EWHV 2207 (TCC) Judgment of the TCC 3 August 2021
Liquidated damages – contract terms interpreted
You may have read our recent eblast on the Supreme Court judgment of Triple Point. A decision of the TCC on this important commercial issue has quickly followed - although on a different aspect of liquidated damages - in the case of Eco World – Valleymore Embassy Gardens Company Limited -v- Dobler UK Limited (EWB -v- Dobler).
Although on the subject of liquidated damages and shortly after the Supreme Court decision in Triple Point, the case of EWB -v- Dobler is more focused on the interpretation of liquidated damages clauses in construction contracts and the thorny issue of when a liquidated damages clause may be considered to be an unenforceable and void penalty clause.
The history of the dispute in EWB -v- Dobler as set out in the court's judgment is not unusual:
- A written contract was entered into by the parties in July 2016.
- EWB was the employer/developer and Dobler was the trade contractor for façade and glazing works for a residential development in London.
- The development was three residential towers (A, B and C).
- The contract was based on an amended JCT 2011 Construction Management Trade Contract form.
- Dobler's works were not divided into sections. As usual with works that do not have sections, the liquidated damages were applied to the delay of Dobler in achieving practical completion of the works after the contractual completion date.
The parties fell into dispute about what payment was due in term of the final account. Dobler sought a net payment based on an increased contract sum. EWB sought a net payment based on its lower valuation of the works and its claim for liquidated damages for Dobler's delay.
The matter came before the court only after there had been three adjudications between the parties. In her judgment, Justice O'Farrell notes that:
- The first adjudication ended without a decision
- In the second adjudication, Dobler argued that as EWB took over Blocks B and C in June 2018 that those Blocks were deemed practically complete in June 2018. As only Block A was not practically complete until December 2018 the liquidated damages clause was void and unenforceable as a penalty clause, as there was no mechanism in the contract for reduction of the liquidated damages sum to reflect the fact that part of the works had been taken over by the employer. EWB denied having taken over Blocks B and C and that, in any event, practical completion of the Dobler's works did not occur until December 2018 when all the Blocks were completed. Even if that was not correct, EWB said that application of the liquidated damages just for Block A was not a penalty. In adjudication 2, on the liquidated damages issues, the adjudicator decided that EWB did take over Blocks B and C in June 2018 and that liquidated damages could not be levied after that deemed practical completion.
- In the third adjudication, EWB sought general damages for the delay to Block A. (You might remember from our Triple Point article that general damages are the employer's actual proven loss for delay.) This approach by EWB was a consequence of the interim binding decision of the 2nd adjudication. In the 3rd adjudication the adjudicator found that liquidated damages were an exhaustive remedy for delay and, accordingly, EWB was not entitled for general damages for Block A.
The dispute history of this matter before it reached the court was relatively complex, but not unusually so. In summary of the two adjudications where decisions were issued, Dobler was successful in obtaining an increased payment for its works and limiting its liability for delay damages to nil by keeping the application of liquidated damages to the takeover of Blocks B and C and getting an extension of time up to that date.
EWB was dissatisfied by this outcome. EWB proceeded to raise Part 8 proceedings. In summary, in such proceedings the court is asked to consider legal issues and where there is little disputed fact. The court was asked by EWB to consider the application of the liquidated damages clause in the contract - a question of contractual interpretation. What is interesting is that EWB's position on liquidated damages in the court proceedings was entirely opposite to that in second adjudication. Justice O'Farrell noted that each party had done a volte-face in respect of their respective positions. While Dobler had originally wished to avoid the application of liquidated damages and the EWB had sought to obtain them, by the time this matter got before the court, EWB sought to argue that the liquidated damages clause in the contract was a penalty and therefore void and unenforceable. On the other hand, Dobler now sought to argue that the liquidated damages provision applied and if it did not that the liquidated damages clause provided a cap on the total liability that Dobler had for general damages. If you have read our recent article on Triple Point, you will have seen that I mentioned that liquidated damages clauses are for the benefit of the contractor as well as the employer. This comes out in the approach taken by Dobler in the court proceedings.
The liquidated damages clause provided:
'The following rates of liquidated damages will apply for the first 4 weeks (inclusive) of delay in completion to the Works beyond the Date for Completion
- £nil per week or pro rata for part of a week
Liquidated damages will apply thereafter at the rate of £25,000 per week (or pro rata for part of a week) up to an aggregate maximum of 7% of the final Trace Contract Sum...'
This clause therefore provided Dobler with some certainty as to what its total liability for delay damages would be per week and subject to a cap. Looking at the facts of the case it seems that at some point in between the adjudication process and the court proceedings, EWB realised that its recovery for delay would be far greater if the liquidated damages clause did not apply and the cap could be avoided. As the court proceedings did not seek an order for payment, we do not know how much damages EWB might have claimed as general damages if successful. For illustrative purposes we can see how some of these figures worked out in the adjudications:
- Liquidated damages originally claimed by EWB in the final account - £574,184.20 ('£25,000 per week, capped at 7%')
- General damages claimed by EWB in the third adjudication - £2,228,705.85 (this was for the period from June to December only and may have been subject to further increase). Blocks B and C were being built for social housing accommodation. Block A, that was between six and eight months late, was for sale on the open market and therefore the financial consequences were likely to be signification for EWB in relation to this part of the works that it now sought general damages for delay.
