Aidan Steensma on the relevance to contractors of defects claims in developer-tenant cases

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Developer-tenant scenarios are a common feature of the UK construction and property industries. Typically a developer will enter into an agreement for lease with a tenant supported by a building contract. On completion of the works, the tenant will enter into a lease, usually including a full repairing covenant making the tenant responsible for keeping the property in repair. Such covenants usually cover latent defects in the works, unless very substantial. 

A developer in such circumstances (or any subsequent owner/landlord to whom the developer’s rights are assigned) will have two avenues to pursue in respect of defective work. It may sue the contractor under the building contract or it may insist that the tenant repair the defects under the terms of the lease. These rights need not be mutually exclusive. The fact that the developer/landlord has recovered sums from the contractor in respect of the defects will not necessarily release the tenant from its obligation to repair. 

The contractor may seek to include an indemnity against claims by the tenant

A contractor will be mindful of this prospect where it has given a collateral warranty in favour of a tenant. The settlement of a claim made by the developer/landlord will not necessarily prevent a similar claim being made by the tenant under the warranty. The contractor may therefore seek to include in any such settlement an indemnity against claims by the tenant. The contractor may also seek to pre-empt such a situation by including “equivalent rights of defence” and/or “no greater liability” wording in the warranty.

Office Depot vs UBS Asset Management 

Office Depot entered into an agreement for lease with UBS in relation to a warehouse to be constructed on UBS’ behalf by Amec under a design and build contract. Amec also gave a collateral warranty to Office Depot warranting its performance of the design and build contract but containing “equivalent rights of defence” and “no greater liability” clauses. Shortly after practical completion, Office Depot and UBS entered into a formal lease of the warehouse for 20 years with a repairing covenant in standard form. 

The warehouse roof suffered water ingress and UBS brought a claim against Amec. The claim was settled more than six years after practical completion by the payment of £2.8m by Amec to UBS. UBS agreed to indemnify Amec against any costs, liabilities or losses incurred as a result of “any action brought by UBS seeking recovery against any other party” in relation to the dispute. 

Shortly before the expiry of the 12-year limitation period under the collateral warranty, Office Depot became concerned about its position and commenced proceedings against UBS and Amec. Office Depot was concerned that despite the settlement between UBS and Amec, it would be required to repair the warehouse pursuant to the terms of the lease (which had a further eight years to run) and that its ability to recover the costs of doing so from Amec would shortly expire. 

Office Depot sought declarations against UBS as to “what works, if any” it was obliged to carry out “in order to comply with its repairing covenant” and declarations as to Amec’s liability for such works under the collateral warranties.

The proposed declarations were struck out by the court as being too open-ended. There was no dispute between Office Depot and UBS as to the appropriate remedial scheme. UBS considered the question to be one for Office Depot pursuant to its repairing covenant. Nor was there any positive case by Office Depot as to an appropriate remedial scheme. The effect of the declarations would be to require the court to carry out an inquisitorial process and to “transfer the risk of the covenant in the lease from the tenant to the landlord”. 

Where to from here? 

The court gave the tenant permission to re-plead a more conventional defects claim against Amec, but issues are likely to arise as to whether the tenant’s claim can survive the settlement with UBS given the “no greater liability” and “equivalent rights of defence” wording in the warranties.

Amec has also threatened to seek contribution from UBS, pursuant to the indemnity in its settlement agreement. That may also prove difficult, given the indemnity refers to an action being brought by UBS against the tenant. 

This decision highlights the difficult position tenants can find themselves in where the duration of their lease, and any repairing covenant, extends beyond the limitation period under any collateral warranty. 

It also shows the importance of contractors in developer/tenant scenarios including well-drafted “no greater liability” and “equivalent rights of defence” clauses in their collateral warranties and ensuring that any defects settlements with developers/landlords include a broad indemnity in respect of claims from the tenant.  

Aidan Steensma is a solicitor specialising in infrastructure, construction and energy disputes at CMS Cameron McKenna Nabarro Olswang