contractor clients should be mindful of any time bars in construction contracts.
Receiving an extension of time ensures that parties who are delayed are not exposed to liquidated damages or terminated. Additionally, failing to obtain an extension of time may prevent a party from obtaining delay costs depending on the structure of the contract.

Delay costs

Delay costs (delay damages under AS contracts) are the recovery of extra costs incurred by a contractor due to an increase in the duration of the programme. Usually, an act or breach of contract by the other party is not necessary to establish an entitlement to delay costs, merely the existence of a qualifying cause of delay.
Contractors who obtain an extension of time will avoid the risk of liquidated damages or termination but remain on the hook for the costs they have incurred due to delay. It is crucial to promptly submit a claim these costs.
For further insights into delay costs, please see our article here.

Variation clauses

Variation clauses allow the principal or its representative to positively or negative adjust the scope of works and services, often with associated adjustments to time or cost under the contract.
Variations can also arise out of neutral events not caused by either party such as latent conditions or new legislative requirements.

A positive variation request is made by either party where it considers that the works being carried out fall outside the previously agreed scope of works. Many contracts have strict procedures and timeframes in place for a variation to be formally approved under the contract with the consequence that an invalid request will not provide time or cost adjustments.

Parties should carefully consider the interplay between the extension of time, delay damages/costs, and variation regimes under the contract to ensure they are making the right claims.

Rise and fall risk

Rise and fall clauses account for increases and decreases in the costs of materials or other construction inputs such as labour over the life of the contract with the effect that the contract price remains aligned with prevailing market rates. More special cases may address fluctuations in economic conditions such as exchange rates and taxes.
There are many ways to draft rise and fall clauses. For example, the clause can be drafted so that the parties split the difference in increases or decreases or otherwise introduce percentage or amount caps to provide more certainty. It can also be limited to specific materials or trades.

Including these clauses in your contracts may spark discussions prior to commencing the project to consider alternative materials and solutions that achieve the performance requirements of the project without breaking the bank. It can also lead to less conservative fixed tender prices that are designed to cover the volatility of the market. The upshot is that market conditions have forced contractors to be creative with pricing and solutions to be competitive.

Force majeure clauses

Force majeure clauses (also known as “Acts of God”) exist in recognition of unpredictable events outside the control of either party that have the effect of preventing contractual obligations being carried out. Depending on how the clause is drafted it may either suspend the works or provide an extension of time for the period of the delay. In some cases, it may also provide rights to terminate the contract.
Examples of force majeure events include industrial disputes, pandemics, natural disasters, acts of war, and government action or interference. Our view is that COVID-19 is a special case and should be dealt with separately in contracts as arguably it is no longer an unforeseeable risk.

Force majeure clauses often are listed as qualifying causes of delay or compensable causes under both extension of time clauses and sometimes delay costs/damages clauses.

For more detail on force majeure clauses, please see our article here.

Provisional sum and prime cost items

A provisional sum is an allowance in the contract price for specific items of work or services which cannot be quantified at the time of contract entry such as signage, structural elements not yet designed, and soft landscaping options not finalised. Once they are quantified the Principal or its representative will issue a direction.

Provisional sums can be structured to include a cap on items to provide cost certainty. For example, a clause that states a contractor must notify the principal where the actual cost is likely to exceed 125% otherwise risk being barred from recovering those costs. Alternatively, more contractor-friendly is a clause stating a contractor can claim the difference and margin where the total amount of the provisional sum work is higher or lower than the aggregate of the provisional sum values included in the contract without any cap.

A prime cost item is an allowance in the contract price for an item such as a fixture or fitting not specified at the time of contract entry such as tapware, door hardware, or kitchen appliances.
The advantage of these mechanisms is that any amount above and beyond what is allowed can be the subject of a variation depending on the drafting of the contract.

For an additional overview on some of these issues, please see our article here.

Bradbury Legal is experienced in advising parties on drafting and reviewing construction contracts to ensure that risk and relief is properly balanced. For specialist and tailored advice, please contact a member of our team by phone on (02) 9030 7400 or by email at [email protected].

Remember your umbrella! Drafting umbrella contracts for a rainy day.

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This article focuses on risks for construction contractors and suppliers when agreeing to standing, purchase order or umbrella contracts and provides some tips on how to avoid or mitigate those risks.

“Standing”, “purchase order” or “umbrella” contracts are frequently used where:

  • the client engages, or intends to engage, a contractor or supplier across in multiple projects; or
  • where the quantity of works, goods or services or time when those works, goods or services are required is unclear or subject to change.

