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ConstructionRisk.com Report
http://www.ConstructionRisk.com
Vol. 5, No. 1, June 03
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Inside
This Issue:
*
Sureties Walk Fine Line Between Contractor Default and Claim
Investigation
*
Equitable Adjustment Allowed for Deductive Change
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ARTICLE # 1
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Sureties Walk a
Fine Line Between Contractor Default
and Claim Investigation
By:
Robert J. MacPherson, Esq.
Surety bonds are contracts and the rights and obligations of the
parties will be determined in accordance with basic principles of
contract law. The size of
the claims and complexity of the project will not impact the result.
That is proven by a recent court decision of the New York Court
of Appeals decision in Walter
Concrete Constr. Corp. v. Lederle Laboratories, 2003 WL 367460, and
by a decision of the U.S. District Court for the Southern District of
New York decision in United
States Fidelity and Guaranty Company, et al. v. Braspetro Oil Services
Company, et al., 219 F.Supp. 2d. 403 (2002).
Walter Concrete involved a
claim by a general contractor (“GC “) against its subcontractor’s
performance bond surety. The
GC had problems with its subcontractor’s performance, but never
terminated the subcontract. When
the subcontractor abandoned the project, the GC did not ask the surety
to complete the work. Instead,
it completed the subcontractor’s work.
The GC in turn demanded payment for those costs from the surety.
The surety denied the claim, contending that the GC had never
notified the surety of its subcontractor’s default.
The Court of Appeals affirmed a decision granting summary
judgment against the surety, finding that the performance bond contained
no provision requiring a notice of default as a condition precedent to
any legal action against the surety.
The only condition imposed on the GC in order to make a valid
claim was that it commence its action within the bond’s time limits.
In contrast to Walter Concrete
which involved a commercial building with claims of a little over a
half-million dollars, the case in USF&G
v. Braspetro involved claims by the owner against its contractor’s
sureties on two related, but distinct projects.
One involved a $165 million design-build contract to convert an
oil and natural gas platform into a semi-submersible oil and natural gas
production platform and was reported to be the largest of its kind ever
undertaken. The second
project was a $163 million design-build contract to convert an oil
tanker into a floating production, storage and offloading vessel.
The bonds at issue in USF&G
required that the sureties and the contractor be given a pre-default
notice and that the sureties’ obligations under the bonds would not
arise until after the contractor had been declared in default and its
contract formally terminated. The
owner provided the pre-default notice and eventually formally terminated
the contractor’s right to proceed with the work, but the sureties
disclaimed any liability. They
contended that they were prejudiced by the owner’s delay in declaring
a default.
The court rejected the sureties’ claims, finding that after the
owner had sent the pre-default notice, the sureties actively discouraged
the owner from formally declaring a default.
They did so by emphasizing that once a default was declared all
work on the projects would stop while the sureties conducted an
investigation to determine the propriety of the default.
The sureties also told the owner that such an investigation could
not begin until a default was declared.
According to the Court, this did not stop the sureties from
beginning the preparation of their defense to any claims under the
bonds. The Court found that
when the default was formally declared the sureties made only a token
effort to explore the possibility of taking over the contracts and did
not conduct a good faith investigation.
Rather, they continued their efforts to prepare for litigation
while characterizing these activities as an “investigation.”
While the Court held that the sureties had no legal obligation to
take any specific action prior to a formal declaration of default, once
a default was declared they had an obligation to make a good faith
investigation into the claims. The
court found that the owner was entitled to recover damages of $90
million, plus attorneys’ fees on the tanker conversion project.
The damage award, plus attorneys’ fees, could not exceed the
amount of the bond for each project, but the owner was also awarded
pre-judgment interest, which is not limited by the amount of the bonds.
The sureties have appealed.
Author’s
Note: The decision
to terminate a contractor and call upon its surety is always difficult.
It will invariably cause delay and disruption to the project and
involve the expenditure of costs that may never be recovered.
Default declarations should never be made lightly and should only
be made after exploring all avenues for having the contractor complete
the project. This may
include a request to the surety that it actively take steps to prevent
an impending default. Sureties,
however, have no legal obligation to take any affirmative action prior
to a declaration of default and will not do so absent compelling
reasons. This does not mean
that a party faced with a non-performing contractor should refrain from
contacting the surety when warning signs appear.
The late submittal of a shop drawing is probably not such a sign,
but claims by subcontractors that they have not been paid for work for
which the general contractor has been paid most surely is.
A bond claimant who has provided complete and accurate
information to a surety will be in a better position to insist that the
surety act promptly once the default is declared.
