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Wednesday, February 18, 2015

Contract changes to accommodate changes in economic conditions in delayed performance require new procurement

This case from England involved a Development Agreement made between a local council and a developer. As usual, I only give a partial report of the case, and you must read it in its entirety at the link for context, accuracy and fullness (there is much of interest and importance left out here). If you would like a quicker analysis of it, read this article: Winchester property development case highlights changeable 'material variations' test under procurement rules.
The Council, as owner of various freehold and leasehold sites in the city centre, entered into a "Development Agreement relating to a site at Broadway/Friarsgate Winchester" with Thornfield Properties (Winchester) Limited (the Developer) on 22 December 2004. On 9 February 2009, the Council granted planning permission for the redevelopment scheme by the developer designated in 2004, but thereafter, due to economic conditions affecting the concerned area, the original developer went into administration and the project was ultimately sold to a third party.

The Development Agreement WAS varied on a number of occasions, namely on 22 October 2009, on 10 December 2010 and on 30 January 2014, and many changes were made from the original agreement, making it more profitable to the developer. The variations to the development agreement, inter alia, allowed the Council to request that the affordable housing be provided off-site or by way of a commuted sum. The parties to the Development Agreement had also agreed in an exchange of letters that the Council would not take advantage of its ability to terminate the Agreement.

Restrictive procurement practices by public bodies (in particular, entering into contracts only with preferred domestic contractors) does not allow for fair competition between firms from other member states and may result in market distortions. The Council ought to have complied with the procurement requirements, but did not do so, in reliance on mistaken legal advice. Instead it entered into an agreement with Thornfield Properties because it had a pre-existing commercial relationship with Stagecoach to redevelop its bus station on the site. No other contractors were considered. It is now too late to challenge the lawfulness of the Development Agreement on this basis.

it is agreed that the question whether or not the variations to the Development Agreement were so substantial as to require a new procurement procedure is to be determined by reference to the case law.

The leading textbook, Arrowsmith: The Law of Public and Utilities Procurement (3rd ed.), sets out the principles at paragraph 6.267:
"Another issue to consider is when a proposed extension, renewal or modification to an existing arrangement amounts to a new "contract" under the 2004 Public Sector Directive and Public Contract Regulations 2006. When this is the case a contracting authority may not simply place the work with the existing contracting party, but must award it using a new procedure under the directive/regulations. This issue is not currently dealt with by explicit provisions in the directive/regulations. However, the principle that amendments to an existing contract may be regarded as a new contract needing a new procedure has been established and elaborated in the case law of the CJ, most notably in the case of Pressetext.

A key reason for this principle relates to the purpose of the legislation of ensuring that work is awarded in accordance with transparent procedures to prevent discrimination. If the contract awarded is later changed, there is a risk that such changes are made for discriminatory motives (for example, to award the firm more work or allow it to operate under easier terms) and that national firms, in collusion with the contracting authority or otherwise, may be able to obtain an advantage in the award procedure by tendering favourable terms in the expectation that they will be changed after conclusion of the contract. Changes to concluded contracts can also potentially undermine any policy that contracts should be undertaken by the best tenderer in order to develop the single market. If this is considered as an objective of the directive, rules to limit changes to concluded contracts are also appropriate from this perspective, on the basis that the existing contracting partner may not be the best firm to perform the revised contract. Changing a contract also potentially violates the equal treatment principle that can support such objectives. From a national perspective, changing a contract without a competition for the revised contract raises value-for-money issues as the change is made without considering whether other economic operators can offer value for money and without the terms being fixed under the pressure of competition."

The leading case is Case C-454/06 Pressetext Nachrichtenagentur GmbH v. Republik Österreich [2008] ECR I-4401. The CJEU held:
34. In order to ensure transparency of procedures and equal treatment of tenderers, amendments to the provisions of a public contract during the currency of the contract constitute a new award of a contract within the meaning of Directive 92/50 when they are materially different in character from the original contract and, therefore, such as to demonstrate the intention of the parties to renegotiate the essential terms of that contract (see, to that effect, Case C-337/98 Commission v France [2000] ECR I-8377, paragraphs 44 and 46).

35. An amendment to a public contract during its currency may be regarded as being material when it introduces conditions which, had they been part of the initial award procedure, would have allowed for the admission of tenderers other than those initially admitted or would have allowed for the acceptance of a tender other than the one initially accepted.

36. Likewise, an amendment to the initial contract may be regarded as being material when it extends the scope of the contract considerably to encompass services not initially covered. This latter interpretation is confirmed in Article 11(3)(e) and (f) of Directive 92/50, which imposes, in respect of contracts concerning, either solely or for the most part, services listed in Annex I A thereto, restrictions on the extent to which contracting authorities may use the negotiated procedure for awarding services in addition to those covered by an initial contract.

37. An amendment may also be regarded as being material when it changes the economic balance of the contract in favour of the contractor in a manner which was not provided for in the terms of the initial contract.
Thus, the test to be applied is whether the variations to the contract "are materially different in character from the original contract and, therefore, such as to demonstrate the intention of the parties to renegotiate the essential terms of that contract" (paragraph 34). Any material difference has to be assessed by comparing the contract as originally entered into and the contract after variation.

