In a previous article[1] we wrote about the decision in High Tech Power Inc. v. BDA Inc., where it was determined that the amounts awarded to the successful claimant in an adjudication, High Tech, could not be used by the unsuccessful party, BDA, to reduce the quantum of the bond it had posted to vacate High Tech’s lien in a parallel lien action.[2]
In that case, a portion of the amount awarded to High Tech [the “Disputed Funds”] had been placed in the trust account of BDA’s lawyers because of a demand by High Tech’s surety, Westport. The Court had found that, as the Disputed Funds were still subject to the direction and control of BDA while in the hands of its lawyers and at the risk of being dealt with contrary to High Tech’s interests, they could not be used to reduce the quantum of the lien bond.
In the sequel, Westport Insurance v. BDA Inc., the parties now included Westport, the surety, which was seeking a summary determination directing that the Disputed Funds be paid immediately to it, or that they be paid into court. [3] High Tech (the subcontractor and the principal under the performance bond issued by Westport) resisted the motion, asserting its priority entitlement pursuant to the adjudication award. The general contractor, BDA, did not participate in the motion, but agreed to abide by the result.[4]
In Westport, the central issue was whether Westport, as surety, could assert a security interest over the Disputed Funds.[5] The Court held that the surety could assert that security interest. However, on the facts of the case, the Court declined to order immediate payment of the funds to Westport as a final order, directing instead that the funds be paid into court. The Court’s main reason for declining the final order was the continuing litigation in respect of the funds and an insufficient record before the Court to support a final determination.[6]
The key takeaways from the Westport decision are that sureties will be entitled to assert priority against a wide range of funds, including those awarded in construction adjudications, as long as their indemnity agreements are drafted broadly. While ensuring the flow of funds through adjudication is important, a competing and equally important consideration is not disturbing the construction bonding regime. Westport agreed to act as surety, but only on the basis that there was an indemnity agreement and security given by High Tech. The Court reasoned that there could be a chilling effect if parties are able to gain the benefit and protection of surety bonds to secure public contracts but are then permitted to circumvent their indemnity obligations when a claim is made.[7]
We review and discuss the Westport decision below.
Preliminary Considerations: High Tech’s Procedural Arguments
There were two procedural issues considered by the Court prior to ruling on the substantive issue of whether Westport had priority to the Disputed Funds. Both issues were summarily disposed of.
The first was whether there was a defect in procedure. Specifically, High Tech challenged Westport’s claim on the basis that its motion, which had proceeded by way of “interpleader” under Rule 43.04, was not properly brought. The Court rejected this procedural challenge because, according to an earlier endorsement made at a case conference, all parties had previously agreed the matter would proceed as an interpleader motion.[8]
The Court also rejected the argument that Westport’s motion was implicitly a motion for a preservation order under Rule 45 of the Rules of Civil Procedure and declined to consider High Tech’s arguments on this point.[9] There was no motion for a preservation order, and the Court held that to engage in this analysis would be to “obfuscate the issues”.
Westport’s Security Interest in the Adjudication Award
After declining to determine the matter on the procedural arguments, the Court went on to consider the substantive issues, the first of which was examining the terms of the indemnity agreement to determine whether Westport had a security interest in the Disputed Funds. Specifically, the Court considered whether there was an “Event of Default” by High Tech under its indemnity agreement with Westport, entitling Westport to assert its claim for indemnity.
By way of background:
- As often occurs on construction projects, High Tech was required to provide a performance bond as part of its subcontract with BDA. Westport, as surety, executed and delivered the bond, naming BDA as the obligee and High Tech as the principal.
- As a precondition to Westport’s issuance of the bonds, High Tech also entered into an indemnity agreement in favour of Westport (“Indemnity Agreement”).[10]
- During the project, BDA delivered a notice of breach to High Tech, terminated its subcontract, and made a claim on the bonds.
