Category: Contracts

Termination & Suspension clauses in construction contracts

Legally speaking in a contract there is very small differences between Termination clauses and Suspension clauses. Although there is now a Statutory Right to suspend works in construction contracts for non-payment.

It is therefore imperative when agreeing a contract, particularly for the supply of goods and services a termination and suspension clause should be included, if for nothing else to ensure the reasons for suspension cannot be regarded as termination. As this would usually come about when there is some dispute and / or claim between the parties, this only seeks to reinforce the requirement for clearly defined suspension clauses, that may lead to termination, but not when first triggered.

Termination clauses in construction contracts

Standard form of contract will contain express provisions on the rights of either party to terminate the contract in defined circumstances. By way of an example, if the contract is in effect a Sub Contract and therefore a further party is the employer, an insolvency event of the employer would allow the contractor to terminate the contract with the sub contract.

Non-contractual rights to terminate

The contract is entered into and usually implies that the parties will diligently carry out the works being contracted for within prescribed timeframes and then the obligation on the other party would be to make regular payment on a fair and reasonable basis. Usually under the services being contracted for the party providing the services would be required to “carry out and complete” the services, The definition of complete will usually even be defined in its own right, so there is no ambiguity in this that can lead to dispute.

Even with these terms there can still be reasons why the contract would end up being terminated, such as the following:

Frustration

Frustration can occur when neither party has defaulted on the contract but circumstances have intervened to prevent the contract from being performed as originally intended making further performance of the contract is impossible, illegal or significantly different to the circumstances and understanding when the parties entered into the contract.

Where frustration occurs the contract automatically terminates and the parties are excused from their future obligations, although any accrued liabilities remain.

It is therefore vitally important to ensure (and in effect for both parties to agree) that frustration has occurred, justifying the termination. This would be to avoid by consequence of terminating for frustration to being in breach of contract, where frustration has not actually occurred.

By way of examples, where a contract becomes more expensive to perform through any number of issues which should have been considered as part of the negotiation of the value of the contract, this will not be a frustration event or where an event is set out as being possible and how it is dealt with is set out as an effective potential variation (change) to the contract this will not be a frustration event.   Case law gives some examples of events that are not frustrating events. The parties need to be wary of Force Majeure clauses and their potential overlap. This will be investigated further in a later post.

An event that could be regarded as frustration would be where an employer instructs an architect to design a house to be built by a Contractor on a piece of land that the employer is in the process of purchasing. If the sale of the land falls through, the contract would be frustrated as the design for will no longer be required.

Repudiation

Repudiation occurs when a party commits a breach of contract sufficiently serious that it entitles the injured party to treat the contract as terminated with immediate effect and to sue for damages for breach of contract. If this is a material or anticipatory breach will depend upon the severity and effect of the breach, and whether it goes to the root of the contract.

Certain extreme types of breach will amount to a clear repudiation of a construction contract, such as:

  • Refusal to carry out work;
  • Abandonment of the site
  • Removal of plant by the contractor;
  • Employing other contractors to carry out the same work;
  • Failure by an employer to give access to the site.

These examples above are clear and unambiguous and grounds for repudiation. However other breaches may not be clear-cut and like frustration need to be clearly grounds to ensure that where the injured party treats the contract as repudiated as a consequence of the breach, which is not repudiatory; this will be wrongful termination and be a breach in its own right.

Whilst damages for repudiation may be higher than for other for other breaches, the parties should ensure they have that all important right to terminate for repudiation before doing so and where possible should try to utilise a more clear cut contractual right to terminate if available.

Further repudiation by one party will not by itself bring an end to further contractual obligations, the repudiation has to be accepted by the injured party. While there is no prescribed form of acceptance, it must be unequivocal acceptance by both parties. Where both parties accept the contract is repudiated, each side is released from performance of their respective unperformed obligations and damages are assessed under the normal rules and payable by the party at fault. The principle of these damages is to put the injured party in the same position they would have been in had the contract been properly completed.

However if the injured party does not accept the repudiation it “affirms” the contract is to continue, it is still entitled to claim damages for the breach but the contract will continue.

A further difficulty can be where the injured party instead of accepting repudiation, inadvertently “affirms” by their actions that contradicts acceptance or is equivocal in some way. This in itself could lead to the injured party being in breach of contract if it stops performing its obligations in the mistaken belief repudiatory breach has been accepted.

Just to confuse matters in this complex and complicated area of contract law, in some cases a breach may give the injured party the right to terminate for repudiation and a defined right under the contract.

In these circumstances the injured party does not necessarily have to elect to use one right or the other. However where exercising the contractual right is inconsistent with acceptance of repudiation, where the consequences of terminating under the contractual right are different or the response to the breach is less than unequivocal the injured party will be taken to have “affirmed” the contract and will have to rely on the contractual right rather than repudiation. As stated previously this could have consequences in relation to the level of damages for the breach.

Contractual rights to terminate

Termination clauses in contracts give parties right to terminate in certain circumstances and usually are in relation to breaches of specified contractual obligations as well as Force Majeure events which will be investigated separately.

Termination for convenience

Termination “at will” or “for convenience” wording can be inserted into a contract allowing one party to terminate without having to establish that some event has occurred or breach has been committed by the other party.

By way of an example, where an employer reconsiders the use to which land where they cannot secure financing for the whole of the project or cannot secure anchor tenants’ the contractor finds the project will be unprofitable or too risky, or the project has been suspended for a significant period with no prospect of it being recommenced could be grounds to terminate “at will” or “for convenience”. This could in effect reduce the possibility of dispute or claim later and the termination would be in the long term interests of the parties.

Traditionally this form of provision has been less common than those permitting termination for default in some of the un-amended standard forms. Employers in New Engineering Contract (NEC) 3 and the majority of Public / Private Partnerships (Private Finance Initiative and Private Finance Initiative 2) (PFI & PFI2) do have these rights usually. However, contractors and consultants are rarely given the right to terminate for convenience.

 Precedent and Compensation with terminate “at will” clauses

In these matters the only way to fully determine if the termination was legal and lawful is by having it determined by the courts. The matter could be subject to Adjudication, however the losing party would in all likelihood not accept the finding if they were to suffer financial loss.

