Part 36 offers in context of counterclaims and negative declarations

A recent High Court judgment highlights the scope for confusion in applying Part 36 in a case where the formal roles of claimant and defendant do not reflect the reality of who is seeking a (greater) remedy in financial terms: The Procter & Gamble Company v Svenska Cellulosa Aktiebolaget SCA and another [2012] EWHC 2839 (Ch). The Civil Procedure Rule Committee is currently considering a number of issues regarding the operation of Part 36. It is not clear whether that review encompasses the application of the rules in the context of counterclaims and claims for negative declaratory relief, but in light of this decision such a review would be welcome.

The decision also raises interesting issues regarding the principles the court should apply in deciding which party is the "successful party" who should (in principle) be awarded its costs and whether it is possible to include a term as to costs in a Part 36 offer.

Background

The underlying dispute related to the construction of a business sale agreement between the claimant as seller and the defendant as purchaser, and in particular a provision which provided for an adjustment of the purchase price in respect of certain pension liabilities assumed by the defendant. The claimant's position was that the adjustment due to the defendant, on a proper construction of the contract, was zero; the defendant contended that it was £19 million.

The claimant brought proceedings seeking declarations that would give effect to its position; the defendant counterclaimed. The court found in favour of the claimant on two out of the three declarations sought, with the result that the claimant's liability to the defendant was very much less than the £19 million contended for by the defendant, and less than the figure of £3 million which the claimant had offered to pay pursuant to its (purported) Part 36 offer a few months before trial.

In this judgment the court determined various issues in relation to costs, including:

1. whether the claimant or the defendant was the "successful party" who should in principle be entitled to its costs of the proceedings under CPR 44.3(2);
2. whether the claimant's offer qualified as a valid Part 36 offer; and
3. what should be the effect of that offer.

(1) Who was the "successful party"?

Both parties claimed to be the successful party on the facts of this case. The claimant pointed to the fact that it had obtained two of the three declarations sought with the result that its liability was far less than its potential liability of up to £19 million, and less than the offer it had made and the defendant had rejected. It also pointed to the fact that only the defendant had applied for permission to appeal. The defendant, however, claimed that it was the successful party based on the simple, mechanical test of identifying which party had to pay money to the other.

The judge (Hildyard J) found that the claimant had been the successful party. He said that in the context of a money claim the simple approach of looking at who had to pay the other had "much to commend it", but it ran the risk of being too simplistic in a claim for negative or other declaratory relief on points of contractual construction. He found in favour of the more "nuanced" approach quoted by the Court of Appeal in Medway Primary Care Trust v Marcus [2011] EWCA Civ 750, looking at whether the defendant has "substantially denied the plaintiff the prize which the plaintiff fought the action to win".

Here the judge said that the issue on which the claimant had been unsuccessful was always a "side-show"; the claimant was, overall, the successful party even though it was the one who had to write a cheque. This assessment was supported by the fact that the defendant had not accepted the claimant's offer, which was for more than the value of this issue, which showed it was not really what the case was about. The judge also said it was "not irrelevant" that it was the defendant rather than the claimant that was seeking to appeal the main judgment.

The claimant was therefore awarded 80% of its costs up to the date of expiry of its offer to settle, with a 20% reduction to take into account the issue on which the claimant had failed.

Comment: The proper approach to determining which is the successful party, and so is prima facie entitled to its costs, continues to be a matter of some debate in the case law.

In Medway Primary Care Trust, a clinical negligence case in which the claimant had been awarded damages of £2,000 against a claim quantified at £525,000, the majority of the Court of Appeal held that the defendants had been the successful party and were therefore entitled to their costs (subject to a reduction of 25% to reflect various matters). However, Lord Justice Jackson delivered a dissenting judgment stating that (in a personal injury case) where a claimant recovers damages (other than nominal damages) and there is no sufficient Part 36 offer, the starting point should be that the claimant recovers his costs.

In the subsequent case of Fox v Foundation Piling Limited [2011] EWCA Civ 790, in which Lord Justice Jackson gave the lead judgment, he said that where a claimant has a strong case on liability but quantum is inflated (other than dishonestly), the defendant's remedy is to make a modest Part 36 offer at the first opportunity; if it fails to do so it cannot expect to secure costs protection. Although the issue in that case was somewhat different, as it had been conceded that the claimant was the successful party and the question was whether the court should exercise its discretion to make a different costs order based on the claimant's conduct, it is quite clear that Lord Justice Jackson thought the concession was properly made and the starting point should be that a claimant who is awarded other than nominal damages should get its costs.

Lord Justice Jackson supported a similar approach for commercial cases in the oft-cited Multiplex Constructions (UK) Ltd v Cleveland Bridge UK Ltd and Cleveland Bridge Dorman Long Engineering Ltd [2008] EWHC 2280 (TCC) (decided when he was Jackson J, a High Court judge): "In commercial litigation where each party has claims and asserts that a balance is owing in its favour, the party which ends up receiving payment should generally be characterised as the overall winner of the entire action."

In the present case, however, Hildyard J said that such an approach ran the risk of being "too simplistic" in claims for declaratory relief and where the parties are seeking guidance on issues of contractual construction: "The fact that at the end of the day the claims are about money, and one of the parties is required to pay the other, does not (as it seems to me) necessarily signify that the paying party has lost." It remains to be seen whether the defendant will challenge this approach on appeal.

