Ground-breaking decision for construction insolvencies: Bresco
10 September 2020
On 17 June 2020, the Supreme Court handed down a judgment that will fundamentally affect construction insolvencies by allowing insolvent companies the unfettered right to issue adjudications.
Adjudication is a key tool to maximise debt recoveries, which have historically been very low in construction insolvencies.
This article briefly examines the construction adjudication process and why it is so critical for insolvent companies and goes on to look the Supreme Court decision itself and the implications for IPs.
Adjudication
Adjudication is a statutory process that was introduced in 1996 to allow construction disputes to be resolved in a quick and pragmatic manner, without the need for litigation. One of the key underlying objectives of adjudication was to improve cash flow on ongoing construction projects. However, that was not the only purpose, and adjudication has evolved over the years to become a critical dispute resolution mechanism in construction – and not just for cash flow purposes. From final accounts to professional negligence claims and beyond; the process has a very wide remit.
The vast majority of adjudicator’s decisions are adhered to by the parties, without the need for court involvement. Although there is the ability to apply to the court to reopen the decision of an adjudicator, it is not used in the majority of cases. The obvious inference is that, even if parties disagree with an adjudicator’s decision, they usually don’t feel strongly enough about it to incur the costs of litigation.
Construction insolvencies
Insolvency practitioners will be all too familiar with the traditional difficulties in recovering debts owed to insolvent construction companies. Inevitably, upon insolvency, counter-claims will be asserted by those listed as debtors in the insolvent company’s records. Those asserted counter-claims generally exceed the amount owed to the insolvent company – but are rarely properly proven.
A construction insolvency also generally brings it with limited records and an absence of funds available in the estate to fund litigation or other debtor recoveries.
This ‘perfect storm’, combined with a belief in the industry that the right to adjudicate was lost when a company went into insolvency, resulted in very low construction debt recoveries.
Adjudication and insolvency
From an insolvency lawyer’s perspective, the idea that an insolvent company has lost its right to adjudicate, was complete anathema. Parliament chose to grant substantial powers to IPs to help them do their job of getting in the assets of the insolvent company and distributing them to creditors.
The idea that an insolvent company should be deprived of a very useful process available to all solvent companies, simply had to be wrong. And, as mentioned above, the loss of adjudication made it practically difficult for IPs to recover sums due to the insolvent company.
Bresco
The decision in Bresco Electrical Services Limited (in Liquidation) v. Michael J Lonsdale (Electrical) Limited [2020] UKSC 25 (Bresco) allows Bresco’s adjudication, overturning the Court of Appeal decision last year.
Michael J Lonsdale had brought an application for an injunction to prevent Bresco from pursuing an adjudication against it on the ground that Bresco was in liquidation. That injunction was granted by the court at first instance and upheld by the Court of Appeal, albeit for different reasons.
A number of objections were raised in both the first instance and Court of Appeal in Bresco, in an attempt to justify some sort of ‘incompatibility’ between insolvency and adjudication.
The objection that will be most familiar to IPs was accepted at first instance but rejected in the Court of Appeal (and emphatically rejected by the Supreme Court). The assertion was that the process of taking an account to determine the net balance after mandatory set-off under rule 14.25 of the Insolvency (England and Wales) Rules 2016 is incompatible with adjudication.
The ‘process of taking an account’ was one that construction lawyers would often refer to, suggesting there was some set process that had to be followed to take that account. As IPs are well aware, however, that process takes whatever iterative manner required to ascertain the net position.
As Lord Briggs made very clear in his judgment in the Supreme Court, ‘Where there are real disputes between the company and third parties (who may be creditors or debtors) the insolvency code is inherently flexible as to the best means for their resolution.’
For example, one claim between two parties might be resolved by adjudication, one by mediation and one by a simple settlement etc. The calculation of the net balance is therefore a simple arithmetical exercise. (This had also recently been recognised by Waksman J in his judgment in Balfour Beatty Civil Engineering Limited and Balfour Beatty Group Limited v. Astec Projects Limited (in liquidation) [2020] EWHC 796, where the liquidator defeated an application by Balfour Beatty for an injunction to stop a series of adjudications being brought by Astec Projects.)
What does the result mean for IPs?
This decision opens the door for IPs to use the adjudication process to resolve disputes on construction contracts and greatly increase the debt recoveries for the benefit of the creditors.
Prior to the Supreme Court in Bresco, debtors (if the potential claim against them was large enough to warrant the cost) could seek to apply to court for an injunction to stop an adjudication being brought by an insolvent company.
The Supreme Court has now made very clear that an insolvent company has the same unfettered right to adjudicate as a solvent company does. An injunction to stop it is therefore inappropriate.
Notes of caution
There are two key issues for IPs to be aware of when considering issuing adjudications to recover construction debts.
Adjudicator’s fees. While there is no ability for an adjudicator to award adverse costs (the costs of defending the adjudication are therefore a ‘sunk cost’ for the defendant), the adjudicator will require some guarantee of payment of his or her fees, should he or she decide that they should be paid by the referring party (ie the insolvent company). Usually costs will ‘follow the event’ and therefore will be paid by the losing party.
Without a guarantee of payment of the adjudicator’s fees, adjudicators will require some guarantee from the IP – and potentially payment in advance on account of those fees.
Enforcement of an adjudication decision. As mentioned above, the vast majority of adjudication decisions are treated as final by the parties, with the losing party making the payment ordered.
However, if enforcement is necessary, an application to court for summary judgment is required. Previously the battleground for insolvent construction companies was a threatened (and sometimes, as in Bresco pursued) application for an injunction to stop the adjudication.
Now, we are seeing the battleground move to enforcement, with several losing parties refusing to pay and seeking to dispute a summary judgment application.
Lord Briggs in Bresco referred to Meadowside Building Developments Ltd (in liquidation) v, 12-18 Hill Street Management Company Ltd [2019] EWHC 2651 as an example of the approach to be taken on enforcement. The law in relation to enforcement will therefore continue to evolve in the coming months, as the courts at first instance determine what are appropriate mechanisms to put in place for an insolvent company to get summary judgment to enforce an adjudication decision.
The future
The Supreme Court decision in Bresco is incredibly important for administrators and liquidators of construction companies.
A very substantial impediment has been removed and this decision should be warmly welcomed by IPs and their professional advisers.
Pythagoras Capital acted for the liquidator of Bresco throughout the adjudication and court process.
Jennifer Guthrie is head of business development at Pythagoras Capital.