As Public / Private Partnerships are a concept that originated in Australia, historically the English courts have looked to the Australia system for guidance around  termination “at will” or “for convenience.” It has been established through case law that in the absence of sufficient wording, it will be a breach of contract to exercise a termination for convenience clause simply for the employer to obtain a better price to complete the works from another contractor. This would be consistent as in effect it’s a higher form of “subby bashing” if we take the view the Employer and Contractor as effective in a Sub Contract arrangement. Further it has been established that a contract may provide no express limitation on when, or in what circumstances, a termination for convenience clause can be operated.

To be effective, termination for convenience clauses need to provide for contractor compensation. Standard forms do contain these clauses and there is a precedent that where compensation is provided for in the contract in clear, unambiguous terms it will usually be enforceable.

The key phrase there is “clear wording” as this will be required before a termination for convenience clause can be fully effective. Unreasonable provisions, such as allowing the employer to pass work on to a third party, must be stated in clear, unambiguous terms otherwise they will be unenforceable.

The courts have also determined that the use of omissions clauses to tackle bad bargains cannot be used as an omissions clause to get out of what it now considers to be a bad bargain. It is further doubtful (although not tested) if this type of clause could be relied on exclusively by an employer to switch contractors in the event of dissatisfaction with the current contractor’s work.

Case law precedent warns us that even if the contract does contain an express provision dealing with termination for convenience trivial breaches may preclude termination and harsh objectives need clear wording otherwise termination will be seen as an intrusion on the contractor’s right to finish the work. It has further established that work transferred between contractors is questionable and an employer cannot use an omissions provision to get out of a bad bargain, and it is also doubtful it can be used if the employer is dissatisfied with a contractor’s performance a termination clause should provide for compensation to avoid being treated as unenforceable because it is unfair.

Suspension clauses

As stated at the outset there is a very close relationship between suspension and termination. Dependent on how the clause is drafted the end result of a suspension clause may be much the same as a termination clause in that either party will have the right to terminate the contract at the end of the agreed suspension period where the reason for suspension has not been removed

The issue is that when negotiating terms and conditions of a contract in an effect to ensure the termination clauses are consistent and adequately protect both parties, defined suspension terms tend to be overlooked.

Just as with termination clauses, suspension can take many forms and the onus is on what is agreed between the parties. It should be stated that the terms and mechanism for suspension should be well defined to ensure that this in itself does not result in a dispute.

One of the key reasons to suspend previously was for non-payment; this is now a statutory right with the changes in the Local Democracy, Economic Development and Construction Act [2009].

Broadly speaking the justification for suspension clauses will be similar to termination. Suspension could be a sensible mechanism for example to be used by one party where the scope and proposed outcome of a project has changed significantly but without the constraint to allow it to be developed. A suspension here for a mutually agreed timeframe would benefit both parties, if kept within certain boundaries. There could for example be agreement on a demobilisation and remobilisation cost during the suspension. This would be on the basis all parties have the desire to complete what was started, but just to a different scope. An example would be where historical artefacts are discovered that mean a proposed development has to have a significant re-design to allow for this. It would be far more sensible to suspend the works while the optioneering takes place that to let design to continue where it may only be subject to further re-design.

However it must be considered that conventional wisdom is that in the absence of an express contractual term it is difficult to argue that a general right to suspend exists in law as the courts have consistently refused to recognise such a right, save for the statutory provisions. This makes a defined suspension clause a sensible inclusion to benefit both parties.

When this clause is drafted however care needs to be taken to ensure that lifting the suspension is dealt with as well as the practical consequences of suspension and how long a contract can be suspended for before termination may occur

 

In conclusion as this is a complex and subjective area on contract law, where using these clauses you must proceed with caution. Where these clauses are going to be invoked you need to be absolutely clear that you strictly follow the contract’s notice and procedural requirements.

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Force Majeure

Force Majeure is a common clause in contracts that essentially frees both parties from liability or obligation when an extraordinary event or circumstance beyond the control of the parties, such as a war, strike, riot, crime, or an event legally termed “Act of God” (Volcano eruption, Flood, Earthquake, Hurricane etc) prevents one or both parties from fulfilling their obligations under the contract.

In practice, most Force Majeure clauses do not excuse a party’s non-performance entirely, but only suspend it for the duration of the force majeure.

The objective of a Force Majeure clause is cover occurrences beyond the reasonable control of a party, and therefore would not cover such things as the following:

  • Any result of the negligence or malfeasance of a party, which has a materially adverse effect on the ability of that party to perform its obligations
  • Any result of the usual and natural consequences of external force

An outdoor event that is called off for ordinary predictable rain requiring it to be called off will probably not be Force Majeure as the rain was foreseeable based on empirical data, such as weather patterns and the fact the event is outdoors. However in the alternative if there was a flash flood that causes damage to the venue and does not allow the event to be safely run, thereby breaching the organiser’s statutory duty of care, this would be Force Majeure.

Purpose of a Force Majeure clause

Where a contract is time-critical and / or has other sensitive contracts included they may be drafted to limit the shield of a Force Majeure clause where a party does not take reasonable steps (or specific precautions) to prevent or limit the effects of the outside interference, either when they become likely or when they actually occur. This type of event may work to excuse all or part of the obligations of one or both parties. For example, a strike might prevent timely delivery of goods, but not timely payment for the portion delivered.

A force majeure may also be the overpowering force itself, which prevents the fulfilment of a contract.

The length in time element of the clause cannot be overstated as it relieves a party from an obligation under the contract (or suspends that obligation) during the Force Majeure event. Further what is and isn’t a Force Majeure event or circumstance can be the source of much controversy in the negotiation of a contract. A party should resist any attempt by the other party to include something that should, fundamentally, be at the risk of that other party. In effect the party that is obligated to perform should be held responsible for the event and not have risk transferred. But like most negotiations the outcome depends on the relative bargaining power of the parties and there will be cases where Force Majeure clauses can be used by a party effectively to escape liability for bad performance.