(2) Was the claimant's offer a valid Part 36 offer?

Under CPR 36.2(2)(c) a Part 36 offer must "specify a period of not less than 21 days [the "relevant period"] within which the defendant will be liable for the claimant's costs in accordance with rule 36.10 if the offer is accepted" [our emphasis].

CPR 36.10 states that where a Part 36 offer is accepted within the relevant period, the claimant will be entitled to its costs up to the date of acceptance.

Here the claimant's offer stated that it (the claimant) would be liable for the defendant's costs up to the date of acceptance "in accordance with CPR 36.10" if the offer was accepted within 21 days. In other words, the claimant was not asserting an entitlement to its costs if the offer was accepted; on the contrary, it stated that it would be liable for the defendant's costs on acceptance. The wording of the offer suggests that the claimant believed this would be the effect of rule 36.10 - presumably because it recognised that although it was, formally, the claimant to the action, in substance it was putting forward a defendant's offer as it was an offer to pay (rather than receive) £3 million and so, you might say, it should have to pay the costs if the offer was accepted.

The defendant argued that because the offer did not specify a period in which the defendant would be liable for the claimant's costs, it fell foul of CPR 36.2(2)(c) and therefore was not a valid Part 36 offer. This would mean that the Part 36 costs sanctions would not apply, although the court could take the offer into account in exercising its discretion on costs.

The judge rejected this contention, concluding that it was open to a claimant making a Part 36 offer to agree to forsake its entitlement to costs on acceptance of the offer, and instead pay the defendant's costs.

Comment: The judge's conclusion on this point appears to be inconsistent with the decision in Mitchell v James [2002] EWCA Civ 997, which was not referred to by the judge. In that case the claimant made an offer which was stated to be made under Part 36 but stated that each party would bear its own costs. The Court of Appeal concluded that it was not a valid Part 36 offer, principally on the basis that "a term as to costs is not within the scope of a Part 36 offer". It may therefore be unwise for parties to assume, in reliance on the present decision, that it is possible to make a valid Part 36 offer which contains terms as to costs that are inconsistent with Part 36.

(3) What was the effect of the Part 36 offer?

The costs sanctions under CPR 36.14 vary depending on whether an offer is a claimant's or defendant's offer:

• Where a claimant fails to beat a defendant’s Part 36 offer, the court will (unless it considers it unjust to do so) order that the defendant is entitled to its costs on the standard basis from the end of the relevant period, plus interest on those costs.
• Where a defendant fails to do better than a claimant’s Part 36 offer (i.e. the claimant obtains judgment that is at least as advantageous as its own offer), the court will (unless it considers it unjust to do so) award the claimant indemnity costs from the end of the relevant period and enhanced interest on both damages and costs at a rate not exceeding 10%.

Here the defendant argued that it would be unjust to award the claimant indemnity costs and enhanced interest on costs because the offer was, in substance, a defendant's offer and failure to beat a defendant's offer does not bear such consequences.

The judge said he did not think it was "either required or permissible to go behind the formal status of the parties for the purposes of determining compliance with Part 36 and the prima facie effect of a compliant offer: it seems to me that for those purposes the description in the record is conclusive".

However, in determining whether it would be unjust to apply the usual Part 36 costs consequences, the substance of the claim and which party was seeking to establish liability would be a relevant factor. In that regard there was force in the argument that in substance the claimant was really in the position of a defendant, and in that context it would not be just to award indemnity costs and enhanced interest. The just order was for the defendant to pay all of the claimant's costs on the standard basis from the end of the relevant period.

Comment: The judgment in this case does not refer to AF v BG [2009] EWCA Civ 757 in which the Court of Appeal held that a defendant could be treated as a claimant in respect of its counterclaim and be deemed to have made a “claimant’s Part 36 offer” in circumstances where the offer was for the defendant to receive a net payment and therefore the defendant was, in substance, the claimant to the action (see post on that decision).

There are distinctions between the two cases, including that here the claimant does not appear to have expressed its offer as a "defendant's Part 36 offer" in respect of the counterclaim. However, the judge's comment that it was not permissible to go behind the formal status of the parties in determining the application of Part 36 may be seen as surprising, and perhaps unhelpful, in the context of a case in which there were claims and counterclaims and in light of the decision in AF v BG.

The decision in AF v BG also appears to have been overlooked in the recent case of F & C Alternative Investments (Holdings) Limited & Ors v Barthelemy & Anor [2012] EWCA Civ 843 (see post) in which the defendants made an offer to settle on the basis that the claimants pay them some £6 million. The offer was expressly stated to be made outside of Part 36 on the basis that, since the offer was put forward by those who were the defendants in the proceedings (in form if not substance), the claimants would “at least arguably” be entitled to their costs if the offer was accepted. The Court of Appeal agreed that this was a good reason not to make the offer under Part 36.

It remains to be seen whether the present decision will be appealed, but it highlights the need for clarity as to the application of Part 36 in cases where the formal descriptions of the parties as claimant and defendant do not reflect the reality of which party is seeking to establish and which to contend liability, or which has the greater financial stake in the litigation - i.e. in cases where there are competing claims and counterclaims, or where one party is seeking negative declaratory relief.

We understand that the Civil Procedure Rule Committee is currently looking at a number of issues regarding Part 36, including its operation in split trials (see post). It would be helpful if that review could also incorporate the difficult question of how Part 36 should operate in the context of counterclaims and claims for negative declaratory relief.