Design obligations: fitness for purpose

As Karen Gidwani explains, this year brought the conclusion to the long-running case of MT Højgaard A/S v. E.ON Climate and Renewables UK Robin Rigg and another (“MTH v. E.ON”)1. Fenwick Elliott acted for MTH.

This was a case concerning the principles of contract interpretation in the context of a fitness for purpose clause. It was finally decided by the Supreme Court in E.ON’s favour. This article focusses in more detail on some of the arguments made by MTH and the treatment of those arguments by the Supreme Court.

A key issue to consider with this case is whether there is a trend now by the courts to take a more literalist approach to the interpretation of contracts. This is a trend that has been denied recently by the Supreme Court in Wood v. Capita Insurance Services Ltd2, but in some of the cases that have emerged since Arnold v. Britton3 (decided after the Court of Appeal decision in MTH v. E.ON) the court does appear to be more willing to look at the letter of the contract, placing less weight on intention and surrounding circumstances.4

The background

In 2006, E.ON engaged MTH to design, construct and install 62 foundations for the offshore wind farms at Robin Rigg, in the Solway Firth.

The foundations were designed and constructed as monopiles, with a transition piece that sat over the top of the monopile. The transition piece linked the monopile with the turbine tower. The transition piece was joined to the monopile by a grouted connection. The annulus between the monopile and the transition piece was filled with grout. The load from the transition piece was passed to the monopile not through adhesion of the grout as you might expect but instead by friction.

This type of grouted connection had a long history of usage in the oil and gas industry on jacket structures. However, the monopiles contemplated for offshore wind farms were much larger in diameter than the jacket structures used in oil and gas projects.

Det Norske Veritas (“DNV”) is a long-standing maritime organisation based in Norway which, amongst other things, publishes codes and standards for use on offshore projects. These are adopted for use in projects throughout the international shipbuilding and energy industries as codes which provide an acceptable level of safety for owners, investors and contractors. In 2004, DNV issued its first international standard (DNV-OS-J101 (“J101”)) aimed solely at the construction of offshore wind farms. J101 contained a section on the design and construction of grouted connections and set out a parametric equation to be used to ensure adequate load-bearing capacity of the grouted connection for the relevant construction.

The conditions of MTH’s contract with E.ON were loosely based on a FIDIC contract. The conditions included general obligations on the contractor at clause 8.1, and in particular:

“8.1 The Contractor shall, in accordance with this Agreement, design, manufacture, test deliver and install and complete the Works:

. . .

(x) so that each item of Plant and the Works as a whole shall be free from defective workmanship and materials and fit for its purpose as determined in accordance with the Specification using Good Industry Practice.”

The contract documents were numerous and diffuse, but it was agreed between the parties that the Technical Requirements, which formed part of the contract, were the Specification. The Technical Requirements (“TR”) consisted of over 300 pages and comprised 14 sections, including section 1 (General Description of Works and Scope of Supply) and section 3 (Design Basis).

TR 1.6 set out the Key Functional Requirements of the works including that the works should be designed for a minimum site-specific design life of 20 years without major retrofits or refurbishments. TR 1.6 also stated that works were to be designed and installed in accordance with international codes and standards, and that where the design differed from such standards then the adopted design basis had to be at least the equivalent of the requirements of the designated standard.

TR 3 contained a number of references to a design life of 20 years. TR 3.1 stated that:

“the requirements contained in this section and the environmental conditions given are the MINIMUM requirements of E.ON to be taken into account in the design. It shall be the responsibility of MTH to identify any areas where the works need to be designed to any additional or more rigorous requirements or parameters.”

TR 3.2.3 stated that J101 and its normative references applied and that MTH’s design was to be in accordance with international and national rules with a stated hierarchy; and J101 was at the top of that hierarchy.

TR 3.2.5 stated that the design of and construction of the grouted connections were to be carried out using J101.

