A problem shared

Another case on collateral warranties, this time in the Scottish courts, Royal Bank of Scotland vs Halcrow Waterman is a reminder of the importance of net contribution clauses in collateral warranties. RBS as tenant of a commercial development sued the engineer under a collateral warranty for structural cracking. One of the preliminary issues was whether the net contribution clause in the warranty meant the engineer should not be responsible for payment of the contractor’s share - the contractor was insolvent. RBS successfully argued the net contribution clause did not apply to the contractor’s share of blame - only other consultants - so the engineer was not protected from picking up the contractor’s share of liability if established.

Claims under collateral warranties are increasingly common, principally, it is thought, because of the property boom in the late nineties and early noughties, where so many developments were sold on either immediately or shortly after construction. This meant those tenants, funders and forward purchasers needed collateral warranties to protect them against faulty design and workmanship.

Collateral warranty claims are inevitably about latent defects - that is, those not known about at completion and, more often than not, design issues that may have been caused or contributed to by more than one party. As the claims can appear a long time after completion, some of the parties may no longer exist or have no money or insurance to meet a claim.

So where do net contribution clauses come into this? Many of these collateral warranties contain such a clause, which is inserted for the granter of the warranty’s protection and their insurer.

An effective clause limits the granter’s liability to that share of the claiming party’s loss for which it is to blame. This is calculated either on a “fair and reasonable” or “just and equitable” basis regardless of whether all other potential wrongdoers are still on the scene or not. It proceeds on the basis of certain assumptions as to recovery or deemed recovery from others.

If there is no net contribution clause, a party 10% to blame may have to pay 100% of the loss because of the principle of joint and several liability. This happens where the other wrongdoers are no longer in existence or are insolvent.

The effect of a net contribution clause is to afford some protection to the granter by limiting the extent of the loss he is underwriting. In reality, it leaves the recipient of the warranty with the risk of insolvency of one or more of the design and construction team.

Halcrow argued the clause should also apply to any liability of the contractor. The argument failed. The term ‘Other Consultants’ was found not to include contractors

The net contribution clause in RBS vs Halcrow Waterman stated: “The Consultant’s liability arising as a result of any breach of this Agreement shall be limited to that proportion of the Tenant’s losses which it would be just and equitable to require the Consultant to pay having regard to the extent of the Consultant’s responsibility for the same and on the basis that all Other Consultants shall be deemed to have provided contractual undertakings to the Tenant on terms no less onerous than this Agreement in respect of their services in connection with the Development and shall be deemed to have paid such proportion which it woul d be just and equitable for them to pay having regard to the extent of their responsibility.”

The engineer argued the net contribution clause should also apply to any liability of the contractor. The argument failed. The term “Other Consultants” was found not to include contractors.

It is a reminder that when agreeing net contribution clauses, and being asked to grant collateral warranties, the wording is critical. How many other parties are being asked to provide collateral warranties? To which parties’ failings should the proportionate liability extend?

Contractors and specialist subcontractors are concerned that these clauses in consultants’ warranties may result in a greater level of recovery from them. As a result, they are appearing in contractors’ collateral warranties as well, although to a much lesser extent. Where the contractor is the single point of responsibility in a design-and-build contract, employers are less likely to agree that any collateral warranty it is obliged to give is limited by a net contribution clause. That is unlikely to be acceptable to the recipients of such warranties, unlike with consultants.

Lindy Patterson QC is a partner in Dundas & Wilson