Look after your LADs

It is often thought that a liquidated and ascertained damages (LADs) clause in a construction contract is there just for the benefit of the employer. True, the employer does not have to prove his actual loss in the event of delay and can recover the agreed LADs sum. However, LADs can be just as valuable to the contractor in placing a limit on his liability for delay, as the following case shows.

Decomak UK vs. Haden Drysys International

Decomak employed Haden to design, construct, install and commission a paint spraying system. The contract included a clause providing for LADs of 5% of the contract price if Haden failed to complete its works by the final completion date. This meant that LADs were fixed at around £437,000. Under the contract, the works had to pass a final acceptance test before the final completion date.

You can guess what's coming can't you? You're right. Haden failed to complete the works to the required specification and the final acceptance test was never carried out. Decomak took control of the paint spraying system, undertook remedial works and sued Haden.

The claim in the litigation was for a whopping £18m. Not surprisingly, Haden argued that, as the final acceptance test had never been carried out and therefore the works had never been accepted by Decomak, the damages that Decomak would recover were limited to the agreed LADs for delay of just £437,000.

Decomak, though, argued that Haden could not rely on the LADs clause to limit its liability as Haden would otherwise be benefiting from its own breach of contract. Decomak also argued that the parties did not contemplate (when they made the contract) that the paint spraying system would not meet the specification for such a long time after the completion date.

The court agreed with Haden and limited its liability to the much smaller LADs sum. The court said it was clear from the outset that if a delay occurred preventing the completion of the works, this would result in a breach of contract and the LADs would be the measure of damages. If the contract incorporates clear words limiting the liability of one of the parties, the usual rule that a party cannot take advantage of its own wrong may not apply. Here, both parties had entered into a commercial agreement setting out their obligations and liabilities and the court would uphold the agreement.

So the contractor breathed a huge sigh of relief - the LADs clause had saved him from a potential liability of over £17.5m.

Alfred McAlpine Capital Projects vs. Tilebox

This case did not have such a happy outcome for contractor McAlpine. Here the contract contained a LADs clause that provided for damages for delay of £45,000 per week. Work on the project was delayed for over two years, which meant that McAlpine's bill for LADs came to £5.4m. Quite a bill, considering that the total contract value was only £11.5m.

No prizes, then, for guessing that McAlpine, unlike Haden in the last case, wanted to argue that the LADs clause could not be relied on and that Tilebox could only recover the actual amount of its losses. McAlpine ran the argument that the LADs clause was a penalty because the £45,000 per week was not a genuine pre-estimate of the loss that Tilebox was likely to suffer because of the delay.

No, said the court. A pre-estimate of damages did not have to be correct in order to be reasonable. The discrepancy between the LADs in the contract and the level of damages actually suffered would have to be substantial before the estimate would become unreasonable. In this case, the difference between the levels of damages was acceptable.

An interesting feature of this case is that McAlpine does not seem to have negotiated any cap on its liability for liquidated damages. It would have been a different story if, like the Decomak v Haden case, LADs had been limited to a cap of 5% of the total contract sum. As it was though, McAlpine had to take a hit for almost half of the £11.5m contract value.

In both these cases, the court upheld the LADs clauses and the agreement which the parties had reached. But the very different results for the two contractors show that these clauses have to be negotiated carefully to get the result you want and avoid a nasty surprise when things go wrong.James