MAEDA CORPORATION, HITACHI ZOZEN CORPORATION, YOKOGAWA BRIDGE CORPORATION, HSIN CHONG CONSTRUCTION CO LTD v. HKSAR

CACV 230/2011

IN THE HIGH COURT OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

COURT OF APPEAL

CIVIL APPEAL NO. 230 OF 2011

(ON APPEAL FROM HCCT NO. 13 OF 2011)

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J U D G M E N T

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Hon Kwan JA:

1.  I agree with the judgment of Fok JA.

Hon Fok JA:

Introduction

2.  The appellant joint venture (“JV”) was appointed main contractor to construct (                                        ) pursuant to a contract with the respondent which incorporated the Government of Hong Kong General Conditions of Contract for Civil Engineering Works (1999 Edition) (“GCCs”).

3.  This appeal concerns the proper construction of GCC Clause 59(4)(b) (“GCC 59(4)(b)”) and arises from the following background facts.

4.  A dispute arose between the appellant and the respondent over the sum that the JV is entitled to be paid under the contract for work executed under Bill of Quantities (“BQ”) Item (       ) for (                        ) work and this was referred to arbitration.  Whereas a quantity of (     ) work of (      ) m² was estimated in Item (   ) at a rate of HK$(   ) per m² for a total sum of HK$( ), the actual quantity of ( ) work was eventually ( ) m².  On the basis it was entitled to be paid in respect of Item (     ) as though it extended to the whole Works Area of (        ) m², the JV claimed a total sum of HK$(        ) in respect of this item.[1]

5.  By a partial award dated (       ), the arbitrator, Mr Nicholas Dennys QC found as a fact that the applicable rate for (  ) work in Item (    ), HK$(   ) per m² had been built up by the JV from HK$(  ) per m² by the transfer of HK$(    ) from the (              ) item in BQ Item (        ).  Applying GCC 59(4)(b), the arbitrator determined that a rate of HK$(         ) per m² should be the applicable rate for the (    ) work so that the amount payable by the respondent to the JV under Item (     ) is HK$(        ).

6.  By his judgment dated 12 October 2011, Deputy High Court Judge L. Chan (as he then was) dismissed an application by the appellant for leave to appeal against the partial arbitration award.

7.  This is the appellant’s appeal against the dismissal of its application for leave to appeal.

The test for leave to appeal

8.  The application for leave to appeal is made pursuant to s. 23 of the Arbitration Ordinance (Cap. 341) (“the Ordinance”) which provides as follows:

“(2) Subject to subsection (3) an appeal shall lie to the Court on any question of law arising out of an award made on an arbitration agreement; and on the determination of such an appeal the Court may by order-

(a) confirm, vary or set aside the award; or

(b) remit the award to the reconsideration of the arbitrator or umpire together with the Court’s opinion on the question of law which was the subject of the appeal;

…

(3) An appeal under this section may be brought by any of the parties to the reference-

…

(b) subject to section 23B, with the leave of the Court.

(4) The Court shall not grant leave under subsection (3)(b) unless it considers that, having regard to all the circumstances, the determination of the question of law concerned could substantially affect the rights of one or more of the parties to the arbitration agreement; …”.

9.  Assuming a relevant question of law is identified, it is then necessary to consider whether the appellant can satisfy the relevant threshold test for the grant of leave.  The threshold test is that set out in Swire Properties Ltd & Ors v Secretary for Justice (2003) 6 HKCFAR 236 at §§29, 43 and 46.  Where a question of law of general public importance or the construction of a standard clause is concerned, the court will normally grant leave to appeal if there is “at least a serious doubt” as to the correctness of the award.  Where, on the other hand, the construction of a “one-off” clause is involved, the court will grant leave only when the arbitral tribunal’s construction appears to be “obviously wrong”.

10.  It is accepted by the respondent that the arbitrator’s re-rating decision involves the construction of a standard form contract clause and not a one-off clause.  On that footing the “at least a serious doubt” test would be the appropriate threshold.

