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Owner Alerts – Fall 2016

By John Sier

Construction necessarily occurs in the legal environment, which can be unique for each state, district, or circuit. Changes and developments can take place gradually or unexpectedly, and most changes will affect contracts already in place as well as future projects. COAA is a great resource for maintaining currency on industry evolution and identifying best practices.

Delay damages are different from disruption damages, as are direct damages from consequential damages

The contractor in County of Galveston v. Triple B Services, LLP completed a road widening project according to the contract time, but sued the County for breach of contract because the County was slow in performing some of the utility relocations, which resulted in the cont ractor resequencing some of the original work and performing more hand-work and rework. The contract established a baseline schedule, and the schedule included dates by which the County was to move some utilities including gas, water and fiberoptic cables. The contractor argued that the County did not move the utilities until nearly a year later than scheduled. The contractor claimed to have incurred additional costs to timely complete the project as a direct result of the County’s alleged delay in moving the utilities. These costs included additional costs to handform manholes, set and reset barricades, extended field office overhead, additional labor, equipment, street cleaning, flagging, and traffic control, along with lost profit and markup on those costs.

The County argued that the statutory waiver of sovereign immunity in Texas only applied to “delay damages” and not to “disruption damages.” The contractor’s expert explained that delay damages were time-based costs while disruption damages were task-based, but disruption damages could result from a delay. Since the project did not extend beyond the original contract completion date, the damages were described as disruption rather than delay. The County argued to the trial court that the damages sought were not “delay damages,” so the contractor was not entitled to recover against the County. Both the trial court and the Texas Court of Appeals disagreed with the County in reviewing the statute in question and the definitions of “delay damages” and “disruption damages.”

The Court of Appeals noted that delay damages arise out of delayed completion, suspension, acceleration, or disrupted performance and compensate the contracting party that is injured when a project takes longer than the construction contract specified. On the other hand, disruption damages are for a project that may be timely completed but compensates the contractor for a reduction in the expected productivity of labor and equipment. As noted by the Court, an event could both disrupt and delay a critical path activity potentially resulting in a project that finishes on time but at greater expense because of the disruptive events or scheduling errors.

The statute in question, Tex. Loc. Gov’t Code Ann. § 262.007(b), allowed for recovery of damages against the County under limited circumstances, such as: (1) the balance due and owed by the county under the contract as it may have been amended, including any amount owed as compensation for the increased cost to perform the work as a direct result of Owner-caused delays or acceleration…

In words that only a lawyer could love, the Court described the issue: “[w]hether ‘disruption damages’ can be damages resulting from ‘Owner-caused delays or acceleration’ hinges on the interpretation of the words ‘delay’ and ‘direct’ and the phrase ‘under the contract.’” The Court then turned to dictionary definitions of delay as meaning to impede or hinder together with a review of other cases from across t he country to determine that the ordinary meaning of the word “delay” encompasses both delays to the final performance date and delays to specific tasks that must be completed under the contract.

Next, the Court examined the more challenging determination of a “direct result.” The statute has been found to exclude consequential damages, so the statute is similar in that regard to many industry contract forms. Direct damages may be recovered, but consequential damages may be waived or excluded. The Court noted that, “direct damages compensate the plaintiff for a loss that is conclusively presumed to have been foreseen by the defendant as a usual and necessary consequence of its wrongdoing.”

Again, only lawyers and judges can unabashedly get away with such circular definitions. In reviewing the elements of the claimed damages, the Court clarified by listing “direct” elements of damages such as its additional costs to hand-form manholes, set and reset barricades, and incur additional labor, equipment, street cleaning, flagging, and traffic control. However, the Court noted that lost profits are a typical example of a non-direct, consequential damage that are waived or excluded.

Both ConsensusDOCS and the AIA include some form of waiver of consequential damages. The ConsensusDOCS form allows the parties to identify particular types of damages that are not waived or are preserved. Both clauses recognize that direct damages remain recoverable by both parties. The challenge will always be definitional. While the ConsensusDOCS forms prompt the parties to have a more robust discussion of damages being waived or preserved, the categories of damages should always be a topic of discussion along with the dispute resolution mechanism in establishing the contract language.

Liquidated damages for delay in a public works contract are examined prospectively at the time of contracting, not at the time of imposition

Some contracts lend themselves to liquidated damages for delays, and the ConsensusDOCS forms contain prompts for the parties to discuss methods of calculating or agreeing to liquidated damages at the time that the contract is being negotiated or executed. The Ohio Supreme Court in Boone Coleman Construction v Village of Piketon reviewed a situation where the liquidated damages imposed exceeded forty percent of the total value of the contract and found that the daily damages were reasonable at the time of contracting, so the total damages imposed were reasonable. The contractor was awarded a contract for $683,300 to perform road widening and install a traffic light in Piketon, Ohio, with a performance period of 120 days to avoid imposition of liquidated damages of $700 per day. Piketon granted one extension, but refused f ur t her ex tensions. The contractor finished 397 days late and had not provided the contractually-required notices for additional compens at ion. W hen the contractor sought final payment following completion, Piketon asserted entitlement to $277,900 in liquidated damages. The trial court awarded t he liquidated damages, but the Ohio Court of Appeals reversed, which resulted in the review by the Ohio Supreme Court.

