Ziggurat (Claremont Place) LLP v HCC International Insurance Company Plc

B e f o r e :

THE HON MR JUSTICE COULSON ____________________

____________________

Ms Alexandra Bodnar (instructed by Walker Morris LLP) for the Claimant Mr Seb Oram (instructed by Clarkslegal LLP) for the Defendant Hearing Date: 14 December 2017 ____________________

HTML VERSION OF JUDGMENT ____________________

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The Hon. Mr Justice Coulson:

Pursuant to a building contract incorporating the JCT 2011 standard form, the claimant employed County Contractors (UK) Limited ("County") to build blocks of student studios at 19-26 Claremont Place, Newcastle Upon Tyne ("the site"). County's performance was the subject of a Performance Guarantee Bond ("the Bond") provided by the defendant to the claimant and dated 28 January 2015. Following County's suspension of the works and insolvency, other contractors were engaged by the claimant to complete the works. The additional costs were claimed from but not paid by County. A subsequent claim was made on the Bond which has not been satisfied.

By a claim form issued on 3 October 2017, under CPR Part 8, the claimant seeks three declarations as to the true construction of the Bond. The claims for the first two declarations are resisted by the defendant, although the third has been belatedly agreed.

I propose to deal with the issues between the parties in this way. In Section 2 , I set out the relevant terms of the building contract and the Bond. In Section 3 , I set out a brief chronology of the relevant events. In Section 4 , I set out the declarations sought by the claimant. In Section 5 , I summarise the relevant principles of interpretation and the applicable authorities relating to performance bonds of this kind. Then, in Sections 6 , 7 and 8 , I deal with each of the three Declarations. I am very grateful to both counsel for their thoughtful skeleton arguments and concise oral submissions.

The Building Contract

It is only necessary to set out the relevant terms of the building contract between the claimant and County in so far as they relate to termination. The provisions were as follows:

The Bond

It is principally the first two clauses of the Bond which are relevant to the present dispute. They were in the following terms:

The Schedule provided that the maximum value of the Bond was £382,519.08 (being 10% of the building contract sum). Insolvency was defined as "the occurrence in relation to the Contractor of any of the events set out at clause 8.1 of the Contract", again a reference back to the building contract.

Other clauses to which reference was made during argument included:

(b) Clause 5, which identified that discharge occurred upon Expiry (a term also defined in the Bond) "save in respect of any breach of the Contract which has occurred and in respect of which the claim in writing containing particulars of such breach has been made upon the Guarantor before Expiry."

It should be noted at the outset that the Bond was in standard ABI Model Form with one important exception: clause 2 was an entirely homemade addition, and must therefore be taken to have been added by the parties to meet their particular requirements.

At some time in February 2016, County stopped work at the site. They did not suggest that this was anything to do with the claimant; the evidence suggests that it was because of their financial difficulties. On 14 March 2016, CAG Architects Limited, the contract administrator ("CAG") served a notice on County pursuant to clause 8.4.1 of the contract identifying two specified defaults. These were:

(a) Without reasonable cause wholly or substantially suspending the carrying out of the works (clause 8.4.1.1); and

(b) Failing to proceed regularly and diligently with the works (clause 8.4.1.2).

The notice gave County 14 days to remedy the specified defaults and warned that, if they failed to do so, their employment under the building contract would be terminated. County failed to respond to the notice or return to site. So, on 31 March 2016, the claimant served notice of termination under clause 8.4.2. The notice made plain that, pursuant to clause 8.7.1, the claimant would employ and pay others to carry out and complete the works and would seek to recover from County the costs which were thereby incurred. County again failed to respond to the notice.

On 8 April 2016, County became subject to a Company Voluntary Arrangement ("CVA"). County were therefore insolvent as defined in clause 8.1.1 of the building contract. Administrators were appointed on 19 May 2016. County remains in administration, and there has been a recent application to extend the administration until 1 November 2018.

