Background:

GPP Big Field LLP (“GPP”) was the Employer to 5 Engineering, Procurement and Construction contracts (“EPC contracts”) to build solar plants in the UK. The Contractor, Prosolia UK Ltd, is currently insolvent and therefore GPP sued its parent company, Solar EPC Solutions SL (“Solar”) as guarantor in order to recover both liquidated damages (“LDs”) and unliquidated damages for aspects of the Works which were late or non-completed.

Decision:

Were the LDs a penalty and therefore unenforceable?

Richard Salter QC suggested that each of the 5 EPC contracts’ factual matrices varied and therefore he would have to consider each in turn. However, a good way to look at the parties’ common arguments and recurrent submissions on whether the LDs were penal in nature is the LDs clause in the Hamptworth Contract (clause 21.5) and comparison with other contracts. Clause 21.5 suggested that “the Contractor shall pay to the [first Claimant] a penalty…as the amount of £500 per day per MWp installed and per day that the construction works suffer a delay”.

Solar submitted the following reasons as to why this clause was not a genuine LDs clause and rather represented a penalty:

  • This wording of the clause suggested it was a penalty. This evidenced both parties’ intention and the consensus reached in the contract at the time.
  • The flat rate of £500 in each of the 5 contracts failed to take into account the fluctuations in electricity prices which would significantly impact the losses to GPP. There was potentially a 30% difference across all 5 EPC contracts but this was not reflected in the penalty.
  • It was not based on a genuine pre-estimate of the losses that a delay might cause. There were no calculations or financial breakdowns in negotiations but rather this figure was lifted from a Spanish Contract.

Salter QC applied the rule on penalties in Cavendish Square Holding v El Makdessi and ParkingEye Ltd v Beavis[i]. He found that point III was factually incorrect, based on inaccurate evidence given by the Defendant’s witnesses, Mr Garcia (who was a director for the Contractor) and Mr Delgado (who is CEO for the Solar Group). The court was pointedly critical about the Defendant’s witnesses’ credibility. With regard to the use of the term “penalty”, Salter QC found that because the LDs had been subsequently defined as “Delay Damages” in the same sentence, the use of penalty “is therefore an equivocal indication”, suggesting he should instead “look at the substance of the matter”.

When comparing the sums of the LDs across 2 of the contracts, Salter QC stated that “the difference between the output of the two plants was dealt with by relating the damages figure per day to the MWp of each of the plants”. This suggests the sums due were based on the projected peak generation of the photovoltaic installations in the solar plants. The reference to MWps installed was underlying across all the EPC contracts. The LDs clauses in the EPC contracts were not penalties. The court found this clause survived the termination of the Contract, confirming Hall v Van der Heiden (No 2)[ii].

If the LDs were not a penalty, had the force majeure clause been invoked to rescue Contractor?

Solar then argued that there were no damages payable because the Contractor had been relieved from clause 21.5 due to circumstances amounting to Force Majeure on the relevant date. The court found that the circumstances surrounding the construction of the solar plants did not amount to force majeure and that in any case the Contractor had failed to comply with the notification requirements.

If the Contractor was liable to pay the LDs, was Solar liable as a guarantor or did common law doctrine intervene?

Solar had entered into an agreement with GPP to guarantee the obligations of its subsidiary, the Contractor, in the form of a Parent Company Guarantee (“PCG”). To summarise, Solar guaranteed 1) Due and punctual performance by the Contractor of the Contractor’s duties under the EPC; and 2) an indemnity (expressly stated to be an obligation of Solar’s that is independent of the EPC) for any losses incurred by the Employer due to the Contractor’s failure to perform its obligations. Solar argued that its contractual liability had been discharged because GPP had failed to disclose a number of “unusual features” about the project prior to the guarantee being given and that the principal contract had been subsequently varied. Therefore, the common law doctrine of unusual features and/or the rule in Holme v Brunskill[iii] applied.

