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Last edited 28 Jul 2016
Recovery of third party losses
Construction projects are characterised by a class of future owners outside the ambit of the originating contractual relationships, with potential for a dichotomy between the legal right to recover and the incurring of loss, the 'legal black hole' referred to by Lord Keith in GUS Property Management Ltd v Littlewoods Mail Order Stores Ltd. The problem flows from the general principle that a claimant may only recover damages for a loss which they have themselves suffered (See British Westinghouse Electrical Company Limited v Underground Electric Railways). These issues have now been considered by the House of Lords in Linden Gardens and St Martins Property Corporation Ltd v Sir Robert McAlpine & Sons Ltd (both appeals being heard jointly by the House of Lords and the Court of Appeal – see below) and in Alfred McAlpine Construction Ltd v Panatown Ltd.
- In June 1979 with Lenesta Sludge (first defendant) as prospective sub-contractor.
- In July 1979 with McLaughlin & Harvey (second defendant) as main contractor: H.
- In February 1985 with Ashwell Construction (third defendant).
Completion of the works under contracts (1) and (2) took place in March 1980 and under contract (3) on 16 August 1985. On 3 July Stock Conversions commenced legal proceedings against Lenesta for damages for breach of contract. Stock Conversions made the following assignments, presumably for market value, to Linden Gardens Trust Ltd:
- On 1 August 1985 of its interest in the 3rd, 5th and 6th floors.
- On 2 December 1986 of its interest in the 4th floor.
- On 14 January 1987 of the rights of action under the contracts with McLaughlin and Ashwell.
Proceedings commenced by Stock Conversions in July 1985 against Lenesta Sludge were amended in 1987, Linden Gardens becoming the claimant, and McLaughlin and Ashwell the second and third defendants respectively.
In St Martins Property Corporation Ltd and Another v Sir Robert McAlpine & Sons Ltd, St Martins Property Corporation entered into a contract with McAlpine for a mixed commercial and residential development. The contract was dated 29 October 1974. On 25 March 1976, St Martins Corporation transferred the property and assigned the benefit of the contract to St Martins Property Investments Ltd for its market value.
Subsequent to practical completion of the podium deck on 1 November 1979, substantial defects were discovered in the structure requiring remedial costs in excess of £800,000. Both Corporation and Investments brought proceedings against McAlpine to recover the cost of the remedial works.
The court held in Linden Gardens that the claimant was entitled to recover the cost of remedial works carried out by Stock Conversions in 1985 (£22,205) and also the works carried out by Linden Gardens (£236,000) after the date of the assignment of the rights of action in January 1987. In St Martins the court held, inter alia, that as Corporation had sold the property for market value to Investments, Corporation could only recover nominal damages. In both Linden Gardens and St Martins Property Corporation the purported assignments of the contractual rights were held to be invalid, therefore the courts were looking at the right to recover damages by the original contracting party after a disposal of the relevant property at market value and where the remedial costs had been incurred, in part or in whole, by a third party. The House of Lords confirming the Court of Appeal's decision (although reversing the Court of Appeal on the meaning of the contractual prohibition) held that a party to a building contract was entitled to recover substantial damages from the contractor in breach even though that party had disposed of the damaged property and had not incurred the remedial costs, since the parties were to be treated as having entered into the contract on the footing that the original contracting party would be entitled to enforce contractual rights for the benefit of those who suffered from defective performance but who, under the terms of the contract, could not acquire any right to hold the defendants liable for breach.
The majority of their Lordships felts that this decision was one which did not create new principle, but fell within the exceptions to the rule that a party can only recover its own losses established by the case of Dunlop v Lambert as explained in Albacruz (cargo owners) v Albazero (owners) ('The Albazero'). However, Lord Griffiths was in favour of new principle finding that with contracts for the supply of work, labour and the supply of materials, the recovery of damages for breach of contract was not dependent or conditional on the plaintiff having a proprietary interest in the subject matter of the contract at the date of breach. Further it was irrelevant who actually paid for the repairs and where a tortfeasor's (a person who commits a tort) liability was temporarily discharged by payment by a third party, on the plaintiffs behalf, the plaintiff ought not to be prevented from suing the tortfeasor for damages.