In her judgment, Justice O'Farrell carefully works through the terms of the contract that are applicable to issues. It is a JCT Form of Contract and while it is not the standard form or design and build, many of the basic provisions will be familiar to those working in the construction industry.
So, what are the key points arising in the court's judgment for those negotiating and drafting construction contracts and liquidated damages clauses:
Takeaway 1 - say what you mean
Perhaps surprisingly, the works as defined in the contract were not divided into sections. For whatever reason, Dobler had agreed to complete the 'Works' being the façade and glazing works for Blocks A, B and C before the Works were practically complete.
Looking at that definition of the works and the terms of the liquidated damages clause, the court considered that 'the natural and ordinary meaning of the words used' meant that the whole of the Works had to be practically complete to avoid EWB being entitled to liquidated damages
The court did not consider takeover of parts amounted to deemed practical completion.
Takeaway 2 – the court will be slow to find that a liquidated damages clause is a penalty clause
Having found that the contract clause meant that the liquidated damages were recoverable by EWB for delay until all the works were completed, the court had to consider whether such a clause was enforceable or void as a penalty clause in circumstances where part of the works could be taken over by the employer.
The court applied the well-known test set out in Cavendish Square and measured the liquidated damages on the basis of whether 'the liquidated damages provision was not unconscionable or extravagant so as to amount to a penalty'. The court reached the conclusion that it was not a penalty clause for the following reasons:
- Both parties negotiated the terms contract using external lawyers. The court will be cautious about any interference in the freedom of the parties to agree commercial terms. Justice O'Farrell pointed out, as found in Triple Point, the commercial benefits to both parties of liquidated damages clause.
- EWB had a legitimate interest in requiring completion of the whole of the works by the completion date. Delay would be caused to the project as a whole where there was delay in any part of their works by Dobler. The court noted that following contractors could be delayed and EWB could be liable for liquidated damages to the local authority for Blocks B and C and lose private sales of Block A.
- Quantification of general damages would be difficult, and the fixing of liquidated damages avoided that difficultly.
- The level of the liquidated damages in the contract was not argued by either party to be unreasonable or disproportionate to the actual loses.
The takeaway points above underline the importance of clearly drafting the intention of the parties. Those, drafting liquidated damages clauses in contracts should reflect on whether partial possession of any part should also reduce liability of the contractor for liquidated damages. If liquidated damages are to be so reduced the contract must say that.
Careful consideration should also be given to the use of sections where appropriate. The court noted in its judgment that 'takeover' was an undefined term in the contract. Where important rights are intended to flow from such events, care should be taken to set out what the event is.
If seeking to argue that a liquidated damages clause is a penalty clause, consideration should be had to how the level of liquidated damages in the contract has been calculated. This is particularly relevant where there are numerous trade contractors on site rather than the situation of a single main contractor with control and possession to the site. How has the employer assessed the loss for delay for each of the trade contractors? Is more than one trade contractor in delay? Have liquidated damages been levied by the employer from more than one trade contractor for the same period of delay? These issues may will impact on whether the liquidated damages are 'unconscionable or extravagant'. Is the employer making a windfall?
Takeaway 3 – the court continues to interpret contract terms against their commercial background
The court considered whether, if the liquidated damages clause had been found to be a penalty and unenforceable the cap contained in that clause would still apply to general damages for delay. The court did not require to give an opinion on this point. As such, what the court says about this is of interest but not a binding part of the judgment. The clause itself provided:
'Liquidated damages will apply... at the rate of £25,000 per week (or pro rata for a part of a week) up to an aggregate maximum of 7% of the final Trade Contract Sum...'
On first reading it would seem that the cap is directly and solely linked to the liquidated damages. On that basis it might be expected that if there are no liquidated damages due to them being a penalty, there will be no cap.
The court considered that such an interpretation of the clause would be too literal. Rather, 'the objective understanding of the parties in the commercial context of the contract would be... to limit Dobler's overall liability for late completion of a specific percentage of the final contract sum. The clear intention of the parties was that Dobler's liability for delay damages would be so limited'.
Here we see the court interpreting the contract within the commercial context. The purist might say that the limitation was only for liquidated damages and that the parties could have drafted an express cap for all delay damages if that is what they had wanted. As in Triple Point, we see the court understanding the commercial context of the contractual matrix. Commercially, both parties had understood there to be a cap on delay damages.
This approach by the court is understandable. Both parties are likely to have had that in mind when they negotiated the other terms including the price. They are would be unlikely to add a term along the lines of: 'and that maximum delay damages will apply in the event that the liquidated damages are found to be void and unenforceable'. On the basis of this case the court may read the limitation clause in a broader way than might otherwise have been expected.
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.