Inside this Issue

A1 - Economic Loss Doctrine Bars Claim against Engineer Individually
A2 - Wyoming Case Highlights Importance of Following Contractual Notice Provisions
A3 - “Condition Precedent” Means Pay IF Paid
A4 - Unrelated Errors Entitle Architect to Full Coverage for Each Independent Claim
A5 - Contractor’s Damages Reduced by Virginia Statutory Cap on Modifications for Public Contracts
A6 - Are Engineers Human?

Article 1

Economic Loss Doctrine Bars Claim against Engineer Individually

By J. Kent Holland, Esq.
ConstructionRisk Counsel, PLLC

Where a project owner filed suit against both the engineering firm, and the individual engineer that designed a post foundation for a fabric-roofed farm building, the negligence action against the individual engineer was dismissed based on the economic loss doctrine as applied under Virginia law. The plaintiff asserted claims against the engineer individually for breach of professional standard of care and breach of implied warranty – contending that he was personally liable because he attached his engineer's seal to the design plans and failed to comply with the standard of care for licensed professionals. In addition to applying the economic loss rule, the court dismissed the implied warranty claim because there was no privity of contract between the plaintiff and engineer that could give rise to a warranty. McConnell v. Servinsky Engineering, 2014 WL 2094131 (W.D. Va. 2014).

The court began its analysis by noting that the economic loss rule holds that when the bargained-for-level of quality in a contract is not met, “the law of contracts provides the sole remedy.” The court noted “Tort recovery is not available because the contract defines the breach and the damages. Additionally, the harm causing economic loss is not one that traditionally sounds in tort.” Further, concluded the court, “Because the law of contracts provides the sole remedy for economic loss under Virginia law, privity is an indispensable requirement for a viable claim.”

In this case, because there was no privity of contract between the plaintiff and the individual engineer who had merely executed the contract as principle of the engineering company, the plaintiff could not recover economic loss from the individual. The outcome remains the same even if the individual engineer performed the design services because Virginia Supreme precedent holds that “in the absence of privity, a person cannot be held liable for economic damages caused by his negligence in the performance of a contract.”

The court also rejected plaintiff's argument that the engineer assumed legal duties beyond the contract by affixing his professional engineering seal to the plans. No such independent tort duty was created by affixing the seal or providing professional service. In this regard, the court stated that the supreme court of Virginia “has repeatedly held that a claim for breach of professional duties is properly brought as breach of contract claim.”

On the question of whether there could be a viable claim for breach of implied warranty, the court concluded that such a claim is not distinct from a claim for breach of contract, because any implied warranties must arise out of the contract. Since the plaintiff lacks privity of contract with the engineer, there can be no breach of contract or breach of implied warranty under a contract.

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 Construction Risk 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.com Report and may be reached at Kent@ConstructionRisk.com or by calling 703-623-1932. This article is published in ConstructionRisk.com Report, Vol. 16, No. 10 (December 2014).

Article 2

Wyoming Case Highlights Importance of Following Contractual Notice Provisions

See similar articles: Claim Notice | Differing Site Conditions | Notice Requirements

By Charlie G. Baxley
Bradley Arant Boult Cummings LLP.

A recent Wyoming case – JEM Contracting, Inc. v. Morrison – Maierle, Inc. – serves as a reminder to contractors and subcontractors of the importance of following the contractual requirements for notice when differing site conditions are discovered. As the contractor in that case learned, failure to comply can serve as a waiver of such claims even when the upstream party makes subsequent promises of compensation for the cost and delays associated with the differing conditions.

JEM Contracting (“JEM”) entered into contracts with two Wyoming counties to perform construction services to improve 3.6 miles of a road which traveled through both counties. The counties hired Morrison-Maierle, Inc. (“MMI”) to provide engineering services and serve as the owner’s representative on the project. There was no direct contractual relationship between JEM and MMI.

