Tony Cole | JAMS
While disputes can occur in any type of commercial transaction, construction contains a unique mix of “ingredients” that increase the likelihood that disputes will arise. Whereas most commercial transactions involve only a few parties, construction projects involve many participants, each with its own needs and priorities, and each engaged in a separate part of the project so that the standard dispute resolution approach of one party surrendering a benefit in one area to gain a corresponding benefit from its opponent in another is often unavailable.
In addition, even when two participants in a construction project have no direct connection, completion of the contract for one party may be dependent on completion of another contract in which it is not involved, either directly (e.g., “pay when paid” clauses) or indirectly (e.g., an electrician being unable to perform because work on a wall has not been completed).
The interrelatedness of the elements of a construction project puts a premium on disputes being resolved quickly. When a claimant is merely one part in a constantly evolving larger project, with other participants waiting on payment from that claimant or waiting for contested work to be finalized before more work can be performed, the speedy resolution of disputes is essential.
The complexities of construction dispute resolution are magnified because many participants in construction projects are small companies or sole traders, for whom nonpayment because of a dispute may be the difference between continued operation and insolvency.
Therefore, it is unsurprising that the history of construction dispute resolution is a constantly evolving attempt to identify and implement more effective mechanisms for the speedy and effective resolution of disputes. This article is the first in a series that will look at different methods to address the complications of dispute resolution in construction in the U.S. and internationally, from statutory adjudication to dispute resolution boards to specialized courts. The goal of these articles is not to argue that any one approach is superior, but to examine the origins, strengths and weaknesses of each option to foster a greater understanding of them.
Statutory Adjudication
Arguably the highest-profile approach to construction dispute resolution was the introduction of statutory adjudication in the United Kingdom by the 1996 Housing Grants, Construction and Regeneration Act, which, along with related legislation, implemented adjudication across the U.K. Under this system, any party to a construction contract has the right to refer a dispute to adjudication, regardless of any contrary contractual provisions for dispute resolution. What then follows is a very tightly regulated process, in which an adjudicator must issue a decision within 28 days; an additional 14 days can be granted by the party commencing the adjudication, but any further extension requires the agreement of both parties. The adjudicator’s decision is temporarily binding on the parties; that is, they must act in accordance with it, such as paying any amounts ordered. Thereafter, either party may seek a “final” decision on the dispute, either in court or arbitration, or via any other agreed mechanism.
While adjudication processes existed as contractual options for dispute resolution before the 1996 Act, the fact that the U.K.’s adjudication process is based upon a statute has been essential to its success. The Act permits any party to a construction contract access to a predesigned high-speed process of decision-making, and limits court review of decisions once they have been delivered. As a result, even parties who have never previously heard of adjudication have a fast and effective mechanism available to them when a dispute arises.
However, this comes with a cost. Understanding the costs of government involvement is essential in evaluating statutory adjudication.
Governmental resources are scarce; as such, government actors must be convinced that there is an issue of general interest that needs to be resolved. What led to the adoption of statutory adjudication in the U.K., and how can the government’s motive for supporting adjudication be seen in the way the U.K.’s adjudication process operates?
The History and Development of Statutory Adjudication
The movement toward statutory adjudication began in 1971 with the decision by the Court of Appeal (the second-highest court in England and Wales) in Dawnays Ltd v F.G. Minter Ltd., [1971] 2 All ER 1389. In this case, a lead contractor refused to make an interim payment to a subcontractor on the ground that a larger counterclaim existed for delay. The court concluded that the form contract used by the parties should be interpreted to mean that deductions were allowed only for established or uncontested counterclaims. Other counterclaims needed to be brought by the lead contractor in separate proceedings. While the contract had no such express restriction, the court found that its approach was “in accord with the needs of business. There must be a ‘cash flow’ in the building trade. It is the very lifeblood of the enterprise.” The court observed that the subcontractor must expend money on materials and labor. It cannot stay in business unless paid contemporaneously for work performed. The main contractor is in a similar position; it needs cash so it can pay workers, suppliers and subcontractors. As the court summed up, “The employer must pay the main contractor; the main contractor must pay the subcontractor, and so forth. Cross-claims must be settled later.”
In 1973, however, the House of Lords (the highest court in the U.K., now the Supreme Court), in Gilbert-Ash (Northern) Ltd v Modern Engineering (Bristol) Ltd, [1974] AC 689 (HL), rejected the Court of Appeal’s approach, arguing that interpreting an otherwise silent contract to require resolution of payment claims separate from counterclaims impermissibly prioritized the interests of one of the parties over the other, contrary to applicable contractual language or prior case law.
On its face, the House of Lords’ decision was entirely reasonable. After all, if the parties had wanted a restriction of this type, they could have included it in their contract.
