July 2011

Introduction

Welcome to the July edition of Construction review. In this edition we review cases on the duties of a lead designer, the recoverability of damages and costs for defective design and workmanship under the Civil Liability (Contribution) Act 1978 and a decision of the Commercial Court, which provides guidance on claims for extensions of time. We also provide guidance on:

. The Bribery Act 2010, which came into force on 1 July 2011. . The methods used by employers to seek financial security against insolvency or contractual default by contractors and sub-contractors. . The forthcoming amendments to the Housing Grants, Construction and Regeneration Act 1996.

We hope these articles are of interest to you.

Contacts

If you have any queries regarding the matters raised in this e-bulletin please contact:

Guy Lane Peter Stockill Partner Associate [email protected] [email protected]

Contents

Liability for costs in contribution proceedings Apportionment of liability between a consultant and sub-contractor Obligations of lead consultant in respect of designs prepared by a sub-contractor Prevention, causation and apportionment: the English law approach to delay claims Bribery Act 2010 – are you ready? Financial belt and braces in straightened times Amendments to the Housing Grants, Construction and Regeneration Act 1996 to take effect on 1 October 2011

Liability for costs in contribution proceedings

If a defendant settles a claim (the ‘main claim’) then brings a successful contribution claim against a third party, what costs, if any, can he recover in respect of the main claim?

The March 2011 edition of Construction review reported on the court’s decision in Mouchel Limited v Van Oord (UK) Limited [2011] EWHC 72 (TCC). Click here to view that article. To recap, Kier appointed Mouchel to provide design services in relation to offshore works at a power

1 station and engaged Van Oord as a sub-contactor to carry out the works. The claims concerned the unsuitability of Grimsby Middle Sand (GMS) and liability for scour protection rock.

Kier sued Mouchel for breach of its contract and Mouchel settled, paying Kier £517,500 in respect of damages, interest and Kier’s costs. Mouchel then sought a contribution from Van Oord on the basis that Van Oord was liable to Kier for the same damage. The question arose as to what amount Van Oord was liable to pay by way of a contribution to the damages element of the settlement.

The judge found that Van Oord had no liability to contribute in respect of the GMS but was liable to contribute in respect of the scour protection failures. He held that the contributions of Mouchel and Van Oord should be 65% and 35% respectively. As the judge had found that £24,360 of the £100,000 paid by Mouchel to Kier related to the scour protection, he held that Van Oord were liable to contribute 35% of that sum ie £8,546.

In Mouchel Limited and Van Oord (UK) Limited (No 2) [2011] EWHC 1516 (TCC)), the parties asked the court to decide:

1 The amount of Van Oord’s contribution in respect of interest.

2 The amount, if any, of Van Oord’s contribution in respect of Kier’s costs.

3 What proportion, if any, of Mouchel’s costs of the main action should be paid by Van Oord.

As to the interest issue, the parties agreed that Van Oord should contribute in the same proportion as the judge had held it liable to contribute to the damages.

As to the liability for Kier’s costs, Van Oord did not challenge the reasonableness of the settlement made as between Mouchel and Kier (and therefore the costs which formed part of the settlement). Van Oord also accepted that, in principle, they had a liability to contribute in respect of those costs. The issue was what contribution Mouchel was entitled to recover in respect of the sum of £399,500 for Kier’s costs, bearing in mind that Van Oord was only liable to contribute in relation to the scour protection failures.

Mouchel argued for a contribution based on the proportion of the paragraphs in the statements of case, experts’ reports and witness statements that related to the matters for which Van Oord was found liable, but the judge accepted that this may not reflect the cost involved. He adopted the 8.456% that was applied to the damages. He considered it ‘undesirable, unless there is strong evidence to show to the contrary, to differentiate between the percentage recovery of damages and the percentage recovery for costs.’ Van Oord was therefore found liable to contribute 8.5% of £399,500 ie £33,781.72.

As to Mouchel’s costs up to the settlement of the main action, the court decided that these were not recoverable under the Civil Liability (Contribution) Act 1978 (the 1978 Act) as the 1978 Act only provides for a liability to contribute in respect of a party’s liability to a third party, which can include liability to that third party for costs. However, Mouchel’s own costs did not form part of Mouchel’s liability to Kier in respect of damage.

The judge then considered whether the costs would be recoverable otherwise. The parties accepted that under sections 51(1) and 51(3) of the 1981 Senior Courts Act (the 1981 Act) there was a general discretion for the court to award costs. The judge said that where there were successful third party proceedings, the third party may have a liability to pay the defendant’s costs which would include costs which the defendant had incurred in defending the claim by the claimant.

