Bell & Scott

Construction Update seeks to cover a wide range of topics of relevance to those involved in the construction industry. In this issue, we comment on:

If you wish to discuss any of the items in this edition or require advice on construction issues please contact either Brandon Malone: DD: 0131 718 2384 e: b.malone@bellscott.co.uk; or Pat Loftus: DD: 0131 718 2388 e: p.loftus@bellscott.co.uk; or Sara Lannigan: DD 0131 718 2390 s.lannigan@bellscott.co.uk.

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More often than not, when negotiating professional team contracts and collateral warranties, the issue of the inclusion of a net contribution clause (NCC) comes up. The discussion focuses on the application of the common law principle of joint and several liability which provides that, unless there is some contrary agreement, where there are two parties who have caused the same loss, the party who suffers the loss can claim the full amount against any one of the parties responsible. As an example, a developer appoints a consultant and a contractor. The consultant has a duty to inspect the workmanship of the contractor. The developer suffers a loss as a result of the contractor’s bad workmanship, which the consultant should have identified and sorted out as part of his duties. The developer can try and recover the full amount of his loss from either the contractor or the consultant. If he wins, then either the contractor or the consultant will have to make good the whole loss to the developer. The one out of pocket can seek a contribution from the other under a separate claim but that is not an issue for the developer. It’s the losing party’s look out if his fellow wrongdoer has gone bust in the interim.

Joint and several liability, therefore, provides the disgruntled developer with some protection should one of his development team become insolvent or is not worth suing. A NCC displaces the principle of joint and several liability by stating that the individual wrongdoer is only liable for the “fair and reasonable” proportion of the loss caused and that all other wrongdoers are deemed to have paid the employer their own “fair and reasonable” proportion of the loss sustained. The risk of insolvency of any individual wrongdoer is, therefore, passed back to the employer.

Langstane Housing Association v Riverside Construction (Aberdeen) Limited (“Langstane”)

In Langstane, the court considered the validity of a NCC in the ACE standard form of appointment - it is quite rare for NCCs to come before a court and, therefore, the ruling on their validity and use is important for the industry.

Langstane owned a property which required remedial works. Langstane engaged a professional team to carry out those works. In the course of and as a result of the works, the property partially collapsed. Langstane had appointed its consulting engineers using the ACE standard terms form of appointment and it contained a NCC. Langstane sought to recover damages for the loss caused by the collapse in the property from the contractor, architect and engineer on a joint and several basis.

The court had to assess whether or not the inclusion of the NCC in the standard form conditions fell foul of the Unfair Contract Terms Act 1977 which requires that any clause limiting liability needs to be fair and reasonable. If it is not fair and reasonable, then the clause will be deemed to be unenforceable. Langstane argued that the NCC was unfair on several grounds - most notably, on the basis that the NCC was “unusual and controversial” because it altered the common law principle of joint and several liability, placing the risk of the contractor and consultants’ insolvency on Langstane.

NCCs are not limitations on liability – their purpose is to ensure that the wrongdoer is only liable for its own breach and not for other parties’ breaches. Consequently, the Unfair Contract Terms Act 1977 does not apply to them;
NCCs are not unusual, in this case, the NCC had been sufficiently flagged up to Langstane (it was familiar with the terms of the ACE standard documents and had, in fact, suggested the inclusion of a NCC initially; and
the transfer of risk of another wrongdoer’s insolvency to Langstane was not unduly harsh because Langstane, as the employer, could have appointed the other members of the development team on the basis of their financial strength and, therefore, mitigated the risk of insolvency.

An interesting case! The court accepted the inclusion of a NCC in the ACE conditions because of their widespread use in the construction market. It has to be said that, in the institutional market, this would not be the case. Many institutional investors and major developers reject the inclusion of NCCs as a matter of policy. One of the reasons standard form appointments such as ACE are frowned upon, and passed over in favour of bespoke drafting in the institutional market, is because of the inclusion of NCCs – they are not institutionally acceptable. In practical terms, the inclusion of a NCC in a consultant’s appointment is still a matter for commercial negotiation between the parties. Given the current state of the construction market, taking the risk of a consultant’s insolvency on board by agreeing to include a NCC is a position likely to be shunned by developers and institutional funders.

