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By: J. Kent Holland, Jr., Esq.
ConstructionRisk, LLC

I.  Executive Summary.

Where project owners have declined to grant requested cost increases to account for unexpected inflation, contractors have succeeded in obtaining relief from courts.  “Commercial impracticability” is the legal basis most often used by federal courts and federal agency Boards of Contract Appeals for granting either contract rescission or contract reformation.  This is also one of the principal bases cited by the state courts.  When arguing entitlement to an increase in the guaranteed maximum price (GMP) or other cost basis for a contract, it is important to consider the reported decisions of the state whose law applies to the contract.  State courts have held in favor of reforming contracts based on a number of different legal theories, including commercial impracticability, mutual mistake, and frustration of purpose.

Due to my participation in a matter in Washington State , I recently briefed the arguments entitling a contractor to recover actual inflation costs exceeding the inflation factor established in its GMP contract.  There is a significant body of Washington State case law holding that contract performance is excused due to “frustration of purpose” or “mutual mistake.”  Washington courts have also adopted and applied the Restatement 2d Contracts, §265, “Discharge by Supervening Frustration.”   This article, which is based on a legal brief that I wrote as part of a request for equitable adjustment, presents both federal and Washington State case law supporting equitable relief and contract reformation for the contractor. Although there have been some reported decisions holding against relief for the contractor, I believe that the analysis presented in this article/legal memorandum presents the better and more reasonable view.  A contractor should not be penalized for cost escalation that is beyond its own control.  And a project owner should not expect to reap a windfall benefit by sticking its contractor with the risk of inflation and cost escalation over a multi-year project construction. For all parties to be made whole and remain in the position that anticipated at the time of contract award, it is necessary that the contractor be paid the reasonable cost of material and labor escalation.

“Performance of a contract may be excused under [the commercial impracticability] doctrine based upon extreme and unreasonable difficulty, expense or injury.” Evans v. Meyers, 2002 Wash. App. LEXIS 1844. The court in Evans stated that having to incur excessive costs renders performance impracticable and, therefore, impossible, as understood by the law of the State of Washington .” This doctrine of commercial frustration has been applied to justify contract rescission.  Weyerhaeuser Real Estate Co. v. Stoneway Concrete, Inc., 96 Wn.2d 558, 637 P.2d 647 (1981).

Washington courts recognize mutual mistake as a basis for contract rescission or reformation. Simonson  v.  Fendell, 101 Wn.2d 88; 675 P.2d 1218 (WA Supreme Ct.. 1984), (buyer of a corporation was entitled to contract rescission due to mutual mistake concerning the solvency and operating profitability of the company.)

Where contractors have sought contract reformation to recover unforeseen cost escalation, courts have granted reformation—applying one or more of the theories of commercial impracticability, frustration of purpose, or mutual mistake.  One federal district court found in favor of contract reformation on all three theories in Aluminum Company of America (Alcoa) v. Essex Group, 499 F. Supp. 53 (W.D. Pa 1980).  The court determined that significant cost increases resulting from sudden escalation in cost were not anticipated by the parties to the contract and that the losses that would be caused to Alcoa made performance of the contract commercially impracticable.  As explained by the court, “The focus of the doctrines of impracticability and of frustration is distinctly on hardship…. Impracticability focuses on occurrences which greatly increase the costs, difficulty, or risk of the party’s performance.”

The court in Alcoa also determined that both parties to the contract made a mutual mistake of fact in agreeing to use a specified cost index because they misjudged the suitability of the index, and “their mistake is legally sufficient to warrant modification or avoidance of Alcoa’s promise.”  Just as in the Alcoa contract, the parties to the instant contract consciously undertook to calculate inflation risk and provide a specified escalation amount that they reasonably anticipated would cover the inflation that would occur during the term of the contract.  They could not have anticipated the events that would render that amount grossly inadequate.

