It is common practice in various industries (particularly the construction industry) for parties to agree that specified loss or damage will be covered by insurance obtained for the parties’ mutual benefit, whether such loss or damage is caused by one party’s fault or not. In some cases the insurance fund is found to be the sole avenue for making good the relevant loss (thus barring any claims between the parties). In other cases the fund is found to co-exist with an independent right of action to recover damages from the party which caused the loss (thus permitting claims between the parties). As the Supreme Court made clear in Gard Marine, which of those alternatives applies in any given case depends upon the proper construction of what the parties have agreed.
In Haberdashers’ Aske’s Federation Trust Fraser J had to determine whether the existence of project-wide cover for a development barred a subrogated claim being brought by the project insurers in the name of the main contractor against a sub-contractor. In so doing, the Judge considered for the very first time how subcontractors in the construction industry come to participate in (i.e. obtain the benefit of) project insurance policies. The case is thus of wide interest to both the construction and insurance industries.
Lewisham Borough Council (“the Council”), the owner of a school, entered into a contract with a public-private SPV called LEP to build an extension to a school in Lewisham. It was a term of that contract that LEP would take out Project Insurance, and that (a) the parties insured by such Project Insurance should include the Council, LEP, the main contractor and any sub-contractors, and (b) the insurers of such Project Insurance should waive all rights of subrogation against any insured party. LEP duly purchased such cover with Project Insurers, with a limit of indemnity of £50m (“the Project Insurance”). The definition of “Insured” in the Project Insurance included the main contractor’s sub-contractors.
LEP engaged Lakehouse (“the Main Contractor”) to carry out the works. In turn the Main Contractor engaged CPR (“the Sub-Contractor”) to carry out various roofing works (“the Sub-Contract”). It was an express term of the Sub-Contract that the Sub-Contractor would obtain its own liability insurance of not less than £2m. The Sub-Contractor obtained liability insurance with a limit of indemnity of £5m.
During the course of the works there was a fire, allegedly caused by hot works carried out by the Sub-Contractor. Extensive damage was caused to the school and reinstatement works took some time to complete.
The Council issued proceedings against the Main Contractor (“the Main Claim”), and the Main Contractor brought a Part 20 Claim against the Sub-Contractor. The Main Contractor settled the Main Claim for £8.75 million. Those funds were provided by the Project Insurers. That left the Main Contractor’s claim against the Sub-Contractor (a subrogated claim brought by the Project Insurers in the name of the Main Contractor). That claim was limited to £5m (being the extent of the Sub-Contractor’s insurance). Thus the real battle was between the Project Insurers and the Sub-Contactor’s insurer.
The Sub-Contractor argued that it was entitled to the cover provided by the Project Insurance, with the result that any claim against it by the Main Contractor was barred because the Project Insurers had agreed not to bring any subrogated claim against any insured.
The Main Contractor (and the Project Insurers) accepted that, were it not for the express terms of the Sub-Contract, then the Sub-Contractor would have become an insured under the Project Insurance with the consequence that the subrogated claim would have been barred. However, they argued that the Sub-Contractor would only have become entitled to the cover provided by the Project Insurance (i.e. become an insured under that policy) as a result of the implication of an implied term in the Sub-Contract. They argued that, since the Sub-Contract contained an express term requiring the Sub-Contractor to obtain its own insurance, there was no room for the implication of such a term. Therefore the Sub-Contractor was not an insured under the Project Insurance, and consequently the Main Contractor’s claim against it was not barred.
The Judge considered that in order to resolve the competing arguments it was necessary for him to analyse the “legal mechanics” by which cover would be available to a sub-contractor under a policy of project insurance. He identified 3 different ways of analysing the situation.
The first way of considering the matter was the law of agency. It might be said that a sub-contractor became a party to project insurance as a result of the main insured acting as its agent, and the sub-contractor ratifying the main insured’s conduct. The Judge saw two problems with that analysis. First, the main insured could not act as agent for the sub-contractor unless the sub-contractor was a person capable of being ascertained at the time the insurance was effected, which would not always be the case. Second, the sub-contractor would or might be unable to ratify the main insured’s conduct if the sub-contractor had no insurable interest at the time the insurance was effected. The Judge concluded that the concepts of agency were being strained to accommodate the particular situation of project insurance.
The second way of considering the matter was that of “standing offer.” The Judge held that this was the correct analysis. On this analysis, the project insurer made a standing offer to insure persons who are subsequently ascertained as members of a defined grouping, e.g. sub-contractors. Such standing offer is accepted by a sub-contractor when it becomes a member of that defined grouping, i.e. when it enters into the relevant sub-contract. The acceptance of the standing offer leads to the implication of a term in the contract between the main contractor and the sub-contractor that the sub-contractor could not be sued by the main contractor for matters covered by the project insurance.
