Contractor’s Conflicted Warranty Language Shut Down on Appeal

Not all warranty provisions are created equal when it comes to construction contracts. Individual warranty provisions may vary in length of time, scope, and the degree of fault required to trigger those obligations.

The case 2099082 Ontario Limited v. Varcon Construction Corporation (“Varcon”) serves as a warning that conflicting provisions in multilevel contract documents may prolong costly litigation and make the difference between a successful or failed warranty claim.

In addition, a party’s refusal to produce relevant evidence prior to a hearing risks gutting its defence and undermining any resulting appeal.

Background: unpaid holdback, soil compaction and septic backup

In this case, the court was required to resolve a dispute related to non-payment of statutory holdback by the contractor, Varcon Construction Corporation (“Varcon”), to its subcontractor, 2099082 Ontario Limited, carrying on business as AWD Contractors (“AWD”).

AWD’s scope of work related to, among other things, excavation, piping, backfilling and soil compaction. AWD’s claim was for the modest holdback amount of $39,064.87.

One year after AWD started a civil action to collect its holdback from Varcon, the septic system at the project failed. Native soil settled underneath the Project’s sewage pipes, deflected the pipes and caused the sewage system to back up. The failure occurred within the 12-month warranty term in AWD’s subcontract.

Varcon alleged that AWD had improperly compacted the native soil and sought to hold AWD responsible for its sewage remediation costs. AWD maintained that native soil was called for in the subcontract, its compactions had been tested by a third-party expert, Inspec-sol Inc., and the compaction test results had met the required standard. There was a further conflict between the expansive warranty language contained in the prime contract versus the subcontract’s narrower indemnity provision.

From the issuance of AWD’s claim to Varcon’s appeal, the litigation lasted nearly five years. Early in the process, AWD brought an early successful motion for summary judgment for unpaid holdback. The holdback amount of $39,064.87 was ordered to be paid into court. On that same motion, Varcon was given leave to amend its pleadings to advance a counterclaim of $150,000 against AWD for remediation costs. The action proceeded through discoveries. AWD brought a second motion for summary judgment to dismiss Varcon’s counterclaim in its entirety.

As will be explained below, AWD’s summary judgment motion was only partially successful, resulting in an order that the action proceed to trial. Both Varcon and AWD appealed.

Motion granted: partial summary judgment, no decision on breach of warranty, resulting in an order to proceed to trial

The motions judge in 2099042 Ontario Limited v. Varcon Construction Corporation, 2019 ONSC 2497, awarded only partial summary judgment to AWD, determining that:

1. AWD completed its work without deficiency in accordance with the subcontract’s specifications;
2. AWD was not liable for failing to warn Varcon that compacted native soil was not a suitable material for the backfill;
3. AWD was not in breach of contract for refusing to complete the sewage remediation work; and
4. Whether AWD’s was liable for breach of warranty was a triable issue and could not be decided on the facts and evidence available on the motion.

A critical factor in the motion judge’s decision was reliance on AWD’s evidence that it completed compaction tests and that the results met the standard required by the subcontract. AWD did not have the compaction test reports that it previously delivered to Varcon. During the litigation, AWD unsuccessfully attempted to have the reports disclosed by the Project owner, but the owner refused. Instead, AWD relied on the evidence of its employee who worked for Varcon over the course of the Project. The former Varcon employee testified that the testing results were completed to specification by AWD.

Varcon refused to produce the compaction tests during the litigation or obtain them from the project owner. The motions judge found that Varcon had no reasonable explanation for its refusal and an adverse inference was drawn against the contractor as a result. Another consequence of the non-disclosure was that Varcon’s expert witness did not have contemporaneous compaction reports to underpin his analysis. Without an adequate factual foundation, the expert’s findings were held to be mere assumptions. The contractor was unable to refute AWD’s assertion that the tests were completed to specification.

Partial summary judgment did not put an end to the matter. The motion judge’s refusal to decide whether AWD had breached its warranty to Varcon left the issue to be determined at trial.