2 However, contribution proceedings are different. As the case between Mouchel and Kier had been confined to issues relating to Mouchel's liability to Kier, rather than anything to do with primary liability of Van Oord to Kier, the judge found it difficult to find any reason why Van Oord should pay Mouchel’s costs. He noted that Van Oord had not become involved in the proceedings until a late stage. In those circumstances, he refused Mouchel’s claim for its costs.

Comment

Those defending contribution claims, and their insurers, frequently face claims not only in respect of the sums claimed by the claimants, but claims for the legal costs in both the main action and third party proceedings. Those costs can, as here, dwarf the damages in issue.

The court’s approach in respect of Kier’s costs shows a predisposition to apportion the claimant’s costs in line with the apportionment of liability, except where there are compelling reasons to do otherwise.

As regards the costs of defending the main action, in a simple case where the whole claim is passed down the contractual chain, ie employer – main contractor – sub-contractor/sub- consultant, the main contractor is likely to be able to recover its reasonable costs of defending the employer’s claim from the sub-contractor/sub-consultant. However, where the claim is under the 1978 Act, by one sub-contractor/sub-consultant against another for example, the position is less clear and on the facts of this case, those costs were not recovered.

Stavry Onissiphorou Solicitor

Apportionment of liability between a consultant and sub-contractor

How do the courts apportion liability when two or more parties are at fault and what is the effect of one of them settling with the claimant? Those were the issue considered in Carillion JM Limited v Phi Group Limited [2011] EWHC 1379 (TCC).

Carillion was the main contractor engaged to build a train servicing depot close to Wembley Football Stadium. The construction required substantial excavations into clay ground leaving 70° to 80° slopes which, both during and in spite of the works, became unstable.

Carillion appointed RWCL as lead consultant to develop and design the detailed scheme; including advising on-site investigations and providing technical support and attendance on site once construction began.

Carillion engaged Phi, as a sub-contractor, to design and build works to restrain and stabilise the slopes (known as nailing) around the excavations for the depot, although Phi was not required to review the adequacy of the site investigation documents and had no specific site investigation obligations.

During construction in January and February 2005, failures occurred in one of the nailed slopes. Phi carried out remedial works, however, a further failure occurred in October 2005. Phi carried out further remedial works. Phi took responsibility for all of the remedial works; RWCL was not involved in their design.

In December 2006, a further slope failure occurred, and ground settlement was recorded. Following a period of monitoring, during 2008 and 2009, Carillion’s appointed expert recommended that substantial remedial works were going to be required. Apparently, the slips in 2005 were caused by instability in the slope, however, after the depot was completed a deep- seated instability in the slope was discovered. The instability in both instances was caused by water pressure in the clay soil, the extent of which was not appreciated by Phi and RWCL.

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Carillion brought a claim against Phi, for negligently failing to make the correct design assumptions at different stages of the design works, but mainly in relation to the water pressure used in Phi’s calculations. Phi brought an additional claim, pursuant to CPR Part 20, against RWCL under the Civil Liability (Contribution) Act 1978 on the basis that if Phi was liable for the losses, so was RWCL. In effect, RWCL also brought contribution proceedings against Phi. Carillion subsequently brought a claim for negligence against RWCL directly claiming in excess of £8m.

Phi settled Carillion’s claim, paying £3.8m in full and final settlement, however, Carillion’s claim against RWCL and Phi’s additional claim against RWCL continued to trial.

The court decided that both Phi and RWCL were responsible to Carillion for making sure that the design and construction of the works considered matters such as instability of the clay slopes.

RWCL, as lead consultant, had a specific responsibility to advise on the need for further site investigations, which was intended to be completed before Phi’s design work. Before construction, both failed to identify the potential for either instability discovered. After the 2005 slips, both failed to identify the deep-seated instability.

Phi’s design assumptions, based on the site investigation data, were inconsistent with RWCL’s assumptions, which RWCL should have picked up as it was more than just a checker of designs. However, both were equally responsible at the design stage.

Following the 2005 slips, RWCL’s role became subsidiary to Phi, who took full responsibility for the remedial works. With less causative potency and blameworthiness at the later stages in respect of RWCL, Phi, by its greater involvement, was more to blame than RWCL.

The court found in favour of Carillion against RWCL and awarded £6.7m. In the contribution claim, the court apportioned these damages, notwithstanding Phi’s settlement with Carillion, 60% against Phi and 40% against RWCL.

Comment

This case was important for two reasons.

