By John Walton
When the Construction Contracts Act 2002 came into force on 1 April 2003, it took some time for the industry to come to grips with the idea that if an owner didn’t respond properly to a payment claim, the entire claimed amount became payable, no matter how much of the claim was justified under the contract.
The need to issue a payment schedule to avoid summary judgment for the full claimed amount soon became apparent, but the requirements for a valid schedule were far from clear. Owners and their advisors required some convincing that a pro forma response, saying nothing is owing or, as one creative quantity surveyor argued, establishing a negative scheduled amount, was not enough.
Sadly, the judgments coming from the courts were far from consistent. That is, until Fletcher Construction’s latest dispute over the $1 billion Commercial Bay development in Auckland went to the High Court (The Fletcher Construction Company Ltd v Spotless Facility Services (NZ) Ltd  NZHC 1942).
The dispute concerned payment under a subcontract for heating and ventilation services. The work was nearing completion and the building close to opening, when Spotless issued its payment claim 44, for over $2 million. Fletcher responded with payment schedule 44, asserting that Spotless had been overpaid by over $4 million. Spotless disputed the validity of the payment schedule, and suspended the works.
With the opening of the building looming, Fletcher obtained an injunction requiring Spotless to lift its suspension (The Fletcher Construction Company Ltd v Spotless Facility Services (NZ) Ltd  NZHC 780), on the basis that Fletcher paid the claimed amount into escrow. The validity of schedule 44, was then referred to the High Court on the basis that, if the payment schedule was valid the funds were to be returned to Fletcher, and if it was not, the funds were to be released to Spotless.
The deductions made by Fletcher fell into three categories:
- $542,962 from the amount claimed for the original subcontract works;
- $752,396 from agreed variations; and
- $4,831,058 in contra charges.
Schedule ruled invalid
After reviewing each of the deductions, Justice van Bohemen found that the payment schedule was invalid and therefore the funds in escrow were to be released to Spotless. In doing so, Justice van Bohemen provided much needed clarity on a number of issues which will have lasting benefit to the construction industry.
First, it was accepted, helpfully, by the parties that there could be no partial validity of a payment schedule; either it substantially complied with the requirements of section 21, or it did not.
Second, in the reliance on the use of experts, Justice van Bohemen re-affirmed that an expert is to restrict the evidence to matters directly within their acknowledged expertise. In this case, the expert’s evidence of the consultation process which preceded the passing of the Act and his opinion on the interpretation of section 21 was held inadmissible. It is for the Court to decide, with the assistance of submissions from counsel, how the Act is to be interpreted; and the interpretation of the payment schedule in the context of section 21 is also a legal question for the Court.
On the application of section 21, the Court took a more nuanced approach than the binary consideration favoured by some. Where the payer (Fletcher, in this case) seeks to certify a sum less than what has been claimed, section 21 requires the payment schedule to “indicate” (1) the manner in which the scheduled amount has been calculated, and (2) reasons for the deduction.
The requirement to “indicate” was acknowledged as being less than “specifying”, allowing for some leeway, for example employing a calculator to establish the percentages of lump sum items completed and eligible for payment.
The reasons for the deductions will depend on the context (previous notifications being accepted), and the amounts deducted. In this case, where the deduction represented only 4% of the amount claimed for some of the work, the non-compliance was held not to be fatal.
Where proportionately large amounts are at stake, for example in relation to the variation claims, then the reasons will need to be more explicit. In this case, simply stating that the claimed amounts were “under assessment” was insufficient.
The more critical issue for Fletcher’s payment schedule was the contra charges, and the way in which these were expressed. The deductions comprised liquidated damages under the head contract and knock on delay charges brought by other subcontractors. For the latter deductions, Fletcher failed to indicate how they arose and how they were calculated. That was held to be insufficient for the purposes of section 21(3).
In relation to the deduction of liquidated damages under the head contract, counsel for Spotless argued that as there was no liquidated damages clause in the subcontract and it was “objectively unclear” how Fletcher could be making the deduction - an argument which is frequently raised in challenging payment schedules.
Justice van Bohemen observed there is no requirement for the deduction to be objectively justified in terms of the contract; section 21(3) simply requires indication of the manner in which the deduction was calculated and the reasons for it. This removes any confusion caused by conflating deductions in a payment schedule with the limitations on counterclaims, set-offs and other challenges under section 79.
Finally, perhaps the most important concept to take away from this judgment is the Court’s endorsement of the approach taken by Harrison J in Metalcraft Industries v Christie:
“The specific purpose of the payment schedule is to give the contractor full and unequivocal notice of all areas of difference or dispute to enable it to properly assess its future options.”
John Walton is an arbitrator, adjudicator, and commercial mediator, based at
Bankside Chambers, Auckland.