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In This Issue:

*  Differing Site Conditions:  Can You Recover Increased Costs?
*  Role of Architect in Controlling Construction Costs

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About this Issue:

This newsletter is edited by J. Kent Holland, Jr., Esq., and published by e-mail once per month. Archived issues (plus this current issue) are maintained on our website at http://www.constructionrisk.com.  The website is organized as a construction risk management portal to make it easy for you to find all kinds of valuable information on the web.  And it’s completely free!  We are pleased to present  articles in this issue that are written by two nationally recognized construction lawyers.

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DIFFERING SITE CONDITIONS: CAN YOU RECOVER INCREASED COSTS?

By John T. Kirsch, Esq.

In some parts of the country, subsurface conditions create great financial risks for contractors.  The “Differing Site Conditions” clause is one of the tools owners use to remove some of the risk and, therefore, maintain competition in the bidding process.

Generally, a Differing Site Conditions clause lessens a contractor’s risk of incurring additional costs for delays and additional work resulting from unforeseeable subsurface or latent physical conditions.  Unforeseeable subsurface or latent physical conditions can comprise numerous conditions, but a few tend to be more common than others.  Unexpected subsurface rock formations, and unforeseeable water or artesian wells are typical conditions that become the basis for a claim.

In federal government contracts, the “Differing Site Conditions” clause in the Federal Acquisitions Regulations, title 48, section 52.236-2 provides that an equitable adjustment and/or contract modification may result if the contractor encounters:

1.  subsurface or latent physical conditions at the site which differ materially from those indicated in this contract, or

2.  unknown physical conditions at the site, of an unusual nature, which differ materially from those ordinarily encountered and generally recognized as inhering in work of the character provided for in the contract.

This language creates two distinctly different types of Differing Site Conditions claims.  They are conveniently known as Type I Differing Site Conditions and Type II Differing Site Conditions.  A successful claim generally requires proof of six Type I elements or three Type II elements.  In addition, there may be numerous other conditions that precede the filing of a successful claim, including timely and written notice of the condition encountered.

A type I claim requires proof that:

1.  representations of subsurface conditions are indicated in the contract;
2.  the contractor has reasonably interpreted the representations in the contract;
3.  the contractor reasonably relied on the representations in the contract;
4.  the subsurface or latent physical condition encountered is materially different from the representations in the contract;
5.  the subsurface or latent physical condition encountered was unforeseeable; and
6.  the additional costs to the contractor are solely from the materially different subsurface or latent physical condition.  Youngdale & Sons Construction Co., Inc. v. United States, 27 Fed. Cl. 516 520 (1993).

Generally, the subsurface condition in dispute must be expressly indicated in the contract documents.  In some cases, however, courts hold that an implied contractual representation is adequate.  See e.g., P.J. Maffei Building Wrecking Corp. v. United States, 732 F.2d 913, 916 (Fed.Cir. 1984).  In addition, courts are fairly liberal in construing whether a document is part of the contract representations. Surveys, maps, drawings, core samples and boring logs provided by the owner, therefore, may be considered part of the contract documents.  Moreover, a reasonable interpretation of the contract documents is determined from the perspective of a reasonable and prudent contractor acting under similar conditions.  Weeks Dredging & Contracting, Inc. v. United States, 13 Cl.Ct. 193, 224 (1987), affd, 861 F.2d 728 (Fed.Cir. 1988).

A successful claim may be complicated by issues regarding the contractor’s actual reliance on inaccurate contract representations.  The damages or delays sustained by the contractor must be the result of the misrepresentation or inaccuracy in the contract documents.  The contractor must, therefore, prove that it reviewed the contract documents and subsequently based his bid on the inaccurate representations.  In addition, the unexpected actual conditions encountered must be the cause of the contractor’s additional costs or delays. Finally, the contractor must be unaware that the contract representations are inaccurate.  Obvious conditions that were observed or would have been observed in a pre-bid site inspection will serve to bar a Differing Site Conditions claim.

A Type II claim requires the contractor to prove that:

1.  the subsurface or latent physical condition was unknown;
2.  the subsurface or latent physical condition was unusual and could not be reasonably anticipated based on a review of the contract documents and site inspection; and
3.  the encountered condition was materially different from those ordinarily encountered and generally expected in the type of work to be performed.  Youngdale & Sons Construction, 27 Fed.Cl. at 537.

