In the competitive industry in which they operate, construction professionals can be vulnerable targets for claims when projects go wrong. The following articles are dedicated to their plight and the plight of those insuring them.
The problem with insuring construction professionals is…
As an industry, construction is one that seems to lend itself to disputes. Employers want their developments delivered on time, at an ascertainable and reasonable price and are ready to reduce payments to contractors if these targets are not met. By contrast, when contractors overrun (either in time or in terms of budget) they usually look to Employers to make good their additional costs. Disputes between Contractors and Employers are the inevitable consequence of this dynamic and sitting between the two are the construction professionals - the architects, engineers, project managers and quantity surveyors – who have been retained to ensure that the project runs smoothly, but who end up getting sucked in when the writs and arbitration notices start flying.
In light of this, construction professionals tend to be all too aware of the need to maintain adequate professional indemnity insurance. Further, they tend to ensure that their coverage under their insurance policy remains intact, by notifying all circumstances that could potentially give rise to any claim against them. Whenever an Employer tries to get out of paying a construction professional's fees, for example, by complaining about the their performance, the construction professional will invariably notify this as a potential circumstance; some professionals even notify insurers when a Contractor seeks to claim additional payment from the Employer, on the basis that they might be next in the firing line.
Early notification is, of course, something ordinarily to be encouraged; yet sometimes (and this is especially the case when the subject matter of the notification is complex) such early notification can leave insurers in the difficult position of having to work out for what, and to what extent, their insured professional might be potentially liable in order to post an adequate reserve at a time when it is not even clear where the claim against the insured might come from.
To assist in this process, insurers may benefit from an understanding of the roles generally played by construction professionals in construction projects, an overview of the types of claims which could be made against the professionals if they fail to perform these roles, and the parties most likely to make a claim against the professional. This bulletin seeks to provide such an overview. In addition, the final part of this bulletin is dedicated to providing some practical advice to claims handlers who have to consider the notifications received from their construction professional insureds.
Section 1
Introducing the construction professionals
As soon as an Employer (also known in construction parlance as the 'Developer', 'Owner' or 'Client') has decided that he wishes to carry out construction works, he will usually appoint a team of professionals to assist him throughout the project. This team will be retained during the course of the project and the roles they perform will alter depending on the stage the project has reached. The types of professionals usually appointed are listed below:
Architects
An architect is a professional equipped with skills enabling him to design, plan, arrange and supervise construction works. In Hong Kong, architects must be registered under the Architects Registration Ordinance (CAP 408).
An architect is usually retained by the Employer under contract to design the works. In addition to this, he will usually have a role to play in choosing an appropriate Contractor to build the works.
Once the Main Contract has been awarded to the Contract, the Architect will then have the task of administering the Main Contract during construction. The task of administering the Main Contract usually includes the following tasks:
- During the course of construction, the Contractor will probably be paid at interim stages based on the interim certificates issued according to the value of the works so far completed. It will be the architect's job to issue the ceritificate and decide the sum to be paid.
- If the Contractor does work which he considers beyond the scope of the Main Contract, he may claim for additional payment from the Employer by way of variation to the contract. Alternatively, if he has been delayed beyond a deadline specified in the Main Contract, the Contractor may claim that this was due to a matter beyond his control and thereby claim additional compensation by means of an Extension of Time. Again, it will be part of the architect's contract adminstration role to consider and decide on these applications.
- In addition, the terms of the Main Contract may provide for the Architect to carry out any inspections of certain parts of the works at various intervals. He will also usually have a separate contractual obligation to supervise the construction are issued of the works.
- Finally, the Architect will be required to decide when the final payment certificate and the certificate of practical completion are issued to the Contractor.
In addition to the architect's obligations to the Employer under contract, the Employer will probably also have appointed the architect to act as an 'authorized person' as required under section 4(1) of the Building Ordinance (Chapter 123) (BO). The BO, and its subordinate legislation, regulates the planning, design and construction of buildings in Hong Kong and is aimed at ensuring that the works are carried out and completed in a safe manner, and that the final result produced is adequate in so far as public safety is concerned. It requires every person for whom construction works are being carried out to appoint an authorised person as the co-ordinator of such building works. The Building Authority maintains a register of architects and engineers who can be appointed as authorised persons. Both the BO and its subsidiary legislation require the authorised person:
- to carry out particular functions during the course of a construction project including supervising the carrying out of the building works and notifying the Building Authority of any contravention of the BO;
- to submit plans to the Building Authority for approval and then consent to start works;
- to provide periodical supervision and make such inspections as may be necessary to ensure that the building works or street works are being carried out in general accordance with the provisions of the BO and subordinate legislation.
Engineers
On construction projects in Hong Kong one usually finds engineers retained in a number of different guises. For the purposes of this bulletin, however, we are going to concentrate on the roles played by an engineer in two different scenarios.