Firstly, in respect of contribution under the Act, it confirmed that a prior settlement by one party, even if reasonable, does not necessarily determine its ultimate liability and it remains exposed to contribution claims by those who are not party to the settlement. It may be possible to negotiate an indemnity when the main claim is settled against third party claims for contribution or to obtain an undertaking from the claimant in the main claim not to pursue claims against third parties which might result in contribution claims.

Secondly, as regards apportionment under the Act, the court re-confirmed the convention in construction defects cases whereby the liability of the culpable builder will be in the range of 67 to 80% whereas the liability of the culpable supervisor who failed to pick up the defects will be in the range of 20 to 33%. However, in this case the court departed from those ranges, principally because of its finding that the parties were equally responsible at the design stage.

Stephen Jones Solicitor

Obligations of lead consultant in respect of designs prepared by a sub- contractor

4 The court in Carillion JM Limited v Phi Group Limited [2011] EWHC 1379 (TCC) also considered the obligations of an engineer, where appointed as lead consultant with overall responsibility for the design of a project, in respect of designs prepared by a specialist sub-contractor.

On the facts of this case, the judge found that RWCL had extensive contractual obligations to execute and complete the design of all of the works. This included the soil nailing work, albeit it was agreed that the detailed designs for this work would be produced by Phi. Since RWCL had overall responsibility for the whole design, the court held that the exercise of reasonable skill and care involved, at the very least, checking and vetting the design of Phi’s nailing work. Moreover, as lead consultant, RWCL necessarily had to take a close interest in Phi’s design, and it was not open to RWCL contractually to ‘wash its hands’ of the Phi design.

Phi’s design assumptions, based on the site investigation data, were inconsistent with RWCL’s assumptions, which RWCL should have picked up on review. The judge also indicated that RWCL’s contractual obligation in respect of Phi’s design, as the party responsible for the overall design and as lead consultant, was to carry out a ‘careful check’ rather than a simple review (although this finding was not part of the decision). Despite this, the judge decided that both were equally responsible for the mistakes at the design stage.

Following the 2005 slips, RWCL’s role became subsidiary to Phi, who took full responsibility for the remedial works. However, the judge decided that RWCL was in breach of its contractual duty of care in failing to involve itself more after the October 2005 slips. RWCL had a duty to keep itself informed about what was occurring on site.

The judge commented that it was almost as if RWCL was disinterested or fearful of becoming involved, but that as RWCL was the lead consultant, it had a duty to become involved. Had RWCL done so with the care and competence to be expected of an engineer in its position, it would have uncovered the deep-seated instability problem.

Of further interest to designers was the judge’s comment that although there was no obligation on Phi to review the site investigation documents as to their adequacy, the exercise of reasonable skill and care would not be satisfied by a ‘blinkered or unintelligent application of the information contained within them’.

RWCL argued that there was contributory negligence by Carillion in that their employed chartered civil engineers did not pick up on the deep-seated instability problem or the deficiencies in the calculations or design. The court gave this short shrift:

‘The fact that a client of a professional consultant or contractor has some expertise which overlaps with that of its consultant or contractor does not mean, without more, that the client can or will be contributorily negligent if the client fails to notice at the time that its consultant or contractor has been negligent.’

Comment

The decision highlights the onerous obligations that may be placed upon those who take overall responsibility for the design of a project, particularly when also acting as lead consultant. Subject to the terms of the specific contract, the designer may be obliged to review the assumptions underlying the designs of specialist sub-contractors and consider site occurrences and their impact on the design.

Stephen Jones Solicitor

Prevention, causation and apportionment: the English law approach to delay claims

5 Unusually for a Construction review article, Adyard Abu Dhabi v SD Marine Services [2011] EWHC 848 (Comm) is a shipping case. However, the issue was responsibility for delay, something of considerable importance to the construction industry.

Adyard is a shipbuilder on the Abu Dhabi coast. Under a Private Finance Initiative (PFI) with the UK government, SDMS entered into a 15 year output contract to deliver marine port, moorings and navigational services to the Royal Navy and its entitled customers.

The dispute concerned whether SDMS could rescind two shipbuilding contracts with Adyard. Both contracts permitted SDMS to rescind should the vessels not be ready by the contract date and SDMS sought to rescind on that basis. Adyard claimed that SDMS was not entitled to rescind because SDMS had prevented Adyard from completing on time. Adyard claimed that various design items were variations which had prevented completion on time. Adyard relied on the ‘prevention principle’: an employer cannot insist on a fixed date for completion if it is his own fault that the date cannot be met. In those circumstance, unless there is an express power to extend time for the employer’s delays, time will become at large. Adyard argued that there were no express provisions permitting an extension of time to be granted and therefore time was ‘at large’ and SDMS was not entitled to rescind the contracts. Adyard argued in the alternative that it was entitled to an extension of time.

