Practical Completion: Court of Appeal Provides General Guidance

Madeleine Brown and Bethany Gregory | Allen & Overy | June 27, 2019

A clause stating that a reduction in room size by more than 3% would be “deemed material” related only to the materiality of the variation from the contract drawings, rather than the materiality of the resulting breach of contract. Parties can agree in advance that breaches of a particular clause will be deemed material (therefore permitting the parties to treat themselves as discharged from their obligations). However, they would need to include clear language to that effect. On the facts, the court determined that the parties had agreed that a material deviation in size would be a breach of contract, but did not agree whether it would be a material breach. This ruling will be of particular interest to those in the construction industry since the judgment provides a helpful explanation of what practical completion means – the first time the court has looked at this question for 50 years: Mears Ltd v (1) Costplan Services (South East) Ltd (2) Plymouth (Notte Street) Ltd (3) J.R. Pickstock Ltd [2019] EWCA Civ 502.Plymouth (Notte Street) Ltd (PNSL) engaged a developer and building contractor to design and build student accommodation. Under an agreement for lease (the Agreement), PNSL also contracted with Mears Ltd (Mears), a company whose business involved managed student accommodation, which would take a long lease of the blocks post completion. The Agreement prohibited PNSL from making any variations to the building works which “materially” affected the size of the rooms. It also stipulated that a reduction in size of more than 3% between the contract drawings and the completed works would be deemed “material”. Eventually, 56 rooms were found to be more than 3% smaller than the plans. Mears argued that any failure to meet that 3% tolerance was, by itself, “a material and substantial breach” of the Agreement and sought a declaration to this effect at first instance. This would automatically result in Mears being entitled to determine the contract and the certifier being unable to issue a valid certification of practical completion. Waksman J refused to grant the declaration as a matter of construction of the Agreement. Non-compliance was a breach, but not necessarily a material breach In essence, the Court of Appeal affirmed the first instance decision. Whilst the court agreed that there were 56 separate breaches of contract, those breaches were not, as a matter of construction, automatically deemed to be material. Each breach needed to be considered, either alone or together, to decide whether “as a matter of fact and degree” the breach was so material as to permit Mears to treat itself as discharged from all obligations. The court confirmed that parties “to contracts of this sort” are able to agree in advance that the breach of a specified clause would be a material breach of contract. However, in this case, the parties did not make any such agreement; the materiality introduced into the relevant clause of the contract related only to the reduction in room size, rather than the resulting breach of contract. Significant consideration of the commercial reality The court held that the parties had tackled the potential problem of deciding how serious a deviation from the plans needed to be in order to be a breach of contract by specifying precisely the circumstances in which deviation from the drawings would amount to a breach. In other words, the parties agreed that there would only be a breach of contract if the size of the room was “materially affected”, setting out an agreed 3% threshold to define when the rooms would be so affected. Although this meant that immaterial deviations from the drawings would not cause a contractual breach, it also clarified that, in the event of any size difference over 3%, this would constitute a contractual breach. It was simply a mechanism by which a breach of contract could be indisputably identified. The difference lay in this point: whilst the parties agreed in advance that this would be a breach of contract, they had not agreed that it would amount to a material breach of contract with the accompanying remedies. The agreed point about materiality (ie the 3% threshold) categorised the deviation as sufficiently affecting the room size to be deemed a breach. However, it did not establish that breach’s “character or quality”. To support its finding, the court also emphasised that it would “lead to a very uncommercial result” if any crossing of the 3% limit, even if it was very trivial and regardless of which room it affected (using a bin store as an example), would automatically lead to a material breach of contract. It would be a “draconian” result if an insignificant breach could permit one side “to walk away” from the Agreement and commercial relationship; such a result should follow only from very clear contractual language. Meaning of “practical completion” Even though Mears failed to obtain the declaration it sought (meaning that practical completion could validly be certified), the Court of Appeal also helpfully considered, for the first time in 50 years, what “practical completion” actually means in construction contracts. After reflecting on previous cases, the court noted that a “certain caution” was essential in its analysis. In the court’s judgment, practical completion, which is “easier to recognise than define” and has “no hard and fast rules”: 

− is in practice a “state of affairs in which the works have been completed free from patent defects, other than ones to be ignored as trifling”;

− does not treat outstanding work differently from defective work which requires a remedy;

− requires the works to be completed free from patent defects other than those which are trifling (a matter of fact and degree) against the background of the purpose of allowing individuals to take possession and use the works. In this case, the mere fact that the accommodation was habitable would not (without more) amount to practical completion; and