II. Commercial Impracticability and the Defense of Commercial Frustration in the Washington Courts

The Washington courts hold that to successfully assert an impracticability defense, a party must show the following: (1) the event made performance as agreed impracticable; (2) the nonoccurrence of the event was a basic assumption on which the contract was made; (3) the impracticability resulted without the fault of the party seeking to be excused; and (4) that party must not have assumed a greater obligation than the law imposes.  Sampson v. Trend, 94 Wn. App. 1066 (WA Appeals, Div. 1, 1997).

Each of the four elements specified above by the court in Sampson v. Trend, is satisfied in the case of the contract at issue in this particular instance, in that (1) the extraordinary cost escalation experienced for construction materials and labor in the Seattle area rendered performance impracticable; (2) nonoccurrence of such high cost inflation/escalation was a basic assumption under girding this contract; (3) the cost escalation was certainly beyond the control of this contractor, and neither Hurricane Katrina nor the excessive escalation could have been foreseen or anticipated by the contractor; and (4) the contractor did not intend to assume by contract an obligation for such unforeseeable cost escalation (in this regard, see the discussion below concerning mutual mistake that is also applicable under Washington law).

In Sampson v. Trend, 94 Wn. App. 1066 (WA Appeals, Div. 1, 1997), the Court of Appeals for the First Division held that a developer who signed a contract to build a home was excused from performing the contract because of commercial impracticability.  The developer-seller was unable to complete the home as agreed because of an unforeseen permit condition imposed on the project by the city.  The court held that the city’s imposition of an unforeseeable additional parking requirement made the performance of the contract impracticable. The developer-seller’s timely performance of the contract was excused due to the imposed impracticality.  The court explained:

Where, after a contract is made, a party’s performance is made impracticable without his fault by the occurrence of an event the non-occurrence of which was a basic assumption on which the contract was made, his duty to render that performance is discharged, unless the language or the circumstances indicate the contrary.

Id., citing  Restatement (Second) of Contracts 261 (1981) (quoted in Washington State Hop Producers, Inc. Liquidation Trust v. Goschie Farms, Inc., 51 Wash. App. 484, 488, 754 P.2d 139 (1988), aff’d, 112 Wash. 2d 694, 773 P.2d 70 (1989)).
The court stated: “The event which renders performance impracticable must be fortuitous and unavoidable on the part of the promisor.”  And, added the court:

To successfully assert an impracticability defense, a party must show the following: (1) the event made performance as agreed impracticable; (2) the nonoccurrence of the event was a basic assumption on which the contract was made; (3) the impracticability resulted without the fault of the party seeking to be excused; and (4) that party must not have assumed a greater obligation than the law imposes.

The court found each of the four conditions was present.  It also found that the circumstances rendered timely performance of the contract by the seller impracticable and, therefore, excused the seller’s performance.

In Evans v. Meyers, 2002 Wash. App. LEXIS 1844, the Third Division of the Washington Court of Appeals held that a real estate buyer was relieved of performance of its purchase contract because of commercial impracticability.  The court stated that “performance of a contract may be excused under this doctrine based upon extreme and unreasonable difficulty, expense or injury.”

The court in Evans considered a situation in which a seller of land asserted that the buyer was in breach of contract for not maintaining a sewage system as it was required to do pursuant to the terms of the contract.  The buyer argued that it was relieved of its contractual obligations due to impossibility and impracticability to bring the sewage system into compliance with state health department requirements.  The trial court agreed with the buyer’s position.  In affirming the trial court, the appellate court stated:

The doctrine of impossibility and impracticability discharges a party from contractual obligations when a basic assumption of the contract is destroyed and such destruction makes performance impossible or impractical, provided the party seeking relief does not bear the risk of the unexpected occurrence. Pub. Util. Dist. No. 1 v. Washington Pub. Power Supply Sys., 104 Wn.2d 353, 363-64, 705 P.2d 1195 (1985) (citing RESTATEMENT (SECOND) OF CONTRACTS §§ 261, 263 (1981 )) . In other words, performance of a contract may be excused under this doctrine based upon “extreme and unreasonable difficulty, expense or injury.