SDMS denied that the design items were variations, save for a new door, which SDMS argued did not cause any delay to completion. SDMS argued that, on a proper construction of the contract, there was power to extend time for acts of the employer which caused delay.

The court found that the design items were not variations, so Adyard’s claim failed. Nevertheless, the court went on to consider the parties’ cases on delay in case its decision on the variation issue was wrong.

The court accepted SDMS’s submission that, on a proper construction of the contract, there was power to extend time for acts of the employer which caused delay. The court accepted that there was ambiguity in the contract, but held that it was inherently unlikely that the parties would have intended there to be such a ‘limbo’ (ie time at large), particularly in an obviously foreseeable situation such as a failure to agree an adjustment. The court adopted an interpretation that favoured there being a power to extend time.

As to Adyard’s alternative claim for an extension of time, Adyard submitted that it need only show that the cause of delay for which SDMS was responsible caused delay to the completion date and the court did not need to look at what other events may have been delaying the work. Adyard relied upon the comments of Dyson J (as he then was) in Henry Boot Construction (UK) Limited v Malmaison Hotel (Manchester) Limited (1990) 70 Con LR 33 that, if a contractor can show that a relevant event has caused concurrent delay with an event for which the contractor is responsible, then an extension of time should be granted notwithstanding the contractor’s delaying event. The court accepted that analysis, but only if the employer’s event actually delayed the completion date. In this case, Adyard was already in critical delay before any design variation issues arose, so it was a matter of fact that SDMS did not cause delay to the completion date.

In the course of submissions, Adyard also argued that an extension of time should be granted from the date when the alleged design variations were ordered, without regard to its own pre- existing delays. The court affirmed the decision in Balfour Beatty v Chestermount Properties (1993) 62 BLR 1 that consideration should be given as to whether a delaying event occurred which excuses the contractor from completion in a period of culpable delay. It may be found that no such delay can be established. If it can, then a fair period is to be added to the then applicable date to produce the requisite extension of time. In this case, the alleged delay by SDMS had no impact on the existing culpable delay caused by Adyard.

6 In the course of the judgment, the court confirmed the approach taken by the Scottish Court of Session in City Inn Limited v Shepherd Construction Limited [2010] BLR 473 (click here to view the article concerning this case form the October 2010 edition of Construction review), that an apportionment could be carried out in cases of true concurrency where neither of the causes of delay could be said to be dominant, does not reflect English law. The approach to be taken under English law is that taken in the case of Malmaison.

Comment

The decision in respect of the prevention principle in this case show the court’s willingness to find and give effect to a contractual mechanism for granting extensions of time, even if poorly drafted. The court reiterated the need to demonstrate that an alleged delaying event caused actual delay to the completion date. The court’s comments on apportionment and the City Inn decision reflect the views expressed by Mr Justice Ramsey – who until recently was the head of the Technology and Construction Court – in the Spring issue of the TECBAR Review. Mr Justice Ramsey expressed disappointment that City Inn did not receive consideration by the Supreme Court, as the appeal was settled, with the result of having ‘left the law in an unsatisfactory state’. It is hoped that a decision of an appellate court will provide much needed clarification on this issue soon. Until then, where a relevant event has caused concurrent delay with an event for which the contractor is responsible, then an extension of time should be granted notwithstanding the contractor’s delaying event if that is fair and reasonable (subject to the precise words of particular extension of time clauses).

James Reid Solicitor-Advocate

Bribery Act 2010 – are you ready?

The Bribery Act 2010 came into force on 1 July and whilst this implementation date was announced by Justice Secretary Kenneth Clarke back in March, many businesses are still preparing for how the Act will impact them. BLM partner, Julian Smart, provides an overview of the Act in the webcast below, answering the 10 following fundamental questions:

1 What is the Bribery Act and who does it affect? 2 What qualifies as 'corrupt practice'? 3 Whose responsibility is it to ensure a company is compliant? 4 How can I ensure my employees are complying with the Act? 5 If an individual employee is found guilty, will that have an impact on the company? 6 Corporate hospitality happens in most businesses. Does this now need to stop? Where are the boundaries? 7 My company is international. Does the Act apply to overseas business activity? 8 How will the legislation be enforced? 9 What are the repercussions of not complying with the Act? 10 I am not prepared for the Act – am I too late? What should be my next step?

Please see the email version of the e-bulletin for the webcast.

