Posted on 18 Mar 2019
By

Can Liquidated Damages be Claimed where a Contract is Terminated Early?

The Court of Appeal ('CA') has clarified a long line of conflicting authorities on the issue of the recovery of liquidated damages following termination of a contract.

The purpose of liquidated damages, at an agreed fixed rate, is to compensate the employer if the contractor achieves practical completion later than the completion date specified in the contract (or adjusted by the contract administrator, acting reasonably). The rationale is that, by agreeing the financial consequences of delay, the employer is relieved of the need to demonstrate its actual loss arising from delay; both the principle that delay will cause a loss, and the applicable compensation, are 'pre-agreed'. If the project does not complete on time, the Employer can either deduct liquidated damages when the final account is decided, or recover them in a claim.

The ruling in the case of Triple Point Technology Inc. v PTT Public Company Limited [2019] EWCA Civ 230 provides that, in normal circumstances, liquidated damages clauses only apply where the contractor has completed the relevant work.  Therefore, liquidated damages will not ordinarily be available in relation to uncompleted work after the contract is terminated or the project abandoned early.  However, the survival of any entitlement to liquidated damages will be a question of interpretation of the relevant clause in the contract.  Although the subject matter of the dispute was an IT project rather than construction activity, Mrs Justice Jefford gave the first instance decision in the Technology & Construction Court ('TCC'), and the lead CA speech on Triple Point's appeal was given by former TCC judge Sir Rupert Jackson.  The CA decision is therefore important for the construction industry. 

Background

In this case, Thailand-based commodities trader PTT (the employer) entered into a contract for the provision of software services by Triple Point (the contractor). The contract provided for payment at specified stages.  Triple Point completed the first two stages late, but PTT paid in accordance with the contract.  Further delays followed in respect of subsequent stages, and Triple Point again sought payment.  PTT refused to pay, on the basis that no further stages had been completed by Triple Point.  Triple Point suspended further work without payment. PTT held that this suspension was wrongful and purported to terminate the contract due to Triple Point's default. Triple Point then brought a claim against PTT for its unpaid invoices; and PTT counterclaimed for liquidated damages for Triple Point's incomplete stages of work, up to the date of termination of the contract.  At first instance in the TCC, Jefford J dismissed Triple Point's claim and awarded PTT damages of $4.497 million arising from the cost of procuring an alternative system.  These were however capped under a specifically negotiated liability cap of $1.038 million, equivalent to the fees paid to Triple Point.  However, PTT were also awarded a further $3.459 million by way of liquidated damages because Jefford J held these were not subject to the liability cap. Triple Point appealed on various grounds, but importantly it contended that liquidated damages had ceased to apply on termination, and that all damages were subject to the liability cap. In an effort increase its damages PTT cross-appealed, saying that the liability cap did not apply to any of the damages which it sought to recover.

Decision

In contrast to recent case law, much of which had decided that liquidated damages remain available for any period of time post-termination up until completion of the works, the Court of Appeal opted to side with a 1912 ruling by the House of Lords in British Glanzstoff Manufacturing v General Accident, Fire and Life Assurance Co and reversed the TCC decision.  Jackson LJ held that the applicability of liquidated damages would depend on interpretation of the relevant liquidated damages clause in the contract.

The liquidated damages clause in the contract provided where the work was delayed (and this was not PTT's fault), PTT could claim liquidated damages from the intended completion date "up to the date PTT accepts such work".  The Court of Appeal interpreted this to expressly contemplate that Triple Point would have to actually complete the works for liquidated damages to be available.  On this basis, the right to liquidated damages fell away upon termination of the contract.  This left PTT to seek general damages for further delay until the works were completed by an alternative contractor.  However, the specifically negotiated liability cap of $1.038 million came to Triple Point's aid; the CA held that this cap applied to all of PTT's losses. Because the cost of the alternative system procured by PTT was itself $4.497 million, the cap was exhausted, and PTT received nothing for delay.

Commentary

This is an important decision in relation to the right to claim liquidated damages for late completion after termination of contract. It appears to have clarified the position that, in most cases (albeit subject to specific drafting of the relevant clause), the right to claim liquidated damages for late completion will fall away post-termination.  This may be the case particularly where the contract specifies that liquidated damages will accrue up to the date the works are completed by the contractor. In such a case the right ends on termination.  Thereafter, the employer would have to claim general damages, otherwise known as unliquidated damages, instead. This means that the employer is faced with a higher burden of proving that (a) the contractor's failure to complete on time was the primary cause of the employer's loss and (b) the value of losses incurred.

There may yet to be room for debate on whether a court may still consider the (now defunct) liquidated damages clause to provide guidance on the permissible level of general damages which would be payable due to delayed completion.  It remains to be seen whether a court may be inclined to cap the amount of general damages recoverable by reference to the liquidated damages which would have been payable had the contract not been terminated. 

What does this mean for your business?

For employers, this decision sharpens the need for carefully drafted liquidated damages clauses.  This decision shows that the court will consider closely the extent to which the liquidated damages will be available and for what time period, strictly according to the contract. Our assessment is that the liquidated damages provisions in standard forms of contract will not preserve the right to liquidated damages after termination of the contract.  Bespoke clauses, requiring specialist legal advice, will be needed to achieve that.

For contractors and suppliers, this decision means in the event of delayed completion liquidated damages will generally only be available until termination of the contract.  This is, of course, dependent on the drafting of the relevant clause.  Clauses which seek to preserve a right to recover liquidated damages after termination should therefore be resisted.  The CA decision also reinforces the value of negotiating financial caps on contractual liabilities.

If you require advice in relation to drafting liquidated damages clauses, or for any construction related query, please contact chris.hoar@michelmores.com or alan.tate@michelmores.com.