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#55:  Pass Through Claims

4/26/2017

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In the law of contracts there is a concept known as “privity,” the direct relationship between parties to the same contract. Thus, an owner and a GC are “in privity,” a GC and a subcontractor are “in privity,” but an owner and a subcontractor are not. In general, to sue someone for breach of contract you must be in “privity of contract” with that person. It follows that a subcontractor cannot sue an owner for breach of contract – or, what amounts to the same thing, for extra compensation under an equitable adjustment provision of the prime contract.

Often an owner's failure to pay for extra work will affect a subcontractor far more than it will affect the GC. A good example is a differing site condition that obliges an owner to pay extra for dealing with ledge, or groundwater, or some unforeseen subsurface problem which will cost the sitework sub a ton of extra money but “cost” the GC only his markup on the sitework sub's extra work. If the owner refuses to pay the extra costs incurred by the sub, the sub cannot sue the owner because of the lack of privity.

In an effort to fix this problem the GC and sub could agree in their subcontract (or later) that the GC will pursue the claim for the sub and then turn over any recovery to the sub. Often the subcontract will also have a “pay if paid” clause providing that the GC doesn't owe any money to the sub except to the extent it collects from the owner. These two agreements seem perfectly consistent – and from the perspective of the subcontracting parties, they are. But from the perspective of the owner, who is not a party to the subcontract, the “pay if paid” clause may mean that the GC has not suffered any damages because the GC literally doesn't owe the sub any money it hasn't collected from the owner – a good defense to the GC's lawsuit!

Before discussing the fix to this dilemma, a bit of history is in order, and specifically the case of Severin v. United States, 99 Ct. Cl. 435 (1943), which held that a GC could not recover damages from the owner on a sub's behalf unless the GC “has reimbursed the subcontractor or is liable to make such reimbursement.” The so-called Severin Doctrine named for this case has been chipped away at over the years “out of reluctance to leave subs with valid claims out in the cold,” Morrison Knudsen Corp. v. Fireman's Fund Ins. Co., 175 F.3d 1221, 1251 (10th Cir. 1999). Nevertheless, the doctrine sill retains some punch. Unless the GC is at least conditionally liable to its sub, the GC has no damages, and thus no pass-through claim to pursue.

The solution comes in the form of a “liquidating agreement,” whereby (1) the GC concedes liability to the sub for the sub's extra costs, (2) the sub agrees that the amount of that liability is equal to the GC's recovery, if any, from the owner, and (3) the GC agrees to pass through that recovery to the sub. Liquidating agreements are "a valid mechanism for bridging the privity gap between owners and subcontractors,” North Moore St. Developers, LLC v. Meltzer/Mandl Architects, P.C., 23 App.Div. 27, 30, 799. N.Y.S.2d 485 (1st Dept 2005). Where they sometimes get tripped up is on the GC's admission of liability to the sub – something that most GC's strive mightily to avoid in the initial subcontract language. For example, a no-damage-for-delay clause in a subcontract, if it releases the GC from liability completely, can bar a pass-through delay claim despite the parties' effort to undo the release after the fact through a liquidating agreement.  Harper/Nielsen-Dillingham Builders, Inc. v. United States, 81 Fed. Cl. 667 (2008).

Thus far the New Hampshire Supreme Court has not been called upon to decide whether a liquidating agreement can provide a basis for a pass through claim, but virtually every state to consider the matter has concluded that it does. I expect New Hampshire will follow suit.

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#54:  Liening the Flow of Funds on Public Works Projects

3/25/2017

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Most subcontractors and suppliers who perform work or furnish materials for state and municipal projects know that the GC is required to provide a payment bond for their benefit – a substitute for the mechanic’s lien that, for public policy reasons, is not allowed on state or municipal property.  What they may not know, however, is about an alternative to a payment bond claim, one that may actually be of greater value to them: the right to lien the money coming from the owner to the GC.  The rarely-invoked statute is RSA 447:15:
 
“The liens given by RSA 447:5-14, inclusive, shall attach to any money due or to become due from the state or from any political subdivision thereof by virtue of any contract for any public work or construction, alteration, or repair, in the performance of which contract the lienor participated by performing labor, providing professional design services, or furnishing materials or supplies. Such liens shall not attach, however, unless filed within 90 days after the completion and acceptance of the project by the contracting party, whether such contracting party is the state or any political subdivision of the state.”
 
The lien works like a “trustee process,” requiring the public agency to act as a “trustee” of the funds and hold back the amount of the lien from any payments due or to become due to the GC until the lienor’s underlying claim against the GC is resolved.  Unlike a bond claim which may take months to be investigated by the surety and will cost the GC only eventual reimbursement of the surety’s expenses, the effect of this lien on the GC is immediate.  This affords a bit of leverage to the lienor that a bond claim does not.  And the lien is superior to the bond claim in another way: once the underlying claim is proven, payment by the public agency is immediate as well.  A surety’s check may take longer to arrive.
 
While the intent of the statute is clear enough, its procedural aspects are not a model of clarity.  Given the statute’s opening six words, it is safest to assume that the prerequisites to mechanic’s lien actions found in RSA 447:5 through :14 must be complied with – including the deadline of 120-days after the last of the labor or materials was furnished in which to get the attachment.  That the lien must also be “filed” within 90 days of completion and acceptance of the project by the public authority – the same deadline that applies to bond claims – appears to be an additional time constraint rather than a potential enlargement of RSA 447:9’s 120-day duration after the lienor’s labor and/or materials were last furnished.
 
Because the lien is on money rather than on real estate, the “attachment of the property” required by RSA 447:10 is not achieved by recording a writ of attachment at the registry of deeds.  But the statute does not say how that attachment is to be made.  The only thing that is literally “filed” is the attachment petition itself – in court.  Service of a writ of attachment on the public entity must still be made, and perhaps that service is the “filing” that the legislature had in mind in requiring the lien to be “filed” within 90 days following project completion and acceptance.  No court cases have shed any light in this regard.
 
Obviously RSA 447:15 will be useless if, due to the owner’s setoffs for faulty or incomplete work, no money will fall due to the GC.  In that event, the bond claim will be the only remedy worth pursuing.  But nothing prevents a sub or supplier from pursuing both the lien remedy and a bond claim simultaneously.  General Insulation Co. v. Eckman Construction, 159 N.H. 601, 608 (2010) (characterizing the lien remedy as being “[i]n addition to the remedy of seeking payment on the bond”).  Since a sub or supplier cannot be sure that there will ultimately be any money falling due to the GC, it makes sense to pursue both claims as an initial matter, and drop the bond claim if the lien pays off.  More often than not, it will.
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#53:  Project Work Agreements

2/27/2017

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New Hampshire’s recent renewed attempt to enact “right to work” legislation, prohibiting labor unions from charging fees to open shop employees who benefit from union-negotiated collective bargaining agreements, has been much in the news. Not as well publicized, but running on a parallel track, was House Bill 446.

Intended to outlaw project-specific labor agreements in state construction contract procurement, the bill proclaimed that “fair and open competition in state construction contracts is necessary to provide for more economical, nondiscriminatory, neutral, and efficient procurement of construction related goods and services by this state and political subdivisions of this state as market participants.” It defined “project labor agreement” as “any pre-hire collective bargaining agreement with one or more labor organizations that establishes the terms and conditions of employment for a specific construction project,” and forbade state contracting officers from either requiring or prohibiting them as a condition of bidding on a state contract.

PLAs have been around since the 1930s. They are negotiated by labor organizations, and require all contractors and subcontractors who bid on a construction project – whether they are unionized or open shop – to sign on to the PLA as a condition of working on the project. PLAs typically offer a guarantee to the owner that no work stoppage will occur during the life of the project, in exchange for granting the labor organization the ability to set wages, benefits and employment terms for the job. This results in favoring unionized contractors and requiring nonunionized contractors to hire union workers for the project and pay in to union benefit plans. In practical effect, PLAs require a project to be built solely with union labor, regardless of whether the successful bidder and its subs are otherwise open shop employers. Unions obviously love them. Contractor associations generally hate them.

Thus far about twenty states have forbidden their public procurement officials from utilizing PLAs. But New Hampshire will not be among them, at least not this year. On February 15 House Bill 446 was killed in Committee, where the “inexpedient to legislate” vote was 17-2 and the explanation was “This bill is an unnecessary and burdensome new government regulation, which seeks to tie the hands of our state contracting agencies, making it more difficult for the state to get the best deal for our taxpayer dollars. What’s more, this bill is a solution in search of a problem. The bill’s sponsor admitted in testimony that the practice this bill seeks to ban, so-called project labor agreements, have literally never been utilized in New Hampshire and are not planned to be.”

It is difficult to argue with an “if it ain’t broke, don’t fix it” rationale (although the notion that PLAs might result in “the best deal for our taxpayer dollars” could spark a chuckle). Unions have not taken root in the Granite State to the same extent that they have in many “blue” states. The focus now shifts to federal contracts, where President Obama’s 2009 Executive Order encouraging the use of PLAs on construction contracts in excess of $25 million will undoubtedly be reviewed by the Trump administration.

In a state like ours, where only about 10 percent of the construction work force is unionized, one wonders whether PLAs will scare off bids by local contractors and result in decreased competition. The debate over whether PLAs are likely to yield higher bids will continue to rage, but we do have one basis for comparison right here in New Hampshire. In 2011 the Department of Labor’s Job Corps Center project in Manchester went out to bid with a PLA, and the low bid was $37.87 million. All of the bidders were out-of-state contractors. After a bid protest was filed, the General Accounting Office advised the Department to withdraw the solicitation and re-bid the project without a PLA – which it did. In 2013 the re-bid project drew three times as many bidders, and was awarded to Eckman Construction for $31.63 million – a savings of $6.2 million.

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#52:  The Rights of an "Additional Insured"

1/30/2017

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In the construction setting, it is common for owners to require contractors to purchase insurance that names the owner as an “additional insured” under the contractor's Commercial General Liability policy. It is likewise common for contractors to require their subcontractors to do the same thing. In either case, an endorsement to the insurance policy naming the party as an “additional insured” will dictate the type of loss for which the “additional insured” is covered, typically limited to claims arising out of ongoing work (but not completed work) performed for the additional insured by the primary insured.

The advantage of being an “additional insured” under someone else's CGL policy is twofold. First, it can avoid the need for the additional insured party to purchase its own CGL policy for protection against the covered losses – because an additional insured is, in the eyes of the law, a party to the insurance policy entitled to the same defense and indemnity as the primary insured (unless an endorsement limits its scope). Second, even if it has its own CGL policy, a covered loss will not be on the additional insured's “loss history” so as to increase its premiums on its own CGL policy in the future – unless the additional insured coverage is expressly designated as “excess” or secondary to the additional insured's own CGL policy coverage.