Clearly, a Type II condition is harder to prove than a Type I condition because the owner has not represented the subsurface conditions.  Fru-Con Construction Corp. v. United States, 44 Fed.Cl. 298, 311 (1999).  There is a greater expectation that the contractor has investigated the project and is aware of potential problems.  Likewise, a successful claim is always based on delays or damages caused by a condition that was unreasonably encountered based on all facts and circumstances.

The answers to a few preliminary questions may determine the potential for a successful Differing Site Conditions claim:

*  Did the government/owner make a representation as to the subsurface conditions?
*  If not, how reasonable was it to encounter the actual condition based on the circumstances, and would a site inspection indicate a potential problem?
*  Finally, was the unforeseen subsurface condition the actual cause of the additional expenses or delay?

Article Copyright: 2000, Jenkins & Gilchrist

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About the Author:  John Kirsch is an attorney with the law firm of Jenkens & Gilchrist with offices in Austin, Houston and San Antonio, TX; Chicago, IL, and Washington, D.C.  He may be contacted at 1919 Pennsylvania Ave., N.W., Suite 600, Washington, D.C. 20006; 202-326-1500, FAX 202-326-1555, e-mail: jkirsch@jenkens.com.

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ROLE OF ARCHITECT IN CONTROLLING CONSTRUCTION COSTS

By Michael K. DeChiara, Esq.

The 1997 edition of the American Institute of Architects Standard Form of Agreement between Owner and Architect, AIA, B141-1997 fundamentally changes the role of the Architect regarding responsibility for controlling construction costs.  New section 2.1.7.1, is for the most part, a restatement of old Subparagraphs 2.2.5, 2.3.2, and 2.4.3, with one critical difference.  The prior Subparagraph 2.2.5, obligated the Architect to provide the Owner with a preliminary estimate of construction costs at the end of the Schematic Design Phase.   Prior Subparagraphs 2.3.2 and 2.4.3 obligated the Architect to provide the Owner with adjustments to its preliminary estimate of construction costs at the end of the Design Development and Construction Document Phases, respectively.

The last sentence of the new Section 2.1.7.1, however, states: “if at any time the Architect’s estimate of the Costs of Work exceeds the Owner’s budget, the Architect shall make appropriate recommendations to the Owner to adjust the Project’s size, quality or budget, and the Owner shall cooperate with the Architect in making such adjustments.”  This sentence causes a fundamental change in the architect’s role and responsibility.

Previously, the Architect merely advised the Owner of adjustments or changes in its preliminary estimate as the Project progressed.  If the costs of the Project grew, the Owner had several options.  However, the Architect was not responsible for making recommendations to bridge the gap between estimated costs and the Owner’s budget.  More importantly, the Architect would be compensated for preparing changes to meet the Owner’s budget not caused by his own failure to follow the Project program.

Under the new B141-1997 form of agreement, as part of its Basic Services, now takes on a much more proactive role in assuring that the Architect’s preliminary cost estimate matches the owner’s budget through the completion of the Construction Document Phase.  The most problematic phrase in this new and troubling sentence is set forth in the last twelve words which state, “and the Owner shall cooperate with the Architect in making such adjustments.”  The problems presented by this phrase include the following:

(1) There are no boundaries for the “adjustments” necessary to bring the Architect’s estimate of cost into line with the Owner’s budget.  That is to say, this is a totally open-ended obligation;

(2)  As a result of number one, the amount of redesign work necessary to adjust the Architect’s estimate is similarly open-ended notwithstanding the potential mismatch of the Owner’s evolving program with the Owner’s budgetary constraints; and

(3) The Architect is bound to provide redesign services for free notwithstanding the fact that the estimate of the costs of work may have increased due to factors that are totally unrelated to the Architect’s services.

Thus, this one new sentence appears to be a representation that the Architect will now make all modifications necessary to its documents as may be necessary to bring them into conformance with the Owner’s budget through the completion of Construction Documents.  The results of this sentence could be catastrophic for any Architect retained on a large complex project, as well as for smaller architects working on more modest projects.

Providing redesign work, essentially for free, is a quick path to financial ruin.  Why this sentence now appears in a standard AIA document is at best perplexing.  This major problem is amplified significantly when the Architect also retains the consultants on a project and all their services are also provided for free or, in the worst case, the unwitting Architect has to pass this unreasonable burden on to his or her consultants and ends up in the preposterous situation of not only performing substantial work for free, but being obligated to pay the consultants for the same work it is already losing money on.

