We need this bond to perform

One of the most visceral queries in construction law is this: will a performance bond protect an employer if a contractor becomes insolvent? It is precisely why performance bonds are procured in the first place. In late December last year, the Technology and Construction Court had to consider circumstances surrounding that very question.

The case of Ziggurat (Claremont Place) LLP v HCC International Insurance Company Plc went along familiar lines:

• Ziggurat appointed County Contractors (UK) Limited under a JCT Standard Form Building Contract to build new student accommodation in Newcastle Upon Tyne. There was also a performance bond, in amended ABI form, capped at 10% of the contract sum for £382,519.08.
• County seemingly got into financial difficulty, suspending carrying out of the works in February 2016 and later going into insolvency in April 2016. Ziggurat necessarily engaged other contractors to complete the works.
• Ziggurat allegedly incurred additional costs of £621,798.38, by March 2017. That amount was claimed from County under the building contract. When not paid, Ziggurat then claimed from HCC under the performance bond.

Ziggurat's prayers had apparently fallen on deaf ears at HCC, thus the action before the Court. Questions before the Court included what was needed to be established to allow a claim to be made under the performance bond.

Before turning to decisions of the Court, a legal nuance – and one which is counter-intuitive in most people's minds – is that insolvency does not amount to breach of contract. This principle is settled law after a 1994 decision colloquially known as the Perar case.

The form of performance bond provided by HCC was an amended ABI form. The amendment clarified that damages payable under the bond included monies payable under the building contract following any insolvency of County. Unmistakeably, that clause was included in response to the ABI form being silent on insolvency being a trigger and to avoid any potential mischief as a consequence of insolvency not amounting to breach.

The Court placed much importance on the contractual provisions for ascertaining a debt due to Ziggurat from County. The relevant JCT form included a contractual accounting mechanism to establish that any overspend following termination by the employer would be recoverable as a debt from the contractor. A failure to pay that debt would trigger a breach, allowing claims to be made under the building contract and also the performance bond.

The Court did not agree then with HCC's contention that it was necessary to establish County's breach of the building contract and also to determine loss arising, before HCC had any liability under the performance bond. Termination for either breach or for insolvency triggered that accounting mechanism; and if any debt was unpaid when due, then that was sufficient to bring any such claim.

Could it be said then that the performance bond did what it needed to do, following contractor insolvency? There are observations that linger.

Firstly, the journey following contractor insolvency is commonly a difficult path. Here, Ziggurat's recovery phase between February 2016 and December 2017 allegedly resulted in significant additional costs. The Court was commendably speedy once a claim was commenced in October 2017 but the circumstances bear hallmarks of a burdensome 22 months.

Secondly, the Court commented that using the contractual accounting mechanism to establish additional expenses and losses of the employer following completion of the works, is appropriate. The Court referred to an earlier 1999 Paddington Churches Housing Association case in support of the established principle that ascertainment of loss is a necessary pre-cursor to establishing liability under a performance bond. That is sound at law but Ziggurat may have been justified in wondering at times why relief was so distant.

Finally, the Court was content to reconcile insolvency not constituting breach, on the one hand, with the ABI bond being silent on insolvency. The Court did, however, fire across the bow of HCC, suggesting that arguments before the Court were contrary to ABI guidance on interpretation. Some doubts remain as to whether silence on insolvency is appropriate.

Beyond the Court doors in late December, there were still loose ends. It was not determined whether the £621,798.38 claimed by Ziggurat under the building contract was conclusive. There was a strong hint in the judgment that it was open to challenge that amount, under both building contract and performance bond. More hurdles to clear perhaps.

So maybe the moral of the story is that performance bonds may provide relative security but the road to recovery is not necessarily easy. Recognising these limitations may be a first step in managing and mitigating construction risks of this kind.

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