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Avoid novation pitfalls

LAW REPORT

True novation rarely benefits the contractor and can cause confusion, but recent guidelines issued by the Construction Industry Council point to an alternative that clears things up, writes Guy Cottam

NOVATION might not seem the sexiest of topics to write about but if you're a contractor or a consultant, read on - novation can have serious repercussions for you.

Novation is derived from Roman law and occurs when two parties who have a contract between them agree that a third party shall stand in for one of them.

It most commonly occurs in the construction industry when a consulting engineer or architect starts the design of a project under a contract with the client and the client wishes the contractor, when appointed, to take over full responsibility for the design.

The contract between the client and the consultant is then 'novated' to the contractor, who stands in for the client and becomes fully responsible for the contractual obligations in respect of the consultant, as if he were the client.

The process is, of course, fraught with difficulty.

The consultant, with the best will in the world, is still beholden to the client for the work and has undertaken the preliminary design as instructed by the client. During that process promises may have been made of which the contractor knows nothing.

It will also be to the client that the consultant will be looking for future work. It will therefore be difficult for a consultant to switch allegiance from the client to the contractor.

The same can happen if the original client sells the project to another employer before the work is started. In that case the consultant will have a new employer.

A man cannot work for two masters and it is often questioned whether this procedure properly serves the interests of any of the contracting parties - client, consultant or contractor.

To give guidance on this delicate subject the Construction Industry Council has produced a liability briefing entitled Novation of consultant's appointments on design and build projects.

The briefing explains that there are two different forms of novation agreement currently used in the industry.

The first (and the more satisfactory) is a new agreement that recognises the reality of the situation - that the consultant worked first for the client and subsequently worked for the contractor.This is not really a novation but a replacement contract.

The second, which is a true novation, introduces the fiction that the consultant has worked for the contractor throughout.

In both cases it is a pre-requisite that all three parties agree to the change.

To take the second option first, this option is most satisfactory when it is the client which changes.The interests of both the original and new client can, by and large, be expected to be similar.They will both be interested in much the same things: quality, completion date and cost.

But that is far from true for the relationship between the consultant and the client and then between consultant and contractor.

The consultant may not have known when he started work for the client that the ultimate contract would be design and build. He may have advised the client on the tender list and judged the offers of the various contractors and may have expressed views upon them that are conjecture rather than fact.

In pre-contract negotiations the consultant will only have had the interests of the client in mind.

How can he maintain the fiction after novation that he had always worked for the contractor?

The general advice in the briefing is that 'if consultants do consider being novated they should only agree to do so if the services to be undertaken for the client and the contractor are clear and appropriate in each case and if the legal documentation imposes acceptable obligations and liabilities and not more' A true novation is clearly inappropriate to satisfy these requirements.

Which returns us to the first arrangement, a switch of responsibility for the services from a certain date from the client to the contractor.

The sensible way, the briefing suggests, is for the consultant to enter into one appointment with the client stating the services to be provided and another with the contractor stating the services to be provided to the contractor.The main problem with this is that the existing consultants' agreements do not cater for this type of arrangement.They provide for continuity of the services throughout the period of the works.

To get over this the CIC has produced its own Novation Agreement that maintains the client's responsibility for the pre-novation work, and for the consultant to work for the contractor and be liable to him thereafter.

The consultant also warrants to the contractor that, so far as the contractor is liable for the consultant's pre-contract work, such work was performed in accordance with the terms of the appointment.

This arrangement does not impose liabilities upon the consultant that he did not already have and does not impose upon the contractor risks of which he is unaware.

The briefing note concludes with a number of provisions that should be avoided.

An example would be where the consultant is asked to give an undertaking or warranty that he owed a duty of care to the contractor from the outset.This he clearly could not have done since it is unlikely that he even knew the name of the contractor at that time.This type of provision creates potential liabilities which were not present in the original contract that he entered into with the client.

A further example is where the consultant is asked to give an acknowledgement or undertaking that the contractor relied upon information and advice give to the client, or that losses resulting to the contractor from such services were within the contemplation of the consultant when he first entered into the contract with the client.

Again, both these types of provision impose liabilities upon the consultant which he clearly could not have had. In most cases these will be worse than fiction - they will be downright lies.

Those contemplating such arrangements would be well advised to obtain a copy of both the Liability Briefing and the CIC Notation Agreement.

Copies of the Liability Briefing and the CIC Novation Agreement can be obtained from: The Construction Industry Council, 26 Store Street, London, WC1E 7BT.

Key points

Novation transfers performance of a contract from one party to another.

Novation can only be done with the agreement of all parties concerned.

Parties agreeing to a novation must be certain that they are not accepting further obligations they did not have before.

The Novation Agreement should reflect the realities of the situation, not create a 'fiction'.