SHIPWRECKED: Dealing With Construction Contract Defaults in the Real World

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SHIPWRECKED Dealing With Construction Contract
Defaults in the Real World
American Bar Association Forum on the
Construction Industry
2007 Fall Meeting

• George J. Bachrach, Esq.
• Whiteford, Taylor Preston, LLP
• Baltimore, Maryland

• Deborah S. Butera, Esq.
• Shapiro, Fussell, Wedge Martin, LLP
• Atlanta, Georgia

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SCENARIO NO. 1 OWNERS THREAT TO TERMINATE
GENERAL CONTRACTOR

• 1. Default concepts
• material default
• waiver
• Contract provisions
• Types of default events
• The suretys investigation
• The suretys assertion of the principals
  defenses

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IS THERE A MATERIAL DEFAULT?

• Restatement (Second) of Contracts 241
• Was the injured party deprived of the benefit it
  expected?
• May the injured party be adequately compensated?
• Will the breaching party suffer forfeitures?
• Is a cure likely?
• Does the breaching partys behavior comport with
  standards of good faith and fair dealing?

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AIA A 201 ARTICLE 14.2 TERMINATION OF THE
CONTRACTOR FOR DEFAULT BY THE OWNER

• Persistent failure to supply labor or materials
• Failure to pay subcontractors
• Persistent disregard of laws
• Other substantial breach of contract provisions

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TYPES OF GENERAL CONTRACTOR DEFAULT EVENTS

• Failure to perform
• - nonperformance
• - deficient performance
• - delayed performance
• 2. Failure to pay subcontractors
• 3. Failure to administer the contract
• 4. Violation of laws

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THE SURETYS INVESTIGATION

• Why, when, who, what and how
• 2. The suretys analysis of its investigation

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THE SURETYS ASSERTION OF THE PRINCIPALS DEFENSES

• The obligees failure to pay
• The obligees design obligations
• The obligees duty to cooperate
• The obligees failure to properly administer the
  contract
• The obligees failure to provide an opportunity
  to cure
• Waiver and/or release and settlement
• The principals setoffs or counterclaims

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SCENARIO NO. 2 OWNER/OBLIGEES DEMAND ON
PERFORMANCE BOND

• AIA A312 and A311 performance bond claim
  procedures
• What happens when the performance bond claim
  procedures are not followed
• The suretys defenses to the performance bond
  claim

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AIA A312 PERFORMANCE BOND CLAIM

• Provide notice to contractor and surety that
  owner is considering a declaration of default
• Request conference to be held within 15 days of
  receipt of notice
• Declare a contractor default and formally
  terminate not earlier than 20 days from receipt
  of notice
• Agree to pay contract balance to surety or
  replacement contractor

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AIA A311 PERFORMANCE BOND CLAIM

• Contractor in default
• Owner/obligee declaration of default
• Owner/obligee has performed its obligations

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• Bad things may happen to everyone if the
  performance bond claim procedures are not
  followed
• and why

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DRAGON v. PARKWAY BANK,678 N.E.2d 55, 58 (Ill.
Ct. App. 1997)

• We find the obligees failure to provide
  adequate notice of the contractors termination
  and their hiring of a successor contractor before
  the surety received the late notice stripped
  the surety of its right to limit its liability
  and constituted a material breach of contract
  which rendered the surety bonds null and void.

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ST. PAUL v. CITY OF GREEN RIVER, 93 F. Supp. 2d
1170, 1179 (D. Wyo. 2000)

• While the Board did properly notify St. Paul of
  Westgates default, it prohibited St. Paul from
  exercising its contractual right to perform
  itself or to participate in the selection of the
  replacement contractor. Because the Court
  concludes that St. Paul would not have entered
  the performance bond in the absence of its
  performance options under Paragraph 4, the
  Boards action depriving St. Paul of those
  options was a material breach, which discharged
  St. Paul from any further duty of performance
  under the bond.

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SEABOARD SURETY V. GREENFIELD, 266 F. Supp. 2d
189, 198 (D. Mass. 2003)

• Because a clear and direct default notice was not
  served pursuant to Paragraph 5, the Court finds
  that Greenfield was in material breach of the
  Bond when it ceased its dealings with Seaboard
  and hired another company to complete the
  Project. . . Greenfields refusal to allow
  Seaboard to complete the Project renders the Bond
  null and void and discharges Seaboard from any
  and all liability under the Bond.

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THE SURETYS ASSERTION OF THE PRINCIPALS DEFENSES

• The obligees failure to pay
• The obligees design obligations
• The obligees duty to cooperate
• The obligees failure to properly administer the
  contract
• The obligees failure to provide an opportunity
  to cure
• Waiver and/or release and settlement
• The principals setoffs or counterclaims

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THE SURETYS ASSERTION OF THE SURETYS OWN
DEFENSES

• The obligees failure to provide notice to the
  surety and/or comply with the performance bonds
  conditions precedent
• The obligees actions prejudicial to the surety
• Material alterations
• Overpayment
• Extensions of time
• Failure to timely terminate principal
• Failure to mitigate damages

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THE SURETYS ASSERTION OF THE SURETYS OWN
DEFENSES

• The obligees release and/or discharge of the
  principal (including the wrongful termination of
  the principal)
• Contractual and statutory limitations
• The obligees lack of good faith (concealment,
  non-disclosure and/or misrepresentation of facts)

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SCENARIO NO. 3 RESPONSES TO THE OWNER/
OBLIGEES PERFORMANCE BOND CLAIM

• The contractors claim of wrongful termination
• The suretys options in response to the
  owner/obligees AIA A312 performance bond claim
• Where the positions of the principal and the
  surety
• Coincide
• Differ

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WRONGFUL TERMINATION BY OWNER/OBLIGEE

• 1. Discharges contractor and surety from all
  performance obligations
• 2. Bars owner/obligees recovery of costs of
  completion
• 3. Exposes owner/obligee to lost profits and
  other damage claims
• 4. May expose owner/obligee to bad faith claims

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AIA A312 BOND CLAIM THE SURETYS OPTIONS

• Arrange for contractor completion
• Perform through agents or independent contractors
• Obtain bids and arrange for completion contract
  between owner/obligee and replacement contractor
• Waive rights to the above and either (1) tender
  payment or (2) deny liability

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• Where the positions of the principal and the
  surety
• Coincide
• Differ

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SCENARIO NO. 4 GENERAL CONTRATOR TERMINATION OF
BONDED SUBCONTRACTOR

• Alternatives to default termination
• Discussion of issues

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ALTERNATIVES TO DEFAULT TERMINATION

• Termination for convenience
• Correct and back charge
• Deductive change order
• Default and allow completion
• Withhold payment
• Change of personnel
• Supplement work force