The Court found that merely by BDA delivering a notice of breach, there was an Event of Default by High Tech pursuant to the Indemnity Agreement, entitling Westport to deny liability for the bonds. The Indemnity Agreement provided that an Event of Default included “any breach or alleged breach of any of the covenants and agreements.”[11] When BDA gave High Tech notice, this “alleged breach” was sufficient to trigger the Event of Default clause, and entitle Westport to indemnification.[12]
Having found there was an Event of Default under the Indemnity Agreement, the Court went on to find that it was the objective intention of the parties that any funds awarded pursuant to a construction adjudication were subject to a security interest and impressed with a trust in favour of Westport.[13]
In determining the objective intention of the parties, the Court considered the broad language of the Indemnity Agreement, the commercial unreasonableness of excluding the interim award from the security interest, and the circumstances surrounding the formation of the Agreement. In the surrounding circumstances analysis, the Court noted that the construction adjudication provisions of the Construction Act came into force prior to the parties’ entry into the Indemnity Agreement, indicating that they would have carved out an exception if they intended to exclude these amounts from the ambit of the security interest.[14]
In other words, had High Tech intended to shelter amounts awarded to it through adjudication, putting them out of reach of the Indemnity Agreement, it ought to have done so expressly.
Rejection of High Tech’s Claim For Priority
In reaching its decision, the Court also rejected High Tech’s argument that it had priority over Westport to the Disputed Funds because of the Construction Act. High Tech’s main arguments on this point were policy based, including that adjudication was introduced to provide a quick, efficient, and interim determination which would allow funds to flow down the contractual “pyramid,” and that an order granting Westport a security interest over payment of an adjudication award was fundamentally inconsistent with that purpose.[15]
In support of this position, High Tech relied on the Court’s reasoning in the previous decision in High Tech. The Court rejected this argument and held that High Tech was distinguishable. The principal issue in High Tech was whether the quantum of the bond should be reduced. The Court in that case was not directly addressing the issue of Westport’s competing claim, security interest, and trust claim.[16]
As well, the Court found two further reasons for rejecting High Tech’s policy arguments. First, the Court found that to automatically exclude the adjudication award from the surety’s security interest would impede bonding practices essential to the functioning of the construction industry. This is because it is the proper enforcement of indemnity agreements that enable sureties to assume the risk required to secure performance, and ensure progress continues on construction projects.[17]
The Court’s second reason for rejecting High Tech’s position was motivated by practical, rather than policy considerations. As we described in our earlier article,[18] a portion of the adjudication award had, in fact, already flowed down to High Tech’s unionized employees. This eliminated the concern that subjecting the Disputed Funds to Westport’s security interest would effectively undermine prompt payment.[19]
The Order
Despite finding that Westport was entitled to assert its security interest, the Court ordered that the Disputed Funds be paid into Court, rejecting Westport’s claim to immediate payment as a final order.
Why not a final order? The Court found that Westport was essentially seeking execution before judgment. There remained a triable issue as to whether High Tech may have a defence to the indemnification claim by Westport as well as several interrelated proceedings that could affect entitlement to the Disputed Funds. In the context of an interpleader motion, the issues were too complex for final determination and the materials before the Court were insufficient to resolve them.[20]
Key Takeaways
Sureties can assert priority against a wide range of funds, including those awarded in construction adjudications, as long as their indemnity agreements are drafted broadly. In other words, a contractor or subcontractor who receives an award at adjudication may still need to use those funds to satisfy their obligations under their indemnity agreement on a bonded project.
In arriving at its conclusion, the Court relied considerably on policy reasoning. This approach was motivated by the novel issues in the dispute, and the potentially serious implications for bonding practices, which are an essential component of the construction industry.
Lastly, with High Tech’s unionized workers having already been paid, the Court did not have to consider competing priorities. It is yet to be seen how courts will approach potentially competing trust claims to an adjudication award. That will be a decision for another day.
[12] Westport, at para 46. The Court found there were also other Events of Default under the Indemnity Agreement, including High Tech’s failure to pay its unionized employees. An Event of Default also included “any failure” or “inability” to pay bills or indebtedness – even if this default might have been caused by BDA’s failure to pay High Tech. [Westport, at paras 44-45.]
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