Delay damages vs delay costs – same same but different

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I’ve lost count of the meetings, teleconferences and email exchanges that I’ve had with contractors (and their solicitors) in which this topic has been debated healthily, albeit resulting in an agreement to disagree.

Put simply, many contractors seek to amend standard contracts to provide broad circumstances in which they may claim delay damages or delay costs and, more often than not, these two terms are used (or at least understood by some to be used) interchangeably.

At common law, there is no automatic right to delay damages.  As with all damages claims, delay damages can only be recovered if they can be proven to be damages resulting from a breach of contract.  As regards a construction project, the contractor must show that the loss it suffered arose naturally from the principal’s breach, or may ‘reasonably be supposed to have been in the contemplation of both parties’ at the time the contract was entered into.  Delay damages can only be recovered automatically when a contract specifically allows.

On the other hand, delay ‘costs’ are, if given the ordinary meaning of that word, the expenditure of time or labour necessary for the attainment of something.  The important distinction is that most construction contracts provide for the recovery of costs expended by a contractor (including those related to time), in the absence of an act of breach by the principal or head contractor (as applicable).

The current Australian Standard suite of contracts has perhaps contributed to some of the confusion and consequent misconceptions within the industry on this subject.

Clause 34.9 of AS 4000-1997 and AS 4902-2000 provide that, where an extension of time has been granted, the contractor is entitled to ‘delay damages’ for every day falling within an extension of time for a ‘compensable cause’.  A compensable cause means an act, default or omission of the superintendent, the principal or its consultants, agents or other contractors (not being employed by the contractor).  It also includes any causes listed in Item 31 of Part A of the annexure to the contract.  In other words, the contractor may claim damages, even when there is a neutral cause of delay (ie no breach by the principal), if the contract so allows.  It is because of this drafting and, in particular, the use of the word ‘damages’ other than in the context of a breach of contract that has led many contractors to believe that they should be entitled to delay ‘damages’ for every time-related cost under the contract (such as variations, suspension and latent conditions to name a few).

This issue is further complicated by the drafting in clause 36 (variations).  Clause 36.2 (proposed variation) provides that the superintendent may direct the contractor to provide details of any time related costs in respect of a proposed variation.  Because the superintendent has a discretion as to whether or not it will direct the contractor to provide such information, such information may not have been provided when a variation is valued under clause 36.4.  Consequently, it is unclear if the superintendent is to consider time related costs when valuing a variation under clause 36.4.

When you consider that the drafting in clause 34.9 provides that every day the subject of a ‘compensable cause’ (which includes any act of the superintendent, including directing the contractor to perform a variation), this means that it is possible, in some circumstances, for the contractor to be entitled to ‘double dip’ by claiming delay ‘damages’ pursuant to clause 41.1, in addition to its time related costs under clauses 36.2 and 36.4.

In light of the above, there is some merit in contractors arguing for variations to be included as ‘compensable causes’, however in practice, this simply substitutes one problem with another.  In my experience, the problem is best addressed by amending (for example) clause 36.4 to expressly include time related costs, and clause 34.9 to operate only where 36 does not.  Ideally, the definition of ‘compensable cause’ should be amended to relate only to breaches by the principal.  As long as the contract uses the word ‘damages’, it is only natural that they arise in relation to a breach of contract.  This, of course, raises red flags to contractors and protracted negotiations often ensue.  Such amendments however are not aimed to allocate risk, but to simply enable the contract to operate as intended.

Thankfully, the draft AS 11000 (issued for public comment in January this year) goes some way to clarifying this issue.  For the first time, the contract includes a clause dealing with delay damages (clause 37.22) and a clause dealing with delay costs (clause 37.23).  Relevantly, the contractor’s entitlement to delay damages is limited to ‘acts of prevention’ by the principal (which is not limited to breach, but does expressly exclude variations).  Accordingly, the contractor is entitled to claim ‘delay costs’ as part of its variation claim.

