The life of a construction project may give rise to any number of unforeseen events which could cause the work to be substantially different from what was originally anticipated.
From the outset, parties should agree who bears the risk of remote unforeseen events and insert appropriately worded clauses explaining each party’s entitlements upon the occurrence of those events.
Any assumption that the narrow doctrine of frustration will be available in such circumstances may be filled with disappointment.
What is frustration?
Notwithstanding its complexity, the doctrine of frustration was explained simply by Mason J in Codelfa:
… a contract will be frustrated when the parties enter into it on the common assumption that some particular thing or state of affairs essential to its performance will continue to exist or be available, neither party undertaking responsibility in that regard, and that common assumption proves to be mistaken.
A frustrating event
In order for the doctrine of frustration to apply, a frustrating event must have occurred. But what constitutes a ‘frustrating event’?
An event which brings about a radically different situation
A frustrating event is an event which brings about a situation radically different from that contemplated by the parties at the time the contract was made.
For example, in Codelfa, tunnelling works were agreed on the basis of work being carried out 24 hours a day/seven days a week, but a court injunction restricted hours of tunnelling mid-way through the contract (on grounds of noise disruption to local residents). The court injunction was a ‘frustrating event’ which rendered the contract radically different from that which was contemplated by the parties at the time the contract was made.
The frustrating event must be so game-changing as to cause a party rightly to conclude “this is not the task I promised to do”. Lord Radcliffe in Davis Contractors stated:
... frustation occurs whenever the law recognises that without default of either party a contractual obligation has become incapable of being performed because the circumstances in which performance is called for would render it a thing radically different from that which was undertaken by the contract ... It was not this that I promised to do. (emphasis added).
It is important to note ‘some unusual elements’ in Codelfa which appeared to support the finding of frustration in that case. Codelfa Construction relied on representations by the State Rail Authority of New South Wales that the work could not possibly be impeded by the grant of an injunction. Codelfa Construction and the Authority both accepted, without reservation, erroneous legal advice to this effect. The risk simply was not in the parties’ contemplation. This supported the conclusion that the situation resulting from the granting of the injunction was fundamentally different from the situation contemplated by the parties.
The result in Codelfa may have been different if the parties knew that there was a risk of injunctions, even if that risk was very remote.
An event which occurs mid-performance
A frustrating event must occur during the performance of the contract.
The event must occur after the contract has been made. Unfortunate and/or oppressive factors which already were in existence at the time of formation, and only ‘came to light’ mid-performance, are not within the ambit of the doctrine of frustration.
For example, in Burmic Pty Ltd v Goldview Pty Ltd , neither party realised that local law prohibited them from mounting an advertising billboard on the rooftop of a commercial building. The parties unwittingly entered an unlawful lease to rent the advertising space which never was capable of operation. The District Court found that the law making the lease illegal was a frustrating event rendering the contract unworkable. The Court of Appeal overturned that decision, finding that at all times before and during the contract, the lease was prohibited by local law. The fact that neither party knew their contract could not operate until mid-performance was immaterial.
Neither party has assumed the risk
In order for the doctrine of frustration to apply, it is essential that neither party has taken on the risk that the frustrating event will or may occur.
Even if neither party has expressly taken on the risk of the frustrating event occurring, courts willingly assume that parties enter contracts ‘in the face of an uncertain future’. An unqualified promise usually will be regarded as an undertaking to perform obligations notwithstanding the course of events.
In determining whether a party impliedly assumed a risk of the frustrating event occurring, courts will examine the commercial risks and surrounding circumstances of the agreement.
This is important to keep in mind, given the many risks, swings and roundabouts in any construction project.
The effect of frustration
At common law, a frustrated contract results in the automatic discharge of all unperformed obligations by either party. Where the contract has been partly performed before frustration, but no contractual rights have accrued in respect of such part performance, the view is that the 'loss lies where if fall' and that neither recovery of money paid nor compensation for partial performance is allowed.
For example, if a client has made progress payments to a contractor to supply and install equipment (before the work has been carried out) and the contract becomes frustrated, at common law the client may not be entitled to recover those progress payments.
Clause 40 of the general conditions of contract AS4000–1997 deals with the consequences of the contract becoming frustrated. However, the clause does not define frustration or the scope of its application. The effect of the clause gives the parties certain rights:
- to payment for work under contract carried out to the date of frustration;
- to recover costs of materials and equipment ordered and demobilisation costs caused by the frustration; and
- to recover the relevant security provided to the other party under the contract.
In New South Wales, legislation governs the effect of frustration. Its effect is to allow the court to adjust the position of the parties after frustration to prevent unfairness, so that money already paid under a frustrated contract may be recoverable and performance already rendered may be compensable. Parties can avoid the effects of the Act by contracting out of it. Otherwise, the legislation does not affect (or broaden) the common law doctrine of frustration.
When negotiating construction contracts:
- parties should assume that the doctrine of frustration will not be available in the event of a remote unforeseen event; and
- from the outset, parties should agree who bears the risk of remote unforeseen events and insert appropriately worded clauses (for example in the Force Majeure or Extension of Time clauses) explaining each party’s entitlements upon the occurrence of those events.