Insolvent Construction Companies and the Non-Paying Employer

As construction company failure rates show little sign of improvement, Gavin Hoccom, Senior Associate at Berry Smith, considers the position of the construction company entering or facing insolvency as a consequence of non-payment by an employer.

It is a common occurrence: a construction company faces insolvency for no reason other than its employer has taken advantage of the contractual or legislative payment mechanism to withhold an interim or final payment due to the construction company.

If the construction company does not have sufficient liquidity to continue to fund any ongoing works, its options are limited, and its directors must keep a close eye on the ability of the company to pay its debts as they fall due.

To enable the construction company to regain control of its financial position, one common option is to adjudicate for payment from the employer. In an important recent case (Bresco Electrical Services Ltd. v. Michael J Lonsdale (Electrical) Ltd) it was, however, determined that it would be “an exercise in futility” to allow an insolvent construction company to adjudicate against an employer for payment in certain circumstances notwithstanding it may have been the employer’s non-payment which caused or contributed to the company’s insolvency in the first place.

Following Bresco, an employer would likely be successful in obtaining a court injunction to prevent an adjudication commenced by an insolvent construction company; particularly in so-called “smash and grab” adjudications where the company seeks full payment of an interim or final sum following a failure by the employer to issue a payment and/or payless notice.

As a consequence, the construction company would be left with the unattractive option of pursing the claim through arbitration or the court; which can be costly and time-consuming processes.

The potential for injustice following the decision in Bresco cannot be overlooked. There is, however, some good news for the directors and insolvency professionals of construction companies which have entered insolvency.

In Meadowside Building Developments Ltd (in Liquidation) v. 12-18 Hill Street Management Co. Ltd. the court recognised the potential injustice that the decision in Bresco may cause and determined that in claims where four factors are satisfied, the court will allow an adjudication brought by an insolvent construction company against an employer to proceed:

  • The adjudication includes the determination of the net final position between the construction company and the employer.
  • The construction company is able to provide security in respect of (i) any sum which is ordered to be paid by the employer in the adjudication and (ii) any order which is made is later litigation that the company pay the costs of the employer.
  • The security to be provided by the construction company must be “satisfactory”
  • Any agreement which is entered into between the company and/or its insolvency professional and any litigation funder (including a solicitor) is not an “abuse of process”.

The second and third factors are likely to prove the most difficult to satisfy. The directors of the company may, for example, be reliant on obtaining the agreement of the administrator / liquidator of the company that any sum recovered from the employer in adjudication be “ringfenced” pending the outcome of any future litigation between the parties. Alternative options include the provision of guarantees by the company’s directors, or the obtaining of an insurance-backed bond.

In addition, any construction company or insolvency professional hoping to take advantage of the decision in Meadowside will likely be reliant on the availability of innovative funding solutions to meet the legal costs involved in pursuing an adjudication in circumstances where the company will be unable to pay those fees “upfront”.

The Meadowside factors will not be capable of being satisfied in all cases of construction company insolvency. Nevertheless, in those instances in which it is possible to satisfy those criteria, the decision in Meadowside provides an opportunity for the construction company facing or having entered insolvency to seek redress from the employer which may have caused or contributed to that insolvency.

For a confidential discussion of the issues that your business may be facing and how we may be able to assist you, please contact Gavin Hoccom on 02920 345511 or for a no obligation discussion.