Key points
- The Court of Appeal has adopted a more sensible analysis of the consequences of an employer’s failure to serve a pay-less notice under a construction contract
- This could see the end of contractors taking advantage of this mistake in “smash and grab” adjudications
The late, great Lord Denning had an ability to summarise an issue with the pithiest turn of phrase. And few would disagree with this analysis of the construction industry from the Court of Appeal’s decision in Modern Engineering (Bristol) Ltd v Gilbert-Ash (Northern) Ltd [1973] EGD 81: “There must be a ‘cash flow’ in the building trade. It is the very lifeblood of the enterprise.”
Problems with cash flow – particularly for subcontractors – was one of the evils that the Housing Grants, Construction and Regeneration Act 1996 (“the Act”) was intended to fix. The strict requirements of the Act’s notice regime regarding payments, combined with adjudication as a quick means of dispute resolution, resulted in a system that encourages the parties to pay now and argue later. As Chadwick LJ concluded in Carillion Construction Ltd v Devonport Royal Dockyard Ltd [2005] EWCA Civ 1358; [2005] PLSCS 207, the Act provides a means of meeting the legitimate cash flow requirements of contractors and their subcontractors: “The need to have the ‘right’ answer has been subordinated to the need to have an answer quickly.”
But neither the Act’s very clear intentions, nor the courts’ willingness to uphold them, have stopped parties on the wrong side of its provisions from thinking of clever ruses to try to get around them.
The missing notice
One fertile area for legal stratagems has been a paying party’s response to a situation where it has failed to serve a pay-less notice (formerly a withholding notice) under section 111 of the Act. Ever since the Court of Appeal’s decision in Rupert Morgan Building Services (LLC) Ltd v Jervis and another [2003] EWCA Civ 1563; [2003] PLSCS 257, it has been settled law that an amount certified under a construction contract is, in the absence of a section 111 notice, payable. Failure to serve the notice is fatal in the short term.
However, the court stressed that this was only an interim solution designed to deal with cash flow rather than liability. Once the certified amount has been paid, the employer can still bring fresh adjudication or other proceedings to resolve the issue.
The rise of “smash and grab”
Many commentators felt that Edwards-Stuart J’s decisions in ISG Construction Ltd v Seevic College [2014] EWHC 4007 (TCC); [2015] PLSCS 72 and Galliford Try Building Ltd v Estura Ltd [2015] EWHC 412 (TCC); [2015] EGLR 30 saw the start of an even more robust judicial approach to contracts entered into on or after 1 October 2011 (when the Act’s amended provisions regarding payment came into force).
Despite the judge himself suggesting in Galliford that his earlier judgment in ISG had been misconstrued, both decisions started to be treated as authority for a failure to serve a section 111 notice constituting the employer’s deemed agreement to the amount claimed in a contractor’s application for payment.
Because the various statutory instruments that underpin the Act’s terms throughout the UK (“the schemes”) have always forbidden a second adjudicator considering a dispute that is the “same or substantially the same” as a previous one, “smash and grab” adjudications became more prominent. Previously, relying on authority such as Morgan, a party who had failed to serve a section 111 notice immediately commenced a second set of adjudication proceedings on the merits of the underlying claim (as opposed to the missing notice). With both decisions being reached on or about the same time, there was little advantage to be gained from the employer’s mistake, apart from (perhaps) a temporary credit to the contractor’s bank account.
Following ISG and Galliford, more and more adjudicators were persuaded that they lacked the jurisdiction to consider the underlying merits of a contractor’s application where the employer had failed to serve a notice. A second adjudication on the merits was felt to breach the schemes’ prohibition against further adjudication on a dispute that was the same or substantially the same as an earlier one. Contractors were able to take advantage of the employer’s missing notice and “smash and grab” their way to a cash windfall.
Common sense returns
Thankfully, the Court of Appeal has restored some sanity to proceedings in Harding (t/a MJ Harding Contractors) v Paice and another [2015] EWCA Civ 1231; [2015] PLSCS 342, a case in which a contractor sought to stop what would be the fourth adjudication between the parties on the basis that the true amount of a valuation where the employers had failed to serve a pay-less notice had already been decided in the third.
Jackson LJ emphasised the concerns Edwards-Stuart J had expressed in Galliford about the interpretation given to ISG being taken too far. With these in mind, he held that, on the specific facts of the case, the adjudicator had not actually valued the amount claimed in the third adjudication. Rather, he had decided that the employers were in breach of contract for failing to serve a section 111 notice. As such, the valuation issue remained to be resolved and the fourth adjudication could proceed.
This decision has since been referred to approvingly by a different Court of Appeal in Brown and another v Complete Building Solutions Ltd [2015] EWCA Civ 1; [2016] PLSCS 13. Falling foul of two appellate decisions in such quick succession could well prove fatal for “smash and grab” adjudications. It also helps to remind parties that adjudication is concerned with cash flow and not the ultimate resolution of a dispute.