The court in Evans further explained that having to incur excessive costs renders performance impracticable and, therefore, impossible, as understood by the law of the State of Washington .  The court concluded:

Rather, “‘[a] thing is impossible in legal contemplation when it is not practicable; and a thing is impracticable when it can only be done at an excessive and unreasonable cost.’” Thornton v. Interstate Sec. Co., 35 Wn. App. 19, 31, 666 P.2d 370 (1983) (quoting Schmeltzer v. Gregory, 266 Cal. App. 2d 420, 424, 72 Cal. Rptr. 194 (1968 ))

Applying the Evans’ court analysis, performance by the contractor in the situation at hand is impracticable because it “can only be done at an excessive and unreasonable cost.”

In a significant decision applying the principle of commercial impracticability to relieve a party from its contractual obligations, the Supreme Court of Washington, in Weyerhaeuser Real Estate Co. v. Stoneway Concrete, Inc., 96 Wn.2d 558, 637 P.2d 647 (1981), addressed a situation where Weyerhaeuser, a lessor, sought rent due under a mineral lease. The lessee had abandoned the project because of its inability to obtain in a reasonably timely manner the permits necessary for mining. Based on the doctrine of commercial frustration, the trial court held that the lessee was excused from paying rent as of the day the mining permits were expected to be obtained. The Washington Supreme Court agreed with the trial court, but explained that its affirmation was based on the doctrine of commercial frustration.

In the State of Washington , courts treat the doctrines of commercial impracticability and commercial frustration very much alike, but appear to prefer to describe the basis of relief as the “defense of commercial frustration.”

Quoting from the original restatement of Contracts, §288, the Supreme Court explained that the doctrine of commercial frustration as follows:
Where the assumed possibility of a desired object or effect to be attained by either party to a contract forms the basis on which both parties enter into it, and this object or effect is or surely will be frustrated, a promisor who is without fault in causing the frustration, and who is harmed thereby, is discharged from the duty of performing his promise unless a contrary intention appears.
In applying this standard to the facts of the case, the court stated:

That Stoneway’s purpose of obtaining sand, gravel and other aggregates by strip mining the leased premises was frustrated by its inability to obtain the necessary permits is unchallenged. Stoneway was without fault in the occurrence of the supervening event causing the frustration of its purpose. There remains only the question of whether the parties contemplated the possibility of nonissuance of required permits and provided for that contingency in the lease, thereby allocating that risk to one party or the other.
The Supreme Court in Stoneway held that although the parties contemplated that the permit process might be lengthy, they did not anticipate the public’s “massive outpouring of negative reaction to the proposed mining operation.” Further, the Stoneway court held that it would be inequitable to require the lessee to bear the entire risk that the purpose of the contract would be frustrated. Stoneway, at 564-65.  Even if the parties had contemplated that there would be a lengthy permit process, the court concluded they could not have anticipated it would take as long as it ultimately took.  This inordinate length of time for permit frustrated the purpose of the contract.

The Stonewall analysis is applicable to this current contract situation.  The parties anticipated inflation.  They even specified a percentage or dollar amount for it.  Unfortunately, force majeure events such as Hurricane Katrina caused cost increases well beyond what the parties reasonably anticipated.[1]

The courts in Washington appear to use the terms “frustration” and “commercial impracticability” almost interchangeably.  In one case, a Washington State trial court explained that its decision to grant contract rescission was based commercial impracticability.  But the subsequent Division 3 Court of Appeals, in affirming the decision, stated that although the trial court called it impracticability, it had actually applied the principles of “frustration of purpose.” The Washington Supreme Court then affirmed the decision of the appellate court in Washington State Hop Producers, Inc. v. Goschie Farms, Inc., 112 Wn.2d 694; 773 P.2d 70 (Sup. Ct. WA 1989).