Claimants must also comply strictly with the notice provisions
and any time limitations contained in the bond.
Sureties, who under the guise of conducting an investigation into
a claimed default, spend their time and resources building a defense,
may find their delay in responding exposes them to a greater liability.
___________
About the Author:
Robert MacPherson is an attorney with the nationally recognized
law firm of Postner & Rubin, with a practice emphasizing
construction law. The firm
represents all parties who participate in the many phases of the
construction process – from owners, contractors, construction
managers, subcontractors and suppliers to architects, engineers,
sureties and insurers. He
may be reached at
17 Battery Place, Suite 210
,
New York
,
NY
10004
(21) 269-2510. E-mail: rmacpherson@postner.com.
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ARTICLE # 2
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Equitable
Adjustment Allowed for Deductive Change Despite Contractor’s
Unbalanced Bid
By: Philip
R. White, Esq.
Where a public owner issued a deductive change
order, it was required to equitably adjust a contract despite the
absence of an equitable adjustment clause in the contract, despite the
absence of specifications or applicable public contracts law, and
despite the fact that the contractor’s bid was unbalanced .
In M.J. Paquet, Inc. v. NJ Dept of Transportation, 171 N.J. 378, 794
A.2d 141 (2002), the NJDOT
awarded a contract to Paquet for the rehabilitation of several highways
and bridges. A year later,
OSHA revised regulations that affected Paquet’s bridge painting work.
When the NJDOT and Paquet could not agree on a increased price
for the painting that resulted from the revision of the OSHA
regulations, the NJDOT deleted bridge painting from Paquet’s work
scope.
Paquet’s bid was unbalanced due to a last minute change in
painting subcontracts that reduced the cost of bridge painting.
Paquet argued that due to time constraints it could not
practicably adjust all of the pay items affected by the change in
subcontractors in time to submit its bid to NJDOT.
Instead, Paquet reduced the price of several other items, like
mobilization and layout costs, to offset the overstated bridge painting
pay items.
After finding that NJDOT correctly deleted the
painting work from the contract pursuant to the principle of
impracticability, the Court held that Paquet was entitled to an
equitable adjustment to compensate it for the non-painting work included
in bridge painting pay items that NJDOT had deleted from the contract.
The court found that neither the contract nor the specifications
contained a provision addressing equitable relief.
The court expressly rejected the argument that Paquet’s claims
was barred by a specification prohibiting claims for additional
compensation arising from pay items that inaccurately stated the cost or
profit associated with that item.
The court noted that there was an established
policy against unbalanced bids and front-end loading in public
contracts. But in examining
the facts relating to Paquet’s bid, the court found Paquet had not
violated that policy.
Although the court commented that its ruling was
limited to the facts of the case, it changed two basic aspects of public
contracting law in
New Jersey
and provided a basis for contractors to argue for the same changes
elsewhere. First, after
canvassing federal law and the law of several states that recognize a
contractor’s right to equitable adjustment by statute or contract, the
court determined that
New Jersey
would permit such relief. Thus,
because there was no statutory or contractual basis for equitable relief
in the Paquet contract, the court effectively created a common law right
to equitable adjustment.
This common law right to equitable adjustment
creates a potentially potent tool for contractors to use against public
and private owners. Second,
rather than simply barring Paquet’s claim because of the policy
against unbalanced bids, the court undertook an analysis of the reasons
why the bid was unbalanced. This
gives aggrieved contractors a valuable tool for pressing their claims.
The court’s decision seemed driven by its finding that, absent
an equitable adjustment, the NJDOT would be unjustly enriched at
Paquet’s expense. If the
court denied relief to Paquet, the contractor would not have been
compensated for substantial work that it performed.
Viewed expansively, the decision recognized the equitable
principle that pricing for changes caused by the owner should be
adjusted to make the contractor whole.
______________
About the
Author: Philip White is
an attorney with Sills, Cummis, Radin, Tischman, Epstein & Cross,
located at
One
Riverfront
Plaza
,
Newark
,
NJ
07102
(973) 643-7000. E-mail:
pwhite@sillscummis.com. This
article was originally written by Mr. White for publication in the URS Claims Resource newsletter, Spring 2003 edition, published by URS
Dispute Resolution Group,
100 California Street, Suite 500
,
San Francisco
,
CA
94111-4529
. For more information on URS, contact Adam Winegard at 213-996-2579 or
by e-mail at dispute_resolution@urscorp.com.
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ABOUT THIS
NEWSLETTER & A DISCLAIMER
This
newsletter Report is published and edited by J. Kent Holland, Jr.,
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2003, ConstructionRisk.com, LLC
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