Good faith bites back
Andrew Little, Senior Associate Construction & Projects, Burness Paull
NEC forms of contract oblige the contracting parties to ‘act in a spirit of mutual trust and co-operation ’1. Many people assume that this ‘good faith’ obligation lacks any real teeth. This prevailing view does not stop parties quoting this provision at each other with enthusiasm when relationships become strained. There is, however, good reason to believe that a failure to act in a spirit of mutual trust and co-operation can have significant and concrete commercial consequences in the context of NEC contracts.
The Scottish appeal court recently considered the legal effect of the NEC good faith obligation in the context of a dispute about the dredging of Aberdeen Harbour in the case of Van Oord UK Limited v Dragados UK Limited (2021) CSIH 50. In this case, the court gave real commercial effect to the NEC good faith obligation by emphatically rejecting any suggestion that it is merely an ‘avowal of aspiration’.
The path to Van Oord v Dragados
The NEC good faith obligation has been directly considered by the UK courts in a number of cases including:
(i) Northern Ireland Housing Executive v Healthy Building (Ireland) Ltd (2014) NICA 27
The NEC good faith obligation obliged an employer to give written notification of a compensation event at the time of giving the relevant instruction to change the scope of the works.
(ii) Mears Limited v Shoreline Housing Partnership Limited (2015) EWHC 1396 (TCC)
The NEC good faith obligation would not prevent either party from relying on any express terms of the contract.
(iii) Costain Ltd v Tarmac Holdings Ltd (2017) EWHC 319 (TCC)
The defendant could not do or say anything which lulled the claimant into falsely believing that a time bar provision was either non-operative or would not be relied on.
(iv) Northern Ireland Housing Executive v Healthy Building (Ireland) Ltd (2017) NIQB 43
The refusal by a consultant to hand over actual time sheets and records for work done during the contract was entirely antipathetic to the NEC good faith obligation.
The UK courts have therefore given some practical effect to the NEC good faith obligation.
Van Oord v Dragados pushes the boundaries
The Van Oord case has now arguably pushed the boundaries of good faith obligations even further by preventing a party from relying on an express term of the contract in its favour where it is in breach of the NEC good faith obligation.
Omission of work
The Van Oord case is in tension with the Mears Limited case, where the English court indicated that the NEC good faith obligation would not prevent either party from relying on any express terms of the contractThe Van Oord case related to the Aberdeen Harbour expansion project in which the main contractor entered into an NEC3 engineering and construction subcontract with a subcontractor to carry out around 2.15m³ of soft dredging works. Unbeknownst to the subcontractor, the main contractor also entered into separate subcontracts with two other subcontractors each of which included significant quantities of the soft dredging works which had already been let to the first subcontractor.
During the course of the works, the main contractor issued various contractor’s instructions to the first subcontractor to omit about one-third of the first subcontractor’s soft dredging works to allow this work to be undertaken by the other subcontractors. The main contractor then sought to reduce the rate payable to the first subcontractor for the remaining works in reliance on clause 63.10 of the subcontract which allowed the prices to be reduced where there had been ‘a change to the subcontract works information’.
Reduction of prices
The NEC3 ECS only allows a compensation event to reduce the prices in certain specified circumstances, including a change to the subcontract works information in terms of clause 63.10. On the other hand, it does not permit any reduction in the prices for a compensation event which is a breach of contract under clause 60.1(18) even if its effect is to reduce the total defined cost.
The first subcontractor argued that the main contractor’s reduction of the prices in respect of the omissions was invalid. The main contractor was in breach of contract by omitting and transferring the work to others. This breach of contract could not give rise to a lawful change to the subcontract works information and, as such, there could therefore be no reduction in prices. The first subcontractor also argued that the main contractor was prevented from reducing the prices because it was in breach of the NEC good faith obligation by omitting and transferring the work to the other subcontractors.
First instance decision
The Scottish court at first instance2 had decided, subject to questions of acquiescence, that the omission and transfer of work by the main contractor was indeed a breach of contract. However, the court also decided that the prices could be reduced pursuant to clause 63.10 even where the instruction changing the subcontract works information was given in breach of contract.
Scottish appeal court’s decision
We expect to see more arguments being advanced to continue to test the boundaries of the NEC good faith obligation.The Scottish appeal court disagreed. It decided that the prices could only be reduced pursuant to clause 63.10 where there was a lawful change to the subcontract works information. A lawful change excluded any instructions issued in breach of contract. This delivers a consistent approach by treating all breaches of contract equally by ensuring that none produce a reduction in the prices.
The court addressed the argument regarding breach of the NEC good faith obligation by, very interestingly, deploying the Scots law doctrine of mutuality which provides that:
“A party cannot enforce a contractual stipulation in its favour, if it is the counterpart of another obligation which it has breached.”3
The court concluded that the NEC good faith obligation and the right to reduce prices pursuant to clause 63.10 were ‘counterparts’. Accordingly, the court decided that the main contractor would not be permitted to reduce the prices unless it had fulfilled its duty to act in a spirit of mutual trust and co-operation.
What might the future hold?
A key question, which the Van Oord case leaves unresolved, is which other rights under the NEC might also be counterparts of the NEC good faith obligation. Any other such rights, in Scotland at least, can only be exercised by a party where that party is fulfilling its obligation to act in a spirit of mutual trust and cooperation. We expect to see more arguments being advanced to continue to test the boundaries of the NEC good faith obligation.
The Van Oord case is in tension with the Mears Limited case referred to in this article, where the English court indicated that the NEC good faith obligation would not prevent either party from relying on any express terms of the contract. Will the English courts now adopt a similar approach to that of the Scottish appeal court in the Van Oord case?
Whatever transpires, it is welcome to see the Scottish courts giving tangible effect to the NEC good faith obligation. This can surely only increase its effectiveness in helping to encourage and promote good contractual behaviours. In short, it is not safe to continue to assume that the NEC good faith obligation’s bark is worse than its bite.
Andrew Little, Senior Associate Construction & Projects, Burness Paull
andrew.little@burnesspaull.com
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1 Clause 10.1 NEC3 Engineering and Construction Contract; clause 10.2 NEC4 Engineering and Construction Contract
2 See Van Oord UK Limited v Dragados UK Limited (2020) CSOH 87
3 See Van Oord UK Limited v Dragados UK Limited (2021) CSIH 50 at paragraph (22)