11.  However, relying on The Nema [1982] AC 724 at p. 743G-H, the respondent submits that, because in the present case the events to which the standard clause fell to be applied by the arbitrator are themselves “one-off” events, stricter criteria on the lines of those applicable to the construction of “one-off” clauses, namely the “obviously wrong” threshold, should be applied.

12.  In my view, although the particular loading of value into the rate for Item (    ) in the present case necessarily turns on its own facts, I would accept the submission of Mr Charles Manzoni SC, leading counsel for the appellant, to the effect that the commercial exercise of so loading value into contract rates is of sufficient general prevalence that the question of law concerning the re-rating under GCC 59(4)(b) should nevertheless be regarded as one of construction of a standard clause to which the “at least a serious doubt” test should apply.

13.  That such practice is seen regularly in the building industry is supported by submissions made by Mr Andrew Goddard QC, leading counsel for the respondent, in his opening submissions to the arbitrator.  The fact that, as Mr Goddard contended, the quality and scale of this particular loading of value may be far removed from the usual exploitation of commercial opportunities is relevant to the issue of whether the arbitrator was right to re-rate Item (    ) but, for the purposes of the correct threshold test for leave, I do not consider that this takes the case out of the standard clause category and puts it in the “one-off” category.

Question of law for which leave to appeal is sought

14.  As will be apparent from the terms of s. 23 of the Ordinance, it is incumbent on an applicant for leave to appeal under that section to identify a question of law arising out of an award for which such leave is sought.

15.  In response to the Court’s request prior to the hearing of the appeal to provide the precise formulation of the question or questions of law arising out of the award that formed the subject of the appeal, the appellant set out the following questions of law for the purposes of the application for leave under two headings, as follows:

“IS A RE RATE APPROPRIATE

1. As a matter of the proper construction of Clause 59(4)(b):

(1) Whether the arbitrator was correct to decide that the principles enunciated in Henry Boot v Alstom applies only to varied works (see paragraph 74 of the Award and paragraphs 5 and 6 of the Notice of Appeal)

(2) Was the arbitrator correct to have regard to the manner in which the original rate was built up (see paragraph 68 of the Award and paragraph 3 of the Notice of Appeal)

(3) How should an arbitrator make an assessment of whether an increase or decrease in the quantities “of itself” renders a rate unreasonable (paragraph 71 of the Award and paragraphs 2 and 3 of the Notice of Appeal). In particular is the arbitrator obliged to make an assessment only of the work elements of the activity in question, and the way that they may change as a result of the increase or decrease in quantities, or is he entitled to look at the extent of recovery that the contractor will receive in the event that the rate is applied to the increased or decreased quantities.

(4) Was the arbitrator correct to say that it is necessary to understand whether the rate is a composite rate and, if so, is it necessary to understand how the Contractor priced that rate (paragraphs 69 and 71 of the Award, paragraph 3 of the Notice of Appeal) …

IF A RE RATE IS APPROPRIATE, HOW SHOULD IT BE DONE

(5) As a matter of the proper construction of Clause 59(4)(b), if a rate is to be re-rated is the Engineer (or arbitrator) entitled to look at the build up of the rate used by the Contractor (paragraph 70 of the Award and paragraph 7 of the Notice of Appeal) …”.

The arbitrator’s approach to GCC 59(4)(b)

16.  GCC 59(4)(b) reads as follows:

“Should the actual quantity of work executed in respect of any item be substantially greater or less than that stated in the Bills of Quantities (other than an item included in the daywork schedule if any) and if in the opinion of the Engineer such increase or decrease of itself shall render the rate for such item unreasonable or inapplicable, the Engineer shall determine an appropriate increase or decrease of the rate for the item using the Bills of Quantities rate as the basis for such determination and shall notify the Contractor accordingly.”