The claimant then engaged others to complete County's works. Following completion and the making good of defects, an account was prepared by CAG in accordance with clauses 8.7.4-8.7.5 of the building contract, which indicated a balance due to the claimant of £621,798.38. On 10 March 2017, a notice pursuant to clause 8.7 was served on County, demanding the payment of this sum as a debt in accordance with clause 8.7.5.

On 17 March 2017, the claimant made a demand under the Bond against the defendant. This referred to the debt due from County of £621,798.38. The claim on the Bond was limited to the maximum permitted, namely £382,519.06.

Under the terms of the building contract, the debt was due and payable by County on 31 March 2017, 21 days after the notice. It was not paid by County and neither was the claim on the Bond accepted.

On 12 April 2017, County's solicitors wrote, more than a year after the relevant events, to complain about the claimant's termination of County's employment. It was said that the purported termination was invalid due to a miscalculation of the length of the relevant notice period. This, it was said, meant that the termination notice was invalid and that, in consequence, the claimant had repudiated the building contract. As to the quantum of the claimant's claim, County's solicitors simply said that "in any event the sums claimed by Ziggurat are disputed". Further particulars of this dispute were promised, but have never been provided, either by County or by the defendant.

As for the claim on the Bond, in a letter from the defendant dated 12 July 2017, the defendant's position was summarised as follows:

Declaration 1 is in the following terms:

Declaration 2 is in the following terms:

Declaration 3 is in the following terms:

It is right to note at the outset that, in my view, these declarations are unnecessarily prolix. More significantly, they do not always reflect the arguments that were so skilfully advanced by both counsel. Up to a point, this reflects the uncertain and fluid nature of civil litigation, and no substantive criticism is intended of either side. But I cannot help feeling that these Part 8 proceedings were not perhaps the best vehicle for resolving the underlying issues, and that it would have been much better if the arguments had arisen on an application for summary judgment under Part 24. Then at least the tramlines introduced by the draft declarations would have been unneccessary.

Following the production of Mr Oram's skeleton argument, as I have indicated, Declaration 3 is no longer in issue.

The Principles of Interpretation

As to the general principles of contract construction, I follow the well-known guidance set out most recently by the Supreme Court in Arnold v Britton [2015] AC 1619 and Wood v Capita Insurance Co [2017] UKSC 24 . What matters is what a reasonable person, having all the background knowledge available to the parties, would have understood the words of the contract to mean, using the language in its commercial and factual context. Where there are rival interpretations, concepts of business common sense can be relevant as an aid to construction.

The Relevant Principles Relating to Performance Bonds

A bond of this sort is an instrument of secondary liability. The surety cannot be in a worse position, as against the employer, than the contractor. In Tower Housing Association Limited v Technical and General Guarantee Co Limited (1998) 87 BLR 74, Judge Humphrey Lloyd QC said:

In that case, Tower were arguing that, as against the surety, their hands were not tied by some of the detailed provisions of the contract, as they might have been if they were pursuing the contractor. Judge Lloyd rejected that submission. He said that "the obligation of the surety is relative to the obligation of the contractor under the terms of the contract; as one might expect in approaching any bond, the obligation of a surety is simply to stand behind that of the debtor (the contractor) and not to be under any greater liability than the contractor would have had."

Thirty years ago, there were regular arguments about performance bonds of this kind provided in support of building contractors. Many of those arguments arose because the performance bond was only triggered if the contractor was in breach of contract and so, if the contractor became insolvent, and the contract was terminated, it was argued that that was not a breach, and that there was therefore no liability under the bond. In this way, given the unhappy habit of building contractors becoming insolvent, both then and now, the secondary liability market was not reflecting the reality of the construction industry.

However, those issues were largely resolved by the Court of Appeal in Perar BV v General Surety and Guarantee Co Limited (1994) 66 BLR 72. In that case the Court of Appeal held that the automatic termination of the contract following the insolvency of the contractor did not amount to a breach of contract, with the result that there was no right to immediate payment under the bond merely because the contractor did not continue to execute the works. Insolvency alone did not therefore give rise to any payment entitlement.

