Collateral Warranties: are they Construction Contracts?

The recent case of Parkwood Leisure Limited v Laing O’Rourke Wales and West Limited considered whether a collateral warranty amounted to a “construction contract” for the purposes of the Housing Grants, Construction and Regeneration Act 1996 (the “Construction Act”). In what has generally been received by the industry as a surprise ruling, the court found that the collateral warranty was a “construction contract” for the purposes of the Construction Act 1996, and as such, disputes arising under the scope of the collateral warranty could be referred to adjudication.

The decision is a potential win for those who are beneficiaries of a collateral warranty or warranties who may now be able to seek redress from a consultant or sub-contractor using the quicker and less costly adjudication process.

The Case

Parkwood are the tenants of a swimming and leisure facility in Cardiff sub-let by owners Orion Land and Leisure (Cardiff) Limited (“Orion”). Laing O’Rourke, as contractors, entered into a design and build contract with Orion in respect of the facility and provided Parkwood with a collateral warranty.

A number of issues with the air handling units were identified. In relation to these issues Parkwood and Orion reached a settlement with Laing. However, Parkwood later sought redress from Laing in respect of a number of other faults arguing that they were outside of the scope of the settlement previously reached.

Parkwood sought a declaration that the collateral warranty was a “construction contract” on the basis that it contained Laing’s express agreement to carry out construction works pursuant to section 104(1)(a) of the Construction Act. If the collateral warranty was a “construction contract”, disputes arising under the agreement could be referred to adjudication. The court was being asked to decide whether, despite not being a party to the Contract, Parkwood would be able to rely on the collateral warranty to refer matters to adjudication.

The Decision

In reaching the decision that the collateral warranty was a “construction contract” for the purposes of the Construction Act, the court considered a number of different points. A summary of the key points are set out below:

1. The judge highlighted the difference in wording between section 104(1) and 104(2), noting that the 104(1) referred to contracts “for the carrying out of construction operations” while 104(2) referred to agreements “to do architectural, design or surveying work”. It was held that 104(1) was drafted widely to potentially include collateral warranties.
2. The collateral warranty in question was drafted so that Laing “warrants, acknowledges and undertakes” the performance of the construction works. The judge found that while “mutually complementary”, the parties would not have understood the words to be “absolutely synonymous”. The court held that the collateral warranty was “…providing an undertaking that [Laing] will actually carry out and complete the works”.
3. While it was held that a contract being entirely retrospective would not preclude it from being a construction contract, the court placed some emphasis on the fact that the collateral warranty was entered into prior to practical completion, meaning that there was a prospective element to the works.
4. While the collateral warranty makes it clear that Parkwood is not a joint employer under the Contract, the purpose of the proviso was to provide Laing with the same defences which would have been available under the Contract.

The court recognised that not all collateral warranties given in connection with all developments would amount to a construction contract under the Construction Act, and explained that there were certain indicators as to what side of the fence a particular collateral warranty fell on:

It is possible that many professionals and businesses that frequently enter into collateral warranties will now look to negotiate wording with a view to avoiding the 'construction contract' definition with the Construction Act. 

The Implications

This is now the leading case in this area and it is understood that the decision will not go to the Court of Appeal. Prior to this ruling the general industry view had been that a collateral warranty would not amount to a “construction contract” for the purposes of the Construction Act, and where a dispute arose it was assumed that a party to a collateral warranty would need to go through the more lengthy and costly process of court or arbitration proceedings.

It is possible that many professionals and businesses that frequently enter into collateral warranties will now look to negotiate wording with a view to avoiding the “construction contract” definition with the Construction Act. This may see the process of negotiating warranties becoming extended as the industry attempts to establish a revised approach.