The recent decision of the Technology and Construction Court in Steria Ltd v Sigma Wireless Communications Ltd [2007] EWHC 3454 (TCC) provides an interesting illustration of the application to an IT contract of the law relating to liquidated damages, extensions of time, and concurrent causes of delay, as well as providing signals as to the likely solution to a number of debated points.
Liquidated damages provisions, by which the parties to a contract agree that a fixed sum shall be paid as damages in the event of a specified breach of contract (usually the contractor’s delay in completion) have long been features of construction contracts. Such clauses are of particular utility where any actual loss is likely to be difficult or expensive to quantify, or where it is particularly desirable to quantify the level of risk being undertaken. Nowadays, they are also found in many IT development contracts.
A typical clause provides that, if the contractor fails to complete by the date specified in the contract, he will become liable to the employer for a specified sum for each day, week, or month during which the work remains uncompleted. Because delay which is the fault of the employer (eg late provision of information required to progress the design) relieves a contractor from the obligation to complete on the completion date, liquidated damages clauses are usually accompanied by extension of time clauses which take account of delays caused by the employer and enable a new completion date to be fixed. When this machinery is operated, the time for the completion of the contract is extended, and the liquidated damages clause operates from the new date for completion – if the contractor fails to complete the works by then.
However, the operation of liquidated damages and extension of time clauses have often been subject to uncertainties, argument, and dispute.
The construction of extension of time clauses is often a bone of contention. Such clauses often require the contractor to give notice to the employer of events which are likely to cause (or are causing) delays. Questions have arisen as to the consequences which should follow when, although completion of a contract has been delayed by the employer, the contractor has failed to comply with the contractual requirements as to notice.
The application of the law as to ‘penalties’ is also an area of dispute. It has long been a rule of law, on grounds of public policy, that a liquidated damages clause will not be enforceable if it is ‘a penalty’. The courts will enforce a liquidated damages clause if it is ‘a genuine pre-estimate of any loss likely to be sustained’ by the party seeking to enforce it. If the clause fails to pass this test, it is characterised as a ‘penalty’ and is not enforced. However, the question of whether or not the liquidated damages provision reflects such a genuine pre-estimate is particularly susceptible to dispute, and the position of the parties when a liquidated damages provision has been held to be a penalty has also been a matter of debate.
Problems have also arisen where a party was contending that, even though one cause of delay was something for which it was contractually responsible, nonetheless the dominant or overriding or critical cause of delay at that time was something for which the other party was contractually responsible.
Case Background
Sigma was the contractor, with employers (CAMP East), for the provision of a new computerised system for the fire and ambulance services in the eastern counties of the Republic of Ireland. Sigma subcontracted part of the works (the provision of the computer-aided despatch system) to the claimant (Steria). Other elements of the work were subcontracted to other sub-contractors.
The main contract included a date for completion of the main contract works as well as a liquidated damages clause which was applicable in the event of delay on the part of Sigma. The sub-contract between Sigma and Steria (‘the sub-contract’) provided dates for the completion of Steria’s work in four sections (described in the sub-contract as ‘tasks’) together with a provision (‘the notice provision’), for Steria to give notice for the purposes of obtaining adjustment of those dates (‘an extension notice’) and for the payment of liquidated damages to Sigma in the event of the completion of any of those sections being delayed.
There were delays in completing each of Steria’s four tasks, and also in the completion of the main contract. Steria sued Sigma for the final tranche of the sums due under the sub-contract. Sigma contended that it was entitled to liquidated damages from Steria as a consequence of the delays in completing the four tasks, counterclaimed against Steria for such damages, and, in the alternative, for general damages, and sought to set them off against Steria’s claim.
