Insolvency law: Flogging a dead horse

The precarious state of housebuilding and the appointment of administrators by developer City Lofts has brought the issue of construction insolvency to the fore.

There have been a number of important changes to insolvency law since the recession of the early nineties, but the way in which insolvency law interacts with the statutory right to adjudication is, in many respects, still unclear.

The right to adjudicate has been a mandatory feature of all UK construction contracts since the Construction Act came into force on 1 May 1998. One of the cornerstones of the adjudication procedure is that a construction contract enables a party to give notice “at any time” of its intention to refer a dispute to adjudication.

This feature of the Construction Act, however, does not sit comfortably with the case of A Straume (UK) vs Bradlor Developments, where the contractor (Bradlor) went into administration and its administrators commenced adjudication against the employer (Straume) for sums due. The employer served its own adjudication notice; this raised counterclaims that exceeded the contractor’s claims.

An issue arose as to whether the employer’s adjudication could proceed in the light of the Insolvency Act, which says: “During the period for which an administration order is in force, no other proceedings may be commenced except with the consent of the administrator or court.”

The court found that the adjudication regime did, indeed, fall within the scope of “other proceedings”. Straume’s adjudication, therefore, could not proceed without the court’s permission. Having decided this, the court refused to grant permission.

As long as this case remains the only authority on the point, it appears that where a counterparty is in administration, a claimant cannot simply commence adjudication “at any time”.

The decisions in the straume case are counter-intuitive
from a construction disputes perspective

Where a respondent to adjudication is in compulsory liquidation, the Insolvency Act says: “No action or proceeding shall be proceeded except by leave of the court.” The Straume decision would, in our view, equally apply to a counterparty in compulsory liquidation, although this has yet to be tested. In the case of a voluntary liquidation, there is no statutory requirement to obtain permission, but the liquidator can apply for a stay of adjudication proceedings if it is in the creditors’ best interest.

There is no need to seek the court’s permission to adjudicate against a company in receivership, and no special rules apply in cases in which a company in receivership wishes to bring a claim in adjudication. In the event that an adjudicator’s decision is enforced by a court giving judgment in favour of a company in receivership, a stay of execution may be granted. Where a company enters into a compulsory voluntary arrangement, while there is no need to seek the permission of the court to proceed with adjudication, the terms of the arrangement will provide for a stay. The scope of that stay is a matter for the creditors and the company to agree.

Although the decisions in Straume Riverside may well be sensible from an insolvency point of view, they are counter-intuitive from a construction disputes perspective, given that the tide has, for 10 years, been running in adjudication’s favour and against litigation.

Adjudication bonds were developed in the UK PFI market as an alternative, sitting somewhere between the on-demand bond (which is considered to be high cost and susceptible to wrongful calls) and conditional bonds and guarantees. Adjudication bonds provide employers with speedy access to funds with calls on the bond being triggered by a favourable adjudication determination against the contractor or a fast-track adjudication against the surety pursuant.

If a counterparty is insolvent, the adjudication mechanism in an adjudication bond can be used to obtain a quick decision as to the contractor’s liability without the need to adjudicate against it.

In the current climate, in which a party’s ability to adjudicate pursuant to the Construction Act may well be constrained by insolvency legislation, the adjudication bond will be an increasingly useful tool for any employer.