The new framework

By way of reminder, the Bribery Act 2010 introduces a new set of criminal offences which are considerably wider than those under existing UK law and the US Foreign Corrupt Practices Act.

The Act sets out four offences:

. Offering, promising or giving a bribe.

7 . Requesting, agreeing to receive or accepting a bribe. . Bribing a foreign public official. . Failure of a commercial organisation to prevent bribery (the Corporate Offence).

The Corporate Offence

It is this new offence which commercial organisations have been particularly concerned about. It is a strict liability offence and the prosecution will not have to prove that the business knew anything about the bribery – just that it had failed to prevent it. There is a broad jurisdictional reach covering the failure to prevent bribery by anyone associated with the company anywhere in the world.

Guidance on the Corporate Offence

The guidance recognises that no bribery prevention regime will be completely watertight. To assist businesses, there is a defence of having ‘adequate’ procedures in place to protect themselves from committing the Corporate Offence. The guidance suggests that businesses should adopt a proportionate and risk-based approach. It promotes six fundamental principles that organisations should follow to protect themselves from prosecution:

1 Proportionate procedures – proportionate to the bribery risks that the organisation faces. 2 Top level commitment – a commitment to compliance from the highest level. 3 Risk assessment – the risks of bribery in your organisation and its ‘associates’. 4 Due diligence – vetting those organisations you do business with. 5 Communication – so that bribery prevention policies and procedures are embedded and understood throughout the organisation. 6 Monitoring and review – having a system to ensure that the procedures are reviewed and amended to catch new risks as they arise.

Clarity or uncertainty?

The guidelines bring greater clarity on a number of issues. However, some will take the view that further clarity is still required. Larger businesses in particular may need further guidance of what procedures are deemed ‘adequate’ for them.

Questions remain about how the legislation will be enforced and, in particular, how prosecutorial discretion will be exercised by the Serious Fraud Office and Crime Prosecution Service. The current UK public spending cuts may also restrict their ability to fully investigate suspected bribery, particularly bribery incidents which primarily occur abroad.

Steps to prepare

The steps to be taken to prevent bribery will vary from business to business and not all businesses will need to implement complex procedures to deal with the requirements of the new Act. The following are some of the key actions you should consider:

. Assessing likely exposure to bribery and conducting a risk assessment relevant to your business and sector. Even where an organisation is fairly confident that it does not face any risks, it should monitor the situation as the risks it faces may change over time.

. Undertake a review of your existing policies and procedures to assess whether they would be adequate enough to afford you the opportunity to raise the ‘adequate procedures’ defence. If your existing policies and procedures are not adequate, implement new and/or amended policies and procedures as a matter of urgency.

8 . Implementing the policy with training for all staff, making them aware of the issues and appropriate responses if a situation develops.

. Conducting due diligence on parties to any transaction – whether employees, agents, business partners or supply chain vendors. Knowing exactly who you are dealing with can help to protect your organisation from taking on people who might be less than trustworthy.

. Ensuring a zero tolerance to bribery by senior management. As set out in the government's guidance, the top-level management of a commercial organisation is responsible for ensuring that there is a culture within the organisation in which bribery is never acceptable.

. Monitoring and reviewing the policy and adapting and improving it in light of experience. A low risk assessment for your business today may change in the future as your business changes. Bear in mind the requirements of the Bribery Act 2010 as your business grows and if you enter new markets and business relationships, especially those outside of the UK.

Julian Smart Partner

Financial belt and braces in straightened times

BLM London partner Robert Stevenson wrote about methods used to seek financial security against insolvency or contractual default in a recent edition of Construction Specialist, the newsletter of the Confederation of Construction Specialists. Robert provides an updated version of that article below.

Financial belt and braces in straightened times

An examination of the additional financial security sought by employers.

In straightened economic times prospective employers will seek doubly hard to ensure the financial security of their project in particular against the insolvency and/or contractual default of one or more of the parties.

Employers will usually seek to achieve this objective by bringing into the ring third parties be they insurance companies, banks or companies associated with the contracting party, or on occasions other parties engaged in the project. The legal devices used to achieve these ends include, parent company guarantees, bonds, guarantees of various types and collateral warranties.

Parent company guarantees

An employer will seek such a guarantee when the contracting party’s balance sheet strength appears insufficient for the type of project to be undertaken. Naturally the provision of such a guarantee exposes the parent company to the risks undertaken by the subsidiary, which may defeat one of the objects of originally establishing the subsidiary in the first place.

A parent or holding company giving such a guarantee has a contingent liability which will then appear on their own balance sheet, unless the guarantee is limited in time it will last as long as the subsidiaries liability under the contract.

