Legal Q&A
Legal Q&A: Collateral warranties
A collateral warranty is often used to create direct contractual links between those parties.
THE question as to whether a collateral warranty is a construction contract for the Housing Grants, Construction and Regeneration Act 1996 and therefore able to be subject to adjudication has been considered in two cases. Firstly, in 2013, in Parkwood Leisure v Laing O’Rouke and then more recently in 2021 in Toppan Holdings v Simply Construct.
As a reminder, a construction contract is defined in section 104 of the act as an agreement with a person for the carrying out of construction operations, arranging the construction operations to be carried out or providing labour for the carrying out of construction operations. Construction operations has been given a wide definition. As long as the works do not fall within the specific exemptions under the act it will likely be an agreement for carry out of construction operations under the act and therefore capable of being subject to adjudication.
Generally, only parties to a construction contract have the right to enforce rights and obligations under it. However, in construction projects, it is common for parties other than the developer to have an interest in the performance or obligations of the project team, such as tenants, funders, subsequent purchasers. Similarly, a developer may require a direct right of recourse with subcontractors or the design team where they have been novated to a design and build contractor. A collateral warranty is often used to create direct contractual links between those parties.
Parkwood v Laing – a recap
In Parkwood Leisure v Laing O’Rourke Wales and West (2013), Parkwood asked the court for a declaration that the collateral warranty was a construction contract for the purposes of the act and so subject to the statutory adjudication rules.
The court found that the collateral warranty was a construction contract on the basis that it gave rise to ordinary contractual remedies, such that if the party completed the works not in accordance with the building contract there would be a breach of contract and as such a claim for damages. Given that the contractor in this case had given an undertaking in the collateral warranty to carry out and complete the works under the building contract, it was clearly a contract for carrying out of construction operations and therefore a construction contract under the definition of the act.
Toppan and Abbey v Simply – the facts
The case of Toppan Holdings and Abbey Healthcare (Mill Hill) v Simply Construct (UK) (2021) arises out of enforcement proceedings in relation to two adjudication decisions awarded in favour of Toppan and Abbey. Toppan owned the building and Abbey was the tenant. Simply was the contractor. Simply’s contract was with Toppan but had a contractual link to Abbey through a collateral warranty. Simply sought to resist enforcement of the adjudication decision in favour of Abbey on the basis that a collateral warranty was not a construction contract and so it had no right to adjudicate.
The collateral warranty in this case was executed in October 2020, for works under a building contract which obtained practical completion in October 2016, although there were remedial works completed in February 2020. Under the Abbey collateral warranty, Simply warranted that:
- It has performed and will continue to perform diligently its obligations under the contract.
- In carrying out and completing the works, it has exercised and will continue to exercise reasonable skill, care and diligence.
- In carrying out and completing any design for the works, it has exercised and will continue to exercise reasonable skill, care and diligence.
The decision
Throughout the decision the court emphasised the importance of the express wording of the collateral warranty, the factual background, including the time when the collateral warranty was executed and the need to apply commercial common sense to the question:
“I cannot see how applying commercial common sense to a collateral warranty executed four years after practical completion and months after the disputed remedial works had been remedied by another contractor can be construed as an agreement for carrying out of construction operations?”
The wording and timing of the execution of any collateral warranty will be key. This is likely to be particularly important to subsequent purchasers and tenants who often receive warranties long after works have completed.
The court said that despite the collateral warranty containing express language in respect of future construction operations, there were no further works to be completed here. Practical completion had been achieved, latent defects had been remedied and there was no suggestion that further construction operations were required. Therefore, the court found that the collateral warranty was not a construction contract in terms of the act and, consequently, there was no right to adjudicate under it. The court gave the following principles:
- Where a contractor agrees to carry out uncompleted works in the future, that will be a very strong pointer that the collateral warranty is a construction contract and the parties will have a right to adjudicate; but
- Where the works have already been completed and, as in this case, even latent defects have been remedied by other contractors, a construction contract is unlikely to arise and there will be no right to adjudicate.
Conclusions
The court was clear in both Toppan Holdings and Parkwood that the specific terms of the collateral warranty will be considered and that:
“One needs primarily to determine in the light of the wording and of the relevant factual background each such warranty to see whether properly construed, it is such a construction contract for the carrying out of construction operations”
Mr Justice Akenhead in Parkwood, p28.
The court in Toppan Holdings also placed great emphasis on the timing of the collateral warranty, as well as applying commercial common sense. The court considered that settlement agreement for remedial works, entered into prior to the collateral warranty, meant that Simply’s performance obligations under the building contract had exhausted long before.
The cases are an important reminder that the act will not automatically apply to all collateral warranties. The wording and timing of the execution of any collateral warranty will be key. This is likely to be particularly important to subsequent purchasers and tenants who often receive warranties long after works have completed. In those situations, if parties would like the option of adjudication, that may need to be expressly provided for.
Kathryn Moffett, Associate, CMS Cameron McKenna Nabarro Olswang
Laura.West@cms-cmno.com www.cms.law @cms_law