Issues
There were numerous factual and technical issues as to whether or not the delays to Steria’s works were the consequence of breaches of contract on the part of Steria or were attributable to Sigma. In the event, these were resolved in favour of Steria. However, there were also issues as to:
• what was required of an extension notice for it to be effective
• whether compliance with the notice provision was a condition precedent to a right to any extension of time
• whether the effect, if Sigma was responsible for the delays but Steria had failed to give effective notice, was simply to erase the contractual dates for completion of the stages without providing any new ones so that the time for completion was ‘set at large’ (ie replaced with a requirement simply to complete within a reasonable time)
• whether the liquidated damages clause in the sub-contract was a penalty
• whether, if the liquidated damages clause in the sub-contract was a penalty and hence unenforceable, that clause still had the effect of placing a ‘cap’ on general damages to which Sigma might be entitled
• whether Steria was entitled to an extension of time if there were concurrent causes of delay which included a cause for which Steria itself was responsible.
The Notice Provision
The relevant provision was in clause 6.1 of the sub-contract:-
‘The Sub-Contractor shall complete the Sub-Contract Works within the time for completion thereof specified in the Fifth Schedule hereto. If by reason of any circumstance which entitles the Contractor to an extension of time for the Completion of the Works under the Main Contract, or by reason of a variation to the Sub-Contract Works, or by reason of any breach by the Contractor the Sub-Contractor shall be delayed in the execution of the Sub-Contract Works, then in any such case provided the Sub-Contractor shall have given within a reasonable period written notice to the Contractor of the circumstances giving rise to the delay, the time for completion hereunder shall be extended by such period as may in all the circumstances be justified and all extra costs incurred by the Sub-Contractor in relation thereto shall be added to the Sub-Contract Price together with a reasonable allowance for profit. The Sub-Contractor shall in all cases take such action as may be reasonable for minimising or mitigating the consequences of any such delay.’
Schedule 5 specified the dates for completion of each of the tasks in to which the sub-contract works were divided.
Sigma’s case was that, whilst clause 6.1 was admittedly relatively undemanding in its requirements, to be effective: (a) the notice must make it clear that it was a request for an extension of time under that clause so as to enable Sigma to take appropriate action, such as taking steps to avoid or mitigate the delay and/or making an onwards claim under the main contract; (b) the notice must explain how and why the relevant circumstances have caused delay; (c) the notice must give an assessment of the delay.
In its turn, Steria submitted that all that was required was a notification that a particular event had occurred. The contentions of both parties involved reading into the clause either more or less than was expressed in the actual wording.
For this reason, the judge, His Honour Judge Stephen Davies, rejected both of these submissions:-
‘the requirement for Steria to give notice of the circumstances giving rise to the delay cannot be extended to include a requirement that the notice must make it clear that it is a request for an extension of time under clause 6.1, or to include a requirement that it gives an assessment of the delay. Both would involve reading into the clause words which are not there, and which do not meet the stringent requirements for implication of such terms. I do not however accept Steria’s argument that all that is required is a notification that particular relevant circumstances have occurred. …it is necessary for Steria to notify Sigma first that identified relevant circumstances have occurred and second that those circumstances have caused a delay to the execution of the sub-contract works. In my judgement the latter is required, either by a process of purposive construction or by a process of necessary implication, because otherwise it seems to me that the notice would not achieve its objective; a communication by Steria that, for example, CAMP East was delaying in approving the FDS, without also stating that in consequence the sub-contract works were being delayed, would not achieve the essential purpose of the notification requirement. I am unable however to accept Sigma’s submission that the notice must go on to explain how and why the relevant circumstances have caused the delay. That would be to import a requirement for Steria to provide a level of detail in the notice which goes beyond the simple notification which is of the essence of the clause.’
It is to be noted that the only formality required by clause 6.1 was that the notice must be in writing. Steria contended that any written reference to an event delaying the sub-contract works constituted adequate notice, including minutes kept by third parties, and the pleadings in the action.
