What do Alan Sugar, a flock of sheep and a paddle-wheel steamship have in common? Answer: the recent Court of Appeal case between Aviva and Hackney Empire Limited!
The Hackney Empire Theatre entered into a building contract for the restoration of the theatre. The project fell into delay, and the contractor applied for additional time and money to complete the project, claiming that the volume and content of the architect’s instructions had caused the delays. The architect disagreed, saying that the contractor was incompetent and under-resourced. The contractor threatened adjudication, stating that its final account would exceed the £11 million contract price by around £4 million.
In order to keep the project moving Lord Sugar (then Sir Alan Sugar), a benefactor of the theatre, proposed that the theatre should make a payment on account to the contractor. Following discussions between the parties, the theatre paid a £750,000 loan to the contractor on the understanding that the contractor would pay the sums back if it did not complete on time or if it could not substantiate its claim for additional money. Several months later, before completion of the project, the contractor went into administration.
The theatre terminated the building contract, and arranged for other contractors to finish the work. It made a claim to Aviva under the performance bond for the additional costs it suffered as a result.
Aviva rejected the claim, on the basis that the loan arrangement discharged its liability under the bond.
The Court of Appeal decided that Aviva’s liability had not been discharged. In doing so, it considered longstanding caselaw on performance bonds, relating to areas as diverse as docks, a sheep farm and an iron paddle steamship! From the caselaw the court identified the following test of a Surety’s liability:
1. Consent should be sought from the Surety before parties to a guaranteed contract make either:
- substantial amendments to the contract; or
- amendments that will be prejudicial to the Surety.
2. Advance payments of the agreed contract price made by an employer to a contractor may discharge the liability of the Surety. Additional payments made outside of the contract should not.
3. A Surety will not be released from liability if he has specifically consented to the change, or if there is wording in the bond which permits the change.
In this case, the loan to the contractor was made outside of the contract. The theatre could not claim the value of the loan from Aviva, but it could recover other sums owed to it under the Building Contract up to the maximum guaranteed sum.
This case is a useful reminder that parties should be careful when agreeing amendments to contracts backed by a bond. The majority of changes should be permitted under modern performance bonds but the wording of bonds does vary. As a result, employers should not make additional payments or change the contract terms without first checking the terms of the bond.