There are, of course, other ways in which an employer can reduce the risk of a contractor or consultant’s insolvency. He can take out appropriate insurance. Project insurance or latent defects insurance are regarded as more progressive methods of dealing with defects’ risk. However, at the moment, most developers/employers continue to rely on their contractors and consultants maintaining sufficient professional indemnity insurance to cover a claim against them if needed. The continued rise of construction insolvencies may see a run for cover here with an uptake in insurance to protect developers from the risk of design team insolvencies.

Case referred to Langstane Housing Association Limited v (1) Riverside Construction (Aberdeen) Limited, (2) Ramsay & Chalmers, (3) John S. Ramsay, (4) Alexander T. Chalmers, (5) Peter J. Fraser, (6) Ramsay Chalmers Limited, (7) Cumming & Co (Aberdeen) Limited, (8) Neil Rothnie and (9) Alan Cumming.

A full text of the decision is available on the Scottish Court Service website accessible here

The concept of practical completion and its attendant procedures have been helpfully considered in a recent case. The High Court in London was asked to rule on the validity of a certificate of practical completion issued under a building contract and the effect that certificate had on a share purchase agreement.

A pre-condition for completion of a share purchase agreement for the shares in three companies, one of which owned a property in Cheapside, London, was practical completion of the construction of the property. The deal required the seller to build the property. He engaged an agent to issue certificates of practical completion under the building contract for each section of the works.

In court, the buyer argued that a certificate of practical completion for a section of the works was not valid because: (1) the contractor had failed to provide a "level access" for disabled people as required: and (2) the seller had failed to give the buyer the contractual notice of the employer agent's intention to inspect the works before certifying practical completion.

For its part, the seller argued that the certificate of practical completion was valid and that, in any event, the buyer had waived its right to object to the validity of the certificate.

The court decided that the provision of a level access was a requirement of the building contract and that the employer's agent had acted outside his authority by certifying practical completion of that part of the works. The seller had given the buyer the required prior notice of the employer agent's intention to inspect the works before certifying practical completion. However, the buyer had waived its right to contend that the certificate of practical completion for the works was invalid and, as a result, all the conditions precedent for completion of the sale purchase agreement had been met.

The case highlights important issues regarding practical completion and the procedures involved. Firstly, and most interestingly, the majority of standard form contracts require the contractor to achieve practical completion, but there is no standard form contract definition of what practical completion actually means. Secondly, the case stresses the need to ensure that what constitutes practical completion under an associated contract connected to the works, whether that be under a share purchase agreement or, more commonly, an agreement for lease or straightforward conditional missive, is capable of being satisfied under the terms of the building contract.

Logic necessarily dictates that the meaning of practical completion will change from project to project – a definition, therefore, is well-nigh impractical. What’s more, it would be commercially unviable to delay the handover of a project because of some minor piece of work remaining to be completed which should, rightfully, be a snagging item. For these reasons, the majority of building contracts require a building contractor to hand over the building when all but minor snagging works – those that can be carried out without undue interference or disturbance to the owner/occupier of the building – are complete. Although parties are free to use whatever definition of practical completion they choose to suit their project, this can be a double-edged sword as the wording chosen may be too intricate in detail and potentially unattainable for a contractor. Additionally, there is a risk that a key component of the works required is missed out which could lead to the owner having to accept the works from the contractor as being complete when they are not.

You must be careful to ensure that what amounts to practical completion under an associated contract can be achieved under the building contract itself and that the contractor is aware of what the requirements under the associated contract are. There is a real risk here for a mismatch between the requirements of a standard form building contract which adopts the undefined standard of practical completion and, for example, the requirements of an agreement for lease which lists certain elements of the works which must be completed to the satisfaction of the incoming tenant before the works can be certified as practically complete. If there is a mismatch between the contracts, you can find yourself in a position where the contractor thinks the works are done and must be paid for but the incoming tenant does not and refuses to occupy the property and start paying rent. This situation arises most commonly where the definition of practical completion under an agreement for lease requires all deliverables i.e. collateral warranties, operation manuals, health and safety files etc to be handed over as a condition precedent to practical completion. Under a standard form building contract, practical completion does not require these documents to be handed over.

Not only do you need to take care over what constitutes practical completion under the building contract and any associated contract, but you also need to follow the agreed process in order to avoid any challenges on the basis of failure to adhere to proper procedure. Therefore, set timescales, opportunities to inspect, set forms of notice must be adhered to, afforded and used. Compliance may appear to be counter intuitive at the time because there will always be commercial pressures for a certificate of practical completion to be issued, i.e. the owner wants to sell or let the building and the contractor wants to move on to a new project. However, by following the correct procedures, you can eliminate any risks of the validity of the certificate being called into question.