As different legal systems have different interpretations of Force Majeure it is common for contracts to include specific definitions of force majeure, particularly at the international level. Some systems limit Force Majeure to an Act of God, but exclude human or technical failures (such as terrorist activities, war, communication and / or electricity interruption, industrial disputes etc). It is therefore critical in ensuring that the distinction is made in drafting of contracts to make these distinctions.

Application of common law

English common law does not automatically apply Force Majeure principles into contracts and parties who wish to have Force Majeure clauses and relief must details the terms in the contract. Frustration of purpose is however recognized although this is a narrower concept that applies when the actual performance of the contract is radically different than what the parties intended.

English courts have however interpreted a broadly meaning than just “Act of God” as a Force majeure event and judges have agreed that strikes and breakdowns of machinery may be included in Force Majeure. However negligent lack of maintenance may negate claims of Force Majeure as maintenance or the lack of regular cyclical maintenance is within the control of the assets owner.

It has also been established that Force Majeure cannot be extended to cover bad weather, such as sports matches or funerals. In the case of Matsoukis v. Priestman & Co (1915) it was held that “these are the usual incidents interrupting work, and the defendants, in making their contract, no doubt took them into account”.

Force Majeure in construction contracts

As in often the case in construction constructs particularly in relation to delay events, there is always a duty to mitigate the delay as far as reasonably possible. In the event of a Force Majeure event taking place this would still be required, but of course to a different starting point as the event was unforeseen in the general operation of the contract. In particular the parties need to pay close attention to specific notice requirements and the duty to mitigate the impact of the Force Majeure event. This is as a failure to comply with these requirements could mean you are unable to benefit from Force Majeure provisions in some circumstances.

The various forms have slightly different requirements and terminology. If we take a Force Majeure event being a shortage of labour for whatever reason, the standard forms would expect the following:

 NEC3

The relevant clause refers to an event which “stops the Contractor completing the works by the date shown on the Accepted Programme” and which:

  • Neither party could prevent;
  • An experienced contractor would have judged to have such a small chance of occurring at the time the contract was entered into that it would have been unreasonable for him to have allowed for it.

While at face value also a clause and terms that are useful to Contractors and / or Sub-Contractors, the final words could prove troublesome in an application for an Extension of Time (EoT) in a contract signed now, particularly when pandemics etc occur with some regularity that it would be difficult to discount them as having “such a small chance” of occurring.

As the Accepted Programme is crucial under the NEC form how do you “allow for” the possibility of a pandemic predicted for a date in the future that has a material bearing on the contract? If for example you allow a month into your programme, what happens if there is no pandemic?

ICE Design and Construct Contract

 The relevant clause refers to “other special circumstances of any kind whatsoever which may occur”. At face value this is a helpful cause to Contractors and / or Sub Contractor’s although what “special circumstances” could entail would be the test to be passed. Again parameters of what could be regarded as “special” would be detailed in the narrative of an amended clause.

JCT 2009 Design and Build

The JCT lists relevant events for EoT claims as well as having a Force Majeure clause. In this instance the relevant clause would be where the contract refers to “the exercise… by the UK government of any statutory power which directly affects the execution of the Works.”

FIDIC White Book

The relevant clause refers to “unforeseeable shortages in the availability of personnel… caused by epidemic”. The word “unforeseeable” could be a bit difficult here as even where, for example a virus outbreak has peaked there is a high possibility that it will return. It would be sensible to delete “unforeseeable” to avoid this potential anomaly.

As can be seen, the typical standard forms treat Force Majeure differently and in an effort to replicate the type of contracting environment that they are most appropriate to. This does make the proportionate element of the clause proportional, but of course never all encompassing.

Force Majeure clauses in bespoke contracts

A Force Majeure clause that lists examples is better than an undefined clause, but at the same time it would be impossible to detail a list that covered every potential eventuality.

Therefore a sensible solution would be to define Force Majeure acts along the lines of acts and events beyond the control of the parties rather than listing specific examples. The parties then will debate if an event that is unforeseen takes place is a Force Majeure event when the event takes place. The difficulty could be where Force Majeure is not a legal term and is open to interpretation. The party who wishes to rely on the clause will have to convince the adjudicator or court that their circumstances fall within force majeure.

Despite the observation made in relation to wording a definition in a bespoke form above, it was always be remembered that Force Majeure will always be seen as beyond the control of the affected party. It is important to remember that this is not the same as unforeseeable as under some of the standard forms also considered above. The test to satisfy will be that even if you had done all that was to be reasonably expected you would still have been affected.

In an individual case the parties, court or arbitrator will look at whether something is or is not force majeure based on the facts as presented to them and where this is being used to enforce a right under the contract such as termination, it will always be worth evaluating other clause in the contract to affect the same remedy.

Anti-Force Majeure clauses

It would generally be expected that most Employers accept that the Contractor will be unable to perform its obligations in a “genuine” Force Majeure situation, such as an earthquake. Their concern is more around Force Majeure clauses being used in a situation that are commercial in nature or that could have been avoided by taking reasonable precautions.

While this is outside of the type of examples that we have considered as part of this post, there are situations where “genuine” Force Majeure will not be regarded as sufficient cause for failure to perform.

This is in relation to essential services such as emergency services, their facilities and suppliers (healthcare and caring professions) and essential industries such as water and sewage treatment, power supply, waste collection, telecommunications, parts of Government and the military. Where services fall into this category, the Force Majeure clauses tend to look very different and rather than looking to end a matter is based around the parties meeting promptly to rectify the issues where possible, as opposed to arguing about what can’ be done. This would also give opportunity to suspend certain procedures while they are rectified, such as when electricity lines are blown down or where the internet and telephone lines go down.

Is there a lesson here?

Can this significantly different approach to Force Majeure that has to be implemented by effective necessity by the emergency services be a good approach across the board?

In reality it’s a good place to start where a project is affected by a crisis that has been unforeseen. Rather than heading into a potential dispute situation it would be better for the parties to come together and see what can be done to resolve the issues, the timescales and even costs (even if Order of Magnitude)  rather than what cannot be done.

A typical Force Majeure clause

How would a Force Majeure clause be worded? In reality it would be to suit the type of contract being entered into. This is an example is of how force majeure might be described:.

