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Collateral warranties: you can lead a horse to water…

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I met with a client last week to talk over some issues that they are having on some long term consultant framework agreements where they are the “employer”. One particularly thorny issue is that instructions to proceed with a specific call-off under the framework are often resulting in fresh negotiations on the terms of the collateral warranties, and in particular a proposed reduction in the level of PI insurance that the consultant is prepared to offer in relation to the scope of work being instructed.

This is happening despite the fact that the framework already obliges the consultants to give collateral warranties in specified terms and to maintain an agreed level of PI. So what can my client do in this situation?

Force the consultant to sign the collateral warranty?

Last year I blogged about the Liberty Mercian case and the options for an employer, including a claim for specific or substituted performance, if a contractor is unable to provide a document that it is contractually obliged to procure, such as a collateral warranty, a performance bond or parent company guarantee.

However, my client’s situation is different. It is not that the consultant is unable to give the warranty, it is simply refusing to provide it on the agreed terms. I query whether the Liberty Mercian reasoning would apply here, as the party who is technically in breach of the framework agreement (the consultant in this case) has the ability to sign the collateral warranty. This is in contrast to the Liberty Mercian case where the documents in question, a performance bond and sub-contractor collateral warranty, were to be procured from third parties. As I said before, that case is probably confined to its somewhat unusual facts and is not of general application, and certainly not to my client’s current situation.

In the absence of a specific power of attorney in the underlying agreement, entitling an employer to sign documents on behalf of a contractor or consultant, it has to rely upon the contractor or consultant to do so. In the past, employers have sometimes asked their contractors and consultants to sign blank collateral warranties which could be completed once the relevant third party came on board, but that is not generally accepted practice now.

Often an employer will include financial sanctions in a building contract or professional appointment if the contractor or consultant fails to provide certain documents. For example, the right to withhold a lump sum or an agreed proportion of the next interim payment until the documents have been provided. However, this may not always be a sufficient deterrent.

Ultimately, no one can be forced to sign a contract if they don’t agree to its terms. As the saying goes: you can lead a horse to water, but you can’t make it drink.

Negotiate

Some hold the view that in a long term framework arrangement, where the parties are seeking to work together on multiple transactions spanning a considerable time period (in this case a 10 year framework agreement), it is inevitable that the documents will be renegotiated. While this might actually happen in practice, neither party is entitled to do so unilaterally and the terms of the collateral warranties should be viewed as agreed.

Unfortunately we see many cases where the only way to procure a collateral warranty is to re-open negotiations on its terms. This is not always a bad position for an employer. For example, third parties who were not involved at the time the underlying documents were negotiated, such as funders, purchasers or developers, may request specific changes to these documents. In those circumstances, a request for changes by the consultant is a useful bartering chip.

One note of caution here is where documents have been competitively tendered, either commercially or under public procurement rules and procedures. Changing the terms of a contract post award could lead to a claim by an aggrieved tenderer whose tender price or rates were based on the higher level of PI and associated risk, as that tenderer may feel it would have won the framework agreement based on the lower rate now being proposed. Although whether the aggrieved tenderer is likely to find out is of course another matter!

Third party rights v collateral warranties

Having discussed all of the options, my client is proposing to set up new framework agreements which oblige the consultants to grant third party rights (TPRs) to the defined class of beneficiaries; helpfully the existing framework agreements expire next summer.

The main factor in this decision is the one big advantage that TPRs offer over collateral warranties: they can be activated simply by the employer issuing a notice identifying the third party. This is within the employer’s control and, provided that the different “classes” of beneficiaries are adequately referenced in the framework agreement, does not require the consultant’s consent. There is no scope for a consultant or a contractor to seek to renegotiate the terms at the time.

As mentioned above, the only downside of this is if the employer itself wishes to change the terms because of third party requirements. Otherwise, I endorse the conclusion of Steven Walker QC and John Hughes-D’Aeth in their Society of Construction Law paper (198), “Giving rights to third parties: topical issues" that, as a result of Liberty Mercian, the “TPR moment….[really] has finally arrived”.

This article first appeared on Practical Law Construction Blog on 16 November 2016.

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