The first is where the engineer is appointed to perform a similar role to that of an architect in terms of being retained by an Employer to design works, assist in appointing a Contractor, administer the Main Contract and supervise the works. Whereas an architect is appointed to perform this role in building works, an engineer is appointed where the works constitute a civil engineering project (such as a bridge or a railway or a tunnel, for example). As such, major infrastructure projects are usually administered by engineers.
The second main role an engineer performs in Hong Kong is where he is retained to act as Registered Structural Engineer on a building project pursuant to section 2(1)b of the BO. That requires an employer to appoint the RSE to be responsible for the structural elements of the works. Like the authorised person, an RSE has to perform certain obligations set out in the BO and its subordinate legislation.
Quantity surveyors
A quantity surveyor (QS) is appointed by the Employer to work out what quantities of materials are required to produce the development being constructed. The QS is therefore responsible for providing any initial estimates to the Employer and preparing the bills of quantities that make up the specification. In addition, he will assist the architect/engineer in deciding how much to issue an interim certificate for, by valuing the works completed at various stages in the Contract. Finally, QSs have become increasingly involved as 'claims consultants' by assisting Employers and Contractors on the presentation of claims for additional payment under the terms of the Main Contract. Whilst this particular role goes beyond the scope of the roles we are considering in this bulletin, it does reflect the contentious nature of the construction industry as set out in the introduction.
Project managers
Project Managers are usually appointed by Employers on large construction projects. Their role is to organise and co-ordinate the activities of the contractor and the team of other construction professionals retained. The exact scope of their role is determined by the terms of their contract with the Employer.
Section 2
To whom does a construction professional owe duties?
To the employer
Construction professionals are appointed by the Employer under contract and thereby owe the Employer contractual duties. As such, in order to determine the exact nature of the professional's duties under the contract and what is required for him to discharge these duties, the contract terms will have to be scrutised. In addition, the terms of the Main Contract between the Employer and Contractor will have to be looked at as these will set out specific tasks that the architect/engineer/project manager is required to perform. For example, the architect may be required, under the terms of the Main Contract, to inspect certain internal parts of the works before they are covered up; or he may be asked to approve a particular area of the works which sets the standard that the Contractor will have to maintain for the rest of the development. Although these tasks are set out in the Main Contract between the Employer and Contractor, the construction professional's duty to perform those tasks with reasonable skill and care will arise from his own contract with the Employer.
Further, in seeking to work out the extent of the professional's duties to the Employer it may be useful to review the scope of the other professionals' contracts and the roles they are playing, as these may indicate where one professional's role ends and another's begins. The extent to which there is such clear delineation should not, however, be overestimated. In fact more often than not, the dividing line is not so clear and indeed there will be a practical degree of overlap. This itself helps explain why in construction disputes a number of different professionals are blamed for the same thing.
As the professional's contractual duties are owed to the Employer, it is the Employer that is most likely to make a claim against the Contractor when problems arise. This may not always seem evident, given that on many occasions the circumstance notified to the insurers concerns a complaint made against the engineer or architect by the Contractor rather than the Employer. For example, the Contractor might complain that the architect has failed to inspect certain works on time as provided for in the Main Contract and that this delay has caused the Contractor delay and extra cost. If this complaint were made out, the Employer would have to compensate the Contractor for any costs caused by the delay under the terms of the Main Contract between them. The Employer will in turn then look to the architect to compensate him for failing to administer the Main Contract with reasonable skill and care under the terms of the architect's contract with the Employer. As such, even though the Contractor's complaint was directed against the architect, the potential claim against the architect will come from the Employer, not the Contractor, because of the contractual arrangements in place.
To the contractor
An architect/engineer or QS performing the roles identified in section 2 of this bulletin does not usually enter into a contract with the Contractor. As such, the only means by which the Contractor can establish liability against the construction professional is by establishing that the professional in question owed him a duty of care in tort. The extent to which this can be done, however, is limited to certain particular circumstances which can be summarised as follows:
- Physical injury/property damage – Under the principle laid down in Donoghue v Stevenson, a construction professional can owe a duty of care for physical damage caused to a person or to property caused by failure to take reasonable skill and care in performing his tasks in either the design or construction process. As such, in so far as the Contractor has suffered either property or physical damage by reason of a construction professional's fault, the Contractor can seek compensation against the professional by way of damages.
- Economic loss – the question of whether a Contractor can claim economic loss from a construction professional (for example, extra costs caused by delay and overrun in a project) is far more problematic, yet it is this type of loss that Contractors most wish to claim. In Hedley Byrne & Co Ltd v Heller & Partners Ltd [1964], the English House of Lords held that economic loss was only recoverable if it could be shown to have resulted from a breach of duty arising out of a special relationship between the plaintiff and defendant. As such, in order to recover economic loss from a construction professional by reason of some fault on his part, the Contractor must prove that a special relation existed between them at the time the professional was at fault. To do this, he has to establish that there was some voluntary assumption of responsibility on the part of the construction professional to him.
