UK: Novation: Principles and Pitfalls

NOVATION

First, it is necessary to distinguish between three concepts: sub-contracting, assignment and novation.

  1. Sub-contracting
  2. In many contracts it is immaterial as to whether a party to the contract performs his obligations himself or those obligations are performed by someone else (the sub-contractor), vicariously on behalf of the original party. The original contractor remains liable for his obligations under the contract because the burden or performance of a contract may not be assigned.

  3. Assignment
  4. This consists of the transfer from B to C of the benefit of one or more contractual obligations that A owes to B. It is not the obligation to perform which is assigned, but the benefit of the performance. The original contract between A and B remains in existence and is unchanged. Consent is not required to give effect to an assignment. Once A has received notice of the assignment, A is bound by it, therefore if the benefit B assigns to C is the money A owes to B for B’s performance of the contract between A and B, then A is bound to make payment to C in respect of the notice of assignment.

  5. Novation

This is the process by which a contract between A and B is transformed into a contract between A and C. It can only be achieved by agreement between all three of them, A, B and C. Unless there is such an agreement, neither A nor B can rid himself of any obligation which he owes to the other under the contract. This is commonly expressed in the proposition that the burden of a contract cannot be assigned, unilaterally. If A is entitled to look to B for performance of the contract, he cannot be compelled to look to C for performance instead, unless there is a novation.

In recent years employers have attempted to have the best of both worlds by engaging their own consultants prior to the appointment of the design and build contractor. These consultants are then novated to the design and build contractor who accepts entire responsibility for the design including any design carried out by the consultants prior to their appointment. This gives rise to a situation which has obvious differences from the classic novation. The employer and the contractor have different interests in the development. The employer does not drop out of the picture, as in the classic novation, but instead retains its interest in the project. The obligations of the consultant change, even if the novation does not expressly state this. The services the consultant would have performed for the employer will differ from those required by the contractor.

A number of issues arise as a result:

  1. What is being novated?
  2. What is the consultant’s liability?
  3. Problems of conflict of interest.

All the above problems are amply illustrated in the case of Blyth & Blyth Limited v Carillion Construction Ltd [2001] 79 Con LR 142. In this case, involving the design and construction of a leisure development in Edinburgh, a novation agreement, which purported to place upon the consultant responsibility for all services performed prior to the novation as services performed for the contractor. The consultant commenced proceedings against the contractor for non-payment of fees. The contractor counter-claimed for breaches of contract which occurred prior to the novation. The court decided that the contractor could not bring proceedings against the consultant, because the contractor had suffered no loss for which the consultant owed a duty to the contractor.

The novation agreement in Blyth & Blyth contained, (and Carillion relied upon), the following clauses to argue that the scope of the consultant’s duty was owed to them rather than the original employer :

The liability of the Consultant under the Appointment whether accruing before or after the date of this Novation shall be to the Contractor and the Consultant agrees to perform the Appointment and be bound by the terms of the Appointment in all respects as if the Contractor had always been named as a party to the Appointment in place of the Employer.

Without prejudice to the generality of clause 3 of this Novation the Consultant agrees that any services performed under the appointment by the Consultant or payments made pursuant to the Appointment by the Employer to the Consultant before the date of this Novation will be treated as services performed for or payments made by the Contractor and the Consultant agrees to be liable to the Contractor in respect of all such services and in respect of any breach of the Appointment occurring before the date of this Novation as if the Contractor had always been named as a party to the Appointment in place of the Employer.

Carillion’s claims based on the above clauses were firstly that the contract was in effect re-written with the word "Employer" being substituted for "Contractor". This, as the Judge pointed out, led to nonsensical results, and conflicts of interest would arise advising on the one hand an employer and on the other hand a contractor. As a consequence the Judge considered it inherently unlikely that the intention was to "re-cast the duty owed and performed to the employer as being a duty owed to the contractor retrospectively".

Carillion’s counsel accepted this must be so, and therefore Carillion relied upon their second argument namely that the consultant had breached the terms of its appointment by failing in duties that it owed to the Employer, these breaches being deficiencies in the Employer’s Requirements which led to Carillion’s tender being too low, and as Carillion had accepted responsibility for the design of the Employer’s Requirements they had to bear this loss. However, this argument was doomed if the consultant’s duties were not re-cast retrospectively.

The decision leaves contractors in a difficult position as they are being required to take liability for the design of the works without having recourse to the designers who have prepared the design. The problem can be overcome by the designer acknowledging that it knew the contractor would rely upon its design in the preparation of its tender prices, but potentially this exposes the consultant to a conflict of interest and is, in any event, resisted by the Professional Indemnity insurers.

