Construction Law Training 2014: Dealing with Developer Insolvency

1 July 2014

Alexandra Lavery, Senior Associatealexandra.lavery@olswang.com | + 44 20 70673571

Early precautions against insolvency

•Investigate the Developer’s covenant strength –relevant to any party contracting with the Developer

•Establish the Developer has the ability to comply with its obligations

•Look into the company’s background

•When was the company formed, history since then

•Significant changes in ownership or purpose

•Who are the principals, directors, company secretary

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Early precautions against insolvency

•Review the Developer’s financial standing

•Consider company accounts from the last few years if possible

•If established company –check extent of liabilities

•Any debt between group companies?

•If an SPV –check whether the project assets are SPV property

•Audited accounts v unaudited accounts

•Profit and loss account, Balance Sheet

•If the figures are not transparent obtain specialist advice

•How exposed would the company be if market conditions change?

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Early precautions against insolvency

•Indications of poor governance

•Late filing of accounts

•If the accounts or company returns are late ask why

•Obtain references

•Obtain a credit check

•Are there any claims against the company or group?

•Make sure you are searching the right company!

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Protecting the Funder’s interests

•Condition of funding –acceptable development documents

•Funder’s advisers will review the development documents to establish:

•Building contract based on industry form

•Pass down of all construction obligations to contractor and consultants

•Technical specifications and drawings

•Programme and budget

•Planning requirements

•Consultants’ appointments

•Availability of performance bond and parent company guarantee

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Protecting the Funder’s interests

•Developer obliged to enforce its rights under the Building Contract and Appointments

•Payment mechanism allowing flow down of payment to construction team, or direct payment from funder to contractor

•Restrict variations to Building Contract once approved (contractual variations distinct from variations to works)

•Assignment of key development documents in security

•Availability of collateral warranties or third party rights from construction team

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Protecting the Funder’s interests

•Triggers for termination in the construction documents:

•Material breach which is not remedied after expiry of default notice

•Insolvency

•Contractor and consultants give notice to the funder before terminating

•Allow the funder to step into the shoes of the developer, taking on the developer’s obligations and liabilities under the contracts

•Funder wants the right to:

•Terminate and walk away; and/or

•Insist on immediate assignment of all rights under the building contracts and appointments

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Protecting the funder’s interests

•Consultants’ Appointments in market form should step in be necessary

•No unusual limitations on liability

•Collateral warranties/third party rights

•Assignment in security

•Collateral warranties

•Step in rights –right for beneficiary to step in anytime

•Right to nominate a third party and give guarantee

•Not permitted to terminate without giving Funder notice

•Third Party Rights

•Only give rights not obligations

•Rights conditional upon accepting corresponding obligations

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Protecting the tenant’s interests

•Tenant and developer enter into Pre-let Agreement or Agreement for Lease

•Developer becomes insolvent

•Insolvency practitioner decides whether to complete project

•May result in more income to complete the project and realise the asset

•Depends on IP’s view

•Unlikely to be an express get out for the tenant

•Rely on common law if development remains incomplete

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Protecting the purchaser’s interests

•Purchaser and developer enter into a forward purchase agreement

•Agree on exchange that once the development is complete, the purchaser will purchase the completed development

•If the developer becomes insolvent, the purchaser will want the right to

•Terminate the agreement and walk away; and/or

•Step in to the shoes of the developer

•The step in rights in the construction contracts therefore need to be consistent with the step in rights in the forward purchase agreement

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Protecting the contractor’s interests

•Consider the right to terminate

•Insolvency not always a ground for termination

•Need express right to terminate in construction contract

•Consider whether to agree to retention or a retention bond

•Consider advance payment or shorter payment timescales

•Direct payment from the funder protects both the funder and the contractor from developer insolvency

•Project bank account

•Escrow account

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Once insolvency has occurred

•Looking for signs of insolvency

•Failure to pay contractor and consultants (or late payment)

•Multiple disputes regarding payments or vexatious disputes

•Claims arising on other developments

•Practical steps on insolvency

•Whether it makes sense to step in

•Timing of step in and use of notice periods

•Cost/benefit analysis of completing the development

•Whether to nominate third party

•Whether to employ personnel from developer

•Not possible to then step out

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Questions

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