Umbrella contracts aim to settle a set of standard terms and conditions with which both parties are comfortable, with the variables such as quantities and time for performance set out in the purchase order later.

Purchase order contains additional adverse terms or terms that conflict with the umbrella contract

A risk in using umbrella contracts is that the client issues a purchase order which includes or appends an additional set of terms and conditions which are not agreeable to the contractor and/or conflict with the umbrella contract.  If the contractor commences performances in accordance with that purchase order or otherwise does not raise objection within a reasonable time:

  • a “battle of the forms” may occur, where which terms and conditions prevail becomes debatable; and/or
  • the client’s purchase order terms may be considered accepted due to the contractor’s performance of the works or services the subject of the purchase order[1].

Some ways that the risk can be avoided or mitigated include:

  1. Prevent inconsistency: Ensure that the umbrella contract contains a term which states that it will apply to the extent of any inconsistency with the purchase order.
  2. Settle form: Ensure that the umbrella contract contains a term which requires any purchase order issued to be in the form appended to the contract as an annexure (and ensuring that the purchase order issued aligns to that form).
  3. Minimise variables: Minimise the amount of variable information that will be subject to the purchase order. The parties should agree as many terms as possible via the umbrella agreement and leaving the purchase order less work to do.
  4. Contractor’s acceptance: Include a term in the umbrella contract that the purchase order will not become operative (i.e. an agreement on its terms reached) unless the contractor accepts the purchase order in writing. Then, do not accept the purchase order in writing unless the variable terms included in it (such as the time for delivery of goods) are achievable.
  5. Limits on liability: Ensure the umbrella agreement contains all necessary limits on liability – e.g. a cap on liquidated damages.

Creation of multiple contracts

It is not uncommon for an umbrella contract to contain a term to the effect that a separate contract is created upon issue (or acceptance) of each purchase order.  This is generally desirable when the umbrella contract is intended to operate as a standing agreed set of terms governing the parties’ relationship across multiple projects.

However, where such a term is included and multiple purchase orders are issued on the one project, such a term can:

  • create general difficulties in administering the contracts and enforcing rights under those contracts; and
  • impact the operation of security of payment legislation.

On the first issue, the parties would need to issue contractual notices with reference to various purchase orders.  For example, in the event of a delay event occurring which impacts multiple purchase orders a notice would need to be issued to the client with reference each separate purchase order, satisfying all relevant criteria under the umbrella agreement for such a notice.  By way of another example, a dispute between the parties may arise due to non-payment of various purchase orders or defects in goods or services supplied under various purchase orders that may need to be individually pursued using the relevant contractual dispute mechanism.

On the second issue, the security of payment legislation in NSW (and other States and Territories) does not permit a payment claim being served (and adjudication application being made) across multiple contracts.

If there is a clause in the umbrella contract stating that each purchase order will give rise to a new contract, the contractor must submit separate payment claims in relation to each purchase order and pursue separate adjudications on each payment claim.

This was highlighted in a case where Holcim pursued an adjudication application against Acciona for work on the Sydney Light Rail project where some 12,500 purchase orders had been issued.  The New South Wales Supreme Court determined that Holcim’s payment claim which encompassed several purchase orders was not a valid payment claim[2] and Holcim lost out on the benefit of an adjudication determination worth nearly $3M.  In this type of case, the issuing of purchase orders which created separate contracts resulted in commercial and administrative unworkability and prejudiced the subcontractor’s ability to pursue a large adjudication against the head contractor.

Whether or not the umbrella contract should contain a clause which provides that each purchase order issued will give rise to a new contract should be considered on a case-by-case basis.

[1] Both of these risks are discussed in our previous article on Samios Plumbing Pty Ltd v John R Keith (QLD) Pty Ltd [2019] QDC 237.

[2] Acciona v Holcim [2020] NSWSC 1330 at [40].

“Heads of Agreement” – binding contract or merely an agreement to agree?

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A document expressed as “subject to contract” will in some circumstances be binding on parties.

The 1954 High Court decision of Masters v Cameron[1] continues to offer guidance when determining whether a document that is stated to be “subject to contract” is in itself a binding contract, or is merely an agreement to agree which is not binding on the parties. The judgment sets out three categories of cases:

  1. where the parties intend to be bound immediately but propose to restate their terms in a form which is more precise or full but is not different in effect;
  2. where the parties intend to be bound immediately but have made performance of one or more terms conditional upon the execution of a formal document; and
  3. where the parties do not intend to be bound unless and until they execute a formal contract.[2]

In Nergl Developments Pty Ltd v Vella [2021] NSWCA 131, the New South Wales Court of Appeal considered whether a heads of agreement concluded following mediation was binding on the parties.