The express terms of the “additional insured” endorsements matter greatly, yet I am constantly amazed at how infrequently the entity named as an additional insured bothers to inquire about them, contenting itself with a Certificate of Insurance listing the entity as an additional insured. Does the endorsement provide additional insured coverage only as “excess” coverage over the additional insured's own CGL coverage? Is it limited to claims arising out of ongoing work, or does it embrace “completed operations” as well? Is it limited to instances where there is a direct written contract between named insured and additional insured?

This last question comes into play when a general contractor requires subcontractors to carry CGL policies naming not only the GC but the owner as additional insureds. Two common endorsement forms, the 2013 versions of forms CG 20 33 and the CG 20 38, differ in their treatment of the issue. The CG 20 33 provides additional insured status for “any person or organization for whom you are performing operations when you and such person or organization have agreed in writing in a contract or agreement that such person or organization be added as an additional insured on your policy,” whereas the CG 20 38 also extends coverage to “any other person or organization you are required to add as an additional insured under the contract or agreement.” Whether the CG 20 33 requires that “you and such person or organization have agreed in writing” with each other is an open question on which courts do not all agree. Compare Pro Con, Inc. v. Interstate Fire & Cas. Co., 794 F.Supp.2d 242 (D.Me. 2011) (direct contract not required) with Westfield Ins. Co. v. FCL Builders, Inc., 407 Ill.App.3d 730, 948 N.E.2d 115 (Ill.App. 2011) (direct contract required). Our Supreme Court has yet to rule on the question.

Insurers often argue that additional insureds are entitled to coverage only for claims of vicarious or derivative liability on the part of the additional insured, and not for negligence by the additional insured. Where there is no express mention of vicarious liability in the endorsement, these arguments have not fared well in the courts. See, e.g., Capital City Real Estate, LLC v. Certain Underwriters at Lloyd's London, 788 F.3d 375, 380-81 (4th Cir. 2015). Once again, our Supreme Court has yet to rule on the issue.

Such open questions are potential traps for the unwary. If you intend to be an additional insured on another's policy, most of the land mines can be sidestepped by taking some time to examine the endorsement in the named insured's policy to ascertain the coverage it affords you. The wisest course is to prescribe what it must say, requiring the named insured to pick the broadest form available.
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#51:  Damages for Defective Work

12/29/2016

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In every lawsuit for breach of contract, both liability (establishing the breach) and resulting damages (the amount of money required to fairly compensate the non-breaching party) must be proven by a preponderance of the evidence. With regard to damages, the law seeks to make the non-breaching party “whole,” i.e., to put him in the financial position he would have enjoyed if the contract had been fully performed. If the contractor is the breaching party by virtue of defects in the work, the measure of damages required to accomplish that goal for the owner is not always obvious. Is cost of correction/completion the right measure? Or is diminished value of the structure the right measure?

The answer is, it depends. “The ordinary measure of damages is the cost of remedying the defective work, but that amount may be withheld if 'physical reconstruction and completion in accordance with the contract (would) involve unreasonable economic waste by destruction of usable property or otherwise.' . . . In that case, the injured party may be awarded the difference between the value the building would have had if constructed as promised and its value as actually constructed.” M. W. Goodell Const. Co., Inc. v. Monadnock Skating Club, Inc., 121 N.H. 320, 322 (1981).

Suppose a house is constructed almost perfectly, except that the required compressive strength of the concrete foundation walls was not met, or the correct rebar was not placed. Sure, the walls are somewhat more likely to crack. But do we really want to make the contractor pay to tear the whole house down and start over? “The defect may be of such a kind as to diminish the value of the house but little, while to make the work conform literally to the contract would involve reconstruction at unreasonable and disproportionate expense.” Danforth v. Freeman, 69 N.H. 466, 469 (1899). An award of damages equal to the cost of correction in such a case would in all likelihood simply be pocketed by the owner, arguably constituting a windfall instead of making him whole.

The determination of whether reconstruction would constitute “unreasonable economic waste” is for the jury to decide. While our Supreme Court has yet to rule on which party has the burden of proof on this issue, other courts suggest that the builder must prove unreasonable economic waste if he wants to avoid the usual repair/replacement measure of damages. Willie's Construction Co., Inc. v. Baker, 596 N.E.2d 958, 962 (Ind.App. 5 Dist. 1992) (“The breaching contractor has the burden of proving that curing defects would cause economic waste and any reasonable doubt will be resolved against him.”); Pennington v. Rhodes, 55 Ark.App. 42, 55, 929 S.W.2d 169, 176 (Ark.App. 1996) (“The seller-builder of the defective new dwelling has the burden of proving that the cost-of-repairs standard is improper.”). If that burden is met, the plaintiff's lawyer had better be prepared to prove diminished value as an alternative measure of damages to the cost of correction. Two experts – one to opine on cost of correction and another to opine on values – may need to be retained.

One rough way to gauge “unreasonable economic waste” is by comparing the cost of repairs/replacement to the original contract price. If such costs are a small fraction of the contract price, chances are that they will be allowed as a proper measure of damages. That was true in the M.W. Goodell case referenced above (“In this case, the cost of doing that work is less than five percent of the total contract price. We agree with the master that the repairs are not economically wasteful and that such an award is proper.”). Conversely, if reconstruction costs would approximate or even exceed the original contract price, closer scrutiny of the net benefit of reconstruction should be expected.

The bottom line is that making an injured party whole requires a common sense approach, fact-specific rather than one-size-fits-all. If the rationale for a rule doesn't fit the facts, the rule will be discarded in favor of one that does.
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#50:  Change Order Disputes

11/25/2016

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Owner and contractor sign a contract for performance of a defined scope of work. The owner changes the scope in a way that will increase the contractor's costs. The contractor pulls out the contract, looks at the “change order” clause, and follows the stated procedures for getting extra compensation. Sounds simple, doesn't it?

In practice, it rarely is that simple. There can be disputes over whether the initial scope of work has really changed. There can be disputes over who is responsible when the contractor is obliged to alter his planned means and methods of construction in order to accommodate unanticipated circumstances. There can be disputes over pricing.

To speak of a change “order” smacks of owner discretion and control, but from a legal perspective the focus is usually on the contractor's rights. “A change order is a charge for work not included in a contract's scope of work.” H.E. Contracting v. Franklin Pierce College, 360 F.Supp.2d 289, 292 n.3 (D.N.H. 2005). The “change” part arises from an alteration of either the work initially designated or the means of performing it. The “order” part arises from an actual or implied directive to perform the altered task, but in the latter case “order” is a bit of a misnomer – the common terminology of change orders being “issued” by an owner or architect doesn't quite fit. An owner or architect will not issue a change “order” he doesn't agree with, yet the courts often indulge in the fiction that he has done exactly that.

Many owners attempt to protect themselves from this result with contract language specifying that no change orders are allowable unless agreed on by the owner in writing. In the H.E. Contracting case, the contract stated “No claim for extra work or cost shall be allowed unless the same was done in pursuance of the written order of the Engineer, approved by the owner.” The Court ruled that such provisions are enforceable “unless the owner has actual knowledge of the additional work and is not prejudiced by the contractor's failure to comply with the writing requirement.” Id. at 294. This suggests that if the work truly is “additional,” and the owner is paying reasonable attention to what is happening on site and does not step in to stop it, the additional work will generally be compensable even if the owner never picks up a pen. The legal principle here is familiar. Like all contract modifications, change orders must be agreed to either expressly (typically demonstrated by signing a piece of paper) or impliedly (typically shown by a direction to the contractor to perform the change under circumstances that yield a reasonable expectation of extra compensation). Resolution of change order disputes almost always boils down to a search for those circumstances, and hence for that implied consent.

This does not mean that owners are at contractors' mercy whenever there are scope changes. From the owner's perspective, if a change is to have a price tag associated with it, the owner wants to know what that price will be before blessing the change. It is common to find contract provisions for submission of a claim before the additional work is started, with an itemized breakdown of additional costs. Such provisions are enforceable. So are provisions for how change orders will be priced in the event of disagreement on the amount (e.g., unit prices stipulated in advance, or documented time and materials charges with a markup stipulated in advance). Owners are not expected to issue blank checks for extra work.

Conversely, change orders can embrace more than the raw cost of constructing the new or altered work. Suppose that an owner's indecision or change of mind causes delays to the job, leaving the contractor with extended general conditions and additional time on the job for which he seeks compensation through the change order process. More often than not, the courts will award compensation for these as well, unless specific contractual language excludes them.

The common thread here is that contractual provisions matter – but so does fairness to both sides.
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#49:  The Performance Bond Surety and Indemnity for Expenses

10/29/2016

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When a contractor buys a performance bond at the behest of an owner, he is typically required to sign an agreement to indemnify the surety for any costs and expenses that the surety may incur under its bond. If the bond is ever called by the owner, those expenses can get quite high quite fast – including not only sums paid to complete the contract, but the fees of attorneys and experts hired by the surety in connection with any litigation brought by or against the owner. From the contractor's perspective, suspending or abandoning work prior to completion of a bonded job thus entails the risk not only of a lawsuit by the owner but of indemnity claims by the surety who is called upon to complete the work – and the latter can end up being more costly than the former. Generally the indemnity agreement will not only establish the surety's right to reimbursement of its expenses, but provide for security or collateral to ensure that those expenses will be collectable.

To be sure, there is some risk on the surety as well. The surety has good faith obligations to both the contractor and the owner, and when a declaration of default by the owner is challenged by the contractor, those twin obligations require a bit of a balancing act. Often the contractor's challenge will arise from its suspension or abandonment due to nonpayment for work that the contractor considers a change and the owner considers within the original scope of work. The surety must investigate and decide which party's position is more plausible. Most indemnity agreements will prescribe the standard that the surety will apply when judging between the two positions (“reasonableness” being the usual touchstone), but judging wrongly can have consequences – particularly given the legal principle that the performance bond surety has all of the rights and defenses that the contractor has. Refusing to invoke those defenses when they are likely winners may end up depriving a surety of reimbursement.