17.  As the arbitrator observed:

“66. … The clause envisages a three-stage process. First, establishing any increase or decrease in quantities, second, the formation by the Engineer of his opinion as to whether the change in quantity has caused the rate for the relevant item to become ‘unreasonable or inapplicable’, and third, if the Engineer decides that the rate is unreasonably high or unreasonably low when applied to the changed quantity, to fix a new rate using the Bill rate as the basis for deriving the new rate.”

18.  It was common ground that this was the appropriate approach to the question of re-rating contemplated by GCC 59(4)(b), although Mr Manzoni described this as a high level analysis and I would accept it is a statement of some generality.  Nevertheless, it sets the framework for a more detailed analysis of the clause’s requirements and its operation.

19.  As to the first stage of the analysis, there was no issue that there was an increase in the actual quantity of work executed in respect of BQ Item (    ) from (   ) m² to approximately (    ) m².

20.  As to the second stage, it was necessary to consider whether that increase of itself rendered the rate unreasonable or inapplicable.  The arbitrator noted that the first difference between the parties was whether it was appropriate to have regard to the manner in which the original rate was built up.  He decided that it was and the heart of his reasoning on this is contained in paragraph 69 of the award, which reads:

“In order to understand the effect that a significant alteration in the quantity of work has on the rate, it is necessary to understand firstly, whether the rate is a composite rate, in the sense that it covers a number of individual activities, or one which involves a single activity. If the rate is a composite rate, then it may well be necessary to understand how the Contractor priced that rate in order to identify which elements of cost are fixed and which are variable in order to understand the effect of the increased or decreased quantity on the applicability or reasonableness of the rate. It is clear from the description of ( ) in ( ) that it covers not only ( ), but also ( ). The experts were in agreement when they came to give their evidence, and I agree with them, that a distinction is to be drawn between a rate which includes a significant element of fixed cost and one which includes a large element of what was described as ‘pure’ profit. In the case of an activity with a large element of fixed cost, the marginal cost of executing a greater quantity of work may be relatively low. To apply such a rate to a significant increase or decrease in quantity of work will be unreasonable since it will either over-reimburse the Contractor in the case of an increase in quantity or under-reimburse the Contractor in the case of a decrease in quantity. If, on the other hand, there is no reason to suppose from the nature of the work undertaken, particularly where it involves a single activity, that any increase or decrease in quantities will of itself make any difference to the Contractor’s incremental cost in executing increased or decreased quantities of work, then there may well be no reason to make any further enquiry as to the build-up of the rate.”

21.  The arbitrator concluded that the engineer would have been amply justified in forming the view that the increase of quantity in the present case was likely to have caused the tender rate to have become unreasonable if applied to the increased quantity.  He said this was for three reasons:

“71. … (1) the size of the increase in quantity from ( ) m² to about ( ) m²; (2) the composite nature of the rate and uncertainty as to how the rate was built up between the activities covered by the rate; and (3) the obvious disproportion between the rate and the nature of the work covered by the rate and the uncertainty as to what costs the rate included.”

22.  The arbitrator rejected the JV’s contention that it was impermissible to have regard to the manner in which the rate was built up for this purpose.  It will be necessary to return to this, since this contention remains a major plank in the appellant’s argument on this appeal. The arbitrator thus concluded that the evidence as to how the JV priced Item ( ) was relevant to the questions both whether and how the item should be re-rated (i.e. the second and third stages of the analysis).