JEM began work on June 21, 2010. That same day JEM verbally reported to MMI’s on-site representative that it had discovered a differing site condition that would increase time and costs due to the additional work required to pulverize the existing road. JEM’s contract included a provision regarding the procedure for asserting differing conditions claims:

“Contractor shall notify the [counties] and [MMI] in writing about differing subsurface or physical conditions within 5 days of discovery and before disturbing the subsurface as stated above. No claim for an adjustment in the contract price or contract times … will be valid for differing subsurface or physical conditions if procedures of this paragraph 4.03 are not followed.” (Emphasis added).

JEM did not provide written notice of the differing condition until 18 days later, on July 9. The two parties met that same day to discuss the issue. JEM alleged in court that at this meeting MMI told JEM that it would be paid for the increased costs if JEM could find savings on the remainder of the project so that it could complete the work within the contract price. When JEM later submitted its claim formally, however, both MMI and the counties rejected it. JEM brought suit against both shortly thereafter.

JEM alleged that it had relied on MMI’s statements to its detriment and that it was induced to continue working due to these statements. The trial court rejected JEM’s arguments due to JEM’s inability to show harm from MMI’s representations because JEM’s contract required it to continue performance during a dispute. JEM appealed and eventually the matter arrived before the Wyoming Supreme Court. Wyoming’s highest court initially noted that the lower court had failed to fully consider the types of harms that could have resulted from MMI’s representations – namely the reduced profit JEM suffering in cutting other areas of work in order to stay within the contract price. Even still, the court said, JEM had clearly failed to assert its claim in writing within the five days required by Paragraph 4.03. The Wyoming Supreme Court found that JEM’s inability to prove that MMI’s representations on July 9 caused JEM any harm was irrelevant, as JEM had already waived its right to such claims when the five day time limit expired.

Lesson Learned: Differing conditions are common on projects, as are exchanges like the one that occurred between JEM and MMI on June 21, 2010. JEM likely had good intentions for not following up its verbal notice with a letter, perhaps because it did not want to ‘rock the boat’ early on in its performance of work. However, as this case shows, once a dispute arises, good intentions are a poor substitute for compliance with the requirements of the contract.

About the author:

Charlie G. Baxley is an attorney in Bradley Arant Boult Cummings’s Construction and Procurement practice group. He has represented owners, contractors, and subcontractors in the review, interpretation, and negotiation of contracts, as well as the preparation and resolution of disputes through litigation, arbitration, mediation, and negotiated settlement. Prior to law school, Charlie spent five years working in estimating and project management for a large general contractor, where he was involved in the pre-construction or construction of retail, multi-family, and industrial projects.

Republished with permission. This article first appeared in Construction and Procurement Law News, Second Quarter 2014, a publication of Bradley Arant Boult Cummings LLP.

This article is published in ConstructionRisk.com Report, Vol. 16, No. 10 (December 2014).

Article 3

“Condition Precedent” Means Pay IF Paid

By J. Kent Holland, Esq.
ConstructionRisk Counsel, PLLC

Subcontracts may state that the subcontractor will be paid when the prime contractor is paid, or that the subcontractor will be paid only if the prime contractor is paid, and still others state that payment of the prime contractor is a condition precedent to the obligation of the prime to pay the subcontractor. Where a contract provided that payment by the project owner to the general contractor was a condition precedent to the payment by the general contractor to the subcontractor, it was held that the use of the term “condition precedent” clearly and unequivocally shows the intent to transfer the risk of the project owner's nonpayment from the general contractor to the subcontractor. Transtar Electric Inc. v. AEM Electric Services Corp., 16 N.E. 3d 645, (Ohio Supreme Ct., 2014).

Pay if Paid or Pay when Paid

The question for the court was whether the use of the term “condition precedent” was sufficient to establish a pay if paid payment provision. The language in question provided: “Receipt of payment by contractor from the owner for work performed by subcontractor is a condition precedent to payment by contractor to subcontractor for that work.” The contract did not otherwise refer to terms such as pay-if-paid or pay-when-paid.

The trial court granted the prime contractor summary judgment on the subcontractor’s claim for payment, ruling that the prime owed no contractual duty to pay the subcontractor since it had not been paid by the owner. This was reversed by an intermediate court of appeals that held that the payment provision was not specific enough to show that both parties understood and agreed that the risk of the owner’s nonpayment would be borne by the subcontractor instead of the general contractor. This was reverse by the Supreme Court of Ohio that found the language was clear and unambiguous in its intent to transfer the risk to the subcontractor.