So can going overboard on the amount spent in defending against an owner's claim. In Gulf Ins. Co. v. AMSCO, Inc., 153 N.H. 28, 41 (2005), our Supreme Court noted that “an indemnity agreement is not a blank check; it does not entitle the surety company to reimbursement for legal expenses which are unreasonable or unnecessary. To hold otherwise would allow [a surety] to retain counsel and to charge attorney's fees against the indemnitor even when the surety company does not require a separate legal defense to protect its interests.” The Court affirmed a lower court decision that a surety was not entitled to be indemnified by the contractor for the costs of hiring separate counsel where it could have tendered the defense of the owner's claims to the contractor.

Every case is different, but in general the factors considered by the courts when ruling on a surety's right to be reimbursed for attorneys' fees include “the amount of risk to which the surety was exposed; whether the principal was solvent; whether the surety has called on the principal to deposit with it funds to cover the potential liability; whether the principal on demand by the surety to deposit with it the amount of the claim has refused to do so; whether the principal was notified of the action and given opportunity to defend for itself and the surety; whether the principal hired the attorney for both himself and the surety; whether the principal notified the surety of the hiring of the attorney; the competency of the attorney hired by the principal; the diligence displayed by the principal and his attorney in the defense; whether there is a conflict of interest between the parties; the attitude and cooperativeness of the surety; and the amount charged and diligence of the attorney hired by the surety.” Id. at 37-38.

Tendering the defense of an owner's claims to the contractor does not mean that the surety will incur no indemnifiable expenses. The surety will still monitor the litigation, and could step in if the defense is going poorly. It may even end up assisting in financing the defense if the contractor's resources wane. But in my experience, tendering the defense usually makes sense – for both contractor and surety.

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#48:  The Use and Abuse of Liquidated Damages

9/29/2016

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Getting a project completed on time is often crucial to a commercial owner, who must forego the efficiencies or even the business opportunities which motivated him to build the longer the project is incomplete. Making delayed completion a breach of contract is all well and good, but proving the damages that will flow from such a breach can be difficult; the legal standard for recovery of damages requires proof by a preponderance of the evidence that profits would have been realized or increased but for the delay, as well as reasonable certainty as to their probable amount.

It is precisely for such situations that liquidated damages clauses are used in many construction contracts. Damages are agreed to, or “liquidated,” in advance, usually in a particular amount per day of delay, thereby relieving the owner of the burden of proving actual damages. But because the law aims to make the non-breaching party whole and not give him a windfall, courts impose restrictions on the ability to recover liquidated damages – as a check against the possibility that the amount fixed by agreement may be wildly divergent from actual damages, thereby constituting a penalty. A liquidated damages clause will be enforceable if “(1) the damages anticipated as a result of the breach are uncertain in amount or difficult to prove; (2) the parties intended to liquidate damages in advance; and (3) the amount agreed upon is reasonable and not greatly disproportionate to the presumable loss or injury.” Holloway Automotive Group v. Lucic, 163 N.H. 6, 9-10 (2011).

The first two of these elements are rarely problematic in a construction contract. Almost always, the fight will be over the third element: was the liquidated amount reasonable? Our courts “employ a two-part test to determine whether a liquidated sum is reasonable. First, we assess whether the amount 'was a reasonable estimate of difficult-to-ascertain damages at the time the parties agreed to it.' Next, we ask whether actual damages are 'easily ascertainable' after a breach. '[I]f the actual damages turn out to be easily ascertainable, we must then consider whether the stipulated sum is unreasonable and grossly disproportionate to the actual damages from a breach.' If the stipulated sum is grossly disproportionate to easily ascertainable, actual damages, the provision is an unenforceable penalty, and the aggrieved party will be awarded no more than the actual damages.” Holloway, 163 N.H. at 10.

Let's break this down. The first inquiry is prospective as judged at the time of contracting: was the amount chosen a reasonable estimate of what appeared at the time to be hard to prove with precision? The second inquiry is retrospective: have subsequent events shown that actual damages are easy to prove – and if so, was the original estimate in the ballpark? Thus, the reasonableness of the estimate is judged both prospectively and retrospectively.

Most liquidated damages clauses are premised on delays in substantial completion rather than final completion. The reason is not hard to see: substantial completion is the stage of progress at which the project can be used by the owner for its intended purposes, and once the owner can use it, damages for delay no longer accrue. Nevertheless, I have seen contracts purporting to impose liquidated damages for late final completion, and even for late completion of interim milestones. Whether such provisions are enforceable in court is another matter. My guess is that these are likely to be deemed unenforceable penalties.

If a liquidated damages clause is unenforceable, the non-breaching party can still recover any proveable actual damages. General Linen Services, Inc. v. Franconia Investment Associates, L.P., 150 N.H. 595, 600 (2004). The more interesting question is whether a nonbreaching party can choose to sue for actual damages in the face of a valid liquidated damages clause. As long as the contract expressly gives an option to pursue either, the answer appears to be Yes – although “where an election is permitted, the election of one remedy bars pursuit of the other,” because “the right to recover liquidated damages and the right to recover actual damages are mutually exclusive remedies,” Orr v. Goodwin, 157 N.H. 511, 517 (2008). 
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#47:  Does New Hampshire Need a "Prompt Pay" Statute?

8/31/2016

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Every state except New Hampshire has enacted a so-called “Prompt Pay” statute for public construction projects, typically modeled on the federal statute (31 U.S.C. §§ 3901-3905), under which the government must pay the GC for satisfactory performance within 14 days of a requisition for payment and the GC must pay subs within 7 days from receipt of payment from the government. Nearly half of the states – including all three of New Hampshire's neighbors – make their Prompt Pay statutes applicable to private construction projects as well. Maine (10 M.R.S. §1113 et seq.) makes payments due according to the parties' contract, but if not outlined by contract, they are due 7 days after the prime contractor receives the sub's invoice or payment from the owner (whichever is later). Vermont (Tit. 9, §4001 et seq.) has the same deadlines, but does not permit them to be varied by contract.  Massachusetts (G.L. ch. 149, §29E), which limits its statute to projects of a value of $3,000,000 or more, requires a GC to approve or reject a sub's requisition within 22 days of submission (failure to act on it within that time is deemed an approval), and to pay subs within 52 days. All of these statutes impose varying interest and attorneys' fees penalties for failing to comply.

Should New Hampshire enact a Prompt Pay law for private construction jobs? I'd like to get readers' opinions on this, but my answer is “No.” New Hampshire has always placed a premium on freedom of contract, and parties are free to prescribe whatever payment terms they wish. Particularly when it comes to general contractor-subcontractor relations, the disparate bargaining strength between GC's and subs that motivates Prompt Pay laws elsewhere strikes me as less stark in New Hampshire.

Where I typically see unjustifiably delayed payments to subs is when an owner withholds payment to a GC for reasons unrelated to a particular sub's work, yet the cash-strapped GC withholds payment from that sub. Even this complication can be contracted around.

One thing I do like about Prompt Pay laws is their elimination of the “double filter” that some subcontract forms contain, requiring a sub to perform its work to the satisfaction not only of the owner and/or architect but of the GC as well, who will occasionally spot a problem that the owner/architect may fail to catch, yet decide nevertheless to requisition for the work. If a Prompt Pay law is in effect, payment to the GC for the sub's work effectively becomes the test of its acceptability for purposes of paying the sub until such time – if ever – that the owner wises up. Most commercial prime contracts include language to the effect that payment by the owner is not deemed acceptance of the work paid for (and many subcontracts bind the sub to the same provisions that bind the GC to the owner), so the possibility of a “claw back” for deficient work previously paid for still exists at both levels. Prompt Pay laws prevent the GC from using money paid by the owner for such work as a rainy day fund against such a possible claw back, thereby creating an incentive for the GC not to requisition for defective work in the first place.

Because a GC is not required to pay a sub when the GC has other legitimate offsets against a sub's pay req, Prompt Pay laws typically allow bona fide reasons for withholding payments to subs despite the GC's receipt of payment from the owner for that sub's work. (Vermont, for example, allows for “withholding an amount equaling the value of any good faith claims against an invoicing contractor.”) The penalties imposed by Prompt Pay laws up the ante for the GC whenever the sub sues for the money retained as a setoff by the GC; if its basis for withholding payment is not sustained by the courts, the question of whether the GC's “good faith” is a defense to liability under the statute, and if so whether such good faith even existed, comes to the fore. While the matter is debatable, I am far from convinced that this type of added risk imposed on GCs is sound public policy.

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#46:  Destruction of Work Prior to Completion

7/30/2016

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A contractor builds 90% of a building; it is destroyed by fire before he can finish. A subcontractor constructs 90% of a road; it gets washed out by a 100-year storm before the owner accepts it. Nobody has insurance. No contractual provision allocates the risk of loss. Who will bear that risk? Does the contractor have to start over on his own dime, or does the owner have to pay for the work performed? The answer may surprise you.

In Anderson v. Shattuck, 76 N.H. 240, 242 (1911), the plaintiff contractors “had already performed a substantial part of the work they contracted to do, when the fire destroyed the buildings.” Even though they weren't entitled to be paid under their contract (because they hadn't performed it), the Court found that “the labor and materials actually furnished by the plaintiffs were attached to the defendant's real estate as the work progressed and constituted a benefit to the defendant for which the plaintiffs are entitled to recover.” That was true even though “[t]here has been no breach of the express contract by the defendant, and neither party is in fault for the fire which put an end to the contract and caused the situation now existing between the parties. But justice does not require that they should remain in that situation, or that the contractors should be remediless, merely because they cannot maintain an action against the defendant upon the contract.” Invoking a legal doctrine called quantum meruit (literally “the amount deserved”), the Court awarded “an apportionment of so much of the agreed compensation to the contractor as he has earned in what he has done; he recovers such part of the entire amount as is equal to the part he has performed of the whole contract.” Id. at 243.

The owner in Anderson had obtained fire insurance, and the question arose as to whether the contractors were entitled to be paid from the insurance proceeds. The Court ruled that they were entitled. What if there had been no insurance? For all that appears in the case, the principle of quantum meruit still applies. This suggests that it is the owner, not the contractor, who bears the risk of loss to partially completed work where “neither party is at fault” for the loss.