In his judgment, Lord Griffiths added a constraint which was thought previously not to be material:
'The court will of course wish to be satisfied that the repairs have been or are likely to be carried out.'
Contrast this with the House of Lords decision in Ruxley Electronics v Forsyth where it was accepted that 'the courts are not normally concerned with what a plaintiff does with his damages' (see also the Court of Appeal in Dean v Ainley).
NB See also St Martins Property Corporation Ltd and Another v Sir Robert McAlpine & Sons Ltd which includes additional analysis in relation to the position of the assignee where there was no breach of contract prior to the
Panatown Ltd entered into a building contract with Alfred McAlpine Construction Ltd for the design and construction of an office block and car park on land owned by Unex Investment Properties Ltd (UIPL). Panatown and UIPL were both parts of the Unex group of companies. McAlpine also entered into a duty of care deed (DCD) with UIPL whereby McAlpine agreed with UIPL that they would carry out their obligations under the building contract with Panatown with reasonable skill and care.
Disputes arose between Panatown and McAlpine in respect of building defects and Panatown commenced arbitration proceedings against McAlpine claiming damages for breach of contract. McAlpine defended the proceedings on the ground, inter alia, that Panatown had no proprietary interest in the site and therefore had suffered no loss. This defence was taken as a preliminary issue in the arbitration and was rejected by the arbitrator. On appeal, the Court of Appeal confirmed the arbitrator's decision.
Before considering the House of Lords decision in Panatown it is helpful to look at the judgments of the House of Lords in respect of St Martins Property Corporation and a subsequent decision of the Court of Appeal, Darlington Borough Council v Wiltshier Northern Ltd.
In St Martins Property Corporation, as previously stated, the assignment from Corporation to Investment was invalid, therefore the court had to consider Corporation's right to recover damages even though Corporation had no proprietary interest and the remedial costs had been expended by Investments. The majority of the House of Lords held that Corporation was entitled to recover substantial damages on the basis that the facts fell (per Lord Browne-Wilkinson) 'within the rationale of the exceptions to the general rule that a plaintiff can only recover damages for his own loss - "the narrow ground"'. The reasoning of the court was (per Lord Browne-Wilkinson):
'The contract was for a large development of property which, to the knowledge of both Corporation and McAlpines was going to be occupied, and possibly purchased, by third parties and not by Corporation itself. Therefore, it could be foreseen that damage caused by a breach would cause loss to a later owner and not merely to the original contracting party, Corporation. As in contracts for the carriage of goods by land, there would be no automatic vesting in the occupier or owners of the property for the time being who sustained the loss of any right of suit against McAlpines. On the contrary, McAlpines had specifically contracted that the rights of action under the building contract could not without McAlpines' consent be transferred to third parties who became owners or occupiers and might suffer loss. In such a case, it seems to me proper ... to treat the parties as having entered the contract on the footing that Corporation would be entitled to enforce contractual rights for the benefit of those who suffered from defective performance but who, under the terms of the contract, could not acquire any right to hold McAlpines liable for breach. It is truly a case in which the rule provides "a remedy where no other would be available to a person sustaining loss which under a rational legal system ought to be compensated by the person who caused it’’’
Lord Griffiths came to the same result, but on the 'broader ground' that there was a principle that the original contracting party had suffered a loss because he had not received the bargain he had contracted for.