III.  Cases Holding for Contract Rescission in Washington based upon Mutual Mistake

Washington courts recognize mutual mistake as a basis for contract rescission or contract reformation.  In Simonson  v.  Fendell, 101 Wn.2d 88; 675 P.2d 1218; ( WA Supreme Ct .. 1984), the court found that a buyer of a corporation was entitled to contract rescission due to mutual mistake concerning the solvency and operating profitability of the company.[2] The buyer’s agreement to purchase the seller’s interest in the corporation was based upon a financial statement that purported to show that the corporation was in good financial condition.  It was subsequently discovered that, through no fault of the parties, the financial statement was incorrect. The seller filed an action to enforce the contract. The purchaser pled the affirmative defense of mutual mistake to rescind the contract. The trial court found that the mistake was unilateral because the seller was willing to sell the business regardless of its financial condition. The court of appeals affirmed the trial court’s ruling.

The buyer claimed on appeal that there was a “mutual” mistake independently made by each party. The Supreme Court agreed with the buyer’s claim. It found the parties had agreed to the purchase and sale of a corporation that was operating at a profit and that the “mistaken fact was within the contemplation of both parties as the basis for the entire bargain.” The court explained:

A party seeking to rescind an agreement on the basis of mutual mistake must show by clear, cogent and convincing evidence that the mistake was independently made by  both parties. [citations omitted]. A mistake is a belief not in accord with the facts. Restatement (Second) of Contracts § 151 (1981). It is undisputed that at the time of contracting both the petitioner and the respondent independently believed that the business was solvent and operating at a profit. This belief was not in accord with the facts. Therefore, there was a mutual mistake independently made by each party in this case.

IV. Inflation as the Basis for Decisions Granting Contract Reformation

A.   Mutual Mistake Justifies Reformation

(Aluminum Company of America (Alcoa)  v. Essex Group)

In Aluminum Company of America v. Essex Group, 499 F. Supp 53 (W.D. Pa 1980), the court considered a 15-year service contract under which Alcoa was obligated to transform aluminum into wire under a fixed price contract that included a limited  price escalation factor.  Due to unanticipated increases in electricity costs, plus additional pollution control devices that became necessary under new federal laws and regulations passed after the contract was executed, Alcoa would have sustained large losses if it continued performing its services pursuant to the terms of the contract.  The court determined that the significant cost increases resulting from sudden escalation in cost were not anticipated by the parties to the contract and that the losses that would be caused to Alcoa made performance of the contract commercially impracticable.

Alcoa sued to have the court reform the contract to eliminate the Wholesale Price Index-Industrial Commodities (“WPI-IC”) that had been included in the contract.  Alcoa sought to replace the WPI- IC with actual costs incurred by Alcoa for the non-labor items. The price index worked well for the early years of the Alcoa contract but then OPEC actions to increase oil prices and unanticipated pollution control costs greatly increased Alcoa’s electricity costs.  Electric power is the principal non-labor cost factor in aluminum conversion, and the electric power rose much more rapidly than did the WPI-IC.  “As a result,” said the court, “Alcoa’s production costs rose greatly and unforeseeably beyond the indexed increase in the contract price.”

Alcoa successfully argued to the court that the shared objective of the parties with respect to the WPI-IC that had been included in the contract had been totally frustrated and that both parties to the contract made a mutual mistake of fact in agreeing to use the WPI-IC to escalate non-labor costs.  Specifically, Alcoa argued that “both parties were mistaken in their estimate of the suitability of the WPI-IC as an objective index of Alcoa’s non-labor production costs, and that their mistake is legally sufficient to warrant modification or avoidance of Alcoa’s promise.”  In opposition to Alcoa’s argument, Essex Group (the “buyer”) argued that the asserted mistake is not legally sufficient because it is essentially a mistake as to future economic events rather than a mistake of fact.

In deciding whether this type of mistake was one of material fact, the court carefully reviewed and applied the Restatement 2d of Contracts, sections 293, 294, 296 and 502.  The courted quoted from section 294 of the Restatement 2d as follows:

(1) Where a mistake of both parties at the time a contract was made as to a basic assumption on which the contract was made has a material effect on the agreed exchange of performances the contract is voidable by the adversely affected party unless he bears the risk of the mistake under the rule stated in section 296.”

“(2) In determining whether this mistake has a material affect on the agreed exchange of performance, account is taken of any relief by way of reformation, restitution, or otherwise.

