The cost of poorly-drafted building contracts

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The importance of having in place a written contract is widely accepted in the construction (or any) industry. But are you putting in the time necessary to understand and document your negotiations, so that your rights are properly secured by your building contracts?

An unresolved contractual dispute depletes time and resources and has potential to damage the parties’ reputation and relationship. Disputes have a devastating effect on a building project and if they are not resolved by negotiation between the parties, they will likely escalate to dispute resolution processes, or even to a hearing before a Court.

In many cases, determination of the dispute will turn on the contract between the parties and what it does, or does not, contain. The words of the contract will be scrutinised, and poorly-drafted terms that are unclear or ambiguous can be the undoing of an otherwise valid agreement.

Case study

Incomplete contract terms that lack explanation or process lead to uncertainty. This was the case in Port Macquarie-Hastings Council v Diveva Pty Limited [2017] NSWCA 97.

In 2011, Diveva Pty Limited trading as Mid Coast Road Services entered into a contract for asphalt works with the council, having successfully tendered in 2005 and 2008. The contract contained an ‘option clause’ which merely stated, ‘with a future twelve (12) month option available’.

There were issues regarding one of the projects undertaken by Diveva, with the council claiming that Diveva had failed to comply with certain specifications under the contract. This matter appeared to remain unresolved both at the time when the council notified Diveva that it would not be exercising the option, and when the council advertised for tenders for future works.

In reliance of the contract, Diveva notified the Council that it was exercising the option. It did not take part in any tendering process. No further contract was offered, and Diveva sued the council for breach of contract.

Original proceedings

In the original Supreme Court proceedings, the Council claimed that the option could only be exercised unilaterally by the Council. The Supreme Court disagreed.

The task of the Supreme Court was to determine in whose favour the option worked. In the absence of a clear term in the contract, the Supreme Court was required to look at the overall language used throughout the entire agreement and found that repeated use of the term ‘option’ was a commercial inducement to tenderers.

The Supreme Court determined that, upon its construction, the 2011 agreement ‘conferred an option upon [Diveva] to extend the Agreement for a further 12 month period’. This conclusion was based on the words ‘with a further 12 month option available’ and the meaning of these words determined objectively and within the context of the Agreement.

Hall J considered that the Council could have protected its interests with clear drafting: ‘It would have been open to the Council to simply have said expressly that the option could only be exercised by Council. However, it did not. The Council could have, but did not use the same formulation, as discussed above, “Council reserves the right…” (employed in other sub-clauses in the Agreement) had it wished to make clear that the Council had the right to renew the Agreement for a further 12 month period.’

Diveva was successful and was awarded damages for loss of profits and opportunity.

Appeal

The council appealed to the NSW Court of Appeal, asserting again that the option clause could only be exercised by the Council alone, or at the very least by mutual agreement.

The Court of Appeal arrived at the same conclusion, and the appeal was dismissed. In its judgment, the Court considered that interpretation of the real meaning in the contract relied on the words used and the intent and purpose of the parties.

The Court found that there was an inference throughout the agreement that the council would offer further work to successful tenderers. The words ‘option’ and ‘available’ were used repeatedly in both the agreement and tender request which, according to the Court, deemed the option capable of being exercised by Diveva unilaterally.

The Court also noted that the option clause provided no qualifying matters, hence council’s allegations of the non-complying work would not preclude Diveva from validly exercising the option. But for the disputed works, the Court considered there was a strong likelihood that the council would have entered into a further contract with Diveva, given its track record, previous dealings and knowledge of council works.

Key points

As the option clause referred to in the above case was silent as to the time, method and respective rights of the parties to exercise, the Court was required to determine its true meaning by looking at the intent of the parties and the language used elsewhere in the agreement.

This may have been avoided if the option clause was drafted to provide how and when the option could be exercised, in what circumstances, and by whom. As stated by the Court, had the council required that the option was to be exercised only unilaterally then it was open for it to have included this in the terms.

Keep in mind the following points to ensure that your building contracts can, under tight scrutiny, protect your rights and interests:

  • Your construction contracts should be negotiated, prepared and reviewed with assistance of an experienced construction lawyer. Money spent now can protect your business against loss down the track.
  • Read your construction contracts, highlight the terms that you don’t understand and ask for them to be explained. Ask, ‘what if’, ‘what happens when’, ‘how should’, ‘who might’.
  • Construction projects often comprise several contracts – these need to align and, where relevant, reflect reciprocal obligations and rights. Pay attention to timelines, completion dates, extension and delay clauses and, of course, options.
  • Use precedent contracts carefully – ensure the fields that are likely to vary from build to build are highlighted so that important information can be populated. Don’t rely on the precedent alone – read the entire contract for each project for relevance and completeness.
  • It is easy for important terms to be overlooked or formatting errors to occur when using precedent contracts, particularly if prepared by staff who are unfamiliar with their contents. Appointing a precedent custodian to supervise access to precedent contracts will help minimise some of these issues.

Conclusion

Poorly-drafted contracts can have unforgiving results, and roll-on effects to subsequent building projects.

If you or someone you know wants more information or needs help or advice, please contact us on +612 9248 3450 or email [email protected].