Construction Law Bulletin

"Bare Bones" Privilege Clause not Enough

In a tight labour market, calls for tenders may be answered by a small number of bids, each exceeding the owner's budget. Owners may need to restructure the project, revise the scope of work and negotiate with the bidders or other parties. Bid documents normally contain a privilege clause to allow some flexibility, but a recent decision of the Nova Scotia Court of Appeal in Port Hawkesbury (Town) v. Borcherdt Concrete Products Ltd., 2008 NSCA 17, serves as a cautionary tale for owners who attempt to rely too heavily on "bare bones" privilege clauses and do not have other tools in their bid documents to avoid liability.

In 2003, the Town of Port Hawkesbury was building an arena with seating for about 1,000 spectators. The Town issued a bid for the manufacture, delivery and installation of pre-cast concrete bleachers. The bid documents contained the following "bare bones" privilege clause, "the Owner reserves the right to reject any and all Tenders that, in its sole discretion, are not in the interests of the Town of Port Hawkesbury."

Borcherdt Concrete submitted a compliant bid that was substantially over the Town's budget. The Town extended the bid time and added a second optional scope of work. At the end of the extended period, however, Borcherdt was still the only bidder and not only were both of its bids over-budget, it had actually increased its original bid by $10,000.

What the Town did then is the focus of the dispute. The Town had a quick conversation with Borcherdt to determine whether their bid could be substantially reduced but only minor reductions were possible. The Town explored it's options and then, without rejecting Borcherdt's bid, began negotiating with a third party on the basis of a different scope of work. A month later, the Town advised Borcherdt that its bid was rejected, and another month later, inked a deal with the third party for a limited scope of work on the basis that the Town itself would perform certain work. Borcherdt sued for breach of the implied term of good faith and fair treatment.

The Nova Scotia Supreme Court and the Court of Appeal both found in favour of Borcherdt on the basis that, unless expressly excluded, it is an implied term that an owner will treat bidders fairly and equally. The fact that the Town waited to formally reject Borcherdt's bid, and that the Town negotiated with a third party in the meantime, is, the Town argued, permitted because of the privilege clause permitted the Town to reject Borcherdt's bid. Both levels of court disagreed, concluding that while even a "bare bones" privilege clause did not require the Town to proceed with Borcherdt's bid, the privilege clause does not excuse the Town's otherwise unfair or unequal treatment of a compliant bidder.

In particular, the trial judge found several breaches of duty. First, the Town contracted with a non-complaint bidder – itself. In an interesting twist, the Court concluded that the Town, by doing certain installation work themselves, became a bidder for its own work, and as such, awarded the work to a non-compliant bidder.

Second, third party negotiations and scope changes after the opening of the bids were not part of the process envisioned by the bid documents. The fact that the Town engaged in this activity while Borcherdt was still "on the hook" under Contract A undoubtedly made it easier for the court to find this to be a breach of duty.

Third, the court found that the Town engaged in bid-shopping. Defined broadly, bid shopping is the use of the information gained in the course of a bid as a negotiating tool, with a view to obtaining a better price or other contractual advantage from a bidder or any other party. The courts accepted that the Town did not disclose Borcherdt's bid to the third party, but was able to use the information as a "yardstick in measuring the third party bid".

So what should the Town have done in these circumstances? The trial judge looked to the Construction Contract Guidelines, prepared by the Province of Nova Scotia Office of Economic Development, Procurement Branch for guidance. The trial judge conceded that guidelines are not enforceable, but that they "are a measure in assessing what may be appropriate in terms of fair treatment". As a result, at a "bare minimum" the Town should have advised Borcherdt that there was a change in the scope of the work or at least, that it was negotiating with a third party. We can extrapolate that what the court was looking for was a real attempt to allow Borcherdt to participate in the process and be given a chance to revise their bid to the revised scope of work.

This reasoning is only helpful to a point and an owner in similar circumstances may nonetheless be left wondering exactly what to do. Just how much negotiation with an unattractive bidder is necessary to satisfy a judge who, years later, will review the owner's conduct? After bids are opened, an owner can't help but know what pricing to expect, so how can an owner proceed to revise the scope of work and negotiate with bidders or third parties without being accused of bid-shopping? These and other questions create uncertainty about the bidding process for owners, who, if there is any doubt, face a 'tender trap', where if they proceed with party "A", they face a claim by party "B", and vice versa. This reinforces the need to create bid documents that will withstand a rigorous interpretation by the courts. A couple examples of measures that we in our practice commonly run across include opting for a request for proposals instead of a binding call for tenders (including language upheld in Mellco Developments Ltd. v. Portage La Prairie (City), 2002 MBCA 125 (CanLII)) and including a strong limitation of liability clause (like the kind upheld in Tercon Contractors Ltd. v. British Columbia (Transportation and Highways), 2007 BCCA 592 (CanLII)). The right approach will, of course, depend on the needs of the owner and the particular project, but the point remains that "bare bones" privilege clauses are limited in their scope and other means of limiting liability should be explored.

For public sector owners or parties working with public sector owners, this case should also be noted for its application of procurement guidelines–while the court did not enforce the guidelines, it nonetheless noted that the content of the duty of fairness and equal treatment was informed by these guidelines. In British Columbia, for example, be aware of the Agreement on Internal Trade which applies to many public sector entities who are very active in construction in British Columbia.