This broad submission did not appeal to the judge:
‘I also consider that the written notice must emanate from Steria. Thus for example an entry in a minute of a meeting prepared by Mason which recorded that there had been a delay by CAMP East in approving the FDS, and that as a result the sub-contract works had been delayed, would not in my judgment by itself amount to a valid notice under clause 6.1. The essence of the notification requirement in my judgment is that Sigma must know that Steria is contending that relevant circumstances have occurred and that they had led to delay in the sub-contract works. Therefore, whilst in principle service of a statement of case by Steria in which such a notice was given could be effective, the question in such circumstances would always be whether or not it was given within a reasonable period, as required by clause 6.1’
In the event, the judge found that adequate notices had been given by Steria in various e-mails. However, before making this finding the judge considered the question of whether compliance with the notice provision in clause 6.1 was a condition precedent to any extension of time.
Condition Precedent
Sigma’s case was that the use of the word ‘provided’ imposed a clear and unqualified condition precedent, the purpose of which was to enable Sigma to conduct a contemporaneous investigation, so as to enable it to take appropriate action, and to award at the appropriate time such extension as may be justified.
Steria marshalled a number of arguments, the principal ones being:
(i) clear words were required to make a notification provision a condition precedent;
(ii) the contra proferentum rule applied so that any ambiguity would be construed strictly against the party seeking to contend that it was a condition precedent;
(iii) clause 6.1 did not make it plain by express language that, unless the notification provision was complied with, Steria would lose its right to an extension of time (and thus be subject to liquidated damages);
(iv) the notification provision was neither clear nor precise as to the period within which the notice had to be served (what was a reasonable period, what triggered the start of the reasonable period, etc). Steria’s case was that this did not deprive the notification provision of effect; thus Sigma would still have a claim for damages in the event of breach.
The judge accepted Steria’s contention in relation to the contra proferentum rule, but held that the phrase ‘provided that the sub-contractor shall have given within a reasonable period written notice to the contractor of the circumstances giving rise to the delay’ was clear in its meaning. What the sub-contractor was required to do was to give written notice within a reasonable period from when he was delayed, and the fact that there might be scope for argument in an individual case as to whether or not a notice was given within a reasonable period was not in itself any reason for arguing that it was unclear in its meaning and intent. The real issue raised on the wording of the clause was whether those clear words by themselves sufficed, or whether the clause also needed to include some express statement to the effect that unless written notice was given within a reasonable time the sub-contractor would not be entitled to an extension of time. His conclusion was that such a further express statement was not necessary:
‘It is true that in many cases … careful drafters will include such an express statement, in order to put the matter beyond doubt. It does not however follow… that a clause … which makes it clear in ordinary language that the right to an extension of time is conditional on notification being given should not be treated as a condition precedent.’
The lesson is that disputes as to the effect of non-compliance with requirements for notice to be given in relation to claims for extensions of time can be avoided if those responsible for negotiating or drafting IT contracts take particular care to ‘spell out’ that compliance with a notice provision is a condition precedent to the award of any extension of time.
Time at Large?
Over the years there has been speculation as to whether or not, if the acts of an employer prevented a contract from completing works on time, the failure of the contractor to operate contractual machinery provided to adjust the completion date had the effect of ‘erasing’ the contractual completion date so as to ‘set time at large’, thus depriving the employer of the right to liquidated damages.
There was support for both sides of the argument. In Gaymark Investments Pty Limited v Walter Construction Group Limited (2005) Construction Law Journal 71, the Supreme Court of the Northern Territory of Australia refused leave to appeal from an arbitrator’s finding that, where a contractor’s application for an extension of time was barred because of its failure to comply with the identification requirements of an extension of time clause and where 77 days’ delay had been the result of causes for which the employer was responsible, the delay constituted acts of prevention by the employer. The result was that there was no date for practical completion and the contractor was then obliged to complete the work within a reasonable time (which the arbitrator found it had done so Gaymark was prevented from recovering liquidated damages for delay). However, in the earlier decision of Turner Corporation Limited (Receiver and Manager Appointed) v Austotel Pty Limited (1997) 13 BCL 378 Cole J had expressed the view, obiter, that:
‘If the Builder, having a right to claim an extension of time fails to do so, it cannot claim that the act of prevention which would have entitled it to an extension of time for Practical Completion resulted in its inability to complete by that time. A party to a contract cannot rely upon preventing the contract of the other party where it failed to exercise a contractual right which would have negated the effect of that preventing conduct.’