Some courts distinguish contracts for improvements to an existing structure, whose destruction made completion of the contract for improvements impossible, and construction of a building from the ground up. A New Jersey case, Matthews Construction Company v. Brady, 140 A. 433, 434 (N.J. 1928), is typical:

"(b) Where under a contract for alterations and additions to an existing building performance depends on the continued existence of the structure, a condition is implied that impossibility of complete performance arising from its destruction without fault of the parties will absolve them from further liability, with the exception that the owner remains liable and the builder may recover for the value of the work done and materials delivered and accepted prior to such destruction. [citations omitted]
"(c) There is a distinction as to continuing liability under a building contract involving the erection of a new structure on land of the owner and that which relates to the making of additions and alterations to an existing building [the continuance of which is necessary to complete the contract] in the event of destruction without fault before completion. In the former case the builder remains liable for failure to complete, while in the latter both parties are relieved and the contract is at an end in that respect. [citations omitted]"

Thus far, New Hampshire has not adopted this distinction. Until it does, the rule seems to be that in the absence of a contract providing for a different rule, the risk of loss from unpreventable acts of God is on the owner, who must pay for construction he won't get to enjoy.
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#45:  OSHA: A Primer

7/1/2016

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For the first time since 1990, the Occupational Health and Safety Administration (“OSHA”) has just increased its maximum penalties for rule violations. This is a good time to review the basics of OSHA enforcement.

OSHA rules on workplace safety include universal rules governing all industries, and industry-specific rules like those for the construction industry, codified at 29 CFR Part 1926.

Nationwide OSHA conducts about 35,000 inspections annually. Some are routine visits, some follow up on employee complaints or tips from whistleblowers, and others occur after mandatory reporting of a fatality (which must be reported within eight hours) or other serious accident such as loss of an eye or a limb (which must be reported within twenty-four hours). Legally, either the employer’s or owner’s permission, or a warrant, is required before an OHSA inspector may inspect a private facility or non-public work site. Given how easy it is to establish probable cause for a warrant in the non-criminal administrative setting, refusing a warrantless request to inspect may be unwise. OSHA inspectors have long memories, and refusals can end up painting a target on your back.

When OSHA inspectors show up, they will typically announce themselves to management and request permission or display a warrant to inspect all or part of a facility or work site; do a walk-around (which someone from management should always accompany); interview employees (sometimes privately, i.e., out of the presence of management); request documents (the OSH Act requires employers to keep records of employee injuries and illnesses, which must be made available on request without a subpoena); and confer with management (the “closing conference”) about any violations they spot. If violations can be abated immediately, it’s a good idea to do so before the inspector leaves.

OSHA has six months after the inspection to issue citations for any violations found. Citations will list the rule violated, the classification of the offense (e.g., “serious,” “repeat,” “willful”), the date by which the condition must be abated, and the proposed penalty – which effective August 1, 2016, can be up to $12,471 per “serious” violation and $124,709 per “repeat” or “willful” violation. Citations proposing the maximum penalty, however, are relatively rare. The OSH Act requires that in assessing penalties, “due consideration” must be given to four criteria: the size of the employer’s business, the gravity of the violation, the employer’s good faith, and any prior history of violations. 29 U.S.C. § 666(j).

Within fifteen work days of receiving a citation, an employer may request an informal conference with the OSHA Area Director, either in an effort to settle (the Area Director has authority to downgrade classifications and negotiate penalties) or simply to gather information. Within those same fifteen work days, an employer must give OSHA written notice that a citation is being contested.

If a citation is contested, a trial will be scheduled before an administrative law judge, whose decision is then reviewable by the Occupational Safety and Health Review Commission, whose decision is, in turn, appealable to the United States Court of Appeals. At the trial, the burden is on OSHA to prove by a preponderance of the evidence “(1) that the cited standard applies; (2) that there was a failure to comply with the standard; (3) that employees had access to the violative condition; and (4) that the employer had actual or constructive knowledge of the violation.” P. Gioioso & Sons, Inc. v. Occupational Safety and Health Review Commission, 675 F.3d 66, 72 (1st Cir. 2012). The knowledge element is often challenged, but rarely successfully. In particular, “an employer can be charged with constructive knowledge of a safety violation that supervisory employees know or should reasonably know about.” P. Gioioso, id. at 73.

Lastly, a word of warning to GCs: keep an eye on your subs! OSHA “may issue citations to general contractors at construction sites who have the ability to prevent or abate hazardous conditions created by subcontractors through the reasonable exercise of supervisory authority regardless of whether the general contractor created the hazard...or whether the general contractor’s own employees were exposed to the hazard.” Solis v. Summit Contractors, Inc., 558 F.3d 815, 818 (8th Cir. 2009).
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#44:  Mechanic's Lien vs. Construction Mortgage

6/18/2016

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A few months ago I blogged on the priority of mortgages over later-filed mechanic's liens, pointing out that while priority as between a mechanic’s lien and a conventional mortgage is determined by filing order, priority as between a mechanic’s lien and a construction mortgage is determined by RSA 447:12-a. The finer points of that statute are worth examining.

The general rule is that later-filed mechanic's liens jump ahead of construction mortgages in priority. There are two exceptions. A construction mortgage achieves priority “to the extent that the mortgagee shows that the proceeds of the mortgage loan were disbursed either toward payment of invoices from or claims due subcontractors and suppliers of materials or labor for the work on the mortgaged premises, or upon receipt by the mortgagee from the mortgagor or his agent of an affidavit that the work on the mortgaged premises for which such disbursement is to be made has been completed and that the subcontractors and suppliers of materials or labor have been paid for their share of such work, or will be paid out of such disbursement.“

The language about disbursements “toward payment of invoices from or claims due subcontractors and suppliers of materials or labor” and affidavits “that the subcontractors and suppliers of materials or labor have been paid” immediately raises a question: what about payments to the GC? It is easy to miss the fact that the statute does not include such payments for purposes of achieving mortgage priority. In re Moultonborough Hotel Group, 726 F.3d 1, 6 (1st Cir. 2013), did just that, allowing payments to a GC to establish a construction mortgagee's priority under the statute. Other courts have been more literal. Ransco Company, Inc. v. FDIC, No. C-89-562-JD (D.N.H. September 8, 1994), explicitly ruled that “the phrase 'subcontractors and suppliers of labor or material' as used in NH RSA 447:12-a does not include general contractors,” and dismissed the lender's claim of priority based on its payments to the GC.

That payments to general contractors are not included as yielding priority to the mortgagee is no legislative oversight. The GC is the party to whom a lender's disbursements are normally made (whether directly or through the owner/borrower), and it is a simple matter for owner or lender to swap a check for the GC's lien waiver. The lender needs no statutory protection here. Not so with subs and suppliers, who may be unknown to the owner and lender. This is why RSA 447:12-b requires subs and suppliers to identify themselves in writing to the lender, who can then make sure they are getting paid as well. If the subs and suppliers fail to give written notice, they won't lose their liens because of it. But the statute would hardly make sense if they didn't lose their priority because of it. That issue will have to await a test case.

The second exception – allowing the construction mortgagee to achieve priority as long as the owner swears that subs and suppliers “have been paid for their share of such work, or will be paid out of such disbursement“ – is more problematic. While the last sentence of RSA 447:12-a makes a willfully false oath a crime, that doesn't ensure accuracy – particularly when it comes to sworn statements about what will happen as opposed to what has happened. Relieving lenders of the burden of ascertaining the truth here is troublesome because it weakens the first exception, by dispensing with the need to “show” that subs and suppliers have been paid in favor of a reasonable belief that they have been paid. Chalk one up for the bank lobby!

The most cryptic sentence of the statute, however, is this one: “The precedence provided by this section shall not apply to wage claims of employees working for wages under an employer-employee relationship, as defined in RSA 275:42.” It's nice to see confirmation that employees have mechanic's lien rights, but if you asked me what precedence is being declared inapplicable here – the general rule or the two exceptions to it – I'd have to plead ignorance.

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#43:  See No Evil: The Design Professional's Liability for Construction Defects

5/21/2016

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When an Architect or Engineer wears her “Contract Administrator” hat, her duties to the Owner are set out in her contract of hire, typically including such roles as approving pay requisitions and change orders, shop drawing review, scheduling changes, certifying substantial completion – and rejecting deficient work.  Suppose she fails to catch the contractor’s poor workmanship.  Will she liable to the Owner?
 
A typical contract of hire for a design professional is the AIA Document B141 (2007).  Section 3.6.1.2 provides:
 
“The Architect shall not have control over, charge of, or responsibility for the construction means, methods, techniques, sequences or procedures, or for safety precautions and programs in connection with the Work, nor shall the Architect be responsible for the Contractor’s failure to perform the Work in accordance with the requirements of the Contract Documents.  The Architect shall be responsible for the Architect’s negligent acts or omissions, but shall not have control over or charge of, and shall not be responsible for, acts or omissions of the Contractor or of any other persons or entities performing portions of the Work.”
 
Section 3.6.2.1 provides:
 
“The Architect shall visit the site at intervals appropriate to the stage of construction, or as otherwise required in Section 4.3.3, to become generally familiar with the progress and quality of the portion of the Work completed, and to determine, in general, if the Work observed is being performed in a manner indicating that the Work, when fully completed, will be in accordance with the Contract Documents.  However, the Architect shall not be required to make exhaustive or continuous on-site inspections to check the quality or quantity of the Work.  On the basis of the site visits, the Architect shall keep the Owner reasonably informed about the progress and quality of the portion of the Work completed, and report to the Owner (1) known deviations from the Contract Documents and from the most recent construction schedule submitted by the Contractor, and (2) defects and deficiencies observed in the Work.”
 
Design professionals like to think that these two clauses amount to this: “Owner, you’re paying me to visit the site from time to time and look for problems, but I can’t see everything.  If my trained eye happens to spot a construction defect, I’ll report it, and reject it.  If I don’t happen to spot it, though, I’m not on the hook for it.”  Actually, matters are not quite that harsh.  The Owner is, after all, hiring a trained eye, and is entitled to the fruits of that training.  If a reasonably careful design professional would have spotted a defect, failure to catch it is negligence.
 
Proving that a design professional should reasonably have noticed a defect – typically through expert testimony – is only the first step to recovery.  The next step is proving proximate cause, i.e., that “that the injury would not have occurred but for the negligent conduct,” and “that the negligent conduct was a substantial factor in bringing about the harm,” Carignan v. New Hampshire Intern. Speedway, Inc., 151 N.H. 409, 414 (2009).  If the “harm” in negligent inspection cases were the poor construction itself, this would be impossible to prove.  But if the "harm" is the loss of an owner's bargained-for opportunity to catch and correct that poor construction before it comes home to roost, proof gets easier.
 
And that is indeed the case.  In Corson v. Liberty Mutual Insurance Co., 110 N.H. 210 (1970), a factory employee who was injured by malfunctioning machinery sued the insurance carrier that had undertaken to inspect it, claiming that “proper inspection would have prevented the malfunction.”  Our Supreme Court quoted “the language of Cardozo, Ch. J., in Marks v. Nambil Realty Co., Inc., 245 N.Y. 256, 259, 157 N.E. 129, 130: ‘His case is made out when it appears that by reason of such negligence what was wrong is still wrong, though prudence would have made it right. . . The inference is permissible that the (defendant’s conduct) cloaked the defect, dulled the call to vigilance, and so aggravated the danger.’”  That is enough to impose liability.
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#42:  Mechanic's Lienor vs. Mortgagee: Who Has Priority?