If you have any questions or comments regarding this article, please do not hesitate to contact Michal Jaworski at 604.891.7747 or by email at mxj@cwilson.com.

Seminar on CCDC 2 – Overview and Refresher

We have planned an upcoming Seminar. The changes between the 2008 version and the 1994 version of CCDC2 will be addressed. The main focus of the seminar will be the use and contents of the updated form. We are holding off on this Seminar, for the time being, until the dust settles some more. Among other things, we have been waiting for the BC Ministry of Finance to weigh in with its views on the insurance, waiver and indemnity provisions (which will be important to many of our clients). More to come on this Seminar later.

In the meantime we have produced our own CCDC2 [2008] Supplementary Conditions, which are ready for use as needed.

If you have any questions or comments, feel free to contact Roy Nieuwenburg, Chair of the Construction Law Group, at 604.643.3112 or by email at ran@cwilson.com.

Property Assessment Issues – Construction Projects

Property assessment of new developments is a greater challenge these days with higher land values, rising construction costs and the accelerated pace of development. Rapidly changing assessed values are making it more difficult to accurately forecast property taxes during the construction period.

Why are property taxes for new developments more difficult to accurately forecast?

Property assessments are completed annually by the BC Assessment Authority (BCAA) and are based on current market conditions. Thus, market changes are captured in assessed values relatively quickly.

If you recently purchased land, you were likely surprised when you received your assessment notice. For 2008, land value assessments represented the largest increase. Strong market conditions have continued to increase land values to a greater degree than those for other property types; consequently, vacant land and properties under construction are carrying a greater tax burden than completed properties.

When determining market values, BCAA estimates the value of the unencumbered fee simple interest. When assessing a parcel of land, the purchase price of the property will generally offer the best evidence of its market value and must be considered in determining its assessed value. It is worth noting, however, that often there are comparatively few sales to rely on when estimating assessment parameters for land, so it is likely that only a limited number of sales in a particular jurisdiction will be heavily relied upon. Furthermore, the sales evidence BCAA utilizes does not provide ideal support for all land assessments, resulting in a number of subjective adjustments.

A second important factor taken into account is the highest and best use of the property. This factor has a tendency to greatly impact the assessed value of potential development sites located within neighbourhoods in transition (hot spots). Sites in these neighbourhoods are often improved with low density, older buildings of negligible value but are zoned for a higher density residential or mixed use. This will result in a property assessment that is much higher than the value for the present use.

Another important issue to note is that in British Columbia, properties must be assessed "at actual value in a fair and consistent manner" to be in accordance with the Assessment Act. This has been interpreted by the courts to establish that a property cannot be assessed inequitably when compared to similar properties in the same jurisdiction. Accordingly, it is important to confirm that the assessment of a recently purchased property is equitable with similar properties in its jurisdiction. The assessed value of the purchased property cannot increase from the previous year disproportionately relative to similar properties.

Currently, the City of Vancouver is the only municipality in British Columbia that has a mechanism to soften the impact of significant changes in assessed value. Since 1993, the City of Vancouver has applied a three-year land averaging system in order to cushion the impact of changes in the assessed value of most residential and commercial properties. This technique uses the average land value of the current year and that of the two years prior in calculating each property's current assessed value.

How will the project be taxed while it is under construction?

Since property assessments are completed annually and sent to owners the first week of January, partially complete buildings will appear on the Assessment Roll based on the physical condition and permitted use as of October 31st in the year prior to the assessment year. There is no phase-in tax mechanism in British Columbia. This means that for the 2008 assessment year, the assessed improvement value is based on the property's physical condition as of October 31, 2007.

BCAA tends to use the Cost Approach to estimate the building value for developments under construction. This methodology is based on the principle of substitution, which assumes a purchaser would pay no more than the cost of creating a similar property.

A problem with using the Cost Approach for estimating building value assessments is that it is based on a theory of value rather than on actual market evidence. Such a value may not equate to market value. Where evidence of market activity exists or market value can be derived using market based analysis, the results of the cost approach need to be tested by comparison of an alternative approach.

Once the development is complete, BCAA will utilize the Income Approach to estimate the assessed value for most commercial properties. It is important to verify that the correct method of valuation is utilized for construction projects, especially if the project is nearing completion in October. A change in valuation methodology could lead to a lower assessed value.

Can a construction project benefit from a residential tax class?

It is important to consider the present use in addition to the highest and best use. The present use will establish the current classification of a property, while the highest and best use is utilized for estimating the current assessed value.

As commercial tax rates are typically several times higher than residential rates, it is crucial to ensure that a property has been properly classified, and if applicable, that the split between classes is correct.

Property classification is based on the actual use of the property as of October 31st in the year prior to the assessment year. Typically, if construction has not commenced, then classification is based on the current zoning. If the construction is underway as of October 31st, however, then classification should be based on the use in accordance with the Development Permit. Stratification or the creation of air space parcels could also lead to a beneficial classification.

In summary, it is important to carefully audit your assessment (value and classification) prior, during and after construction. Your assessment could be reduced if appealed through valuation provisions, non-assessable construction costs or classification change.