The key section of the TR for the purposes of the ligation was the second paragraph of TR 3.2.2.2 (referred to in the Supreme Court as TR 3.2.2.2(ii)). TR 3.2.2.2 stated:

“The detailed design of the foundation structures stall be according to the method of design by direct simulation of the combined load effect of simultaneous load processes (ref: DNV-OS-J101). Such a method is referred to throughout this document as an ‘integrated analysis’.

The design shall be optimised using an integrated foundation, transition piece, and tower model with combined wind and wave loading . . . The design of the foundations shall ensure a lifetime of 20 years in every aspect without planned replacement. The choice of structure, materials, corrosion protection system operation and inspection programme shall be made accordingly.”

By February 2009, MTH had installed all the foundations at Robin Rigg. The foundations were ultimately certified by DNV as compliant with J101.

In September 2009, DNV notified the offshore wind industry that it had discovered an error in J101 which meant that the relevant parametric equation for the design of grouted connections overestimated the axial capacity of the connection. This overestimation was eventually quantified as being by an order of magnitude and part of the problem had been the transfer of knowledge from small diameter piles in oil and gas to large diameter piles used in offshore wind farms. As a result the transition pieces could slip down over the monopiles, leading to instability and eventually failure of the structures. The problem in the equation was the use of the value δ, which imported an incorrect figure for the design calculations.

In June 2010 E.ON notified MTH that it considered the issue with the grouted connections to be a defect that was MTH’s responsibility and requested MTH to rectify the defect at its own cost. MTH denied responsibility, saying that the failure of the grouted connections was due to an error in J101, which was not a matter that MTH was responsible for under the contract.

The dispute was heard by the High Court in 2013. E.ON argued that under the contract (in particular reading clause 8.1(x) and TR 3.2.2.2(ii) together) MTH had provided an absolute warranty that the foundations would be fit for the purpose of safely transmitting loads for a 20- year lifetime and that there had been a breach of this warranty. In the alternative, E.ON argued that MTH had been negligent in its design of the grouted connections, and as a result was responsible for the cost of the necessary rectification works.

MTH argued that it was not negligent in its design and that there was no absolute warranty. Fundamental to MTH’s position was how the references to J101 and the concept of design life should be considered in construing the contract (a more detailed discussion of which is below).

In a judgment issued in April 2014, the High Court found that MTH had not been negligent in undertaking its design but that on a proper construction of the contract, including clause 8.1 and the TR, there was an absolute warranty that the foundations would have a 20-year lifetime. MTH appealed the warranty finding to the Court of Appeal. E.ON cross-appealed on certain aspects of the negligence case.

The appeal was heard in February 2015 and the Court of Appeal issued its judgment in April 2015. The Court of Appeal unanimously allowed MTH’s appeal and found that on a proper construction of the contract, TR 3.2.2.2(ii) was “too slender a thread upon which to hang a finding that MTH gave a warranty of 20 years life for the foundations”. With regard to E.ON’s cross-appeal, the Court of Appeal found that MTH had breached the contract in one regard but that this had had no causative effect with regard to the failure of the grouted connections. E.ON was awarded £10 nominal damages.

E.ON appealed the warranty finding to the Supreme Court.

The nature of the absolute warranty

As a matter of jurisprudence, a warranty of the type argued by E.ON cannot be seen to be repugnant in English law. This is because of (a) the overarching principle of freedom of contract; and (b) the body of case law on (i) implied terms (whether in the common law or statute) for suitability of materials, goods and workmanship and fitness for purpose; and (ii) express terms with regard to suitability.

In making its argument on the absolute warranty, E.ON relied in each court on the line of authority that considers express terms for suitability in construction contracts, in particular two Canadian cases: Steel Company of Canada Ltd v Willand Management Ltd (1966) (“the Canada Steel case”) and Greater Vancouver Water District v North American Pipe & Steel Ltd (2012).