The applicability of a Hedley Byrne type of duty of care is more akin to situations involving professionals whose task it is to give advice (like solicitors) and thereby in doing so assume responsibility for that advice. The duty fits less easily in a construction context apart from in very specific circumstances. For example, an architect who has expressly told a builder that he would be responsible for issuing necessary notices for bye-law approval, was held to have voluntarily assumed responsibility for the losses incurred by the builder arising as a result of a failure to issue such notices (Townsends v Cinema News [1959] 1 ALL ER 7).
The Courts of England & Wales, however, have not applied this principle widely in the context of construction projects because the vital element of an inferred voluntary assumption of responsibility is unlikely to be present unless the construction professional has made some positive statement or intervention which the Contractor has relied on and this position has been followed in Hong Kong. In Leon Engineering and Construction Co Ltd v Ka Duk Investment Co Ltd [1989]2 HKLR 537, for example, the question of whether an architect owes a duty of care to the Contractor in certifying works for payment, was considered by the Hong Kong Courts. Bokhary J held that there was adequate machinery under the Main Contract between the Employer and Contractor to enable the Contractor to enforce his right to claim extra payment. As such he decided that the certifying architect did not owe a duty of care to the Contractor in tort co-terminous with the obligation in contract owed to the Contractor by the Employer.
Similarly, in the field of design the English Courts have been reluctant to impose any duty on the architect/engineer not to cause the contractor economic loss. The reason for this comes from the fact that whilst the architect/engineer's main consideration in the design work are quality, amenity or durability and stability, the Contractor's expertise lies in how to build it. As such, it is hard to see how a Contractor can state that he relied on the design being buildable in a certain way when he priced the works at tender stage, and to claim the extra costs from the architect and engineer when it turns out he has had to employ a different, more expensive building method. After all, it is the Contractor that has the superior expertise in buildability which mitigates against the establishment of a Hedley Byrne type duty.
Further, it will certainly be difficult for a Contractor to establish that an architect/engineer owed him a duty of care not to cause him economic loss by reason of any failure to supervise the Contractor's works properly. Effectively the Contractor's argument would be: "because you failed to supervise me properly preventing me from being negligent, you must compensate me for my negligence." There seems little scope for suggesting that an architect or engineer acquires such a duty of care in such circumstances.
It has to be said, however, that other common law jurisdictions have found less difficulty in finding the existence of a duty of care on the part of a construction professional not to cause a Contractor economic loss. So, for example, in Canada in the case Auto Concrete Curb Ltd v South National River Conservation Authority (1992) 89 DLR (4th) 394, the Engineer was found directly liable to a Contractor for causing it economic loss when failing to warn it at tender stage that if it was contemplating using suction dredging, there might subsequently be environmental restrictions imposed to prevent this method from being used. Hong Kong Courts are of course free to consider cases from all common law jurisdictions, including Canada. However, in light of the Hong Kong decision in Leon Engineering it seems, for the moment, that Hong Kong will follow the English position.
To other professionals
In the same way that it will be difficult for a Contractor to establish that a construction professional owes it a duty not to cause it economic loss, it will also be difficult for another construction professional to make a claim against one of his fellow professionals as no contract exists between them and it unlikely that a direct duty of care can be established.
However, under the provisions of the Civil Liability (Contribution) Ordinance (CAP 377) any person liable in respect of any damage suffered by another person may recover contribution from any other person liable in respect of the same damage (whether jointly with him or otherwise). So, for example, assume that a project manager is sued by the Employer for damage suffered as a result of the PM's failure to coordinate the work of the other professionals properly. In this scenario the PM could issue contribution proceedings against the architect or engineer if it is the case that the failings of those other professionals (for example in failing to supervise the Contractor properly) caused the Employer to suffer the same damage for which the Employer is seeking to hold the PM liable. In this situation, whilst the PM may be found 100% liable to pay the Employer's loss, he may be able to recover a percentage of what he has had to pay from the other professionals. Again, the ability to make contribution claims is another reason why construction disputes can lend themselves to all professionals being dragged in and targeted when things go wrong.
Section 3
What duties do construction professionals owe?
The easiest way to review of the type of claims that a construction professional could face is to consider what claims could arise from the different types of work he performs during the life of a construction project. As such, we set out below the claims which could arise from the tasks professionals perform during a project, in chronological order.
Examination of the site
Before starting his design, it should be evident even to lay readers that an architect or engineer should perform a sufficient examination of the site to satisfy himself that the site is suitable for the proposed works. The purpose of this is twofold. Primarily he has to determine the nature of the subsoil which will dictate the correct design for the foundations. Secondly, an architect or an engineer is expected to be familiar with planning and building control requirements and, usually, will be responsible for ensuring compliance with them. As such, he may have to familiarise himself with the requirements the Building (Planning) Regulations to ascertain the class of the site, the permitted plot ratio and site coverage which will determine how many flats the Employer is permitted to build. If the architect or engineer fails to do this properly then liability to the Employer could result.