Both counsel agreed that the likelihood of other economic operators bidding for the contract, had it been advertised as amended, ought to be considered as part of the test in paragraph 34 of Pressetext, reflecting its underlying purpose of ensuring equal opportunity for economic operators. Both counsel agreed that the reference in paragraph 35 to "allowing" other tenderers to be admitted or tenders accepted should be broadly construed. It could include a range of possibilities, for example, where operators had been deterred from applying by the less favourable terms but were interested in applying under the improved terms, or where threshold conditions had been relaxed, enabling more operators to qualify.

Contrary to Mr Elvin's submission, I consider that an increase in potential profitability for the economic operator can be a material variation for the purpose of the Pressetext test. Although paragraph 37 can be read as limited to the economic balance as between the contracting parties, where (as here) the court is considering a development contract or a concession contract, the commercial value will be judged by the potential profits to be obtained from third parties, not the awarding authority. The financial terms between the parties remain relevant but they are not the only consideration.

Mr Elvin submitted that, in order to succeed, the Claimant had to identify other economic operators who would have wished to bid for the contract, and would have had a realistic prospect of success. He pointed to the use of the "would" in paragraph 35 of Pressetext rather than "might". He also relied upon the judgment of Andrews J. in Edenred, at:
"There is much to be said for the approach taken by Coulson J. [in AG Quidnet Hounslow LLP v Hounslow LBC [2012] EWHC 2639 (TCC)] of requiring evidence that someone beside the original bidders would have bid for the contract, because the EU procurement rules are designed to protect against real, not hypothetical distortion of competition. However, I do not need to decide the point, because even if one approaches the question on the basis that a hypothetical bidder has been shut out of the bidding process by the absence of reference to the subject-matter of the proposed amendment, it seems to me that in principle that must necessarily be a realistic hypothetical bidder – i.e. the evidence must demonstrate that there would be someone else who would have been ready, willing and able to bid and who would have wished to have done so if the opportunity had been made clear, but who did not do so because it was not."
Mr Palmer did not object to the requirement of a "realistic hypothetical bidder" but he submitted that Pressetext and other CJEU cases on the procurement Directives did not require firm evidence of an alternative potential bidder in order to satisfy the test in paragraph 34 of Pressetext. In my view, Mr Palmer's analysis is correct.

I agree with Mr Palmer's submission that Andrews J.'s approach to the evidence reflected the particular facts in Edenred, where there had recently been a full tendering process and so the unsuccessful bidders and those who had expressed an initial interest could all be identified. The Claimant in this case is in a more difficult position, as no tendering process has ever been carried out, and so he cannot identify any actual or potential bidders who were deterred or disadvantaged. The requirement suggested by Mr Elvin would have the undesirable consequence of placing a Defendant who fails to comply with any procurement requirements in a better position than one who does.

In R (Law Society) v Legal Services Commission [2007] EWCA Civ 1264, the Court of Appeal was concerned with legal aid contracts which had been awarded by the Legal Services Commission to solicitors without a competitive bidding process. The Court concluded that the contract did not meet the requirements of transparency under the 2004 Directive and the 2006 Regulations. Lord Phillips LC said, at [80]:
"We consider that the principle of transparency will not be satisfied in the present context if uncertainty as to the nature and effect of the amendments that may be made deters, or is liable to deter, some potential service providers from entering into the contract."
Thus, the court made its assessment, at least in part, on the basis that the amendments deterred or were liable to deter potential service providers.

In my judgment, the task of the court is to apply the test in Pressetext on the evidence before it. Evidence of actual or potential bidders may assist but it is not a pre-requisite. Here the Claimant relies on evidence of the commercial appeal of this development contract to potential developers, and the significantly more favourable terms offered in 2014, compared with 2004. In my judgment, the Claimant has to satisfy the Court, on the balance of probabilities, that a realistic hypothetical bidder would have applied for the contract, had it been advertised, but he is not required to identify actual potential bidders.

The evidence demonstrates that the variations to the Development Agreement contract were made because the Council accepted the Developer's representations that the project was not viable on the original contractual terms, and therefore it would not proceed. It is evident that, in order to save the project, the parties did re-negotiate the terms of the contract. Although I recognise that the subject-matter of the contract remains the same, in my view, the varied contract is materially different in character to the original contract.

The most significant difference is that, overall, the varied contract is considered by the contracting parties to be viable for the Developer, whereas they consider the original contract to be unviable. Overall, I consider that, had this variation been in place in 2004, the contract would have been of significantly greater commercial value to potential bidders. A potential bidder could not have anticipated this change; nor was it anticipated or provided for in the contract. In my view, this is a major change to the contract.
The discussion of the issues in this case would be familiar to most students of procurement on the other side of The Pond, which is an odd statement to make by me, being entirely out in the middle of The Other Pond. The need for a new procurement here was related to changes beyond the scope of the contract ("an amendment to the initial contract may be regarded as being material when it extends the scope of the contract considerably to encompass services not initially covered") and outside the field of competition ("the likelihood of other economic operators bidding for the contract, had it been advertised as amended, ought to be considered"), two familiar concepts here.

I do, though, take small issue with the statement in the article quoted at the beginning of this post, that "changes to the economic viability of property development schemes over time could influence whether re-procurements by local authorities are necessary when changes to property development contracts are made to account for the changed economic conditions". It must be considered that the primary, if not only relevant, focus is on the nature of the changes actually made to the contract, not the cause (economic viability of the property development schemes over time).

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