Problem: Main contractor has asked for collateral warrenty
My Company specialises in groundworks for commercial and industrial building projects. A few months ago, we were invited by a main contractor to tender for carrying out the foundation and external works, and the design and installation of below ground drainage for a new build warehouse in Warwickshire. We duly submitted our price and were successful. Just after starting work on site, the main contractor’s quantity surveyor wrote to us and said that we are required to provide a collateral warranty in favour of the employer, whilst our refusal or failure to do this would result in our monthly payments being withheld.
I have re-read the invitation to tender and there is no mention of providing a collateral warranty; I therefore have 2 questions. Firstly, is the main contractor able to withhold payment until we provide a collateral warranty and secondly, does the Company actually need to provide a collateral warranty?
Response: Nowadays, it is very common to see a construction project requiring designers and specialist contractors to provide collateral warranties. The reason for their use is that if a building turns out to be defective, the person with an interest in the defective building will find it very difficult to successfully pursue a third party (i.e. a specialist sub-contractor that has been directly employed by the main contractor), who is responsible for the defect if they do not have a contractual relationship with them. This is because, someone who is not a party to a contract can only bring an action in the tort of negligence, but recovery of the financial losses (i.e. pure economic loss) are limited, unlike that in an action for damages arising from under a contract. As the name suggests, therefore, the purpose of a collateral warranty is to create a direct contractual relationship that is collateral to the main contract.
The invitation to tender may not have mentioned the requirement of providing a collateral warranty, but the document that you must check is the contract/order for your work. Unfortunately, I have clients that come to me after they have signed a contract or received an order and commenced work, and have not checked, or not checked properly the wording in the contract or the order. So for future reference, always carefully check the contract or the order before you sign or commence work or, have a construction lawyer check it out.
If there is a contract term that requires you to provide a collateral warranty and/or you are to execute the collateral warranty before payment is made, then there is little you can do about it. That said, and providing the collateral warranty, or sample of the collateral warranty has not been included in the contract, you can still negotiate the wording. For example, you should look at limiting the number of warranties that may be required (i.e. just to the employer and no future tenants or purchasers), make sure that the warranty does not include a clause which would otherwise increase your liability under the subcontract and that future assignments are limited and subject to expressed consent. In addition, economic and consequential loss should be excluded or at least restricted, whilst a net contribution/liability cap clause should be included.
If on the other hand, your contract does not make mention of requiring you to provide for a collateral warranty, then you do not have to, and if the main contractor withholds payment because of your failure or refusal to provide a collateral warranty, you have the Construction Act to fall back, which includes right of suspension and adjudication.
© Michael Gerard 2014
The advice provided is intended to be of a general guide only and should not be viewed as providing a definitive legal analysis.