Inside this Issue
- A1 - When Engineer Refused Obligations under an Indemnification Clause to Defend its Homebuilder Client, Suit Against it for Breach of Contract does not Require Certificate of Merit
- A2 - AIA Contract Showed Architect’s Intent to Grant Owner an Implied License to Use Drawings
- A3 - Failure to Design According to the IBC Was Not Breach of Contract But Could be Malpractice
- A4 - "Or Equal" Vendor Can Sue Architect for Tortious Interference with Contract for Drafting Disguised Sole Source Specification and Rejecting Or Equal Bid
Article 1
When Engineer Refused Obligations under an Indemnification Clause to Defend its Homebuilder Client, Suit Against it for Breach of Contract does not Require Certificate of Merit
See similar articles: Certificate of Merit | duty to defend | Indemnification clause
Kent Holland, J.D.
ConstructionRisk, LLC
Where an engineer entered into a contract with a homebuilder, its contract included a broad form indemnification clause that included a duty to defend and an obligation to indemnify for all claims and damages regardless of whether caused by the engineer’s negligence, questions arose as to whether a subsequent suit against the engineer for failure to honor the terms of the indemnification clause required the plaintiff to file a certificate of merit by an expert.
Breach of Contract Case
The trial court and appellate court both concluded that certificate of merit was not necessary since this was a pure breach of contract case that could be determined without need of an expert witness. It did not matter whether underlying issues concerned negligent performance of professional services. The homebuilder settled a claim against it by a homebuyer. The builder’s Commercial General Liability (CGL) insurance carrier then filed a subrogation suit against the engineer for breach of contract for failing to defend and indemnify the builder. The insurer sought to recover “the defense costs, litigation expenses, attorneys’ fees, and settlement sums paid on the builder’s behalf.” Childress Engineering Services, Inc. v. Nationwide Mutual, 456 S.W. 725 (Texas 2015).
Comment - Indemnification Clause
The indemnification clause quoted in the decision is well worth reading. This case is an excellent demonstration of why it is so important that design professionals not agree to broad form indemnification, and certainly not agree to defend a client. There is no insurance coverage for the indemnity and defense obligations that this engineer agreed to accept. It is interesting that it is a CGL insurance carrier that is seeking to recover these costs from the engineer that, if successfully recovered, will likely come out the Engineer’s own pocket without the benefit of professional liability coverage.
The indemnification clause in the contract provides the following:
INDEMNIFICATION. [CES] shall fully protect, indemnify and defend [Homebuilder] and hold [Homebuilder] harmless from and against any and all claims, demands, liens, damages, causes of actions, liabilities of any and every nature whatsoever, losses and expenses, including but not limited to personal injury, property damage, attorneys’ fees and court costs, arising in any manner, directly or indirectly, out of or in connection with or in the course of or incidental to any of [CES’] work and obligations as provided in the Subcontract Agreement, including any extra work, REGARDLESS OF CAUSE OR ANY FAULT OR NEGLIGENCE OF [HOMEBUILDER] OR ITS AGENTS, OFFICERS OR EMPLOYEES AND WITHOUT REGARD OF CAUSES OR OF ANY CONCURRENT OR CONTRIBUTING FAULT OR NEGLIGENCE, WHETHER SOLE, JOINT OR CONCURRENT, ACTIVE OR PASSIVE BY [HOMEBUILDER].
Further comment: See my website at https://www.constructionrisk.com/indemnification-clause/ for papers and articles on the important issue of indemnification clauses.
The contractual liability exclusion in the standard professional liability policy will cause the exclusion of all damages, losses, claims and costs imposed upon the engineer in this case that would not have been incurred under common law in the absence of the contract language.
There is no common law duty of a consultant to defend its client against third party actions. That duty can only arise as a result of a contractual liability created through the indemnification clause of the contract. Since this is a contractual liability, it is excluded from coverage pursuant to the contractual liability exclusion of the errors and omissions policy.