In explaining its reasoning, the court began by reiterating that “The cardinal principle in contract interpretation is to give effect to the intent of the parties.” The court then explained, “We will look to the plain and ordinary meaning of the language used in the contract unless another meaning is clearly apparent from the contents of the agreement.”

Curiously, the court used as an example of perfectly clear language the typical language found in a pay-when-paid contract clause. It stated, “An unconditional promise to pay is a pay-when-paid payment provision. Such a promise is not dependent on or modified by the owner’s nonpayment.”

I say this is a curious example because it is has never been clear to me why if the prime contractor agrees to pay only “when” it has been paid, how that constitutes an “unconditional promise to pay.” But that is indeed how it is interpreted by courts. The court further states: “A contract may include either a pay-when-paid or a pay-if-paid contract provision, but a contract cannot contain both.”

The court went on to state, “the general contractor may make a conditional promise to pay the subcontractor that is enforceable only if a condition precedent has occurred. A conditional promise to pay is a pay-if-paid payment provision.”

In this case, the court stated that it would “echo the Seventh Circuit Court of Appeals, that held in a case with similar contract language", “This provision means just what it says—that [the contractor's] duty to pay [the subcontractor] is expressly conditioned on its own receipt of payment—thus evincing the parties’ unambiguous intent that each party assumes it own risk of loss if [the owner] becomes insolvent or otherwise defaults.”

With regard to the express words “pay-if-paid,” the court found that “the use of the term “condition precedent” negates the need for additional language to demonstrate the intent to transfer the risk.

Comment

When reviewing the subcontract payment provisions, a subcontractor might want to consider negotiating language to revise the pay-if-paid clause, or the condition precedent clause, to state something to the effect that “In no event shall the subcontractor be paid the uncontested amounts of any invoice later than [X ] days from the invoice date.” A pretty good argument can be made that the prime contractor should bear the brunt of the pain in the event that its client fails to pay since the prime was in the best position to exercise due diligence when entering into the prime contract to assure itself of the client’s financial ability. The prime contractor is likewise in the better position to address payment delinquency during contract performance and stop work within a reasonable time if not being promptly paid. Even if the subcontractor cannot negotiate an unconditional payment provision in the subcontract, we recommend that it insist on the right to stop or terminate its work in the event that it has not received payment of the uncontested amounts of an invoice within a specified number of days.

Article 4

Unrelated Errors Entitle Architect to Full Coverage for Each Independent Claim

See similar articles: Claims-Made | Insurance Dispute | Related Claims | Unrelated Claims

By J. Kent Holland, Esq.
ConstructionRisk Counsel, PLLC

A project was delayed because the Architect’s plans erred in their steel quantity estimate, and in the specifications for the structural steel girts and exterior façade. The project owner sent a demand letter to the Architect asserting that the structural steel error caused delay damages. Later, after the project was completed, the owner sued the Architect for breach of contract and negligence. In addition to steel issues, one of the complaint allegations concerned an “Ice Control Issue” wherein it was asserted that the excessive accumulations of snow and ice were sliding off the building onto sidewalks because the design of the building façade failed to account for temperature variations. The insurance carrier for the Architect asserted that the two claims were “related claims” and, therefore, considered a “single claim” for purposes of determining how much insurance would pay. The U.S. Court of Appeals, 2^nd Circuit, held that two claims arose from two unrelated wrongful acts, and that even though they both may have resulted from the generalized negligence of the Architects that does not make them related. Both claims, therefore, would receive the benefit of the full policy “per claim” limit. Dormitory Authority of the State of New York v. Continental Casualty Company, 756 F.3d 166 (Second Cir., 2014).

In this case, summary judgment was granted by the trial court that found the two design flaws in the same structure were not “related.” The litigants had earlier stipulated that if the two flaws were held to be unrelated, the insurer would indemnify loss caused by the second flaw with a second limit of liability. The insurance carrier then appealed the summary judgment decision.

