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How do you measure damages when a construction blunder saves an owner $200 million?

A recent story out of Las Vegas, covered in the NY Times, poses an interesting question for construction and real estate lawyers ---- what would be the measure of damages for defective construction, the result of which is estimated to save the owner at least $200 million?

The Harmon hotel tower, part of MGM Mirage's acclaimed $9 billion development called the CityCenter, had been designed as a 48-story tower, the upper 20 floors to be luxury condominiums. But recently it was discovered that the rebar installed in the concrete beams in the first 15 stories already constructed had been positioned incorrectly, and could not safely support a 48-story tower. Correcting the problem would involve extensive and very expensive demolition and rebuilding.

So MGM Mirage made the decision to top out the building at 28 stories, and not build out the 200 condo units planned for the upper stories --- resulting in a savings estimated at $200 million. And also not being stuck with a lot of unsold condos in the very soft Las Vegas market. The chairman of MGM Mirage said "It takes pressure off of selling more condominiums; it takes pressure off of occupying more rooms."

The measure of damages for defective construction is normally the cost to repair the defective work. However, if the cost to repair is so enormous relative to the value of the structure that it would constitute economic waste to fix it ("economic waste" is a term of art with varying meanings depending on the facts and circumstances), then the measure of damages is usually the diminution in value of the structure.

Under these facts and circumstances, it appears there is a good argument that demolishing and rebuilding the existing 28 stories correctly would constitute economic waste, and that the appropriate measure of damages is the diminution in value of the hotel tower. But this appears to present a problem. In the absence of any obvious market for condos in Las Vegas these days, has the value of the building really been diminished at all?

It would seem not.

But there is something else to consider. The Harmon will be the closest building to the Strip in the CityCenter, so the shortening of the tower is going to change how the development looks. It seems that a lot of work has become necessary to figure out what the new skyline of the CityCenter should be and to satisfy City government on that score. Maybe that's the way to approach the damages calculation.

To read the articles in the NY Times, click here and here. (This blog was published by Karen Carey, a member of Womble Carlyle's Real Estate Development and Construction Law practice groups.)

Full post as published by Womble Carlyle Constrution Industry Blog on March 23, 2009 (boomark / email).