Home > Back to square one? Statutory interpretation versus commercial futility after Bresco v Lonsdale

Back to square one? Statutory interpretation versus commercial futility after Bresco v Lonsdale

3rd July 2020

Back to square one? Statutory interpretation versus commercial futility after Bresco v Lonsdale

Although handed down only a few days ago, practically everyone in the construction law world is already aware of the Supreme Court’s decision in Bresco Electrical Services Ltd (In Liquidation) v Michael J Lonsdale (Electrical) Ltd and the fact that it unanimously upheld the right of companies in liquidation to retain an unfettered right to commence adjudication proceedings. The court’s ruling effectively restores the law to the position it was prior to Fraser J’s decision at first instance almost two years ago.

This piece is not so much about recounting the facts or summarising the judgment, but rather taking a closer look at the court’s reasoning in coming to its decision and specifically what its practical consequences (some of them unintended) are likely to be for practitioners. In doing so, I will be considering the court’s analysis of the statutory right to adjudicate “at any time”, and what I consider the more problematic question of futility – that is, regardless of an insolvent company’s strict legal right to adjudicate, does it make any practical sense to permit it?

The jurisdiction analysis

The Supreme Court held that the fact a company enters into liquidation does not affect its right to bring adjudication proceedings, such that any argument that the adjudicator lacks jurisdiction to consider the dispute on that basis alone must fail. The court’s reasoning appears unassailable.

To understand why, it is perhaps more helpful to ask what arguments could have been (and indeed were) put forward suggesting the opposite:

  • Upon a company entering into liquidation, the insolvency set-off rules (specifically, as contained in rule 14.25 of the Insolvency Rules 2016) supplanted the adjudication framework under the Construction Act 1996 and the Scheme for Construction Contracts 1998. In particular, that the freestanding claims and cross-claims between the insolvent company and its creditor(s) were replaced by a single claim for the net balance between them by automatic operation of the insolvency rules.
  • The respondents relied on Lord Hoffmann’s comments in Stein v Blake, which, according to their interpretation, meant that upon a company entering into liquidation, any pre-existing choses in action were effectively replaced by a new, single claim for the net balance. As a result, the original dispute(s) under the construction contract (which gave rise to the right to adjudicate in the first place) ceased to exist, along with the adjudicator’s jurisdiction to determine the same.

Although these arguments were successful at first instance before Fraser J, they were rejected both in the Court of Appeal and Supreme Court. It is suggested that the latter’s reasoning was comprehensive and convincing.

In the words of Lord Briggs:

“… the existence of a cross-claim operating by way of insolvency set-off does not mean that the underlying disputes about the company’s claim under the construction contract… simply melt away so as to render them incapable of adjudication…

… the submission assumes, from an over-literal reading of the language of Lord Hoffmann’s speech in Stein v Blake, that the claims and cross-claims which fall within insolvency set-off lose their separate identity for all purposes, on the cut-off date. It is true that they do for the purpose of assignment, but there are important examples of purposes where they do not.”

Lord Briggs provided examples to illustrate his point, including where a company in liquidation was facing a cross-claim valued at less than the claim, in which case an adjudicator would retain jurisdiction to determine the net balance despite the existence of rival claims. This reasoning, it is suggested, would apply a fortiori where a company in liquidation intended to refer a dispute to adjudication in the absence of any disputed cross-claim. After all, it would seem an extraordinary result that the mere fact the company was insolvent deprived it of a right to adjudicate even in the absence of a disputed rival claim. To have been able to argue otherwise, said Lord Briggs, “would be a triumph of technicality over substance”.

The futility analysis

Perhaps the more curious aspect of the Supreme Court’s decision is its rejection of the futility analysis adopted by various TCC judges and the Court of Appeal, both in this case previously and more widely. In essence, the argument runs as follows: even if an insolvent company technically has the right to refer a dispute to adjudication, its ability to do so should be restrained (usually by injunction) in circumstances where the enforcement of any favourable decision is unlikely to be granted on the basis of its insolvency.

As construction lawyers will know, the assumption inbuilt to this argument that an insolvent company will struggle to enforce a favourable adjudicator’s decision relies on the well-established principles set out by HHJ Coulson QC (as he then was) in Wimbledon Construction Co 2000 Ltd v Vago).

