When a design-build engineering firm filed suit in federal court against its construction subcontractor for breach of contract, the subcontractor filed a Third-Party Complaint against one of its suppliers for contribution and indemnity.  The supplier filed a motion to dismiss the third party claim – asserting that the court had no jurisdiction over it and that the indemnity claim failed to state a claim under the federal rules of civil procedure. The court found the third party complaint was proper because to the extent that defective performance by the supplier subjected the construction contractor to liability to its client, this type of issue is related to the plaintiff’s primary claim and therefore fits nicely within the subject matter of the case.  On the question of whether the contribution or indemnity claim was viable, the court found that the applicable state law recognizes common-law or equitable indemnity and in addition gives effect to parties’ contractual indemnification provisions such as those applicable in this case.

In the case of Maxfour Engineers and Architects, v. ARB, Inc. (233 F.R.D. 602 (D.C. Colorado, 2006), the plaintiff had a prime contract for construction work for the U.S. Bureau of Land Management (BLM).  It subcontracted construction to ARB, Inc. which in turn subcontracted with Western Homes Corporation who was to supply manufactured buildings.  Plaintiff claimed ARB breached its contract by failing to pay its suppliers and employees and by failing to adequately supervise its subcontractors (including Western) and perform its work.

Third Party Claim

In response to the complaint, ARB filed a Third-Party Complaint against its subcontractor, Western alleging that (1) Western breached its subcontract by supplying ARB with buildings that allegedly deviated from the subcontracts’ specifications, and (2) Western owed contractual contribution and/or indemnity for any damages suffered by ARB in this law suit.

Although the project was constructed in Colorado , and the litigation was filed in Colorado , the court applied California law to the contract.  California recognizes common-law or “equitable” indemnity in a form that resembles contribution among jointly liable parties based on their comparative fault.  Where parties expressly contract with respect to the scope and boundaries of the duty to indemnity, equitable indemnity is not available.  Instead, California law gives effect to the parties’ contractual indemnification provisions.

ARB’s contribution/indemnity claim against its subcontractor is derived from and dependent upon the Plaintiff’s successful prosecution of its breach of contract claims against ARB.  ARB’s third party claim asserts that if it is found liable to the plaintiff then all or part of that liability is attributable to its subcontractor, who should therefore contribute.   The court stated that it cannot seriously be argued that Western’s conduct was unrelated to the Plaintiff’s primary claim, and therefore to the extent that defective performance by Western exposes ARB to liability to the plaintiff, ARB’s third party claim against Western must be permitted to stand, as it is appropriate under federal rule of civil procedure, Rule 14(a).

The contract between ARB and Western included the following indemnity clause:

“Western shall, to the maximum extent permitted by law, defend, indemnity, and save harmless [ARB] from and against any loss, damage, liability, cost, and expense … arising out of any injury (including death) to any person or damage to any property resulting from or in any way connected with the performance caused by [Western’s] breach of this Purchase Order or the goods, materials or services furnished hereunder… To the extent that conditions, acts, activities, or conduct involve the contributory negligence or misconduct of [ARB], liability will be apportioned between the parties, according to comparative fault.”

Western essentially argued that the above clause did not require it to indemnify ARB because the plaintiff’s claim against ARB was not for “injury…to any person or damage to any property.”   The court rejected this argument and concluded that the indemnification was not limited to bodily injury and property damage claims.  According to the court, the term “injury” is ambiguous in the contract and might refer to only physical injuries or “it might refer to the broad classes of economic injuries persons might sustain as a result of Western’s breaches of the contract.”

The court did not make an ultimate decision on how “injury” is to be interpreted but instead held that it is too early in the litigation to decide what it means and that ARB has therefore sufficiently stated a claim for contribution or indemnification under the terms of the contract.    The court concludes moreover, that “ARB has alleged that Western failed to perform as required by the contract, and that as a result, ARB sustained economic injuries, in the form of liability to the Plaintiff.  This is sufficient to state a claim for contractual contribution or indemnity under California law.”

Comment: A close reading of the indemnification clause would seem to suggest that the parties based the clause to a great extent on language found in one of the standard form contracts used in the construction industry, and that language in fact is generally interpreted to require indemnification only for bodily injury and property damage rather than for pure economic losses and consequential damages.   It is important when negotiating indemnification clauses to make them as clear and unambiguous as possible.  There is much case law interpreting indemnification clauses in standard form contracts such as those of the American Institute of Architects (AIA).  Understanding the history of how such language has been interpreted and applied by the courts is a must for anyone litigating a case such as the one discussed here.

About the author: Kent Holland is a construction lawyer  in Tysons Corner, Virginia, and is a risk management consultant for environmental and design professional liability insurance and contracts.   He is also publisher of ConstructionRisk.com Report.  He may be reached at Kent@ConstructionRisk.com.  This article is published in ConstructionRisk.com Report, Vol. 8, No. 5.