The found that the parties’ use of the WPI-IC was a mutual mistake entitling Alcoa to contract reformation.  The court stated its conclusion as follows:

The Court finds the parties’ mistake in this case to be one of fact rather than one of simple prediction of future events.  Plainly the mistake is not wholly isolated from predictions of the future or from the searching illuminations of painful hindsight.  But this is not the legal test….  The testimony was clear that each assumed the Index was adequate to fulfill its purpose.  This mistaken assumption was essentially a present actuarial error.

Essex Group argued that any mistake in this contract concerning the WPI-IC was a unilateral one of Alcoa alone.  The Chairman of the Essex Group testified at trial that “he had no particular concern for Alcoa’s well-being and that in the negotiations of the contract he sought only Essex ’s best interests.”  The court in rejecting any significance of Essex ’s motivation found that “While he [the Chairman] did not share the motive to protect Alcoa, he understood the functional purposes of the agreement.  He therefore shared this mistake of fact.”  The mistake concerning the price index was vital to the agreement.  In explaining this, the court said, “The assumed capacity of the price formula in a long term service contract to protect against vast windfall profits to one party and vast windfall losses to the other is so clearly basic to the agreement as to repel dispute.”

Essex argued that Alcoa could not be relieved of the consequences of the mistake because (1) Alcoa assumed the risk that the WPI-IC would not keep up with Alcoa’s non-labor production costs, and (2) that the parties made a calculated gamble with full awareness that the future was uncertain, so the contract should be enforced despite mutual mistake.  The court acknowledged some validity to these arguments but concluded that “The proper question is not simply whether the parties to a contract were conscious of uncertainty with respect to a vital fact, but whether they believed that uncertainty was effectively limited within a designated range so that they would deem outcomes beyond that range to be highly unlikely.”

In Alcoa, the court found: “Both [parties] consciously undertook a closely calculated risk rather than a limitless one.  Their mistake concerning its calculation is thus fundamentally unlike the limitless conscious undertaking of an unknown risk which Essex now posits.”  For these reasons, the court found that Alcoa was entitled to contract reformation based on mutual mistake.

B.  Commercial Impracticability Justifies Reformation

1.  Aluminum Company of America v. Essex Group

The Alcoa court also found in favor of Alcoa on the basis of commercial impracticability as well as frustration of purpose.  The court stated:

In broad outline, the doctrines of impracticability and of frustration of purpose resemble the doctrine of mistake.  All three doctrines discharge an obligor from his duty to perform a contract where a failure of a basic assumption of the parties produces a grave failure of the equivalence of value of the exchange and allocation.

The Alcoa court’s decision analyzed and applied the Restatement 2d of Contracts, stating that “The doctrine of impracticability requires that the non-occurrence of the ‘event’, Restatement 2d of Contract §281, n11 or the non-existence of the ‘fact’, Id. §286, causing the impracticability be a basic assumption on which the contract is made.”

As understood by the court, the Restatement does not limit the doctrine to events occurring after the execution of the contract.  In fact, the Restatement “recognizes that circumstances existing at the execution of a contract may render performance impracticable or they may frustrate the purpose of one of the parties so as to excuse his performance.”  Id. §286.

The courts in Washington have likewise adopted these principles of the Restatement.  Any argument by the Owner, therefore, that the cost escalation had already (before the contract was executed) exceeded the construction cost inflator specified in the contract should be rejected.

“The focus of the doctrines of impracticability and of frustration is distinctly on hardship,” says the Alcoa court.  The court further explained:  “Impracticability focuses on occurrences which greatly increase the costs, difficulty, or risk of the party’s performance.”  “The doctrine of frustration, on the other hand, focuses on a party’s severe disappointment which is caused by circumstances which frustrate his principal purpose for entering the contract.”   In Alcoa, the court concluded that Alcoa satisfied the requirements for both the doctrine of commercial impracticability and the doctrine of frustration of purpose.