  1. FORCE MAJEURE

A party is not liable for failure to perform its obligations if such failure is as a result of Acts of God (including fire, flood, earthquake, storm, hurricane or other natural disaster), war, invasion, act of foreign enemies, hostilities (regardless of whether war is declared), civil war, rebellion, revolution, insurrection, military or usurped power or confiscation, terrorist activities, nationalisation, government sanction, blockage, embargo, labour dispute, strike, lockout or interruption or failure of electricity or telephone service. No party is entitled to terminate this Agreement under Clause 38 (Termination) in such circumstances.

If a party asserts Force Majeure for the failure to perform the party’s obligation, then the non-performing party must prove that the party took reasonable steps to minimize delay or damages caused by the foreseeable events, that the party substantially fulfilled all non-excused obligations, and that the other party was timely notified of the likelihood or actual occurrence of an event described in Clause 40 (Force Majeure).

Implied Terms in Contracts

With the United Kingdom having shaken up the selling of goods and services with the passing on the Consumer Rights Act [2015], it will be interesting to look at a case that was appealed to the Court of Appeal and see if anything different would or could happen under the new legislation.

The case of Lowe and Another v W Machell Joinery Ltd [2011] EWCA Civ 794 shook up the law with regard to terms implied into contracts.

Backgrounds

Mr and Mrs Lowe converted a barn for residential use and placed a number of orders with W Machell Joinery Limited. Crucially this was done during a conversation with no formal written quotation. The element of this order that led to this case was a bespoke, elaborately designed wooden staircase costing £16,000 (Exclusive of Value Added Tax).

The Lowe’s paid for the staircase on 4th June 2009 and it was delivered to their property on 5th June 2009. However on 12th June 2009 the Lowe’s rejected the staircase by letter and had another staircase supplied by another company. It was claimed by the Lowe’s that they were entitled to reject the staircase because the verbal contract with W Machell Joinery Limited included the installation of the staircase and it should have been installed.

Mr and Mrs Lowe issued proceedings to recover the price of the staircase in July 2009.

Technology and Construction Court (TCC) decision

The trail was heard in July 2010 and by this time the Lowe’s relied on further reasons justifying their rejection of the staircase which included that had the staircase been installed, it would not have complied their Building Regulations.

At the TCC hearing in Leeds, Yorkshire the judge held that the original reasons for rejecting the goods were unjustified.  However, he further held that W Machell Joinery Limited were in breach of contract as the staircase did not comply with Building Regulations. However this breach was not sufficient justification for the Lowe’s to reject the staircase as he reasoned it would have been easy to modify the staircase in a number of ways to ensure compliance with Building Regulations.

The judge therefore dismissed the claim and you would expect this to be the end of the matter.

Court of Appeal

Mr and Mrs Lowe appealed against the decision to the Court of Appeal.

Here they raised an argument on appeal that was not fully relied upon in the original trial. This being that Section 14 of The Sale of Goods Act [1979] implied terms into the contract between the parties which W Machell Joinery Limited subsequently breached entitling the Lowes to reject the staircase.

Section 14(2) of the Act provided that where goods are sold by a seller in the course of a business transaction there is an implied term that the goods are of satisfactory quality.

Section 14(3) provided that when goods are sold by a seller in the course of a business transaction where the buyer makes the seller aware that the goods have a particular purpose, a term is implied that the goods are fit for the purpose for which they have been supplied.

Therefore the Lowe’s also argued the term should be implied into the contract between the parties that the staircase would comply with the relevant Building Regulations and British Standards.

Court of Appeal Decision

The Court of Appeal found that there was a breach of contract and overturned the decision handed down in the TCC where he found this breach entitled the Lowes to reject the staircase.

The Judge found that the breach of the contract was of the implied terms that the staircase had to be of satisfactory quality and, because J Machell Joinery Limited was aware that the barn was to be converted to residential use, it needed to be fit for purpose as required by the Act.

The Court found “fit for purpose” included compliance with Building Regulations and therefore there was an implied term that the staircase would comply with the relevant Building Regulations and British Standards, albeit under cover of “fit for purpose”.

While the only way to see if this would hold true under the Consumer Rights Act [2015] as the legislation still requires these tests, it is highly likely a similar case would result in the same outcome.

Is this fair?

W Machell Joinery Limited contracted with the Lowes to supply a staircase that did not comply with Building Regulations. Further W Machell Joinery was not responsible for obtaining Building Regulation approval for the staircase.  Yet to show how obtuse the law can be, if W Machell Joinery Limited changed the specification of the staircase to be compliant with Building Regulations, this would not be compliant with the design requested by the Lowes. Therefore either way, J Machell Joinery Limited would be in breach of contract.

The solution to this anomaly from the Court of Appeal to avoid this situation was that W Machell Joinery Limited should have made the Lowe’s aware the staircase was not compliant with Building Regulations before it had been manufactured.  The Lowe’s would have had the choice to continue with the design and risk the staircase not complying with Building Regulations, or to alter the design to make it compliant.

Implied terms generally

From a construction industry perspective both The Housing Grants, Construction and Regeneration Act [1996] as amended by The Local Democracy, Economic Development and Construction Act [2009] and The Supply of Goods and Services Act [1982] as superseded by the Consumer Rights Act [2015] imply terms into construction contracts.

Housing Grants, Construction and Regeneration Act 1996

This Act implied terms which included:

  • Entitlement to stage payments
  • Limit to right to withhold payment
  • The right to refer disputes to adjudication
  • Mechanism for payment, including payment date and notice of amount
  • Prohibiting conditional payment provisions
  • Right to suspend for non-performance

If the above provisions were not included in a construction contract, the Scheme for Construction Contracts applies, in effect being the implied terms.

 Supply of Goods and Services Act 1982 
This Act implied terms that:

  • Service will be carried out with reasonable care and skill
  • Supplier will carry out the service within a reasonable time
  • Supplier will be paid a reasonable charge

These are still required under the Consumer Rights Act [2015].

Further the courts are empowered to also imply terms into contracts, and these fall into two categories:

  1. Where a contract has been entered into between the parties, to make the contract work successfully a term needs to be implied into the contract.  For example, the language may be ambiguous and require clarifying; and
  2. In construction contracts there are certain usual terms that are implied unless the parties wish to exclude or change these implied terms.  An examples of these implied terms for would be that the parties will co-operate with each other, and that the parties will not prevent completion from taking place.

