Commercial Law Updates - An Analysis of Cases from June 2010

Set Off Permitted for Sums Due Under Separate Contracts

Geldof Metaalconstructie NV v Simon Carves Limited [2010] EWCA Civ 667

Simon Carves was the main contractor for the construction of a bioethanol plant. It subcontracted the supply of pressure vessels and installation of storage tanks to Geldof under separate contracts signed 6 months apart. The installation works ran into difficulty and the installation contract was terminated before completion of the works. At one stage, Geldof insisted on payment of the supply contract invoices as a condition of continuing to work on the installation contract. Geldof brought a claim for the price of pressure vessels supplied under the supply contract. Simon Carves sought to set off damages arising out of repudiation of the installation contract both by way of equitable set off and under a clause in the supply contract which provided that Simon Carves could set off "any amounts lawfully due whether under this [contract] or otherwise".

There are a number of types of set off as follows:

Legal set off. This provides a defence to a court action – this is available where two claims are liquidated and are both due and payable at the commencement of the action. The two claims do not have to arise from the same or closely connected transactions. Equitable set off. This is available to a debtor even if litigation is not pending where the cross claim arises from the same or closely related transaction as the debt owed. A debtor can simply deduct the amount of his cross claim from his debt he owes and tender the balance. However the sums in question must be due and payable or, in the case of unliquidated damages, must be a reasonable assessment of the loss made in good faith. There are other types of set off such as contractual set off, banker's set off and insolvency set off.

Equitable set off. The Court of Appeal stated that the best and most useful formulation of the test for equitable set-off was "cross-claims...so closely connected with [the claimant's] demands that it would be manifestly unjust to allow him to enforce payment without taking into account the cross-claim". There are two elements for equitable set off, the "formal" element (close connection) and the "functional" element (manifestly unjust). It held that Geldof's conduct (insisting on payment of the supply contract invoices as a condition of continuing to work on the installation contract) had brought the two contracts into "intimate relationship with one another" and it would be manifestly unjust to allow Geldof to enforce payment without taking into account Simon Carves' counterclaim. Other factors that indicated a link between the two contracts were that both were dedicated to the same bioethanol plant project, the goods supplied by Geldof were of no use to SCL unless the installation was properly performed and the warranty under the supply contract was linked to completion of the plant, which would not happen if installation of the storage tanks was not completed properly.

There has been some uncertainty recently as to the scope of equitable set off and this judgment helps to clarify the test. In last month's bulletin there was a note on the Supreme Court decision in Inveresk v Tullis Russell which involved claims under separate agreements entered into as part of an asset purchase. Again, the Supreme Court permitted withholding – although the case was decided under the Scottish law of retention, rather than equitable set off.

Contractual set off. Even if the equitable claim had failed, Simon Carves would have been allowed to exercise a right of set off under the...