Courts that have interpreted indemnification provisions that included the duty to defend have explained that this means the consultant must defend its client (pay legal fees on behalf of its client) as the litigation is ongoing — and that it cannot wait until the conclusion of the litigation to determine whether it is found to have negligently performed services and therefore owe a separate duty to indemnify. The courts see the duty to defend and the duty to indemnify as two separate and unique duties. The insurance policy only covers damages to the extent they are caused by the consultant’s negligence – and that determination can only be reached at the conclusion of the case or by settlement to which the carrier agrees.
Although it is theoretically possible that the damages awarded by a court might include some attorneys’ fees if there is statute that requires the same, attorneys’ fees are generally not awarded as part of a judgment in the American system of justice. Therefore, a clause stating that the consultant will defend (pay on behalf of) or will indemnify (pay attorneys fees after judgment is rendered) both may create uninsurable liability. Agreeing to defend on behalf of a client, however, is the far worse situation since the consultant would be paying out of its own pocket its client’s attorneys fees as they are incurred to defend against a third party claim that might not even ultimately be found to have been caused by the consultant’s negligence.
My routine advice for design professionals when reviewing their contracts for insurability of risks:
“Please note that any duty to defend its client that the design professional may agree to under an indemnification clause, or other provision of the contract, is uninsurable pursuant to the contractual liability provision of the contract. Note also that it is our opinion that any duty to defend should be struck from a contract, even if the contract states that the duty to defend and indemnify is limited to damages resulting from the negligent performance of professional services. This is because we believe courts may interpret the duty to defend to be such a broad separate duty from the duty to indemnify, that the consultant could be expected to begin defending a claim on behalf of its client (paying attorneys fees as they are incurred) as soon as a claim is tendered by the client even if no determination of negligence has been rendered.”
The way I look at the issue is that a contractually agreed upon duty to defend is triggered as soon as the claim is made because it is a separate duty from the duty to indemnify. It is comparable to an insurance company providing you a defense against a claim. It doesn’t wait to see if you are negligent before defending you. The carrier defends you in the hope of proving you are not negligent.
About the author: Article written by J. Kent Holland, Jr., a construction lawyer located in Tysons Corner, Virginia, with a national practice (formerly with Wickwire Gavin, P.C. and now with Construction Risk Counsel, PLLC) representing design professionals, contractors and project owners. He is founder and president of a consulting firm, ConstructionRisk, LLC, providing consulting services to owners, design professionals, contractors and attorneys on construction projects. He is publisher of ConstructionRisk.com Report and may be reached at Kent@ConstructionRisk.com or by calling 703-623-1932. This article is published in ConstructionRisk.com Report, Vol. 17, No. 7 (October 2015).
Copyright 2015, ConstructionRisk, LLC
Article 2
AIA Contract Showed Architect’s Intent to Grant Owner an Implied License to Use Drawings
See similar articles: Copyright | copyright Infringement | Implied License of Drawings | Non-exclusive License | unsigned Agreement
By Gail S. Kelley
ConstructionRisk, LLC
Where in a case of alleged copyright infringement, the Defendant asked the Court to determine that it had an implied license to use drawings that the Plaintiff created for it before Defendant terminated its contract with Plaintiff. The Court found that Defendant did have such a license and granted Defendant's Motion for Summary Judgment. AHAdams & Co., P.C. v. Spectrum Health Services, Inc., 40 F. Supp. 3d 456 (E.D.Pa.2014).
Spectrum Health Services, Inc. (“Spectrum”) initially hired Arthur H. Adams and his firm, AHAdams, to assist with selecting the location for a new health center. AHAdams subsequently submitted a proposal outlining the services it proposed to perform during the remaining design and construction phases. The proposal did not require Spectrum to use AHAdams’ services through the project’s completion, nor did it restrict Spectrum’s use of the drawings that AHAdams prepared. AHAdams also sent Spectrum a signed copy of an American Institute of Architects’ agreement for architectural services (the “AHAdams AIA Agreement.”) Although Spectrum never signed the Agreement, AHAdams performed services for the project and submitted invoices totaling approximately $558,000 through March 2010. These invoices were paid in full, but Spectrum refused to pay AHAdams’ subsequent invoices, out of concern with AHAdams’ billing. Spectrum also hired a consultant who recommended that Spectrum use the design-build delivery method, such that a single entity would provide both architectural and construction services.