The contractor asserted that imposing liquidated damages of forty percent was unreasonable and disproportionate in the application of the liquidated damages to this delay and amounted to an impermissible penalty. The Ohio Supreme Court reviewed the common definition of a penalty as a “sum inserted in a contract, not as the measure of compensation for its breach, but rather as a punishment for default, or by way of security for actual damages which may be sustained by reason of nonperformance, and it involves the idea of punishment. A penalty is an agreement to pay a stipulated sum on breach of contract, irrespective of the damage sustained. Its essence is a payment of money stipulated as in terrorem of the offending party….” The Latin phrase in terrorem means exactly as it sounds – to induce fear by a threat – and provides the root for English word “terror.” A penalty is meant to scare one party into performing the contract to avoid the imposition of the liquidated damages regardless of whether the other party suffers any damages as a consequence of the breach.

However, the Court reviewed the liquidated damages as described in the contract as imposing a daily rate rather than a stipulated sum, which is more reasonable when related to the estimated damages resulting from a delay. The Court rejected a retrospective analysis looking at the total amount of liquidated damages rather than the daily rate. Instead, the liquidated-damages provision should be examined in light of what the parties knew at the time the contract was formed: “This prospective or ‘front end’ analysis of a liquidated-damages provision focuses on the reasonableness of the clause at the time the contract was executed rather than looking at the provision retrospectively, i.e., ascertaining the reasonableness of the damages with the benefit of hindsight after a breach.”

The Court noted that the amount was large only because the contractor failed to complete the project for more than a year after the agreed upon completion date, with full awareness of the consequences.

If the parties make a reasonable assessment of the potential damages resulting from a delay and identify a daily rate that is supportable, the fact that an extended delay may result in the imposition of significant liquidated damages may not invalidate those damages. However, both parties should exercise great care in formulating a realistic calculation of daily damages. Some formulae may have sliding scales of damages depending on the potential or likely losses to be experienced for extended delays. The important point is to seriously consider and discuss the applicability and desirability of liquidated damages in any particular project.

Enrolled subcontractors in an Owner or contractor controlled insurance program may be entitled to immunity from suits by employees of other subcontractors

Owner or Contractor Controlled Insurance Programs (OCIP/ CCIP ) s o m e t i m e s are implemented on larger construction projects that satisfy state statutory requirements to allow the Owner or Contractor to procure insurance, including worker compensation insurance, on behalf of all of the project participant s or “enrollees.” In exchange for reducing the subcontract price by the amount of the insurance costs provided for the project, the subcontractor is enrolled in the program and entitled to the coverages of the various policies. Many Owners experience savings in the cost of premiums and claims-handling, and litigation relating to claims by third-parties can be reduced through an OCIP/CCIP. However, each project must be assessed individually along with any state law requirements. In most states, employers are granted immunity from being sued by employees for work-related injuries, subject to certain exceptions. However, a particular subcontractor is not immune from suit by the employee of another subcontractor who may be injured on a construction project. That dynamic changes entirely for subcontractors enrolled in an OCIP/CCIP as discussed by the Supreme Courts of Texas and Ohio. In Stolz v J&B Steel Erectors, Inc., an employee of the concrete subcontractor who was injured on the Horseshoe Casino project sued the general contractor and other subcontractors for his injuries. The general contractor had implemented a CCIP under the authority of the Ohio Bureau of Workers Compensation, and the trial court granted the general contractor immunity as the “self-insuring employer” but denied that immunity to the other subcontractors. The parties sought review by the Ohio Supreme Court who found that the statute granting immunity to the “self-insuring employer” who did not actually employ all of the workers on the site compensation scheme provides immunity to “subcontractors enrolled in a CCIP from the claims of employees of other enrolled subcontractors who are injured or killed while working on the project, provided that the injury, illness, or death is compensable under Ohio’s workers’ compensation laws.”

Similarly, in TICEnergy and Chemical, Inc. v. Martin, an employee of the Owner, Union Carbide, was injured on a construction project and sued one of the subcontractors for causing his injuries. The Owner had established an OCIP, and the subcontractor was enrolled in the program. The Texas Supreme Court noted that in the absence of the OCIP, the subcontractor would have no legal basis to argue immunity, but the creation of the OCIP consistent with the statutory scheme entitles the subcontractor to the same immunity as the employer. One of the benefits of the OCIP/CCIP implementation is the presumed reduction of litigation between parties seeking indemnification since the same policy covers the third-party liability claims. These two decisions illustrate another potential benefit of an OCIP/ CCIP in reducing the litigation between injured employees and other subcontractors. This is another factor when evaluating the costs and potential savings of an OCIP/CCIP, but any decision should be made carefully and with the assistance of a skilled insurance counselor who is familiar with construction risks.