23.  As to the facts, the arbitrator found that the original rate for Item (   ) of HK$(   ) per m² was broadly consistent with the level of pricing for (  ) in the tender documents.  He found that the transfer of HK$(       ) out of Item (   ) into Item (    ) was motivated by the JV’s desire to take advantage of what it saw as a pricing opportunity because the JV was aware that the quantity inserted against Item (   ) was likely to be a significant under-estimate and that the sum transferred included miscellaneous items of costs, on cost, contingency and risk which were not directly related to carrying out ( ) work under Item (   ). The difference between the original rate of HK$(   ) per m² and HK$(   ) per m² resulted entirely from the inclusion in the figure inserted for Item (   ) of HK$(       ) of that HK$(      ).  He said:

“84. … Although I accept that any increased recovery which would flow from applying the rate of HK$( ) to a quantity of ( ) in excess of ( ) m² would represent profit in the hands of the Joint Venture since the cost to the Joint Venture of executing the work would not have increased, it seems to me to be impossible to treat the lump sum of HK$( ) as representing anything other than a proportionate part of the various items shown in the breakdown to Bill ( ).”

24.  The arbitrator concluded that the increase in quantity from (     ) m² to approximately (   ) m² of (   ) under Item (   ) rendered the application of the rate of HK$(    ) to that increased quantity both unreasonable and inapplicable.

25.  As to the third stage of the analysis, fixing a new rate, the arbitrator considered that, since the rate was unreasonable or inapplicable because it included a large element for work or costs that were fixed or did not relate to the execution of (   ) at all, the costs of the elements of the work comprised in the rate which would not increase with the increased amount of work undertaken should be excluded.  In the absence of any other evidence, he proceeded on the assumption that the transferred sum of HK$(       ) included proportionate allowance for each of the constituent elements which made up the lump sum for Item (   ) after allowing for savings.  He took as his starting point for his calculation that the rate for (    ) m² was broken down as to HK$(      ) for (   ) and HK$(            ) for indirect costs, risk, temporary works, sponsor costs and overheads and profit.

26.  He then considered that some allowance must be made in the re-rating exercise for the fact that the original rate of HK$(  ) per m² did not include any allowance for overheads and profit.

27.  Accordingly, he calculated the amount recoverable as follows:

(                                           )

28.  The arbitrator made two “final observations” on this new rate:

(                                           )

The appellant’s contentions on appeal

29.  As I have already noted, there was no dispute as to the first stage analysis of the three-stage process under GCC 59(4)(b) outlined by the arbitrator.  The appellant takes issue, however, with the arbitrator’s approach as to the second and third stages and says that there is “at least a serious doubt” as to the correctness of his decision in this regard.

30.  As to the question of whether the rate was unreasonable or inapplicable due to the increase in the actual quantity of the work, the appellant’s core complaint was that the arbitrator was fundamentally wrong, as a matter of law, in having regard to the build-up of the rate inserted in Item (    ) in order to determine if it was unreasonable or inapplicable by reason of the increased quantity of work.

31.  It was a further core contention of the appellant that the rate itself, which was agreed between the parties to be adequate for the work activities in the item, was not relevant in deciding the question of reasonableness.  The rate was simply the price for the work activity and so, it was submitted, the arbitrator should instead have asked whether, as a matter of objective assessment, there was any increase in the work activities and it was only if there was such an increase in the work activity that the question of re-rating under the clause arose.  It was contended that the arbitrator confused the concept of the rate and the work activity in paragraph 69 of the award.

32.  So far as fixed costs were concerned, Mr Manzoni submitted that it was necessary to draw a distinction between those fixed costs which related to the work activities covered by a BQ item and fixed costs unrelated to the work activities covered by that item.

33.  Mr Manzoni further submitted that the arbitrator had wrongly distinguished the case of Henry Boot Construction Ltd v Alstom Combined Cycles Ltd [1999] BLR 123 (and on appeal [2000] CLC 1147) which was authority for the requirement to use the stipulated contract rates when measuring the value of work done.

34.  As to the question of how a new rate should be fixed if the arbitrator was of the opinion that the rate was unreasonable, the appellant’s contention was that the arbitrator was entitled only to look at the final rate and then make an assessment of how the changed work required that rate to be altered, so that how the rate was originally built up was irrelevant.