In July 2010, Spectrum asked AHAdams for six copies of the Drawings, which AHAdams provided. However after Spectrum officially terminated their relationship in August 2010, AHAdams told Spectrum that the Drawings could not be used for bidding without AHAdams’ permission and that AHAdams had not given such permission.
AHAdams subsequently sued Spectrum for copyright infringement, claiming that in soliciting bids, Spectrum violated AHAdams’ copyright by copying the Drawings. Spectrum asserted that AHAdams’ copyright infringement claims failed as a matter of law because AHAdams had granted it an implied nonexclusive license to use the Drawings. The Court found that since the AHAdams AIA Agreement was not signed by both parties, it was not a binding contract and thus there was no basis to find an express license. Nevertheless, the Court agreed that there was an implied nonexclusive license.
Basis for Grant of an Implied Nonexclusive License
Courts often use a three-factor test to determine whether an implied license has been granted. A court is likely to find an implied nonexclusive license if (1) the licensee requests the creation of a work; (2) the licensor creates the work and delivers it to the licensee; and (3) the licensor intends that the licensee copy and distribute his work. Because the first two factors were undisputed in this case (Spectrum requested that the Drawings be created and AHAdams delivered them), only the parties’ intent had to be analyzed. The Court noted that the analysis must be an objective inquiry into the facts that show the contractual intent and listed the following factors to consider:
(1) whether the parties were engaged in a short-term discrete transaction as opposed to an ongoing relationship; (2) whether the creator utilized written contracts .. providing that copyrighted materials could only be used with the creator’s future involvement or express permission; and (3) whether the creator’s conduct during the creation or delivery of the copyrighted material indicated that use of the material without the creator’s involvement or consent was permissible.
With respect to the first factor - the parties’ relationship - AHAdams had been working on the project for years. Since AHAdams’ involvement was not discrete or short term, the relationship factor did not support the assertion of an implied license. The second factor, however, did support the assertion. AHAdam’s proposal did not prohibit or limit Spectrum’s use of the Drawings. Furthermore, Section 7.3 of the AHAdams AIA Agreement granted Spectrum “a nonexclusive license to use the Architect’s Instruments of Service solely and exclusively for purposes of constructing, using, maintaining, altering and adding to the Project.” The Agreement also allowed the Contractor and the Owner’s consultants, to “reproduce applicable portions of the Instruments of Service solely and exclusively for use in performing services or construction for the Project.” Even though the Agreement had not been signed by Spectrum, it was strong evidence of AHAdams’s intent.
When evaluating the third factor, courts look at whether the supposed infringer obtained the plans directly from the supposed licensor, which would suggest permission to use them. In this case, AHAdams sent six CDs to Spectrum, knowing that they would be used to price the construction. At the time, Spectrum was under no obligation to continue using AHAdams’ services, and Mr. Adams admitted he was unsure of his future role in the project. The Court found that AHAdams’ conduct supported the conclusion that AHAdams granted Spectrum a nonexclusive license.
AHAdams’ Copyright Infringement Claim
AHAdams’ copyright infringement claim focused on the fact that the Drawings had a copyright symbol, followed by the language “This drawing or parts thereof may not be altered or reproduced in any form without the written permission of AHAdams & Company.” However, the Court noted that merely including a copyright symbol on a drawing does not establish that a party does not intend to grant a nonexclusive license. The court also noted that the language following the copyright symbol was the only indication of record that AHAdams required its continued involvement in the project. In addition, the copyright language was in miniscule type and hard to read. The Court found that this language could not overcome the language in the AHAdams AIA Agreement that explicitly granted Spectrum a nonexclusive license to use the Drawings.