4/26/2016

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Sorting out the “priority” of creditor claims against a piece of real estate―the pecking order when the asset is sold―can occasionally be a thorny task.  Whether the creditor’s claim is secured with the owner’s consent (i.e., mortgages) or without it (e.g., court-ordered attachments, tax liens, condominium assessment liens, commercial real estate broker liens), in all cases some instrument must be recorded at the registry of deeds―and it would be a simple matter for the law to declare that in all cases the order of recording establishes priority.  That is indeed the general rule; see RSA 477:3-a, providing that any “instrument which affects title to any interest in real estate” must be recorded and “shall not be effective as against bona fide purchasers for value until so recorded.”  But there are some exceptions which allow a later-recorded interest to achieve priority over an earlier-recorded one.
 
In determining whether mechanic’s liens are such an exception, RSA 447:9 is the starting point: “The lien created by RSA 447:2-7, inclusive, shall continue for 120 days after the services are performed, or the materials, supplies or other things are furnished, unless payment therefor is previously made, and shall take precedence of all prior claims except liens on account of taxes.”  On first blush, this appears to declare that a mechanic’s lien always trumps an earlier-recorded mortgage.  But appearances can be deceiving.

Consider RSA 479:3, which provides: “Subject to the provisions on priority in RSA 447:12-a, a recorded mortgage takes priority as of the date of its recording as to advances or obligations thereafter made or incurred that do not exceed the maximum amount stated in the mortgage.”  With exceptions found in RSA 447:12-a (I’ll deal with that statute in a moment), RSA 479:3 thus allows a mortgage recorded on Day 1 to retain whatever priority it may have over any interest recorded on Day 2 even as to mortgage advances made on Day 3.  Standing alone, this says nothing about relative priorities between the Day 1 and Day 2 recordings.  But Earnshaw v. First Federal Savings and Loan Association, 109 N.H. 283 (1969), does.  Construing an earlier version of RSA 479:3 (before enactment of RSA 447:12-a), the Court ruled that a construction loan mortgage had priority over a later-recorded mechanic's lien, even as to advances made after the lien attached.

With a few exceptions, RSA 447:12-a provides that a mechanic’s lien “shall have precedence and priority over any construction mortgage.”  Before concluding that this is just a redundancy given RSA 447:9, it would be well to consider our Supreme Court’s statement that “without RSA 447:12-a (Supp. 1975) prior law would have given the construction mortgage of defendant priority over Sullivan's mechanic's lien,” L. M. Sullivan Co., Inc. v. Essex Broadway Savings Bank, 117 N.H. 985 (1977).  Even more telling is Lewis v. Shawmut Bank, N.A., 139 N.H. 50, 52 (1994), which allowed a mortgage to trump a mechanic’s lien as to the portion of the mortgage loan that was not for construction purposes: “The statute only provides priority over prior mortgages based on construction loans. Therefore, if the defendant's loan is regarded as a ‘mixed’ loan (i.e., its purpose is to finance not only construction, but also land acquisition or discharge of mortgages on land), then, under the race-notice rule of priority, the defendant would enjoy priority with respect to non-construction disbursements.”

As I said, appearances can be deceiving.  RSA 447:9’s “shall take precedence of all prior claims” does not include prior mortgages.  Priority as between a mechanic’s lien and a construction mortgage is determined by RSA 447:12-a.  But priority as between a mechanic’s lien and a conventional mortgage is determined by the general first-to-file rule.  If RSA 447:9 was the Legislature’s effort to give mechanic’s liens priority over earlier mortgages, it forgot about 477:3-a, thus leaving to the courts the task of resolving inconsistent statutes.  And the courts have come down in favor of the mortgage holder―who would be no worse off if priority were given to a subsequent mechanic’s lien for labor and materials that added value to the real estate equal to the amount of the lien.  A rising tide lifts all boats.
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#41:  Contractor vs. Mortgagee: Who Gets the Insurance Proceeds?

4/2/2016

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An insured building is damaged by fire or other casualty.  The owner files an insurance claim and hires a contractor to make repairs, promising to use the insurance proceeds for that purpose.  The contractor does the work before the insurance proceeds are received.  When the insurance check arrives, it is payable to both the owner and the owner’s mortgage lender – who refuses to allow it to be disbursed to pay the contractor despite the pleas of the owner.  When the owner can’t pay him, the contractor puts a mechanic’s lien on the property – and sues both the owner for breach of contract and the mortgage company for “unjust enrichment,” “constructive trust” and a host of other legal theories they teach in law school.  Who wins?
 
Because a property and casualty insurance policy is personal to the policyholder and does not run with the insured property, a mortgage holder is not entitled to insurance proceeds simply because of its mortgage on the insured property.  The mortgagee does, however, have an "insurable interest" in the property (i.e., something of value to protect, without which the law regards an insurance policy as an illegal gambling contract), and it is common for mortgages to require mortgagors to obtain casualty insurance on the property payable to the mortgagee as “loss payee.”  
 
This same principle of personal contract rights as opposed to rights running with the land means that lien priorities with respect to the property do not determine the priority of competing claims to insurance proceeds.  See, e.g., Midland Lumber & Supply, Inc. v. J.P. Builders, 265 N.J.Super. 246, 626 A.2d 89, 91 (1993) (“Because of the personal nature of a contract of insurance, if an insurance policy is made expressly payable to a second mortgagee, the second mortgagee is entitled to the policy proceeds in preference to the holder of a first mortgage who is not listed as a loss payee under the policy.”).  Thus, resolving whether the mechanic’s lien or the mortgage has first dibs against the property won't determine who has first dibs on the insurance proceeds. 
 
Even though the insurance check is made payable to the mortgagee, the nature of insurance can tip the scales here.  Property insurance contracts are contracts of indemnity, and to the extent they result in a monetary benefit beyond reimbursement for the peril insured against – which is what happens once repairs have been made but aren’t paid for – they are pure windfalls.  A Maryland case, Cottman Co. v. Continental Trust Co., 169 Md. 595, 601-02, 182 A. 551 (1936), explains:
 
“It cannot be denied that if the restoration of the security, at the expense of the debtor, to the value it had before the loss or damage, leaves the parties in statu quo, then the retention of the insurance money by the creditor, mortgagee, or trustee, as additional security, would put the holder in a better position than he had originally bargained for. The theory of insurance, however, does not contemplate a resulting profit to the insured, or his mortgagee or other creditor. The interest of the mortgagee is to maintain the equilibrium of debt and security; and if, by the application of the insurance money to the upkeep of the security, that parity would be continued, it is not inequitable to require the payee of the fund to transfer the same to the debtor for that purpose, upon properly safeguarding its application to that end.”
 
If our courts take this approach, the mortgagee in our hypothetical has indeed been unjustly enriched contrary to the purposes of insurance, and should be required to hold the proceeds for the benefit of the contractor rather than apply them to the mortgage indebtedness.  There is every reason to think that our courts would require exactly that.  “An equitable lien may be imposed to prevent unjust enrichment in an owner whose property was improved, for the increased value of the property.”  Iacomini v. Liberty Mutual Ins. Co., 127 N.H. 73, 78 (1985).  It is no stretch at all to deem the mortgagee to be the “owner” for such purposes.
 
Who wins?  Bet on the contractor.
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#40:  Contractual "Notice of Claim" Requirements

3/23/2016

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In construction settings, claims for adjustments in the contract price are endemic.  Most such claims are resolved short of arbitration or litigation.  But for that to happen, they obviously have to be raised by the claimant before the filing of a complaint or a demand for arbitration.   And if they are to have the best chance of being settled, claims need to be raised before the evidence on both sides goes stale (or gets covered up!) and before budget decisions on other changes are made.   
 
It is thus common for construction contracts to include provisions for giving notice of claims promptly after the grounds for a claim is discovered.  Typical is the AIA A201 (2007) General Conditions §15.1.2: “Claims by either party must be made within twenty-one (21) days after occurrence of the event giving rise to such Claim or within twenty-one (21) days after the claimant first recognizes the condition giving rise to the Claim, whichever is later.”
 
Courts are sensitive to the rationale for such notice provisions.  Mountain Environmental, Inc. v. Abatement International/Advatex Associates, Inc., 149 N.H. 671, 674 (2003) (“the main purpose of a notice requirement is to provide parties with an opportunity to settle the claim without resorting to litigation”); Opinion of the Justices, 126 N.H. 554, 566-67 (1985) (“The notice of claim provision has two purposes: to allow the State to investigate claims promptly after an injury, and to permit the State to pursue settlement negotiations prior to the institution of suit”).  But courts also recognize that barring a claim completely due to late notice can be a harsh penalty.  Opinion of the Justices, 126 N.H. at 567 (“Although these are permissible objectives, the loss of rights of action for failure to satisfy the notice requirement is a penalty grossly disproportionate to these intended benefits”).
 
Two related questions need to be separated: (1) Does the failure to give timely notice of a claim result in forfeiting the claim? (2) Does the failure to give timely notice in the form required by the contract result in forfeiting the claim?  The answer to both questions is: maybe.
 
Some courts find that the failure to give contractually-required notice results in a waiver of the claim, based on the paramount principle of freedom of contract.  If the parties have bargained for notice as a precondition to maintaining a claim, courts are reluctant to rewrite the bargain.  See RCR Building Corporation v. Pinnacle Hospitality Partners, 2012 WL 5830587 (Tenn. Ct. App. Nov. 15, 2012) (“the parties agreed to initiate Claims by utilizing this procedure, and it is not our role to judge the wisdom or folly of the agreement.”).  Other courts, however, focus on whether a party was aware of the facts giving rise to the claim despite not receiving notice from the other party.   Brinderson Corp. v. Hampton Roads Sanitation Dist., 825 F.2d 41, 44 (4th Cir. 1987) (“Generally, when the owner has actual or constructive notice of the conditions underlying the claim and an opportunity to investigate, that is sufficient.").  New Hampshire’s Supreme Court has yet to indicate which approach it favors, but its recognition of the beneficial purposes of notice suggests to me that the strict approach will be favored.  Notice of a claim is different from notice of the conditions or facts giving rise to that claim.  If it is to reap the benefits of its bargain for timely notice, a party is entitled to know that a claim is being made, not simply that grounds for such a claim exist.
 