− cannot be prevented by the existence of latent defects or simply because a breach is irremediable. Whether or not a breach is capable of economic repair is relevant to the measure of loss but not the question of practical completion.Whilst parties can agree parameters by which the certifier is controlled and guided in his determination of whether practical completion has occurred, these were not found in the Agreement or standard forms of building contract. Whether the 56 breaches in this particular case were, or were not, trifling was a matter of fact and degree only, to be considered by the certifier, at least in the first instance. COMMENT This case was largely theoretical, as the court noted at the outset, as the parties were separately disputing a specific performance claim which would be unaffected by the arguments regarding materiality. However, it may set a precedent for cases in which the outcome is key to the commercial viability of the project. The essential point was the distinction between: (i) materiality relating to the extent of a deviation in the works from the initial building plans; and (ii) materiality in terms of how serious a breach of contract is and what remedies are therefore available to an aggrieved party. Whilst the language used in the Agreement appears uncontroversial, and many may think it clear on which side this fell, it is conceivable that further examples could come before the courts. Clients may wish to review the drafting in their contracts to identify any scope for disagreement in the event of a dispute. On the other hand, the court noted that it is wholly possible for parties to agree in advance that breach of a particular clause should be viewed as a material breach. To do so, parties to any contract (in the construction sphere or otherwise) should ensure that this is set out in clear wording, as the court was unwilling to allow any trivial breach to be deemed material without such explicit agreement, especially against a commercial background. 

This is also a noteworthy judgment for those in the construction industry, as it clarifies the court’s approach towards disputes of practical completion. The court highlights that practical completion is essentially a question of fact and judgment, and that the certifier must consider whether any patent defects are “trifling”, whilst providing some clarification on previous case law. In many large construction contracts, or those for particular types of works, the concept of “practical completion” can be heavily described in the agreement and can be protected with other mechanisms. However, in all contracts, parties may want to consider whether to explicitly draft the pre-conditions for practical completion

Practical Completion: Clarifying A “Trifling” Topic

Kiran Giblin and Kevin Greene | K&L Gates | June 5, 2019

In the recent case of Mears v Costplan [2019] EWCA Civ 502, the Court of Appeal provided significant clarity as to how courts should interpret the widely used but seldom defined term, “practical completion” in the context of construction contracts. In essence, it was held that practical completion should only be prevented by patent defects (i.e. those that can be discovered by reasonable inspection) where such defects are considered “more than trifling.”

Background

The core issue in dispute concerned whether practical completion of two blocks of student accommodation had been achieved. Mears Limited (“Mears” or the “Employer”) had engaged Plymouth (Notte Street) Limited (the “Developer”) to design and build the two blocks. The parties had also entered into an Agreement for Lease (“AFL”) which required Mears to take a 21 year lease of the property following completion.

The AFL prohibited the Developer from varying the works which “materially” affected the size of the student rooms. Any reduction in size which was more than 3% smaller than the AFL specifications was to be considered material. Following lengthy delays to the works, the Employer claimed that 56 of the student rooms had been constructed with material deviations from the required specifications. As such, the Employer sought declarations in the Technology and Construction Court (“TCC”) preventing the certification of practical completion, the practical effect of which was to allow Mears to terminate the AFL and discharge its obligations under the agreement. The TCC refused to grant such declarations resulting in Mears’ appeal.

The Court of Appeal

On appeal, the Court held that the TCC had correctly declined the declarations as, on a proper construction of the AFL and in the absence of any express contractual definition, the question of practical completion was to be decided by the certifier. Mears could not, therefore, terminate the AFL nor discharge its obligations.

Further, the Court held that where patent defects exist and are “more than trifling” or de minimis, such defects shall be sufficient to prevent practical completion. Whether a patent defect is trifling is a matter of fact and degree to be assessed against “the purpose of allowing the employers to take possession of the works and to use them as intended” (per Jarvis v Westminster[1969] 3 All ER 1025). Applying this approach in the present case, the Court held that, while some rooms were built 3% smaller than specified, this did not sufficiently detract from their intended purpose of providing student accommodation. As such, the defect could be said to be merely trifling.

The Court also provided the following useful guidance:

  1. Practical completion is “easier to recognise than define” and there are no “hard and fast” applicable rules.
  2. The existence of latent defects cannot prevent practical completion as, self-evidently, their existence is unknown at the time when practical completion certification takes place.
  3. In respect of patent defects, there is no difference between an item of work that is yet to be completed (i.e. an outstanding item) and an item of defective work which requires remedying.
  4. Where patent defects exist and are more than “trifling” in nature, such defects will be sufficient to prevent practical completion.
  5. The ability to use the works as intended may be considered a relevant factor when deciding whether a patent defect is “trifling” in nature. However, such ability alone will not necessarily mean that the works are practically complete.
  6. The mere fact that a defect is irremediable does not mean that the works are not practically complete.

In addition to providing some practical clarity as to the meaning of ‘practical completion’, this case demonstrates the importance of unambiguous and clear drafting.

When Do Defects Prevent Practical Completion?

Julian Bailey, Emma Knight and Helena Payne | White & Case | April 4, 2019

Practical completion represents the physical completion of works on construction projects. Despite its importance, it is not a legal term of art, and whether or not practical completion has been achieved requires determination on a case-by-case basis.