Professional Liability Policies

The architect’s professional liability policies were claims-made policies. Polices for two different years were implicated in the dispute. The polices provided that “all related claims shall be considered a single claim first made and reported … within the Policy year in which the earliest of the related claims was first made and reported.” Related claims were defined as “all claims made against [the Architects] and reported to [Continental] during any policy year arising out of …. a single wrongful act or related wrongful acts.”

What gives rise to this appeal is that it had been agreed in a settlement prior to litigation on the insurance coverage dispute that the insurance carrier would pay the owner $3.1 million under the 2000-02 policy for the Steel Girt Tolerance Issue that had been raised in the initial demand letter, and that it would pay an additional $3 million under the 2003-04 policy if the owner succeeded in obtaining summary judgment that the Ice Control Issue did not arise out of the same or related wrongful acts identified in the 2002 demand letter. Having lost the summary judgment, and having to pay $6.1 million plus interest, Continental appealed.

Continental’s primary arguments on appeal were that (a) the wording of the 2002 demand letter encompasses both the Steel Girt Tolerance Issue and the Ice Control Issue; and (b) the two issues are “related claims” as that phrase is defined in the insurance policies. Continental argued that the demand letter alleged professional negligence in terms broad enough to include all design defects in the building. The court noted that although the letter opens with two categorical allegations of failure to complete the design services in a timely fashion and the failure to properly coordinate services with other members of the design team, the crux of the letter identifies just one specified failure, the Steel Girt Tolerance.

Although the owner had been aware of the issue concerning Ice Control in 2002 when it wrote its demand letter concerning the other issues, it was at that time receiving proposals from the architect to correct the problem with additional canopies and did not yet consider it a claim. It was only after an expert study was completed in the winter of 2003-04 that it was concluded that major design changes would be needed.

The appellate court, in affirming the summary judgment, stated that the “The 2002 Demand Letter, issued before the 2003-04 study, cannot be fairly read to concern the Ice Control Issue’ and, focused as it is entirely on the Steel Girt Tolerance Issue, it cannot be fairly read as an omnibus claim, concerning all architectural defects [in the building].” The court went on to explain in succinct and clear terms why the two issues were not related, stating the following:

“We agree with the district court that the Steel Girt Tolerance Issue and the Ice Control Issue arise from two unrelated wrongful acts. One has to do with the structural integrity of the building; the other, with its aesthetic design. The issues inhere in different systems, each with its own distinct engineering considerations. The two issues involved different design teams; two separate sets of contractors worked on them. The problems ultimately manifested themselves at different times and resulted in different types of damage. The solutions to each issue were wholly different. That both may have resulted from the generalized negligence of the Architects is an insufficient degree of relatedness.”

Article 5

Contractor’s Damages Reduced by Virginia Statutory Cap on Modifications for Public Contracts

See similar articles: Notice Requirements | Payment Risk | Public Contracts | Virginia Contracts | Virginia Statutory Cap

By James Rhodes, Esq.
ConstructionRisk Counsel, PLLC

A federal appeals court affirmed the limitation on a contractor’s compensation for change orders due to a Virginia public contracting statute that provides a cap on recovery. The case was brought by a construction contractor that was performing site preparation work for a local housing authority. The statute limits a contracting officer’s authority to modify a public fixed-price contract to exceed the aggregate of $50,000 or 25% of the contract value, without prior written approval of the governor’s designee or a political subdivision. The court also strictly applied the procedural notice requirements for contractors’ claims pursuant to another provision of the public contracting statute. Carnell Construction Corp. v. Danville Redevelopment & Housing Authority, 745 F.3d 703 (4th Cir. 2014)

Carnell Construction Corporation (Carnell) was awarded a contract of around $800,000 to provide site preparation work (including clearing, site grading, and installing drainage and erosion controls) for a public housing project in Danville, Virginia. The client was the Danville Development and Housing Authority (Housing Authority), a public entity funded in part by federal grants. Carnell began work in June 2008, but the relationship deteriorated after allegations of delayed and unacceptable by the Housing Authority.