What is also very troubling about the new sentence at the end of new Section 2.1.7.1 is that it assumes that the primary reason that the Owner’s budget has been exceeded is due to the work of the Architect.  This is often not the case, particularly on large, sophisticated projects. Project cost escalations can be driven by any number of external factors (e.g., poor estimating by the general contractor or construction manager, and escalation in the cost of labor or materials, to name but two of many).  In addition, the Owner’s budget and its underlying assumptions may be incorrect or unreasonable.  However, in the past, if that was the case, the Architect’s additional work in revising its plans and specifications, and those of the consultants, would be borne by the Owner unless it was solely the Architect’s or the consultant’s professional negligence which caused the Owner’s budget to be exceeded.  In addition, the Architect now may be responsible for the risk of the escalation in the cost of labor and materials from the inception of its services through the completion of the Construction Documents Phase.

In the interest of thoroughness, it should be noted that Section 1.3.3. “Changes in Services,” gives the Architect an argument that it should be compensated by the Owner for the redesign to bring its cost estimates in line with the Owner’s budget through the Construction Documents Phase.  This argument is not strong, however, for a number of reasons.  If the Architect “recommends changes” to be initiated to meet the Owner’s budgetary requirements, this does not neatly fit into a “Change in Service” as defined in B141-1997.  Next, Section 2.1.7.1 contains no cross-reference to Section 1.3.3, and the legal construction of the new contract to read section 2.1.7.1 to include Section 1.3.3. is, in my opinion, a weak argument.  At best, the Architect is left with a difficult legal and factual debate which by its nature generally favors the Owner.

Thus, the simple inclusion of the new sentence at the end of Section 2.1.7.1 has indeterminate ramifications which may well impose catastrophic obligations on Architects working on large projects.  Was this the intended effect of this language?  Of course not.  Will it be the actual effect? Perhaps.  And that is a frightening thought.

Article copyright: 2000, Zetlin & DeChiara, LLP

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About the Author:  Michael DeChiara is a partner in the law firm of Zetlin & DeChiara, LLP, whose practice emphasizes the representation of design professionals. For more information: 801 Second Avenue, New York, NY 10017;  (212) 682-6800.

Editor’s Note on this Article: by J. Kent Holland, Jr.

While pondering the impact of these clauses of the new AIA form, I came across Mr. DeChiara’s article in his law firm newsletter and decided it would be good to share with the readers of ConstructrionRisk.com Report.  The concerns he raises strike me as reasonable, but I don’t imagine it was the intent of the AIA for the language to be interpreted the way it has been presented in this article.  It would be interesting to get the AIA’s view about this.  The problem is, however, that with reasonable people disagreeing over the intent of the language, it is entirely possible that a court would apply the principle that the party that drafts the contract is responsible for any ambiguity.  This would mean that an owner’s more strict interpretation could be applied against the architect even if this was not the intent of the architect or AIA.

What makes the clause more ambiguous is the fact that an increasing number of contracts that are being drafted by project owners are specifically requiring the architect to take responsibility for performing additional design services without compensation when there are construction cost overruns.  An example of such a clause is one that I was just asked to comment on for a client.  It reads as follows:  “If the construction Budget is exceeded by the total of the lowest responsive and responsible bids and any legally negotiated prices for the Project, the Department shall, at their option … [have several choices of action].   If the Department adopts options (2)(3) or (4), the Consultant shall modify the Approved Program Requirements, the Project schedule and the Contract Documents and cooperate in any necessary bidding or negotiation WITHOUT ADDITIONAL COMPENSATION.”  This states in unambiguous language what some owners will assert has been stated by the new AIA form, whether inadvertently or not.

With the current hot construction market, it is unreasonable for an owner to expect an A/E to assume responsibility for cost escalations in contractor’s bids that are beyond the A/E’s control.  It is unwise for an A/E to agree to such liable, and to the extent that they suffer costs  as a result, their professional liability coverage will not cover those costs as damages unless caused by negligence.  Unfortunately, the contract language is creating contractual liability and potential guarantees that are excluded under the typical professional liability policy.

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DISCLAIMER

This newsletter is distributed with the understanding that ConstructionRisk.com, LLC and J. Kent Holland, Jr. are not engaged in the rendering of legal services. Further, the comments in this newsletter are for general distribution and cannot apply to any single set of specific circumstances. If you have a legal issue to which you believe this newsletter relates, we urge you to consult your own legal counsel. ConstructionRisk.com expressly disclaims any responsibility for damages arising from the use, application, or reliance upon the information contained herein.

Copyright 2000, ConstructionRisk.com, LLC

Editor:  J. Kent Holland, Jr., JD
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