Implied License to Use Drawings
Moreover, the Court noted that Spectrum paid AHAdams almost $100,000 for the Drawings. A finding that AHAdams did not grant a nonexclusive license would mean that Spectrum paid a large amount of money for Drawings that it could not use if it terminated its contract with AHAdams. The Court quoted a holding from the Ninth Circuit that such a finding would allow design firms to hold entire projects hostage, forcing the owner to either pay the firm off, continue to employ it, or forego the value of the work and start from scratch.
The Court concluded that, as a matter of law, AHAdams granted Spectrum an implied nonexclusive license to use the Drawings and Spectrum’s use of the Drawings fell within the scope of this license. Accordingly, the Court found that Spectrum was entitled to summary judgment on AHAdams’ copyright infringement claim.
Comment
A copyright is a property right in the tangible expression of an idea. Although a copyright must be registered with the U.S. Copyright Office to bring a claim for copyright infringement under the U.S. Copyright Act, the copyright itself arises automatically when the work is created. Generally the author of the work is the initial owner of the copyright. However if the work is either prepared by an employee within the scope of his or her employment, or specially ordered or commissioned, it may be considered a "Work for Hire.” In these cases, the initial copyright belongs to the employer or the party that ordered or commissioned the work.
The copyright holder has full property rights in the copyright and can grant licenses for use of the work, or transfer the copyright as he or she sees fit. Courts may use the three-part test used in AHAdams to find that an implied non-exclusive license has been granted, but transfer of copyright must be express and must be in writing. Under the AIA design agreements, the design professional retains the copyright to the Instruments of Service and provides the Owner a non-exclusive license to use and reproduce them. Nevertheless, Owners will often change this wording such that they own the copyright or receive an exclusive license, which is equivalent to owning the copyright. An Owner who owns the copyright to the Instruments of Service can re-use them for other projects without retaining the design professional or paying an additional fee. Design professionals should ensure that their contracts protect them from any claims that might arise from re-use of the Instruments of Service in such cases.
About the Author: As a professional engineer, Gail Kelley has performed structural design and analysis of post-tensioned structures, has performed constructability reviews, due diligence inspections, and condition assessments, and has provided litigation support for construction defect and delay claims in both state and federal court. She received her B.S. in Civil Engineering from Cornell University, and Master of Science in Structure and Materials from Massachusetts Institute of Technology (MIT), and she received her Juris Doctorate from American University, Washington College of Law. She provides risk management services for ConstructionRisk, LLC. This article is published in ConstructionRisk.com Report, Vol. 17, No.7 (October 2015).
Copyright 2015, ConstructionRisk, LLC
Article 3
Failure to Design According to the IBC Was Not Breach of Contract But Could be Malpractice
See similar articles: Breach of Contract | Defective Design | Malpractice | Measure of Damages | Professional Negligence | Professional Standard of Care
By Gail S. Kelley
ConstructionRisk, LLC
Where compliance with the IBC 2000 was not an explicit contract requirement, design firm's failure to design a seismic retrofit in accordance with the IBC 2000 was not a breach of its contract. However, the firm's failure to meet the proper standard of practice for structural engineering when designing the retrofit was grounds for a malpractice claim. , Inc., 127 A.D.3d 1377 (2015).
The plaintiff in this case operated a hospital in Otsego County, New York. In 2002, the hospital hired Cannon Design (Cannon) to provide design services including a seismic retrofit, which involved structurally enhancing one of the hospital buildings to protect it from earthquakes. Cannon designed the retrofit using four steel plate shear walls. Three of the shear walls were built during phase one of construction; the fourth was deferred until phase two due to interference with electrical systems that were scheduled to be replaced in phase two. However, prior to construction of the fourth wall, the hospital terminated its contract with Cannon.