Expect more leniency when the contract specifies written notice which hasn’t been given, but the party to be notified received oral notice of the claim.  In that situation, the absence of written notice will most likely be excused.  Couture v. Hebert, 93 N.H. 378, 380 (1945) (“The oral notice in the instant case gave the plaintiff all the information he would have received had a written notice been given”); In re Redondo Const. Corp., 678 F.3d 115, 123 (1st Cir. 2012) (“strict conformity with a contract’s written notice provision is not required as long as the counterparty receives substantially the same information through timely actual notice and suffers no prejudice from the non-conformity").
 
But why risk it?
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#39:  Assignments of Contractual Rights and Duties

2/22/2016

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When two parties enter into a contract to define their respective performances, they generally expect that those performances will not be handed off to others.  In the case of a construction contract, the reality is that contractors don’t care who pays them; money is fungible, and if it comes from an equally solvent third party rather than from the original owner, so be it.  But contractors are not as interchangeable as dollars; owners generally want the particular contractor they hired, even if most of the work ends up being subbed out.
 
The law reflects this common-sense expectation.  In the absence of a contract provision prohibiting assignment without the other party’s consent, assignments of contractual rights and duties are usually allowable.  But “when rights arising out of a contract are coupled with obligations to be performed by the contractor and involve such a relation of personal confidence that it must have been intended that the rights should be exercised and the obligations performed by him alone the contract including both his rights and his obligations cannot be assigned.”  Town of Hampton v. Hampton Beach Improvement Co., 107 N.H. 89, 95 (1966) (quoting 4 Corbin, Contracts, s. 865).

Sophisticated owners don’t leave such matters to chance; they insert provisions in their contracts to control when assignments can or will be made.  Typical is AIA Form A201 (2007) § 13.2.1: “Except as provided in Section 13.2.2, neither party to the Contract shall assign the Contract as a whole without the written consent of the other.”

Owners typically want not only the right to prevent contractors from assigning the contract to third parties, but also the right to receive an assignment of the contractors’ subcontracts in the event of default by the contractor.  The reason is not hard to fathom:  if a GC goes belly-up in the middle of a project, subs would otherwise be free to walk away.  The owner typically wants “good” subs to stay on, and wants the right to sue “bad” subs whose work is deficient but who cannot be sued for breach by an owner without “privity” of contract.  An assignment achieves that contractual link.  Hence, AIA Form A201 (2007) § 5.4.1:  “Each subcontract agreement for a portion of the Work is assigned by the Contractor to the Owner, provided that assignment is effective only after termination of the Contract by the Owner for cause pursuant to Section 14.2 and only for those subcontract agreements that the Owner accepts by notifying the Subcontractor and Contractor in writing . . .”
 
Lenders have a similar interest; if the owner defaults on a construction loan in the middle of a project, the lender typically wants the right to insist that the contractor finish the project – which is likewise accomplished by an assignment.  Hence, AIA Form A201 (2007) § 13.2.2:  “The Owner may, without the consent of the Contractor, assign the Contract to a lender providing construction financing for the Project, if the lender assumes the Owner’s rights and obligations under the Contract Documents.”
 
All of these provisions concern assignments of an entire contract (or what may be left of it), and deal with scenarios in which future performances are still required on both sides, i.e., an assignment of both rights and duties.  It is also possible to assign a right without the corresponding duty, for example the right to payment.  If part performance by one party has triggered the other’s obligation to pay, an assignment of that payment right must be honored by the payor upon notice of the assignment.  In the construction setting, that assignment will often be to a surety or to the contractor’s bank (or both, in which case the owner can simply pay the money into court and let the two assignees fight it out – perhaps with a side wager on the surety, American Employers Ins. Co. v. School District of Town of Newport, 99 N.H. 188 (1954)).  At that point the contractor is likely in trouble – and if the owner didn’t contract for retention of sufficient funds to complete punch list items or for a warranty holdback, it may be in trouble too.
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#38:  Are Attorneys' Fees and Interest Lienable?

2/3/2016

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When a plaintiff sues for money damages, he often seeks a lien or “attachment” on the defendant’s property – real estate being a particular favorite – as security for a judgment.  In New Hampshire, RSA 511-A:4 authorizes attachments “to the extent reasonably necessary to secure any judgment or decree which the plaintiff is likely to obtain” including “allowable interest and costs.” Such attachments are typically granted in an amount that will cover any contractual right to interest and attorneys’ fees.

Mechanic’s liens are perfected by attachments too.  What if the plaintiff’s contract includes the right to collect interest and attorneys’ fees?  Will the amount of his mechanic’s lien attachment include those things?  Our Supreme Court has yet to address this, but my answer is No ―although I’ve seen it happen a few times when overreaching plaintiffs and inattentive judges crossed paths.

Ideally, a mechanic’s lien statute should tell us what triggers the lien, what property is subject to the lien, and what debts it secures.  New Hampshire’s statute, RSA 447:2, is explicit on only first two of these: “If any person shall perform labor, provide professional design services, or furnish materials to the amount of $15 or more for erecting or repairing a house or other building or appurtenances, or for building any dam, canal, sluiceway, well or bridge, or for consumption or use in the prosecution of such work, other than for a municipality, by virtue of a contract with the owner thereof, he or she shall have a lien on any material so furnished and on said structure, and on any right of the owner to the lot of land on which it stands.”  Compare Massachusetts’ lien statute, G.L. c. 254 § 2, which gives general contractors a lien “to secure the payment of all labor, including construction management and general contractor services, and material or rental equipment, appliances, or tools which shall be furnished,” and G.L. c. 254 § 4, which gives subs and suppliers a lien “to secure the payment of all labor and material, which he is to furnish or has furnished.” This answers the third question.  See National Lumber Co. v. United Casualty & Surety Ins. Co., 440 Mass. 723, 726, 802 N.E.2d 82, 86 (2004) (“our inquiry is limited to whether a mechanic’s lien recorded pursuant to G. L. c. 254, s. 4, includes contractual interest and reasonable attorney’s fees in addition to the amount claimed for labor and materials. We conclude that it does not.”).

In the absence of express statutory language, the clincher for me is the underlying “value added” theory behind mechanic’s lien statutes.  When real estate is improved by labor and materials, it is presumed to increase in value, as measured by the price of the labor and materials.  It is fair to give the providers of labor and materials a lien to that extent because the owner is no worse off when his property is liened for the price of those unpaid goods and services.  The lien accomplishes a transfer of value from benefited owner to unpaid contractor or supplier in recognition of the value they added to the property.  Attorneys’ fees and interest, however, add no value to the property.  They are tools for making the contractor and supplier whole, but not for transferring a benefit realized by an owner back to the provider of the benefit.

Admittedly the presumption that property values increase by the contract price of improvements does not always hold.  I could have a piece of land worth $100,000 and hire you to build me a house at a price of $400,000 in the hope of having a $500,000 property when you’re done―but if you hit ledge digging the foundation hole and spend an extra $50,000 to remove it, I’ll owe you the extra $50K yet my home won’t be worth a penny more.  Justice Stevens’ observation is apt here: “As in every rule of general application, the match between the presumed and the actual is imperfect,” but aberrations are “so unlikely to prove significant in any particular case that we adhere to the rule of law that is justified in its general application.”  Arizona v. Maricopa County Medical Society, 457 U.S. 332, 344, 351 (1982).
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#37:  The GC's Liabiity Insurance: Is Faulty Workmanship Ever Covered?

1/11/2016

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When a contractor performs shoddy work, it is liable to the owner not only for (a) the cost of repairing or replacing the defective work, but for consequential damages to other property, including (b) the cost of repairing or replacing nondefective work already performed by the contractor, and (c) the cost of repairing or replacing other property of the owner that was never within the contractor’s scope of work.  In a previous blog, I noted that a contractor’s Commercial General Liability insurance policy clearly covers (c), and suggested that New Hampshire might follow the trend elsewhere by holding (b) to be covered.  But is there ever coverage for (a)?

The general rule is that “the commercial general liability policy covers claims for property damage caused by defective work, but not claims for repair of the defective work itself.”  Capstone Bldg. Corp. v. American Motorists Ins. Co., 308 Conn. 760, 67 A.3d 961, 982 (2013). Some courts reach this conclusion by holding that shoddy work is not “property damage,”  limiting that phrase to "property that is nondefective, and to damage beyond mere faulty workmanship.”  Taylor Morrison Services, Inc. v. Hdi-Gerling America Insurance Co., 293 Ga. 456, 746 S.E.2d 587, 591 (Ga. 2013).  Others, including New Hampshire, get there by holding that shoddy work is not a covered "occurrence," limiting coverage to "negligent construction that resulted in an occurrence, rather than an occurrence of negligent construction."  High Country Associates v. New Hampshire Ins. Co., 139 N.H. 39, 45 (1994).

But what if the poor workmanship in question must be replaced in order to repair or replace other property which is covered?  In that scenario, must the insurer pay to fix the shoddy work?  The answer is: maybe.

Carithers v. Mid-Continent Cas. Co., 782 F.3d 1240 (11th Cir. 2015), decided that the insurer must pay.  The plaintiffs were homeowners who were assigned their general contractor’s CGL policy after a number of construction defects were discovered, including “incorrect construction of a balcony, which allowed water to seep into the ceilings and walls of the garage leading to wood rot, caused property damage to the garage.”  Id. at 1244.  The court decided that “repairing the balcony was part of the cost of repairing the garage.”  Id. at 1251.

A similar decision is Village at Deer Creek Homeowners Association, Inc. v. Mid-Continent Cas. Co., 432 S.W.3d 231 (Mo.App. 2014).  In that case, components of a defectively installed exterior cladding system were damaged by water intrusion, and removal of some or all of the exterior cladding system was necessary in order to repair water intrusion damage caused behind the walls.  The court decided, id. at 243: “Once defective construction causes damage, the cost to repair the damage is covered ‘property damage.’  That cost to repair damage may include the cost to replace the defective construction if it too has been damaged or must be removed to access other damaged areas.”

In Lennar Corp. v. Markel American Insurance Co., 413 S.W.3d 750 (Tex. 2013), the Texas Supreme Court found coverage for the cost of removing EIFS, conceded to be a defective product, in order to locate covered water damage to other parts of the structure. 

Decisions like these suggest a “back door” way to pass the costs of repairing or replacing defective work onto the insurer when other property that was damaged as a result of defective work cannot be addressed without also addressing the defective work itself.  Thus far no New Hampshire reported case has considered the question whether covered repair costs for consequential damages must be teased apart from the costs of repairing the defective work itself, or whether both costs can be passed on to the insurer when the defective work must be addressed in order to fix the consequential damages.