There are decisions issued by other courts that do not necessarily follow the reasoning of the Alcoa decision, but they all appear to rest on the fact that the contracts in question were firm fixed-price contracts in which the contractor intentionally assumed all the risk, as well as all the windfall, depending upon how actual material and labor costs turned out during performance of the contract.   Because of the nature of the current cost reimbursement GMP contract on this project and the fact that neither party to the contract intended for the contractor to assume all the risk of price escalation, the analysis by the court in Alcoa is most applicable.

The Alcoa decision appears to be somewhat unusual in finding relief for a contractor based upon all three doctrines discussed above, yet it is by no means alone, in holding that a contract must be reformed to account for cost escalation.  Decisions by other courts and Boards of Contract Appeals appear to most often base relief on the doctrine of commercial impracticability.

2. Mutual Mistake of Fact Found in Case Where Contract Included  an Insufficient Unit Price for Steel 

In the case of Southwest Welding & Manufacturing Company v. United States, 179 Ct. Cl. 39; 373 F.2d 982, (U.S. Ct. Cl. 1967), the United States Court of Claims held in favor of reforming a construction contract to allow cost escalation that exceeded the cost specified in the contract.  The contractor in that case asked the court to exercise its equitable powers to reform the parties’ written contract to reflect what the contractor said were the true intentions of the parties.   The increased costs were due to increases in the price of steel that the contractor paid to its steel supplier.  The contract provided for payment based upon a steel cost of $7.53 per hundred pounds.  But the contractor argued that this dollar amount was intended to represent the contractor’s actual cost for procurement of steel, and was not intended to arbitrarily assign a fixed dollar amount to steel.

According to the court, when the parties’ signed the contract they both “shared a mistaken notion that $7.53 was plaintiff’s steel procurement cost [and] it was not until August 2nd that plaintiff learned that its acquisition cost was $7.98, rather than the lower figure.”  The court went on to say that “The Government, also, although it had made cost estimates, was unaware that the contract had not represented the plaintiff’s actual costs.  The agreement, as written, conferred benefits upon the Government which neither party desired or intended.”

Having reviewed the facts of the matter, the Court of Claims in Southwest Welding concluded that “both the Government and Southwest intended that the plaintiff be compensated on the basis of its actual costs.  This intention formed the essence of the parties’ understanding.”  The court found that both parties were guilty of “mutual mistake,” making it appropriate to reform the contract to reflect their actual intentions. As stated by the court, “Divergence of understanding from formal embodiment, such as this case reveals, is not at all novel, either in general contract litigation or in this court.”

3.  Mutual Mistake of Fact Concerning Applicable Minimum Wage Rate

When executing a contract, the government and contractor had the mistaken belief that the current wage rate was $1.12 per hour.  They believed it would likely increase in the future but were unaware that it had already been increased before the date of contract execution to $1.20.  The court reformed the contract based upon that mutual mistake, so that the contractor would be paid the higher amount.  Walsh v. United States , 121 Ct. Cl. 546, 102 F. Supp. 589 (1952).

Agreeing to a specified amount of inflation that failed to reflect the actual inflation rate that was known to exist at the time of contract execution would be tantamount to the mutual mistake that was made in Walsh with regard to the hourly rage rate.

C.  Other Decisions of Significance Addressing Cost Escalation

In Poirier & McLane Corp. v. United States, 128 Ct. CL. 117, 120 F. Supp. 209 (1954), contract reformation was granted where mutual mistake of fact was the parties’ mutual ignorance of the actual prevailing wage rates for area laborers, resulting in costs above those stated in the written contract.

In National Presto Industries, Inc. v. United States, 167 Ct. Cl. 749,338 F. 2d 99 (1964), cert denied, 380 U.S. 962 (1965), the court concluded that the parties “wished the Government to bear the cost of the steel, whatever it was….”  It should be noted that the court rejected the Government’s argument that if the contractor had been negligent in ascertaining the proper price of steel, the contract cannot be reformed.  The Court stated that even if the contractor was indeed negligent in how it priced the contract, this did not bar reformation.  As explained by the Court, “In most, if not all, cases of mutual mistake, at least one party to the contract has not exercised the highest level of care.  But the contractor’s negligence, alone, does not prevent contract reformation.  This is especially true where the other party, rather than being harmed by the plaintiff’s actions, has become an unintended beneficiary as has the Government in this controversy.”

