Construction Contracts: Building projects require careful scrutiny
(from Maine Townsman, March 1998)
By Geoffrey Hole and Robert Gerber, Bernstein, Shur, Sawyer & Nelson

If you’re in a courthouse some day, an elevator door opens, and persons who are obviously attorneys, engineers or architects and clients start unloading boxes of documents from the elevator to the corridor, you are probably looking at a construction case.

There are at least two factors which are quite sad in relation to construction cases: First, a lot of the time the amount of money in controversy doesn’t justify the full-blown confrontation which takes place. Stated differently, the attorneys and the experts end up with the money. Second, the genesis of the dispute is that the contractual details are not clear between the town and the consultant, or the town and the contractor.

This article focuses on some important considerations in contracts with design consultants and the contractor for municipal construction projects. First, however, it discusses tbe increasingly popular design-build approach to construction projects and the importance of subsurface investigation and foundation design to the project.

DESIGN-BUILD

While it is not always legally possible to utilize this approach, design-build is increasingly popular as a method for doing projects.

In the more traditional method (called "design-bid-build") the town selects a design professional who designs a project; the town puts the project out to bid; a contractor is selected; and the contractor builds the project with a lot of interaction with the design professional during the construction process.

With design-build, there is a single contract with an entity that is responsible for both design and construction.

The potential advantages of design-build projects over design-bid-build projects are that the former are usually built faster; are often cheaper; can offer some up-front project financing; and they eliminate the potential for claims and delays due to arguments between the designer and the contractor.

The problem with design-build contracts is that the town must be extremely clear in the contract in stating what it wants. Wherever the contract is silent or fuzzy about the requirements of the work, the contractor is free to exercise his own judgment. Changes during construction can be very costly and affect the project completion date.

Corporations with facilities management groups on staff are adept at specifying what they want and can take maximum advantage of the design-build approach. Municipalities rarely have enough staff or experience to define adequately a design-build contract. Therefore, should the town want to take advantage of design-build, it will probably need the assistance of design professionals and others to develop the contract and work with the contractor throughout the process to assure that the project meets the needs of the municipality.

Subsurface Investigation and Foundation Design

Subsurface work is involved in almost all construction in Maine and it is one of the largest sources of changed conditions claims. Special care is needed in selecting professionals who investigate subsurface conditions and design foundations and other subsurface systems based on their investigations.

Unlike the erection of a steel structure where all materials can be specified in advance, conditions in the subsurface are highly variable and only known with certainty at the exploration points. Because the geotechnical investigation often occurs before major funding is committed to a project, there is great pressure to keep costs to a minimum.

Making reasonable predictions on little information requires a great deal of experience and familiarity with local geologic conditions. With little information, the engineer will normally be very conservative in his or her design, with the result that saving $10,000 in geotechnical fees at the beginning of a project may later cost $100,000 extra in construction of a foundation system.

One of the most troublesome problems is defining the elevation of the bedrock or ledge surface. If it is less than 5 feet from the ground surface, it will affect the cost of utilities, roadways and foundations. Because of the great difference between the cost of blasting rock versus filling land with soil, it may save the project some money if ledge is one foot deeper than predicted. But if ledge is one foot closer to the surface than predicted, the extra cost to the project is about five times more.

The depth to ledge is usually determined by test pits, drilling, and probes referenced to some local benchmark. This information is converted to the elevation of the bedrock, which is then usually contoured by a technician to produce a map of the bedrock surface.

Topographic maps of the land surface are produced by surveying the high points and low points (which can be seen) and interpolating between. In subsurface exploration, one usually does not know where the highs and lows in the bedrock surface are located.

Given all these facts, the most prudent approach is to select experienced professionals who are knowledgeable about the area geology, be generous in funding subsurface exploration, and calculate rock removal contingencies based on an assumption that bedrock is higher than estimated by an amount of one to two feet rather than the traditional approach of providing a contingency based on 10% or 20% of the best estimate of the ledge excavation cost.

CONTRACTS WITH DESIGN CONSULTANTS

Selection of Design Consultants

The selection of design consultants is a very important part of the construction process. It is complementary to having good contracts.