Lawyers love unsettled questions; it gives us a chance to be creative.  On this one, I'd rather have the carrier's side.
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#36:  The CM and Design Responsibility

12/18/2015

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In the “old” days, the standard format for construction contracts had the contractor taking a design dictated by the owner or the owner’s design team, bidding on it, and building it to the owner’s plans and specifications through the contractor’s choice of means and methods.  Design and construction were separate; the owner engaged an architect and/or engineer for the design and engaged a contractor for the construction.  In this system the owner warrants the sufficiency of the design to produce the intended product.  This often led to finger pointing when problems arose with the finished product, the contractor blaming the design and the designers blaming the construction.  See J. Sweet & M.M. Schneier, Legal Aspects of Architecture, Engineering and the Construction Process § 14.09E (9th ed. 2013) (“Owners are often frustrated when they look to the designer who claims that the contractor did not follow the design, with the latter claiming that the problem was poor design”).
 
Eventually a class of design-build contractors arose, offering owners one-stop shopping for both design and construction.  Even public works projects began to use design-build, with explicit legislative authority.  See RSA 21-I:80 (allowing the Commissioner of Administrative Services to use design-build for buildings included in capital projects); RSA 228:4 (allowing transportation improvement projects with a cost of up to $25,000,000 to use design-build). With this type of delivery system, finger pointing between builder and designer is eliminated for problems with the finished product; there is no owner warranty of the sufficiency of the design.   But the checks and balances inherent in having separate contracting entities, particularly the designer’s oversight role in an effort to protect the owner from corner-cutting contractors, was lost.
 
Construction management has become a popular “middle ground” alternative, with the CM acting as the owner’s agent to shepherd a project from design to completion.  Sometimes the CM will contract on the owner’s behalf with multiple prime contractors (who would have been deemed subcontractors under the traditional GC format) and also oversee their performance (a task which would have been performed by an architect or engineer under the traditional GC format) to ensure that each of them performs properly.  Sometimes the CM assumes the risk of nonperformance by those prime contractors and becomes directly liable to the owner for their errors in a manner virtually indistinguishable from a GC’s liability for subcontractor errors.  But in either case, the CM typically gets involved in the design through preconstruction services, sharing its construction expertise with the owner’s design team.  This synergy can be quite helpful.
 
Such sharing of design responsibility between the CM and the owner’s architect/engineer blurs the line between liability and nonliability for design defects.  One resolution is to assign responsibility to the party with ultimate responsibility, which will typically be the owner’s design team.  Another approach is to assign responsibility to the party suggesting the particular element of the design that is being challenged.  A third approach is to require reliance by the CM on the design provided by the owner’s design team, and factor in the extent of the CM’s involvement.  The Massachusetts Supreme Judicial Court recently adopted this approach in Coghlin Electrical Contractors Inc. v. Gilbane Building Company, 472 Mass. 549 (2015), which held that “[t]he CMAR’s level of participation in the design phase of the project and the extent to which the contract delegates design responsibility to the CMAR may affect a fact finder’s determination as to whether the CMAR's reliance was reasonable. The greater the CMAR’s design responsibilities in the contract, the greater the CMAR’s burden will be to show, when it seeks to establish the owner’s liability under the implied warranty, that its reliance on the defective design was both reasonable and in good faith.”
 
Which way New Hampshire’s courts will go is anyone’s guess; mine is that the Massachusetts approach will hold sway.  But the allocation of responsibility will always be informed by the contract language, and the CM and Owner are free to carve up responsibility as they see fit.
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#35:  Mechanic's Liens for Rental of Equipment: The Case of Osgood v. Kent

11/1/2015

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The New Hampshire mechanic’s lien law, RSA 447:2, allows a lien to those who “perform labor, provide professional design services, or furnish materials” on a construction project.  Unlike some states' lien statutes (e.g., Massachusetts, Maine), there is no mention of rental of equipment―and equipment rental does not fit comfortably within these three categories.
 
If a contractor rents equipment from a leasing company to assist him in performing labor or furnishing materials to construct a project, our courts are consistent in allowing the contractor a lien for the full amount he is owed, including his rental costs―even if the contract is “cost plus” and the rental charges are separately identifiable.  In such a case the rented equipment is simply an adjunct cost of supplying the “labor” and “materials” mentioned in the statute.  But does the leasing company, who performed no labor and furnished no materials, have a lien as well?
 
Our Supreme Court has yet to speak on the issue.  Given the Court’s general reluctance to “consider what the legislature might have said or add language that the legislature did not see fit to include,” Appeal of Local Government Center, 165 N.H. 790, 804 (2014), asserting lien rights may be a difficult sell for the leasing company.  The effort isn’t aided by the Legislature’s rejection of House Bill 1759, introduced in 2006, which would have amended the statute to provide a lien to equipment suppliers.

There may, however, be a limited exception for rented equipment temporarily incorporated into the construction.  In Osgood v. Kent, 2011 WL 6740411 (D.N.H. Dec. 21, 2011), a mechanic’s lien was upheld for rental costs of temporary shoring and cribbing on a project after the contractor was terminated but forbidden by the owners from removing the shoring and cribbing.  In considering the owners’ argument “that a mechanic’s lien does not arise from the rental of equipment that is not consumed or used in construction unless the applicable statute specifically authorizes it,” the Court focused on the language of RSA 447:2 allowing a lien for materials furnished “for consumption or use in the prosecution of such work.” This distinction between “consumption” and “use” persuaded the Court that “where the statute speaks of materials consumed, like concrete poured into a foundation, as well as materials otherwise used, the statute could well contemplate that the category of materials otherwise used would include equipment rented to a property owner.”
 
Importantly, the Court also distinguished the shoring and cribbing from rental equipment that is not “incorporated into” the work.  The Court distinguished several cases, principally Logan Equipment Corp. v. Profile Construction Co., Inc., 585 A.2d 73, 74 (R.I. 1991), in which the rental of excavation equipment was held not to be lienable because not incorporated into the improvement.  “Here, of course, the I-beams and cribbing are incorporated – if only temporarily – into Ogontz Hall, which is precisely why the Kents sent Osgood a letter forbidding him from removing his property from their premises.  Given the substantial differences between the excavators in Logan and the materials at issue here, and the nature of their respective uses, Logan is no obstacle to a determination that Osgood is entitled to a mechanic’s lien based on the Kents’ continuing use of his I-beams and cribbing.”  Bottom line: “In this case, until Osgood’s materials are removed from Ogontz Hall, that leased equipment is incorporated into the improvement . . . Thus, the rental fees for those materials may be secured by a mechanic’s lien.”

Osgood v. Kent is consistent with a prohibition against mechanic’s liens for rented equipment which is not temporarily “incorporated” into a project.  In my view, the Court confused “equipment” and “materials,” and could have reached the same result by characterizing the I-beams and cribbing as materials (which are expressly included in our mechanic’s lien statute) rather than equipment (which is not).  All things considered, I expect that New Hampshire courts will disallow liens for suppliers of rented equipment unless the Legislature amends the statute.
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#34:  Limiting Liability with a Corporation or LLC

10/16/2015

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In the construction business, as elsewhere, the days of sole proprietors acting in their own names are virtually gone.  Most everyone today incorporates their business or forms a Limited Liability Company in the expectation that this will protect them from personal liability in the event of a lawsuit.  But that expectation is not always borne out in practice.
 
For starters, a distinction must be drawn between contract liability and tort liability.  A shareholder or member "acting as an agent of [an LLC], is ... protected from personal liability for making a contract where acting within his authority to bind the [LLC],” Mbahaba v. Morgan, 163 N.H. 561, 565 (2012).  But there is no shield against liability for torts committed by the Company at the behest of whoever controls it.  “When, however, a member or manager commits or participates in the commission of a tort, whether or not he acts on behalf of his LLC, he is liable to third persons injured thereby.”  Id.   
 
Even in the breach-of-contract setting, the veil of limited liability is not absolute.  Courts “will pierce the veil and assess individual liability where the owners have used the company to promote an injustice or fraud upon the plaintiff.”  Id. at 569.  That can happen in a number of ways.  For example, our Supreme Court has ruled that causing a Company to promise a payment out of an impending loan in order to avoid a mechanic’s lien, which the promisor had no intention of keeping, justified a finding of personal liability.  LaMontagne Builders, Inc. v. Bowman Brook Purchase Group, 150 N.H. 270, 275 (2003).
 
While it is certainly true that “piercing the corporate veil is not permitted solely because a corporation is a one-man operation,” Village Press, Inc. v. Stephen Edward Co., Inc., 120 N.H. 469, 471 (1980), such operations do have a greater risk of rendering their owners personally liable.  Without other shareholders or members to answer to, the temptation to treat the Company as the alter ego of the owner can be quite strong.  Failure to observe corporate formalities and keep corporate and personal assets separate can result in veil piercing.  "A lack of practical separation between the shareholder and the corporation, so that the corporation is merely the shareholder’s ‘alter-ego,’ is an important sign that the shareholder has abused the corporate form.”  Laminate Sales, Inc. v. Matthews, 249 F.Supp.2d 130, 141 (D.N.H. 2003).
 
In addition, every Company must place some capital at risk commensurate with the contracts to be undertaken – and if the Company is too thinly capitalized, it may disable itself from meeting contractual obligations.  This has resulted in veil-piercing in some settings, such as in the development of condominiums:  “Setting up a corporation with insufficient assets or plan for assets to meet its expected debts and obligations under the condominium statute can justify the remedy of piercing the corporate veil.”  Terren v. Butler, 134 N.H. 635, 641 (1991).   In the construction setting there is often a time lag of a month or more between performance and payment, during which time payroll must be met, fuel and supplies must be purchased, etc. – and without a line of credit in some form, contractors can be at risk if they do not invest enough money to meet these interim contractual obligations while waiting for payment on a job.
 
To stay in good standing, a corporation or LLC must pay a modest annual fee and file annual reports with the Secretary of State.  Failure to do so will eventually result in administrative dissolution of the Company.  There is a statutory procedure for reinstatement after administrative dissolution, but any business conducted while the Company is dissolved will likely be deemed to be conducted by the owners personally, thus forfeiting limited liability. 

