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Risk management

Published: 17 January 2018
Area of Law: Construction, Corporate Insolvency

What do I do if a large client goes bust overnight – 6 steps for sub-contractors

With Carillion’s sudden demise dominating the news agenda over the last week, many sub-contractors may have been left wondering what happens IF one of their large clients unexpectedly enters compulsory liquidation. 

Our construction insolvency team highlight the key considerations for sub-contractors when faced with such devastating circumstances and six crucial steps to take now. Here is what you need to know:

Do you have a public sector contract?

The damage caused by Carillion’s situation this week has many different outcomes depending on the type of contact held with them.

Those involved in public sector contracts have been given some assurance by the Government that these will be honoured and will continue. Moreover, costs that have been incurred to date during the liquidation will be paid as an expense of the liquidation going forward. 

Do you have a private sector contract?

The matter gets a lot more complex if you’re involved in a private sector contract with the construction giant. The current state of play suggests that the majority of sub-contractors and suppliers will only be paid for two days, meaning that significant losses could be on the horizon.

What does this mean for private sub-contractors?

Because Carillion often uses 120-day payment terms, and substantial sums are due to senior lenders, many of its sub-contractors could be significantly out-of-pocket.

What steps can you take to protect your rights and improve your position?

Step one - assess your position

Firstly, it is essential for sub-contractors to assess the extent of their exposure.  This will vary from business to business. 

Example - A small business with three months’ unpaid invoices, where Carillion contracts represent 50% of their business, could conclude that their business model is unsustainable without some significant restructuring or refinancing.  Others may find that some form of mitigation is possible to limit their exposure to financial risk.

Step two - understand your contracts

Termination clauses could pose a particular problem for sub-contractors. When reviewing the true impact of a large customer going into liquidation, you should aim to understand your contractual obligations fully and seek to suspend or terminate supplier contracts as required.  Any relevant notices should be issued correctly and on time.
 
In many cases, the liquidator has to ensure that contracts are completed in order to recover costs and work in progress.  This can be done by arranging for works to be completed or novating contracts to another contractor with the employer’s consent.  If this does not happen, the value of certified sums and work in progress is very likely to be completely eroded by the employer’s termination claims.  For this reason, often the liquidator may consider novation of contracts to a replacement main contractor. Sub-contractors may not be obliged to novate their contracts, and this presents an opportunity for key sub-contractors on valuable projects to re-negotiate terms which may, for example, include a partial or full payment for work completed to date. 

Step three - review your physical assets

It is also advisable for sub-contractors to take legal steps to recover any plant or materials that may have been left onsite and for which they remain unpaid. Records should also be kept up to date to evidence the status of works carried out, monies paid and sums still outstanding.

The legal position in relation to title of goods on site for which the sub-contractor has not been paid can be complicate. If you’re unsure of what the ongoing legal obligations are, it may be more time and cost effective to seek advice to understand your rights between the employer and your suppliers in respect of specific contracts.

Step four - understand who is liable

A sub-contractor should consider any potential liability towards an employer through a direct contract, or collateral warranty, or an implied contract. A sub-contractor might have a duty of care to an employer or future occupiers and/or owners of the building in respect of personal injury and property damage to the property.  A sub-contractor may also be liable to the employer by virtue of the drawings and/or specifications or other documents produced by the sub-contractor, if those documents have been produced negligently.

Step five - can you restrict payment?

It may be possible for sub-contractors to withhold payment down the supply chain under the Housing Grants, Construction and Regeneration Act 1996 (as amended).  This detail may not have been noted when the contract was signed and some sub-contractors could be left counting the cost. 

Step six - identify your insurance cover

Some sub-contractors may have insurance cover and understanding the precise terms of it should also be considered closely. The inclusion of creditor insurance could minimise the sub-contractor’s financial exposure, risk and impact of losing a large customer unexpectedly.

What next?

The complex nature of many supply chains in the construction sector suggests that the fall-out from Carillion’s demise has only just begun and the situation will continue to develop over the coming days and weeks. 

It is vital that you keep abreast of the ongoing updates to ensure that key steps can be taken to recoup costs, or continue to carry out contracts where possible. Understanding your rights, opportunities to leverage your position and areas where any potential losses can be mitigated will be crucial during this difficult time. 

If you have any concerns and would like to speak to someone about the precautionary measures you can put in place then please contact one of our experts: Michael Muligan (insolvency) on 02072644432 or email michael.mulligan@shma.co.uk; (construction) on 0121 631 5372 or email rachael.hobbis@shma.co.uk; or Matthew Sutton (commercial contracts) on 0121 237 3064 or email matthew.sutton@shma.co.uk.

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