Inside this Issue

A1 - Be Careful about Responsibility for Defective Cost Estimates in Current Environment of Price Spikes and Supply Shortages
A2 - Economic Loss Doctrine Inapplicable to Condo HOA suit
A3 - No Insurance under CGL Policy for Contractual Dispute

Article 1

Be Careful about Responsibility for Defective Cost Estimates in Current Environment of Price Spikes and Supply Shortages

See similar articles: Cost estimate | price guarantees

In reviewing and negotiating design professional contracts our office often sees contract clauses stating that the design professional must design a project to meet the client’s budget and that, if bids come in over the budget, the Owner may require the design firm to redesign the project to get it back within budget –and that the designer will do this without any additional compensation. That obligation constitutes an uninsurable warranty. We have routinely revised that clause to state that the only time the designer will do such redesign for free is when the cost overrun was due to negligence of the designer. With construction costs and materials rising dramatically and unpredictably, it is fundamentally unreasonable to expect designers and contractors to bear the costs for which they could not control. Yet, the contract wording seems to be getting more onerous in this regard. Read the contract wording carefully and revise the language to protect against having to provide such free services.

A recent article in the electronic newsletter, “Construction Dive” published by Industry Dive, Inc., Washington, D.C. stated that nonresidential construction input prices increased 23.9% in May, 2021 compared to the previous year, according to an Associated Builders and Contractors analysis of U.S. Bureau of Labor Statistics data released Tuesday. In addition, the price of softwood lumber has expanded 154% over the past year. ABC chief economist Anirban Basu is quoted as stating: "While global supply chains should become more orderly over time as the pandemic fades into memory, global demand for inputs will be overwhelming as the global economy comes back to life."

Commercial and residential builders have struggled with the higher materials prices since this time last year. The National Association of Home Builders reported that lumber costs are adding an average of $35,872 to new single family home prices. Those prices have also added $12,966 to the value of an average new multifamily home. As those are typically built to rent, that in turn is adding $119 a month in rent to new apartments.

About the author: Article written by J. Kent Holland, Jr., a construction lawyer located in Tysons Corner, Virginia, with a national practice (formerly with Wickwire Gavin, P.C. and now with ConstructionRisk Counsel, PLLC) representing design professionals, contractors and project owners. He is founder and president of a consulting firm, ConstructionRisk, LLC, providing consulting services to owners, design professionals, contractors and attorneys on construction projects. He is publisher of ConstructionRisk Report and may be reached at Kent@ConstructionRisk.com or by calling 703-623-1932. This article is published in ConstructionRisk Report, Vol. 23, No. 4 (July 2021).

Article 2

Economic Loss Doctrine Inapplicable to Condo HOA suit

See similar articles: Condominium | Economic Loss Doctrine | HOA

Condominium Association (HOA) was not barred by the economic loss doctrine from suing construction professionals, including the general contractor, that designed and constructed the condominium complex. The suit was for damages from cracking concrete and various defective work causing water intrusion. The defendants moved for summary judgment, asserting that the economic loss doctrine applied and they therefore couldn’t be held liable in negligence for construction defects. The trial court granted the motion but this was reversed on appeal, with the court holding it was premature to dismiss this action because numerous questions of fact must be resolved at a later stage of the proceedings. From the face of the complaint the court stated it couldn’t determine how the HOA and defendants were connected and that “the contractual relationship, or lack thereof, between the parties is the fundamental issue in any case regarding application of the economic loss doctrine.” Residences of Ivy Unit Owners Association v. Ivy Quad Development, LLC., 164 N.E. 3d 142 (2021).

The court explained the economic loss doctrine as follows: Specifically, the economic loss doctrine provides that:

“A defendant is not liable under a tort theory for any purely economic loss caused by its negligence (including, in the case of a defective product or service, damage to the product or service itself)—but that a defendant is liable under a tort theory for a plaintiff's losses if a defective product or service causes personal injury or damage to property other than the product or service itself.”

