Guidance from the TCC on navigating the “inevitable muddle” of a hybrid contract

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In Severfield (UK) Ltd v Duro Felguera UK Ltd [2015], the TCC considered the difficulties of navigating the “inevitable muddle” of a hybrid contract (a contract including some works which fall within the Act’s ambit, and some works which fall outside).

A contract to which the Housing Grants, Construction and Regeneration Act 1996 (as amended) (“the Act”) applies must comply with its payment and disputes provisions.  For the Act to apply, the contract must be a “construction contract” for the purposes of the Act.  S104 of the Act defines a “construction contract” to be a contract for the carrying out of “construction operations”.  “Construction operations” are defined at s105 of the Act.

What happened?

Duro (the defendant employer) entered into a contract with Severfield (the claimant contractor) for the provision of steel structures to be used in the construction of two power plants.  Some of the works that Severfield was to provide were “construction operations”, but others fell outside the scope of the Act because they related to power generation (excluded by s105(2) of the Act). Unfortunately, the parties did not realise that the Act applied and so the contract contained payment requirements that were non-compliant with the Act.

In December 2014 Severfield made interim payment application number 15 in the sum of £3 million which covered both “construction operations” and other works, and did not differentiate between the two.  Insofar as the application related to construction operations and so fell under the Act, the final date for payment was 25 January 2015.  Duro failed to serve either a payment notice or a pay less notice, and paid the sum of around £360,000 on 6 February.

Severfield commenced an adjudication for the balance, and the adjudicator ruled in its favour. When Duro didn’t pay the amount of the decision, Severfield applied for summary judgment. In July 2015 the court refused to grant summary judgment, on the grounds that the adjudicator lacked jurisdiction, since the award arguably included sums in respect of excluded operations.

In August 2015, Severfield discontinued the original proceedings and issued new ones, stripping out the sums relating to the non-construction operations and claiming the reduced sum of £1.4 million. Severfield argued that it was entitled to the £1.4 million because Duro had failed to make payment of the amount set out in Severfield’s December 2014 application. Duro disagreed, and argued that it was an abuse of process to discontinue the original proceedings and start new ones.

Court’s decision

The  Court held in favour of Duro and refused to grant summary judgment. Key points from the judgment included:

  • Severfield’s interim payment application number 15 was not a notice in respect of the £1.4 million now claimed. Indeed the figure of £1.4 million was not mentioned anywhere in that application.
  • The new claim was, arguably, a revised claim and could not "piggyback" on the December 2014 notice. Severfield could not rely on that notice to take advantage of the defendant's failure to pay by 25 January. It would need to have served a revised notice claiming £1.4 million in respect of construction operations, but this would have enabled Duro to serve the requisite pay less notice.
  • The court agreed with the decision in Cleveland Bridge v Whessoe-Volker Joint Venture [2010], which stated that the Act only applied to operations which fell within its scope. Under a hybrid contract there would be two different payment regimes, leading to an "inevitable muddle”. Although this was “uncommercial, unsatisfactory and a recipe for confusion”, the court noted that this resulted from Parliament's desire to exclude what would have otherwise been obvious construction operations from the ambit of the Act.
  • The court added that the existence of a counterclaim by Duro would have been another ground for refusing summary judgment, since it would have been able to set off its counterclaim against the amount owed, at least in respect of the non-construction operations.
  • The court refused to find that the revised claim was an abuse of process. Although it did not grant summary judgment, the court found that the case could proceed to a full trial on the issues.

Points arising from the decision

Parties should establish at the outset whether the contract is a construction contract for the purposes of the Act. If the contract is a “hybrid contract,” they should either draft the entire payment regime so that it complies with the Act, or draft two separate payment regimes; an Act-compliant one for construction operations and another for the non-construction operations.

As the judge noted, all of this confusion over hybrid contracts could have been avoided if Parliament had seen fit to roll out adjudication to other industries, including power generation and utilities, rather than reserving it as a punishment for the construction industry. In fact, adjudication is an efficient and effective form of dispute resolution, which has brought clarity and certainty for over 20 years.  It will be interesting to see whether Parliament heeds the advice of the courts and extends adjudication to these other industries.

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