Last year, there were two key decisions relating to collateral warranties in Abbey Healthcare (Mill Hill) Ltd-v- Simply Construct (UK) LLP [2022] EWCA Civ 823 and Orchard Plaza Management Co Ltd -v- Balfour Beatty Regional Construction Ltd [2022] EWHC 1490 (TCC).

In December 2022 it was confirmed that Simply has been granted permission to appeal to the Supreme Court in the case of Abbey Healthcare.

A collateral warranty is a promise by the contractor or a professional consultant (the warrantor) to carry out its obligations under a building contract or professional appointment for the benefit of a third party who has an interest in the construction project such as a purchaser, funder or tenant.

These two cases cover (i) if a collateral warranty is a ‘construction contract’ under the Housing Grants, Construction and Regeneration Act 1996 (‘the Construction Act’) and (ii) the effect of assignment on the rights under a collateral warranty.

Is a collateral warranty a construction contract?

The question of whether a collateral warranty is a construction contract was previously considered in the case of Parkwood Leisure Ltd -v- Laing O’Rourke Wales and West Ltd [2013] EWHC 2665. This question is important because if a collateral warranty is found to be a construction contract, then the beneficiary has certain rights under the Construction Act including the right to adjudicate. The statutory process of adjudication is often a quicker and cheaper way to resolve disputes than litigation or arbitration.

The decision in Parkwood was clear that not every collateral warranty would be a construction contract as it depended on the precise wording used; if a contractor warranted to positively carry out the construction operations, the collateral warranty would likely be a construction contract but if they only warranted to a previous state of affairs then it pointed towards the collateral warranty not being a construction contract.

The case of Abbey Healthcare is an example of a beneficiary under a collateral warranty seeking to enforce its rights through adjudication. Abbey was the ultimate tenant and manager of a care home designed and built by Simply. There were some cladding and fire safety defects identified in the building which required remediation. The owner and Abbey commenced separate and successful adjudication proceedings against Simply for the cost of the remediation works. Simply did not pay and argued that the collateral warranty was not a construction contract and so the adjudicator had no jurisdiction. The judge at the enforcement hearing agreed that the collateral warranty was not a construction contract and seemed to rely on the fact that the warranty was given four years after practical completion so Simply were warranting to a past state of affairs and not providing a contract for the carrying out of construction operations.

The decision of the judge was appealed and the Court of Appeal took a different view. Upholding Parkwood, the majority decided that whether a collateral warranty was a construction contract depended on its wording: whilst the wording in the Abbey collateral warranty differed from the Parkwood collateral warranty it still related to both past and future performance so was a construction contract. The Court of Appeal found that if a collateral warranty was akin to a performance guarantee, then the collateral warranty was not a construction contract.

The position established by the Court of Appeal could be overturned by the Supreme Court. It remains to be seen if the Supreme Court will row back from the position in Abbey to the earlier more limited position in Parkwood. Until the Supreme Court reaches its decision, any beneficiary under a collateral warranty looking to commence dispute resolution procedure ought to be cautious about pursuing adjudication proceedings.

Assignment of a Collateral Warranty

The facts of Orchard Plaza are that a warranty originally given in favour of the funder was then assigned twice, as permitted by the terms of the collateral warranty, to the developer and then finally to the building owner.

Warranties usually provide a right to assign, albeit usually such assignments are limited in number or limited to a category of beneficiary. It is common to also see what is called a ‘no loss’ clause. This clause is intended to prevent the warrantor arguing that an assignee cannot recover an amount under the collateral warranty because it is an assignee and the assignor has not suffered or incurred any loss or would not have suffered that type of loss.

In Orchard Plaza, the building owner sought to recover the cost of remedial works from the contractor under the collateral warranty.

The contractor argued that the loss was too remote (ie not reasonably foreseeable as at the date of the underlying contract) as the losses that could have been foreseen by the contractor were those suffered by the funder who originally had the benefit of the collateral warranty (ie the diminution in value of its security).

The court held that the losses suffered by the building owner were not too remote. It clarified the test for remoteness was whether the kind of loss now claimed was, at the time the contract was made, reasonably contemplated as a serious possibility. The judge decided that it was in the contractor’s reasonable contemplation as a serious possibility that an assignee would incur repair costs because of a breach by the contractor.

Key takeaways

The Court of Appeal decision in Abbey was significant because many forms of collateral warranties in use were thought likely to be a construction contract. However, the appeal to the Supreme Court means that the right to bring adjudication proceedings in relation to a collateral warranty is still unclear. Until such position is clarified, there is significant risk that using adjudication to resolve a dispute under a collateral warranty could be subject to a successful jurisdictional challenge.

Beneficiaries who have been assigned the benefit of a collateral warranty will take comfort in the upholding of the no loss provision in Orchard Plaza which is wording commonly used in well-drafted collateral warranties. However, warrantors and their insurers will be more anxious to limit the scope of any assignment provisions and also perhaps, to limit their liability.

Watch this space! We will provide a further update once the Supreme Court has made a decision on Abbey.