The editors of Keating on Building Contracts inclined to the view that Gaymark was correctly decided. The editor of Hudson on Building Contracts, the late Ian Duncan Wallace QC, argued that Gaymark was wrongly decided. Professor Wallace also wrote a trenchant article on this subject.
In Peninsula Balmain Pty Limited v Abigroup Contractors Pty Limited [2002] NSWCA 211 the court declined to follow Gaymark and preferred the reasoning of Professor Wallace.
A year after Peninsula, the Second Division of the Inner House of the Court of Session gave judgment in City Inn Limited v Shepard Construction Limited [2003] EWHC SLT 885, where the employer contended that the contractor was not entitled to any extension of time because it had not complied with the contract in relation to notices. The court held (at [23]) that the contractor could not obtain an extension of time if it did not comply with the notice provision, and appears to have considered that the employer would be entitled to liquidated damages even though an extension of time would have been appropriate had it been applied for in accordance with the contract (at [27]). It appears, however, that the Australian cases were not cited.
These authorities had been reviewed by Jackson J in Multiplex Construction v Honeywell Control Systems [2007] EWHC 477 (TCC). He concluded:
‘I am bound to say that I see considerable force in Professor Wallace’s criticisms of Gaymark. I also see considerable force in the reasoning of the Australian courts in Turner and in Peninsula and in the reasoning of the Inner House in City Inn. Whatever may be the law of the Northern Territory of Australia, I have considerable doubt that Gaymark represents the law of England. Contractual terms requiring a contractor to give prompt notice of delay serve a valuable purpose; such notice enables matters to be investigated while they are still current. Furthermore, such notice sometimes give the employer the opportunity to withdraw instructions when the financial consequences became apparent. If Gaymark is good law, then a contractor could disregard with impunity any provision making proper notice a condition precedent. At his option the contractor could set time at large.’
In the present case the judge agreed with the view expressed by Jackson J and concluded that the prevention principle did not mean that failure to comply with the notice requirement of clause 6.1 set the time for completion at large. However, in neither Multiplex nor Steria were these expressions of opinion essential to the outcome (and hence are obiter). Nevertheless, it is increasingly likely that the viewpoint reflected by them will be accepted as being correct.
Liquidated Damages
Clause 7.1 of the sub-contract provided:
‘If the Sub-Contractor fails to complete the Sub-Contract Works or any part thereof within the time for completion or any extension thereof granted under Clause 6 (Completion), there shall be deducted from the Sub-Contract Price, or the Sub-Contractor shall pay to the Contractor as and for liquidated damages, the percentage (stated in the Sixth Schedule) of the Sub-Contract Value of that part of the Sub-Contract Works as cannot in consequence of the delay be put to the use intended for each week between such time for completion and the actual date of completion, but in no case shall the total amount to be deducted or so paid exceed the maximum percentage of the Sub-Contract Price stated in the Sixth Schedule hereto. Such deduction or payment shall be in full satisfaction of and to the exclusion of any other remedy of the Contractor against the Sub-Contractor in respect of the Sub-Contractor’s failure to complete within the time for completion of the Sub-Contract Works.’
The Sixth Schedule provided for 0.25% of the value of the sub-contract works in each of four tasks to be deducted for each week during which completion of that task was delayed beyond its contractual completion date, but there was also a provision that liquidated damages could not exceed 10% of the contract price.
The main contract contained a provision that liquidated damages were payable at 1% of the contract value for each week or part week of delay. It was also subject to a maximum of 10% of the contract price. However, liquidated damages were not related to the completion of any sections of the works, but only to the completion of the entire works.
Steria contended that if, contrary to the arguments already discussed above, Sigma was in principle entitled to make a claim for liquidated damages, the liquidated damages provision was unenforceable in law because it was a penalty and not a genuine pre-estimate of loss. The relevant principles of law were not in dispute, but the application of them was.
