In the decision-making practice of the Supreme Administrative Court (“SAC”) and the Office for the Protection of Competition (“OPC”), it is not new that the failure of a contracting authority of a public contract to enforce a contractual penalty, even though a contractual penalty had been agreed, constitutes an unlawful material modification of an obligation.

It may be news to many, however, that a material change in the obligation may be, according to the SAC, when the contracting authority collects the contractual penalty, but with a long delay – yet still before the expiry of the limitation period.

This is what the SAC decided in the case of the dispute between the town of Stochov (“the Town”) and the Ministry for Regional Development (“the Ministry”)[1] . The Town had entered into a contract for work with a supplier. The latter, however, fell into delay with performing the work. After the successful completion and handover of the work, the Town applied to the Ministry for payment of a subsidy. However, verification of the subsidy application revealed that the Town had not asserted its claim for entitlement to a contractual penalty for late delivery of the work against the contractor and the subsidy was therefore partially reduced.

The Town sought payment of the remainder of the subsidy through the courts. However, not only did it not receive any sympathy from the courts, but his efforts also led to a decision of the Supreme Administrative Court, which may be an inconvenience for many other contracting authorities and especially for suppliers.

The Supreme Administrative Court held that: “And if it does eventually decide to claim it (the contractual penalty) ,but does so with a long delay, albeit before the claims are time-barred, it means that the supplier has to pay the contractual penalty substantially later than the terms of the contract. Given the time value of money ... even such a significantly delayed application of contractual penalty is itself an advantage.”

The SAC further argues that the later enforcement of contractual penalties de facto reduces them in line with inflation (“time value of money”). And not only that. According to the SAC, the late recovery puts at a disadvantage suppliers who, at the time of the tender procedure, considered such a fine to be risky if it were claimed immediately.

In its decision, the SAC emphasized that each case will have to be assessed on its own merits and listed several reasons why a delay in the enforcement of a contractual penalty may not constitute a material change in the obligation. These may include, for example, examining the disputability of claims or gathering evidence to support them.

However, if the contracting authority decides not to temporarily enforce the contractual penalty due to a longer performance period, a service contract and in other situations, where it wishes to maintain good relations with the supplier, this will constitute an unjustified advantage to the supplier. Contracting authorities can therefore be expected to be even more uncompromising in their approach to contractual penalties.

[1] 8 Afs 157/2021- 35 – text (nssoud.cz)