This case has now led to the publication of two standard forms. The first is the City of London Law Society (Construction Committee) standard form which has been published with its guidance notes which include a broad discussion of the need, timing and content of a Deed of Novation. It also includes a clause similar to Clause 4 which deals with Blyth & Blyth issues. The second is issued by the CIC which has moved away from a novation ab initio which the CIC think is a fiction, to an arrangement where the consultant warrants the pre-novation services to the Contractor, as well as promising to perform the post-novation services.

Step-in, Novation or Quasi-Novation Provisions

Collateral warranties contain step-in, novation or quasi-novation provisions of the kind familiar to users of the BPF funder warranty. The clauses usually contain a provision which applies if the agreement between the funder and the employer for financing the works (the "finance agreement") has been terminated. The funder gives notice of this to the contractor.

The contractor is entitled (and should perhaps be required) to rely on the funder's notice as evidence of termination of the finance agreement. Typically the grounds for termination of a finance agreement by the funder are the failure to fulfil any precondition, serious and uncorrected breaches by the employer, and the employer's insolvency.

The second provision applies if the contractor wishes to determine his employment under the building contract, or to treat the building contract as having been repudiated by the employer. In either case the contractor must give notice to the funder, who may (within an agreed period) give a counter-notice to the contractor; and meanwhile the contractor must stay his hand.

In either case, that is, whether the funder gives the contractor (a) notice of termination of the finance agreement or (b) a counter-notice in response to the contractor's notice of intention to determine or to treat the building contract as repudiated, the funder's notice or counter-notice will require the contractor to accept the instructions of the funder "or its appointee" to the exclusion of the employer in respect of the works upon the terms and conditions of the building contract.

It is debatable whether or not this mechanism constitutes a novation of the building contract. Under a straightforward novation, a new building contract would come into being in place of the original one; the new contract would be between the funder and the contractor, and would be deemed to have existed ab initio. However, the funder's notice does not appear to bring about any such new contract; nor does it discharge the original contract. In fact there are frequently provisions which preserve the contractor's liability to the employer for any breach of the original building contract, and make it clear that the original building contract continues in full force and effect.

To complicate matters further, there is frequently a proviso which says that nothing shall relieve the contractor of any liability he may have to the employer for any breach by the contractor of the building contract while at the same time making it clear that upon the issue of any notice by the funder the contractor shall be liable to the funder under the building contract in lieu of its liability to the employer. The intention appears to be that the contractor remains liable to the employer for any loss occasioned to the employer by the contractor's breaches of the building contract occurring before the funder's notice or counter-notice; and that the contractor becomes liable to the funder for breaches occurring after the notice or counter-notice.

What then happens if the funder's notice does not lead to a straightforward novation? Analysing the position, it would appear that the original building contract continues in force on the basis that the employer and contractor have given the funder, vis-ŕ-vis all parties, full and irrevocable authority to issue instructions to the contractor as permitted by the contract, directly or via the architect or contract administrator. The contractor remains liable to the employer for any loss occasioned to the employer by the contractor's prior breaches. The contractor becomes liable to the funder, but not to the employer, for future breaches. The funder becomes liable to the contractor for all sums owed to the contractor by the employer, including sums outstanding at the moment of step-in.

The funder’s warranty therefore becomes supplemental (as well as collateral) to the building contract, and for interpretation of the building contract both agreements must be read together. The step-in rights in the warranty are thus not a true novation, which would involve the discharge of one contract and the formation of a new contract, but a quasi novation.

Conclusion

Novation only gives limited protection to the contractor against the risks that it takes when being responsible for the design prepared by the employer’s consultant.

The employer loses the benefit of the services of its consultant following novation and, indeed, the consultant may be required to act against the employer’s interests.

Novation should, in theory, cause no problems for the consultant, providing the novation agreement does not cause any retrospective variation in the scope of its duties or conflicts of interests.

Following the Blyth & Blyth case, it is important for the parties to consider carefully the lists of services to be inserted in the appointment and exclude services or limit services to the pre-novation period which cannot be regarded as being performed for the contractor.

Novation of consultants and design and build contracts is now an accepted practice, and appears to benefit both the employer and the contractor provided its limitations are recognised and the novation is properly drafted.

This is an edited version of an article written by Matthew Needham-Laing taken from the Fenwick Elliott website. To see the full version please visit www.fenwickelliott.co.uk.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
 
In association with
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Check to state you have read and
agree to our Terms and Conditions

Terms & Conditions and Privacy Statement

Mondaq.com (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

Use of www.mondaq.com

You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about Mondaq.com’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.

Disclaimer

Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.

Registration

Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.

Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to unsubscribe@mondaq.com with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.

Cookies

A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

Log Files

We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.

Links

This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.

Mail-A-Friend

If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.

Security

This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to webmaster@mondaq.com.

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to EditorialAdvisor@mondaq.com.

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at enquiries@mondaq.com.

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at problems@mondaq.com and we will use commercially reasonable efforts to determine and correct the problem promptly.