Pay first, adjudicate later: appeal court decision has significant ramifications for payment practices in the construction industry

Pay first, adjudicate later: appeal court decision has significant ramifications for payment practices in the construction industry

S&T (UK) Limited v Grove Developments Limited [2018] EWCA Civ 2448

In our insight article published on 28 February 2018, we discussed the decision of Grove Developments v S&T (UK) Limited [2018] EWHC 123 (TCC), which was decided by Coulson J (as was) in the Technology and Construction Court.  This first instance decision was widely debated in the industry as it was a clear departure from previous authorities, and appeared to significantly dilute one of the underlying principles of the Construction Act – namely “pay now, argue later”. 

The unsuccessful contractor subsequently appealed the decision which was heard in October and the industry has been awaiting the outcome with interest.  In a decision handed down on 7 November, the position has been clarified by the Court of Appeal who unanimously upheld the first instance decision.

The Court of Appeal had three issues before it:

  1. Whether a Pay Less Notice was valid;
  2. Whether a party is allowed to adjudicate the “true value” of an interim application following an earlier “smash and grab” adjudication on the same interim application; and
  3. Whether the employer complied with the contractual requirements to maintain its claim for liquidated damages.

In this article, we have focused on issues 1 and 2, as the decision with regards to Issue 3 turns on the particular facts on the case and is not therefore of wider application.

Background

Under an amended form of the JCT Design and Build 2011, Grove Developments Limited (“Grove”) engaged S&T (UK) Limited (“S&T”) to design and construct a hotel at Heathrow Airport for a contract sum of just over £26 million.

The story then follows an all too familiar pattern.  Delays occurred and the parties were in dispute as to who was to blame.  S&T then sent interim payment 22 to Grove calculating the sum due to them as  £14,009,906  and included a detailed spreadsheet setting out the build-up to these figures.  Grove sent a Payment Notice, attaching S&T’s spreadsheet with figures added in red showing Grove’s assessment – but it was sent 8 days late.  Grove subsequently sent a Pay Less Notice (in time) which stated that it considered the sum due to be £0.00 and further stated that:

“The basis on which this sum is calculated is set out in the Payment Certificate 22 dated 13 April 2017.”

There was then a series of skirmishes in three separate adjudications about: whether a schedule of amendments was incorporated; entitlement to an extension of time; and whether Grove’s Pay Less Notice was valid – the adjudicator in the contract, Mr Eyre, concluded that it was not.  Grove then upped the ante and started Part 8 proceedings in the TCC (described rather dramatically in the judgment as “a new theatre of war”) and asked the Court to declare that the Pay Less Notice was valid (Coulson J thought it was) and that it was entitled to start a second adjudication on the true value of interim application 22 (Coulson J said they could).

S&T appealed this decision.

Issue 1 - was Grove’s Pay Less Notice Valid and Effective?

S111 (4) of the Construction Act (as amended) requires that a Pay Less Notice “shall specify” both the sum considered due and “the basis on which that sum is calculated” “. 

Grove’s Pay Less Notice had clearly stated what it considered was due (nothing)  – but was the reference to a separate document, sent some time earlier, enough to satisfy the second requirement? 

S&T argued that “specify” meant “must contain or have attached to it” all the detailed calculations upon which the employer relies on to substantiate his assessment – its counsel presented this as a bright line rule.   S&T also argued that the sender of the notice could not know whether the recipient had the earlier document referred to, as the two documents may have been dealt with by two different individuals within the recipients’ organisation.

The Court of Appeal disagreed – finding that there is no bright line rule and that “it is a question of fact and degree in each case whether the purported Pay Less Notice achieved the requisite degree of specificity”. [paragraph 53]. In this particular case, as the Pay Less Notice was sent to the individuals in S&T who were dealing with interim application 22, Sir Rupert Jackson considered that they would have known perfectly well what calculations Grove were referring to and the Pay Less Notice, therefore, satisfied the requirements.

As a general observation,  Sir Rupert Jackson referred to the definition of “specify” in the Shorter Oxford English Dictionary which is: “Speak or treat of a matter etc. in detail; give details or particulars…..Mention or name (a thing that) explicitly or particularly.  Also, include in an architect’s, engineer’s etc. specification”, as an apt definition, adding by analogy that it was common practice for an architect’s specification to include documents by reference.

While the Court was at pains to stress that each case must be considered on its facts, this decision offers more guidance as to the threshold to constitute a valid notice and it would appear to be acceptable for the basis of calculation to be set out in a separate document to the contractual Notice – even if that document is not sent at the same time.

