No one likes delays. Whether it's a rain delay at a sporting event or a subway delay stuck somewhere beneath the city of Toronto, delays cost us time that we would rather have spent doing something else. Sometimes, however, delays can cost not only time, but money as well. In this article, we discuss some of the key issues in calculating economic losses in construction delay claims.
Construction delays can occur for a wide variety of reasons. Sometimes they are caused by negligent work performed by a trade or technical expert that needs to be rectified; sometimes they are caused by unforeseen physical damage to the project. Whatever the reason for the delay, it means that things did not happen when they were supposed to happen.
The end goal in these types of claims, as in any economic loss calculation, is to measure the difference between a) the level of profit the plaintiff would have earned based on revenues and expenses that would have occurred but for the delay, and b) the actual profit the plaintiff achieved following the delay.
A key component in this measurement is establishing the timelines of the project and the impact of the alleged wrongdoing or event on that timeline.
While sometimes this issue is relatively clear cut, in other cases it can be very complex, as it may be possible for a delay in one area of a project to be offset by an acceleration of work in other areas. Moreover, the overall project may have also been affected by other, unrelated delays that will have impacted the projected completion date and the corresponding impact on the project's profitability. This is an area where we, as forensic accountants, are often assisted by other experts.
Delays in completion of a construction project can create a variety of types of economic loss. Below are some common types of economic losses that result from construction delays.
The longer a project carries on, the longer the developer will incur time-related costs. These costs can include rental costs for temporary facilities and equipment, insurance and bonding costs, property taxes as well as financing costs including both renewal fees for loan facilities and the interest on those facilities. Some of these costs are only applicable if the developer plans to sell the building upon completion; others apply in all cases.
It is important to understand the direct impact of a delay on these costs. For example, a delay in the construction schedule will mean that disbursements of construction loan facilities (which are often set up as a "revolving loan" where interest is only charged on the amount used by the developer, similar to a line of credit ) are delayed as well. The delay should generally be measured based on the loan balance at the time the delay occurs, rather than at the end.
In some cases, a construction delay can cause the cost of certain work to increase. If exterior work that was planned to be performed in the summer is delayed to the winter, this can create higher costs. Similarly, if schedules are expedited following the resolution of the delay, then there may be a higher than planned level of overtime expenses incurred.
Loss of rents
If the project is a property that will eventually be leased to
tenants, a delay in completion can result in lost rents, as well as
costs to find temporary accommodation for tenants who were
planning to occupy the new space and cannot continue to lease month-to-month.
Again, in analyzing such potential losses, it is important to isolate those rental losses that are causally related to the delay. For example, if following the completion of the building it is only 60 per cent occupied for a long period of time, then it is unlikely that the failure to lease the remaining 40 per cent is related to the delay.
Losses of rents can also occur in condo building projects. Typically, it is possible for a condo project to achieve interim occupancy several months before substantial completion of the project and the final closing dates of the sale of units. During this interim occupancy period, the future condo owner lives in their condo, although they do not officially own it yet, and the monthly payments made to the developer during this period do not pay down the condo owner's mortgage on the property. An assessment of whether a construction delay impacted the interim occupancy payments collected by the developer is necessary when determining the economic loss.
Loss on selling price
This is an area that can sometimes arise in volatile real estate markets. A delay in completion of a project may result in a reduction in the ultimate selling price the developer is able to achieve on the project.
In some situations, there can be severe penalties for failure to meet construction deadlines. These are not difficult to quantify; the challenge is in determining whether the plaintiff would have managed to avoid these costs even absent the particular delay in question.
In the short space of this article, we have only been able to present a broad outline of some of the major areas we encounter in quantifying construction delay claims. Every case will have its own nuances, but the principles underlying the quantification approach will remain the same.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.