Many town officials assume that design consultants, like contractors, must be hired in a competitive price bidding process. This is not true unless the town is utilizing monies from an agency that requires bidding for design professionals, or is otherwise required. However, towns are cautioned to individually explore the bidding requirements for each project because they vary widely.

For every project, there is an optimum professional team to do that work and the best result occurs when the professionals are selected on the basis of qualifications which include prior experience with your type of project. Once the professional is selected, the town should participate in the development of the scope of work and a mutually acceptable basis for compensating the professional. These are the key elements in the contract with the design consultant.

Contract Costs

Towns need to fully understand the cost of the consultant’s work as described in the contract. On the face of it, that should be simple, but it isn’t. There are at least three areas where towns should fully understand potential cost implications:

1) What services are included in the consultant contract with the town, and what services are additional? Many of the boiler plate contracts are vague about the distinction between basic services and additional services.

2) The primary consultant may need help from other disciplines, and the town needs to understand the potential cost of those services. Examples could include cost estimating, property surveys, test pits or borings, geotechnical engineering, construction testing, clerk of the works, traffic engineers or acoustical engineers. The town must know whether its consultant will subcontract services needed to complete the project, and if so, how much these might cost because many contracts require the town to absorb the costs of consultants of other disciplines deemed necessary by the primary consultant.

3) The town should have a clear understanding with its consultant about the consultant’s expenses. Quite often the subject of expenses is discussed generally or vaguely, and doesn’t lead to a clear understanding between the consultant and the town. Stated differently, what categories of expenses will be billed separately and will not be included in professional fees?

Arbitration

We are fully in favor of arbitration or mediation. However, if you even hint about arbitration in your contracts, you may have no alternative. We prefer to specify that disputes go to the Superior Court with jurisdiction over the matter, and a process of arbitration or mediation can then be negotiated if it is in the best interests of the parties when a dispute arises.

Termination

Many contracts restrict the right of the town to terminate the contract for "convenience" or require the town to pay considerable monies for that privilege. We like to modify that language so that if the town is forced to terminate an arrangement for reasons not related to the consultant, the town can do so without the payment of large sums of extra monies for services after the notice of termination. However, the town should agree in advance to a fee which allows the consultant to put the file in order for future use, as part of the termination process.

Insurance

It is extremely important that your consultant have insurance to protect the exposures the consultant or the town may face, including the consultant’s errors and omissions. The limits and terms should be satisfactory to the town, and the town should be named as an additional insured on the appropriate general liability policies. Towns need the full text of the policies, not just the face sheet, to evaluate the policies. In addition, we generally ask the town to have its insurer contact the insurer for the consultant, to make sure the policies are dovetailed, and there is no gap in coverage.

Negligence and Indemnification

Generally in consultant contracts, you will see language dispersed throughout the contract protecting the consultant from claims by the town. We have prepared a paragraph wherein regardless of any other language in the contract, the consultant is responsible to the town for negligent performance of the consultant’s duties.

Further, in many contracts, the town is asked to indemnify the consultant vis--vis the contractor, and is asked to indemnify the consultant in relation to hazardous wastes or materials at the construction site. The town should not agree to indemnification language because it is typically uninsurable.

The town is the beneficiary of the Tort Claims Act and the town’s insurance policies are drafted accordingly. Indemnification requires the town to take on liability it otherwise doesn’t have. Simply stated, when a town signs a contract with a provision indemnifying its consultant, it is swapping immunity for liability.

Finally, on the subject of indemnification, the town should require the consultant to indemnify the town, from all claims arising out of the consultant’s services or of the services of agents or employees of the consultant.

CONTRACTS WITH THE CONTRACTOR

Contractor Selection

The selection of contractors is generally an open bidding process. However, the town should investigate whether a process of pre-qualification can be used.

Pre-qualifying bidders is a separate step in the selection process that identifies the minimum qualifications of a contractor for a project of the type you propose. For example, if the project is closing the town landfill, a minimum qualification criterion might be that the general contractor has previously worked on two landfill closure projects in other towns. By pre-qualifying bidders, you can be assured that no matter which contractor on the list wins the bid, any of them should be qualified to perform the work satisfactorily.

