MT Hojgaard v E.ON will have a significant impact on how employers and contractors approach their design obligations in construction and engineering contracts. In this case, the Supreme Court confirmed that:
- where a contractor/supplier has accepted an obligation to provide a specified output or performance level it will be bound to deliver it
- generally, it will be no defence to say that compliance with another obligation in the contract or with a design approved by the employer/customer made achieving this output impossible
- the output/performance need not be specified in the front-end terms and conditions of the contract. In this case, a single short paragraph in a technical specification was sufficient.
The court noted that the words of the contract would be decisive. This is consistent with other recent decisions where courts have given effect to clearly worded contracts, even if such wording has worked out badly for one party rather than substituting more “commercial” interpretations.
This article explains what the court decided and suggests practical steps that employers and contractors may wish to take in response.
Facts of the case
Hojgaard was appointed to design, manufacture, test, deliver and install and complete the foundations structures for two offshore wind farms in the Solway Firth (the “works”). The agreement was recorded in a negotiated contract (the “contract”).
Among other obligations, Hojgaard agreed to:
- ensure that the works would be fit for their purpose as determined in accordance with the specification (as defined in the contract)
- ensure that the works would comply with the requirements of the agreement (as defined in the contract).
The specification included a requirement that the design of the foundations would ensure that the foundations would have a lifetime of 20 years without planned replacement (the “Design Life Warranty”). The specification also included a requirement that Hojgaard prepare its detailed design in accordance with J101, an international standard. It was agreed that Hojgaard had complied with this. Unknown to the parties at the time, J101 included a flawed calculation making it impossible to both comply with J101 and the Design Life Warranty.
The question for the court was which party should bear the cost of the remedial works.
Was there an obligation to achieve a specific performance?
Hojgaard argued that a comment in the specification was “too slender a thread” on which to hang an argument that it had warranted that the foundations would have a design life of 20 years.
The court was unimpressed with this instead finding that:
- the specification was clearly intended to have contractual effect
- the requirement was clearly worded and consistent with other requirements within the specification.
Who should take the risk of J101 being inconsistent with the performance obligation?
This is not the first time that the courts had been asked to review double obligation contracts. That is, contracts where the contractor was obliged to produce an article in accordance with a specific design and ensure the article satisfied a particular performance criterion, but where in fact it was impossible to do both.
The court concluded that the inconsistency had to be resolved relying on the ordinary principles of contractual interpretation. Furthermore, on review of previous cases the court concluded:
- Rarely will the two obligations be genuinely inconsistent. On reading the contract as a whole, it is likely to be the case that the specific design either a) sets a baseline on which the contractor is to improve; or b) applies only to specific aspects of the design.
- When the two obligations are genuinely inconsistent, the risk sits with the contractor. The court appeared to have limited sympathy for contractors who had “undertaken a contract which they could not fulfil”. In short, contractors must do their due diligence before agreeing the contract.
Applying these principles to the contract, the court found that the specific design was a baseline which the contractor had to develop to ensure the works were fit for purpose.
Practical steps for employers and contractors
The commercial agreement
- The parties should carefully consider whether they need a fitness for purpose obligation. This case has underlined the significance of a fitness for purpose obligation and demonstrated that some qualifying wording may not remove the risk associated with accepting a fitness for purpose obligation. The parties should carefully consider whether a fitness for purpose obligation is actually required, given that this will have an accompanying risk premium and an uplift to allow the contractor to obtain appropriate insurance. On most energy projects it will be essential as the financial model will anticipate the project generating a specific output over a specific period. On traditional building projects, an enhanced reasonable skill and care obligation may get the parties to a very similar result in practice.
- Fitness for what purpose? A fitness for purpose obligation will be of no assistance if the intended purpose is not clearly specified in the contract. The parties must be clear about what output they want to achieve.
- The commercial and technical teams must maintain a dialogue throughout negotiation. The case emphasised that parties must do their due diligence before entering into contracts. This includes, from the contractor's perspective, ensuring that you can deliver what you are promising and, from the employer's perspective, ensuring that your requirements are clearly reflected in the contract documents.
The words of agreement
- Consider whether less is more. The standard position is that when an employer makes clear that it is relying on a contractor’s skill and judgment to produce a specific outcome, a fitness for purpose obligation will be implied in the absence of clear words to the contrary in the contract. An employer could avoid uncertainty and legal cost by not clouding the issue with other obligations. Where there is a genuine need for an obligation for a contractor to comply with, for example, a health and safety standard or a site rule, the parties should include wording to confirm that these do not undermine the fitness for purpose obligation.
- Where multiple obligations and standards are used, ensure it is clear which obligations apply to which elements of the works or what is the hierarchy. This clarity (for example stating that compliance with J101 was a minimum requirement) was critical in E.ON’s success. A priority of documents clause is useful but these are usually only referred to where there is a conflict and the courts will be reluctant to rule that part of an agreement is meaningless (one was used here but essentially ignored in the judgment). The key here is to ensure that, as far as possible, no conflicting obligations apply.
- Ensure that all technical schedules are properly incorporated into the contract. This may seem a minor and legalistic point but it is vital to get right and one which is easily overlooked when trying to close a deal. If the technical schedules are in separate documents, the parties should ensure appropriate cross-referencing and labelling and that the documents are signed by the principal signatories.
- Ensure that the technical schedules are clear, including that they have logical structures and use consistent terminology with the front-end legal terms and conditions. This was critical in E.ON's success. The technical schedules are often developed in isolation from the front-end legal terms and conditions and, given their content, cannot be substantively reviewed by a lawyer. However, this case highlights the need for technical schedules to be consistent with the front-end and we would always recommend that these are reviewed by someone with knowledge of the front-end legal terms and conditions.
This article was written by Andrew Ross.