Design and specification work
An architect, in the case of a building project, or an engineer, in the case of an engineering project usually has the role of designing the development. The scope of this task will include preparing plans, drawings and specifications, selecting materials and proprietary products and advising on the suitability of specialist contractors. In discharging these roles, the standard the architect/ engineer has to meet is one of reasonable skill and care. Exactly what it is the architect or engineer has to do in order to meet this standard, however, depends on the design in question. For example, where a design involves novel techniques, the architect or engineer may have a greater burden to discharge in demonstrating that he has met the standard of care required, than in circumstances where the design is based on tried, tested and accepted techniques.
An architect or an engineer must take care to assess and cater in his design for all risks which he can reasonably foresee. This principle is easier stated than applied. It is not simply a question of stating that the less likely the risk is to materialise, the lower the expectation on the architect to take account of it. For example, an architect would be expected to factor into his design a risk which could cause a high level of damage even although the likelihood of the risk materialising was low. As such, in Eckersby v Binney (1988) 18 Con LR, the engineers were found liable for failing to take account of the risk of the accumulation of methane in a tunnel causing which subsequently caused an explosion. This, the English Court of Appeal held, was a risk that a careful designer should not have ignored.
The building industry is extensively regulated by statutes such as the BO, its subsidiary legislation and codes of practice issued by the Buildings Authority and other connected authorities. The purpose of such statutes, regulations and codes is to provide for standards of safety and building practice. An architect and engineer should comply with such requirements in so far as they are applicable. A design which departs substantially from such codes is prima facie at fault, unless it can be demonstrated that it conforms to accepted engineering/architectural practice by rational analysis.1
However, an engineer/architect can only be judged by the standards and codes in place at the time of the alleged negligence or breach of contract. For example, in Linfield Limited v Taoho Design Architects Limited & Others [2004] 1014 HKCU, a Registered Structural Engineer was sued for the alleged negligent design of an external limestone cladding façade. One of the issues to be decided was the whether or not the RSE was responsible for the limestone itself, or just the fixings. The Hong Kong Court of First Instance noted that the latest Practice Note for Authorised Persons and RSE's (PNAP) issued by the Building Authority in May 2003 included detailed requirements for the RSE to have the stone itself tested. However, the version of the PNAP in place at the time of the design in question, that of May 1994, indicated that at that time the RSE was only concerned with the integrity of the fixing system rather than the stone itself and it was to this standard to which RSE should be held to account.
In accordance with the BO, the Building Authority must approve the building plans and also approval must be given before building works are commenced. It is often the case that architects and/or engineers will seek to rely on the fact that their design obtained such approval in order to demonstrate that they have met the required standard of care and thereby avoid any claim for breach of contract or negligence brought against them by the Employer. Such an argument, however, is usually destined to fail and it is normally the case that a Court will not take into account the fact that a design was approved by the local authority in deciding the issue of the architect or engineer's liability.2
Costs estimates
After the outline plans have been prepared by the architect or engineer, the Employer may ask for these to be passed to the QS to prepare a costs estimate for carrying out the project. The purpose of such an estimate will enable to the Employer to budget for the project accordingly and organise the necessary finance.
A QS is, of course, obliged to take reasonable care to provide an estimate which is accurate and if he fails to do so, it would amount to a breach of his contract with the Employer. In such an instance, however, it is often difficult for the Employer to demonstrate that he has suffered any loss by reason of the QS's inaccurate estimate. It would, after all, be open to the QS to argue that his inaccurate costs estimate made no difference to the course of action the Employer took in going ahead with the project, which meant the Employer would have incurred the extra costs in any event. Effectively, to meet this argument, the Employer would have to demonstrate that had the estimate been accurate he would have either cancelled the project or requested a cheaper design. Indeed, it is in cases where the Employer has cancelled the project after receiving a tender from a Contractor which is way over the estimate provided by the QS, that an Employer's refusal to pay the QS's fees has succeeded.3
The tender process
Once the Employer has decided to go ahead with the project, he then has to choose an appropriate Contractor. This is normally done by way of competitive tender and the Employer's professional team play various roles in this process.
Preparation of Bills of Quantity – the task of preparing bills of quantity (which set out the quantity of materials required to build the development) is given to the QS. In performing this role a QS must take reasonable care to ensure that the quantities are reasonably sufficient and not excessive. It is particularly important that processing errors are avoided which could lead to large mistakes, especially where, for example, a '0' is missed off the end of a figure.
Selection of the contractor – each construction professional will usually be asked to advise on which contractors should be included in the list of contractors invited to tender. They will also then be invited,
as a result of the tender process, to appraise the abilities of the Contractors, scrutunize their tenders and then provide a tender report to the Employer setting out their recommendations. Certainly, the architect/engineer on the project should take reasonable care and skill to make inquiries as to the solvency and capabilities of the contractor and any nominated sub-contractor.4 In addition, the QS must take reasonable care when examining the amounts of quotations or tenders and not advise acceptance of rates which are unreasonable.
