Having your cake and eating it: TCC finds Liquidated Damages not invalidated by employer taking over part of the works20 August 2021
"The innocent party must generally only prove that the works have not been completed by the contractual completion date to be entitled to LDs at the agreed rate."
Liquidated damages (“LDs”) can be a powerful tool in construction contracts. The usual position, when a party claims that a clause in a contract has been breached, is that they must prove that they suffered loss as a result of that breach, and then quantify that loss. In the case of delays to construction projects, this has the potential to be a complicated, drawn-out exercise leading to expensive disputes. LDs, on the other hand, are payable without proof of loss. The innocent party must generally only prove that the works have not been completed by the contractual completion date to be entitled to LDs at the agreed rate. The resulting certainty and predictability benefits both contracting parties.
Given the comparative ease with which LDs can be claimed (as compared to establishing and proving actual loss), the party levying them will always be in a position of power. For this reason, the courts have developed certain rules designed to prevent that power from being abused. One of these is that LDs cannot be set in such a way that they constitute a penalty. Another significant caveat is that, where LDs are agreed in respect of certain breaches, they are to be an exhaustive remedy for any losses arising from the relevant breach (i.e. the innocent party forfeits its rights to claim general, or “unliquidated”, damages). And, importantly, LDs are not enforceable unless they are certain – the parties must know in advance, in real terms, what the actual amount of LDs will be if the project is delayed.
In construction projects, employers may also be granted the right to take over parts of a contractor’s works early. In some cases, employers who do so proceed to levy LDs at a reduced rate that takes this partial possession into account. Other employers, however, may attempt to levy LDs in respect of the whole of the works without making an allowance for the parts that were taken over early. Such conduct has traditionally thought to be impermissible, as it essentially involves an attempt by employers to “have their cake and eat it” – enabling them to limit their loss by progressing the part of the works they have taken over, while at the same time purporting to levy LDs at a rate designed to compensate them for the loss they would have suffered if the works as a whole were delayed.
Dobler UK Limited (“Dobler”) was engaged by Eco World (“EWB”) to carry out design, supply and installation of the façade and glazing for a residential building in Nine Elms, London. The building was broken down into three separate blocks – A, B and C. None of the blocks were completed by the completion date set out in the contract, but in due course Dobler finished its works in respect of blocks B and C, and EWB took them over. Several months later, block A was completed and taken over. When EWB issued its assessment of the final payment due to Dobler, it withheld LDs from the final payment without making any allowance for the fact that it had taken over two of the three blocks well in advance of the third.
The contract contained no mechanism providing for different rates of LDs in circumstances where some of the blocks had been taken over prior to completion. Instead, as long as the works as a whole had not been completed by the required date, the full rate of LDs would become due.
Somewhat unusually, as a result of a cap on LDs in the contract, by the time the dispute came before the TCC, EWB’s position was that its own decision to levy LDs was wrongful, as the LDs provision was void and unenforceable (thus enabling it to claim uncapped general damages for delay), while Dobler argued that its only liability in damages was pursuant to the LDs clause.
EWB argued that the LDs regime was void for want of certainty as it was not possible to calculate a reduced rate of LDs to reflect the fact that parts of the works had been taken over early. While it was clear that the contract allowed EWB to take over parts of the works early, what was missing was a corresponding provision that made it clear how the LDs were to be reduced in those circumstances. There was insufficient certainty, for instance, because Dobler could not know in advance how such a reduction was to be calculated (e.g. a pro rata reduction in LDs reflecting how many rooms in a building had been completed, relative to the total number, would produce a different result to a calculation based on the amount of completed floors, or square metres etc.).
It was clear from the leading textbooks that, in general, LDs will fail in such circumstances unless there is an effective mechanism for dividing the single sum of LDs by completed sections. The TCC noted, however, that “it is important not to elevate statements of general principle into an inflexible rule of law.” While the TCC was referred to a number of cases in which LDs were invalidated by an employer’s early possession, the LDs clauses were invalidated only because the contracts in those cases were unclear or inconsistent as to what the consequences of that early possession would be; in other words, the authorities did not provide that an employer’s decision to take partial possession was “automatically fatal” to its right to levy LDs.
"The key question, in the TCC’s view, was whether the relevant provisions could be operated with sufficient certainty so that it was clear, in real terms, what the consequences of partial possession were on the rate of LDs payable."
The key question, in the TCC’s view, was whether the relevant provisions could be operated with sufficient certainty so that it was clear, in real terms, what the consequences of partial possession were on the rate of LDs payable.
