J & A CONSTRUCTION (SCOTLAND) LTD v WINDEX LTD
Scotland, Outer House, Court of Session
Lord Malcolm
30th October 2013
THE FULL TEXT OF THE OPINION OF LORD MALCOLM
[1] In this action the defenders resist enforcement of an adjudicator's award of £120,000 or thereby on the basis
that the pursuers' last publicly available accounts show an excess of liabilities over assets. They complain that
the pursuers have failed to provide details as to their current financial position. Their note of argument states:
"An excess of liabilities over assets, taking into account contingent and prospective liabilities, is a basis
for winding up a company under sections 122(1) and 123(2) of the Insolvency Act 1986. Such an
excess of liabilities over assets accordingly establishes insolvency. It is proper to infer from the whole
pleadings, and bearing in mind the flexibility of commercial cause procedure, that the pursuer is
insolvent, or at least verging on insolvency".
Reference is made to a substantial claim against the pursuers in Glasgow Sheriff Court. It is contended that no
blame for the state of the balance sheet lies with the defenders' failure to pay the award. Mr Broome submitted
that the pursuers allowed many months to elapse between the application for payment and the referral to
adjudication. The absence of urgency then indicates that there is no urgency now. The adjudication regime set
down in the Housing Grants, Construction and Regeneration Act 1996 does not exclude the equitable principle
of the balancing of accounts in bankruptcy. It should be applied in the present circumstances to prevent
enforcement, failing which, before any enforcement, there should be an inquiry into the financial position of the
pursuers.
[2] For the pursuers, Mr Thomson stressed that there had been no formal insolvency event, such as a liquidation
or an administration order. Failing an offer to prove that such is imminent, it is not open to the defenders to
resist enforcement by reference to mere averments that the pursuers are insolvent, or verging on insolvency. Mr
Thomson was content to proceed upon the basis that the pursuers' liabilities continue to exceed their assets.
However, many companies operate successfully for long periods in such circumstances. The pursuers trade as a
going concern, and have continued financial support from associated companies and directors' loans, which are
not repayable in the short to medium term. The pursuers are not the subject of any insolvency proceedings nor
any similar arrangement for creditors. Additional sums will become due by the defenders in respect of the final
account. The policy of the adjudication regime is that adjudicators' awards should be enforced by the courts. To
allow contested averments as to insolvency, or near insolvency, to delay matters would run counter to the need
for speedy decision-making in adjudications.
Discussion
[3] A similar issue came before Lord Macfadyen in SL Timber Systems Limited v Carillion Construction Limited
2002 SLT 997. At paragraph 30 his Lordship said this:
"...the cases do not seem to me to afford any clear support for the proposition that, in the case of a
pursuer company which is not in liquidation, averments of insolvency are a relevant defence to an
enforcement action. It seems to me that I must approach the matter by turning once again to the terms
of the 1996 Act and the scheme made thereunder. There seems to me to be nothing in the legislative
provisions to qualify the expressed intention that an adjudicator's provisional award should be enforced
pending final resolution of the dispute, to the effect of making an exception in the case where the
claimant, although not in liquidation, can be shown to be insolvent. I am therefore not persuaded that
the defenders' averments to the effect that the pursuers are insolvent constitute a relevant defence".
This provides powerful support for Mr Thomson's basic proposition.
[4] In Integrated Building Services Engineering Consultants Limited v PIHL UK Limited [2010] BLR 622, Lord
Hodge expressed qualified agreement with Lord Macfadyen's approach. The qualification was "insofar as it may
be understood to assert that the undisputed insolvency of the claimant cannot be a defence if the claimant is not
in liquidation" (emphasis added). The pursuers were in administration with a deficiency of assets for nonpreferred creditors of £6.9 million. The administrators considered that unsecured creditors would receive a
dividend of no more than 3 pence in the pound. After the administration the company would be wound up or
deemed to be dissolved. At paragraph 28 of his judgment, Lord Hodge said:
"I doubt if allegations of insolvency, which were seriously contested, would justify the application of
the principle (of balancing of accounts in bankruptcy) in the context of the 1996 Act".