Nonetheless, the decision of the House of Lords in Gilbert-Ash had precisely the adverse effect during the following two decades that the Court of Appeal had foreseen. It created a legal structure in which the paying party in a construction contract could avoid making payments merely by raising a counterclaim. While the counterclaim technically needed to have a real prospect of success and to be at least of equal value as the plaintiff’s claim, in reality, courts were loath to decide either claim without a full trial, with its delays and costs. So, a weak counterclaim could avoid summary judgment on the subcontractor’s payment claim, giving the paying party substantial power to use the threat of delay and substantial costs to negotiate a lower payment than was genuinely owed.
Statutory Adjudication’s Motivating Rationale
There is more to the history of U.K. statutory adjudication, but this underlines a central point of this article: that governmental involvement requires a justification. Statutory adjudication in the U.K. was not designed to be a neutral dispute resolution mechanism. It was designed to alleviate a problem faced by one sector of the industry—smaller contractors requiring payment—in a way that didn’t unfairly bias the process against the paying party.
This balance is demonstrated by “smash and grab” adjudications, the most common type of adjudication across the U.K. The 1996 Act didn’t just introduce adjudication; it also included substantive provisions, including a timetable in which payments were to be made in construction contracts, subject to agreement of the parties. A “smash and grab” adjudication occurs when one party requests payment for work and the paying party does not make payment or formally challenge the amount by the applicable deadline. The claimant can then commence an adjudication demanding full payment, which the paying party will usually be required to pay without being permitted to raise any counterclaim, such as that the work was performed poorly or was incomplete. To be clear, the paying party doesn’t lose these defenses entirely, but they cannot be raised in the “smash and grab” adjudication. Instead, the paying party must pay the amount awarded by the adjudicator and then commence a second adjudication to reclaim amounts it believes are not owed.
This may appear to result in the perplexing and unjust practice of requiring an adjudicator to award payments that even the adjudicator believes are not genuinely owed. However, it becomes comprehensible when considering the government’s motivation for adopting the Act. The Act was designed to address problems related to cash flow, removing the power of paying parties to refuse payment based on weak counterclaims. To do this, the Act created a system in which the paying party had to respond quickly to any payment claim made, expressly clarifying how much it agreed was owed and why. If it didn’t, the entire amount would, at least temporarily, be owed, and the claimant would receive the money it required to continue operating. Further, even if the paying party timely objects to a claim, the claimant could commence an adjudication and receive a decision within 28 to 42 days, thereby depriving paying parties of any leverage to negotiate reduced payments with threats of delays and expensive litigation or arbitration.
Conclusion
Any discussion of the desirability of government-supported remedies for the complexities inherent in construction dispute resolution must acknowledge that while mechanisms supported by statute are effective, they are always imbued with the goals the government adopted when deciding to take action. Those mechanisms are unavoidably less likely to match the particular needs of the parties in a dispute than a process that has been negotiated between two parties of equivalent negotiating strength.
This leaves the question, though, of whether this disparity really matters. Would parties in the U.K. be better off without statutory adjudication, either negotiating their own dispute resolution clauses or using standard form contracts?
The evidence suggests that this disparity matters less than proponents of “party autonomy” might argue. As part of a larger research project focused on commercial arbitration in Europe, funded by the U.K.’s Economic and Social Research Council, I interviewed a number of construction adjudication practitioners across the U.K. I was not surprised that the most enthusiasm for the adjudication process was expressed by those who represented smaller subcontractors, the group adjudication was designed to assist. From their perspective, adjudication worked well. More notable was that practitioners who usually represented paying parties expressed no desire to eliminate or substantively change the system, despite their concerns that the short deadlines in the adjudication process affected the reliability and quality of adjudication decisions. Adjudication was originally designed as a form of “rough justice,” and that was what it delivered: a good-enough decision, provided quickly, that both parties could live with. Consequently, practitioners I interviewed agreed it was extremely rare for parties to bring a claim in arbitration or litigation after compliance with the adjudication decision.
Statutory adjudication in the U.K., then, demonstrates the strengths and weaknesses of government intervention to create a specialized mechanism of construction dispute resolution. The process is seen as effective and, despite grumblings about poor-quality, rushed decision-making, has become the norm, largely replacing both arbitration and litigation. Moreover, it would not be as effective were adjudication not government-backed, guaranteeing parties the right to adjudicate even if adjudication had not even been contemplated at the time of contracting, and granting courts only limited grounds for review of an adjudication decision. Nonetheless, that effectiveness comes at a price, with the adjudication process consciously biased toward resolving an issue the government sees as important, rather than focused only on providing a fair and effective dispute resolution process. Proponents of government intervention in construction dispute resolution, therefore, might be well advised to “be careful what you wish for.” Although the U.K. experience is that if it is done well, the benefits outweigh the drawbacks, government intervention is not always done well.
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