UK Supreme Court: collateral warranties not usually construction contracts so can’t be adjudicated

Lower court decisions: is timing key?

In Abbey Healthcare (Mill Hill) Limited v Augusta 2008 LLP (formerly Simply Construct (UK) LLP) [2024] UKSC 23, Abbey purchased a long lease of a care home built for a developer by Simply.

Abbey discovered fire safety defects in the building, which Simply failed to remedy despite a request from the developer. The developer engaged an alternative contractor for the remedial works, which Abbey paid for on the developer's behalf. As is common in the UK building industry, Simply was obliged to grant a collateral warranty in favour of Abbey under the terms of the original building contract. The collateral warranty (the "Abbey Collateral Warranty") was ultimately executed four years after practical completion. Under the Abbey Collateral Warranty, Simply warranted that it had performed and would continue to perform diligently its building contract obligations.

Abbey launched an adjudication against Simply pursuant to the Act to recover the costs incurred in remedying the defects. It was awarded £869,000 in the adjudication. As Simply refused to pay, Abbey commenced English High Court enforcement proceedings.

Simply resisted enforcement, arguing that the Abbey Collateral Warranty was not a "construction contract" (meaning an agreement "for…the carrying out of construction operations", as defined in the Act) and therefore not subject to the Act's adjudication framework.

The High Court agreed, because it found that the Abbey Collateral Warranty had been entered into too long after practical completion. Parkwood Leisure Ltd v Laing O'Rourke Wales and West Ltd [2013] EWHC 2665 (TCC) was followed – the Abbey Collateral Warranty related only to a past state of affairs.

The Court of Appeal overruled the first instance judge, holding that the timing of the collateral warranty was not determinative. The Court of Appeal unanimously agreed that a collateral warranty could be a construction contract, with a majority finding there was one in this case.

Simply appealed to the Supreme Court. There was no appeal from the decision on timing.

The correct test: what is the construction contract's object and purpose?

The Supreme Court considered the meaning of an agreement "for…the carrying out of construction operations" in s104(1) of the Act.

The correct test is whether the agreement's object or purpose is the carrying out of construction operations. The Court observed that, generally, it is difficult to see how a collateral warranty fulfils this, given its main object is to afford a right of action in respect of defects, not the carrying out of construction work.

For a collateral warranty to satisfy the test under s104(1), it held that there would need to be a separate or distinct obligation to carry out construction operations. A collateral warranty promising simply that construction operations will be carried out under a building contract for someone else will not satisfy that test.

A principled approach to interpretation

The Supreme Court also examined whether the Abbey Collateral Warranty's terms satisfied the test under s104(1).

It determined that the Abbey Collateral Warranty could be construed as a "promise to carry out the works", but that it was an entirely derivative promise. Simply was not promising anything more than what was already promised under the building contract. That promise did not itself give rise to any construction operations.

The Court did not think, however, that the approach to construction should turn on the niceties of the language used, but that the "dividing line" should be between collateral warranties which merely replicated the obligations of the building contract, and those giving rise to separate or distinct obligations for the carrying out construction operations.

While this approach means most collateral warranties are not construction contracts, the Court held that collateral warranties were not intended to fall within the Act's scope in any event. The Act's various payment-related provisions were inapplicable to collateral warranties, and absent the exercise of step-in rights, beneficiaries have no construction-related payment obligations. As such, the Act's objects would not be furthered by its application to collateral warranties.

The Supreme Court observed that prior to Parkwood, the general understanding was that the Act did not apply to collateral warranties. It concluded that Parkwood could not be satisfactorily distinguished, and that there were principled and practical grounds for overruling the decision and reverting to the position before Parkwood. As a result, parties to collateral warranties can still contract into the statutory regime if desired, but are not fixed with an inability to contract out.

What this means for the industry

This decision gives much needed clarity as to whether collateral warranties are subject to the UK's statutory adjudication requirements. With most warranties using the same language as the Abbey Collateral Warranty, there is now more certainty that adjudication will not be available as a dispute resolution method under most collateral warranties.

This case will be welcomed by main building contractors, subcontractors and consultants. Any potential exposure to large sums following enforcement of quickly-decided adjudications in connection with collateral warranties will largely disappear. It remains to be seen whether employers and beneficiaries will routinely decide to opt into statutory adjudication, as the Supreme Court suggested, and whether the contractor and consultant community will accept this approach or other alternative dispute resolution mechanisms proposed by beneficiaries.

Of course, third parties such as funders, tenants and purchasers retain the right, under collateral warranties, to recover losses in respect of defects, although this will usually require the more time-consuming and expensive method of court proceedings.

Authored by Gillian Thomas, Rupert Sydenham, Mark Crossley, Mariel Hoare, Nathan Seedall, and Ryan Cheung.