However, Peter Gibson LJ noted that clause 27.4.5 of the contract under consideration contained a provision which allowed the calculation of a sum due under the contract following determination. This provision culminated in a debt payable by one side to the other. It was a forerunner of the provisions of clause 8.7 in the building contract between County and the claimant. Peter Gibson LJ went on to say that, in Perar , there had never been a claim under clause 27.4.5, and that:

In other words, insolvency would lead to a breach (and thus a claim under the bond) if the employer had followed the provisions of the contract and established a debt due, and the debt remained unpaid by the contractor.

The importance of the contractual ascertainment exercise was restated in Paddington Churches Housing Association v Technical and General Guarantee Co Limited [1999] BLR 244. Again, that was a claim on a bond in the absence of any ascertainment of the debt due under clause 27. Judge Bowsher QC reiterated both the secondary liability that arose under the bond and the importance of the contractual mechanism. At paragraph 24 he said:

The judge said that the absence of the statement was fatal to the employer's claim. At paragraph 30 he said that, "When such a statement is provided, if it shows a net sum due to the plaintiffs, the defendants will become liable up to the amount of the bond."

In the present case, the relevant provisions at clauses 8.5 and 8.7 of the 2011 standard form have been the subject of recent consideration by the Court of Appeal in Wilson and Sharp Investments Limited v Harbour View Developments Limited [2015] EWCA Civ 1030 . That case was concerned with an appeal against a refusal by the first instance judge to allow the appellant an injunction to restrain the defendant from presenting a winding up petition. The issue was whether an accrued debt could be payable after termination. The judge concluded that clauses 8.5.3 and 8.7.3 could have no application if the contract had already been terminated prior to the insolvency.

The Court of Appeal rejected that conclusion. The critical paragraphs for present purposes are paragraph 49 and 50 of the judgment of Gloster LJ which were in the following terms:

The Real Issue

Declaration 1 is set up on the basis that the only issue between the parties is whether a breach of contract on the part of County is always required under clauses 1 and 2, or whether an insolvency event (which the parties have assumed not to be itself a breach of contract) is enough to trigger liability on the part of the defendant under clause 2.

In my view, for the reasons set out below, that is not necessarily the right question. The right approach is to identify what is necessary for a successful claim against the defendant under clauses 1 and 2 of the Bond, in circumstances where County are insolvent and have not paid the debt which has been ascertained in accordance with the building contract and is therefore due pursuant to clause 8.7.5.

The True Construction and Proper Operation of these Clauses

Under clause 2 of the Bond, the damages payable by the defendant to the claimant included "any debt or other sum payable to the Employer under the Contract following the insolvency". On the facts, there is a debt payable to the claimant by County under the building contract. That is the figure of £621,798.38 set out in detail in the letter from CAG to County on 10 March 2017. That debt "follows" the insolvency in that it was ascertained and had been demanded after the CVA of April 2016.

On the face of it, therefore, the unpaid debt is payable by the defendant (as surety) to the claimant under the terms of the Bond, albeit at the maximum sum due under the Bond of £382,519.06. In my view, that result can be arrived at in two different ways.

(a) Breach Not Required

The first route involves a consideration of the Bond in the context of the building contract. The relevant terms of the contract, set out in Section 2.1 above, carefully differentiate between the two main ways in which termination may occur. One is on the default by the contractor (clause 8.4); the other is due to the insolvency of the contractor (clause 8.5). They both give rise to the same result: the calculation and identification of the debt under clause 8.7.

Thus, anyone reading clauses 1 and 2 of the Bond would see that the purpose and intent of those clauses was to mirror the two principal termination routes provided for in the building contract. It would be contrary to common sense to maintain that clause 2 was subsidiary to clause 1 in such a way that clause 2 did not operate on the occurrence of an insolvency event. That would mean that the employer could never recover against the defendant surety for losses due to insolvency (on the assumption that insolvency was not a breach), contrary to the clear purpose and intent of clause 2.

