Contract administration – the cost of not keeping up to date


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Few in the construction industry are having an easy time of it in the current recession, and sub-contractors may be having a worse time than most. Those with long memories, however, may at least be grateful that one of the scourges of the 1990s’ recession – “pay-when-paid” clauses – are almost never seen any more. Their disappearance has been caused by section 113 of the Housing Grants, Regeneration and Construction Act 1996, which outlawed clauses that made payment to a sub-contractor conditional upon the main contractor being paid by the employer, with one exception – where the employer is insolvent.

While the economy thrived, this might not have seemed particularly important, and clauses dealing with it received little attention. Now that times have changed, the case of William Hare Limited v Shepherd Construction Limited serves as a reminder both of the exception and the necessity of checking that any standard forms that are used to contract with sub-contractors are regularly reviewed and updated.

Shepherd had been contracted to carry out works at Trinity Walk in Wakefield. In 2008, they had sub-contracted the structural steelwork to Hare. In March 2009, Hare submitted two interim valuations for sums totalling just under £1 million, in response to which Shepherd issued withholding notices relying on an express clause in the sub-contract that they believed allowed them to withhold payment because the employer had gone into administration.

When the Construction Act was originally passed, section 113 allowed pay-when-paid clauses if the paying third party (the employer, in most cases) was “insolvent”. The Act defined a company as “insolvent”: (i) on the making of an administration order by a court; (ii) on the appointment of a receiver; (iii) on the passing of a voluntary winding-up order by the company’s shareholders; and (iv) on the making of a winding-up order by a court. The parties had contracted using Shepherd’s standard sub-contract terms, which had originally been drafted in 1998, and the clause upon which Shepherd relied precisely reproduced these definitions of insolvency.

In 2002, however, much of the law on insolvency was changed and, in particular, companies were given a new, quicker and cheaper route into administration without a court order. It was this method that the employer on the Trinity Walk project used to have an administrator appointed. Although the Construction Act had been updated when the law changed, Shepherd had not amended its standard sub-contract. The question was whether or not Shepherd could rely on its pay-when-paid clause because the employer was in administration even though no administration order had ever been made.

The Court said that Shepherd could not withhold the money in reliance on the clause. Although the clause would be effective if any of the things that it specified occurred, no such event had happened in this case. The Judge also said that the clause could not be read as though it included the new method of putting a company into administration when the relevant change to the law had taken place more than five years before the sub-contract was signed. Accordingly, Shepherd’s withholding notices were ineffective and Hare were entitled to be paid the amounts they claimed under the interim valuations, plus interest.

It is not uncommon for companies to use standard contracts that are several years old with no amendment to what are sometimes called the “boiler plate” clauses. Where these clauses replicate the wording in statutes, they are perhaps given even less attention because they are assumed still to be correct. This case shows that such an assumption can easily be wrong – with potentially expensive results.

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