Under this doctrine, “Indiana courts have barred negligence actions that sound exclusively in contract law". Stated another way, the court explained:

“The rule of law is that a party to a contract or its agent may be liable in tort to the other party for damages from negligence that would be actionable if there were no contract, but not otherwise. Typically, damages recoverable in tort from negligence in carrying out the contract will be for injury to person or physical damage to property, and thus “economic loss” will usually not be recoverable.”

In order to allow this complaint to go forward beyond the summary judgment motion, the court had to demonstrate why the seminal Indiana decision in the case of Indianapolis-Marion County Public Library, 929 N.E. 2d. 722 (2010), was not applicable. That decision, which applied the economic loss doctrine to dismiss action against the designers and contractors held:

“There is no liability in tort to the owner of a major construction project for pure economic loss caused unintentionally by contractors, subcontractors, engineers, design professionals, or others engaged in the project with whom the project owner, whether or not technically in privity of contract, is connected through a network or chain of contracts.”

In the current case, the court stated that there are several problems with relying upon the Library decision – one being that the plaintiffs and defendants here were not in a contractual relationship but “there are situations where it would be unjust” to allow a plaintiff to proceed in tort “for purely economic loss where no contract exists nor could exist between the parties.” The court here stated: “We think the current situation may be one in which it would be ‘unjust' not to allow the plaintiff to proceed….” “Unlike in the sophisticated world of commercial construction, in the residential construction context all participants are generally not in privity of contract and thus have not defined for themselves their respective risks, duties, and remedies through a ‘network or chain of contracts’ governing the project.”

As seen from the above quoted language from the decision, the court in this case expressed serious qualms about applying the economic loss doctrine in a residential matter such as this one. In its concluding paragraph the decision sates: “In light of the foregoing, we are persuaded that the reasoning behind the sweeping holding of [the Library] was meant to apply only to sophisticated parties involved on all sides of large commercial construction projects and not in the typical residential context.”

Comment: This decision appears to be a significant setback for the applicability of the economic loss doctrine in the State of Indiana.

Article 3

No Insurance under CGL Policy for Contractual Dispute

See similar articles: CGL | Insurance Dispute | Property Damage

Where a concrete subcontractor’s ready mix concrete was found to be defective, and its client- another contractor, refused to pay for it, the subcontractor put a lien on the project, and the parties sued each other over the payment dispute. The subcontractor then asked its commercial general insurance (CGL) carrier to defend and indemnity it. The carrier refused to do so – stating that this was a basic contract dispute and there was no claim for “property damage” which the policy defined as “physical injury to tangible property.” The trial court and appellate court agreed there was no insurance coverage. Morgan Concrete Company v. Westfield Insurance Company, 2021 WL 755094 (U.S. District Court, GA 2021).

The specifications required concrete to withstand 5,000 psi. When the subcontractor’s concrete failed to meet that psi requirement, the prime contractor directed it to provide a higher psi concrete. When the next concrete continued to fail to meet the psi requirements the prime refused to pay its subcontractor and litigation between them ensued.

Rather than replace the second-floor level slab that contained the defective concrete, the prime contractor and project owner decide to repair the slab. It then proposed to the subcontractor to split the repair costs, which the subcontractor refused to do. The subcontractor argued that its concrete was not defective but that any problems were caused by the prime contractor mishandling the concrete that was delivered to the project.

In reviewing the facts and law applicable to this case, the appellate court explained that the state Supreme Court previously held that the term “property damage’ means damage to property that was previously undamaged ‘and to damage beyond mere faulty workmanship.” As a result, “there is no coverage for ‘liabilities for the repair or correction of he faulty workmanship of the insured.’”

In this case, the court found that there was no “property damage identified in the lawsuit other than to the product that the subcontractor provided". The policy in question, said the court, excluded from coverage “property damage” to a “product” that was “manufactured, sold, handled or distributed” by the Insured subcontractor. That exclusion applied to the situation in this case. Because the dispute between the concrete subcontractor and prime contractor involved only damage to the inferior concrete and economic losses for repairs necessitated by the defective product, the court held the insurance policy didn't require the carrier to defend the suit against the subcontractor.

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