V.        GMP Contract Form has Cost-Reimbursement Contract Elements

Numerous decisions by federal and state courts have held that a contractor is not entitled to contract reformation where the contract is a firm fixed-price contract.  In some cases involving fixed-price contracts, courts have said that because the contractor reaps the benefit of any cost savings due to deflation or reductions in costs, the contractor must also accept the risk of cost overruns.

This contract principle may not have the same applicability if the contract is cost reimbursement or Guaranteed Maximum Price (GMP).  A GMP contract may somewhat of a hybrid form of contract that is more similar to a cost reimbursement contract than a fixed-price contract.  Invoices under a GMP contract are subject to audit to show the necessity and reasonableness of costs claimed.  A contractor under a GMP contract  does not assume all the risks of cost overruns.  Nor does it reap all the benefits of cost savings or cost under-runs.  The contractor is not entitled to the GMP amount unless it incurs actual costs and earns fees that reach the GMP amount.  If the costs and fees are less than the GMP, then the contractor will be entitled to only that amount.  If as a result of value engineering or change orders, the contractor is able to save money on the project, the cost savings must be shared with the Owner.

A. Force Majeure Event

Most contract includes a Force Majeure clause allowing for equitable adjustment to the time and cost “for any delay in or impediment to completing the Work which arises from a Force Majeure condition” and for any “acts, omissions, conditions, events, or circumstances beyond [contractors’] control….”  “Force Majeure” is a defined term.  A contract may define it, for example, to include “hurricanes or unusual weather conditions, fire, unusual delay in transportation or delivery, … material shortage, and delay in the approval of any required permits (provided such delay is not the result of Design-Builder’s actions), or any other similar act or condition, each case only to the extent the event in question is beyond the reasonable control of the delayed party.”  In a typical GMP contract, there is a provision stating that in addition to a time extension for Force Majeure, the contractor is entitled to “an appropriate adjustment of the Guaranteed Maximum Price.”

Hurricane Katrina and other major storms caused severe shortages of materials resulting in significant cost increases in materials, increases in transportation costs, and long delivery times.  Pursuant to the terms of the contract, the contractor has a reasonable basis for asserting entitlement to recover the Cost escalation resulting from this Force Majeure event.

VI.  Conclusion

Based on the cases and the legal arguments presented herein, it is submitted that the contractor is entitled to a cost escalation adjustment to the guaranteed maximum price established by the contract.

About the author: Kent Holland is a construction lawyer located in Tysons Corner, Virginia , with a national practice.  He is principal of ConstructionRisk, LLC, providing construction risk management services including change order and claim preparation, analysis and defense, contract preparation, review and negotiation, insurance consulting and risk management, and other services.  Mr. Holland is publisher of ConstructionRisk.com Report and may be reached at Kent@ConstructionRisk.com.  This article is published in ConstructionRisk.com Report, Vol. 9, No. 4.  All articles published in this newsletter are available at www.ConstructionRisk.com.


[1] The courts in Washington appear to use the terms “frustration” and “commercial impracticability” almost interchangeably.  In one case, a Washington State trial court explained that its decision to grant contract rescission was based commercial impracticability.  But the subsequent Division 3 Court of Appeals, in affirming the decision, stated that although the trial court called it impracticability, it had actually applied the principles of “frustration of purpose.” The Washington Supreme Court then affirmed the decision of the appellate court in Washington State Hop Producers, Inc. v. Goschie Farms, Inc., 112 Wn.2d 694; 773 P.2d 70 (Sup. Ct. WA 1989).

[2] Another Washington case granting contract rescission, held that both commercial frustration and mutual mistake justified rescinding a contract.  Chemical Bank v. Washington Public Power Supply System, 102 Wn.2d 874; 691 P.2d 524 (WA Supreme Ct., 1984).