The problems which arise from this added level of complexity inevitably requires examination of the relationship between employer/contractor/sub-contractor, as well as examination of the terms of both main and sub-contracts. Some of the more common problems are examined below.

The general principle is that a contractor cannot sub-contract performance of any part of the Works without the consent of the employer, unless the contract expressly states otherwise. This applies equally to a sub-contractor. He cannot sub-sub-contract performance of part of the sub-contract works unless the contractor consents, subject to the terms of the sub-contract.

This arises from the nature of contract. The contractor (or sub-contractor) is employed for his experience, character and capability. He is required to perform a personal service.

If the contractor does sub-contract part of the Works without consent, then this may amount to a repudiatory breach of contract. The employer will then be discharged from further obligation under the contract including payment, since the contractor's substituted performance will amount to non-performance. The employer will also be entitled to damages for the repudiatory breach. This applies mutatis mutandis to the contractor and sub-contractor.

The commercial basis of this principle is that the employer values the financial standing, technical capability and trustworthiness of the contractor. This is particularly the case where the contractor has been chosen from a list of contractors who have prequalified for instance. It applies also where the sub-contractor has been chosen for his specialist trade. - British Waggon Co.-v-Lea (1880) and Southway Group Ltd-v-Wolff and Wolff (1991)

In British Waggon Co. -v- Lea (1880) it was held that where a person contracts with another to do work or perform services and it can be inferred that the person has been selected with reference to his individual skill, competency or other personal qualification, then it can be inferred that the contract is at an end if that person refuses to perform the contract notwithstanding that the person tendered to take the place of the contracting party may be equally well qualified to do the service.

This general principle is therefore based on the inference of personal performance being essential to the contract. In the absence of express terms, it may be that the nature and circumstances of the contract will prevent such an inference. This indeed was the case in British Wagon. The contract involved the repair of railway wagons.   It was held that the defendants did not attach any importance to whether the repairs were done by the company or anyone with whom the company might enter into a subsidiary contract to do the work.

In Southway Group Ltd -v- Wolff and Wolff (1991) Nourse LJ stated that the question whether personal performance is essential to the contract, depended on the common intention of the parties, as inferred from the nature of the services, the other terms of the contract and all the circumstances of the case.

In that case the employer had selected the contractor for his particular development expertise, in particular that of the principle negotiator. The contractors purported to sub-contract the work. Bingham LJ held that the parties envisaged a development based on close personal co-operation.  The contractor had repudiated the contract by failing to perform their planning and instruction function.

If a contractor is to avoid introducing additional risk in sub-contracting the performance of his obligations under the contract, he must take particular care to ensure that the terms of the sub-contract are consistent with those of the main contract. He should ensure that the relevant terms of the main contract are incorporated into the sub-contract, but additionally that the administrative operation of both forms is consistent one with the other.

Incorporation of certain terms of the main contract by reference may create substantial risks for the contractor. In Smith and Montgomery -v- Johnson Bros & Co Ltd (1954) the sub-contractor was required to carry out tunnelling works "To the dimensions and specification as set forth in the main contract."

The Engineer stopped that main contractor tunnelling in accordance with the contract. Although the contractor could claim an extension of time, he was not entitled to additional payment under the particular terms of the contract. However, the sub-contractor was entitled to damages because the particular power to stop work without incurring additional costs was not incorporated into the sub-contract.

Even if the sub-contractor has agreed to carry out the Works in accordance with the terms of the main contract, this does not give the contractor the equivalent powers under the sub-contract as the employer has under the main contract. In Chandler Bros Ltd -v- Boswell (1936) the employer had power to have the contractor dismiss the sub-contractor. This term of the main contract was not incorporated into the sub-contract. Although the sub-contractor was aware of the term when entering into the sub-contract, the court would not imply a term that the sub-contract would come to an end with the exercise of this power.

The common law rule of privity of contract is the principle that a third party cannot sue for damages on a contract to which he is not a party. This rule has been strongly criticised in recent times, particularly where the contract is for the benefit of the third party. Indeed civil law systems of other members of the European Union recognise and enforce such contracts. The common law rule persists in English Law to prevent a third party enforcing contractual provisions made in their favour, subject to the Contracts (Rights of Third Parties) Act 1999.  The Act allows the parties to draft their contract so as to prevent a third party enforcing a term of a contract, so that the common law rule may in some cases continue to apply.  This is the case for instance in the standard ICE 7th Edition Form.

The existence of the rule is the reason behind the use of collateral warranties. Collateral warranties bypass the rule by creating separate independent contracts collateral to the consultancy or construction contract. It allows future owners of developments to sue consultants or contractors for defects in the design or construction under the collateral warranty. There would be no cause of action under the original consultancy or construction contract.

