Whether it’s a contract, an insurance policy or another provision governing a construction project, all terms are spelled out in black and white—or they should be. If not, the risk for claims and disputes usually rises, often dramatically.
Construction contracts alone can make or break projects before shovels hit the dirt, depending on whether the terms and conditions of multiple documents are accurate, comprehensive, consistent and, perhaps most importantly, read and understood by all principal parties. Such a close reading has long been the advice of construction attorneys, sureties and risk experts, although their words are not always heeded.
Problems can—and do—arise from the outset if team members are not familiar with documents incorporated by reference (IBR) into their contracts, but not physically included in it, says Caryl Shuham, corporate counsel with Fort Lauderdale, Fla.-based contractor and construction manager Moss. Typical IBR documents include upstream contracts, drawings and specifications, environmental policies, safety policies and procedure manuals.
“If incorporated by reference, those documents are as much a part of the original contract as if they were included in their entirety,” Shuham says. Accordingly, it is incumbent on contractors, subcontractors and other relevant parties to obtain and read all IBR documents before signing on the dotted line, she says.
Careful review may uncover conflicts within the contract, including IBR documents, given that project paperwork typically is extensive. As a result, Moss seeks to ensure that contracts include an order of precedence, meaning that they prioritize documents to determine which ones truly govern in the event of a conflict, Shuham says.
Contractors should also clarify the full extent of their responsibilities. Provisions included in scope of work, for example, may not only require contractors to perform all work expressly specified in the contract but also to provide labor, materials, equipment and services for tasks “reasonably inferable” from the contracts, but not included in writing, Shuham says.
“Contractors cannot ignore omissions that are obvious to a reasonable contractor in a similar situation,” she says. Case in point: A contractor should likely infer responsibility for connecting the sink fixture and water line it installs, even if the connection is not expressly reflected in the drawings. Also at issue is whether contract documents hold the contractor or subcontractors responsible for ensuring their work complies with applicable law, rule, regulation, ordinance, code or statute.
“Exclusive of involvement in a design-build contract, the contractor or subcontractor should be sure it is not inadvertently assuming a design obligation,” Shuham advises. “Further, the contractor should not be obliged to perform corrective rework without a change order when its finished work conforms with contract documents but is found in violation of code.”
One resolution calls for a provision that holds the contractor responsible for performing the work in accordance with applicable codes (i.e., means and methods), but does not oblige the firm to determine whether the design complies with codes.
However, even this would not ordinarily relieve the contractor of responsibility to notify the owner or upstream party before proceeding with work when “it knows the drawing requirement doesn’t conform to code,” Shuham says. “Under those circumstances, submit an RFI (request for information),” she says.
Because scheduling issues are among the most frequently litigated in construction, Shuham advises that contracts include a “time is of the essence” clause establishing that the specified completion dates are mandatory and critical to all parties. Further, the contract should incorporate a liquidated-damages provision to ensure “each party understands the cost impact of the delay,” Shuham says.
“Liquidated damages typically are drafted to identify the contractor’s liability for each day it inexcusably delays damages.” However, reverse-liquidated damages due to owner-related delays are increasingly common, she adds.
“An effective insurance plan allocates risk to the party best positioned to manage it and structure the policy as economically as possible,” says David Marino, U.S. construction industry leader, national construction practice, with New York City-based insurer Marsh USA.
For instance, from an owner’s perspective, a contractor may be deemed best qualified to assume responsibility for bodily injury or property damage, since the contractor is in a better position to manage those risks by maintaining a safe jobsite. A common method of transferring risk involves incorporating additional insured coverage, allowing one party to obtain coverage under another party’s policy, Marino says. The intent is to protect upstream parties against liability related to the activity of downstream parties.
“Policies for additional insured protection need to be carefully scripted,” Marino says. “Problems arise when wording on downstream policies and related endorsements don’t line up. You may wind up with significant gaps in coverage.” Receipt of an insurance certificate is not sufficient, he says. “Downstream parties should supply upstream parties with endorsements and full copies of insurance policies to allow the upstream party to perform a proper audit of compliance.”
In addition to managing insurance, parties can further reduce their risks for disputes or claims through better administration of project documentation, prequalifying project participants, and quality management or development of a risk-mitigation plan, says John Fitzgerald, senior risk engineering consultant with Schaumburg, Ill.-based insurer Zurich North America.
“Documentation begins prior to construction and is applicable to owners, designers, contractors and subcontractors,” Fitzgerald says. Defaults may occur if formal documentation, including scope of work, change orders and other standard contract provisions are unclear, or when emerging issues or problems aren’t documented in daily reports, meeting minutes or correspondence via official letter or email.
“You want the documentation to be thorough, stating the issue’s potential impact on performed or unperformed work,” Fitzgerald says. “Documentation also should be contemporaneous with the corresponding issue, so matters are addressed in a timely manner.”
Incomplete or improper documentation can lead to problems. “Imagine starting construction on a refinery foundation, with specs based on assumptions concerning the completed facility’s load-bearing capacity,” Fitzgerald says. “What happens when the refinery equipment arrives four months later and weighs twice the amount anticipated? Work stops to upgrade the foundation.”
Prequalification programs should be equally thorough, investigating a contractor’s or designer’s prior experience with particular project types and geographic areas, in addition to evaluating backlogs to ensure a candidate has the capacity to perform the work, Fitzgerald advises. Prequalification of contractors and subcontractors should include safety documentation, financial statements for the previous three years and information pertaining to bonding capacity and bank lines of credit.
“An owner or contractor may neglect to properly prequalify if they’ve successfully worked with a candidate on three or four projects,” Fitzgerald says. “However, circumstances change. Financial issues may have arisen that prompt the firm to perform work with a smaller workforce. As a result, evaluations should be performed on an annual basis.”
Once the project starts, attention shifts to quality control. “All parties, including owner, architect, engineers, contractor and subcontractors should inspect construction activity at regular intervals,” he says.
Finally, owners and contractors should develop a written risk-mitigation plan that identifies conditions unique to the project, Fitzgerald says. If possible, include the plan in the subcontract. “Parties also may wish to attempt to incorporate it in the prime contract,” he says.