Issue 2:  Grove’s entitlement to commence a second adjudication on the “true value”.

In light of the decision in relation to Issue 1, the Court did not have to determine Issue 2, but did so, partly in recognition of its importance to the industry as a whole.  As a consequence, the judgment addresses and rehearses  the relevant authorities, starting with the Court’s right to “open up, review and revise” interim certificates (Beaufort Developments (NI) Ltd v Gilbert-Ash N.I Limited [1999] 1 AC 266)  to the more recent decision of ISG Construction Ltd v Seevic College [2014] EWHC 4007, and the subsequent  line of authorities which followed the ISG finding that if an employer fails to serve any notices in time, it must be taken to be agreeing with the value stated in the application – right or wrong.  The authorities end with the first instance decision of Coulson J and the six reasons why he considered that Grove was entitled to a second bite of the cherry namely:

  1. The courts and the adjudicator can determine the “true” value of any certificate, notice or application and this includes the power to open up and revise a sum notified in an interim application (Henry Boot Construction Ltd v Alstom Combined Cycles Ltd [2005] EWCA Civ 814);
  2. The wide powers of an adjudicator under the Construction Act and the Scheme meant that there is no limit on the number of disputes that can be referred to adjudication;
  3. There had been no previous decision as to the true value of interim application 22;
  4. The contract differentiated between the “sum due” and the “sum stated as due” and the mechanism of the contract was designed to achieve payment of the true sum due under the contract;
  5. Even though the Construction Act does not expressly say so, if a contractor objects to the employer’s payment notice or pay less notice, it is able to start an adjudication to ascertain the correct figure. It is fair therefore to allow an employer a similar right; and
  6. There is no justification for treating interim and final applications differently.

Sir Rupert Jackson, in the main, concluded that the judge’s six reasons supported his conclusion that the employer, having failed to serve a valid notice is nevertheless entitled to adjudicate to determine the true value of an interim application and the analysis is set out at paragraphs 86 to 113 of the judgment.

In direct contrast to the ISG line of authorities (as above that an employer is deemed to agree with the value of an interim application, where it has failed to serve a valid notice) the Court of Appeal held that S111 of the Act (which generates the obligation to pay the notified sum) is not the “philosopher’s stone” i.e. it does not transmute the sum notified into a true valuation of the work done.

In relation to the fourth reason, the counsel for Grove argued that the distinction identified at the first instance reflected the difference between the “payment bargain” and the “valuation” bargain. The Court of Appeal found this distinction helpful as the payment bargain reflects what is to be paid immediately and the valuation bargain the process of adjusting the payments that have already been made.

In relation to the fifth reason, S&T argued that the employers’ remedy was to serve the requisite notices and that there was, therefore, no imbalance in the parties’ respective rights.   The Court did not dismiss this outright but pointed out that the timescales are such that an employer simply does not have enough time to undertake a detailed assessment in the period before a notice is required to be given and that the notice regime merely generates a provisional figure for interim payment.

Despite S&T arguing that there are special reasons why there is a proper valuation of the work at the final account stage,  the Court was satisfied that S111 of the Act was intended to apply to both interim and final applications.

The Court of Appeal was therefore very clear that an employer does have the right to start a second adjudication and the question is, therefore, when is it able to exercise that right?  There were mixed views on where we were left after the first instance decision, with some commentators concluding that the award in the first adjudication had to be paid first – others were however not convinced that this was what Coulson J had intended.  The Court of Appeal has, however, put this beyond doubt stating that the Act must be construed as prohibiting the employer from embarking on an adjudication to obtain a re-evaluation of the work before he has complied with his immediate payment.

We, therefore, appear to have gone from “pay now, argue later” to “pay now, argue a little bit later, but only after you have paid”.

So where does this decision leave us?  Certainly “smash and grab” adjudications are less attractive in light of this, as any success may be short-lived and a party will have incurred unrecoverable costs in achieving this perhaps pyrrhic victory.  However, as a matter of strategy, there are still potential benefits to seizing the initiative and being the aggressor in a smash and grab adjudication.  Firstly the successful party may be perceived to be in a position of power (holding the cash) by the losing party  which may help to influence any commercial discussions as to the substantive entitlement, secondly it has the benefit of a “fighting fund” from the proceeds of the first adjudication with which to defend any subsequent adjudication and lastly it shifts the burden of proof onto the losing party as the Claimant in the second adjudication,  who may simply not have the appetite for a further battle.

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