Facts

Nergl Developments and Mrs Vella entered into two agreements to develop adjoining properties. Nergl Developments was to undertake the major parts of the works and lodged caveats over its lots to secure performance of its payment obligations under the agreements. In 2018, Mrs Vella commenced proceedings in the Supreme Court to have the caveats withdrawn.[3]

Following mediation, Mrs Vella and Nergl Developments concluded a heads of agreement which intended to settle all disputes arising from the agreements between the parties and to terminate those agreements. However, the parties did not agree on whether the heads of agreement:

  1. required immediate entry into a formal deed of settlement; or
  2. set out preconditions for subsequent steps to be taken by the parties, upon the successful completion of which they would enter into a formal deed of settlement.[4]

Both Mrs Vella and Nergl Developments sought specific performance of the heads of agreement by the execution of various documents; each could not agree on the particular steps required to give effect to the heads of agreement.

The trial judge adopted the second construction of the heads of agreement.[5] Nergl Developments appealed this outcome to the New South Wales Court of Appeal.

Decision

Basten JA (Meagher JA and Leeming JA agreeing) rejected the appeal and held that the document fell within the second category of cases set out in Masters v Cameron. This meant that Mrs Vella and Nergl Developments were bound by the heads of agreement even though it required them to take further steps.

In reaching this conclusion, his Honour warned against “treating such descriptive language in a judgment as if it were a provision of a statute”.[6] Instead, the appropriate approach is to consider evidence of the objective intention of the parties in the terms of the document itself, as well as their surrounding conduct.

The title “Heads of Agreement” did not, in itself, indicate that the document was merely an agreement to agree. Viewed in light of the document as a whole, it was clear that the parties had paid careful attention to the terms of the existing planning consent and had provided the steps required by to terminate the existing agreement.[7] For these reasons, Basten JA held that the heads of agreement was intended as binding.

Basten JA also discussed the second category of cases in Masters v Cameron. His Honour explained that cases falling within this category need not necessarily contemplate the preparation of one single subsequent document which further elaborated the terms of the heads of agreement. Instead, as was the case here, parties may stipulate a range of further obligations and steps to be taken.[8]

Take home tips

If you are preparing a document such as a settlement agreement, you should consider whether you intend for it to be immediately binding and enforceable. Whether yes or no, this intent should be clear in the language and terms of the document.

If you contemplate the future preparation of a more formal document, it is even more important that it is clear whether the initial document is binding in its present form.

We can assist with the preparation of settlement agreements and enquiries as to whether they will be enforceable.

[1] (1954) 91 CLR 353.

[2] At 360 (Dixon CJ, McTiernan & Kitto JJ).

[3] Nergl Developments Pty Ltd v Vella [2021] NSWCA 131, [2]–[9] (Basten JA).

[4] At [11].

[5] At [11]–[12].

[6] At [22].

[7] At [23]–[29].

[8] At [22], [25].

The Owners – Strata Plan No 85561 v Omaya Holdings Pty Ltd [2021] NSWSC 918

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In a recent decision by the Supreme Court, The Owners – Strata Plan No 85561 v Omaya Holdings Pty Ltd [2021] NSWSC 918 (Omaya Holdings), the Court considered the effect of a settlement deed and a remedial contract agreed between parties to a Supreme Court defect claim.  The settlement deed required the Developer to provide a HBCF insurance policy and stated that if the rectification works were not complete by the due date or there was default under the settlement deed, the Owners Corporation was entitled to enter to judgment against the Builder and Developer.

Omaya Holdings shows the importance of drafting contracts, especially settlement deeds.  It is important for contracts to be clear as to exactly what is required, when it is required, and if there is to be any order of events.  Further, a contract should consider what happens if one of the events cannot be achieved.

The Owners Corporation refused to let the Developer carry out the rectification works until a HBCF Policy was in place.  As the Developer was unable to procure a HBCF policy, the time for carrying out the rectification works lapsed and the Developer was in default under the settlement deed.

As the settlement deed did not specify whether the HBCF policy was to be procured before the rectification works were completed, the Developer was in default of the settlement deed.  As a result, the Court found that judgment could be entered against the Developer for the agreed sum.

The Court considered whether the settlement deed or the remedial contract required the Developer to procure the HBCF policy before it commenced the rectification works.  The remedial contract included the Home Building Act 1999 (NSW) Checklist, which includes a check item requiring the contractor to provide a certificate of insurance before the commencement of works.  This was sufficient for the Court to find that the Developer was required to procure the HBCF policy before carrying out the works.