In the Canada Steel case, a roofing contractor was asked by the employer’s representatives for advice on the best method of constructing a particular steel sheet roof. The contractor discussed, amongst other things, a substance called Curadex which was subsequently specified. The contractor used Curadex and gave a five-year warranty that all the work specified would remain weathertight and that all material and workmanship employed were “first class and without defect”. The Curadex failed, even though it was properly applied. The Supreme Court of Canada held that, notwithstanding the final selection of Curadex by the Employer, “first class and without defect” referred to the purpose and intended use of the work and therefore the contractor was responsible for the failure of the Curadex.

In the Greater Vancouver case, a supplier of materials contracted with an employer to supply pipes for a construction project. The employer specified the type of pipe and how it was to be protectively coated. The supply agreement stated that the contractor warranted that the goods would conform to all applicable specifications and, unless otherwise specified, would be fit for the purpose for which they were to be used. The contractor further warranted that the goods would be free from all defects arising at any time from faulty design in any part of the goods. The pipe was manufactured according to the employer’s specification but suffered serious defects due to the coating specified. The supplier was found to be liable as a result of the warranties that had been given. The Court of Appeal of British Columbia held that there was no inconsistency between the obligation to comply with a specification and the obligation arising from a suitability warranty (the “dual obligation” as it was phrased in the MTH v E.ON judgments); the warranty was simply an allocation of risk between the parties which could be dealt with at the time of contract negotiation.

This line of authority has led the editors of Hudson’s to summarise the position as follows:5

“When a Contractor expressly undertakes to carry out work which will perform a certain function in conformity with plans and specifications and it turns out the work so constructed will not perform the function, the express obligation to construct work capable of carrying out the duty in question overrides the obligation to comply with plans and specifications.”

What made MTH v E.ON different?

On the face of it, one could surmise that the facts of MTH v E.ON simply fit into the Canada Steel line of authority. However, if that were true then it is unlikely that the case would have been fought all the way to the Supreme Court.

This was a case that involved express terms. The question was therefore always a matter of construction: did the parties intend to agree the warranty in question or not? This is a question to be judged using the established principles of contract interpretation. This means an objective interpretation, reading the contract as a whole.

In the recent case of Capita v Wood, Lord Hodge summarised the law on contractual interpretation as follows:

“10.          The court’s task is to ascertain the objective meaning of the language which the parties have chosen to express their agreement. It has long been accepted that this is not a literalist exercise focused solely on a parsing of the wording of the particular clause but that the court must consider the contract as a whole and, depending on the nature, formality and quality of drafting of the contract, give more or less weight to elements of the wider context in reaching its view as to that objective meaning. . . .

11.            Interpretation is, as Lord Clarke stated in Rainy Sky (para 21), a unitary exercise; where there are rival meanings, the court can give weight to the implications of rival constructions by reaching a view as to which construction is more consistent with business common sense. But, in striking a balance between the indications given by the language and the implications of the competing constructions the court must consider the quality of drafting of the clause (Rainy Sky para 26, citing Mance LJ in Gan Insurance Co Ltd v Tai Ping Insurance Co Ltd (No 2) [2001] 2 All ER (Comm) 299 paras 13 and 16); and it must also be alive to the possibility that one side may have agreed to something which with hindsight did not serve his interest: Arnold (paras 20 and 77). Similarly, the court must not lose sight of the possibility that a provision may be a negotiated compromise or that the negotiators were not able to agree more precise terms.

12.            This unitary exercise involves an iterative process by which each suggested interpretation is checked against the provisions of the contract and its commercial consequences are investigated: Arnold para 77 citing In re Sigma Finance Corpn [2010] 1 All ER 571, para 10 per Lord Mance. To my mind once one has read the language in dispute and the relevant parts of the contract that provide its context, it does not matter whether the more detailed analysis commences with the factual background and the implications of rival constructions or a close examination of the relevant language in the contract, so long as the court balances the indications given by each.

13.            Textualism and contextualism are not conflicting paradigms in a battle for exclusive occupation of the field of contractual interpretation. Rather, the lawyer and the judge, when interpreting any contract, can use them as tools to ascertain the objective meaning of the language which the parties have chosen to express their agreement . . .”