Can you prevent the Lowe v W Machell Joinery Limited happening?

The primary issue that allowed the dispute to reach the conclusion it did was that no written contract or terms of agreement existed between the parties, setting out the contract terms and what was to be delivered.

Where there is supply or manufacture and supply of high value items you should always draft a contract which details the obligations and liabilities of each party.

This will enable both parties to understanding their duties and obligations and hopefully avoid disputes arising in the future.

Further this will prevent terms being implied into contracts which were not the parties’ intentions at the time the contract was made. In reality the material fact there was no written document allowed the Lowe’s to have the court rule in their favour on matters that were unforeseen at the time of agreement to supply the staircase.

Ansell Murray Limited has experience of drafting bespoke contracts as well as ensuring standard forms are correctly assembled.

The Construction Act (The amendments) Part II

In the previous post we reviewed the changes in the Construction Act as many companies still do not abide by them in their entirety. In this post we will consider these key changes in more detail.

 Contracts in writing

The most significant and far reaching effect of the 2009 Act is the removal of the requirement for construction contracts to be in writing and the Act applies to all contracts, be they wholly in writing, partly in writing and partly oral or wholly oral. This  will particularly affect Adjudication, although for Adjudicators Costs and the “slip rule” will need to be in writing to be relied on, if they are not then the Scheme will apply.

This makes it even more important that agreements (even where part standard conditions and part negotiated (oral) amendments are fully recorded in writing, even as a contract appendix. For the protection of both parties an “Entire Agreement Clause” where it is clear that the written document constitutes the whole agreement, should be included. This clause will not prevent disagreements,  but will significantly improve the position of a party arguing against an oral agreement.

Payment Issues

The amendment at Part 8 of the 2009 Act affect all Construction Contracts in England, Wales & Scotland when they came into force on 1 October 2011 in England & Wales and 1 November 2011 in Scotland. The primary aims of the amendments were to:

  • To make Adjudication more accessible to resolve disputes
  • To introduce clarity and certainty in relation to payment
  • To introduce a fair payment mechanism
  • To improve the right of Contractors to suspend their works for non-payment

The fundamental changes to the payment mechanism are:

  • Conditional Payment clauses are abolished
  • Changes to the Payment Notice regime, including a requirement for the Payee to pay the notified sum
  • Introducing new rules on Payless Notices
  • New rights for Contractors who suspend their services for non-payment
  • Allowing clauses to be included in Construction Contracts allowing the Employer to Withhold Payment without notice in the event of a contractors insolvency

We will now examine these fundamental changes and look at what the 1996 Act required and how this has been amended.

The Payment Notice

Previous position

In the 1996 Act an “adequate mechanism” for determining the sum due for payment and its payment date (known as the “Due Date”) was required. Further the payee had to give notice, not later than 5 days after the due date, detailing:

  • The amount of the payment made or proposed to be made
  • The basis on calculation of the amount

There was no effective sanction for failure to comply with the notice requirement and the Act was ambiguous if no payment notice was issued as there was no certainty to what sum was due under the contract.

2009 Act

 Construction contracts require a payment notice to be given for every payment provided for by the contract, not later than five days after the payment due date. The 2009 Act further defines the due date as “the date provided for by the contract as the date on which the payment is due”.

The contract must provide for the payment notice to be given by the payer, a “specified person” specified in or determined in accordance with the contract or by the payee itself. The notice must specify:

  • The sum considered to be due or to have been due at the payment due date in respect of the payment; and
  • The basis on which that sum is calculated.

Even if the sum considered due is zero, a payment notice must still be given in the required form.

Whilst not a sea change from the previous position they key changes that need to be considered are:

  • The payment notice no longer need to be issued by the Employer and  can be issued by specified persons such as the architect or engineer, or the payee may be required to issue the notice
  • The notice must simply state the sum which is “considered” due and the basis of calculation. This prevents duplication and takes into account any set off, abatement or any other deductions which may be withheld; and
  • A sanction has been introduced where there is a failure to issue a payment notice and a significant greater risk faced by parties that fail to issue payment notices. This risk is that the payee may now issue a notice in default stating the amount considered to be due and the basis for calculation.

If the deadline has passed and a payment notice has not been given, the payee may give the payer a payment notice – known as a ‘payee’s notice in default’ – at any time, stating the amount it considers due and the basis for calculation. If the contract provides for an application for payment and the application is made, that will automatically be regarded as a payee’s notice in default.

If a payee’s notice in default is issued, the final date for payment will be postponed by the length of time between when the payer or specified person should have given the payment notice and the date the payee gave its notice in default.

These changes are important because there is a positive obligation to pay the notified sum, which may be the value of an application under the contract

 Requirement to pay notified sum or less

 Previous position

A party to a construction contract could not withhold payment after the final date for payment of a sum due unless it has given an effective notice of intention to withhold payment (the “’withholding notice”).

To be effective the withholding notice needed to specify:

  • the amount to be withheld and the ground for withholding payment; or
  • Where there is more than one ground, each ground and the amount attributable to it.

The withholding notice had to given not later than the ‘prescribed period’ before the final date for payment, as agreed by the parties. Where a date had need been agreed then the default would be the requirement of The Scheme for Construction Contracts, making the period seven days.

Crucially a payment notice could act as a withholding notice, as long as it meets the requirements detailed above.

2009 Act

 The amendment in the 2009 Act creates a positive obligation on the payer to pay the ‘notified sum’, to the extent not already paid, on or before the final date for payment.

The previous regime of withholding notices has been abolished and the “notified sum” is now a key concept. This sum is the sum stated in the payment notice, which can be issued by the paying party, the specified third party or the payee. This notice can also be the notice in default and in almost all cases this will be the application for payment. If no payment notice is issued, there is a positive requirement to pay the sums set out in the application if the contract allows or requires the making of an application.