Analysis

35.  The appellant’s contention that it was impermissible to have regard to the contractor’s build-up of the relevant contract rate was predicated on the submission that a BQ rate is a contractually agreed unitary price for the particular item of work in the contract.  Three principal reasons were advanced why it was not permissible to have regard to the build-up, namely: (i) the tender build-up is not admissible evidence for any purpose; (ii) it is only the final rate inserted into the BQ document that is relevant and not the way the rate was built up; and (iii) if one could look at how a tender developed and whether costs were transferred from one rate to another prior to the formation of the contract, there would be a never-ending inquiry as to the history of how the tender was calculated.

36.  I do not accept proposition (i) above.  As was submitted on behalf of the respondent, there is no rule of law or evidence, or provision of the GCC, which prohibits the use of the tender build-up.

37.  The case of Wates Construction (South) Ltd v Bredero Fleet Ltd (1993) 63 BLR 133, on which the appellant relied, is a case concerning the admissibility of pre-contractual material (in the form of the contractor’s “revised cost plan and detailed rate analysis”) to the construction of what the contract contemplated as the “conditions” under which work was to be executed.  It was held, applying well-established principles of contract law, that such material was not admissible for that purpose.  It is not an authority, in my opinion, dealing (whether directly or by analogy) with the admissibility of the build-up of a particular rate where the rate is being examined for its reasonableness in accordance with GCC 59(4)(b).

38.  Mr Manzoni placed weight on the fact that the tender build-up is a confidential document to the contractor and therefore might not in fact be disclosed to the employer or arbitrator.  That may be so, but the answer to the possibility that the build-up may not be disclosed is, in my view, provided in the arbitrator’s observations as to the formation of the engineer’s opinion under GCC 59(4)(b):

“70. …

(5) If [the Engineer] forms the view that the rate is or may be unreasonable or inapplicable he will use the existing rate as the basis for his assessment. This will in many, if not most, cases involve establishing the Contractor’s tender build-up of the rate to enable the re-rating exercise to be undertaken;

(6) If the Contractor refuses to provide any further detail as to how the rate was built up then the Engineer will carry out his own re-rating;

(7) If the Contractor wishes to contest the Engineer’s rate fixed under GCC 59(4)(b) then the Contractor is required to support his claim for a higher rate by the submission of further detail including contemporary records, which will include details of the tender build-up.”

39.  By the same process of reasoning, I also do not accept proposition (ii).  GCC 59(4)(b) contemplates a re-rating if the conditions triggering a re-rating exist, i.e. a change in quantity having caused the rate for the relevant item to become ‘unreasonable or inapplicable’. On that basis, the way the final rate inserted in the BQ was built up seems to me to be self-evidently relevant to the process of both determining if the change in quantity of work has caused the contract rate to become unreasonable or inapplicable.

40.  Support for the need to have knowledge of the breakdown of the contractor’s rates can be found in the textbook extracts cited by Mr Goddard, namely: Hudson: Building and Engineering Contracts (12^th Ed.) at p. 838 and Keating on Construction Contracts (8^th Ed.) at p. 1046.  Although the extract from Keating is addressing the valuation of variations, the extract from Hudson is of broader application.  In any event, the reasons stated by the arbitrator in paragraph 69 of the award provide a cogent rationale for why the build-up of the rate is relevant to the issue of re-rating under GCC 59(4)(b).

41.  As to proposition (iii), although I would not agree with Mr Goddard’s characterisation of it as a “floodgates” argument, I do accept that, even if one assumes contractors adopt the practice of transferring fixed costs from one lump sum item to an item subject to re-measurement in order to reap a windfall by the over-recovery of fixed costs, this is not a reason to construe GCC 59(4)(b) as excluding an examination of the build-up of the rate. If the build-up is relevant, and I consider that it is, then it should be examined.

42.  I turn to address the appellant’s contention that it is only when the work elements of the activity in question change as a result of the increase or decrease in quantities, i.e. where the increase or decrease changes the method of working or the economics of a working method, that a re-rating under GCC 59(4)(b) is permissible.