Paragraph 2 of the Bond refers to damages "payable under this Guarantee Bond…following the insolvency…of the contractor." Thus, the Bond is making it as clear as possible that the defendant is liable for sums payable by County under the building contract, but which have not been paid as a result of, or following, County's insolvency. In addition, the accounting exercise set out in clauses 8.7.4-8.7.5 of the building contract follows the insolvency, and results in a debt payable by the contractor to the employer. Thus, the wording of the building contract is echoed by clause 2 of the Bond.

Mr Oram's response was to suggest that clause 2 was definitional only, and did not set out a stand-alone obligation. He said that the only trigger for the defendant's obligation to pay was a breach under clause 1, not an insolvency event under clause 2. In my view, that is an erroneous reading of the provisions of the Bond.

First, as I have already indicated, that interpretation would mean that clause 2 could never operate. If an insolvency event is not a breach, which is the assumption for this purpose, and the only trigger under the Bond is a breach of contract by County, then clause 2 would be rendered redundant. Secondly, this interpretation reads much too much into the word "damages". The suggestion is that damages can only flow from a breach, but that reading is contradicted by the further words of clause 2 which make it plain that, for the purposes of this Bond, the damages payable by the defendant can include a debt. In law, a debt can arise without breach, which strongly suggests that the word 'damages' was intended to have the broader meaning of 'loss' or 'sums recoverable under the Bond'.

Another difficulty with Mr Oram's interpretation is that, even if he was right and clause 2 was somehow assisting in the definition of the quantification process only, it would be adding nothing. Under the building contract, the loss and damage following termination is dealt with in clause 8.7 and there is a clear method for ascertaining the final figure. What in those circumstances is clause 2 doing, unless it is making it clear that any sum due to the claimant under clause 8.7 is recoverable under the Bond, whether or not there has been a breach?

In an attempt to answer that, Mr Oram argued that there was in law a difference between liquidation and administration, and he referred on that topic to the judgment of David Richards J (as he then was) in Re MF Global UK Limited (in Special Administration) [2013] 1 WLR 903 . Mr Oram said that, depending on the precise nature of the contractor's insolvency, the measure of damages at common law might not necessarily be that provided for in clause 8.7, and so clause 2 of the Bond was making it plain that, irrespective of any theoretical difference in the measure, the loss recoverable under the Bond would be calculated in accordance with clause 8.7.

In my view this is an unrealistic and convoluted interpretation of clause 2. Under a building contract, the employer does not care about the precise way in which the building contractor has become insolvent, or the nice distinctions between liquidation and administration. All he cares about are the consequences of the insolvency, which almost always include the abrupt halt to the carrying out of the works. The employer's loss in these situations is always the same: the additional cost of completing the works. That is why the provisions under clause 8.7 are so clear. So, in my view, clause 2 of the Bond can have had no purpose whatsoever other than to make it clear that the Bond was to protect the claimant from the non-payment by County of the debt following the insolvency.

There were a number of other minor points as to how, if this was the correct reading of the Bond, then it would be inconsistent with other references to 'breach' alone, such as in clause 5. But in my view, these were simply the consequence of the parties adding the homemade amendment at clause 2 to cover insolvency, and then failing to amend the other ABI Model Form provisions at the same time. These matters cannot affect the proper interpretation of this Bond.

(b) Breach Required

Now let us assume that this interpretation is wrong and that Mr Oram was right to say that there had to be a breach under clause 1 of the Bond before clause 2 came into play. In my view, it is beyond doubt that there was such a breach. The debt under clause 8.7 was asserted by the claimant on 10 March 2017 but it has not been paid by County. County are therefore in breach of the building contract because they have not paid the debt. The amount of the damages payable by the defendant to the claimant is the amount of the debt, limited by the maximum figure stipulated in the Bond.