At paragraph 34 his Lordship said:
"It may be that it is very difficult or almost impossible to operate the principle when a person's
insolvency is not demonstrated by a formal legal act.....".
Earlier he observed (paragraph 21):
"I have no difficulty in accepting a proposition that mere averments of the claimants' insolvency, which
the claimant contests, as in the SL case, should not provide a basis for the court delaying the
enforcement of an adjudicator's decision. To allow delay on that basis would defeat the aims of part II
of the 1996 Act".
[5] Mr Broome pointed to the terms of sections 122 and 123 of the 1986 Act. They allow a company to be
wound up by the court if it is unable to pay its debts. A company is "deemed to be unable to pay its debts if it is
proved to the satisfaction of the court that the value of the company's assets is less than the amount of its
liabilities, taking into account its contingent and prospective liabilities" (section 123(2)). Counsel submitted that,
unless the pursuers satisfy the court that they are able to pay their debts, the company should be treated as
insolvent, or verging on it, in which case the defenders should be allowed to retain the sum awarded in the
adjudication by operation of the doctrine of the balancing of accounts in bankruptcy. Reference was made to
several cases and textbooks which vouch the proposition that this is an equitable principle which, when
appropriate, can be applied in cases where the creditor is on the point of insolvency (sometimes referred to as
vergens ad inopiam).
[6] I recently reviewed this area of the law in Connaught Partnerships Limited (in administration) v Perth &
Kinross Council [2013] CSOH 149. I noted that in England and Wales, and subject to certain qualifications, a
stay of execution of summary judgment will usually be awarded if the claimant is insolvent. The English
solution can be achieved in Scotland by the balancing of accounts in bankruptcy. This ensures that the claimant's
insolvency does not cause a provisional award to become, in effect, the final outcome. The issue in the present
case comes to be this - have the defenders averred sufficient by way of the alleged insolvency of the pursuers to
prevent enforcement of the adjudicator's award, or at least to require an investigation into whether the pursuers
will be able to reimburse the defenders should the award prove to be erroneous?
[7] Earlier I referred to observations of Lords Macfadyen and Hodge which indicate that the court should be
wary about refusing enforcement in the absence of clear or uncontested evidence of insolvency. There are many
decisions which outline the policy reasons for such caution. Adjudication is intended to provide a speedy
method for the provisional settlement of disputes in construction contracts, all to protect cash flow in the
industry. In one of the cases considered by Lord Macfadyen, an English judge said:
"It is a robust and summary procedure and there may be casualties although the determinations are
provisional and not final".
[8] In Straw Realisations (No.1) Limited (in administration) v Shaftsbury House (Development) Limited [2011]
BLR 47, Edwards-Stuart J observed that, if and when there has been an event, such as a court order, which
affects the assets of one of the parties or the ability of a party to bring proceedings to challenge a decision of an
adjudicator, the order of priorities between the need to enforce the decision of adjudicators and the need to
implement the rules of insolvency "shifts in favour of the latter" (paragraph 84). The implication was that, in the
absence of such an event, the court should enforce the adjudicator's award.
[9] Mr Broome submitted that, given the terms of section 123(2) of the 1986 Act, an uncontested balance sheet
deficiency justifies refusal of enforcement, at least pending a more detailed inquiry into the claimants' finances.
There is recent case law south of the border on the application of different parts of section 123. The most
authoritative is the UK Supreme Court decision in BNY Corporate Trustee Services Limited v Eurosail-UK
2007-3BL plc & others [2013] 1 WLR 1408. Warren J considered it and the other decisions in Casa Estates
(UK) Limited (in liquidation) [2013] EWHC 2371 (Ch). The following general observations are derived from
his analysis and from the decisions he mentions.