A further fundamental principle is that the assessment of damages for breach of contract is meant to be compensation for damage, loss or injury suffered through the breach. It therefore allows the party to the contract to sue for his loss but does not allow him to sue for the loss caused to a third party.

Two decisions establish an exception to these principles. The first of two court decisions to examine these principles was St. Martin's Corporation Ltd v Sir Robert McAlpine (1993). McAlpine was the contractor for a development for the Corporation. After completion the Corporation passed the development to Investments, a sister company. The Corporation also assigned the full benefit of the construction contract to Investments, with the intent that Investments could sue McAlpine should any defects occur. Defects were found after the assignment which were alleged to be due to breaches of contract by McAlpine under the construction contract. It cost Investment £800,000 to put right the defects.

Investment sued under the above action. The House of Lords held that the action failed. The assignment of the benefit under the contract had no effect because McAlpine's consent to the assignment had not been obtained as required under the contract with the Corporation. It was considered that the reason for including the contractual prohibition from the contractor's point of view was that the contractor wished to ensure that he dealt, and dealt only, with the particular employer with whom he has chosen to enter into a contract.  So the action failed under the first of the above principles, the privity of contract between the Corporation and McAlpine prevented Investments suing on the contract.

However the Corporation was also a party to the action. Since the assignment had failed the Corporation argued that it was entitled to judgment against McAlpine for any breach of contract. The problem the Corporation faced was that they had parted with the property at full value and were not liable to their sister company for the defects. Where therefore was their loss? On the basis of the second principle above, the Corporation could not sue for the loss suffered by a third party, in this case £800,000 incurred by Investments. The Corporation was therefore entitled only to nominal damages under the above principles.

Having found that McAlpine were not liable to the extent of the loss of £800,000, the House of Lords then proceeded to find an exception to the second principle described above, namely that a plaintiff can only recover damages for his own loss. The basis of this exception was that it was known by McAlpine that the development would be occupied if not purchased by third parties and not the Corporation itself. It could be foreseen that the damage caused by a breach would cause loss to a later owner and not merely the original contracting party. Therefore on this basis the original contracting party could be entitled to recover damages for loss suffered by others. The prohibition on assignment was crucial to this exception. The exception did not apply where the third party could themselves sue for the loss.

The decision has made uncertain some of the boundaries of contract. Nor is it clear on what basis an original contracting party would hold damages won in such an action. In the above case the Corporation had already paid its sister company the £800,000 as part of the Group re-organisation, so that the problem did not arise.

Some answer are found in the Court of Appeal decision on 28 June 1994 Darlington Borough Council v Wiltshier Northern Ltd. Darlington wished to create a recreational centre on land which it owned. Instead of borrowing and in order to provide private finance for the project, Darlington had Morgan Grenfell enter into a construction contract as employer, with Wiltshier as contractor. A collateral covenant between Darlington and Morgan Grenfell provided that Darlington would pay Morgan Grenfell all sums expended under the construction contract. The construction contract was therefore clearly a contract for the benefit of a third party. The covenant also provided for Morgan Grenfell to assign to Darlington all rights against Wiltshier.

In this case, when Darlington sued there was no problem with the assignment. However, they were faced with the two general principles above. In other words, Morgan Grenfell the party in contractual relationship with Wiltshier had suffered no loss and could transfer no claim for substantial damages. On the other hand, Darlington, who suffered the loss, was precluded by the privity rule from claiming the damages which it had suffered. The principles therefore combined to allow a contract-breaker to go scot-free.

The exception in St. Martin's Corporation Ltd v Sir Robert McAlpine was applied and Darlington was held to be entitled to recover. In an important judgment, the wider exception was recognised, namely that if a party engages a contractor to perform specified work, and the contractor fails to render the contractual service the party suffers a loss of bargain. That loss can be recovered on the basis of what it would cost to put right the defects. It was held that it was no pre-condition to recovery of substantial damages that the party should undertake to use the damages awarded to carry out the necessary repairs. It followed that if the party is sued for damages before assignment, then it would hold such damages for the third party and would be accountable to them for the sum awarded.

Under the standard forms there are two broad categories of subcontract relationship: firstly, those where the rights of the Subcontractor are largely determined by a third party, as in the case of a nominated subcontractor; and secondly, those where no outside control is exercised, and the subcontractor is entirely dependent on the main contractor for the proper operation of the subcontract, subject to the right to arbitrate. In this category are the so called ‘domestic’ subcontracts.

The Domestic subcontract is a direct contract between a specialist sub-contractor and the main contractor.

A form of letting sub-contracts whilst giving the Employer some choice is where the main contractor is given a list of names of sub-contract companies to whom he may go for that package of works.