This change allows the paying party (or a specified person) to issue a notice of intention to pay less, known as the “Payless Notice” before the final date for payment or where specified in the contract the final date to issue a “Payless Notice. The “Payless Notice” must specify:

  • The sum that the person giving the notice considers to be due on the date the notice is served; and
  • The basis on how the sum is calculated.

However as with the “withholding notice” it must be given not later than the prescribed period before the final date for payment.

Another further change is in insolvency situations where the notified sum need not be made if:

  • The contract allows withholding of sums due in cases of insolvency: and
  • The insolvency occurs after the expiry of the time for giving the counter notice.

However this is not a statutory right and the contract must contain an appropriate clause to benefit from this provision.

 Suspension for non-payment

 Previous position

 Previously a party who is entitled to payment the right to suspend performance of its obligations under the contract if:

  • The sum due is not paid in full by the final date for payment; and
  • No effective notice to withhold payment has been given.

The party wishing to use this right has to give the other party at least seven days’ notice of its intention to suspend stating the ground or grounds for suspension. The right to suspend comes to an end when the other party pays the amount due in full. However there was no entitlement in the Act itself to recover your loss and expense where you suspended for non-payment. To have this right the contract needed to be amended to give effect to this entitlement.

Crucially any period of suspension under this right was disregarded when calculating the amount of time taken to complete the contract for the purposes of delay damages, so in effect could have the double whammy effect of putting you in breach of your obligation to complete by a particular dat or suffer Liquidated and Ascertained Damages.

2009 Act

 The right of suspension now arises where there is a requirement to pay the notified sum and that requirement has not been complied with.

The party wishing to suspend will now be able to suspend performance of any or all of its contractual obligations. This new entitlement to partial suspension of contractual obligations means that suspension is not limited to the actual construction obligations, but could go beyond and suspend the right to insure the works or suspension of works on only crucial areas or with certain sub-contractors, thereby negating programme delays if possible.

Where the right to suspend is exercised, the other party will be liable to pay a reasonable amount in respect of the costs and expenses reasonably incurred by the suspending party as a result of exercising this right and this is a Statutory Right enshrined in the Act.

Further, crucially the time period during which performance is suspended in pursuance of or in consequence of exercising the right of statutory suspension is disregarded when computing the time to complete work is any period.

 Conditional payment clauses

Previous position

 Under the 1996 Act provisions which make payment conditional upon receipt of payment from a third party (‘pay when paid’ clauses) are not prohibited and allowed payment to be conditional on other events, such as ‘pay when certified’ clauses, where payment is conditional on a certificate being issued under another contract.

This had the implication of effectively causing a Sub Contractor to become exposed where a dispute (that he was not party to) existed between the Employer and Contractor.

2009 Act

 Conditional Payment clauses are now invalid where they are conditional upon:

  • Performance of obligations under another contract; or
  • A decision by any person as to whether obligations under another contract have been performed.

This is to prevent a party up the line from relying on circumstances relating to its own contract to delay payment under a separate contract. By way of an example; if the Employer has not complied with its certification obligations to the Contractor, this cannot be used by the Contractor to deny payment to a Sub Contractor.

 There is however an exceptions in relation to management contracting or equivalent project relief arrangements, where the Contractor simply acts as a conduit. An example would be Public / Private Partnerships where a Special Purpose Vehicle (SPV) company is created with the sole purpose of procuring the project. This SPV has no assets and is not intended to have any liability unless it is first paid.

Due to concerns that the 2009 amendments would outlaw equivalent project relief provisions in subcontracts in Public / Private Partnerships, orders have been made which protect certain of these arrangements in respect of contracts entered into after the act came into force.

The Orders means that provisions in Tier 1 first tier PFI Public / Private Partnerships Sub Contracts which make payments in such contracts conditional upon obligations being performed in other contracts (such as providing certificates and ‘pay when paid’ clauses) will be effective.

Although in reality this is a loophole that will have to re-visited in the future. We will also examine Public / Private Partnerships in greater detail at a later stage.

 

At a practical level in day to day operation of contracts the fundamental changes are:

  • Notices are crucial, bearing in mind that if there is no payment notice the other party can serve a notice of default or rely on its own application for payment;
  • The paying party will then have to pay whatever has been notified unless a valid notice of the intention to pay less has been served; and
  • Payment clauses have had to be redrafted to reflect the changes

Sadly in far too many cases the changes that have been effected have not been communicated effectively in large organisations and while the necessary clauses have been changed to make compliant contracts, for fear of strike down clauses, on a day to day basis many do not provide the necessary documentation.

Yet even more concerning is despite this, many still do not enforce their rights.

The Construction Act (The amendments)

Previous postings of Heina v Beck & Enforcement of Adjudication Decisions as a result of Brown v Complete Building Solutions have primarily revolved around two pieces of Primary Legislation, these being The Housing Grants, Construction and Regeneration Act 1996 and the Local Democracy, Economic Development and Construction Act 2009. In effect the 2009 act has been primarily an updating of the previous legislation to clarify where over time the law has been seen to be deficient. We should therefore look at the material changes that took place.

 As these two pieces of legislation, where they apply to construction activities first define what would be a Construction Contract in accordance with the legislation. While it is not prescriptive and allows some legal interpretation, broadly a construction contract is defined as “all design and construction contracts, including professional appointments, are likely to be construction contracts as long as they relate to construction operations.

This leads to the further question of, “What are “construction operations?””

Again this has been left to some interpretation but includes a wide range of construction operations and most common forms of engineering operation, such as civil engineering projects.

Some engineering projects such as mining, nuclear and power generation as well as contracts with residential occupiers are expressly excluded.

Let’s now consider the major changes of the 2009 Act

The major changes took effect with after amendments were made to The Scheme for Construction Contracts in 2011 and apply to contracts entered into after this.

The table below explains the key changes that were made to the 1996 Act:

CHANGE POINTS TO NOTE

 

 

Contracts in writing no longer required

Section 107 of the 1996 Act will be repealed.

The payment and adjudication provisions of the 1996 Act will now apply to all construction contracts, whether written, oral or a mixture of both.

The parties will still have to have a written adjudication clause in their contract that complies with section 108 of the 1996 Act. If they do not, the Scheme will apply.

