Most construction contracts should account for what happens in the event of insolvency of the lead contractor. For subcontractors in this situation, the first thing to do is establish your rights. While this might not completely mitigate the chance of financial damage, there are usually clauses designed to streamline the process and save time and additional resources. Getting to the bottom of this can be complex and time-consuming.
When a contractor becomes insolvent during a project, the first question is naturally whether the works will continue. This decision usually falls to the developer, or the organisation that employed the contractor. Should they choose to press on, it may be able to exercise ‘step in rights’ and take control of the construction element of the project. In doing so, they absorb the rights and obligations of the contractor, which usually means it is required to pay all outstanding amounts due to sub-contractors and consultants. The developer may also have the right to compel the insolvent contractor to defer the role of primary contractor to a sub-contractor. In both these circumstances, works will continue and the original contractors in the supply chain should be paid.
In reality, getting to this stage can be a protracted and acrimonious process – and therefore costly for sub-contractors and consultants. The developer may be contractually obliged to consider its options within a particular time frame, in which case sub-contractors and consultants usually have one of two options open to them.
- They may be entitled to exercise a contractual or statutory suspension of works until the liquidator pays them. This helps control overhead costs in the interim. It can also work to encourage the developer or employer to make decisions swiftly when combined with pressure from partners, investors, or stakeholders to get a project moving again.
- They can look to terminate their contract and walk away. This is, of course, not the ideal situation, but it will avoid the incurring of any further costs and allow the business to re-trench as best it can. However, even if this decision to terminate is taken, the sub-contractor or consultant may still have to notify the developer of its right to ‘step in’ under collateral warranty – which essentially extends a duty of care to third parties not involved in the original contract.
If works cease in the event of contractor insolvency, suppliers of equipment and materials earmarked for use should check to see if they have a retention of title clause (ROT) in their contracts. If they do - provided the items in question have the supplier’s details written on them, there is evidence of delivery in any interim statements given to the contractor and they haven’t yet been incorporated into the construction – the supplier may have the right to re-possess the items if no payment has been received.
Materials not paid for by the contractor that have already been used on site become the property of the developer, so suppliers should look to invoke the ROT clause as quickly as possible if it applies to them. Even if materials have already been fully incorporated, a supplier may still have a claim for reimbursement if it has made the developer aware of their legal entitlement to them.
The same principle applies for suppliers of hire plant and machinery. The developer on the project may wish to negotiate with the supplier directly for the continued use of the equipment. If they fail to return the equipment, or do not pay for its use, the supplier may be entitled to take legal action against the developer to recover the initial hire costs.
About the author: Colette Morgan-Ford is partner and head of construction at Weightmans LLP