The hospital subsequently sued Cannon for both breach of contract and malpractice (professional negligence), alleging that the design of the seismic retrofit was defective. The trial court determined that Cannon breached the contract and committed malpractice, and awarded the hospital damages of approximately $1.7 million.
Cannon appealed the ruling; although the Appellate court reversed the trial court's ruling on the breach of contract claim, it agreed with the ruling on the malpractice claim. It also found that the damages awarded by the trial court were reasonable.
Professional Negligence (Malpractice)
To establish a claim of professional negligence in New York (and most other states), a plaintiff must prove that there was a departure from the accepted standards of practice of the profession in the relevant area and that the departure was a proximate cause of the plaintiff’s injury. These elements are generally established through credible expert testimony. In this case, the hospital presented expert testimony from a structural engineer experienced in seismic engineering. The engineer testified that Cannon calculated the seismic load according to the 2000 IBC and distributed the load to the four shear walls. He also noted that the 2000 IBC does not address steel plate shear walls, so Cannon relied on an article in an engineering journal. While Cannon’s reliance on the article was reasonable, Cannon did not adhere to the design approach discussed in the article. As a result, the three shear walls were not constructed properly, such that even with the fourth shear wall, the building would not have been protected from the magnitude of earthquakes that the seismic retrofit was intended to withstand. The engineer's testimony, which the trial court found was more credible that the competing opinion of Cannon's expert, was sufficient to establish that Cannon failed to meet the proper standard of practice for structural engineering.
As for proximate cause, the engineer opined that Cannon’s failure to comply with the relevant standards resulted in a design that would not operate as intended, requiring remedial efforts to create a building that would withstand the magnitude of seismic events contemplated by the parties as the standard for the retrofit. The court found it irrelevant that the seismic threat level for Otsego County had been reduced and the building would not require a seismic retrofit under the current building code. Regardless of the code changes, the hospital did not receive the seismic retrofit design that it expected and that Cannon admitted it intended to provide.
Breach of Contract
The hospital alleged that Cannon breached its contract because the seismic retrofit did not meet the requirements of the then-current building code, the 2000 International Building Code (IBC). Cannon conceded that everyone involved considered the 2000 IBC to be the applicable design criteria. However, the IBC was not explicitly referenced in the contract and the contract prohibited oral modifications. The trial court could not alter the contract by adding a requirement for compliance with the 2000 IBC, thus the Appellate court found that the trial court should have dismissed the hospital’s breach of contract claim.
The contract required Cannon's services to be provided "in a manner consistent with the standards of care and skill exhibited in its profession for projects of this nature, type and degree of difficulty.” The Appellate court noted that this provision simply incorporated the common-law standard of care for a professional into the contract. Making ordinary obligations related to a professional's standard of care into express terms of a contract does not remove violation of the obligations from the realm of negligence, nor does it convert a malpractice claim into a breach of contract claim. A breach of contract claim based on the violation of this contract provision would simply duplicate the malpractice claim.
Measure of Damages
The hospital proved that the seismic retrofit it received, even if completed through the installation of the fourth shear wall, was defective because it would not provide the anticipated level of protection. The Appellate court rejected Cannon’s contention that the hospital's proposed damages constituted economic waste. The court noted:
The proper measure of damages due to the defective design of a building is the cost to remedy the defect, unless such amount is “grossly and unfairly out of proportion to the good to be attained” by fixing the building. The defects here were not trivial, but were substantial as to the seismic function of the building, such that plaintiff was entitled to damages in the amount necessary to remediate the defects (less any amount that would have been necessary to add the fourth shear wall).
Comment
The distinction between a breach of contract claim and a professional negligence (malpractice) claim can be extremely significant to a design professional, despite the fact the claims may arise from the same set of facts. A negligence claim is likely to be covered by the design professional's Professional Liability policy (at least to the policy limits). A breach of contract claim would not be covered by Professional Liability policy. As codes become more complex, many design firms are turning to code compliance consultants to insure that their designs comply with both their contractual requirements and the professional standard of care.
