Chris Kirkby-Turner (l) and Chris Whittington
Chris Whittington and Chris Kirby-Turner, of law firm Thomson Snell & Passmore, argue that clients’ awareness of bank expectations on loan finance is at a post-recession low.
With any recession, the construction industry is always “last in, last out”. Projects started before recession hits still provide a degree of work as they are built out, but new orders dry up once it bites.
Once it ends, there is the lag while investors test the water to see if it really is over, bring back mothballed projects and arrange finance for new projects, and finally place orders with contractors.
But what of the long and bruising recession just ended? Is it still casting a long shadow or is it now firmly in the past? And what do developers, developer-contractors and contractors working for bank-financed clients need to be aware of in terms of lenders’ requirements?
The availability of finance for construction projects continues to be an issue, although as confidence returns it appears the purse strings are loosening. Inevitably, lenders’ requirements are more stringent than they once were and there is evidence that there can be a lack of understanding on the part of developers as to what is required of them.
This seems more prevalent among small-to-medium-sized developers: the lull in this category of developments over the last few years means that there can be significant gaps in knowledge as to what will be needed under the finance agreement, particularly regarding construction documentation. Among lenders too, through on-going streamlining, older, more experienced personnel are moving on, bringing a risk that the level of relevant expertise is being diminished.
A lack of appreciation or knowledge as to what construction documentation the lender will require can lead to serious problems for a developer. Inexperienced developers, and those without proper advice, may be tempted to start getting the project off the ground without thinking about what input the lender is likely to require in terms of construction documentation to protect its investment.
The documentation the lender will want to have will vary from project to project. It is likely, however, that the lender will want at least the following, in a form approved by the lender, in place before drawdown commences:
- The building contract
- Professional consultants’ appointments (for example architect, engineers, costs consultant, CDM Co-ordinator)
- Relevant subcontracts (where there is material design responsibility)
- Collateral warranties (or, less frequently, third party rights) from the contractor, consultants and relevant subcontractors in favour of the lender.
If contracts such as these have already been executed which do not satisfy the lender’s requirements, this can lead to finance being refused. It may be possible to renegotiate terms so that the requirements are met, but the danger is that the contractor may refuse the new terms, as it would legally be entitled to do, or at the very least will demand extra money for taking on extra risk.
Contractors are at risk in such a situation as well – if funding cannot be secured because the documentation does not satisfy the lender, the project may be halted for lack of funds, with the contractor left out of pocket.
The project chronology will always depend on the development, but it is crucial to have an awareness of the different pieces of the documentation puzzle, and how they fit together, from an early stage. Experienced developers, therefore, will look at the lender’s likely requirements while thinking about other aspects of the development, working with experienced construction sector lawyers who can advise on what the bank’s requirements are likely to be, and how these will affect the other documents.
There can be a lack of appreciation that properly drafted documentation will ultimately benefit the developer as much as the lender: quite apart from providing the developer with sensible protection, it can make the development more marketable to purchasers or tenants.
To return to the original question – the recession may officially be over, and for the construction industry, things overall are moving in the right direction and should continue to do so. The ability to secure project funding will play a large part in this, so there are benefits to all concerned of ensuring that the project is properly set up from the start with suitable documentation.
Chris Whittington and Chris Kirby-Turner are part of the construction law team at south-east law firm Thomson Snell & Passmore