Terms of the main contract – the use of standard form contracts is common in building and engineering projects in Hong Kong and these usually form the basis of the Main Contract between an Employer and Contractor. Normally a standard form of General Conditions will be used and these will be amended by Special Conditions to tailor the main Contract to the individual project. A construction professional's engagement to advise on the choice of contractor will also carry with it an obligation to advise on the appropriate terms of contract and he should use reasonable skill and care in discharging this role. If he negligently advises the Employer to enter into a contract which is disadvantageous to the Employer's interests then this could give rise to a claim for loss.
During the performance of the contract
A construction professional's role during the performance of the Main Contract by the Contractor can be divided into two types of work: contract administration and supervision.
Contract administration – standard forms of building or engineering contracts usually provide for a named architect, engineer or sometimes project manager who is then given specific tasks to perform under the terms of the Main Contract. In performing these tasks, the construction professional is said to be performing the task of 'contract administration'.
One of the tasks that the construction professional would be required to do in administering the contract is providing information or instructions to the Contractor that are necessary for the Contractor to complete the works. The circumstances in which the professional's input is sought in this regard are usually set out in the Main Contract. So for example, the Main Contract in a dredging project may require the named engineer to examine dredging samples taken by the contractor to decide whether further dredging is required. If this is the case, but no time-limit is specified within which the engineer is to respond then he should respond within a reasonable period of time. If he fails to do this, the Contractor could claim for an extension of time from the Employer and the Employer will then in turn look to the engineer to compensate him for the extra costs incurred. Another example is that the Main Contract for the construction of a building might specifically require the Contractor to obtain the architect's approval for a sample area of work, to set the standard that has to be met for the works going forward. Again, if the architect fails to do this, he opens himself up to an accusation that the failure to do this has caused delay in remedying defective areas which could have been avoided had a standard been agreed at the start.
In addition, as part of his role as contract administrator, the construction professional may be asked to consider the Contractor's extension of time or variation claims. In considering such applications the architect or engineer in question is required to act fairly, lawfully, rationally and logically.5 This means that when considering such applications, the architect or engineer should adopt a methodical, logical analysis of the impact which the relevant matters had or were likely to have on the Contractor's planned programme; an impressionistic assessment will not be sufficient.
The Main Contract usually also provides that during regular intervals throughout the course of the project, the engineer or architect should certify sums for payment to the Contractor by the Employer based on the value of the work which has properly been carried out. In making this certification, the engineer or architect will rely on the valuation of the work he considered completed which is undertaken by the QS. Both the engineer/architect and QS must take care to ensure that claims for payment are reasonably justified by the work done at the time in terms of quality and amount. In Sutcliffe v Chippendale and Edmondson (1971) 18 BLR 149, the English Court of First Instance laid down the following guidelines for professionals considering applications for interim payments by the Contractor:
- while a prolonged detailed inspection or measurement at an interim stage is impracticable, the profession should have more than just a glance round to work out how much work has been completed;
- the architect/engineer should then satisfy himself as to the quality of the work;
- the architect/engineer should keep the QS informed of any defective work so it can be excluded from his valuation.
If an engineer, architect or QS negligently overvalues a sum for payment, then a cause of action for both breach of contract and negligence will lie against him by the Employer. By contrast, however, if the construction professional in question undervalues the amount for payment, it is unlikely that the Contractor will be able to sue him. In Pacific Associates v Baxter (1988) 44 BLR 33 it was held that in circumstances of interim certification, there was no voluntary assumption of responsibility by the construction professional sufficient to give rise to a liability to the Contractor for economic loss. The position in this case has been followed in Hong Kong in Leon Engineering.
Supervision – The construction professional's duty of supervision during construction stems from his contract with the Employer. However, the source of this duty depends on whether the construction professional's contract provides merely for a specific duty to supervise, or whether the duty is incorporated into the contract simply by reason of the construction professional being appointed as Authorised Person or RSE for the purposes of the BO (under the provisions of which he has a duty to provide periodic supervision.)
In practical terms, the aim of the duty imposed by the BO and that imposed separately in contract are unlikely to be different. If the contract gives the construction professional a specific duty to supervise then the architect or engineer in question must ensure, as far as reasonably possible, that the quality of the work matches up to the standard contemplated by the Main Contract. Similarly under section 37 of the Buildings (Administration) Regulations the AP and RSE are required to give such periodical supervision and make such inspections as may be necessary to ensure that the building works are being carried out in general accordance with the provisions of the BO, the plans approved in respect thereof by the Building Authority.
The actual level of supervision required to enable the construction professional to discharge its duties depends on the specific circumstances of the project. For example, it is affected by the confidence which the construction professional can reasonably place in the Contractor6 and if something occurs which indicates a lack of confidence then the professional should increase the level of supervision. It may also be affected by the fact that the Employer has appointed a Clerk of Works to supervise the project. In this respect, the dividing role between the two would be that the architect/engineer would address matters of importance while the Clerk of Works would deal with matters of detail. An example of how the division might work was given in Leicester Board of Guardians v Trollope7 which is cited as authority for the proposition that:
"if the architect had taken steps to see that the first block was all right and he had then told the clerk of works that the work in the others was to be carried out in the same way, I would have been inclined to hold that the architect had done his duty."
