Even given my short exposure to Construction Law, it has become clear that novation is a complex topic with little coverage and a good deal of room for error. This article, the first of two on the topic, intends to outline some of the common areas of dispute and hopefully, provide some much needed clarity.
What Is Novation?
Novation is similar to assignment, but with a vital difference. If you aren’t familiar with assignment, assignment concerns the transfer of the right(s) of a contract from one party to another (such as right to a claim or a right to receive payment) and unless specified by the contract it does not require the consent of the parties.
Novation on the other hand concerns the transfer of both the rights and the obligations of a contract. It is a tripartite agreement requiring the consent of all three parties [being the two original parties and the third, new party] in order for it to take place. When a novation occurs, the old contract is rescinded, and it is replaced with a new one in which the new parties undertake the original contractual obligation. There are however, exceptions to this rule which will be outlined later in this article. While novation may initially appear straightforward, it is nuanced and misunderstanding the fundamentals can result in expensive claims.
Is A Novation Agreement Retrospective?
The leading case on novation is Blyth & Blyth v Carillion Construction (2001) S.L.T. 96. The case concerns three parties: THI Leisure (the Employer), Blyth & Blyth (the Engineer), and Carillion (the Contractor). Both Blyth and Carillion were appointed to THI under separate contracts.
Blyth prepared the technical information for THI for the tendering process, and underestimated the amount of steel required. Later on, Blyth were required under its Deed of Appointment to enter into a novation agreement with Carillion. This extinguished the original contract between THI and Blyth and replaced it with a contract containing the original rights and obligations, this time between Carillion and Blyth.
Carillion relied on the inaccurate information provided by Blyth. Upon later discovering the inaccuracies, Carillion incurred extra costs which it sought to recover from Blyth. The Court however held that Carillion did not have a right to recover the losses, as the breach of duty was committed by Blyth when its obligations were still to THI, and THI had suffered no loss as a result of the inaccurate report (the contract being a lump sum one).
Furthermore, the novation agreement contained no warranty from Blythe to Carillion in respect of any duty of care, nor was there any provision relating to the contemplation of losses incurred by Carillion but not by THI.
Novation does not retrospectively change obligations that have already been performed. Consequently, contractors need to protect themselves with appropriate contractual conditions or entering into collateral warranties with the design team where they are taking over the responsibility of the design by way of a novation.
What If Not All Of The Obligations Are Transferred?
As I mentioned above, one of the general rules of novation is that when a novation agreement takes place, the original contract is extinguished and replaced with the new one. But what if all of the rights and obligations are not transferred to the new party? Does the original contract remain in place? This question was answered in the case of Langston Group Corp v Cardiff City Football Club Ltd  EWHC 535 (Ch).
This case concerned a complex contract concerning a conditional development agreement (CDA) of a new football stadium. As part of this, Langston made a £24 million loan to Cardiff City. Langston entered into a deed of variation of the CDA, transferring a number of its obligation to Devco, its development partner. Langston then sought immediate repayment of the loan on grounds that the variation was in fact a novation, causing the original CDA to be terminated.
In the end it was held that the variation was in fact a novation, being the only way by which the obligations of the contract could have been transferred. It was not however the case that the contract containing other novated obligations had to be treated being terminated by novation. It follows that if not all of the contractual obligations are novated, the remaining obligations stay in place and only the novated obligations transfer to form a new contract.
Next month, I shall conclude this topic with a second instalment.
Author Massimo Furlotti is a Paralegal with Silver Shemmings Ash and is a graduate of the University of Portsmouth (LLB Law). He is an experienced legal professional having spent several years handling contentious matters for a wide variety of clients.