Adjudication may be used more widely but it is likely that more time will be taken up in future adjudications arguing about what the terms of the contract are.

Ability to award costs restricted

Parties will not be able to agree in advance who will pay the costs of Adjudication.

The adjudicator also cannot be given the power to award legal costs.

 

 

 

Under the new section 108A, only two types of costs agreement will be effective:

1) An agreement in writing in the construction contract which gives the adjudicator power to split liability for the adjudicator’s own fees and expenses between the parties; and

2) An agreement on costs made in writing between the parties after the notice of adjudication is served.

 

New slip rule

Under new section 108(3A), construction contracts will have to contain a provision in writing allowing the adjudicator to correct clerical or typographical errors in his decision, arising by accident or omission.

 

The Act is silent on how long an adjudicator will have to make corrections. Parties would be wise to agree a timescale in their contract.

Notably, the Adjudicator will be permitted but not compelled to make corrections and his ability to do so will be limited. He is unlikely to be able to correct factual or reasoning errors or errors of judgement.

Pay when certified clauses banned

‘Pay when certified’ clauses will be banned under new section 110(1A), except where the construction contract is an agreement for someone else to carry out construction operations and payment is conditional on that other person performing their obligations.

 

 

 

 

The exception to section 110(1A) will mean that management contracts will not be outlawed.

Equivalent project relief clauses in Public / Private Partnership contracts, which normally contain conditional payment arrangements, may have to be redrafted.

Payers may try to find other mechanisms to minimise the effect of this, such as by inserting a longer payment period into the subcontract than the period in the main contract.

‘Pay when paid’ provisions will still be ineffective under section 113, except where there is an upstream insolvency.

Due date can’t be determined by notice

Under new section 110(1D), making the due date dependent on the payer giving a payment notice will be banned.

This is not an adequate mechanism for determining when payments become due.

If there is such a clause in the contract, it will be ineffective and the Scheme will apply.

New payment notices

The payment notice provisions of the 1996 Act will be replaced.

Under new section 110A, a payment notice will have to be given not later than five days after the payment due date.

The construction contract may provide for the payer (person paying), the payee (person receiving payment) or another specified person to give this notice.

The payment notice must be issued, even where the amount due is thought to be zero.

To be valid, the notice must state the sum that the person giving the notice considers to be due (or to have been due at the payment date) and the basis on which that sum is calculated.

Where a specified person gives the notice, it may state the sum that either the specified person or the payer considers to be due.

If the payer fails to serve a valid payment notice but the payee has already submitted an application for payment, the amount set out in the application will become due. Payers should therefore be careful to serve their payment notices on time.

New payment default notices

Under section 110B, where the payer (or a specified person) is supposed to but has failed to issue a valid payment notice, the payee may serve a ‘payment default notice’.

Where a valid payment default notice is given, the final date for payment of the notified sum will be postponed by the number of days that it took the payee to issue the payment default notice after the payer failed to issue the payment notice.

The payment default notice must state the sum that the payee considers to be due and the basis on which it is calculated.

Payment default notices should be served promptly, to minimise any delay to the final date for payment and to ensure that suspension rights can be exercised if payment is not made.

A payment default notice cannot be served if the contract provides for the payee to serve the payment notice.

Withholding notices replaced by “pay less” notices

The withholding notice provisions of the 1996 Act are to be replaced.

Under new section 111, the notified sum (the amount specified in a valid payment notice or payment default notice) must be paid on or before the final date for payment, unless the payer (or a specified person) serves a valid ‘pay less notice’.

Money can still be withheld without a ‘pay less notice’, if the payee becomes insolvent after the period for issuing the notice has expired.

A “Pay Less otice” must state the payer’s intention to pay less than the notified sum. It must be served not later than the prescribed period before the final date for payment.

It must specify the sum that the payer considers to be due on the date the notice is served (even if that is zero) and the basis on which that is calculated.

A ‘pay less notice’ cannot be served before a payment notice or a payment default notice has been served.

 

Enhanced rights on suspension

Where the payee is entitled to suspend performance under section 112 of the 1996 Act, their rights will be enhanced.

The payee will:

1) be able to suspend their obligations in whole or in part;

2) be entitled to be paid the reasonable costs and expenses associated with the suspension; and

3) be entitled to an extension of time which includes time required to remobilise.

Enhanced compensation rights may encourage parties to use this remedy.

Suspension may now be seen as an even more effective way of securing payment.

 

 

 

 

 

 

In the next post we will have a look at these changes in more detail and what should be included to ensure compliance with and protection from changes from that seek to dilute the effectiveness of the changes.

 

Key Principles of a Contract

We start with the assumption that there has been an offer and acceptance and that the two contracting parties are entering into a bespoke form of contract as opposed to a standard form or an amended standard form of contract.

The key criteria is that the contract is entered into freely and offers sufficient protection to both parties. A contract that is too skewered in favour of one party to the other could be subject to a challenge under The Unfair Contract Terms Act [1977].

This Act was enacted to limit the extent to which under English, Welsh & Northern Ireland law, civil liability for breach of contract, or for negligence or other breach of duty, could be avoided by means of contract terms and otherwise. Under Scots Law civil liability can only be avoided by means of contract terms.

So where do we start.

The first principle is that the contract states the parties to it, what is being contracted for, and for what payment or offer of services apply. For example a Management Contract would state the management roles expected to be undertaken, usually have a minimum duration and mechanisms to extend the contract without need for a new contract being signed and an amount of remuneration, be that per hour, day or week.

The next critical element is the definitions of the contract where a term appears in the clauses that follow which are in effect the terms and conditions of the contract, for example if there may be interfaces with third parties as part of the contract these are defined and the extent of these interfaces are defined. This is primarily to ensure good practice but also to also avoid further dispute later.

It may sound simplistic, but if prior to contract award sufficient time is taken for the contract to be properly formulated, the chances of petty disputes are greatly reduced. In the event there is then a dispute, this will be on a fundamental principle of the contract and what is being contracted for. In this instance a fair and equitable contract will be critical for either party to assert their position.