The fact that defects have occurred is not of itself sufficient evidence of negligent supervision by the construction professional. In Linfield v Taoho Design Associates Ltd, the Hong Kong Court of First Instance stressed that an RSE's supervison did not guarantee a result, as even conscientious periodic supervision may fail to spot defects in the work of an incompetent concrete works contractor. In spite of this, however, Employers who have suffered loss as a result, of an incompetent contractor's works are naturally inclined to cast the blame at their construction professionals and question the adequacy of the level of supervision provided. Claims which allege negligent supervision are therefore common place in the construction industry.
Final certification
Final Certification by the architect or engineer is a task which falls within the scope of his role of contract administration. However, the consequences of the engineer or architect negligently issuing a final certificate could be far more serious than an interim one. The reason for this is that the terms of the Main Contract may provide that a final certificate is binding and conclusive as between the Employer and Contractor and as such after it is issued, the Employer has no remedy against the Contractor if defects are found. Whether a final certificate is deemed to be binding, depends on the wording in the contract and therefore this cannot be stated as a general rule. However, if a construction professional has negligently issued a final certificate which is binding then:
- he will probably be the target of a claim by the Employer for negligence and breach of contract for all loss suffered arising from any subsequent defects found;
- the construction professional will not be able to claim any contribution from the contractor for this loss, as the contractor can rely on the final certificate to show that he has discharged his duties under the Main Contract.
The consequences of negligently issuing a final certificate are therefore significant.
Section 4
Specific issues arising from construction professional's indemnity insurance
Because of the litigious nature of the construction industry it is, of course, imperative that construction professionals hold adequate professional indemnity cover which protects them not only against liability to any third party claimant, but also for the legal costs they incur in defending any such claim. Unfortunately, most potential claimants will realise that construction professionals will hold such insurance (especially if the professional in question is a member of a professional body which insists on it) and this knowledge in itself makes the construction professional more of a target.
The scope of coverage provided under any professional indemnity insurance is provided subject to the terms and conditions stated in the policy and it is usually the applying these terms to a construction context which poses most difficulty for claims handlers. There are limits to how all encompassing any commentary of construction professional indemnity insurance can be, as any situation will depend on the exact terms in the policy in question. Nevertheless, we set out below a number of particular policy interpretation issues that can arise in the construction context:
Notification of claims
Professional indemnity (PI) policies are usually written on a 'claims made' basis, that is cover is provided for claims made within the policy period.
There are two issues which arise for claims handlers when a claim is notified under a construction PI policy – have the notification provisions in the policy been complied with, and what is the claim about?
PI policies usually include a term obliging the insured to provide the insurer with notice of any losses giving rise to claims under the policy. What triggers the obligation and the time limit for compliance depends on the wording of the specific term. In PI policies the notification term usually requires the insured to provide notice of any "claim made against it" or any "circumstance which may/is likely to give rise a claim under the policy". The policy may define a claim by reference to either a writ or a written demand for compensation. A "circumstance" which could give rise to a claim, however, is less easily discernable, although in the context of PI insurance the circumstance usually equates to the negligent act or omission of the Insured which gives rise to the loss being claimed against the Insured by the third party. If the circumstance in question has to be "likely to give rise to a claim" then this phrase has been held to mean over a 50% chance of giving rise to a claim from an objective viewpoint. If the phrase used is "may give rise to a claim" then this denotes a lesser degree of probability and consequently a higher burden on the Insured.
The time limit for compliance with the notification provision might be stated to be a specific number of days or a more generic phrase might be used such as "immediately", "as soon as possible" or "as soon as reasonably practicable". These generic phrases tend to be treated as having the same meaning and the test is whether reasonable notice has been given in the specific circumstances concerned.
The purpose of providing such notice is to enable the insurer to test the genuineness of the claim within a reasonable period
of time, take steps to mitigate the consequences of the loss and set a reserve as early as possible for any potential liability. However, a typical notification from a construction professional insured could consist of a lengthy claims document put together by a Contractor seeking to recover additional payment from the Employer under the terms of the Main Contract. The claim document in question would contain technical detail and is often difficult to understand. The claims handler therefore faces the difficulty of having to identify within this raft of paper what the potential claim is about, who might be making the claim against the insured, and how much the claim might be for. There is no easy answer to this. However, it may be of assistance to claims handlers if they tried analysing the information provided in a logical fashion by seeking to find the answer to the following issues:
- Primarily, the claims handler should ascertain with whom the insured contracted on the project. This will usually be the Employer. As such, even though the basis of the notification may be a complaint made by the Contractor, it is most likely that any claim against the Insured arising out that complaint will come from the Employer. This would make the claim document in question, a "circumstance" rather than a "claim".
