Grove Developments: Reflections on 'smash and grab' adjudications in light of the recent Court of Appeal decision

Last week, the Court of Appeal handed down its judgment in S&T (UK) Limited v Grove Developments Limited [2018] EWCA Civ 2448. This judgment has been keenly awaited by construction practitioners due its significant implications for the practice widely known as 'smash and grab' adjudications, in relation to which the Court of Appeal has now provided much needed clarification. In this e-bulletin, we revisit the previously conflicting legal authorities on 'smash and grab' adjudications, and consider further the practical implications of the latest Court of Appeal decision.

What is a 'smash and grab' adjudication?

A 'smash and grab' adjudication is a term commonly used in the construction industry to refer to an adjudication in which the contractor seeks to enforce an often substantial payment application made around the time of the completion of the works, but before the final account is determined, based on the failure by the employer to serve a valid pay less notice:

• Under s.111 of the amended Housing Grants, Construction and Regeneration Act 1996 ("Construction Act"), the payer (invariably the employer) must pay the sum notified in a contractor's payment notice (to the extent not already paid) on or before the final date for payment, unless the employer issues a valid pay less notice specifying the sum it considers to be due and the basis on which that sum is calculated.
• In practice, the employer may fail to send a pay less notice or may issue an invalid pay less notice (e.g. because it does not set out the basis on which the sum due to the contractor has been calculated). It is in these circumstances that the contractor may commence an adjudication to enforce payment of the contractor's notified sum.

The term 'smash and grab' is used because, if the contractor is right that no (or no valid) pay less notice was issued, the employer will have no defence to the claim.

The employer's options where it fails to serve a valid or timeous pay less notice

Even where the employer's pay less notice is deficient or served out of time, and the contractor successfully enforces a payment application by adjudication, there may still be circumstances where the employer disputes the true value of the works to which the relevant payment application relates, and wishes to recover any overpaid amounts. In these circumstances, two options are potentially available to the employer:

(i) seeking to correct an overvaluation in a subsequent interim payment cycle; or

(ii) commencing a second adjudication to determine the true value of the works in question and the sum actually due to the contractor, and using the resulting decision to, in effect, cancel out the decision in the smash and grab adjudication.

Until Grove, neither option was entirely satisfactory from the employer's perspective.

For example, waiting to correct an overvaluation in subsequent payment cycles could be financially prejudicial to the employer if, as is the nature of 'smash and grab' claims, there were no further interim payment cycles to correct the overvalued payment application which the contractor had successfully enforced. In this scenario, the employer would need to wait until the final account stage to make the correction, and until that time, the contractor would continue to retain the overpaid amount.

Further, until now, it was unclear whether or not an employer was even entitled to commence a second adjudication to determine the true value of the works in question, primarily due to the conflicting legal authorities on this issue.

The conflicting legal authorities prior to Grove

Whilst certain authorities recognised the employer's right to commence a second adjudication to determine the true value of the relevant works where it failed to serve a valid and/or timeous pay less notice (for example, Imperial Chemical Industries Limited v Merit Merrell Technology Limited (No 2) [2017] EWHC 1763 (TCC)), there was also a line of authorities stemming from ISG Construction Ltd v Seevic College [2014] EWHC 4007 (TCC), which clearly stated otherwise.

ISG v Seevic found that an employer could not bring a second adjudication, since the employer was essentially deemed to have accepted the contractor's notified sum when it failed to serve a valid pay less notice. Specifically, it was found that:

"…if the employer fails to serve any notices in time it must be taken to be agreeing the value stated in the application, right or wrong… therefore, in that situation the first adjudicator must be in principle taken to have decided the question of the value of the work carried out by the contractor for the purposes of the interim application in question".

The court's view in ISG v Seevic was that the decision in the second adjudication was invalid for want of jurisdiction, which meant that the employer was, in turn, effectively precluded from bringing a second adjudication to challenge the true value of the works in question.