In addressing both text and context, in MTH v E.ON there were some compelling points to consider:

- How the obligation was phrased. The warranty referred to fitness for purpose in accordance with the Specification. This took you to the TR, a document which was over 300 pages long, in 14 parts, and from there purpose was to be extracted.

- The purpose that E.ON identified in the TR was a 20-year lifetime. However, the TR contained, mainly, references to a 20-year design life.

- The TR also stated that the design must be carried out in accordance with J101.

- It is important to understand design life in the context of an international standard and, in particular, J101. It is a stochastic concept, whole life is not guaranteed. Therefore, MTH argued, the references to design life were references to probable life, not an actual lifetime of 20 years. In this regard TR 3.2.2.2(ii) stood out as only one of a couple of references to actual life rather than design life.

- E.ON’s argument essentially rested on one paragraph; this was “an over-literal interpretation of one provision without regard to the whole”.6

- MTH also argued that the whole life obligation that E.ON sought to impose was inconsistent with the defects liability regime (which limited liability for defects to two years following takeover), the provision in the contract for a conclusive final certificate and the exclusive remedies clause contained in the contract.

E.ON’s primary argument was that by clause 8.1(x) the foundations were to be fit for purpose, that such purpose was to be determined by reference to the TR and that TR 3.2.2.2(ii) in particular effectively identified the purpose for which the foundations were required, namely to support the superstructure throughout a lifetime of 20 years.

Part of understanding MTH’s case was to understand J101 and how it worked. Relying on the references to “minimum” requirements, E.ON’s case was that MTH could and should have done something more (“the extra mile” as it was termed in the Court of Appeal) such that the problem with the grouted connections would be avoided. In the Supreme Court, E.ON argued that such further steps could have included, for example, applying a longer design life, more onerous load factors, a more conservative corrosion allowance or changing the fatigue strength of the grout.

However, MTH argued that this would make no difference when designing using J101. The consequence of a design that is compliant with J101 is one which has a satisfactory nominal annual probability of failure throughout its design life. There is no basis within J101 to change that nominal annual probability of failure. Had MTH tried to apply a longer design life for example, this would have made no difference to the nominal annual probability of failure. Accordingly the design life was never guaranteed.

MTH also emphasised the nature of J101 as an international standard. Its objective was to provide internationally accepted levels of safety, to be a contractual reference document and provide a basis for certification and verification, giving confidence to investors, owners and insurance companies in any given project and allowing optimisation of the structural design.

MTH argued that if E.ON was correct in its analysis then the warranty argued for amounted to a warranty of the adequacy of J101. Objectively the parties cannot have intended MTH to take on this risk without express words. This could be tested by looking at extreme weather conditions. The design in J101 is based on the occurrence of certain weather events (in this case a 1 in 50 years storm). If E.ON was correct then the result was that in the event of such a storm in year 17 which caused damage to the foundations, MTH would be responsible for repair.

The Supreme Court decision

The parties went before the Supreme Court in June 2017 and the judgment was issued in August 2017. The judgment was written by Lord Neuberger with whom all the other judges agreed.

Lord Neuberger disagreed with the Court of Appeal and considered that TR 3.2.2.2(ii) was sufficient to impose responsibility for the grouted connections onto MTH.

Before considering the question of liability in detail, Lord Neuberger addressed the argument as to the inconsistency of such a warranty with the defects and liability provisions in the contract. He stated that there was “no answer” to MTH’s analysis of the effect of these clauses. Significantly, however, he went on to say that, notwithstanding the tension between these clauses, a warranty that the foundations would last for 20 years was “not so problematical” that it would undermine the conclusion that TR 3.2.2.2(ii) was such a warranty.

Lord Neuberger then went on to consider and comment on a point not raised by either party in their submissions, but raised in oral argument by the panel at the hearing. Lord Neuberger considered there to be a “powerful case” to say that rather than warranting that the foundations had a lifetime of 20 years, TR 3.2.2.2(ii) amounted to an agreement that the design of the foundations was such that they would have a lifetime of 20 years. This would obviate any tension, in Lord Neuberger’s view, with the defects and liability clauses.