- Secondly, the claims handler should have a general understanding of the role that the construction professional was performing on the project. This can be done by reference to the general descriptions of the differing construction professionals' roles at section 2 of this bulletin. It may also be gleaned from the terms of the construction professional's contract.
- Thirdly, the claims handler should ascertain from the information set out in the Contractor's complaint what type of work the Insured was performing that forms the basis of the subject matter of the complaint. For example, was the Insured's deficiency in performing his role in design, drafting the tender documents, administering the contract, supervising the Contractor etc. This will enable the claims handler to put the subject of the claim into the proper context of the project.
It is not suggested that analysing the information in this way will elicit total comprehension. This is impossible (unless of course the claims handler in question was a construction professional in a former life). Nevertheless, it may assist the claims handler in providing him or her with a starting point, thereby enabling the questions they ask of the Insured to be more targeted at eliciting further information that will enhance their understanding.
The effect of not complying with notification terms depends on whether or not compliance with the term is a condition precedent to the Insurers' liability to indemnify under the Policy. If it is, then a failure to comply will enable Insurers to reject the claim. If it is not, however, then Insurers will only be able to reject the claim if they are able to establish that they have suffered serious prejudice by reason of the late notification. Sometimes, it is stated in the policy that Insurers' remedy for breach of a notification clause is to provide them with the right to reduce the amount of indemnity by reason of any prejudice suffered by reason of the later notification. We have seen little evidence of such reductions working in practice. Indeed, it is submitted that unless the Insurer has been denied the opportunity of advancing a defence because of the late notification (for example because judgment in default has been issued) then it is unlikely that the Insurer will be able to establish the existence of any prejudice.
Aggregation of claims
It is often the case that when a Contractor advances a claim against an Employer under the Main Contract and the claim document contains numerous criticisms of the performance of the construction professional on the project, this is then notified to the professional's insurers as a circumstance which might give rise to claims. One of the questions which claims handlers need to ask and answer is "how many claims might this circumstance give rise to?" This question is crucial to the amount which the Insured and Insurers have to pay. If all the criticisms made by the Contractor will only give rise to a single claim against the Insured by the Employer, then the Insured will only have to pay one deductible and the rest will fall within the limit of indemnity provided under the policy. If, however, there are numerous claims, then the Insured will have to pay a deductible for each one and the Insurer's exposure will be more limited. As such, the issue of the number of claims and the extent which they can be aggregated into a single claim is often a source of hot debate between Insurers and their construction professional Insureds.
The potential for aggregation under the policy will depend on the specific words used in the aggregation clause in the policy. This might provide that all claims arising out of the same 'event' or 'occurrence' or 'originating cause' or 'circumstance' can be aggregated as a single claim. The words in the aggregation clause should always be the starting point of the enquiry.
The law relating to the aggregation of claims is complex. Whilst there have been a number of cases on the issue over the years (particularly in the context of reinsurance), the exact wording of the policy aggregation clause which each case considers is often slightly different from the one before it, and the rationale for the decisions are not easy to reconcile with one another. Each decision turns on its own facts and the particular nuances of the contract language under consideration. That said, it is possible to discern from these cases the approach that a Court will take in analysing the application of an aggregation clause.
This approach was best summarised by Rix J in Kuwait Airways Corporation v Kuwait Insurance Company SAK [1999] 1 Lloyd's Rep 803 which considered the word 'occurrence' in the context of an aggregation clause. In that case, Rix J stated:
"An 'occurrence' (which is not materially different from an event or happening, unless by chance the contractual context requires some distinction to be made) is not the same as a loss, for one occurrence may embrace a plurality of losses. Nevertheless, the losses' circumstances must be scrutinised to see whether they involve such a degree of unity as to justify their being described as, or arising out of, one occurrence. The matter must be scrutinised from the point of view of an informed observer placed in the position of the insured. In assessing the degree of unity regard may be had to such factors as cause, locality and time and the intention of the human agents. An occurrence is not the same thing as a peril, but in considering the viewpoint or focus of the scrutineer one may properly have regard to the context of the perils insured against."
In other words, the Court will analyse the factual matters giving rise to the claim or claims being advanced from the point of view of the insured, and assess the extent to which there is a degree of unity between such matters by reference criteria such as cause, locality, time and the intention of the human agents involved.
In the context of professional indemnity insurance, the Court's focus of inquiry will be on the facts which constitute the alleged acts or omissions of the Insured giving rise to the claim or claims for which indemnity is being provided under the policy, and the extent to which these can be unified into a single 'occurrence' or 'event' (depending on the wording of the aggregation clause). This approach is, however, easier stated than applied and its application appears to differ depending on the subject matter of the insurance in question.
