Passing the baton

Rebecca Williams, Partner in the dispute resolution group at Watson Farley & Williams LLP, tells Matt Lamy what members in England need to know about novation.

Novation is a legal process where an existing contract is terminated and replaced with a new contract involving at least one different party. It’s a way to transfer both the rights and obligations of a contract, though the details differ from country to country.

The Construction Industry Council (CIC) released a risk management briefing on the novation of consultants’ appointments in May, which set out guidance on the implications of novation in design and build procurement. Rebecca Williams has been practising in this area for more than 20 years.

First of all, what is novation and how does it differ to, say, assignment?

The key difference concerns the transfer of rights and obligations. With an assignment, you only transfer your rights under a contract but not your obligations – that is, the responsibility – to another party. For example, party A could transfer its right to receive goods from party B to party C. Despite the assignment, party A still has the obligation to pay party B for those goods.

Assignment doesn’t have to require the consent of all parties, although in the construction industry contracts we typically come across – and I would include contracts or notices of appointment with consultants in this – they frequently require notice of assignment, or consent.

Novation is the creation of a new contract (that replaces an existing contract) between an incoming party and an existing party to the original contract. It results in the transfer of both rights and obligations to the incoming party and requires the consent of the transferring party, the original counterparty and the incoming party.

An example of where novation is frequently used is where an employer is also a developer. At the beginning of a development, the employer might engage several consultants – architects, engineers – to produce the design before engaging a contractor to construct the project. When a contractor is engaged, the notices of appointment – the contracts with the architect, the engineer – are then transferred, or novated, to the contractor and the contractor assumes the rights and obligations in respect of the consultants that the developer previously had.

What is the benefit of novation?

Developers of large-scale commercial, residential or mixed-use projects will frequently opt to engage the main contractor on a ‘design-and-build’ basis. The developer might want a certain calibre of consultants at the outset, and certain architects and engineers to work up the design so that they can then tender for the works. This gives the developer control over the selection.

Frequently, in a design-and-build scenario, once the contractor has been selected the developer and the contractor agree that, via novation, the contractor will take on those consultants. The developer has secured, from their perspective, a certain quality in terms of the design and specification.

Then, by way of the novation of the notices of appointment and subcontracts to the contractor, the developer also has the benefit of a single point of responsibility. With the contractor now responsible for the contracts of the consultants involved in the design, if there are any problems – such as defects with the engineering – instead of the employer having to identify whether to sue the architect or the engineer or the contractor, it all falls under the ambit of the contractor.

But does novation put the consultant in some difficulty as they have essentially been working for different teams at different stages of the same development?

I think that can be a problem. The interests and objectives of the original employer – the developer – and the interests and objectives of the contractor might not be precisely aligned. The developer is principally interested in the result, whereas a contractor also has to consider cost efficiencies and pricing considerations, because ultimately they need to make money from the exercise.

Had the consultant been engaged with the contractor from the outset, they might have been more motivated to try and look for efficiencies or to design things in a certain way that would be more beneficial to the contractor, while still achieving the result.

Equally, could the consultant be viewed with some suspicion by the contractor because they have been put in place by the employer?

Yes, I think that can also be true. I had a situation where we were acting for a developer involved in high-end residential developments to an extremely high spec. They engaged very good consultants, architects and engineers.

Once the contractor was selected, the contracts were novated on a design-and-build basis, but that contractor was ill-suited: they weren’t as committed to the spec and the quality of the design. Although the notices of appointment were novated, I would say that the contractor didn’t work with the consultants to realise the scheme; the contractor essentially pursued their own course that did not align with the objectives of the developer and the consultants.

That kind of situation puts the architect and the consultants in a difficult position because they are transferring to a party whose vision is very different to the vision that they were originally helping to realise. In that specific instance, the consultants involved couldn’t deal with that contradiction – it ended up in multiple adjudications for aspects of the project that went very badly wrong.

So, what advice would you offer CABE members to avoid potential pitfalls with novation?

My first piece of advice leads on from what we’ve just mentioned. Once a contract or a notice of appointment is novated to a contractor, then that is who the consultant owes duties to and who they have obligations to. They must be mindful of that. Any ongoing obligations towards the outgoing party puts them in a conflict of interest.

The second piece of advice is that you must be careful about the way risk is being allocated in any novation. The CIC briefing outlines two approaches to novation: ‘novation ab initio’, which creates the fiction that the contractor in a design-and-build scenario has been the consultant’s client from the beginning, or ‘switch novation’, which distinguishes two separate periods of appointment – first with the developer and then with the contractor. My opinion would be to recommend switch novation for consultants.

Consultants must ensure they are not taking on liability that they shouldn’t be. They need to ensure they legislate for the fact that, for part of their work – for the period prior to the novation, when they weren’t contracted at all to the contractor – consultants owed their obligations to a different party. Consultants must therefore be alert to any provisions where they assume duties and obligations to the incoming party before the contract was novated.

Getting novation right can be complex to navigate, and it is an area where expert advice is essential. That applies to all parties, not just the consultant, because it is essential that the ability to seek recourse when things go wrong does not fall between two stools. 

For more, visit wfw.com
Read CIC’s Novation Risk Management Briefing at b.link/CIC_briefing

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