High stakes in construction defects appeal

In February 2022, the Court of Appeal will be asked to determine if and when losses from construction defects can be recovered using a shorter and more cost-effective form of dispute resolution known as adjudication. In particular, the court will decide in Abbey Healthcare (Mill Hill) Ltd v Simply Construct UK LLP whether statutory adjudication rights attach to a type of contract known as a collateral warranty. The outcome means it will either take years or months to recover losses from construction defects via collateral warranties. What is a collateral warranty? A collateral warranty is a contract between a building contractor or consultant and a third-party beneficiary, such as a funder, landlord or tenant and are common in real estate transactions. Since the 1990s, the courts have restricted the right to sue for physical damage to buildings in the absence of a contractual relationship. As a result, mini-contracts developed where those providing works or services on a construction project warrant to those who fund, own, work or live in a finished building that the works or services have been carried out properly. The warranty is collateral to the principal contract under which the works or services were originally performed. Without collateral warranties, it would be extremely difficult for a funder, landlord or tenant to recover losses from a building contractor or consultant unless contractual links already exist from when the works or services were carried out. If a collateral warranty is a “construction contract” under section 104 of the Housing Grants, Construction and Regeneration Act 1996, there will be an implied right to refer disputes to adjudication at any time. If not, claims under collateral warranties may only be pursued through court proceedings. The facts Simply Construct (UK) LLP built a luxury care home and, after completion, defects were discovered which required repairs. The tenant, Abbey Healthcare (Mill Hill), obtained a contractual link with Simply (the Abbey collateral warranty) after commencing High Court specific performance proceedings. Abbey used the Abbey collateral warranty to bring an adjudication claim to recover the repair costs. Abbey’s adjudication claim was successful but when Simply did not pay, adjudication enforcement proceedings were commenced. Simply defended enforcement on grounds of jurisdiction. The landlord, Toppan Holdings, successfully recovered its losses in parallel proceedings. In deciding whether statutory adjudication rights apply to collateral warranties, the High Court emphasised in Toppan Holdings Ltd and another v Simply Construct (UK) LLP [2021] EWHC 2110 (TCC) that the timing of execution of a collateral warranty, rather than the terms, is paramount. The Abbey collateral warranty could not cover future construction operations as it was executed after completion. This meant that the adjudicator’s award was invalid and the damages payable by Simply to Abbey were not recoverable. Potential outcomes The Court of Appeal has now decided to revisit the complex issues raised by the case. There are three likely outcomes: Timing of execution, rather than the terms, remain paramount: There are concerns about a two-tier system applying to collateral warranties with those executed before completion attracting statutory adjudication rights but those executed afterwards only akin to a manufacturer’s product warranty. This approach raises logistical challenges in procuring collateral warranties with those providing them potentially delaying execution until after completion to avoid statutory adjudication claims. Disincentivising parties to provide collateral warranties on live construction projects makes it more difficult to restructure jobs in the event of insolvency. There is also uncertainty regarding the appropriate practical completion date for determining when statutory adjudication rights apply. Would rights apply if a subcontractor’s collateral warranty was signed after a subcontract package achieved practical completion but before practical completion of the entire project? Statutory adjudication rights do not apply to any collateral warranties: Adjudication is much quicker and more cost effective than court proceedings where it may take years, rather than months, to obtain a decision. If the Court of Appeal finds collateral warranties should never have attracted statutory adjudication rights, what is the status of historic adjudicator’s decisions where beneficiaries already used them to successfully recover losses from building defects? Terms, rather than the timing of execution, is paramount: A purposive approach to the Act, the construction of the Abbey collateral warranty, the lack of any direct authority dealing with the point and possible wider considerations of business efficacy and common sense might all support a submission that statutory adjudication rights attach to the Abbey collateral warranty. As long as statutory adjudication rights apply to some contracts and not others and as long as adjudication continues to be a popular and cost-effective dispute resolution process, there will continue to be arguments about what kinds of contracts fall within its scope and what fall outside it. Further guidance is required. Collateral warranties are currently in the spotlight because of the ongoing building safety scandal. The outcome of the case will be of interest to funders, landlords and tenants, many of whom may be wondering how costs from rectifying fire safety defects can be recovered from those responsible for the construction, design or certification of buildings identified as being unsafe. The Court of Appeal’s decision will determine the route by which many of those fire safety claims will be pursued. Judgment is expected in the first quarter of 2022 and the result is awaited with interest. Barry Hembling is a construction partner at Watson Farley & Williams LLP and acts for the appellant in this case