A contract of guarantee in its truest sense is a contract whereby the guarantor (in this case the parent company) promises to be responsible for the principal’s (in this case the subsidiaries) due

9 performance of his principal’s future obligations. A guarantee has also been defined as an obligation to procure that the principal performs its obligations.

By contrast with some of the other financial devices this is very much what is expected of a parent company giving a guarantee. If a subsidiary appears to be devoting insufficient resources to the project, the client may well look to the parent company to give support and assistance, though the usual financial indemnity in the event of full default by the subsidiary will remain as part of the guarantee.

The downside for the employer is if the subsidiary is experiencing financial trouble, it may well be that the parent company is also experiencing similar problems.

Such guarantees are often expressed to be irrevocable although if properly considered their duration should be limited to, say, the subsidiary’s active participation on the project.

Thought needs to be given to what should happen if the subsidiary is sold by the parent company, and whether in those circumstances it will be appropriate for the new holding company to issue a guarantee to replace the original parent company guarantee.

Performance bonds and guarantees

In discussing parent company guarantees the author suggested that they came close to the original concept of the guarantee, which is to promise to be responsible for the principals performance of their contract, more usually this has come to mean being responsible for the financial consequences of the principal’s financial default or insolvency.

The liability under such a guarantee is to be sharply contrasted with the habitual wording of very many performance bonds, which confusingly are also called performance guarantees though in the strict legal sense they are not guarantees at all. These performance bonds are drafted so that the liability will arise on a mere demand by the beneficiary in the form required by the bond, without requiring the beneficiary to demonstrate that the primary obligation in the underlying contract has been broken. It should be remembered that neither performance bonds nor true guarantees are insurance contracts and therefore neither are subject to any inherent duty of good faith.

A performance bond or guarantee will specify:

. The parties. . The underlying contract. . The duration of the bond or guarantee. . The maximum that can be called upon under the bond/guarantee. . In respect of true guarantees, a clause which states that despite changes to the underlying contract the guarantor remains liable. . What is required to be presented by the beneficiary (usually the employer) when a claim is made.

The type of performance bond or guarantee that are called for are designed to address specific circumstances. Principal types of such guarantees are:

1 The tender (or bid) guarantee. When tenders are invited it is made a requirement or consideration of the tender that the tenderer undertakes to sign the contract if awarded and not modify or withdraw his tender during a specified period of time. This undertaking is underwritten by guarantee usually for a specified percentage of the project value. This sum is meant to reimburse the beneficiary (employer) for the trouble and expense incurred in re-awarding the contract as well as perhaps the increased costs of the re- awarded contract.

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2 The advance payment (or repayment) guarantee. The underlying contract may entitle the contractor to an up-front payment in advance of actual work to enable the materials to be purchased and preliminary site establishment to be undertaken. The employer/beneficiary requires in return a guarantee to ensure his right to repayment if in fact work to the value of this advance payment is not actually undertaken.

3 The performance guarantee. The percentage of the contract sum that is demanded differs from contract to contract and jurisdiction to jurisdiction. The usual level in the UK has been 10% but in other countries it can reach 100% of the contract value.

4 A retention guarantee. Most standard form contracts require a percentage retention from stage payments. Part of this is retained until the contract is finally completed. The employer may be willing to release such a retention against a retention guarantee securing repayment of these percentages if defects are later found or if the contractor ultimately fails to complete the contract.

5 The warranty or maintenance guarantee. A version of the retention guarantee but for the period after practical or substantial completion to cover the costs of any defects which arise during that period which the contractor fails to rectify.

In Sir Michael Latham’s report ‘Constructing the team’ of July 1994, Sir Michael made a number of recommendations in relation to bonds which were:

1 Bonds should be drafted in comprehensible and modern language. 2 That they should not be ‘on demand and unconditional’, but should have clearly defined circumstances set out in them when they can be called. 3 If the circumstances/conditions provided for in the bond were fulfilled the beneficiary should be able to obtain prompt payment without recourse to litigation. 4 They should have a clear end date.

Subsequently the government issued directions in relation to government contracts stating that demand bonds should never form part of a government construction contract other than in very specific and limited circumstances for example advance payment bonds or retention bonds.

Employers, however, continue to require ‘on demand bonds’, as recently highlighted in an article in Construction News.