During the practical completion process, you need to be aware of how the issue of the certificate of practical completion will impact on the contractual rights and obligations of the parties. The issue of the certificate will normally trigger: (1) the release of the first half of the retention money to the contractor: (2) the start of the defects liability period: (3) the start of any limitation periods in the contract and warranties: (4) the loss of effective employer remedies against the contractor and any right to claim liquidated damages (save where the contract says these can be charged in respect of remedying defects): (5) the obligation to insure the development passing back to the employer: and (6) the end of or a reduction in value of performance bonds taken out in relation to the works.

You need to be aware that when the certificate of practical completion is issued, there is a sea change in the obligations of the parties beyond the simple completion of the building. The employer, in particular, should be prepared for this.

Case referred to Menolly Investments 3 SARL v (1) Cerep SARL (2) Menolly Homes [2009] EWHC 516 (Ch).

A full text of the decision is available on the British and Irish legal Institute website accessible here

As Spring has arrived, there is renewed focus on “green” construction in the industry. Sara Lannigan of our construction team considers the rejuvenation of “green” awareness:-

EPCs have been with us for all new commercial buildings since 1 May 2007. However, from 4 January 2009, the legal requirement for all buildings in Scotland to have one, when they are sold or leased, became effective. There are very few buildings now which do not need EPCs. Only temporary structures designed to last for 2 years or less, stand alone buildings of 50m² or less and buildings which do not use fuel or power to control the internal temperature do not require EPCs.

EPCs rate the carbon emissions from a building and give recommendations as to how the energy performance of the building can be improved. For example, an EPC issued for an older building may make recommendations about better insulation or a more efficient heating system. These are recommendations only and not requirements at this stage.

For new buildings, an EPC needs to be produced at the date of practical completion of the building.

For an existing building, an EPC must be produced, by the owner of the building, free of charge, to all prospective buyers and tenants within 9 days of their requesting one from the seller or landlord.

An EPC is valid for 10 years from date of its issue. Once a new EPC has been produced for a building, it supersedes any older certificate even if the older one is less than ten years old and the new certificate is less favourable.

Failure to produce one, following a request to do so, could result in a £1000 penalty.

Apart from the inherent good there is in knowing the energy performance of your building, the commercial benefit from holding a decent energy performance rating is beginning to bed in within the construction and property sector. Buildings with a “greener “or “more cost effective” energy usage score are looking to obtain higher rents or purchase prices than their less efficient counterparts.

EPCs are relatively new so their impact on the construction sector cannot be fully assessed as yet. Given the ongoing EU push for sustainable construction in building regulations, it is likely that their importance will continue to grow and what are recommendations for improvements set out in EPCs, at this stage, will become mandatory requirements in future.

The drive for sustainable construction methods and materials goes hand in hand with the aims of EPCs. To assist in the promotion of sustainable construction, JCT has introduced sustainability guidance notes.

In March 2009, JCT published “Building a sustainable future together” as a forerunner to the inclusion of new sustainability clauses in all JCT forms of contract from May 2009. An industry-wide consultation process preceded the publication of the guidance notes.

The note considers how sustainability in design and construction is provided for within contract documents. It also includes new contract clauses that go beyond those currently in JCT contracts, which will be incorporated into Revision 2, due for publication this month.

The intention behind the guidance is to assist management and design teams, the construction industry and clients in achieving sustainability objectives through the use of contracts to procure construction projects. A stated objective is that project evaluation, at various stages, should be carried out. The evaluation should begin at the conceptual design stage, with a sustainable impact assessment, and finish with a post–occupancy assessment.

The advice does not seek to impose rigid criteria or strict targets on contractors. Instead, it introduces a framework under which the contract can provide for sustainability. The guidance note specifies a range of contractual provisions that can be selected covering: value engineering to encourage design efficiency: obligations to reduce, reuse and recycle: incentives for wastage limitation and energy and water savings; the reduction of emissions; and the use of sustainable materials and products.

Client organisations will determine the approach they need and what targets they wish to adopt. Whatever the choices made, they should be set out clearly alongside performance indicators so that they can be assessed objectively.

It will be interesting to see what uptake there is of the new JCT contracts as and when they are produced and, indeed, the SBCC contracts which are set to follow. It would not be surprising to find that the “new greening of contracts” is met with initial scepticism. Perhaps all the more so since these steps in the right direction come at a time when the industry is under extreme stress.