Neither party was satisfied with the direction to proceed to trial. Varcon appealed to set aside AWD’s partial summary judgment. AWD took the opportunity to cross-appeal, maintaining that summary judgment was appropriate on all issues, including Varcon’s counterclaim for breach of warranty.

Appeal: order to proceed to trial set aside, full summary judgment on all issues, and no breach of warranty

Varcon’s appeal was in vain and dismissed. The court added salt to the wound by granting AWD’s cross-appeal. The order to proceed to trial was set aside. The appeal ended the matter.

1. Varcon’s appeal was dismissed

The appeal court upheld the motions judge’s dismissal of Varcon’s counterclaim on the issues of breach of contract, failure to warn, and deficiencies. The court of appeal made it clear that it was Varcon’s obligation to obtain the compaction reports from the project owner.

Without those reports, the appeal court held that it was open to the motions judge to find that Varcon’s expert’s evidence was “unreliable and not credible.”

The court found that there was “no indication there would be better evidence or legal arguments on the issues at trial.” This result underscores the difficulty of overturning decisions on appeal in the absence of a palpable and overriding error.

2. AWD’s cross-appeal was granted: no leave to appeal required and no breach of warranty

Varcon first attempted to shut down AWD’s cross-appeal with a procedural argument. Varcon correctly pointed out that the motions judge’s direction to proceed to trial was interlocutory. AWD had not sought leave for its appeal of that interlocutory order contrary to Rule 61.03.1 of the Rules of Civil Procedure.

The appeal court, however, found that seeking leave for the cross-appeal was not required.

The main appeal was from a final order and did not require leave. Relying on prior case law, the court held that both appeals were so interrelated that leave to hear the cross-appeal would have been granted inevitably after the first issue was before the court. The cross appeal was permitted to continue in the absence of an application for leave.

The result of the cross-appeal was in AWD’s favour. The appeal court set aside the motion judge’s decision that summary judgment was inappropriate for the warranty claim. The contract documents were found to be sufficient to resolve the warranty dispute.

The subcontract limited AWD’s obligation to correct defective work to:

1. damages or fault in the work as the result of imperfect or defective work done or material furnished by the subcontractor; or
2. loss or damages “arising” from material or workmanship furnished by the subcontractor.

Varcon relied on warranty language in the prime contract that required AWD to re-do defective work “whether or not” it caused the defect. The prime contract’s warranty language conflicted with the subcontract’s more narrowly worded indemnity.

The court took objection to Varcon’s contractual interpretation, namely, that the prime contract’s warranty language held AWD liable for problematic soil even though its work was not deficient. In effect, the court stated this would have made AWD a “guarantor of any and all defects on the project,” an interpretation that did not accord with “sound commercial principles and good business sense.”

The fact that AWD used native soil that ultimately settled and caused the pipes to deflect was not its fault: the contract’s specifications called for the use of native soil. The court held that AWD could not be faulted for following the contract’s specifications.

Insights from Varcon’s five-year saga

For every action, there is an equal and opposite reaction. In Varcon, the contractor’s appeal of the first instance provoked a devastating cross-appeal.

Ambiguity between the project agreement’s warranty provisions and the subcontract was not resolved in the contractor’s favour. Commercial principles and sound business sense won over a strict reading of the project documentation. Had the subcontract been written in parallel to the project agreement’s broad indemnity language, the outcome may not have been the same. Equally, had the contractor in this case made all reasonable efforts to obtain the testing results for consideration by the court, the case may have been resolved much earlier.

The court’s decision in Varcon highlighted the courts’ favour to decisions that are final, reasonable, and practical without slavish deference to technical contractual language or procedure. Varcon supports that parties ought to pursue full disclosure and avoid the adverse inference of missing evidence whenever possible.

This action’s lengthy procedural history, which involved multiple sets of pleadings, two motions for summary judgment, and an appeal over five years, also illustrates the utility of interim adjudication under the Construction Act. Adjudication was not available in Varcon, but if it had been, AWD’s holdback may have been paid back five years earlier at far less cost.