Following these key term definitions there are a number of key heads that will be required for the contract to operate effectively and not become frustrated. These will include, but not necessarily be limited to the following and are in no particular order:

• Specific duties under the contract of both parties

• If one of the parties is going to deliver part of his obligations under the contract via a 3rd party, the specific requirements for this sub contract to operate

• To follow the previous bullet point, where the contract being entered into is a sub-contract, then for the party joining the works as a sub sub-contractor it is vital they are aware of the specific terms and conditions and by consequence any obligations that may be incumbent on them from that Main Contract

• How change (Variation) to what is being contracted for is dealt with

• Payment terms, what the parties are required to do to effect payment, the frequency of payment and grounds for withholding of payment

• The mechanism of the final payment due and the requirements for this to be computed

• In the event the contract has time limits with penalties, the grounds for the movement of the completion date and requirements to demonstrate this

• Confidentiality clauses, in effect that the commercial terms of the contract are kept secret, save for where required by a court of law. In sensitive industries such as nuclear power or defence these confidentiality clauses will be more onerous for obvious reasons of national security

• Insurance requirements and the period of any liability for your works under the contract (Professional Indemnity, Employers Liability, Product Liability etc)

• Dispute resolution provisions, such as informal discussions between the parties with named persons from each side, Arbitration or Adjudication (where applicable). This clause will be to avoid the prohibitive cost of litigation, however that will always remain as the final remedy between the parties

• The governing law of the contract, which is critical if a dispute ends up in litigation that the governing law is stated, e.g. English Law, Scots Law etc. In countries like the United States of America this can be critical as laws differ from state to state and while the difference may not be fundamental it could be material in a dispute

• Where the work of one of the parties will generate Intellectual Property, who retains the specific Intellectual Property to that work and the licensing of it for use by the employer and other third parties

• A similar arrangement will be required to the bullet point above in relation to any patents that may fall under the auspices of the contracted works

• While not always necessary, a clause relating to Force Majeure (Acts of God) is always a sensible clause to include

• Grounds for termination, before the contract has naturally expired and how this are invoked, this also needs to be even handed on both parties

• The most important clause of all I have left for last, Limit of Liability. At a simplistic level this is the upper limit of claim against your company or indvidually for your contracted works if they are defective etc. If the contract is silent on this, an argument could be made that your liability is unlimited, as the claim will effectively be made as a result of the consequences of your defective etc works. A contract worth say £100,000 could end up with a liability running into millions of Pound Sterling

These are the main clauses that would be required to allow a contract to operate and for, say a simple management or supply contract are all that would be needed, as the specific information would be inserted into the relevant clauses.

However where the contract is more onerous then additional information will need to be included within Schedules or Appendix. These would be the specific elements unique to that contract. For example the contract may involve a number of people with different skills and a requirement is that they are named in the contract and a mechanism to replace them in the event they are no longer involved in the works This would not be possible in a generic version of a contract, but would be included in a Schedule or Appendix, with the actual names and specific skills.

Another key element to cover in an Appendix or Schedule is any post tender amendments that have been agreed. If we return to offer and acceptance, where an acceptance is different to what the original tender stated it’s critical to capture what has been agreed, this is particularly important where say at tender stage there were a number of exclusions that have subsequently been set aside.

These are the very basic elements of a binding and enforceable contract, we will return to the subject later with a look at various forms of standard contract and their strengths and weaknesses.

Next time we will look at Alternative Dispute Resolution.

What is a contract?

At a basic level, a Contract is a legally enforceable document that binds one party to undertake a service to be paid for by the other. The contract is between are known as the contracting parties.

Yet people enter into simple contracts every day without being aware they have. For example when you buy a rail ticket between two points you have contracted with the Train Operating Company to take you between those two points, usually at a time dictated by the timetable. In the event the train is late by a pre-determined amount of time, the customer is entitled to compensation in accordance with the standard terms and conditions of travel. In effect this is a penalty clause

However these are simple transactions and the contract is effectively entered into when the full fare is paid, however for more complex issues such as when works are being undertaken then a written contract will be entered into. There can in effect be 3 options in this instance:

  • A standard form of contract where the terms and conditions are to a standard form, such as the Joint Contract Tribunal (JCT)
  • A variation of a standard form where some of the terms and conditions of standard form are amended to agreements that have negotiated between the parties to the contract
  • A bespoke contract where all of the terms and conditions are agreed between the parties.

The first two instances do not require any significant explanation as both have a starting point of a standard document and where the standard terms are varied these will under normal circumstances be to capture a particular element of what is being contracted for.

In a bespoke form of contract however a certain number of key clauses would be required for the contract to be able to be administered and not lead to a frustrated contract, which in effect would be terminated as unworkable. These types of contract will under normal circumstances be entered into by businesses on commercial terms. By their very nature they will be more critical than standard forms, particularly when disputes arise and the mechanisms available under the contract to avoid the expensive final remedy of litigation.

How do we ensure that any contract gives the necessary protection to both parties? By negotiation.

But for a negotiation to be effective and offer protection to both parties to the contract perhaps the simplest issue to have clear in the minds of both parties negotiating is actually the simplest part of the contract. What is being contracted for, for what sum of money, how has this contract sum been determined and to be delivered to what nominated date. That is of course at the simplest level, as there will be an Invitation to treat, offer and acceptance, but to get to the stage of acceptance there may be conditions attached and its vital that these conditions are documented.

By way of an example, a building contractor is sent a tender by a developer for a new housing development, which will require integration with existing infrastructure owned by the Local Authority, such as roads. The tender, is the “invitation to treat” and is to complete all of the works required to complete the development. The contractor in his tender return, which is the “offer” provides a quotation to do all of the works, save for the integration with the Local Authority infrastructure. In effect the offer is conditional. In the event the developer accepts the tender return together with the exclusions then a contract can be entered into as acceptance has been made of the conditional offer.

However in this case primarily to protect the interests of the contractor, the exclusion must be stated in the contract because at face value if the scope document, which has been included in the tender, is bound into or referenced in the contract but not the exclusions. This is an avenue where a dispute could potentially occur if later the developer tried to maintain that the contract sum was to deliver the scope document, particularly if the negotiation was done without minutes being produced or any document that could demonstrate the exclusion was absolute.

Next time, what is needed to ensure a balanced and equitable contract.