Subcontractor Claims – Effective Remedy Against the Main Contractor

Kuwait has seen a boom in construction activity in the private and public sectors. This in turn has resulted in an increase in contractor claims and construction related litigation. Of particular note are the impact of subcontractor claims under Article 682 of the Civil Code (No. 67 of 1980) which provides in pertinent part:
 
Article 682(1): The subcontractor and labourers working for the original contractor in the execution of work may directly request of the employer amounts due from the original contractor up to the amount due to the original contractor by the employer at the time of bringing the action.
 
Under Article 682, subcontractors are entitled to initiate legal action directly against an employer together with the main contractor. Making such claim results in the withholding of payments by the employer to the main contractor upon the initiation of the Article 682 claim by the subcontractor. The amount withheld is the amount claimed by the subcontractor – irrespective of whether the subcontractor's claim is substantiated – and up to the amount owed by the employer to the main contractor. This retention remains in place pending resolution of the merits of the claim which can take time (up to 3 to 5 years on average).
 
While Article 682 is a useful tool for utilisation by unpaid subcontractors, it can also be subject to potential abuse. Tactically, by inflating their claim and/or advancing a claim without substance, a subcontractor can unduly apply significant leverage on a main contractor to prompt a favourable settlement of the subcontractor’s claim. In these circumstances, unjustly deprived of funds from the employer thereby negatively impacting its ability to perform and/or pay other subcontractors, a main contractor is faced with a choice of surrendering to the subcontractor's demands or to continue to perform the main contract without proper funding from the employer. If it fails to perform, the main contractor will be exposed to default claims by the employer, a call on performance bonds etc. This can lead to untenable situations detrimentally impacting not only the main contractor but the performance of projects which in turn has a spill on effect on employers themselves and other subcontractors.
 
Also notable is the existence of inconsistent Court precedents which, on the one hand, have ruled that Article 682 claims may be heard by the Court notwithstanding the prescription of arbitration in the subcontract agreement and, on the other hand, decisions which have ruled that jurisdiction of the Courts cannot be assumed where arbitration is prescribed. The latter position is consistent with the law. Namely, if arbitration is prescribed the Courts should decline jurisdiction.
 
A positive development, in a relatively recent judgment of the appellate Court in Kuwait, the Court decided to dismiss the Article 682 action brought by a subcontractor against the main contractor on jurisdictional grounds given the parties’ agreement to settle disputes through foreign arbitration. Further, the Court determined that it is untenable to proceed against the employer pending the resolution of the merits of the subcontractor’s claim and the determination by the arbitral forum whether or not the main contractor is indebted to the subcontractor and, if so, the value of any such indebtedness. We fully concur with this judgment in that it confirms the validity of the arbitration choice and undermines any attempt by a subcontractor to circumvent arbitration and to hold the main contractor hostage by freezing any entitlements owed to it by the employer in an action improperly filed in the Kuwaiti Courts.
 
That being said, given the inconsistent jurisprudence, Article 682 can still potentially be used by subcontractors as a "back door" to initiate claims in the Courts notwithstanding their entry into an agreement with the main contractor restricting it from doing so. This runs counter to basic principles of contract.
 
Most jurisdictions apply some form of payment protection for subcontractors and such protections are important. However, Article 682 has the capability of being applied in an unfair and unbalanced manner by unscrupulous subcontractors. To address this, consideration should be given to legislating changes to the law to require subcontractors to post security as a condition to making such claims, the imposition of penalties if a claim turns out to be unsubstantiated (under current practice only nominal costs are awarded to a successful defendant) and/or implementation of a system where claims are resolved on an expedited basis. On the latter point, complicating matters is that Court of First Instance decisions are appealable on the merits effectively meaning that a claimant has two opportunities to advance its position (and to prolong the process thereby maintaining and enhancing the leverage that may be applied on a main contractor – in addition to requiring the main contractor to incur significant legal costs in the process).
 
Another possible means to address the possible abuse of the Article 682 remedy is to establish a special circuit of the appellate Court (i.e., without having to first proceed through the first instance Court) to review such claims on an expedited and specialised basis. This would ensure that the process would not be unduly prolonged and that the Court will have sufficient expertise in dealing with such claims.
 
Adding to the difficulties faced by main contractors in performing their contracts is the at times heavy handed and unwarranted call on performance bonds by employers. In such circumstances, a main contractor does not usually have any effective remedy as the Kuwaiti Courts have consistently been reluctant to accept any attempts by main contractors to stop the encashment of guarantees. While main contractors may call on the performance bonds issued by their own subcontractors, this would not in most cases address their exposure due to the limited value of such bonds compared to the bond issued by the main contractor to the employer; not to mention the fact that this practice would extend the impact of such heavy handed behavior onto subcontractors. While we appreciate the importance of not tampering with performance bonds as a necessary tool of injecting stability and confidence in construction contracts, we call upon the legislature and judiciary to infuse life in the UN Convention on Independent Guarantees and Standby Letters of Credit which Kuwait has endorsed and apply such convention more proactively leading to the refusal or suspension of unwarranted calls on performance bonds.

Ahmed Barakat is the Managing Partner at ASAR. Ahmed has over 31 years of legal experience and has worked in Kuwait for the last 21 years. Ahmed specialises in commercial, construction, tax and labour litigation, as well as local and international arbitration. Ahmed also advises clients on corporate and commercial matters, as well as Islamic banking and investment.
 
Ahmed has been elected as a leading lawyer by a number of distinguished institutions including the Best Lawyers International (U.S.A.) as among the best lawyers in Kuwait for 2013 in the areas of litigation, tax, and corporate matters and by Legal 500 in the area of litigation. He was also selected by Best Lawyers International among the best lawyers in Kuwait in Labour Law in 2012. Ahmed has published various articles in prestigious publications such as the Oxford Business Group and the International Financial Law Review (IFLR). He has lectured in various workshops, spoken at various conferences, and has also appeared on Kuwait TV speaking on various legal issues including Labour Law and Kuwait’s tax law. Ahmed is fluent in English and Arabic.

Ahmed can be contacted on +965 22922700 or by email at abarakat@asarlegal.com

Paul Dayis a Partner with ASAR – Al Ruwayeh & Partners (ASAR) and works primarily in the corporate and commercial field. Paul Day was born on 3 July 1967 and graduated from the University of Saskatchewan, Canada in 1992 having received an LLB and Bachelor of Commerce Degree (Marketing/General Business Major). Prior to joining the Firm in January 1999, Paul practiced in Canada for six years in the commercial, real estate and corporate areas as well as commercial litigation.
  
Paul has extensive experience advising foreign contractors in respect to project related disputes with Kuwaiti employers. He has also negotiated and acted as lead counsel on numerous international agreements and regularly advises local and foreign clients on developing aspects of Kuwaiti Law. Paul has extensive experience advising foreign clients on legal/practice considerations relevant to foreign companies with operations in Kuwait including advice on tax, construction, labour, franchise and agency matters and in opining on and drafting related agreements with Kuwaiti counterparties.

Paul can be contacted on +965 2292 2700 or by email at pday@asarlegal.com