While the draft AS 11000 still applies delay ‘damages’ quite broadly, the new drafting should enable amendments narrowing that application to acts of breach to be less controversial to contractors.  This is because contractors have traditionally (and understandably) only taken issue with these type of amendments to seek to preserve their entitlement to claim time related costs for variations, latent conditions and principal suspension, not to actually claim ‘damages’ for breach of contract.

Liquidated damages: not negotiable

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Liquidated damages (“LDs”) clauses are par for the course in standard construction contracts. These clauses provide that a contractor is required to pay a pre-determined sum of money, as damages for breaching a particular term of a contract (eg failing to complete the works on time). LDs can benefit both parties to a contract by:

  • providing contractual certainty;
  • not requiring proof of loss;
  • simplifying disputes;
  • inducing performance; and
  • providing a cap on liability.

The topic of LDs is often a red flag to contractors, and so it should be. No contractor wants to be liable for LDs, regardless of the quantum. No amount of planning or program contingency can guarantee that a contractor will not fall behind schedule or miss critical milestones (such as practical completion). Some contractors seek to deal with this issue by simply ignoring it during contract negotiation. The contract is signed and put in the drawer until the project is delayed, and only then do they realise the extent of their exposure.

However, too often, the temptation for parties is to negotiate the sum of LDs at the time of entering into a building contract just as they would any other commercial term. Whilst it seems commercially ideal for the parties to ‘agree’ to the sum of liquidated damages, this is problematic for three reasons.

The first (and perhaps the basis for the second and third reasons) is that, in practice, any agreement reached will depend on the extent of the parties’ bargaining power. Ironically, large contractors with more commercial sway can often negotiate lower LD rates than small builders with no bargaining power (and no way of satisfying such large LD liabilities). This of course has its own inherent risks to the success of a project.

Secondly, at common law, liquidated damages must be a “genuine pre-estimate” of the loss that will be suffered by the non-breaching party in the event that the works are not completed in time. If the amount of LDs cannot be proven to be a genuine pre-estimate of loss as at the time of entering into the contract, it may be held to be a penalty at law and the LDs clause will be unenforceable.  So, if the negotiated LDs rate is too high, there is a real risk that it will be classified by a court as a penalty. But, to prove that a LDs provision is penal would require the aggrieved contractor to commence legal proceedings, which are expensive, stressful and time-consuming. Even then, the contractor may still be liable to the principal to pay such amounts of damages as the principal can satisfactorily evidence. For these reasons, in practice, the fine line between what is a ‘genuine pre- estimate’ and what is a ‘penalty’ is rarely tested.

Thirdly, if the negotiated LDs rate is too low, it may mean that the principal effectively ‘caps’ its ability to recover loss in relation to the particular breach of contract. LDs are usually the sole remedy in relation to a particular breach, so, once the breach occurs (eg failure to bring the works to completion by the date for completion), the principal’s entitlement to recover actual loss is limited to the agreed amount of LDs. A failure by the principal, at the time of entering into a contract, to properly assess the potential heads of loss that it will be exposed to for a later breach of contract can place a wronged principal in a very frustrating and costly position.

Further to the above, there are real dangers in agreeing LDs clauses which only provide for nominal or “nil” damages, or which state that the LDs clause is “not applicable”. As LDs are usually the sole remedy, such clauses may have the completely unintended effect that the contractor is absolved from any liability for damages for late completion or non-performance. In those circumstances, the principal should delete the LDs clause in its entirety and preserve its rights to rely on general damages.

LDs are a useful tool for risk allocation between parties but developers and contractors should ensure that LDs clauses are used properly and avoid the pitfalls set out above.

Time is money – the importance of drafting and contract administration

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The recent Supreme Court decision in Champion Homes Sales Pty Limited v DCT Projects Pty Limited [2015] NSWSC 616 provides a timely reminder of the importance of contract drafting and administration, particularly in respect of extension of time claims and liquidated damages.