43.  This contention is supported by commentaries of a general nature in the various editions of Keating and Eggleston: A User’s Guide to the ICE Conditions of Contract cited in the appellant’s skeleton argument (§33).[2]

44.  The answer to this contention is to be found, in my opinion, in the arbitrator’s reasoning in paragraph 69 of the award.  The key question is whether the rate in question is a composite rate in the sense that it covers a number of individual activities or a rate involving a single activity.  In the case of the latter, the need to find some change in the work method or the economics of a working method before a re-rating can be justified is readily understandable and it would appear that this is the situation to which the commentaries in Keating and Eggleston are directed.  However, the position is quite different when one is concerned with a composite rate covering a number of individual activities.  It may well then be necessary, as the arbitrator concluded, to understand how the contractor priced that rate in order to identify which elements of cost are fixed and which are variable in order to determine the effect of an increased or decreased quantity and whether that affects the reasonableness or applicability of the rate.  There is nothing in the extracts from Keating and Eggleston to suggest that the commentary in the passages relied upon by the appellant is addressing such a composite rate.

45.  It also follows from the analysis of the arbitrator’s reasoning in paragraph 69 of the award that I do not accept the appellant’s contention that the arbitrator confused the concepts of rate and work activity.  His reasoning explains how one determines whether the change in quantity has rendered the rate for the relevant item unreasonable or inapplicable.

46.  Furthermore, there is nothing in the wording of GCC 59(4)(b) to indicate that the increase or decrease must involve a change in the work activities under the particular item.  On the contrary, the relevant wording looks to whether “the actual quantity of work” is greater or less than that stated in the BQ.  The words in quotations are broad and, in my view, refer to the amount of work as a whole rather than any particular component part or parts of the work.

47.  The appellant relied heavily on the case of Henry Boot Construction Ltd v Alstom Combined Cycles Ltd as to the relevance and importance of contractual rates.  That case involved the valuation of variations under a contract.  The question arising in that case was whether, under the relevant clauses of the ICE Standard Conditions of Contract (6^th Ed.), it was reasonable to value a variation using a rate known to contain an error.  The arbitrator held that it was not reasonable to value a variation under clause 52(1)(b) of the ICE conditions by reference to such a rate.  On appeal from the arbitrator ([1999] BLR 123), the Judge reversed the arbitrator and held that the test of reasonableness in clause 52(1)(b) related only to the comparison between the dissimilar work covered by the variation order and the work to which the rate in the bill of quantities referred and did not permit rates which it would otherwise be reasonable to use to be disregarded on the grounds of mistake.  On further appeal from the Judge ([2000] CLC 1147), the English Court of Appeal held (by a majority) that clause 52(1)(b) called for a comparison between the work priced in the bill of quantities and the work covered by the variation order.  If the work was very different it would not be reasonable to base the valuation on the bill of quantities rate and instead a fair valuation could be made.  However, it was the use of the rate which had to be reasonable and not the rate itself.  In this sense, the rates could be described as “immutable” or “sacrosanct”.

48.  Mr Manzoni submitted that the present case was an a fortiori situation for the application of the principle that contract rates are immutable or sacrosanct since Henry Boot was a case concerning a variation, i.e. new or additional work to the contract, whereas this case concerned an actual item of work specified in the contract.  Thus, there was all the more reason not to alter the contractual rate on the grounds of reasonableness.

49.  I do not accept the appellant’s submissions in reliance on Henry Boot.  I consider that there are relevant distinguishing features in that case.  First, there was a known error in the contractual rate which was sought to be applied to the variation.  Secondly, the valuation exercise was in respect of a contractual variation.  As to the first point, the rate was subject to an important proviso, namely:

“Provided that there shall be no rectification of any errors, omissions or wrong estimates in the descriptions, rates and prices inserted by the contractor in the Bill of Quantities.”[3]