In Darlington Borough Council v Wiltshier Northern Ltd, Wiltshier, a construction company, entered into two contracts with Morgan Grenfell (Local Authority Services) Ltd for the construction of a recreational centre for and on a site owned by Darlington Borough Council. As pre-agreed, Morgan Grenfell assigned to Darlington all its contractual rights and causes of action against Wiltshier. Darlington claimed damages against Wiltshier for breach of contract relating to building defects. The court held that Darlington, as assignee, was not entitled to claim damages other than nominal damages. The Court of Appeal held that as the building contracts, to the knowledge of both parties, were entered into for the benefit of Darlington and it was foreseeable that damage caused by breach of those contracts would cause loss to Darlington, Darlington as assignee of Morgan Grenfell's rights against Wiltshier, could claim substantial damages for loss caused by Wiltshier's breaches of contract and the damages should be assessed on the normal basis as if Darlington had been a party to the original contracts.
It will be noted from the above facts that the assignor, Morgan Grenfell, unlike Corporation in the St Martins Property Corporation case, had never acquired or transmitted to Darlington any proprietary interest in the development. The Court of Appeal did not consider this to be relevant to their decision that the case fell to be decided 'by direction application of the rule in Dunlop v Lambert as recognised in a building contract context in Lord Browne-Wilkinson's speech in the McAlpine case'.
Dillon LJ stated:
'[The respondent] also sought to distinguish the decision in the McAlpine case on the ground that in the present case Morgan Grenfell never acquired or transmitted to the council any proprietary interest in [the development]. I do not see that that matters as the council had the ownership of the site of [the development] all along. It was plainly obvious to Wiltshier throughout that [the development] was being constructed for the benefits of the council on the council's land.'
The decision in the Darlington case was based upon the 'narrow ground'. However, Steyn LJ, whilst accepting that the decision in Linden Gardens could with 'only a very conservative and limited extension' apply by analogy to the facts in Darlington and did so apply, nevertheless agreed with the 'broader ground' set out in the judgment of Lord Griffiths. Steyn LJ stated:
'The rationale of Lord Griffiths' wider principle is essentially that, if a party engages a builder to perform specified work and the building fails to render the contractual service, the employer suffers a loss. He suffers a loss of bargain or of expectation interest. And that loss can be recovered on the basis of what it would cost to put right the defects ... subject to one qualification, it will be clear from what I said earlier that I am in respectful agreement with the wider principle. It seems to me that Lord Griffiths based his principle on classic contractual theory.’
The qualification went to the requirement mentioned by Lord Griffiths for the court to be satisfied that the relevant repairs had been or were likely to be carried out. Steyn LJ preferred the line of authority in Dean and Ruxley that the courts were not concerned with what the plaintiff proposed to do with the damages, or that the plaintiff intended to undertake any repairs.
In Darlington Borough Council v Wiltshier Northern Ltd, Dillon LJ and Waite LJ also decided, obiter, that if Morgan Grenfell had commenced proceedings, prior to the assignment, for damages for breach of contract, it would have done so as constructive trustee for Darlington and would have been accountable in equity to Darlington for any damages recovered. On this reasoning it follows that on an assignment and the assignee stepping into the shoes of the assignor, there is an available cause of action carrying a right to substantial damages. The equitable remedy was considered appropriate, albeit obiter, by Judge Thornton in John Harris Partnership (a firm) v Groveworld Limited which concerned proceedings for breach of contract against a firm of architects, by a developer who had a 45% exposure to the loss by reason of its joint venture partnership. The judge's principal finding was that Groveworld was entitled to recover the whole of the loss and it was irrelevant that the plaintiff intended to pass on 55% of the loss recovered from the defendants, to its joint venture partner. The relevant loss was the loss, which was immediate to the party claiming the loss. As to the equitable remedy, the judge stated the components to be:
- the nature or terms of the relevant contract being such that it was contemplated by the plaintiff and the defendant that the third party's loss would be recoverable at the suit of the plaintiff.
- the plaintiff had an equitable obligation to pursue the defendant for the loss caused to the third party by the defendant and to account to the third party for any recovery.
The judge also considered that what he described as the Linden Gardens exception was not confined to building contracts but could be extended to contracts involving the provision of professional services.