Salter QC held that neither Holme v Brunskill, nor other doctrines in guarantee law, rescued Solar from the guarantee it had given. This is because he held that the guarantee was actually an indemnity, as Solar’s undertaking of liability was primary, like the Contractor’s, rather than ancillary. Additionally, he found that varying the cabling route was not a variation to the principal contract but rather a means of performing its obligations. Therefore, the case law did not apply in this way. He refused to extend the ambit of the common law rules for “sound reasons of policy”, as they “unduly favour” the guarantor by allowing him to vitiate his guarantee whenever there is a variation, presenting “a trap for the unwary creditor”.

Solar was on the hook. It had to indemnify the claimants to the tune of £1,755,470 after set-off.

Implications:

The court’s findings are highly fact-specific in this case. However, it is interesting to see that Salter QC has upheld the sums provided for in the LDs clause, in spite of their labelling as “penalties” and his consideration of what constitutes a penalty is a helpful nod in the right direction for Employers. The court’s finding that the LDs clause survives contract termination and continues to apply, meaning LDs accrue, could be considered somewhat unorthodox and might be the subject of a future challenge.

This case has also demonstrated a judicial unwillingness to extend the application of various common law doctrines in Guarantee Law to indemnities offering concurrent primary liability for the debts of the Contractor, rather than simple sureties that offer secondary or ancillary liability. Parents in corporate groups will no doubt read into this judgment to seek to influence the terms in PCG documents so that they cannot be forced to guarantee in scenarios where there has been no full disclosure or subsequent variation of the principal contract.

It will remain to be seen if this interpretation of the rules set out in Royal Bank of Scotland v Etridge (No 2)[iv]and Holme v Brunskill is confirmed and maintained by other cases in the High Court or appellate courts. One can see why it was argued in this case that the parties’ agreements to vary the cabling route was a variation to the principal contract. Often, this is set out in a specification document appended to the contract. The concept of what might constitute such a variation and this narrow interpretation of the case law might cause nervousness to guarantors, as it seems to permit the Employer to vary the practical logistics of the contract without the guarantor’s permission, while keeping it on the hook for an indemnity. Realistically, parent companies will be able to exercise a considerable degree of executive power on their subsidiary contractors, but the judgment seems to suggest that guarantors could end up picking up the tab for something they were not strictly aware of and in spite of changes they have not consented to.

Practical Tips

  • As an Employer, liquidated damages clauses are an important remedy and need to be worded carefully in order to be of use. Parties should make it expressly clear if the clause is not to survive the termination of the contract. Often, an Employer will seek to terminate on non-performance. They should not make any references to penalties and Employers should be able to show that the damages are actually calculated taking into account projected losses rather than settling on an arbitrary sum.
  • Guarantors and Contractors should be aware – PCGs which not only guarantee performance of the contractor’s obligations but also guarantee indemnification for losses on performance failure are indemnities. They may apply in spite of common law limits and exceptions in Guarantee Law.
  • This judgment also explored common pitfalls when witnesses give evidence. If you are giving a statement, try to break this down into multiple witness statements if necessary. Always expressly identify the source of your information if it has not come from your own knowledge or experience but from other people’s. The rules with hearsay evidence are different and this will otherwise result in a defensive cross-examination which will fail to impress the judge.

 

[i] [2015] UKSC 67

[ii] [2010] EWHC 586 (TCC)

[iii] (1877) 3 QBD 495

[iv] [1998] 4 All ER 705

We have extensive experience advising on ‘turnkey’ EPC contracts and would be happy to advise further on issues relating to liquidated damages and indemnities. We also have experience in the solar and energy sectors. Justin Mendelle is a Partner and the Head of Construction. Juli Lau is an Associate in the Infrastructure team at Sharpe Pritchard. Alexandra Bellis is a Trainee Solicitor at Sharpe Pritchard, currently in the Construction team.

This article is for general awareness only and does not constitute legal or professional advice. The law may have changed since this page was first published.