An owner of a defective building (assuming liability is established) is generally entitled to recover as damages, the cost of rectifying the defective work. In the seminal case of Bellgrove v Eldridge (1954) 90 CLR 613, the High Court stated that this principle is subject to one qualification - that the rectification work must be a reasonable course to adopt.
In the case of Scott Carver v SAS Trustee Corporation  NSWCA 462, a Court-appointed Referee made a finding of fact (based upon expert valuation evidence) that defects in a commercial property had no effect on the value of the property as a whole. The NSW Court of Appeal held that in the circumstances, the subsequent sale of the defective building was not a reason for concluding that SAS Trustee Corporation ("SAS") did not suffer a loss, upholding the Bellgrove principle as binding authority in NSW and upholding the decision of the Referee and the Master (adopting this aspect of the Referee's report) at first instance that SAS was entitled to recover the cost of rectification as damages for breach of contract.
SAS was the owner of the Zenith Centre at Chatswood, an office development containing two towers. Works were carried out joining the two towers by means of a glazed pavilion. Following practical completion of the pavilion works, a variety of defects emerged. SAS commenced proceedings against the architect and a number of contractors in relation to the defects, claiming as damages, the cost of rectifying those defects. More than a year after SAS commenced proceedings, it sold the Zenith Centre to a property trust. The sale of the building was part of a rearrangement of trust affairs, whereby SAS sold six major commercial properties (with a total value in excess of $1 billion) to a trust and then took up 50 percent of the units in the trust. The purchaser obtained a valuation of the Zenith Centre of $170 million. This was the basis of the sale price. From the sale price, the vendor and purchaser agreed to deduct an amount which represented the estimated cost of rectifying the defects in Zenith Centre. SAS retained the causes of action. At the time of the sale none of the defects had been rectified.
Court of Appeal
At first instance, Master Macready held that the Referee correctly found that SAS was entitled to recover damages from the defendants (see SAS v Scott Carver  NSWSC 1097). Having considered a number of cases, including Bellgrove, the Master concluded that SAS was entitled to the cost of rectification of the defects in the pavilion because rectification would be reasonable and it was irrelevant that the property had been sold or that the valuation evidence was that the defects did not reduce the value of the property. The valuation method used a discounted cash flow model of the future rental returns of the property from commercial tenants, the Court accepting evidence that the presence of the defects did not affect the future rental income stream.
The defendants appealed to the NSW Court of Appeal. They argued that the principles in Bellgrove were merely a sub-rule of the fundamental compensatory principle for breach of contract, namely that a plaintiff should be awarded a sum that would put it in the same position it would have been, but for the breach of contract. They did not challenge Bellgrove's correctness, but said that
- Bellgrove stands for the proposition that the measure of damages for defective building work is the cost of rectification
- while it was irrelevant to the question of the reasonableness of rectification whether the rectification works would be carried out, it is always a material consideration if there is a factual finding that the plaintiff would not do the rectification work or if the property had been sold.
The appellants relied on statements of Justice Giles in Central Coast Leagues Limited v Gosford City Council (CommD, 9/6/98 at 215-7) and Hyder Consulting (Australia) Pty Ltd v Wilh Wilhelmsen Agency Pty Ltd  NSWCA 313 at  per Justice Giles and at  per Justice Sheller, in support of their argument, to the effect that if it is found that rectification work will not be carried out, the cost of rectification work should not be included in the assessment of damages.
The NSW Court Appeal (Justices Hodgson, Ipp and Bryson) dismissed this aspect of the appeal, upholding SAS's entitlement to recover damages.
Justice Hodgson accepted that the limitation on recovery of rectification costs as set out in Bellgrove was that rectification must be a reasonable course to adopt. His view was that taking the decisions in Central Coast Leagues and Hyder in their true context, there is no inconsistency in the authorities. If, however, one took Justice Giles' comments in those cases out of context and in an unqualified manner, he doubted as a general principle that if it is found that rectification work will not be carried out, the cost of rectification work should not be included in the damages. He held that the principle that damages can be recovered on the basis of rectification costs where the owner may or may not carry out the rectification is only displaced if there are "supervening circumstances that show with substantial certainty that this will not happen." He did not regard the finding of fact by the Referee that the value of the property was not affected by the defects plus the sale of the property as "supervening circumstances" sufficient to displace the Bellgrove measure of damages.
Justice Ipp agreed with Justice Hodgson's conclusions, and with Justice Gibbs' statement in Director of War Service Homes v Harris  QdR 275 that a subsequent sale by the owner of a defective building before remedying the defects is a matter that is of no concern to the liable party, since their liability has already accrued. Justice Ipp regarded the "reasonable course to adopt" limitation in Bellgrove as being aimed at determining whether the cost of remedying the defect in issue is out of proportion to the achievement of the contractual objective. To hold otherwise, he said, would provide a windfall to the party in breach of contract.
Justice Bryson held that the Master correctly applied Bellgrove. He regarded the submissions of the appellant on damages as an invitation to depart from the binding authority of Bellgrove which he declined to do.
Special leave refused
Four of the defendant parties filed applications in the High Court of Australia seeking special leave to appeal from the decision of the NSW Court of Appeal on the issue of the entitlement of SAS to recover damages. The High Court refused special leave, leaving the decision of the Court of Appeal undisturbed.
In delivering the decision of the Court, Justice Kirby stated that the applicants did not challenge what was said by the High Court in Bellgrove, nor did they seek to modify the Bellgrove principles. If leave were granted, he held that it would involve the Court doing no more than applying the Bellgrove principles to the particular factual context of this case and that was not regarded as a matter that warranted a grant of special leave. He also stated that whether a subsequent resale of a defective building deprived parties of an entitlement to damages in accordance with the principles in Bellgrove might in future be a question that would attract a grant of leave, however the reduction in the sale price by SAS in this case rendered it an inappropriate vehicle for special leave.
When considering the measure of damages for breach of contract for defective building work, Bellgrove remains the starting point for the assessment of damages.
A plaintiff that has established a breach of contract is, prima facie, entitled to damages equivalent to the cost of rectifying those defects so long as rectification is a reasonable course to adopt. As Lord Jauncey said in Ruxley Electronics Ltd v Forsyth  AC 344, "[I]n taking reasonableness into account in determining the extent of loss, it is reasonableness in relation to the particular contract and not at large."
The decision of the NSW Court of Appeal casts doubt on the unqualified application of the decisions in Central Coast Leagues and Hyder. Justice Hodgson appears to regard the authorities in NSW as consistent, but not if statements by the judges in each case are taken out of the context of their particular factual circumstances.
It remains to be seen what may constitute "supervening circumstances that show with substantial certainty" that an owner will not carry out rectification works such as to displace the Bellgrove principles as described by Justice Hodgson.
As a practical issue, parties to transactions involving the sale of commercial properties always need to give careful consideration as to how the rights of both the vendor and the purchaser can be protected so as to ensure that parties responsible for defective work can be pursued for damages. There are a range of options to which parties may give consideration, dependent upon the nature of their commercial bargain as to which entity will take the risk of existing and latent defects in a building.
The authors were part of the Clayton Utz team that acted for SAS Trustee Corporation.