It is not in the interests of contractors to agree to pure ‘on demand’ bonds. If such a bond is issued by the contractor’s bank, then an equivalent sum to the bond will be sought from the contractor, or ring fenced as part of their overdraft. Given that no proof is required of actual default under the underlying contract, all that is required for a successful call on such a bond is to comply with the notice requirements, and the grounds for resisting such a call, however unwarranted are limited indeed. In Wood Hall Limited v Pipeline Authority (1979) 53 AJLR 487 the Pipeline Authority instigated the necessary steps under the performance bond to make a call of $2.6 million, without prior notification to the contractor, deliberately concealing its intentions when in fact the pipeline was practically complete.

Although the Supreme Court of New South Wales took a dim view of the Pipeline Authority’s actions, that did not preclude the court from enforcing the bond on its terms.

There are two recent decisions of note in the Technology and Construction Court which illustrate the nature of on demand bonds and the limited grounds for challenge to a call.

11 In AES-3C Maritze East 1 EOOD (AES) v Credit Agricole (CAG) Corporate Investment Bank and Alstom Power Systems (CILL March 2011, page 2985), the underlying construction contract related to a power station in Bulgaria.

The employer, AES was provided with an on demand bond by a predecessor of CAG called Calyon. The bond was subject to English law.

An initial demand on the bond was made by AES for €93 million, Alstom disputed the validity of the call and sought and obtained an injunction from the Commercial Court in Nantérre (France). Calyons head office is based in France.

Subsequently Calyon wrote to AES saying that the demand was defective. AES then submitted a second demand and sought summary judgment for both first and second demands in the English courts. Alstom, who had to indemnify Calyon under the terms of the bond was joined to both sets of the proceedings.

Ultimately summary judgment was refused in respect of the first demand, as the documentation and its wording that was submitted as part of the call did not comply with its terms, and additionally it sought to include sums which were not (yet) due and payable by Alstom. On the second demand, however, summary judgment was granted but not to be enforced while Calyon was subject to an injunction from the French Commercial Court.

The second case, Simon Carves Limited (SC) v Ensus UK Limited 2011 EWHC 657 also concerned an on demand bond.

The provisions of the underlying building contract made it clear that the bond would become null and void on the issuance of an Acceptance Certificate, save for any claims already notified.

The bond’s expiry date was 31 August 2010.

On 19 August an Acceptance Certificate was issued qualified by a schedule of defects to be rectified. The Environment Agency had issued an initial enforcement notice in March 2010, and the issues raised by that notice were contained in the schedule of defects.

On 20 August The Environment Agency issued another enforcement notice.

The employers sought to make a call on the bond, SC argued that no call could be made on the bond as an Acceptance Certificate had been issued. The issue came to a head when SC sought an injunction to restrain Ensus from making a call on the bond.

Mr Justice Akenhead in granting an injunction ruled that the claimants had produced a strong case that the bond was null and void pursuant to the underlying contract and therefore an injunction should continue until the issue was finally determined.

The significance of this decision is that not every breach of the underlying contract will render a call on an ‘on demand bond’ improper. In the absence of fraud it is extremely difficult to restrain the call of a properly presented ‘on demand bond’, and it is only because in this case there was a ‘straight breach of contract’, as the judge described it, that an injunction was granted.

One of the reasons why employers prefer on demand bonds is given in the third recommendation of Sir Michael Latham’s report namely: ‘they seek prompt payment without recourse to litigation’.

Under a traditional guarantee, in default of agreement of the principal, it is necessary to demonstrate default under the underlying contract through litigation or arbitration, sometimes a lengthy process.

12 To resolve that concern performance bonds were developed which depended upon the certificate of a default from an independent third party such as an architect, engineer or surveyor. In a 1986 case of GUR Corporation v Trust Bank of Africa Ltd the court upheld a guarantee which was payable on demand when it was accompanied by a certificate from a registered quantity surveyor that the amount claimed was due and payable.

This concept was developed with the onset of the Private Finance Initiative (PFI) projects. An example of a standard form of default bond incorporating this third party ‘certification’ is the ICE form of default bond which provides that if the surety (the bank or insurance company) objects to the call they can refer the dispute to adjudication, as if they were a party to the adjudication agreement under the underlying contract.

Collateral warranties

Although not traditionally associated with bonds and guarantees collateral warranties are a way for an employer to widen the scope of his recourse in the event of default. An employer will seek to create rights of contractual recourse with sub-contractors by requiring the main contractor to obtain collateral warranties from them in his favour.

From a sub-contractor’s perspective these have the effect of widening their potential liability. Any sub-contractor or professional asked to sign such collateral warranties must as a minimum include a provision that their liability to the ultimate employer can be no greater than their liability under their original contract. Ideally of course the terms of a collateral warranty should restrict liability to a narrower scope than under the principal contract, limiting recovery for example to the cost of repair, but excluding other damage such as business interruption. Whether that is achievable is a matter of commercial negotiation.

