Changes in making changes

Rock Advertising Limited v MWB Business Exchange Centres Limited [2018] UKSC 24

The Supreme Court has surprised everyone by doing a u-turn on anti-oral variation clauses, reversing the relatively recent position formed by the courts in 2016, which had found that a contract with anti-oral variation clauses could still be amended by the parties orally or by conduct.

In 2016, three key judgments were handed down which encouraged us all to believe that the courts would be prepared to permit variation by conduct or oral variation arguments, even where the relevant contract contained a 'no oral variations' clause. This was particularly relevant to construction contracts, where it is not uncommon for variations to take place informally or not otherwise in accordance with the requirements of the contract and, of course, for disputes to ensue. Following the 2016 decisions, it was understood that parties would be able to argue that their contract had been varied orally or by conduct, despite the presence of a 'no oral variations' clause, if:

  1. objectively, the parties could be seen to have reached the stage where they intended to vary the contract; and
  2. consideration had been provided.

We have seen this argument put forward by contractors where they have been operating in slight variance to the terms of the original construction contract (on a regular basis and without objection from the employer) and the employer has subsequently sought to enforce the strict requirements of the contract to the contractor's detriment.

One of the three 2016 cases was the Court of Appeal decision in MWB Business Exchange Centres v Rock Advertising [2016] EWCA Civ 553. That decision has now been overturned by the Supreme Court.

Although not directly related to construction contracts, the case of Rock v MWB considered 'no oral variations' clauses in the context of commercial contracts. Rock Advertising occupied office space near Marble Arch under a licence from MWB. Rock had argued that the licence agreement had been varied by a telephone conversation between the parties and that such amendment had the effect of overriding the 'no oral variation' provision. The Court of Appeal accepted this, the rationale being the need to uphold party autonomy and the importance of contracting parties' freedom to agree terms. However, the Supreme Court rejected Rock Advertising's argument on the basis that "the law should and does give effect to a contractual provision requiring specified formalities to be observed for a variation". While Lord Sumption acknowledged the importance of party autonomy, he disagreed with the Court of Appeal's approach, taking the view that:

'Party autonomy operates up to the point when the contract is made, but thereafter only to the extent that the contract allows it. Nearly all contracts bind the parties to some course of action, and to that extent restrict their autonomy. The real offence against party autonomy is the suggestion that they cannot bind themselves as to the form of any variation, even if that is what they have agreed.'

It was found that (where a 'no oral variations' clause is present in a contract) any oral variation would not be effective unless and until it is reduced to writing, or the 'no oral variations' clause is itself removed or suspended by written agreement. The rationale being that this approach fully reflects the parties' autonomy to bind themselves as to their future conduct, whilst preserving their ability to release themselves from the inhibition.

The effect of this decision on construction contracts containing the standard 'no oral variations' clause will be that any amendment to the contract will have to be made in writing, in accordance with the variation procedures in the contract. Without this, it is unlikely that a party would be able to successfully argue that a construction contract has been varied simply because the parties have been doing something a particular way for a period of time, and they may therefore face financial consequences if they are not operating in accordance with the contractual terms. The Supreme Court's decision emphasises the importance of efficient and accurate contract management throughout the duration of a project.

Read the full judgment here.

SSE Generation Limited (SSE) v Hochtief Solutions AG [2018] CSIH 26

In this recent Scottish case considering NEC2 provisions, the Inner House found a contractor liable for remedial works required due to a tunnel collapse at a hydroelectric plant, despite the existence of a clause limiting the contractor's liability for defects in the works due to its design provided the contractor could show it used reasonable skill and care to ensure compliance with the Works Information. Importantly, it was found that the collapse arose as a result of the contractor's implementation of its design – to which, it was held, the limitation of liability provision did not apply.

In December 2005, SSE Generation Limited (Employer) engaged Hochtief Solutions AG (Contractor) to design and build a hydroelectric scheme at Fort Augustus in Scotland. The scheme included an 80km tunnel and was governed by an NEC2 Engineering and Construction Contract with bespoke amendments, including Secondary Option (M) (Contract).

In April 2009, a substantial part of the tunnel collapsed. The Employer instructed the Contractor to carry out remedial works, however it refused arguing that it was not liable under the Contract. The Employer appointed third party contractors to carry out the remedial works and later issued a claim for breach of contract in the sum of £137m (being the remedial costs). The Contractor denied liability and counterclaimed for £10m (being its putative loss of profit in not carrying out the remedial works, together with additional costs incurred).

We briefly set out the relevant provisions of the Contract:

  • Clause 80.1 of the Contract set out the Employer's risks and excluded any loss or damage occurring as a result of a "Defect which existed at takeover" (the risk of which remained with the Contractor). Defect was defined in Clause 11.2(5)) as either:
    • a part of the works which is not in accordance with the Works Information; and/or
    • a part of the works designed by the Contractor which is not in accordance with the applicable law or the Contractor’s design which has been accepted by the Project Manager.
  • Clause 6.3.2 of the Works Information required the Contractor to “provide a reliable service without requirement for major refurbishment or significant capital expenditure”.
  • Clause 81.1 provided that, until the Defects Certificate, risks that were not carried by the Employer were carried by the Contractor. Pursuant to Clause 83, each party indemnified the other against claims that were due to an event that was at its risk.
  • Option M excluded the Contractor's liability for defects arising from its design, provided the Contractor used reasonable skill and care to ensure that the design complied with the Works Information.

The Outer House (court at first instance) found that the tunnel collapse was caused by insufficient shotcrete and rock bolts deployed in poor rock conditions but that the Contractor was not in breach of its duty of care in the construction of the tunnel, partly because the terms of Option M operated to exclude its liability.

