Contract variations: Crystal balls at the ready

The recent case of R (on the application of Kim Alexander Gottlieb) vs Winchester City Council highlights the limits to which a council and its developer partner can go in varying a development deal to ensure it remains commercially viable.

Rather uniquely, this case was brought by a councillor, Mr Gottlieb, against his own council and concerned changes made to a development agreement first entered into over 10 years ago. It is a rare example of the courts granting judicial review of a council’s decision to amend a development agreement in breach of the EU procurement regulations.

The council entered into the development agreement in 2004. In line with the general thinking of that time (this was before the landmark case of Jean Auroux vs Roanne), the agreement was not procured via an EU-compliant process. It contained minimum delivery requirements including the provision of a civic square, a bus station, shop mobility and dial-a-ride facilities and residential units, of which 35% had to be affordable.

In 2014, the parties agreed a number of variations, ostensibly to ensure the continuing commerciality of the scheme. These removed the bus station, shop mobility and dial-a-ride facilities, reduced the affordable housing and increased the retail space.
Mr Gottlieb challenged the lawfulness of the council’s decision to vary the agreement without undertaking an EU-compliant procurement as the variations were materially different in character from the original contract and demonstrated the intention of the parties to renegotiate its essential terms. Further, he argued that the variations changed the economic balance of the contract in favour of the developer.

The 2014 Directive had not been implemented in the UK and the court held Pressetext Nachrichtenagentur GmbH vs Republik Österreich applied.

Pressetext confirmed that a contract should be regarded as a new contract requiring a new procurement process to be run, where the amended contract was “materially” different in character from the original, such as to demonstrate an intention by the parties to renegotiate the essential terms of the agreement. An amendment will be regarded as “material” where it:

• Introduces conditions which, had they been part of the initial award procedure, would have allowed for the admission of tenderers other than those initially admitted or would have allowed for the acceptance of a tender other than the one initially accepted 
• Significantly extends the scope of the contract
• Changes the economic balance of the contract in favour of the contractor.

The court in Gottlieb found that the amendments to the development agreement did require a new procurement process and confirmed that:

• In relation to development (and concession) agreements, profit derived from third parties (for example, rental or sales receipts) should be considered when evaluating the likely effect of a variation on the economic balance of a contract. 
• A claimant will not necessarily have to identify specific tenderers who would have competed for the varied contract had it been put out to tender. The relevant test is whether a “realistic hypothetical bidder” would have applied if the contract had been advertised. 
• A variation clause in the original contract may avoid the need to re-procure only if it is clear, precise and unequivocal.

Although the variations under consideration in Gottlieb could be said to be at the more extreme end of the spectrum, the application of Pressetext (as subsequently codified by the 2015 Regulations) to such complex contracts as development agreements will require local authorities to dust off their crystal balls and clearly set out in the tender documents all of the agreed permitted changes.

But is this realistic? The compilation of an exhaustive list of permitted variations is unlikely to be feasible (or successful). In any event it could be argued that there has traditionally been an understanding between councils and their bidders that, because of the many variables that affect a long-term development relationship, the indicative deal agreed at tender stage will be subject to variations, some of which may be “substantial”. Consequently, price variations are less likely to attract challenge than they may be in other environments, at least outside the - possibly unique - genesis of Gottileb.

As of 26 February 2015, Regulation 75(8) of the Public Contracts Regulations 2015 (which broadly codifies the Pressetext case) applies to contract variations. It is arguable that the principles in Gottlieb are instructive as to how the courts will analyse contract variations in the future. But will this prompt a swathe of re-procurements of varied contracts? Or (more likely) will the development marketplace get better at anticipating likely changes to their development agreements via more tightly worded variation clauses? Whatever the impact, those crystal balls might come in handy.

Rebecca Rees is a procurement partner at law firm Trowers & Hamlins