Notwithstanding the venerable pedigree of this line of argument (that is, that the courts should be reluctant to permit adjudication proceedings that are unlikely to be enforced and instead only divert valuable resources away from the final determination of the dispute), it was given relatively short shrift in the Supreme Court.

One reason why, according to Lord Briggs, is that referring a dispute to be resolved via adjudication was an end in itself. In his words:

“Dispute resolution is therefore an end in its own right, even where summary enforcement may be inappropriate or for some reason unavailable.”

For many practitioners (or at the very least their clients), this view will not be shared, insofar as it arguably overlooks the commercial realities associated with issuing adjudication proceedings, namely, that they are often brought by cash-strapped parties operating on narrow margins who are less interested in a favourable (but unenforceable) decision and much more interested in receiving payment from the other side.

What is more, the majority of adjudications could be characterised (perhaps somewhat uncharitably) as technical game-playing, often with a view to securing a windfall for the referring party on the basis of errors in payment notices. According to the Adjudication Society’s December 2019 Report, 57% of adjudications brought the previous year concerned payment/pay less notice disputes or interim valuations. This undermines to some extent Lord Briggs’s assumption that parties are generally interested in dispute resolution in its own right, especially where “smash and grab” proceedings are brought only to be subsequently contested at the enforcement stage.

From the author’s own experience, where the referring party is insolvent (or even in a financially precarious state), non-compliance with adjudicators’ decisions ordering payment from the responding party is the norm, rather than the exception. In other words, the dispute seldom ends at the adjudication stage, which itself can cause unexpected financial burdens on the parties whose costs, sometimes quite substantial, are very seldom recoverable.

Unintended consequences?

I consider there are at least two noteworthy (and potentially unintended) ramifications arising from the Supreme Court’s decision: one jurisprudential, the other practical.

Turning first to the law, if insolvency is not, without more, an absolute jurisdictional bar to issuing adjudication proceedings, then this raises the question of whether Grove Developments Ltd v S&T (UK) Ltd was (at least in part) wrongly decided. I say this because the mainstream understanding of that case is that, while an adjudicator has jurisdiction to consider a “true value” dispute before an earlier “smash and grab” decision ordering payment has been complied with (although whether the adjudicator has jurisdiction is not entirely free from doubt), the “true value” proceedings would in any event be halted (presumably, by way of an injunction).

One reason the decision in Bresco may cause difficulties with the above understanding is because the Supreme Court emphasised the importance of an unfettered right to refer disputes to adjudication “at any time”, including even after the contract in question has been fully performed or terminated. If such a right remains unfettered – even where the referring party is insolvent and enforcement is likely to be ultimately stayed – the legal reasoning supporting the decision in Grove that seemingly less serious circumstances (that is, non-compliance, however trivial, with the strict payment machinery within a construction contract or the Scheme) might amount to a fetter of the right to adjudicate at any time (for example, in respect of a subsequent “true value” adjudication) appears seriously challenged.

While the above represents speculation concerning what future inroads might be made (or at least attempted) against the decision in Grove, what is almost certain to be the case, in practical terms, is the exploitation of the Supreme Court’s decision in Bresco by large numbers of contractors forced into insolvency as a result of the COVID-19 pandemic.

While, on the one hand, the Supreme Court’s ruling will be welcome news insofar as they will not be prevented in the first instance from referring a dispute to adjudication, questions remain as to how, if at all, this new permissive approach will benefit them if all that is likely to happen is that the real battle will be postponed until the enforcement stage when the defendant will cite the claimant’s inability to pay as a basis for imposing a stay of execution.

If this turns out to be the case, then expect greater importance to be placed on insolvent claimants providing security as a precondition to the courts enforcing adjudicators’ decisions, as has already been foreshadowed in cases like Meadowside Building Developments Ltd (In Liquidation) v 12-18 Hill Street Management Company Ltd.

It is probably fair to say that the law is clearer now because of the judgment in Bresco. Whether that means unsuccessful parties in adjudication will be more likely to comply with unfavourable decisions without further challenge – that remains very much to be seen.

This article was first published in Practical Law’s Construction Blog.

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