Thus, even if Mr Oram is right about clause 1, and a breach is required to trigger a claim under the Bond, even under clause 2, then there has been a breach. That was precisely what Peter Gibson LJ said in Perar : see paragraph 27 above. For what it is worth, the ABI guidance notes which accompanied the Model Form expressly referred to this passage in the judgment of the Court of Appeal to conclude that, as a result:

Accordingly, it seems to me that Perar is a complete answer to the breach point: if (contrary to my primary view) a breach by County is required to trigger the Bond, then such a breach has occurred in this case. That is how the Bond was intended to work. Indeed, it is as a result of this that the ABI guidance suggests that there is no need to amend the model form of the Bond to stipulate that insolvency or automatic determination will be treated as a breach of contract. On this basis, the defendant's stance might be regarded as somewhat surprising because, on the face of it, it is seeking to undermine the guidance notes of its own professional body.

(c) The Termination

Mr Oram's response was to submit that there was arguably no breach at all, because the validity of the original termination (for slow progress and/or suspension) was disputed (albeit long after the event) by County's solicitors in their letter of 12 April 2017. But in my view, that was not an answer. The building contract makes clear that the employer can terminate the contractor's employment for default or for insolvency. What is more, if the contractor becomes insolvent then that automatically triggers the clause 8.7 ascertainment process, regardless of whether or not a notice of termination had been given by the employer: see clause 8.5.3 of the building contract. On that basis, the prior notice, and the arguments about it raised so much later by County's solicitors, are immaterial.

As part of his argument, Mr Oram submitted that, although it was "evidentially awkward" that County's solicitors had not raised the point at the time, and had instead waited for over a year, the fact that they had asserted that the claimant had repudiated the contract by serving a notice two days early, and that this had happened a few days before the insolvency event, meant that the contract had come to an end and there was no obligation on the part of County to pay the clause 8.7.5 debt. In my view, that argument fails for two reasons.

First, I consider that this argument is contrary to the scheme provided for in clauses 8.5 and 8.7 of the JCT Standard Form. Those provisions are designed – amongst other things – to ensure that, no matter what could be argued about prior events, the insolvency of the contractor gave rise to a clear and certain process which culminates in the notification of a debt pursuant to clause 8.7.5. This process was designed to prevent a contractor in the position of County from avoiding the consequences of their insolvency by seeking to argue, long after the event, that the contract had come to an end prior to their insolvency and that, in consequence, these clauses no longer applied.

Secondly, I am confirmed in that approach by the decision of the Court of Appeal (which is of course binding on me) in Wilson and Sharp Investments . In the passages identified at paragraph 31 above, Gloster LJ expressly rejected the argument that clauses 8.5.3 and 8.7.3 have no operation in circumstances where the employment had already been terminated on other grounds. Although the facts were different, the Court of Appeal made it plain that these clauses were intended to operate after the termination of the contract, without qualification. Indeed, at paragraph 49 of her judgment, Gloster LJ expressly identifies one such situation: "after a termination by the contractor…on the grounds of repudiatory breach." I respectfully agree with those conclusions.

Thus, the arguments belatedly raised by County's solicitors as to the validity or otherwise of the termination notice go nowhere. As from the date that County became insolvent, whether or not the employer had given notice of termination, and regardless of belated arguments as to repudiation, clauses 8.7.3-8.7.5 applied in any event. CAG certified that the debt had been calculated in accordance with those clauses, so County were in breach because they failed to pay it. Thus, subject to what I say about Declaration 2, the defendant is liable to pay the debt (subject to the cap introduced by the maximum amount recoverable) as damages under the Bond.

Conclusions

For these reasons, I find in favour of the claimant in respect of the interpretation of the Bond. But I do not grant Declaration 1 as drafted. Declaration 1(a) omits any reference to the debt and non-payment, and Declaration 1(b) is erroneous because, even if breach is required, the relevant breach is the non-payment of the debt, and not the circumstances which led up to the termination.