The Bill, introduced in the Scottish Parliament at the end of 2008, will create a long-term framework within which Scotland is to become a carbon saving and energy efficient nation. It introduces targets for the reduction of greenhouse gas emissions – down by 34 per cent by 2020 and 80 per cent by 2050.

The targets are ambitious in the UK and European contexts. Their achievement will require the deployment of sustainable construction methods and making compliance with recommendations in EPCs for old and new buildings mandatory.

Although there is someway to go before the Bill becomes law, it has been welcomed by construction bodies as an opportunity for the Scottish Parliament to proactively develop sustainable construction and to encourage the growth of green skills in the industry.

The Health and Safety Executive is to increase its supervision of construction sites.

In response to industry criticism and the UK Government’s inquiry into the underlying causes of construction accident fatalities, the number of front line inspectors will be increased from about 125 to 175. They are to be deployed in the Scottish industrial belt, Manchester, East and West Midlands and London.

The new inspectors will concentrate on preventive inspection rather than investigation of accidents. Their remit will be to spend time on sites and they will have the power to serve enforcement notices and levy fines.

Local Democracy, Economic Development and Construction Bill 2008 (“the Bill”)

In our Winter 2008 Construction Update, we highlighted, in detail, the proposed amendments to the Housing Grants, Construction and Regeneration Act 1996 (“1996 Act”) contained in the Bill.

The Bill had its third reading in the House of Lords on 29 April. As anticipated, there has been a considerable amount of lobbying to get the Bill amended. Already, bodies such as the Confederation of Construction Specialists, the Special Engineering Contractors Group, and the Construction Industry Council have voiced their opinions on issues such as the adjudicator’s power to apportion fees and the proposed amendments to the Act’s payment clauses. Whether their voices have fallen on deaf ears remains to be seen.

A particular issue regarding the Bill which is causing a great deal of discussion, is the interrelation between the provisions outlawing “pay when certified provisions” and PFI/PPP procurement. Given the Treasury’s recent announcement of its intention to bail out PFI/PPP schemes, which are now in financial difficulties due to the lack of institutional funding available, the debate on this issue is well timed.

The crux of the issue is that the Act applies to construction contracts in the round - there is no exemption under the Act for PFI/PPP construction contracts. This position is in contrast to PFI/PPP contracts between the public and private sector - 'Project Agreements' which are exempt from the Act. Up to now, this has meant that construction contracts on PFI/PPP procured schemes normally have what is known as “equivalent project relief provisions” specifically included to deal with the conflicting application of the Act as between Project Agreements and PFI/PPP construction contracts. This is a mechanism whereby the contractor agrees that certain monies due to it by the project company will not be paid until the project company itself has been paid by the public authority. This mechanism, taken at face value, is in breach of the Act, as it is a quasi “pay when paid clause”. However, parties involved in the PFI/PPP market accept these provisions as part and parcel of how PFI/PPP schemes are funded. The main contractor under its own sub-contracts will either have similar project relief provisions or adopt a “pay when certified” approach in order to pay its own sub-contractors.

Given the Bill is proposing to outlaw “pay when certified clauses”, it is likely that this will have no positive impact on sub-contractors in the PFI/PPP market. Main contractors will not wish to enter into a PFI/PPP sub-contract with a party that it cannot trust not to invoke the strict application of the Act, choosing instead to continue to work with sub-contractors that they already know and trust. That, in turn, will create a potential closed shop situation for sub-contractors who are not already in but are trying to break into the PFI/PPP market. If that were the case, one of the main aims of the Bill, to create fairer payment provisions for sub- contractors in the construction industry, would be defeated.

The Bill needs to have a specific exclusion for PFI/PPP construction contracts and sub-contracts, to acknowledge the long-standing view of the commercial differences between such contracts and non PFI/PPP construction contracts.

I noted in our Winter 2008 Update, that we could expect to see further lobbying at Westminster for amendments in the months to come. Given that the potential impact of the Bill is now being understood by the various sectors of the construction industry, it is no surprise to see such discussions. It will be interesting to see whether any vested interest is successful in getting the Bill further amended during the legislative process. At the moment it is a question of watch this space.

If you wish to discuss any issues arising form matters we have covered in this Construction Update, please get in touch with Brandon, Pat or Sara.

We are hosting an Autumn construction law seminar in Edinburgh on 22 October 2009. Further details to follow.

Pat Loftus will be speaking to the RICS as part of its CPD programme on 17 June 2009, on legislative changes affecting the construction industry in 2009.