Modular builds and (in)adequate payment mechanisms
Bennett (Construction) Ltd v CIMC MBS Ltd (formerly Verbus Systems Ltd)  EWCA Civ 1515
Modular builds are undoubtedly resolving persistent issues in construction projects, offering better efficiency, sustainability and quality, and may be a tool to tackle fragmentation in the industry. However, a recent dispute involving prefabricated modular units for a Park Inn hotel in Woolwich has highlighted that this part of the industry is still susceptible to the same types of disputes which we see across all construction methods.
Section 110(1) of the Housing Grants, Construction and Regeneration Act 1996 (the “Construction Act”) requires that every construction contract is to contain an “adequate mechanism for determining what payments become due under the contract and when.”
Where a construction contract’s payment mechanisms do not comply with the Construction Act, the payment mechanism in the Scheme for Construction Contracts (England and Wales) Regulations 1998 (SI 1998/649) (the “Scheme”) is implied. This case is a reminder that a contract’s payment terms co-exist with the Scheme and the extent to which the Scheme’s terms are implied depends on the degree of non-compliance.
In Bennett v Verbus, the Court of Appeal considered whether bespoke milestone payment provisions in a construction contract were compliant with the Construction Act. The developer was Key Homes. The main contractor, Bennett, entered into a contract with Verbus for the design, supply and installation of 78 prefabricated modular bedroom units for the hotel. The JCT Design and Build Sub-Contract 2011 edition was amended to include the following milestone payment terms:
- Milestone 1: 20% deposit payable on execution of the contract.
- Milestone 2: 30% on sign-off of prototype room by Park Inn/Key Homes/Bennett in China.
- Milestone 3: 30% on sign-off of all snagging items by Park Inn/Key Homes/Bennett in China.
- Milestone 4: 10% on sign-off of units in Southampton.
- Milestone 5: 10% on completion of installation and any snagging.
A dispute arose: Bennett argued that many of the units did not comply with the contract and had numerous defects. The parties disputed the validity of the milestone payments and disagreed as to what “sign-off” meant.
In his judgment, Lord Justice Coulson set out that the:
“purpose of the Act was to provide for certain minimum, mandatory standards so as to achieve certainty and regular cash flow … it was not designed to delete a workable payment regime which the parties had agreed, and replace it with an entirely different payment regime based on a radically changed set of parameters … that could only happen where the regime which had been agreed was so deficient that wholesale replacement was the only viable option.”
- The Construction Act is a backstop: it is clear that the Scheme is not intended to delete what the parties had agreed and/or replace the terms of the contract altogether with a different regime, which could have stark commercial consequences in terms of risk allocation.
- At the point the contract is being negotiated and drafted, it is important to ensure that the payment provisions are entirely clear and reflect the deal that has been agreed. In this case, for example, the parties could have defined “sign-off” and ensured that the term was used consistently across the contract. Parties should seek to clarify even what appears to be the most basic business terms.
- Where staged payments are used, it is important to avoid subjective markers/milestones to avoid disputes.
- The courts will place importance on the parties’ original agreement, only implying terms that do the “least violence” to the parties’ agreement.
It begs the question whether a single payment regime overcome these issues and reduce disputes … but the ultimate cost would be to jeopardise parties’ rights to contract freely. Some projects require bespoke payment mechanisms and this case makes clear that they need to be very carefully drafted and considered.