Bid Bonds

The bid submission on almost all large projects requires the bidder to post bid bonds. The purpose of bid bonds is to see that the successful contractor does not have second thoughts and walk away from the project.

Bid bonds are not seen as often on small projects, which is undoubtedly a balancing of their cost versus their value. When considering the use of bid bonds on small projects, the town must balance the idea that the bids will be a little higher because of the cost of the bond, against the idea that if the low bidder walks away from the project the breach of contract involved may cost the town far more than the cost of a bid bond.

The form of bid bonds should be specified in the bidding documents.

Performance and Payment Bonds

Performance and payment bonds are customary on all large projects, and in fact are required on public construction projects, over $100,000. Again, the language in the bonds should be specified in the construction documents.

The formats for performance bonds and payment bonds vary quite dramatically, and the conditions placed on some bonds, by some companies, make the bonds practically useless.

Even if a contractor is bonded, asking the bonding company to take over a failed project is a messy process and will cause project delays at best. Quite often, when a demand is made on the bonding company, the response is that the bonding company can and will assert any defenses the contractor has against the town. In addition, when suit is filed the same attorney may represent the bonding company and the contractor.

Relationship With Consultant

You may think this is a topic which should have been discussed earlier in this article, but remember the relationship between the town and the design consultant will be crafted before the relationship between the town and the contractor. The key is to see that the contract between the town and the contractor does not purport to create a relationship between the town and its consultant which is different than that created in the contract with the contractor.

Arbitration

We recommend the construction contract specify Superior Court rather than arbitration for the reasons stated earlier.

Damages

We’d like to discuss two aspects of damages in construction contracts.

The first is the concept of liquidated damages. It is quite usual for a construction contract to specify per diem damages if the contract is not substantially completed by a certain date. The purpose of liquidated damages is to give the contractor real incentive to finish on time. The problem is that the court doesn’t like to stray too far from the damages actually incurred by the town. If delays will not cause the town any particular damages (a new building to replace an old building) the town may be better to request liquidated damages and hope no serious contest arises over the amount of damages if the project is late. On the other hand, if the town will in fact be damaged by delay (a school building which if not completed will force students elsewhere) the town may want to ask for actual damages.

The second area where we want to discuss damages is in relation to payment clauses. The contract between the town and the contractor should be clear that if the town suffers damages at the hands of the contractor, the town is not forced to pay the contractor for work satisfactorily completed, even though larger amounts of damages to the town are looming. Stated differently, make sure the town has the ability to withhold sufficient money to protect itself rather than be forced to hand the money over and then seek its return.

Indemnification

Our comments earlier in this article regarding indemnification apply equally to the relationship between the town and the contractor. The contractor should be required to fully indemnify the town for all claims which arise because of actions by the contractor, its agents, employees and subcontractors.

Insurance

Because physical improvements take place as a result of the construction contract it is even more important that the insurance be adequate to financially and substantially cover all risks. Coordination of the policies between the town and the contractor is also important. Again, the policies should be satisfactory to the town and the town should be named as an additional insured. Because something is being built or renovated, proper casualty insurance also comes into play. Special insurances are required to do marine work, work on railroad and work underground.

Subcontractors

We always recommend a provision in contracts between the town and the contractor that the contractor must hold its subcontractors to the same standards the contractor is held in the contract between the town and the contractor. That way everyone is bound to the same duties and responsibilities. We also explore whether the town wants to include language which makes it difficult for subcontractors to lien the project.

CONCLUSION

We hope this article has provided the reader some ideas. We also hope the reader will not let enthusiasm for the project gloss over the concept that the contracts are as important to the project as its physical attributes. Each of the above thoughts applies to most "boiler plate" consultant or construction contracts, which should not be automatically signed.

A complete review of consultant contracts and construction contracts is beyond the scope of this article. Such a review will typically generate several pages of additional comments. However, the results of such a review will lead to a better understanding between the town and its consultants and contractors, and will greatly enhance the likelihood of a successful project. Don’t be bashful because your consultants and contractors will honor your request to review the contracts as professionally as they design and build your project.