United States: Understanding English Law When It Governs The Contract

Last Updated: October 27 2011
Article by Nick Henchie

English law is widely regarded as a well-developed governing law with a good deal of precedent case law which means that parties can enter into a contract knowing, or having a pretty good idea, how their agreement will be construed. However, English law regularly throws up surprises for contracting parties, particularly in construction contracts. Indeed, some of the more crucial terms that are found in most international construction contracts, may not be construed or interpreted in the same way under English law as they would under many other laws.

One of the most common mistakes made when negotiating contracts governed by English law, relates to the limitation of liability clause. It is usual for contractors to try and limit their liability in respect of any indirect and

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English law, like many legal systems, provides that the parties may agree set damages for specific events such as delay liquidated damages.

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consequential loss arising as a consequence of a breach of the contract. In doing so, the typical types of losses which a contractor usually seeks to exclude are the losses of revenue, production and profit which an owner may suffer by reason of the contractor's default. However, many of those very losses are not actually excluded if all that is excluded are "indirect and consequential losses" because under English law such losses are often categorised as direct losses. Careful and special attention needs to be given to a limitation of liability clause under a contract governed by English law to ensure that it does exclude the very loss which the party actually seeks to exclude.

Another quirk of English law is the concept of "time at large." English law recognises that if an owner wishes to preserve its right to deduct liquidated damages for delay to completion, then there has to be an adequate mechanism in the contract to protect those liquidated damages in circumstances where the contractor is delayed through no responsibility of his own. Thus, for example, where the owner prevents the contractor from entering the site, with the consequence that the contractor could not complete by the agreed date, unless there is a mechanism in the contract to allow time for completion to be extended, the owner's right to deduct liquidated damages would be lost, and time would become at large, meaning that effectively the contractor had a reasonable time to complete the works. It is not unusual to see owners seeking to negotiate a construction contract with very limited grounds for extending time, but rarely would it be in the owner's interest to circumscribe the grounds for extensions of time so narrowly that in an event of default for which the owner is responsible, there are no mechanics to extend the time for completion. Doing so invariably leads to "time at large" arguments and the potential failure of the liquidated damages clause.

English law, like many legal systems, provides that the parties may agree set damages for specific events such as delay liquidated damages. Such damages are enforceable under English law where they represent a "genuine pre-estimate" of the loss that will be suffered as a result of the breach of the primary obligations.

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Although it is acknowledged to be very difficult to challenge a liquidated damages clause under English law, unreasonable clauses often give rise to penalty arguments. –

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However, there are circumstances where such damages can be challenged, most usually where they result in what is regarded under English law as a penalty. Whilst other legal systems positively embrace "penalty clauses," a penalty under English law is unenforceable. Although it is acknowledged to be very difficult to challenge a liquidated damages clause under English law, unreasonable clauses often give rise to penalty arguments creating uncertainty. The most likely circumstance where a clause will be held to be a penalty is where the agreed sum is found to be an extravagant and unconscionable amount in comparison with the greatest loss that could conceivably be proved to have flowed from the breach. Another common ground for challenge is whether the agreed sum is a lump sum made payable by way of compensation on the occurrence of one or more certain events, some of which may occasion serious damage and others only minor. In such circumstances it can be hard to justify the clause as being

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Thus, for international construction contracts, governed by English law, unless the contract contains an express right to suspend for nonpayment, it is unlikely that the contractor has the right to do so.

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a genuine pre-estimate. Particular care should be taken when drafting such clauses where there is a possibility of sectional completion or partial possession under the contract. The contract ought to provide a mechanism to allow the liquidated damages to be pro-rated in such circumstances, otherwise the clause for liquidated damages may fail.

Many contractors seek to avoid giving warranties as to fitness for purpose or that the completed product or work will be reasonably suitable for the purpose for which it is required. However, for an EPC contract where the contractor is responsible for design and construction, it is highly likely that even without an express warranty of fitness for purpose there is still an implied term that the finished work would be reasonably fit for purpose. That implied term can be rebutted where the specific standards to which the work is to be carried out are expressly stated in the contract.

Surprisingly, the contractor's remedies for non-payment under English law are vague and somewhat lacking. Whilst the situation in UK domestic construction projects is improved by a statutory right to suspend, that does not apply to contracts where the only reason the law of the contract is English is because the parties have agreed it. Thus, for international construction contracts, governed by English law, unless the contract contains an express right to suspend for non-payment, it is unlikely that the contractor has the right to do so. Indeed, the contractor would possibly commit a repudiatory breach of the contract if it did suspend for non-payment. Similarly, a failure to make payment does not necessarily give rise to a right for the contractor to terminate. Case law has held that the failure to make successive periodic payments does not, of itself, give rise to a right to terminate the contract. Nevertheless, a contractor would acquire a right to terminate once it is clear the employer has no intention to ever make payment and has effectively repudiated the contract. When that right actually arises is often very difficult to tell, meaning the contractor takes a risk if it chooses to terminate for non-payment. For these reasons, it is often sensible to negotiate express rights to suspend and/or terminate in a non-payment situation.

An interesting and little known statute outside of the UK is the Contracts (Rights of Third Parties) Act 1999. Although, when referred to in a contract it is usually simply to say that it does not apply, it is useful to bear it in mind since it can be used to confer rights on third parties that are not actually a party to the contract. Typically, the situation where this has been used, is to extend the rights of enforcement to third parties who have the benefit of indemnities under the EPC contract. Equally, it can be used as a mechanism by owners to have rights written into sub-contracts, particularly with major suppliers or consultants with design responsibility, to give remedies to the owner when there is default under the sub-contract.

Finally, often when a contract is governed by English law, one finds that the parties provide for arbitration in London. This will usually mean that the Arbitration Act 1996 would usually apply and the parties should be aware that by virtue of Section 69 of that Act, the parties have the right to appeal an arbitral award to the Courts in England, although that provision can be contracted out of.

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.

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