Lord Neuberger went on to reject MTH’s arguments in respect of inconsistency between the warranty and the use of J101 and to find that the situation was akin to the Canada Steel line of authority. Lord Neuberger rejected the analysis of the Court of Appeal that TR 3.2.2.2(ii) was too slender a thread on which to hang the warranty.

In coming to this conclusion, Lord Neuberger considered the nature of J101 and accepted that it was stochastic and that, on that basis, the parties knew this and would allocate the risk of the failure between them. In his view, TR 3.2.2.2(ii) allocated this risk to MTH.

Lord Neuberger also found that under the contract, J101 was a minimum standard and therefore MTH was obliged to consider design approaches that differed from the standard and could in fact have adopted a different value for δ.

If one returns to the principles of contract interpretation neatly summarised by Lord Hodge in Wood v Capita, the theory is such that if you consider both context (J101 etc.) and text (TR 3.2.2.2(ii)), there was strength in MTH’s arguments (as accepted by the Court of Appeal). Notwithstanding, the Supreme Court ruled in favour of the text and in doing so there are some oddities in its reasoning. For example, the consideration of a warranty of the design itself (not an argument raised by either party) is not clear and seems to have been used to validate the finding that the warranty prevailed despite the other contract terms on defects and liability. Further, Lord Neuberger went so far as to say that MTH could have used a different figure for δ but this ignores the fact that in practice it is difficult to see how MTH would have been allowed to deviate from J101 in this way.

One may question whether theory and practice are now diverging and that a trend is emerging of a more literal approach to contract interpretation, even if this has not been expressly stated by the court. This is also reflected, it is submitted, in a paper published by Lord Sumption (one of the judges on the panel in the MTH v E.ON case) in May 2017.7 In that paper he stated:

“One would think that the language that the parties have agreed provided the one sure foundation for a hypothetical reconstruction of their intentions. However, rather more than thirty years ago, the House of Lords embarked upon an ambitious attempt to free the construction of contracts from the shackles of language and replace them with some broader notion of intention. These attempts have for the most part been associated with the towering figure of Lord Hoffmann. More recently, however the Supreme Court has begin to withdraw from the more advanced positions seized during the Hoffmann offensive, to what I see as a more defensible position.”

Lord Sumption went on to acknowledge that:

“if the Supreme Court has sounded a retreat, it has, I must admit, sounded it in rather muffled tones. It has not actually admitted that earlier decisions went too far...”

Concluding Thoughts

It is rare for a unanimous Court of Appeal to be overturned. In essence, the obligation imposed on MTH was an obligation that was encapsulated in two or three paragraphs in a lengthy and nuanced contract document, despite inconsistencies with other parts of the contract. Those words were given primacy by the Supreme Court. In his paper, Lord Sumption argues that a loose approach to the construction of commercial documents may have done a disservice to commercial parties by depriving them of the only effective means of making their intentions known. Each case must turn on its facts, but it is equally a disservice to commercial parties to override intention and surrounding circumstances to adhere to words which neither party may have realised the effect of at the time of drafting.

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• 1. [2017] UKSC 59
• 2. [2017 UKSC 24
• 3. [2015] AC 1619; see for example Balfour Beatty Regional Construction Ltd v. Grove Developments Ltd [2016] EWCA Civ 990
• 4. Principles of construction that emerge from the line of authority starting with ICS v. West Bromwich Building Society [1998] 1 WLR 896 and culminating in Rainy Sky v. Kookmin Bank [2011] 1 WLR 2100
• 5. Robert Clay and Nicholas Dennys, QC (eds), Hudson’s Building and Engineering Contracts, 13th edn, Sweet & Maxwell, 2016, para 3-095(5)
• 6. See Re Sigma Corp [2010] 1 All ER 571 per Lord Collins
• 7. Lord Sumption, “A Question of Taste: The Supreme Court and the Interpretation of Contracts”, Harris Society Annual Lecture, Keble College, Oxford, 8 May 2017.