Whether you are a contractor or an employer, the effect of the insolvency of the other party to the building contract can be disastrous. Mark Cornell considers how the effect of an insolvency event can possibly be moderated.
The word insolvency covers many different situations. Those most common within the industry are administration and liquidation (voluntary and compulsory). Whatever the insolvency event, the outcomes are usually the same, either an employer does not get contract works completed satisfactorily or a contractor does not get paid. However, there are a number of ways you may be able to protect yourself.
Bonds: When agreeing the terms of the contract, the employer could request a performance bond. Here, the contractor is required to arrange a bond that pays out up to a pre-agreed amount in the event of insolvency where there are defects/non completion.
Parent Company Guarantees (“PCG”): Such a guarantee can offer peace of mind where the wherewithal of one of the contracting parties is in doubt. With a PCG, a holding company or sister company will guarantee the performance (or payment) of the parties. If you don’t ask you don’t get and sometimes just the response that you receive can be telling.
Collateral Warranties: These are common but still often overlooked. They relate mostly to design professionals and sub contractors. The architect, engineer or sub contractor will warrant the quality of the design/works so a clear and direct contractual relationship is then created between the employer and the third party.
Third Parties (Rights Against Insurers) Act 2010: The implementation of this new legislation is imminent. Under the new legislation a Claimant will be able to bring proceedings directly against the insurer of an insolvent company (and seek information concerning the insurance cover). A claim could therefore be brought by an employer directly against the professional indemnity insurers of an insolvent design and build contractor.
“Pay when paid”: The nightmare scenario is where your employer becomes insolvent but you are still left to pay your subcontractors. Generally, pay when paid clauses are prohibited. However, there is an exception in the case when a paying party’s own employer has become insolvent. However, for you to be able to exercise this right, there must be a properly drafted express clause in the contract that allows this to happen. You must ensure that you have such clauses in your contract.
Retention of title clauses: Such clauses are often overlooked but still remain of some usefulness. The problem with the use of such clauses in the construction industry is that, notwithstanding the existence of the clause, title to the goods in question will pass to the buyer when they have been incorporated into the building, even if they have not been paid for.
References and credit checking: Many experienced contractors still do not carry out these basic searches but are surprised when there is a problem with an employer or subcontractor.
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