About the Author: As a professional engineer, Gail Kelley has performed structural design and analysis of post-tensioned structures, has performed constructability reviews, due diligence inspections, and condition assessments, and has provided litigation support for construction defect and delay claims in both state and federal court. She received her B.S. in Civil Engineering from Cornell University, and Master of Science in Structure and Materials from Massachusetts Institute of Technology (MIT), and she received her Juris Doctorate from American University, Washington College of Law. She provides risk management services for ConstructionRisk, LLC. This article is published in ConstructionRisk.com Report, Vol. 17, No.7 (October 2015).
Copyright 2015, ConstructionRisk, LLC
Article 4
"Or Equal" Vendor Can Sue Architect for Tortious Interference with Contract for Drafting Disguised Sole Source Specification and Rejecting Or Equal Bid
See similar articles: Bad Faith | bid rejection | Or Equal | Sole Source | Specifications
By Kent Holland, J.D.
ConstructionRisk, LLC
A vendor/installer of artificial turf (FieldTurf) for athletic fields sued the architect of record that prepared bid specifications for a university that could not be met by that vendor but allegedly could be met only by a competitor vendor (A-Turf) for whom the specification was a disguised sole source. The general contractor for the project chose to use FieldTurf, but the architect rejected samples submitted by the general contractor, claiming the specifications were not met. The GC terminated its contract with the FieldTurf vendor and used A-Turf instead. Although the appellate court noted that “the laws requiring competitive bidding were designed to benefit taxpayers rather than corporate bidders,” it nevertheless reviewed the plaintiffs detailed allegations that the architect acted in bad faith, and concluded that there may be a reasonable theory of recovery against the architect, and therefore reversed the lower court’s dismissal. Chenango Construction v. Hughes Associates, 128 A.D.3d 1150, 8 N.Y.S 3d 724 (2015).
Tortious Interference with Contract
The matter will have to go to trial. The court appeared concerned about the allegations that the architect alleged “used specifications that were narrowly drafted to specifically favor A-Turf and did so despite protests from plaintiff” on at least two additional projects. The court was also potentially concerned by the fact that the plaintiff’s FieldTurf product had been successfully used for identical purposes on numerous professional and collegiate sports facilities. The “Plaintiff contends that [Architect] was in contact with A-Turf and plotted ways to favor A-Turf while excluding plaintiff and other competitors.”
Comment
Long ago when I was an attorney in the Office of General Counsel at the U.S. Environmental Protection Agency (EPA) I had responsibility to advise and concur on EPA Regional decisions on bid protests under the wastewater treatment construction grant program. Numerous bid protests from equipment suppliers complained that design professionals were getting around the requirement to write specifications permitting open and free competition by instead writing specifications that created only the appearance of allowing competition when in fact they were what we called a “disguised sole source” because only one vendor could possibly meet all the detailed design features. If I can ever locate a copy of an article I wrote almost 30 years ago about the harm caused by disguised sole source procurement, I will reproduce it in one of the next issues of this newsletter. I don’t know anything about the facts and merits of this particular case, but I believe it is good that the vendor gets the opportunity to have its day in court so that the merits can be fully reviewed and decided.
About the author: Article written by J. Kent Holland, Jr., a construction lawyer located in Tysons Corner, Virginia, with a national practice (formerly with Wickwire Gavin, P.C. and now with Construction Risk Counsel, PLLC) representing design professionals, contractors and project owners. He is founder and president of a consulting firm, ConstructionRisk, LLC, providing consulting services to owners, design professionals, contractors and attorneys on construction projects. He is publisher of ConstructionRisk.com Report and may be reached at Kent@ConstructionRisk.com or by calling 703-623-1932. This article is published in ConstructionRisk.com Report, Vol. 17, No. 7 (October 2015).
Copyright 2015, ConstructionRisk, LLC
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