The recent judgment in Mears Ltd v Costplan Services (S.E.) Ltd [2019] EWCA Civ 502 provides an important analysis of the interplay between patent defects and practical completion. In this case, the Court of Appeal confirmed that a material defect does not necessarily prevent practical completion from being achieved.

Key facts

In Mears v Costplan, the Court of Appeal considered the meaning of ‘practical completion’ in the context of the construction of student accommodation and a related agreement for lease.

PNSL, the employer, contracted with Pickstock, the contractor, for the design and build of student accommodation. Separately, Mears, the tenant, entered into an agreement for lease (“AFL“) with PNSL and Pickstock to take a long lease of the property following completion.

The AFL contained a longstop provision that permitted the tenant to terminate the AFL if the practical completion certificate had not been issued by the longstop date.

Further, the AFL prohibited variations to the works that materially affected the size of the accommodation rooms. It considered a reduction in size by more than 3% from the relevant drawings as material. In the event, of the intended 348 bedrooms plus kitchens and certain other rooms, 56 rooms were built more than 3% smaller than the relevant drawings. These breaches were irremediable: there was no prospect of the building being torn down and re-built.

The tenant alleged that any breach of the 3% tolerance was a material and substantial breach of the AFL, meaning that (i) it was entitled to terminate the AFL and (ii) practical completion could not be certified. At first instance, the judge ruled in favour of the employer / landlord, noting that it would be ‘commercially absurd’ if the breach of the 3% tolerance made practical completion impossible and allowed the tenant to terminate the AFL and walk away.

The tenant’s appeal was dismissed by the Court of Appeal, which held that:

  • The failure to meet the 3% tolerance was a breach of contract, but not automatically a material breach of contract allowing the tenant to terminate. The question of materiality related to room size and not to the resulting breach of contract. If the parties were to be taken to have agreed that any failure (no matter how trivial) to meet the 3% tolerance amounted to a material breach of contract, it would lead to a very uncommercial result.
  • Practical completion is a question for the certifier. Whether a derogation / breach is so material as to preclude practical completion is a matter of fact and degree in each case. Patent defects regarded as ‘trifling’ cannot prevent the certification of practical completion, whether the defect is capable of economic remedy or not. Whether the 3% tolerance breach was trifling was not a matter for the court here. The issue of economic remedy goes to the proper measure of loss, and not to the issue of practical completion.

The meaning of ‘practical completion’

The Court of Appeal reviewed the current state of the law on practical completion, making the following observations:

  • Practical completion is easier to recognise than define, and there are no hard and fast rules as to when practical completion is (or is not) achieved;
  • The existence of latent (i.e. unknown) defects cannot prevent practical completion (as they are unknown to the certifier);
  • In relation to patent (i.e. known) defects, there is no difference between uncompleted items of work and an item of defective work that requires to be remedied;
  • Some authorities suggest the existence of patent defects prevents practical completion, however the preferred view (which has been adopted in almost all cases) is that the existence of ‘trifling’ patent defects does not preclude practical completion;
  • Whether an item is ‘trifling’ is a matter of fact and degree to be measured against the intended purpose of the works; and
  • The mere fact that a defect is irremediable does not mean that works are not practically complete.

Comment

The achievement of practical completion is primarily a question of fact and judgment, which is to be determined having regard to what the contractor promised to supply, the definition (if any) of “practical completion” in the relevant contract, and whether what the contractor has supplied substantially corresponds with what the contract required so as to constitute “practical completion”. The intents and purposes of the project will be important to consider when addressing the question of whether practical completion has been achieved.

However, the Court of Appeal made clear that, in this particular case, the mere fact that the accommodation was habitable did not mean the works were practically complete. It is a question of whether any patent defects could accurately be described as trifling. If parties intend for practical completion to be dependent on certain aspects of the work being completed in accordance with the letter of the contract, they should draft carefully for this.

In contrast, a more precise approach to completion is often taken in contracts for mechanical plant or similar facilities, such as power stations. On these projects, ‘completion’ is only taken to occur if, amongst other things, certain testing and commissioning is completed satisfactorily, based on defined benchmarks. Liquidated damages may also be payable if the plant does not function according to a performance specification. Furthermore, completion may also be dependent upon the provision of “as built” documents, operation and maintenance manuals and other documents.

Exactly when practical completion will have occurred is dependent on the nature of the asset, its intended purpose and any relevant contractual provisions. Certainty on exactly when completion is achieved is important given its consequences: the commencement of the defects liability period, the potential end of liquidated damages, the possible impact on retention monies, and the movement of risk to the Employer, to name a few.

Mears v Costplan helpfully clarifies the approach that the English courts will take to determining controversies over the achievement of practical completion. But ultimately, if the contractual criteria for ‘practical completion’ are defined in only general terms, what this will mean is that disputes over the achievement of practicalcompletion will continue to arise in practice.