How the recent Court of Appeal decision in Grove has clarified the position on 'true value' adjudications

Earlier this year, the TCC sought to untangle the conflicting authorities on 'true value' adjudications in Grove Developments Limited v S&T (UK) Limited [2018] EWHC 123 (TCC).

In one of his last substantial judgments in the TCC, Coulson J (as he was then) confirmed that an employer, whose pay less notice is deficient or absent, could pay the contractor the sum stated as due in the contractor's interim application and then seek, in a second adjudication, to dispute that the sum paid was the 'true' value of the works for which the contractor has claimed.

Coulson J's decision was based on six reasons, which can be summarised as follows:

(i) The court (and adjudicators) can determine the true value of any certificate, notice or application. That included a power to open up and revise a sum notified in an interim application.

(ii) The wide powers of an adjudicator under s.108 of the Construction Act (and paragraph 20 of the Scheme for Construction Contracts under the Construction Act) means that there is no limit to the nature of disputes which either party can refer to adjudication.

(iii) The dispute which the employer would wish to raise in the second adjudication (i.e. on the matter of valuation) is a different dispute from that which was determined in the first adjudication (i.e. the validity of the pay less notice). Where the former dispute is not decided in the first adjudication, then it must be capable of being referred to adjudication.

(iv) There is a conceptual distinction between the terms 'sum due' and 'sum stated as due'. Whereas the former is the result of the contractual mechanism designed to calculate the contractor's precise entitlement (i.e. the 'true' valuation); the latter is the amount stated in the contractor's payment application and payable by the employer to the contractor in the absence of a valid pay less notice (or the amount stated in a pay less notice if validly and timeously served).

(v) If a contractor objects to the employer's pay less notice, it can start an adjudication to ascertain the correct figure, even though the Construction Act does not say this expressly. As a matter of fairness, the employer should have a similar right to adjudicate if he considers that the sum notified by the contractor is too high.

(vi) There is no justification for treating interim and final applications differently.

S&T subsequently appealed to the Court of Appeal.

The Court of Appeal dismissed the appeal on the basis that it agreed that Coulson J's reasons supported the view that the employer, having failed to serve a pay less notice, is nevertheless entitled to adjudicate to determine the true value of an interim application.

The Court of Appeal also addressed the question as to when the employer could exercise such right to adjudicate, and again agreed with Coulson J that an adjudication could not be commenced until after the notified sum is paid. In this regard, the Court of Appeal found that, as a matter of statutory construction, the adjudication provisions in s.108 are subordinate to the payment provisions in s.111 of the Construction Act. Therefore, the employer is prohibited from commencing a 'true value' adjudication until he has complied with his immediate payment obligation.

The outlook for 'smash and grab' adjudications post Grove and some practical considerations

So what is the likely outlook for 'smash and grab' adjudications in light of the recent Court of Appeal decision in Grove?

In his first instance decision, Coulson J expressed the view that the conclusions he reached would reduce the number of 'smash and grab' adjudications. Whilst this would be a welcome development for employers, contractors may well continue to bring 'smash and grab' claims in order to secure cash flow.

Although the law has been clarified in the employer's (or 'payer's') favour, the onus also remains on the employer to commence a second adjudication if it wishes to correct any overvalued payment applications that have been successfully enforced (unless it is willing to allow the contractor to retain the overpaid sums until the next interim payment cycle or the final account). Multiple adjudications can be time-consuming, costly and highly disruptive to the business. Therefore, in order to avoid these issues, employers should continue to adhere strictly to contractual notice periods and substantive notice requirements.

Further, observing notice periods in connection with the contractual payment provisions is even more important where there is a risk of contractor insolvency, which is increasingly in the spotlight following the collapse of Carillion earlier this year. As highlighted in the Court of Appeal's decision in Grove, employers should be scrupulous to protect themselves by serving valid and timeous pay less notices in such circumstances so as to avoid paying out large sums which are then distributed to secured creditors before the works can be revalued.