On 22 January 2021, the High Court handed down its judgment in Westminster City Council v Sports and Leisure Management Limited  EWHC 98 (TCC).
The Court had been asked to determine the allocation of risk under a leisure management concession contract in respect of losses arising from the COVID-19 restrictions. The Court held that the (non-standard) qualifying change in law provisions did not require the Council to pay a "reverse" Management Fee to the contractor.
SLM entered into what the parties agreed was a concession contract with the Council on 23 June 2016 for the management of leisure facilities. Under this contract, SLM pays a Management Fee (as defined in the contract) to the Council; in return, SLM is entitled to keep the revenue from customers at the leisure facilities.
Initially, the contract was profitable for SLM; however, due to the various lockdowns and restrictions on leisure services arising from COVID-19, SLM began to make substantial losses. It was common ground that the lockdown restrictions were a Specific Change in Law; therefore, they were a Qualifying Change in Law (both as defined in the contract) and clause 39 provides a mechanism for dealing with changes arising from Qualifying Changes in Law. The parties, however, disagreed on how the resulting loss of customer revenue should be allocated between them.
Accordingly, the Council sought declaratory relief as to the true meaning and effect of the disputed contractual provisions.
As stated above, under the contract, SLM pays a Management Fee to the Council.
The Council sought a declaration that, on the proper construction of the contract, a Specific Change in Law does not reduce the Management Fee to below zero; therefore, the Council is not obliged to make any payment to SLM by way of a reverse or negative Management Fee. The Council argued that:
the maximum possible effect of a Specific Change in Law is, subject to its agreement, to reduce the Management Fee to zero; and
it therefore cannot be obliged to make any payment to SLM - nothing in the contract requires it to indemnify SLM against all losses arising from a Specific Change in Law.
SLM argued that, in line with the widely used Sport England contract terms, the contract requires the Council to bear the financial consequences of a Specific Change in Law. SLM argued that, on the correct interpretation of the contract, it should not be financially worse off as a result of a Specific Change in Law; to this end, the required adjustment to the Management Fee resulting from a Specific Change in Law should be based on a specific arithmetic calculation which may produce a negative Management Fee (i.e. an amount paid to, not by, SLM).
The Court granted the Council’s declaration.
The Court acknowledged that the contract had broadly followed the standard Sport England terms, but stated that this did not provide much assistance: the Sport England terms provide for a balance of risk to be struck when the law changes mid-contract, but they do not dictate how that balance must be struck.
The Court rejected the argument that the Sport England terms demonstrate an “industry norm” of allocating all risk of a Specific Change in Law to the Council. In any event, this contract had departed from the Sport England change in law provisions by agreement between the parties. Accordingly, the Court stated that a careful examination of the words in the contract was needed, even though the drafting was “imprecise” and lacked “surgical linguistic precision”.
Clause 37 and 39.5.2
Clause 39.5.2 states that Specific Changes in Law are to be “put into effect as provided for in clauses 37 and 38”, as if the Council had issued an Authority Notice of Change.
Clause 37.5 states that where the contractor (SLM) is not using its own resources to implement the Authority Change, it should obtain best value for money taking into account all relevant circumstances – which include a requirement that it should not be worse off as a result of the implementation of the Authority Change.
SLM argued that the same ‘no worse off’ principle should apply to Specific Changes in Law, seeing as they are to be “put into effect” as in clause 37. The Court rejected this argument, stating that clause 37.5 specifically deals with subcontracting. According to the Court, SLM was trying to elevate this ‘no worse off’ wording from this particular sub-clause to a general principle dictating the outcome of a Specific Change in Law. Rather, the most natural reading of clause 39.5.2 is that the cross-reference to clause 37 imports the process of an Authority Change of Notice, but not the outcome. Instead, the outcome must be decided by agreement or dispute resolution.
The Court also noted the terms of clause 27.1 which address allocation of commercial risk, allowing SLM to retain all receipts from users but requiring SLM to "bear all risks in relation to such receipts, including the volume of Users and any bad debts".
Financial provisions following a Specific Change in Law
The Court was certain that the Management Fee could not drop below zero. The definition of Management Fee was “absolutely clear”: it is a payment made to, not by, the Council (“the net fee payable by the Contractor to the Authority….”). The Court’s view was that if the parties intended that payment of the Management Fee could ever flow from the Council to SLM, the definition would have been qualified to this effect.
Additionally, the payment provisions in clause 26.1, which address the payment mechanism, only make provision for payment one way, not either way. At most, the Management Fee can be zero for a particular contract year; or, in more colloquial terms, it can be "waived".
The Court accepted that the financial consequences could include a “lump sum payment” payable by the Council to SLM. The Court noted that the clauses also refer to a “capital payment” but concluded that the distinction was not deliberate. This conclusion flowed from the “imprecise and non-technical approach to drafting” and the general structure of clauses 37 and 39.
The judgment may not have much general application as it focused heavily on the construction of this particular contract; however, it provides a useful reminder of the importance of “surgical linguistic precision” when drafting. The Court made several references to the “weaknesses” and “imprecise” nature of some parts of the contract. Interestingly, the Court rejected the idea that the Sport England terms create an “industry norm”. The precise language in each contract will therefore be of utmost importance.
Given the ongoing impact of the pandemic on the leisure sector, and the continued (at the time of writing) uncertainty around whether business interruption insurance will apply in every case, it is likely that other contractors will bring cases before the courts to see if they are entitled to any protection under their contracts. We will keep you updated but, as always, please get in touch with one of our key contacts if you have any questions.
A copy of the judgment can be found here.
Written with the assistance of CMS trainee Innocent Maramba.