The search for a greater financial security is not and should not be a one-way street. If the sub- contractor considers that the contractor or employer lacks financial solidity or there is no independent evidence of their financial worth, which is the case for many companies based off shore, there is no reason why similar guarantees of payment cannot be sought, either parent company guarantees or bank guarantees or the establishment of escrow accounts which recourse can be made in the event of non-payment.

Robert Stevenson Partner

Amendments to the Housing Grants, Construction and Regeneration Act 1996 to take effect on 1 October 2011

It has been announced that the amendments to the payment, suspension and adjudication provisions of Part II of the Housing Grants Construction and Regeneration Act 1996 (HGCRA) will take effect in England on 1 October 2011. Draft amendments to the Scheme for Construction Contracts have been published with the intention that they will take effect at the same time.

The amendments will apply to all ‘construction contracts’ entered into from 1 October 2011. The existing provisions will continue to apply to any contracts entered into before that date. Main contractors and contract administrators, in particular, will need to ensure that they are applying the correct law to each contract on a project. Those negotiating contracts will need to ensure that they are compliant with the new regime if they are not entered into before 1 October.

The principal changes are:

Payment

13 The existing payment and withholding notice regimes are being repealed. In outline, the new regime is:

. A construction contract will have to require the payer or payee (or a ‘specified person’, ie a contract administrator) to give a notice specifying the amount they consider is due or was due at the due date and the basis upon which it is calculated.

. If the payer or specified person is required to give the notice and does not, the payee may give a default notice (unless they have already given a notice under the payment mechanism, eg an application for an interim payment, in which case that will stand as their notice). The final date for payment will be postponed by the number of days between the date when the payer or specified person should have given notice and the date when the payee does so.

. If the payer does not agree with the sum stated in a notice from the payee, it must give a counter (or ‘pay less’) notice stating the sum it considers due and the basis upon which it is calculated. In the absence of a counter notice, the payer must pay the sum specified in the payment notice.

In addition:

. Payment and withholding notices can no longer be issued as one combined notice.

. Terms that entitle the payer to decide when a payment becomes due will be prohibited, although there may still be a requirement for the payee to give a notice and for the due date to be calculated from the date of that notice.

Pay when certified

The prohibition on ‘pay when paid’ clauses will be extended to ‘pay when certified’ clauses whereby, for example, payment under a sub-contract is conditional upon payment being certified under the main contract. This prohibition does not apply to management contracting, nor is it intended to apply to the head agreement on Private Finance Initiative (PFI) projects. It does not prevent main contractors from extending the period under their sub-contracts from the due date to the final date for payment to allow more time for payment under the main contract.

Suspension

The statutory right to suspend performance of works/services in the absence of payment and an effective withholding notice has been enhanced:

. A party will now have the option of suspending part only (or as previously, all) of its works/services. . An extension of time will be available for delay ‘in consequence’ of the suspension, ie time taken to de-mobilise safely and re-mobilise, rather than only for the period of suspension itself. . A party who suspends will be entitled to their reasonable costs and expenses of doing so.

Adjudication

14 . The restriction on statutory adjudication to contracts that are entirely in writing has been removed, meaning statutory adjudication will be available for contracts that are oral or partly oral.

. Note, however, that if you wish to have a contractual adjudication procedure, you must set out certain minimum requirements in writing, otherwise the Scheme for Construction Contracts will apply (in its entirety) in place of your contractual procedure (see section 108 of HGCRA, as amended, for details of those requirements).

. A statutory slip rule has been introduced enabling adjudicators to correct typographical or clerical errors in their decisions (in most cases they could do so already). Note, this power must be included in a contractual adjudication procedure in order for it to comply with section 108.

. So called ‘Tolent clauses’ stipulating who will bear the costs of an adjudication are intended to be prohibited, although the parties may still confer a power upon the adjudicator to allocate his/her fees and expenses and may reach agreement on the costs of the adjudication after a Notice of Adjudication is served. Unfortunately, the drafting of this section is unclear and it is debatable whether a clause that:

a) gives the adjudicator power to allocate his fees and expenses; and b) gives the adjudicator the power to deal with the parties' costs, or possibly even fixes how the parties' costs will be borne

will be rendered ineffective or not.

If you require further information or advice on the changes to HGCRA and the Scheme, please contact [email protected]. BLM’s construction team will be holding a seminar on the changes on 8 September 2011, details of which will be provided in due course. If you wish to register your interest at this stage, please contact: [email protected].

Peter Stockill Associate

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