I am sure that counsel can agree a Declaration which succinctly summarises my conclusions on this topic.

The Original Debate

The original debate under the umbrella of Declaration 2 ranged far and wide. At one point, the defendant was suggesting that the claimant needed either to get a judgment against County, or at least get County's agreement that they were liable for the debt, before any claim could be made under the Bond. That is wholly incorrect: the decisions in Tower Housing and Paddington Churches make plain that what is required to trigger a claim under the Bond is the completion of the ascertainment exercise under clause 8.7. Once that has happened, a claim can be made under the Bond.

Once the process under clause 8.7 of the building contract is concluded, it is not only quite unnecessary for the claimant to pursue County before making a claim against the defendant, but it is also unnecessary for the claimant to have any further communication of any kind with County. The claimant can look to the defendant for payment.

Any other result would destroy the commercial value and purpose of the Bond. The Bond is required to provide the claimant with the ability to recover at least some of its losses against a solvent party. It would circumvent that commercial purpose if the claimant was then required to issue separate proceedings against that insolvent party (and get the necessary permission to do so) and/or to reach an agreement with the insolvent party, in order to establish either liability or quantum under the Bond.

Is The Notified Debt Conclusive?

In the oral submissions before me, the point in respect of Declaration 2 narrowed down to a short, albeit important, point. Ms Bodnar's submission was that the authorities referred to above, particularly Tower Housing and Paddington Churches , made plain that what was required was the ascertainment of the figure in accordance with the contract. Once that had happened, a claim could be made on the Bond.

In response, Mr Oram said that the judgment in Paddington Churches also noted that, although a claim could be made in those circumstances, the surety could defend himself against the claim by advancing any of the arguments as to the quantum of the debt (a challenge to "the accuracy of the employer's statement") which would have been available to County. He points to the fact that clause 8.7 does not say that the ascertainment and assertion of the debt was in some way conclusive, and compares that with the provisions relating to, for example, the Final Certificate, which do contain various conclusivity provisions.

In my view, Mr Oram is right on this topic. It is only necessary to consider what the position would have been under the building contract to see that, as a matter of principle, the debt figure can be challenged by the defendant. Let us assume that the debt was asserted by CAG, and that County had then produced a twenty page critique of the accounting and quantity surveying methodology that had been adopted, in order to demonstrate that only 20% of the sum asserted was actually due. County could not be shut out from advancing that defence. There is nothing in the contract to say that they could not challenge the figure, and there are no provisions which indicate that, as soon as the figure was asserted, it was due and payable in the amount asserted, without any ability to challenge. And if County could have made that challenge, then so too can the defendant.

Of course, because these are Part 8 proceedings, I cannot go further than to say that, as a matter of contractual interpretation, the debt figure of £621,798.38 asserted on 10 March 2017, is not necessarily conclusive. I cannot go on to reach any other conclusions. But it is appropriate to observe that, on the facts of this case, the defendant may be in difficulties in mounting a challenge: other than the general words of challenge in the latter of 12 April 2017 ("in any event the sums claimed by Ziggurat are disputed"), County have been entirely silent on how and why the debt figure may be wrong. The defendant has not set out any case at all on that topic. In addition, in view of the margin (that is to say, the difference between the debt asserted of £621,000 odd, and the maximum amount of the Bond of £382,519.06) any arguments on quantum may not avail the defendant over-much.

It follows from all this that the words of Declaration 2 are inapt. They do not address the actual debate between the parties. It was eventually agreed that the claimant did not have to pursue County and did not have to reach an agreement with them. The claimant can rely on the debt in its claim against the defendant under the Bond but, to the extent that Declaration 2 was seeking to suggest that the debt was conclusive and could not be challenged by the defendant as a matter of principle, then I reject that argument.

As above, I am sure that counsel can agree a succinct Declaration which summarises the views expressed on this subject.

As noted above, this Declaration has been agreed and it is therefore unnecessary for me to consider it further.