Even if it otherwise exists, limited liability is lost by signing a personal guaranty.  Most banks and supply houses insist on these as a condition of extending credit to a Company, and most bonding companies insist on them as a condition of issuing payment and/or performance bonds to the Company.  There are good business reasons for those waivers.  Don’t let bad business practices end up forfeiting your protection by operation of law.
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#33:  Conflicting Contract Clauses

9/7/2015

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 Contracts are prepared by human beings, and human beings are imperfect; therefore, contracts are sometimes imperfect too.  One kind of imperfection is a conflict between two different contractual provisions.  It happens more often than you might think.  When it does, the question of which provision governs must be resolved.

Some contracts actually plan for the possibility of a conflict, and include an “order of precedence” clause to resolve conflicts among different documents or classes of documents comprising the contract.  These can be simple, such as Federal Acquisition Regulation 52.236-21 incorporated into government prime contracts (“In the case of difference between drawings and specifications, the specifications shall govern”), or exhaustive, such as the AIA A503 Guide for Supplementary Conditions (2007) suggested model language:

§ 1.2.1.1  In the event of conflicts or discrepancies among the Contract Documents, interpretations will be based on the following priorities:
     1. Modifications.
     2. The Agreement.
     3. Addenda, with those of later date having precedence over those of earlier date.
     4. The Supplementary Conditions.
     5. The General Conditions of the Contract for Construction.
     6. Division 1 of the Specifications.
     7. Drawings and Divisions 2–49 of the Specifications.
     8. Other documents specifically enumerated in the Agreement as part of the Contract
         Documents.

For situations in which the conflict appears within a single document or in documents of the same class, one sometimes sees a provision to the effect that the more burdensome one shall be deemed controlling.  An example is Steele Foundations, Inc. v. Clark Const. Group, Inc., 937 A.2d 148, 155 (D.C. 2007) (“in the event of a conflict between or among the terms of this Subcontract, the higher standard or greater requirement for Subcontractor shall prevail; and in the event of a conflict between or among the terms of the Contract Documents, the higher standard or greater requirement for Subcontractor shall prevail.”).

If there is no tie-breaking language in the contract, the matter can get dicey, particularly given that in New Hampshire (unlike many other states), conflicts and ambiguities in a contract are generally not resolved against the drafter.   Centronics Data Computer Corp. v. Salzman, 129 N.H. 692, 696 (1987) (“This court has applied the rule of construction that interprets ambiguous contract language strictly against its writer only in the context of insurance contracts.”).  On the flip side, there is no New Hampshire case law construing an ambiguous provision against a party who failed to request clarification.  The closest we have come is Summit Electric, Inc. v. Pepin Bros. Const., Inc., 121 N.H. 203, 207 (1981), which declined to address a lower court’s suggestion that failure to request clarification at bid time barred a claim for an extra (“We need not discuss, therefore, the correctness of the master’s finding that a general contractor must resolve any contract ambiguities prior to bidding”).

Courts apply various rules of contract construction in an effort to resolve ambiguities.  One common rule of contract interpretation is that if specific and general terms in a contract are in conflict, “a special clause qualifies a general one,” Shelby Mut. Plate Glass & Cas. Co. v. Lynch, 89 N.H. 510, 512 (1938).  See also Restatement (Second) of Contracts § 203(c) (1981) (“specific terms and exact terms are given greater weight than general language.”).  Another is that the court will place the same construction on a disputed provision that the parties, by their conduct, appear to have placed.  Auclair v. Bancroft, 121 N.H. 393, 395 (1981) (“In determining the parties’ intention, the court may properly consider their actions after the contract was executed.”).  This can have unintended consequences for a contractor who performs minor work he considers outside his scope without seeking an extra, and then finds that the minor work has mushroomed into major work.

The smart course is for contractors and subcontractors to scrutinize proposed contract language, including notes on plans, as carefully as time will permit before picking up a pen.  If an inconsistency is spotted, seek clarification or modification.  Even in a pre-bid meeting where concerns about educating one’s competitors loom large, speaking up will end up the wisest choice more often than not.
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#32:  The "Independent Duty" Exception to the Economic Loss Rule

8/2/2015

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Several months back I blogged on the Economic Loss Rule―the doctrine that restricts liability in tort for “economic loss” except in cases of a “special relationship” or negligent misrepresentation. Such losses are typically the province of contract law, not tort law.  I noted that the Plourde case made clear that the absence of a contract relationship with the offending party doesn't alter the application of the rule.  A few years later Wyle v. Lees, 162 N.H. 406 (2011), closed the loop, making clear that the presence of a contractual relationship doesn’t matter either.  One cannot sue for economic loss in tort “unless he is owed an independent duty of care outside the terms of the contract,” id. at 410.

The quote from Wyle is, to say the least, curious.  After all, if one is owed a duty “outside the terms of the contract,” then it must be a tort duty―so how can that “independent duty” allow recovery of economic loss if Plourde means what it says, and forbids economic loss recovery other than for negligent misrepresentation?

The obvious answer is, it doesn’t.  And the Wyle case didn’t say otherwise.

The plaintiff in Wyle had purchased an apartment building from the defendants based on a listing agreement which stated that no improvements had been constructed without permits, and based on the contractor’s statement that he had done everything the Town asked him to do.  Both representations turned out to be false.  After correcting numerous code violations and thus incurring an economic loss, the plaintiff sued for negligent misrepresentation.  The defendants argued that the claim was barred by the economic loss rule, thus teeing up a question for the Court:  “While we have recognized an exception to the economic loss doctrine for a negligent misrepresentation claim when the plaintiff and defendant are not parties to a contract, we have never addressed the issue presently before us—whether the economic loss doctrine bars recovery for such a claim between two contracting parties.”  Id. at 410.

The Court ultimately decided in the plaintiff’s favor, noting that his claims “do not merely relate to a breached promise to perform the terms of the contract or attempt to recharacterize a breach of contract claim as a negligent misrepresentation,” but rather “alleged that the defendants' misrepresentations, unrelated to any material terms of the actual purchase and sale agreement, induced him to enter into the agreement.”  Id. at 412.  This “unrelatedness” was key, making the tort duty an “independent” duty.

The bottom line is that economic loss is recoverable in a negligent misrepresentation case despite the presence of a contract if a party’s misrepresentations induced the other party to enter into the contract in the first place.  Schaefer v. Indymac Mortgage Services, 731 F.3d 98, 109 (1st Cir. 2013) (“the negligent misrepresentation exception reaches only those representations that precede the formation of the contract or that relate to a transaction other than the one that constitutes the subject of the contract”).

Negligent misrepresentation, like fraud (i.e., intentional misrepresentation), is by nature an “economic” tort―in the sense that the expected value of something has been diminished as a result of disappointed expectations―so it stands to reason that the rule prohibiting economic loss recovery in a tort case would have an exception for the tort of misrepresentation, whether or not plaintiff and defendant have entered into a contract.  If they do have a contract, the misrepresentation claim must be based on something other than breach of the contractual promise, or else it is exclusively the subject of contract recovery.  In either case, a “benefit of the bargain” or “benefit of the representation” measure of damages is appropriate―in other words, economic loss.  The independent duty requirement assures that a valid tort theory is in play, and not a contract claim under a different guise.

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#31:  Insurance Coverage for the Consequences of Defective Work

7/15/2015

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Defective construction often has a domino effect, as poor workmanship in one area can damage perfectly good work in others.  A steel beam atop a multi-story steel-framed building, if welded improperly, can fall on and damage properly welded beams below.  The law is clear that a standard commercial general liability policy won’t cover the cost of replacing the poorly-welded beam.  But what about the others?

Consider this scenario:  a contractor builds a home, and months later gets a call from the homeowner complaining of water infiltration where the deck meets the house.  The contractor investigates, and finds out that improper flashing is the culprit and will have to be redone.  The adjacent sills were installed correctly, but they are now damaged and need replacing as well.

On reading his insurance policy, he finds the standard exclusion in section (J)(6) for "[t]hat particular part of real property that must be restored, repaired or replaced because 'your work' was incorrectly performed on it."  He asks his lawyer whether the clause excludes coverage for replacing the sills, pointing out that no defective work was “incorrectly performed on” the sills themselves.  His lawyer checks the latest developments in New Hampshire law, and gives him some good news:  the sills should be covered.  Cogswell Farm Condo. Ass'n v. Tower Group, Inc., 167 N.H. 245, 252 (2015), held that “exclusion J(6) bars coverage for property damage to the defectively constructed portions” but “does not bar coverage for damage to those portions of the units that were not defectively constructed . . . but were damaged as a result of the defective work.”

When the insurance carrier receives the contractor’s claim, however, it is unimpressed by the Cogswell Farm ruling, and denies coverage on the ground that there has been no “occurrence” – defined in the policy as “an accident, including continuous or repeated exposure to substantially the same general harmful conditions“ – to trigger coverage in the first place.  It notes that Cogswell Farm declined to consider whether there had been a triggering “occurrence” because the insurance carriers in that case raised the issue too late.  And it points to the Supreme Court’s admonition in Brown v. Concord Group Ins. Co., 163 N.H. 522, 528 (2012), that “to constitute an ‘occurrence,’ the damage at issue must have been to property other than [the contractor's] work product.”  For this purpose, the carrier maintains, the contractor’s “work product” means all of its work, not just the defective work.

Is the carrier right?  A definitive answer must await a case squarely presenting the issue that Brown did not present: whether damage to elements of the construction that were not defective is considered damage to a different work product for purposes of defining “occurrence.”  But contractors have reason to be optimistic.  A popular treatise on insurance law, quoted in Concord General Mutual Ins. Co. v. Green & Co. Bldg. and Development Corp., 160 N.H. 690, 693 (2010), states that “an occurrence is an accident caused by or resulting from faulty workmanship, including damage to any property other than the work product and damage to the work product other than the defective workmanship."  9A S. Plitt, D. Maldonado & J. Rogers, Couch on Insurance 3d § 129:4, at 129-13 to 129-14 (2005) (my emphasis).

Unless all the subsequent dominoes are insured, CGL policies have diminished value.  As the Alabama Supreme Court recently observed in Owners Insurance Co. v. Jim Carr Homebuilder, LLC, 157 So.3d 148, 155 (2014), “to read into the term ‘occurrence’ the limitations urged by [the carrier] would mean that, in a case like this one, where the insured contractor is engaged in constructing an entirely new building, or in a case where the insured contractor is completely renovating a building, coverage for accidents resulting from some generally harmful condition would be illusory.  There would be no portion of the project that, if damaged as a result of exposure to such a condition arising out of faulty workmanship of the insured, would be covered under the policy.”  The court found coverage for the subsequent dominos.  Perhaps our Supreme Court will do likewise.

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