The third possible analysis was acceptance by conduct, i.e. that the sub-contractor accepted by its conduct that it would become an insured under the project insurance. The Judge did not consider that the notion of acceptance by conduct was more apt than that of standing offer.
The Judge’s conclusion was that the correct analysis was the “standing offer” analysis. Normally a sub-contractor’s entry into a contract with the main contractor would mean that the sub-contractor became an insured and beneficiary of the project insurance. However where, as in this case, the terms of the sub-contract expressly required the sub-contractor to have its own insurance, then the sub-contractor would not become an insured or beneficiary of the project insurance. Since the Sub-Contract expressly required the Sub-Contractor to obtain its own liability insurance, the Sub-Contractor did not become an insured or beneficiary of the Project Insurance. Therefore there was no bar to the Project Insurers pursuing the subrogated claim (in the name of the Main Contractor) against the Sub-Contractor.
Fraser J went on to hold that, since that the Sub-Contractor did not become an insured under the Project Insurance, the Sub-Contractor was not entitled to rely on the waiver of subrogation term in the Project Insurance. Further, the Contracts (Rights of Third Parties) Act 1999 did not assist the Sub-Contractor, because the Project Insurance contained a provision which excluded the operation of that Act.
The Judge’s view was that, whichever approach was adopted, the key issue was the intention of the parties, and the intention of the Sub-Contractor in particular. Given the express term in the Sub-Contract requiring it to obtain its own insurance, the intention of the Sub-Contractor (objectively assessed) must have been to obtain and rely on its own insurance, and not to rely on the Project Insurance.
The Judge’s analysis of the way in which a sub-contractor becomes a party to project insurance will be relevant to any case where there is uncertainty over which parties are covered by such insurance. However, his analysis is not without difficulty. The Judge found that the Sub-Contractor was not covered by the Project Insurance due to the terms of the Sub-Contract. It is odd that the terms of a contract entered into between parties A and B (the Main Contractor and the Sub-Contractor) should determine whether or not B becomes a party to a contract with C (the Project Insurance written by the insurer).
The effect of the Judge’s decision was to limit the scope of the “standing offer” made by the Project Insurers. Instead of offering to insure “sub-contractors” the Project Insurers were treated as offering to insure “sub-contractors which have not agreed to obtain their own insurance”. Such a limitation was not set out anywhere in the terms of the Project Insurance.
The Judge emphasised that, where there is project insurance in place, whether or not one party can bring proceedings against another will be a question of construction, turning on the terms of the contracts and policy in question. Therefore the facts of each case (and particularly the terms of each policy and contract) will need to be considered carefully. However, the likelihood is that in the construction context, where a main contractor expressly requires a sub-contractor to obtain its own insurance cover, then any project insurer will not be barred from bringing a subrogated claim against the sub-contractor, even if the loss in question was covered by the project insurance.
The Judge’s analysis of the law will be of interest in cases involving longer chains of contractors and sub-contractors. It is not difficult to envisage a scenario in which a sub-contractor required to hold his own insurance pursuant to his contract with the main contractor is found not to be insured under the project insurance (as in Haberdashers), but a sub-sub-contractor not required to hold its own insurance pursuant to his contract with the sub-contractor seeks a declaration that it is covered by the project insurance.
One issue which did not fall for determination by the Judge was what the position would be if the value of the Main Contractor’s claim against the Sub-Contractor had exceeded the amount of the insurance cover that the Sub-Contractor had agreed to obtain. If the Main Contractor had sued the Sub-Contractor for the full settlement sum of £8.75m (rather than limited its claim to £5m), would the Main Contractor have been entitled to recover that full amount? The Judge indicated that the Main Contractor would not have been entitled to recover the additional £3.75m which fell outside the scope of the Sub-Contractor’s cover, because (in his view) the parties would not objectively have intended the Sub-Contractor to be exposed to a liability to the Main Contractor which exceeded the limit on the Sub-Contractor’s own insurance.
Just as difficulties may arise where there is a mismatch between the limit of cover on the project insurance and the sub-contractor’s insurance, there may also be complications where there is a mismatch between the scope of cover afforded by the project insurance and the sub-contractor’s insurance. If a particular loss is covered by the project insurance, but falls outside the scope of cover which the sub-contractor was obliged to obtain, would the main contractor’s claim against the sub-contractor be barred? On the Judge’s reasoning the claim would be barred, because the parties would not have intended such a loss to be met by the sub-contractor’s insurance. However, that might mean that the sub-contractor was treated as an insured under the project policy for some purposes (where the loss fell outside the scope of the sub-contractor’s insurance), but not others (where the loss fell within the scope of the sub-contractor’s insurance). That would be a curious outcome.