The rate was therefore not open to challenge on the basis of error and, in that sense, was immutable or sacrosanct.  As to the second point, because the valuation exercise concerned a variation, the relevant question was whether the use of the particular contractual rate was reasonable to be applied to the particular work: specifically whether the work was of similar character and executed under similar conditions.  The contractual rate itself was not open to question and, again, it was in that sense that the rate could be described as immutable or sacrosanct. But that valuation exercise is a qualitatively different exercise to the exercise arising under GCC 59(4)(b).  For this latter reason, the case of Galliford (UK) Ltd v Aldi Stores Ltd [2000] All ER (D) 302 relied upon by the appellant, also involving the valuation of a variation, is likewise distinguishable from the present case.

50.  As for The Secretary for Justice v Sun Fook Kong, unrep., HCCT 94/1997, I do not regard that case as laying down any general principle as regards the construction of GCC 59(4)(b) supporting the appellant’s contention that it is only where the work activity changes that a re-rating is permissible.  As is apparent from paragraph 11 of the judgment of Findlay J, it was a decision on its own facts.

51.  Furthermore, insofar as there is a rule that contractual rates are “immutable” or “sacrosanct” it is plainly a rule which is subject to exceptions, of which GCC 59(4)(b) is one, as reflected in the judgments of Lord Lloyd and Ward LJ in Henry Boot in the Court of Appeal at pp. 1152C-E and 1156B-C respectively.

52.  That the arbitrator has power under GCC 59(4)(b) to reduce a rate where, for example, increased quantities would otherwise produce over-recovery of overheads is also supported by the commentary in Abrahamson: Engineering Law and the ICE Contracts (4^th Ed.) at p. 210, which the arbitrator quoted in paragraph 76 of the award.

53.  It was suggested on behalf of the appellant that this commentary was outdated and inconsistent with more modern textbooks. However, since I do not consider that the other textbooks relied upon by the appellant are inconsistent with this commentary, I do not agree with this suggestion.

54.  It was perhaps in recognition of the Abrahamson commentary that the appellant contended that there was a distinction between fixed costs related to work activity covered by a contract item (which could be taken into account when deciding whether or not to re-rate) and fixed costs unrelated to work activity in that item (which could not be taken into account when deciding that question).  Thus, the appellant now accepts that whilst it may be appropriate to take account of an over-recovery of fixed cost directly related to the activity covered by the rate, and therefore to re-rate, it is impermissible to take account of the over-recovery of a fixed cost which is unrelated to the activity, and therefore no re-rating could be justified on this basis.

55.  I would reject this distinction as being artificial and not based on any logical rationale.  If an item of fixed cost inherent in an activity covered by the rate is unreasonable when applied across a much larger quantity, so that it can be re-rated, there seems to me to be no good reason in logic or principle why the same should not apply to an item of fixed cost which is not related to that activity but which, when applied across the increased quantity, will simply otherwise produce a pure windfall for the contractor.  The rate would, in those latter circumstances, be just as unreasonable as in the former circumstances.

56.  Furthermore, the distinction drawn by the appellant between fixed costs related to the work activity and fixed costs unrelated to that work activity, if relevant (which I do not think it is) would provide a further reason (if one were needed) why it would necessarily be relevant for the arbitrator to have regard to the build-up of the rate when engaged in the exercise contemplated by GCC 59(4)(b).

57.  The preceding analysis, which has been primarily directed to the appellant’s contentions in respect of the question of whether a re-rate is appropriate, also provides the answer to the appellant’s contention that, if the stage was reached of having to fix a new rate under GCC 59(4)(b), the arbitrator was entitled only to look at the final rate and then make an assessment of how the changed quantity of work required that rate to be altered, so that how the rate was originally built up was irrelevant.  In short, the arbitrator is, in my view and for the reasons set out above, entitled and indeed obliged to look at the build-up of the original rate in order to fix a new rate.

