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Construction Contracts – Make sure you have one!

Construction law expert Karen Shaw reviews a recent judgment which highlights the importance of getting documentation finalised before starting any construction work. An expensive lesson learnt by a big company that can be applied to all working in the industry.

A recent High Court judgment, Electrix Limited v The Fletcher Construction Company Limited [2020] NZHC 918 highlights the risks of loose procurement practices in the construction industry.  Despite being a project of significant size the issue was, surprisingly, whether or not the parties had concluded a subcontract between them.

The background to the dispute was the construction of the Justice and Emergency Precinct in Christchurch which was widely reported to have become a “troubled project”.  Fletchers was the head contractor and it engaged Electrix to carry out the electrical work.

Fletchers issued Electrix with letters of intent in respect of the works totalling around $14 million.  Fletchers paid Electrix $21 million and Electrix sued Fletchers for a further sum of approximately $7 million.  By way of counterclaim, Fletchers said it had overpaid Electrix by $7 million.

Fletchers argued that it had a partly written partly oral contract with Electrix but the High Court rejected that position.  Although Justice Palmer agreed with Counsel for Fletchers that it was inherently unlikely that these commercial parties would have undertaken, and paid for the electrical works on the project without agreement on contractual terms he added, “But that is what they did”.  His Honour found that there was nothing in the evidence to establish that Fletchers and Electrix had ever agreed to be bound at any particular point in time or reached agreement on the core essential terms for the provision of Electrix’s services, particularly the contract price.

The fact that there was no contract between the parties meant that the claim had to be determined on the basis of quantum meruit.  This doctrine applies where, although there is no contract, one party provides services to another on the basis of a reasonable expectation that they would be paid a reasonable sum for the services provided.  Here the Court referred to the “amount deserved” for the works.

Determining an “amount deserved” over the span of an extensive construction project is no easy task.  Here the project had not progressed well.  There had been no detailed designs completed for the works.  The project was also poorly managed and, without clear design processes, works were carried out on an ad hoc basis, there were numerous design changes and electrical works needed to be redone due to poor sequencing and other issues.  Justice Palmer, reviewed the expert evidence, and decided that Electrix’s costs of actually providing the services was the appropriate starting point before adding a market related profit to that amount. The end result was that Electrix recovered its claim sum of approximately $7 million.  On the other hand, the Court dismissed Fletcher’s counterclaims which Justice Palmer considered had an “air of leverage or distraction rather than serious claims”.

This case illustrates the obvious risks of starting construction works before the contractual formalities are completed.  Parties to a construction project need to carefully consider the use of letters of intent and memoranda of understanding which often expressly record an intent to negotiate the formal contract at a later point in time so count against the existence of any earlier agreement.  If such interim arrangements are used, parties need to ensure that the formal contract negotiations are not lost in the mix of a busy project.

A robust construction contract avoids the uncertainty and expense of the contractor having to fall back on quantum meruit arguments or the other party paying on a basis that it did not expect to.  The lessons of this failure by a big industry player can equally apply to smaller contracts and contractors.

 

This article is current as at the date of publication and is only intended to provide general comments about the law. Harkness Henry accepts no responsibility for reliance by any person or organisation on the content of the article. Please contact the author of the article if you require specific advice about how the law applies to you.

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Karen Shaw

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