[10] The principal function of section 123 is to define situations in which a company is unable to pay its debts
for the purpose of winding up proceedings under section 122. The balance sheet and cash flow tests of
insolvency are both aimed at this question. They are fact sensitive tests - not to be applied in a mechanistic or
arithmetical manner. The starting point is to assess whether a company is "commercially" able to pay its debts as
they fall due. A company may remain creditworthy and fully entitled to trade notwithstanding that its liabilities
exceed its assets. The burden of proof is on the party asserting balance sheet insolvency. All relevant
circumstances must be considered in addressing whether the company cannot reasonably be expected to meet its
liabilities when they fall due (Lord Walker at paragraphs 37 and 42 of Eurosail). There is no rigid demarcation
between the cash flow and the balance sheet tests. They are part of a single exercise designed to determine
whether a company is unable to pay its debts. For example, further loans to the company may ameliorate short
term cash flow problems, but also give rise to balance sheet concerns (Casa paragraph 35). The deeming
provision of section 123(2) might not be applied even though the balance sheet shows a large deficit, and even if
that is explained by an excess of immediate liabilities over assets - though this may place an evidential burden
on the company to show that, despite a prima facie case of insolvency, it can still pay its debts when due (Casa
paragraphs 80-82).
[11] I accept Mr Broome's general proposition that in cases of bankruptcy, or near bankruptcy, the court has an
equitable power to allow the retention of a liquid debt pending resolution of an illiquid claim against the
creditor. There are numerous cases which vouch that, when appropriate, the court will exercise this power. (Ross
v Ross (1895) 22R 461 is a good example.) Furthermore, for the purpose of the application of sections 122/3,
usually in the context of winding up or administration orders, there may be cases where a balance sheet
deficiency will, in the specific circumstances, create a presumption, or something close to a presumption, of
insolvency. However, these are not winding up proceedings. I am considering whether an adjudicator's award
should or should not be enforced by the court. If a balance sheet deficiency could, in itself, prevent or delay
enforcement, this would have serious ramifications for the operation of the adjudication regime, which was
intended to provide a speedy and reasonably certain, albeit provisional, resolution of construction contract
disputes. Even in the context of winding up petitions, a balance sheet deficiency does not necessarily mean that
an order will be granted. If in due course, the present award proves to be erroneous, or if the defenders make out
their claim currently pending in Glasgow Sheriff Court, enforcement of payment now may come to seem unfair.
However, unless the likelihood of that can be clearly demonstrated now by the defenders, for example by
reference to undisputed insolvency of the kind which was influential in Integrated Building Services and
Connaught Partnerships, in my opinion the policy underpinning the adjudication regime points to immediate
enforcement of the award.
[12] I cannot conclude now that it is likely that, if an ultimate resolution of the dispute favours the defenders, the
pursuers will be unable to reimburse them. The uncontested fact of a balance sheet deficiency does not prove
that this will be the result. It is unnecessary to hold that only a formal insolvency event can meet this test - but I
agree with the earlier quoted remarks that, absent clear or uncontested evidence that this is the case, it will be
very difficult for a defender to resist enforcement of an adjudicator's award.
[13] It is tempting to order an inquiry into the pursuers' finances since it may reveal substantial problems both
now and in the future; but to do so would inject unacceptable delay and uncertainty into the operation of the
adjudication system as envisaged by Parliament when passing the 1996 Act. In the context of a general equitable
or discretionary power, given the policy considerations at work, I consider that much more would be required
before it would be appropriate to prevent or delay enforcement of the adjudicator's award.
[14] The point is not without difficulty. An adjudicator's award is a novel and unusual legal beast. It amounts to
an enforceable liquid debt - but it has been arrived at by the use of a process designed to provide a quick, rather
than a correct result. It is provisional and subject to the ultimate resolution of the dispute. It is hardly surprising
that on occasions judges struggle to fit this odd creature into established concepts and structures. However my
conclusion is that too much violence would be done to the adjudication regime as intended by Parliament if the
defenders' plea were to succeed. It is one thing if the defenders can point to a clear case of insolvency, such as in
Lord Hodge's case or Connaught Partnerships. It is entirely another if the most that can be said is that there is a
balance sheet deficiency.