For the commercial judge, the collapse was an Employer's risk event: it did not arise from a "Defect that existed at take-over" and the Employer was only entitled to low availability damages in accordance with the Contract, for the Contractor’s failure to return to remedy the works. The Employer filed a reclaiming motion to the Inner House and the Contractor cross-appealed.

The Inner House allowed the reclaiming motion and rejected the cross-appeal two to one (with the Lord President dissenting). As to whether the tunnel collapse was the consequence of a Defect under the Contract, Lord Menzies and Lord Glennie held that:

  • the cause of collapse was a Defect which existed at take over: as the works had not been carried out in accordance with the Works Information and the collapse therefore satisfied the first limb of the definition of Defect; and
  • the Contractor’s implementation of its design was also not in accordance with a "design which had been accepted by the project manager" (the design had obliged the Contractor to apply steel rib support to any uncovered erodible rock, which was not adhered to) and thus the second limb of the Defect definition was also satisfied.

Accordingly, as a Defect existed at take-over, the collapse could not constitute an Employer's risk under Clause 80.1. As Clause 81.1 provided that any risks not carried by the Employer were carried by the Contractor. The Inner House went on to consider whether or not the Contractor was protected by the limitation wording in Option M.

Whilst the Court recognised that Option M provided a limitation on the Contractor's liability for defects arising from its design, it was irrelevant to the tunnel collapse, which was caused by the implementation of that design. The Option M limitation could not therefore apply, irrespective of whether or not the Contractor had exercised reasonable care and skill in its implementation.

Given the lack of English cases considering NEC wording, this case will likely prove persuasive for future English Court decisions (particularly given that the NEC2 wording relevant to this issue is the same as that contained in NEC3 contracts and substantially the same as that contained in NEC4 contracts (see X15.1 in both)). Contractors might therefore note that these limitation provisions are likely to be interpreted as only operating to limit the contractor's liability for loss/damage caused by its design and not offering protection where the loss/damage was caused by the implementation of that design, irrespective of the reasonable care and skill deployed.

Read the full judgment here.

Enforcing judgment debts and the appropriateness (or not) of creditor's petitions

Victory House General Partner Ltd v RGB P&C Limited [2018] EWHC 1143 (Ch)

A contractor was unsuccessful in its attempt to wind up the employer company for failing to pay a judgment debt following enforcement of an adjudication decision. The High Court confirmed that where a respondent to a winding up petition could show it had a bona fide cross-claim on substantial grounds, as a general rule and where no special circumstances exist, the petition should be dismissed. Interestingly, the employer relied on the recent case of Grove v S&T(UK) in successfully arguing its position...

Payment issues and disputes are prevalent in the construction industry, with parties often employing various methods to ensure cash flow or otherwise recover disputed sums. This case shows that, in practice, even seemingly simple methods of debt recovery are not always straightforward.

As a refresher, and at a high level, in order to successfully petition to wind up a company, a creditor must be owed at least £750 and show that the company is unable to pay its debts within the meaning of section 122(f) of the Insolvency Act. This may be evidenced simply by the fact that the debt remains unpaid 21 days following the service of a statutory demand. The winding up petition must then be filed at court and the appropriate notice given in the Gazette. The winding up petition will then be set down for hearing. Setting aside procedural issues, the court will generally dismiss a winding-up petition in cases where the creditor has a collateral purpose / ulterior objective, the debt is bona fide disputed on substantial grounds or the company has a genuine right to set-off or cross-claim. For these reasons, it is important that claimants make genuine enquiries of the company and properly consider whether a winding up petition is the appropriate course of action in the circumstances.

In this case, the contractor and the employer were in dispute as to sums payable from the employer to the contractor. Two adjudications followed. The first adjudication resulted in a judgment against the employer, which it failed to pay.. However, it subsequently paid in excess of £8.5m to the contractor on account. The second adjudication wrapped up the value of all the works to date (including that from the first adjudication) but resulted in a decision that the works were valued at just over £7m. Consequently, the sum due was nil. The contractor subsequently petitioned to wind up the company following non-payment of the judgment debt from the first adjudication, while the company submitted that, if the judgment debt was paid, they would immediately become entitled in the law of restitution to be repaid that sum, resulting in a bona fide cross-claim. On this basis, the company argued that it would be inappropriate to wind it up by reason of non-payment of the judgment debt.

The company relied on the recent case of Grove v S&T (UK) where Coulson J held that, provided an employer had paid an amount determined as payable in an adjudication, it could subsequently bring an adjudication as to the 'true value' of the relevant works and, where the figure determined in the second adjudication was smaller than the first, the employer would be entitled to ask for repayment of the figure appropriately calculated. The company submitted that, in its case, while there had not been a second adjudication on the same interim certificate, the second adjudication on the later certificate subsumed the earlier one. The second adjudicator had made a determination as to the 'true value' of the works up to that point and determined no sum was payable. The argument followed that if the employer paid the judgment debt 'there would immediately rise up, upon payment, a cause of action for repayment of that figure'.

Mr Justice Morgan accepted this and applied Re Bayoil SA [1999] 1 WLR 147 which confirmed that the established rule about disputed debts applied to disputed cross-claims also (where they exceed the petition debt). He did not accept the contractor's argument that Re Bayoil did not apply because it dealt with an arbitration award instead of a judgment debt and was not persuaded there were any special circumstances to take this case outside the general rule which he stated was 'an important rule which should be consistently applied and not departed from too readily'.

This case is a reminder for claimants to always consider whether or not particular courses of action to recover disputed sums are appropriate in the circumstances. While not dealt with in this judgment, a potential risk for the claimant of having a petition dismissed on the grounds discussed is that the claimant may find itself liable for the company's costs on an indemnity basis. Commencing winding up proceedings should generally be regarded as a last resort and not simply used as a means of enforcing a debt.

Read the full judgment here.