Payment in the construction sector

The Court of Appeal has recently provided clarification around payment in the construction sector.

Grove engaged S&T to design and build a new Premier Inn hotel at Heathrow Terminal 4 for a contract sum of just over £26M. During the course of the project, S&T would issue interim applications for payment to Grove. Interim application 22, which stood at around £14M, greatly exceeded Grove’s valuation of the work. As a result, Grove withheld payment and issued a pay less notice to S & T on 13 April 2017, stating that it considered the sum it considered to be due was £0.

An adjudication ensued in which S&T challenged the validity of the pay less notice. The adjudicator determined that Grove’s pay less notice was invalid based on the interpretation of section 111(4) of the Amended Housing Grants, Construction and Regeneration Act 1996 (HGCRA), which requires that a pay less notice given by the employer “shall specify” both “the sum considered to be due” and “the basis on which that sum is calculated”.

The notice clearly satisfied the first ground by stating that the sum it considered to be due was £0, however the basis on which this sum was calculated was stated to be “set out in the Payment Certificate 22 dated 13 April 2017”. This was a reference to a spreadsheet which accompanied the notice.

The adjudicator held that this did not satisfy the contractual requirement, rendering the notice invalid. This meant that S&T were entitled to be paid the full sum as stated on the notice.

Grove responded by issuing Part 8 proceedings in the TCC seeking declarations that:

1. Its pay less notice dated 13 April 2017 was valid;
2. It was entitled to pursue an adjudication as to the true value of Interim Application 22.

First instance

Coulson J disagreed with the adjudicator’s interpretation and granted the declarations. He considered that the construction of the notice should be approached objectively, and the real question was how a reasonable recipient would have understood the notice. Coulson J found that the spreadsheet containing detailed calculations, which was referred to within the notice, clearly specified the basis on which Grove’s valuation figure had been reached.

Coulson J also determined that Grove was entitled to pursue a separate adjudication to determine the true value of Interim Application 22. His judgment went further by finding that an employer can commence a separate adjudication to seek the true value of the sum due even in circumstances where it has failed to serve a valid pay less notice.

This conclusion indicated a departure from previous authorities on so-called “smash and grab” adjudications, which resulted from an alleged failure by the paying party to issue a valid payment or pay less notice. The consensus had been that in the absence of a valid pay less notice, the employer was deemed to have agreed the sum due. Such case law had distinguished between the ability to adjudicate the true value of an interim application and a final application (Galliford Try Building v Estura Ltd [2015]).

Appeal

S&T appealed the second declaration. The key issue for the Court of Appeal was whether an employer was entitled to commence a separate adjudication to determine the true value of Interim Application 22 if its pay less notice was invalid.

The Court of Appeal upheld the Coulson J’s decision and dismissed the appeal. Crucially, it held that an employer was entitled to commence an adjudication to determine the true value of the interim payment application, even if there was no valid pay less notice. The Court of Appeal’s reasoning was as follows:

1. It is within the powers of the court, and therefore an adjudicator, to determine the true value of work carried out pursuant to a payment application or certificate.
2. The powers of an adjudicator are sufficiently broad to enable them to determine the true value of an interim payment application.
3. There is a distinction between the dispute concerning the validity of the pay less notice and the true value of Interim Application 22. If Grove considered that the notice did not provide a true valuation of the work done, it was entitled to challenge its correctness of the sums due by adjudication.
4. The contract distinguished between the “sum due” as per clause 4.7 of the HGCRA by using the “sums stated as due” with good reason; as this provides the mechanism to review and adjust this figure to achieve the true sum due.
5. A contractor may object to and challenge an employer’s pay less notice by commencing an adjudication to ascertain the correct figure. In the interests of equity and fairness, the employer should have the same right to adjudicate the true value of a contractor’s payment application if it considers it to be too high.
6. The HGCRA applies to both interim and final applications and therefore there is no justification for treating them differently.

In terms of when this right can be exercised, the Court of Appeal confirmed that it may only do so after it has made payment of the notified sum, as required by the prompt payment regime set out in section 111 HGCRA.

Case comment

There are two important points to make following this decision:

1. Employers can issue a free-standing adjudication to determine the true value of work done, even in the absence of a payment or pay less notice. However, this right can only be exercised after the employer has made the required payment under the payment application.
2. The conclusion as to timing of the application may operate harshly on employers, especially where a contractor is heading towards insolvency. The practical consequence is that a large sum may be paid over by an employer which is then seized by secured creditors before any challenge over true value can take place. This shifts the burden of risk of the contractor’s insolvency onto the employer where the value of works is disputed.

Article supplied by Mark James, Partner – Dispute Resolution, Coffin Mew.

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