Somewhat in passing, Counsel for the Developer and the Builder submitted that the inability to obtain the HBCF policy made it impossible for the Developer to perform its obligations under the settlement agreement (otherwise known as frustrating the contract).  The Court considered that it was not the settlement deed, but the remedial contract, which was frustrated and unable to be performed by the Developer.  However, as there was an unqualified default under the settlement deed, the Owners Corporation was entitled to seek the remedy under that deed (being judgment entered against the Developer).

Omaya Holdings is a good example in how parties need to consider the drafting of the contracts they enter.  Contracts need to be clear as to the parties’ rights and obligations.  Thought should be given to what is needed to allow the parties to perform their obligations under the contract, what happens in the event of default, and what contractual mechanisms or provisions are available to the parties to resolve their dispute in a timely and cost-efficient manner. If you or anyone you know needs help with preparing or negotiating contracts, please contact Bradbury Legal.

Valmont Estopped In Its Tracks by Armani

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The issue of estoppel in the context of a rejected variation claim was recently considered by the NSW Court of Appeal in Valmont Interiors Pty Ltd v Giorgio Armani Australia Pty Ltd (No 2) [2021] NSWCA 93.

In this case, Valmont Interiors Pty Ltd (Valmont) was led to assume that it would be paid for additional joinery works that were directed by Giorgio Armani Australia Pty Ltd (Armani) as a purported variation.  However, as the procedure for claiming and approving variations under the contract was not adhered to, Armani sought to rely on the time bar in the variation provision to reject the claim.

Facts

In early 2016, Valmont entered into a contract with Armani to provide fit-out works for the new Emporio Armani store at Sydney Airport. The scope of works originally excluded certain joinery items, which were to be sourced by Armani from a third party supplier. However, shortly after the works commenced, the third party supplier was not able to meet the tight schedule for delivery and Armani directed Valmont to supply the joinery items.

Valmont supplied the joinery items but Armani refused to pay for them on the basis that Valmont did not follow the procedure set out in clause 15 of the contract for claiming a variation and waived its claim.  Relevantly, this clause provided that if Valmont considered that a direction of Armani constituted a variation it was required to give notice of the purported variation within five business days.  This clause also provided that failure to provide notice within the specified time period resulted in Valmont releasing and waiving any entitlement to a claim.

Valmont’s position was that Armani should be estopped from relying on the time bar in clause 15 to reject the claim because Armani did also not follow the procedure in clause 15 for instructing the supply of the additional joinery items (as well as for previous other variations).  As a result of this, Valmont argued that Armani led it to assume that strict compliance with the procedure in clause 15 was not required in order to claim payment for the additional joinery work.

The First Decision

The primary judge held that, although Valmont did not strictly comply with the procedure set out in clause 15 of the contract for claiming a variation, Armani was estopped from relying on the time bar in that clause and that the costs of certain variation were recoverable by Valmont.

However, the primary judge also found that at a certain point in time (being 11 April 2016), email correspondence between the parties corrected Valmont’s assumption that it could claim payment for variations without complying with the procedure set out in clause 15 of the contract and that Armani would rely on strict compliance with that procedure for future variations.  Accordingly, it was held that the estoppel ceased on that date and the costs of purposed variations after that date (including the additional joinery works) were not recoverable.

The Appeal

On appeal the Court disagreed with the primary judge and found that the estoppel continued to operate after the 11 April 2016 email because:

  1. the email did not displace Valmont’s assumption that was induced by Armani that it would be paid for supplying the additional joinery works. This was partly because Armani’s email was not sufficiently clear to correct Valmont’s assumption (ie. that strict compliance with clause 15 of the contract was not required in order to be paid for additional joinery works);
  2. the email conveyed that the supply of the joinery was not a variation but additional works outside of the contract;
  3. Valmont was entitled to expect to be paid for the additional joinery works that were directed by Armani. The fact that it continued to incur liabilities after receiving the email from Armani demonstrated that the email did not correct Valmont’s understanding of the situation.  Further, Valmont relied on that understanding to its detriment, and as it was no longer possible for Valmont to comply with clause 15 of the contract it could not overcome the detriment already suffered; and
  4. in the circumstances, it was unconscionable for Armani to refuse to pay Valmont for the additional joinery works.

Take home tips

We understand that in administering contracts parties do not always strictly comply with the procedures and timing set out in the contract for claims, especially if the parties consider they have a good relationship or believe that strict compliance is too formal.  This case highlights the potential serious consequences of taking that approach.

Parties to a contract should be aware of the risks of acting inconsistently with their rights under the contract (ie. in Armani’s case, not requiring compliance with the terms of the contract for claiming variations and also not formally directing variations), as this could lead to those rights being lost and there not being a basis to reject claims.

