With funding cuts looming over the industry, clients may want to stop projects at short notice. How can they protect themselves against subsequent damages claims?

Construction faces uncertain times, with many in the industry involved in projects whose funding might be cut at short notice. This raises the question of what happens to all of the contracts and appointments that have been entered into. Will they come to an end at the same time as the funding stops, or will the client be required to carry on paying its contractor and professional team?

The best solution from the client’s perspective is to amend the underlying legal position by agreeing express rights to suspend or terminate the contract, ideally for no reason and with immediate effect

For clients looking to bring a project to a rapid close, the answer may not be what they are expecting. As a basic principle of English law, unless the parties otherwise agree, neither can legally bring the contract to an end. To oversimplify the underlying legal theory: the entire point behind entering into the contract in the first place is for both parties to fulfil their obligations, not for one to change its mind half way through.

All of which may leave the client with the funding shortfall in a difficult situation. Wrongfully attempting to terminate all of the contracts it has entered into on even a relatively modest construction project could leave it facing claims for damages from its contractor and professional team. Each would be entitled to such damages as would put it in the position it would have been had the contract been performed properly; at the very least, that’s a significant number of claims for lost profit.

And clients aren’t necessarily in a better position if any in their team are in breach of their contracts at the time the funding is withdrawn. That’s because, again in the absence of express words to the contrary, it’s only a breach of what a court decides is a serious or fundamentally important term of the contract (known as a condition) that entitles the innocent party to treat the contract as having come to an end.

To make matters even more confusing, there’s a second category of contract term - an innominate or intermediate term - that has a somewhat split personality. If a court decides that a breach of an innominate term has a significant negative effect on the innocent party, then it treats it as a condition allowing the client to terminate. However, if a court decides that the consequences are insufficiently grave, the innocent client cannot break the contract.

How can the client protect itself?

The best solution from the client’s perspective is to amend the underlying legal position by agreeing express rights to suspend or terminate the contract, ideally for no reason and with immediate effect. The contract should deal with the consequences of that suspension or termination - a relatively common position would result in the client paying the contractor or consultant for all work carried out up to the date of suspension or termination but nothing further.

Some standard forms, such as the ACE suite, do allow for automatic termination, but also entitle the consultant to claim for the loss it has suffered and for the costs associated with the appointment being terminated. However, a cautious client would also look to exclude this sort of damages recovery; common wording excludes claims for damages, loss of profit or consequential loss that may be suffered by the contractor or consultants as a result of the termination.

Such drafting is often resisted strongly by the contractor’s and consultants’ team; at the very least they will ask for the termination or suspension to come with a period of notice, during which they would still be entitled to be paid. That compromise makes life difficult for the client, which will have to meet that shortfall from its own funds. Another alternative is to make the absolute right to terminate or suspend limited to certain events, such as the loss of funding.

What happens after termination?

It is helpful for both parties to agree a clause making it clear that termination does not affect the rights either party had accrued up to termination. This should be uncontroversial since it ensures that clauses dealing with limitations of liability, confidentiality and copyright provisions, as well as the consequences of termination itself, still bind the parties after termination.

In challenging times, the best advice is for parties to construction contracts to deal with the consequences of a sudden cut in funding before it actually happens.

Stuart Pemble is a partner in Mills & Reeve