Extensions of time

Ordinarily, a construction contract will set out a clear regime for a builder to claim extensions of time (EOTs). Often, builders are contractually time barred from making any claim for an EOT if they do not comply with the contractual regime.
In this case, the contract had the following EOT regime:

  1. The builder was required to give a written notice of a claim for an EOT, which detailed both the cause of the delay and the time claimed. The claim had to be made within 10 workingdays after the builder became aware of “both the cause and extent of the delay”.
  2. Assuming the builder complied with its notice requirements, the builder was entitled to the EOT claimed unless notice disputing the EOT was given by the principal to the builder within 5 working days of the builder’s notice, which detailed the reasons why the EOT was disputed.

The project was delayed. The builder submitted a number of EOT claims for different causes of delay, including variations and adverse weather.

In assessing whether the builder was entitled to an EOT, essentially, the Court assessed whether the builder had complied with the EOT regime under the contract. The Court found that the builder was entitled to give notice of its claim for EOTs in respect of variations when the variation work was completed because that was when the builder would become aware of both the cause and extent of its delay. Further, the Court found that the principal had failed to issue notices disputing the
entitlement to EOTs, in accordance with the contract.

Separately, the Court found that the builder was not entitled to EOTs claimed for adverse weather because the builder had not given notice of those delays in accordance with the EOT regime under the contract.

Ultimately, the Court found that the builder was entitled to a number of EOTs, which significantly reduced the principal’s entitlement to liquidated damages for the builder’s delay in achieving practical completion.

Liquidated damages

The builder attempted to defeat the principal’s claim for liquidated damages by relying on the ‘prevention principle’ to assert that the builder was prevented from completing the work by the time stated in the contract due to the conduct of the principal.

The Court did not accept the builder’s reliance on the prevention principle in circumstances where the contract set out a clear regime to claim EOTs and the contract provided for liquidated damages.

The Court relied on the decision of Cole J in Turner Corporation Ltd (rec and mgr apptd) v Austotel Pty Ltd (1994) 13 BCL 378, in which his Honour said:

“If the Builder, having a right to claim an extension of time fails to do so, it cannot claim that the act of prevention which would have entitled it to an extension of the time for Practical Completion resulted in its inability to complete by that time. A party to a contract cannot rely upon preventing conduct of the other party where it failed to exercise a contractual right which would have negated the affect [sic] of that preventing conduct.”

As noted above, the builder had failed to comply with the EOT regime for some claims. The Court found that the principal was entitled to liquidated damages, albeit for a much reduced amount, once EOTs (that had been properly claimed under the contract) were taken into account.

Issues to note for principals and builders

Contract drafting

In this case, to claim an EOT, the builder was only required to first notify the principal when it became aware of “both” the cause and extent of the delay. The Court accepted that the builder may only become aware of the extent of the delay for variations when the variation works have been completed. Thus, the principal only became aware of the extent of the delay to the date for practical completion once the variation works had been completed.

Principals should protect themselves by requiring builders to notify when they become aware of something that may cause delay (within 5 or 10 days), as a prerequisite to claiming an EOT. With respect to variations, any claim for a variation should include an EOT claim, including the extent of the delay claimed. Thus, the principal should be fully aware of the effect of a cause of delay/variation on the date for practical completion before variation works are carried out rather than getting a nasty surprise once variation works are completed.

Contract administration

Notwithstanding the above, the principal could have preserved its position in relation to the EOT claims by issuing a complying notice disputing the EOT claims within 5 business days. In response to a number of EOT claims, the principal did not do so, which was fatal to its defence to the EOTs claimed.

Further, the builder failed to submit timely EOT claims for adverse weather and the Christmas shutdown period, which disentitled the builder from claiming those EOTs.

Poor administration of a contract is often fatal, particularly contracts that include time bars. At the start of any project, principals and builders should inform themselves of the administrative requirements of the contract to ensure they protect their rights and entitlements.

Liquidated damages

Principals should note the restatement of the law in relation to the prevention principle. That is, the builder cannot rely on the prevention principle in circumstances where it has waived or failed to properly exercise its rights and entitlements under the contract.