If a principal or head contractor (or other party in a similar position) is concerned that a particular state of affairs exists between them and the downstream party that is inconsistent with the contract, it is crucial that the principal or head contractor:

  1. corrects that understanding by stating in clear and precise terms that the current understanding must be departed from and that strict compliance with the contract is required;
  2. provides sufficient notice of this so that the downstream party has time to comply with the procedure in the contract for claims and can attempt to overcome any detriment; and
  3. then strictly requires and enforces the procedure in the contract for claims so as to avoid any doubt that another state of affairs exists between the parties.

 

You win sum, you lose sum (but it’s still a sum)

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Some construction contracts provide that expert determinations (or other alternative dispute processes) will be considered “final and binding” unless the claim or determination is excluded or carved-out.

In the matter of CPB Contractors Pty Ltd v Transport for NSW [2021] NSWSC 537, the New South Wales Supreme Court considered an expert determination clause which precluded litigation in respect of the determination, unless it:

  1. Did not involve a sum of money; or
  2. Required one party to pay the other an amount in excess of $500,000.[i]

The decision in this case was that one party was not entitled to any further payment for the Works.  Did the determination “involve” paying a sum of money?

Facts

Transport for NSW (“Transport”) engaged CPB Contractors (“CPB”) to carry out road widening works. Transport issued CPB instructions to remove excess spoil from one location to another (“Works”).

The determination concerned CPB’s entitlement to payment for the Works. Transport contended (and paid CPB) on a “Dayworks” basis which equated to $1.4 million. CPB contended that it was entitled to be paid for the Works in accordance with a schedule of rates (“Rates”) which equated to $11.4 million.

The Honourable Robert McDougall QC (“Expert”) determined that CPB was not entitled to any further payment for the Works (“Determination”).

CPB sought to litigate its claims, seeking payment in accordance with the Rates. Transport sought a stay. Transport pointed to clause 71 of the relevant GC21 Contract, arguing that the Determination was final and binding.

CPB contended that it was free to litigate the claims for the Works for two reasons.

The first was that the Expert made no determination for the purposes of the Contract.  CPB submitted there is a “deficiency or error” in the Determination, meaning it was not “a determination in accordance with the contract”.  These errors were said to include a “plainly incorrect” answer to a question referred to determination[ii], a failure to give reasons as required by the contract[iii] and a failure to answer a question at all[iv].  The first ground was specific to the facts of the case.

The second reason was that the Determination (to the extent it was a valid determination under the contract) did not “involve paying a sum of money”.

On this issue, CPB submitted that the question is what the Determination itself is and not the “matters for determination” involve.  It was argued that a determination that no money is payable is in effect a dismissal or rejection of that claim.  CPB submitted that such a decision does not and cannot involve “paying” a sum of money.

Decision

Transport’s application for a stay was granted.  CPB was precluded from litigating on the claims.

On the first ground, Stevenson J found that the Determination did not contain a deficiency or error.  The Expert’s Determination complied with the contractual requirements.

On the second ground, Stevenson J concluded that a determination dismissing a claim for money does “involve” “paying a sum of money” in the sense that it deals with the claim that, if successful, would have resulted in the paying of a sum of money; and rejects that claim.[v] The focus is not on the amount to be paid pursuant to the determination, but on the nature of the determination – i.e. whether it “involves”, in the sense of “concern” paying a sum of money.[vi] This is distinguished from a distinct category of determinations that are not in respect of money claims, such as a dispute about the construction of the contractual terms.[vii]

Therefore, in finding that the Determination did “involve the paying of sum of money”, the exception to the preclusion of litigation did not apply.

Take home tips

Dispute resolution clauses are often overlooked by parties in a contract negotiation. This case highlights that parties should carefully consider the types of disputes or claims that may be captured by a binding alternative dispute resolution process.  Parties should draft clear carve-outs from an otherwise final and binding dispute resolution clause if they wish to have recourse to the courts.

For carve-outs involving sums, consider whether the monetary thresholds are arbitrary or considered by reference to the whole of the contract sum.  Also consider whether it is the value of the claim that is of importance, or the value of the determination.

If parties wish to preserve the right to apply to the courts concerning the interpretation of a contractual term, for example, it would be prudent for the dispute resolution clause to reserve the right for an application for declaratory relief or contain a carve-out in relation to claims or disputes not involving or concerning payment of a sum.

[i] At [26] – [27].

[ii] At [47].

[iii] At [58].

[iv] At [66].

[v] At [91].

[vi] At [92].

[vii] At [94].