For example, in BF Caudle & Others v Alec Sharp & Others [1995] LRLR 433, which concerned a reinsurance of an underwriting agent's errors and omissions insurance, the Court of Appeal held that an underwriter's decision to enter into 32 run-off contracts which exposed his syndicate to massive asbestosis losses constituted 32 separate 'events' or negligent acts. It rejected the submission that the underwriter's failure to research the issue of asbestosis adequately (which led to his negligent acts) was a single unifying 'event'. The 'event' did not take place until the negligent act was committed. In this context, therefore, it was simply a matter of analysing the facts and equating the number of 'events' or 'occurrences' to the number of individual negligent acts in question.
The Courts have found, however, that the same simplistic approach cannot be applied in the context of a construction professional's indemnity insurance, where the insured can be accused by the same third party of numerous negligent acts in relation to a single project or even a single design. If it was simply a matter of equating the number of 'occurrences' to the number of 'negligent acts', this would produce a situation where there are numerous claims in respect of a single set of design calculations, none of which can be aggregated together – which is certainly not the intention of such insurance. Instead, therefore, whilst the focus of inquiry is still on the facts which constitute the negligent acts or omissions alleged against the insured, the Courts have accepted that numerous negligent acts or omissions can constitute a single 'occurrence' if there are enough unifying factors to justify it.
This approach can be discerned in Thorman and Others v New Hampshire Insurance Company (UK) Limited and Another (1987) 39 BLR 458. In Thorman, the plaintiff was a firm of architects against which various allegations of negligence had been made. Liability had been denied, but the case concerned the issue of which of the architect's two insurers were liable to indemnify the plaintiff's, as a writ had been issued against the Insured during the currency of the policy written by Insurer number 1, but had not been served until during the period of the following policy written by Insurer number 2. The allegations had then been subsequently particularised and it appeared they fell into two categories; namely allegations relating to the brickwork and allegations relating to the roofing. Each Insurer said the other was liable. Further each asserted that the allegations in the proceedings commenced by writ constituted a series of separate claims against the architect and that the architect should bear a deductible for each claim.
The Court disagreed and decided that there was only one claim. However, the value of the decision comes in the guidelines laid down by the Court for the purpose of ascertaining how many claims there were. This approach sought to discover the degree of unifying factors that existed in respect of the allegations made by reference to the following criteria:
- If the architect has separate contracts with separate building owners but the architect makes the same negligent mistake in relation to each one, whilst this creates a common factor, the fact that there are separate contracts and separate claimants, meant that there are separate claims.I
- f the architect has a single contract in respect of two separate houses to be built in two separate sites and the allegations made by the same claimant relate to different types of work (i.e. contract administration on the one hand and a failure to specify properly on the other), then still these are likely to be separate claims as there is an insufficient degree of unity.
- If however, in the case of the above example, the allegations related to the same type of work, then there would be a sufficient degree of unity to aggregate these into a single claim.
As such, in the context of a construction professional's indemnity insurance, the approach a Court will probably take in considering application of an aggregation clause in deciding how many claims there are can be summarised as follows. It will scrutinise the facts which constitute the alleged negligent acts or omissions by the Insured and assess, by reference to a number of criteria, whether there are enough factors present which unite these negligent acts or omissions into a single claim arising out of one 'occurrence' or 'event' (or whatever the particular word used in aggregation clause is). The kind of criteria which the court will look at in this regard, will probably include:
- whether the alleged negligent acts or omissions were committed under a single contract;
- whether the negligent acts or omissions relate to a specific type of work (i.e design work as opposed to faulty supervision);
- whether the negligent acts or omissions were committed by the same or different individuals;
- whether the negligent acts or omissions relate to the same locality;
- whether the negligent acts or omissions are limited in time.
These criteria are not exclusive and ultimately the focus of the Court's inquiry will be whether there are sufficient common factors to the acts or omissions so as to make them capable of being united into a single 'occurrence'. Ultimately, this becomes a balancing act between the unifying and disuniting factors that exist which makes it an exceedingly difficult question of judgement for any claims handler faced with this decision.
Concluding remarks
Handling claims under construction professional indemnity policies is therefore by no means an easy task. In light of the litigious nature of the construction industry and the manner in which construction professionals become the target of compensation claims, those given the task of handling such insurance claims must have a decent grasp of the particular roles their construction professional insureds perform on a project as well as an ability to analyse the complexities of the documents submitted when claims are notified. We hope this article has given some useful guidance in this regard.
For more information, please contact Peter Gregoire in the CMS Cameron McKenna Hong Kong office at peter.gregoire@cms-cmck.com.
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Footnotes
1 Bevan Investment Ltd v Blackhall and Struthers (No.2) [1973] 2 NZLR 45
2 See, for example, Eames London Estates Ltd v North Hertfordshire District Council (1980) 259 EG 491
3 Gordon Shaw Concrete Products Ltd v Design Collaborative Ltd (1985) 35 CCLT 100
4 See, for example, Equitable Debenture Assets Corp Ltd v William Morris Group Ltd (1984) 22 Con LR1
5 John Barker Construction Ltd v London Portman Hotel Ltd (1996) 83 BLR 31
6 Sandown Hotels Ltd v Phelps (1953) EG 595
7 see 7th edition of Keating at page 404
