Third party rights in construction contacts: Court of Appeal confirms robust approach

United Kingdom

The Court of Appeal has recently upheld a Commercial Court decision lending support to a robust application of the Contracts (Rights of Third Parties Act) 1999. The Court of Appeal’s decision is likely to give further encouragement to the use of third party rights in the construction industry and beyond. By adopting a broad view of what is necessary to identify a class of beneficiaries for the purpose of the Act, the judgment may also pave the way for greater use of automatic vesting mechanisms with consequent savings in time and cost.

Chudley v Clydesdale Bank Plc

The Claimants were investors who made failed investments in a holiday resort development in Cape Verde. The investors sought to recover their investment by enforcing the terms of a contract to which they were not a party. The contract they wished to rely on was a letter issued by the promoters of the investment scheme to Clydesdale Bank instructing the bank to open a client account for the investments. The letter made reference to a “segregated client account” and imposed conditions on when funds could be withdrawn from the account, but did not otherwise expressly name the investors as parties paying into the account.

Among other issues before the court was whether the Contracts (Rights of Third Parties Act) 1999 (the “Act”) allowed the investors to enforce the terms of the letter of instruction.

The Court of Appeal

The Court of Appeal found broad agreement with the first instance decision that the investors were entitled to rely on the Act in order to enforce the terms of the letter. In finding this the court noted:

  1. Where the Act requires the “express” identification of a third party beneficiary (section 1(3)), the identification of a class of beneficiaries will be sufficient. Previous cases had left unclear the extent to which the requirement for “express” identification left room for a process of interpretation or an implication from the words used in the contract. In clarifying this issue, the court noted that whilst an implication would be insufficient to meet the test, the meaning of the words used and whether they expressly identified any given class of beneficiaries was to be part of a process of interpreting the contract as a whole. In this instance, the court found that the letter of instruction expressly identified a class of beneficiary by describing the bank account as a “segregated client account” – the class of beneficiaries were those clients of the promoter paying into the bank account;
  2. The contract in question also met the requirements of the Act to confer a benefit on the beneficiaries identified (section 1(1)(b)). The context of the segregated bank account being set up was to protect the funds being paid in by the investors, and the court found that this purpose was sufficient to show that benefit.
  3. Interestingly, the court gave short shrift to a suggestion that the above two criteria must be separately satisfied. They clarified texts quoted from respected text books stating that these requirements are “cumulative”, by expressly stating that this does not mean that one term (in this case the reference to the “segregated client account”) could not satisfy both requirements at the same time.
  4. Finally, the court also expressly acknowledged that a beneficiary need not have known about the existence of an underlying contract to be able to rely on it. In this instance, the investors did not know of the existence of the letter of instruction until relatively late on in proceedings, but this did not prevent their reliance on it.

Conclusion and implications

This decision provides clear and express support for a robust approach to the requirements of the Act for identifying third party beneficiary classes. Although not a case dealing with construction contracts, the decision is likely to encourage the growing market acceptance of third party rights in the construction industry as an acceptable alternative to collateral warranties. As noted in our Law-Now on the first instance decision (see here), and given the pragmatic and supportive tone of the Court of Appeal’s judgment, we may now see greater receptivity to contractual mechanisms that seek to automatically vest third party rights without the need for notice.

References: Chudley v Clydesdale Bank plc [2019] EWCA Civ 344.