In Murray v Leisureplay [2005] EWCA Civ 963 the Court of Appeal had indicated that, where a party to a contract contended that a liquidated damages clause was a penalty, it was for that party to show that the damages provision was ‘extravagant, unconscionable and not a genuine pre-estimate of loss’ (see the judgment of Clarke LJ at [106](vii)).
In Lordsdale Finance v Bank of Zambia [1996] QB 752 Colman J concluded that the real question for the court was whether the contractual function of the clause was deterrent or compensatory, and that one guide to answering this question was to compare the amount which could be payable on breach with the loss that might be sustained if the breach occurred.
In Alfred McAlpine Capital Projects v Tilebox [2005] EWHC 281 (TCC) Jackson J considered that there must be a substantial discrepancy between the level of damages stipulated in the contract and the level of damage which was likely to be suffered before it could be said that the agreed pre-estimate was unreasonable. But he stressed that, this was only a guide. In commercial contracts the courts should exercise great caution before striking down a clause as penal.
Steria’s principal argument on the facts was: (i) the liquidated damages provisions of the main contract did not contain any provision for sectional liquidated damages, (ii) the sub-contract provided for liquidated damages to be levied in the event of delay in completion of the first three tasks, regardless of whether or not they also delayed the last of the four tasks, (iii) it was impossible to see how Sigma would suffer any loss unless the last of the four tasks was delayed (ie unless there was a delay to overall completion), therefore the liquidated damages clause must be penal because there was a substantial discrepancy between the amount payable on breach and the level of damages actually likely to be suffered. So, for example, a delay of four weeks to each of the first three tasks which did not translate to a delay in overall completion would result in Sigma being under no liability at all under the main contract, but would still result in Steria being subject to a substantial liability under the sub-contract.
However the judge accepted that delay by Steria in tasks 1 to 3 might cause loss and damage to Sigma even in the event that Steria caught up so that there was no overall delay to task 4. Delay by Steria in tasks 1 to 3 might well disrupt or delay Sigma and/or its other sub-contractors in their respective works, thereby leading to Sigma incurring loss and expense which it was unable to recover from CAMP East under the main contract, and also resulting in its being exposed to delay and disruption claims from other sub-contractors which it could not pass up the line.
It was also submitted by Steria that there was a significant imbalance even if one considered the case of a delay in tasks 1, 2 or 3 also leading to delay in overall completion. The judge did not consider that this was necessarily correct. The liquidated damages provision in the sub-contract amounted to 0.25% of the contract value per week of delay for each task, compared to 1% of the contract value in the main contract per week of delay to overall completion. Thus, even leaving to one side the fact that in money terms 1% of the sub-contract value amounted to only 0.5% of the main contract value, one could see that there was not necessarily any or any significant imbalance in every case.
The judge also considered it pertinent to note that both under the main contract and under the sub-contract the total liability for liquidated damages was capped at 10% of the respective contract value; this was not a case where Sigma had negotiated a cap on its liability and was seeking not to pass on the benefit of a similar cap to its sub-contractor. The Judge therefore concluded that Steria had not established that the liquidated damages clause was a penalty:
‘… in my judgment: (i) there is no substantial discrepancy between the liquidated damages provisions of the sub-contract and the level of damages likely to be suffered by Sigma; (ii) on the facts of this case I am unable to conclude that the clause was – objectively considered as at the date the contract was entered into – intended to be deterrent rather than compensatory. Overall, this being a commercial contract entered into between two substantial and experienced companies with knowledge of the difficulties which can occur where after the event one party seeks to recover general damages from the other for delay, I am not prepared to strike down the clause as penal.’
Although the conclusion is based on the particular facts of the case, it is perhaps of some general interest in the field of IT projects, where main and sub-contracts are by no means always ‘back to back’.