58.  Finally, I would also add, in conclusion, that I would accept the submission of Mr Goddard that the facts of the present case are unusual in that this was not simply profit loading by an uplift in a rate but involved a specific transfer of a fixed preliminary cost item from Item (   ) to Item ( ).  I do not think it necessary to characterise the transfer as clandestine, as Mr Goddard did, or to say that this gives rise to a question of the appellant’s honesty (as the Judge below appears, in the course of argument before him, to have thought it did). Nevertheless, the unusual facts of the case and the very significant additional amount that would inure to the appellant, in effect as a windfall, by the application of the original rate to the changed quantity of work (as reflected in the figures I have set out in the introduction above) demonstrate why, simply as a matter of fairness, GCC 59(4)(b) ought to be applied in the way the arbitrator did.  In this connection, I do not accept Mr Manzoni’s submission that such transfer should, for the purpose of an exercise under GCC 59(4)(b), be treated as the additional profit element built into the original rate and as such insulated from review by virtue of GCC 59(3). As explained, it is an inherent part of the exercise under GCC 59(4)(b) to examine how a rate is built up.  Irrespective of whether the contractor discloses his build-up (which only goes to how the matter is dealt with in terms of evidence), the approach of the arbitrator is correct in principle.  In the case of a composite rate, the profit element is reflected in the unit rate for each individual activity grouped under the item.  Thus, there is no question of the arbitrator depleting the contractor’s legitimate profit in his re-rating.

59.  For these reasons, I do not think there is serious doubt as to the correctness of the arbitrator’s decision that a re-rate under GCC 59(4)(b) was appropriate or his decision that the appropriate new rate should be the amount determined by him in paragraph 93 of the award.

Is the appellant raising a new point on appeal?

60.  It was contended on behalf of the respondent that the appellant’s fundamental point on appeal, namely that there was a distinction between fixed costs related to work activity covered by Item ( ) (which could be taken into account when deciding whether or not to re-rate) and fixed costs unrelated to work activity in that item (which could not be taken into account when deciding that question), was a new point which had not been raised and argued before the arbitrator.  The respondent therefore submitted, relying on the general principle recognised in Flywin Co Ltd v Strong & Associates Ltd (2002) 5 HKCFAR 356 at p. 369B-C, that the appellant should be barred from raising this point on appeal.[4]

61.  Mr Manzoni referred us to portions of the transcript of the opening submissions of the appellant’s counsel at the arbitration (Mr Stephen Furst QC), the cross-examination and re-examination of the appellant’s expert witness and the closing submissions of Mr Furst to support his submission that the distinction between fixed costs related to the relevant work activity and those unrelated to that work activity was part of the appellant’s case before the arbitrator.

62.  Since I have concluded that the appellant’s point concerning the distinction between related and unrelated fixed costs does not demonstrate that the arbitrator’s conclusion on the issue of re-rating reaches the “at least a serious doubt” threshold for leave, it is unnecessary to reach any conclusion on the question of whether the point is a new one.  However, I am bound to say that it is at least surprising, if the point was taken before the arbitrator and is of such fundamental importance as it is now suggested it is, that an arbitrator as experienced as Mr Dennys did not address the submission more directly in the section of his award dealing with the re-rating issue.

Disposition and costs

63.  For the reasons stated above, I would therefore dismiss this appeal against the Judge’s refusal to grant leave to appeal against the arbitration award.

64.  I see no reason why costs should not follow the event and I therefore make an order nisi that the appellant pay the respondent the costs of the appeal, to be taxed if not agreed, with a certificate for two counsel.  Following this Court’s decisions in Pacific China Holdings Ltd v Grand Pacific Holdings Ltd, unrep., CACV 136/2011 (23 July 2012) and Gao Haiyan & Anor v Keeneye Holdings & Anor [2012] 1 HKC 491, such costs should be taxed on an indemnity basis.  Mr Manzoni accepted that those decisions were binding on us but reserved the appellant’s right to argue that they should not be followed should this matter go further.

Hon Lam JA:

65.  I agree with the judgment of Fok JA.