An alternative ground of defence
[15] Mr Broome presented an alternative ground for resisting enforcement of the award. He submitted that the
adjudicator had no jurisdiction to order redress. This was on the basis that, as at the date of the referral to
adjudication, no dispute between the parties had "crystallised", thus the requirement for a dispute in section
108(1) of the 1996 Act was not met. According to Mr Broome a dispute emerged only during the adjudication
process. The background is that the pursuers undertook to carry out building works for the defenders. The
pursuers contested the architect's interim certificates nos. 13 and 14. When compared with their earlier valuation
of the work (interim payment application no. 13), there was a claim for an under-payment of some £220,000.
The defenders did not pay the balance and the claim was referred to adjudication.
[16] The defenders raised the jurisdictional issue with the adjudicator. He dealt with it in a letter - much of
which is reproduced in his decision. The basis for the plea both before the adjudicator and in this court, was that,
at the time of the referral to adjudication, there was an ongoing dialogue and exchange of information between
the parties on the issues between them "which had not been exhausted and which had not led to the position
whereby J & A had settled its considered entitlement at 'X' figure and been told by those representing Windex
that they were only getting 'Y' figure". The adjudicator offered his "non-binding" opinion. He said "It is clear to
me that a dispute has arisen as sums have been applied for and not paid, and discussions have not resulted in any
agreement as to payment. Thus, a dispute as to what is the correct valuation and what is to be paid appears to
have arisen". The dispute crystallised when the architect issued his interim payment certificates for amounts
below the referring party's payment application.
[17] While I am not sure that the word "crystallised" adds anything (either there is or there is not a dispute), Mr
Broome has failed to persuade me that the adjudicator's decision on this issue was wrong. It is true that
discussions on various matters were ongoing, and that there were outstanding action points at the time of the
referral to adjudication. But in my opinion none of that indicates the absence of a dispute or that no dispute had
crystallised. Judges have been exhorted to give the term "dispute", as it appears in section 108 of the 1996 Act,
its normal meaning, and not to indulge "opportunistic technicalities" - see for example the comments of May LJ
in Amec Civil Engineering Limited v Secretary of State for Transport [2005] 1 WLR 2339. The facts in the
present case point to the parties being in dispute at the date of the referral to adjudication in relation to the
difference between the pursuers' valuation and the interim certificates. It is artificial and wrong to assert that a
dispute arose only in the course of the adjudication. Long before then the parties were at issue as to the correct
valuation of the work concerned.
[18] In Collins (Contractors) Limited v Baltic Quay Management (1994) Limited [2005] BLR 63, Clarke LJ (as
he then was) rejected the notion that ongoing negotiations or discussions either negate or render unlikely the
existence of a dispute. He continued:
"It appears to me that negotiation and discussion are likely to be more consistent with the existence of a
dispute, albeit an as yet unresolved dispute. It also appears to me that the court is likely to be willing
readily to infer that a claim is not admitted and that a dispute exists so that it can be referred to
arbitration or adjudication" (paragraph 64).
Brooke LJ and Neuberger J (as he then was) agreed with those remarks. Similar comments were made by Judge
Havery, QC in Redworth Construction Limited v Brookdale Healthcare Limited [2006] BLR 366 at paragraph
49. No doubt in one context there might be a concern that a party could be forced into an adjudication on an
impossibly tight timescale (see the remarks of Rix LJ in Amec) but, whatever else, this is not such a case. As Rix
LJ said "...like most words, 'dispute' takes its flavour from its context". In other words, there are no hard-edged
rules - each case will turn on its own facts. Lord Drummond Young's opinion in John Stirling v Westminster
Properties Scotland Limited [2007] BLR 537 indicates that there is no different or separate Scottish approach to
the issue.
[19] I shall repel the defenders' pleas-in-law, uphold those of the pursuers, and grant the pursuers' motion for
decree in terms of the conclusions of the summons.