On the specific wording of the contract between EWB and Dobler, the TCC found that the LDs clause was not invalidated by EWB’s decision to take partial possession. While there was no provision made in the contract for calculating a reduction in LDs in that scenario, neither had EWB purported to make such a reduction. In this regard, the contract was clear that (1) EWB was entitled to take over parts of the works before others, as it did; and (2) early possession of those sections had no consequences in terms of the LDs. It was clear from the express terms of the contract that Dobler would be liable for the full rate of LDs once completion was delayed, until such time as all of its works were completed. Regardless of whether this arrangement was fair, it was nonetheless the case that the relevant clauses could be operated with certainty.
Given that these provisions were clear on their face, EWB advanced a fall-back argument that the LDs regime amounted to an unenforceable penalty, when read together with the provisions entitling it to take partial possession. EWB essentially argued that it was inherently unfair for it to be able to levy the same amount of LDs in respect of one, two or all three blocks, given that different levels of loss would be incurred, particularly in circumstances where the contract also allowed it to take over blocks early.
The case law was clear, however, that in order for an LDs provision to be unenforceable, it must be shown to be unconscionable or so extravagant as to amount to a penalty. The fact that it is not a genuine pre-estimate of loss does not necessarily mean that it will be a penalty, even if it is intended to act more as an incentive to complete on time.
Indeed, one of the reasons for the existence of LDs provisions in the first place is that quantifying loss in these circumstances can be extremely difficult. In this case, any combination of delays, or partial delays, to the blocks could have resulted in differing levels of loss to EWB given the different stakeholders involved. The LDs provision was negotiated by the parties with the benefit of advice from external lawyers and the TCC noted that, in those circumstances, it should be cautious to interfere, particularly in circumstances where it was not suggested that the rate of LDs was so high as to be considered unreasonable or disproportionate.
Although not necessary for the court to determine, Dobler also argued that even if the LDs clause became inoperable due to EWB’s early possession, this inoperability could be cured by an implied term. The LDs clause gave EWB the discretion to claim liquidated damages “at a lesser rate” than that set out in the contract, which Dobler argued gave rise to an implied term of reasonableness, and said that any reasonable exercise of EWB’s discretion would involve a reduction of LDs by way of a fairly simple calculation reflecting the parts of the works that had been taken over early. The TCC was not prepared, however, to imply such a term, as the express terms of the contract were already clear and implying such a term would cut across the express allocation of risk that the parties had agreed on when the contract was formed.
Finally, the TCC noted that even if the LDs clause had been held to be unenforceable in itself, the contractual cap on LDs would nonetheless have applied to limit the level of any general damages. This was because, in the TCC’s view, the parties had demonstrated a “clear intention” to limit Dobler’s liability for delay to the agreed level, even if this intention was originally arrived at in the context of setting the limit of LDs and a literal reading of the relevant clause would confine the limit to LDs.
The TCC’s decision may come as a surprise to many in the industry who have been operating under the assumption that, as far as LDs and early possession are concerned, employers generally cannot have their cake and eat it, unless there are very clear provisions to the contrary.
Nonetheless, it must always be emphasised that the specific wording of the contract will always be determinative. As illustrated by the raft of cases in which LDs have been held to be unenforceable in very similar scenarios, to ensure certainty an LDs regime should leave no room for doubt when it comes to the effect of partial possession.
"Employers should take extreme care, prior to any partial taking over, to review the contract carefully and ensure that the LDs regime they have agreed to allows them to take over part of the works without waiving their right to claim LDs."
It remains the case that employers should take extreme care, prior to any partial taking over, to review the contract carefully and ensure that the LDs regime they have agreed to allows them to take over part of the works without waiving their right to claim LDs – or that it contains an express mechanism allowing for a reduction in LDs to be calculated with certainty, if such a reduction is intended by the parties. It is beyond doubt that an undefined discretion on the employer’s part to lower the rate of LDs due is not sufficient; the contract must expressly provide, for instance, for completion in sections, and specify the rate of LDs that will become payable for each particular section that may be delayed.
In order to reduce the likelihood of disputes, both employers and contractors are encouraged to provide for as much certainty as possible in advance; if either party envisages early taking over to be likely in respect of any parts of the works, it is advisable to agree to an LDs regime that makes it clear what the consequences of such a take-over will be. It will be a source of comfort to contractors, however, that the courts will likely uphold a clear intention to limit liability to a certain level, even if an LDs regime otherwise fails.
Finally, the decision was notable in that it was one of the first judgments to cite the recent decision of the English Supreme Court in Triple Point Technology, Inc v PTT Public Company Ltd² as a leading authority on LDs clauses. WFW acted for the successful party in that case and you can read more about that important decision here.
  EWHC 2207 (TCC)
  UKSC 29