We have recently discussed the 2024 construction market and economic conditions, the impact of the same locally and resulting risk issues, and examined the second order impacts from the state of the economy. We now will focus on specific critical contract terms and suggestions that developers and contractors should focus on in the current environment.
Preserving Bond and Lien Rights
As previously noted, the current interest rate and financing environment is resulting in a much tighter cash flow situation for many projects. This means that everyone needs to pay attention to preservation and assertion of bond and lien rights. You need to understand whether your state has specific preconditions to even asserting a lien. For example, in Virginia, on residential projects you need to send a notice before you work to the mechanic’s lien agent, or your lien may be dead before you even start. Owners and even general contractors may want to ensure a lien agent is included on the permit.
Similarly, lien and bond claims tend to have quite specific filing and deadline requirements. You need to know these details cold to manage your risk and make intelligent decisions as opposed to letting lien rights evaporate due to inaction.
Material Escalation Clauses
COVIA triggered significant market disruption and ultimately led to extensive escalations in both labor and material costs. These price disruptions have abated some but are sporadically continuing.
Given that context, you need to negotiate clear terms on when material and even labor escalations will allow pricing changes. This may not impact a “cost-plus” contract, although even there it may have an impact on a guaranteed maximum price. With fixed price contracts, price escalation terms are particularly key. Many of our contractor clients have seen projects move from profitable to hemorrhaging cash due to pricing changes during construction. Escalation clauses allow for the parties to equitably negotiate exactly how pricing change risk is allocated on the project.
Managing Timing Risks Linked to Supply Chain Disruptions
As with pricing escalation issues, COVID led to incredible levels of supply chain disruption and thus delays on many projects. While this has certainly calmed down some, we are still seeing extensive delays in certain long lead-time items such as HVAC and electrical equipment in particular. When negotiating your contract, you want to intensely focus on allocation of risks for delays. Who owns the risk of supply chain disruptions? Are such disruptions grounds for extension?
Pre-COVID, the entire economy was built on a rapid supply chain and minimal inventory. Contractors often signed up to own quite a bit of schedule risk. Given the current environment, you need to consider how to hedge that risk, at least to the extent of avoiding being in default and even liable for liquidated damages for supply chain issues.
Compensation for Delays
Beyond simply time of performance, delays implicate costs. During the period of delay, contractors are still incurring general conditions expenses for benefits, project insurance, potential staffing costs, rental expenses, and the like. As you negotiate allocation of risk for time, you should also consider compensability.
Many owner agreements attempt to limit or eliminate any recovery of costs associated with delays. A middle ground is to limit such recovery to direct project costs. This eliminates the risk to the owner of consequential damages for timing based claims, such as extended home office overhead while still allowing recovery of actual out of pocket costs associated with the delays.
Conclusion
The current economic landscape demands meticulous attention to contract terms. You need to focus on critical areas such as bond and lien rights, material escalation, and delays provisions. These strategic contractual protections are essential for maintaining project viability and financial health in a fluctuating market.
In the upcoming final entry of this series, we will synthesize the insights provided throughout and offer guidance on the construction industry’s path forward, emphasizing strategic decision-making and proactive legal planning.
If you have questions about any DMV construction issues, please feel free to reach out Timothy Hughes at Bean, Kinney & Korman, P.C. at (703) 526-5582, thughes@beankinney.com. Our firm practices in Virginia, Maryland, and the District of Columbia in addition to various other jurisdictions.
This article is for informational purposes only and does not contain or convey legal advice. Consult a lawyer. Any views or opinions expressed herein are those of the authors and are not necessarily the views of any client.