A Works contractor appears under management forms of contract. The main contractor is the management contractor. He will not carry out any work himself, he will simply manage the contract. All sub-contracts are therefore complete packages called works contracts which are managed by the main contractor. In theory the sub-contract packages are let as required to meet the design and contract programme - the best combination of all sub-contracts should be achieved. In many cases the contract is fragmented and the work reduced to small packages i.e. pipework, ductwork, insulation, plant. It can result in a fast-running and also a smooth running contract.

A further approach is the Named sub-contractor . The employer has full involvement in inviting tenders, selecting those who will tender, selecting the named sub-contractor and instructing the main contractor to enter into the sub-contract with that company. Once the named sub-contractor and main contractor enter into their contract the employer has no further dealing with that sub-contractor, he becomes a totally domestic sub-contractor.

Nomination is means of sub-letting sections of the work allowing the employer or his professional team full involvement in selecting the individual company early, using the sub-contractor’s expertise for design, co-ordination etc. This in turn gives to that sub-contractor certain security regarding payment and information throughout the contract.

The reasons for nomination are:

(a) The employer selects the firm to be the nominated sub-contractor.

(b) The employer is able to choose which company he wishes to use and that decision does not have to be based on price.

(c) The timing of the involvement and appointment of the sub-contractor is left to the employer to meet his requirements.

(d) The nominated sub-contractor can be involved early and so his design expertise and his knowledge of the contract and co-ordination of services can be utilised.

(e) The sub-contractor is made part of the contracting team being fully involved, if required.

(f) Clear contractual liability is established providing a clear line of responsibility to the employer.

(g) By introducing formal links between the sub-contractor and the consulting engineer, architect, QS and employer time is saved, there are no long chains of correspondence and quick action on price, design, programme, variations etc. is established.

(h) By establishing direct links and involvement delay can be prevented on the project.

The principal features which are uasually found in nominated subcontracts ( but not always) are:

(i) the provisions for extensions of time, which reserve to the architect/engineer the power to fix a revised period or periods for completion of the subcontract works;

(ii) the right of the subcontractor to use the contractor’s name in arbitration proceedings (subject to provision of such indemnity and security as the contractor may reasonably require);

(iii) the requirement that the architect must issue a certificate in writing certifying the subcontractor’s failure to complete the subcontract works within the stipulated time, before the contractor may claim reimbursement of any loss suffered by reason of the delay;

(iv) the provisions for reimbursement of loss and/or expense, which reserve to the architect/engineer power to ascertain the subcontractor’s entitlement;

(v) the provision for the architect to certify practical completion of the subcontract works;

(vi) the provision for the quantity surveyor to value all variations required or sanctioned by the architect/engineer;

(vii) the provision for payment, which reserves to the architect/engineer the power to determine the value of work included in Interim Certificates;

(viii) the provision for determination of the subcontractor’s employment in the event of default by the subcontractor, which must be exercised only if the architect/engineer so instructs.

Responsibility for Performance

The general principle is that the contractor is responsible for performance of his obligations and cannot excuse his breach by reference to having sub-contracted that part of his performance. Webster J in John Laing Construction Ltd -v- County and General Properties Ltd (1982) stated that it is the main contractor who contracts with the sub-contractor and it is he, not the employer, who, as between himself and the employer, takes the risk of non-compliance by the sub-contractor with his obligations.

Defects Liability

The contractor is responsible for performance of all his obligations under the contract. He can delegate performance but not responsibility. This is of course subject to the express terms of the contract.

Subcontractors Design

A subcontractor will be liable for any design he contracts to produce if that design subsequently proves to be faulty. The subcontractor will, in the absence of an express provision, be liable in contract for any failure to produce a design fit for its purpose and in tort a subcontractor will be liable for any breach of a duty of care to use all reasonable care and skill. The test of fitness for purpose in IBA v EMI and BICC (1981) will be the test to apply in contract, and the test in Bolam-v-Friern Hospital Committee (1957) will be the test to apply to decide whether or not the subcontractor used all reasonable care and skill.

Where design does arise expressly in construction contracts, the standard of design duty is normally set out, and this usually takes the form of an undertaking by the designer that he will exercise all reasonable skill and care.

Even where there is no express design provision, if as a matter of fact design has been provided as part of a contract for the provision of work and materials, certain terms will be implied into the contract relating to the sufficiency of that design.

A main contractor may in some instances have no design liability, but the design may rest with the subcontractor Norta Wallpapers (Ireland) Ltd-v-John Sisk and Sons (Dublin) Ltd (1977).  A nominated subcontractor was appointed to supply and erect the superstructure of a wallpaper factory. The design proved faulty and the court held that in the absence of an express term in the main contract the main contractor did not accept responsibility for the design. It was not reasonable to imply into the main contract a term that the main contractor accepted responsibility. The subcontractor was nominated and the main contractor was not required to check the design because an engineer had been employed by the employer for this purpose.