In Panatown (Alfred McAlpine Construction Ltd v Panatown Ltd - above), the House of Lords confirmed the 'narrow ground' basis of recovery of third party losses and approved the 'broader ground' principles enunciated by Lord Griffiths and accepted by Steyn LJ. There was however a 'sting in the tail' for Panatown. Their Lordships held by a majority (Lord Goff and Lord Millett dissenting) that as regards both the 'narrow ground' and the 'broad ground', Panatown's claims failed because UIPL had a direct cause of action against McAlpine because of the DCD, even though the DCD provided for different and less onerous obligations than the principal contract and only gave subsidiary remedies to UIPL.
Lord Clyde considered that 'there was a plain and deliberate course adopted whereby the company with the potential risk of loss was given a distinct entitlement directly to sue the contractor and the professional advisers' and therefore he 'did not consider that an exception can be admitted to the general rule that substantial damages can only be claimed by a party who has suffered substantial loss'. Lord Clyde was not impressed with the 'broader ground' and did not feel it necessary to express a view on the effect of the DCD on that principle of recovery.
Lord Jauncey stated as regards the 'narrow ground': 'What is important, as I see it, is that the third party should as a result of the main contract have the right to recover substantial damages for breach under his contract even if those damages may not be identical to those which would have been recovered under the main contract in the same circumstances. In such a situation the need for an exception to the general rule ceases to apply.'
Of the 'broader ground' Lord Jauncey stated:
'I consider Panatown is not entitled to recover under [the broader ground] ... because UIPL have a direct right of action against McAlpine under the DCD.’
Lord Browne-Wilkinson stated as regards 'the narrow ground': '... the whole contractual matrix relating to this development envisaged that McAlpine's obligations under the building contract were to be enforceable against McAlpine not only by Panatown but also to a very substantial extent by UIPL and its successors in title under the DCD. It was suggested in argument that the purpose of the DCD was to give purchasers of the site from the Unex Group undoubted causes of action for breach of a tortious duty of care. Even if that is so, it does not alter the fact that under the DCD, UIPL itself has the right to claim substantial damages for any negligent performance of the building contract, a right which will cover most of the claims arising under the building contract. In my judgment the direct cause of action which UIPL has under the DCD is fatal to any claim to substantial damages made by Panatown against McAlpine based on the narrower ground.'
As regards the 'broader ground' Lord Browne-Wilkinson stated:
‘I will assume that the broader ground is sound in law and that in the ordinary case where the third party (C) has no direct cause of action against the building contractor (B) A can recover damages from B on the broader ground. Even on that assumption, in my judgment, Panatown has no right to substantial damages in this case because UIPL (the owner of the land) has a direct cause of action under the DCD.'
Collateral warranties and other species of direct agreements could, after Panatown, have the effect of excluding the remedy of assignment of original contractual rights to the successive owners of property. It follows that care must now be taken to ensure that collateral warranties give a much broader class of rights than that previously thought necessary, for example, fitness for purpose obligations and not simply reasonable skill and care, also remedies in respect of contractual delays and consequential losses.
Potential, unanswered, questions arising from the judgments in Panatown on the 'broader ground' are:
- to what extent is the carrying out of the repairs a precondition to recovery?
- are consequential losses recoverable?
Lord Jauncey and Lord Clyde appeared to be saying that carrying out repairs was a precondition to recovery and that consequential losses were not recoverable unless they came within the expenditure of the repair costs. Lord Goff could see no reason why consequential losses should not be recovered, for example delay damages. As to the first question he felt it appropriate to have regard to such matter when the reasonableness of the plaintiffs claim to damages was under consideration (per Lord Lloyd in Ruxley Electronics v Forsyth). Lord Millet considered it to be a question of reasonableness.
 Find out more
 Related articles on Designing Buildings Wiki
- Breach of contract.
- Collateral warranties.
- Common law.
- Consequential losses.
- Construction contract.
- Contribution and apportionment.
- Fitness for purpose.
- GUS Property Management Ltd v Littlewoods Mail Order Stores Ltd.
- Legal and equitable assignment.
- Reasonable skill and care.
- Third party rights.
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