Cap on General Damages
As stated, Sigma advanced a claim for general damages for delay and disruption as an alternative to its claim for liquidated damages. Steria’s response to the claim for general damages was to contend that although the liquidated damages clause might be unenforceable as a penalty it would still serve to act as a ‘cap’ on general damages. This argument is another ‘old potato’, subject to much speculation, but never effectively decided by the courts.
The judge did not consider that there could be a claim for general damages, so that the issue did not arise, but he expressed the view, which will be welcomed by many as of some persuasive value, that in such circumstances a liquidated damages clause would not act as a ‘cap’:
‘It is clear in my judgment from the concluding words of clause 7.1 that the entitlement to liquidated damages is Sigma’s sole remedy for delay by Steria, so that it is not possible for Sigma to advance its claims for general damages as an alternative. If I had needed to decide the point, I would have inclined to the view that if the liquidated damages provision is held to be penal, then it prevents either party from relying on it, so that the cap also disappears.’
Concurrent Causes
Both parties were contending that even though one cause of delay was something for which they were – or might be – contractually responsible, nonetheless the dominant or overriding or critical cause of delay at that time was something for which the other party was contractually responsible.
A question, therefore, might arise as to whether, for example, Steria was entitled to an extension of time when the completion of a stage of the sub-contract works was delayed both by an event which was the contractual responsibility of Sigma and an event which was the contractual responsibility of Steria.
This is another issue which has been the subject of much debate. In Keating on Construction Contracts the learned editors suggest:
‘It now appears to be accepted that a contractor is entitled to an extension of time notwithstanding the matter relied upon by the contractor is not the dominant cause of delay, provided only that it has equal “causative potency” with all other matters causing delay [the footnote refers to Henry Boot Construction v Malmaison Hotel Manchester [1999] 70 Con LR 32]. The rationale for such an approach is that where the parties have expressly provided in their contract for an extension of time caused by certain events, the parties must be taken to have contemplated that there could be more than one effective cause of delay (one of which would not qualify for an extension of time) but nevertheless by their express words agreed that in such circumstances the contractor is entitled to an extension of time for an effective cause of delay falling within the relevant contractual provision.’
In Steria the judge observed that it appeared from the judgment in Henry Boot (at [13]) that Dyson J was recording an agreement by counsel to the effect stated above, rather than deciding a point which was at issue between the parties, but that nonetheless the fact that he, as a judge with such wide experience in the field, noted the agreement without adverse comment was a strong indication that he considered that it correctly stated the position. He concluded:
‘Furthermore, the rationale suggested by the editors of Keating appears to me, with respect, to be compelling, and to apply as much to this case as it does to the particular clause in the Henry Boot case and indeed to extension of time clauses generally. Accordingly, I propose to adopt that approach as correctly representing the proper approach to extensions of time under clause 6. of the sub-contract.’
This expression of judicial opinion, though plainly obiter dicta, provides further underpinning for the approach reflected in Henry Boot. The acceptance of this approach is potentially of considerable significance for many IT projects.
Lessons To Be Learned
In summary the lessons to be learned from the case are:
• the scope for dispute over the requirements and effect of extension of time provisions can be avoided by careful drafting
• contractors with a potential entitlement to an extension of time who fail to comply with the requirements of the notice provisions applicable are likely to be held liable for liquidated damages if they fail to complete on time
• difficulties can arise for an employer in enforcing liquidated damages claims in sub-contracts if main and sub-contracts are not back-to-back
• if a liquidated damages clause is unenforceable because it is a penalty, a contractor may still be vulnerable to an uncapped claim for general damages
• the parties, by the terms of their contract, can make provision as to which of them will be favoured when a delay is the consequence of concurrent causes which are not the responsibility of only one of them.
David Blunt QC and Richard Osborne are members of the Information Technology Group at 4 Pump Court www.4pumpcourt.com and can be contacted through their Clerk, Stewart Gibbs; sgibbs@4pumpcourt.com; DDI: +44 (0) 20 7842 1173.
Copyright David Blunt QC and Richard Osborne