Carnell claimed its work was proper and the delays were due to the Housing Authority’s mismanagement. Carnell’s president also complained about alleged racial discrimination against the company – a minority-owned corporation. The Housing Authority indicated in May 2009 that Carnell was to leave the site the following month, regardless of whether the work was complete. Carnell subsequently left the site before completion and requested reimbursement for unpaid work. The payment requests were rejected and the Housing Authority declared the company to be in default under its performance bond.

Carnell filed a lawsuit in federal district court (the Eastern District of Virginia) alleging racial discrimination and breach of contract against the Housing Authority and a related private investor in the project. While raising interesting legal issues under federal civil rights law, the racial discrimination aspect of the case is outside the scope of this article. After two mistrials, the jury in the third trial found for Carnell in the breach of contract claims, awarding around $900,000. But the judge subsequently reduced the award to around $200,000 in large part due to a Virginia statutory cap for certain contract modifications on public contracts, which will be discussed in greater detail. Both parties appealed to the United States Court of Appeals for the Fourth Circuit.

The Virginia Public Procurement Act (VPPA), the main statutory scheme applicable to public contracts in the state, includes a cap on a contractor’s entitlement to contract modifications that have not been agreed to in advance by the applicable political entity. The provision reads as follows:

A public contract may include provisions for modification of the contract during performance, but no fixed-price contract may be increased by more than twenty-five percent of the amount of the contract or $50,000, whichever is greater, without the advance written approval of the Governor or his designee, in the case of state agencies, or the governing body, in the case of political subdivisions. In no event may the amount of any contract, without adequate consideration, be increased for any purpose, including, but not limited to, relief of an offeror from the consequences of an error in its bid or offer.

Virginia Code § 2.2-4309(a).

The appeals court found that the trial court had properly reduced the damages pursuant to this provision. Accordingly, Carnell could only be compensated for changes up to 25% of the value of the firm fixed-price contract because of the lack of prior written approval by the requisite political authority. The court rejected several arguments on the scope or applicability of the provision, strictly enforcing what it found to be the unambiguous meaning of the statute.

Lessons Learned: This decision highlights the potentially harsh result of “statutory caps” on changes for contractors. Despite formal or informal direction from the contracting officer to perform out of scope work, either written change orders or “constructive changes” will be deemed invalid in Virginia when the aggregate exceeds 25% of a fixed-price contract value.

Note that similar limitations exist in other states as well. The statutory cap can put the contractor in a difficult position, as the contractors are ordinarily required to perform additional work pending the outcome of any related dispute. Accordingly, contractors must remain wary of their client exceeding its statutory authority to direct change orders.

The case also addressed the importance notice requirement under the VPPA. Unlike in the first two trials, the plaintiff failed to offer a key letter into evidence in the third trial that provided notice in November 2009 of the plaintiff’s intent to file claims related to numerous specific issues. Instead, the plaintiff had only offered into evidence an earlier letter that provided notice for only a few of the claims.

Citing to Supreme Court of Virginia precedent, the court rejected the plaintiff’s argument that it was sufficient that the Housing Authority had “actual notice” of all the claims. The case highlights that courts will construe the VPPA notice requirement strictly, as a “mandatory, procedural requirement,” before consideration of the merits.

This article is published in ConstructionRisk.com Report, Vol. 16, No. 10 (December 2014).

Article 6

Are Engineers Human?

See similar articles: Engineers | Study Engineering

Dr. Patricia Galloway: November 2014 TED Talk at TEDx Manhattan Beach.

This TED Talk by Pat Galloway is to inspire and motivate young people— especially girls and young women—to become engineers. If you know anyone you would like to encourage to study engineering, I highly recommend this presentation. In fact, even if you are already an engineer, I encourage you view this video and show it to your friends and family to remind them just how important engineers are to our community and nation – and not just for designing and building things. They will learn, for example, that one third of the Chief Executive Officers of Standard & Poors companies have engineering degrees.

Also visit the website, EngineerGirl.com, a website developed by the National Academy of Engineering (NAE), to bring attention to the opportunities that engineering represents for girls and women.

http://youtu.be/WTs2kKCV9pg

Dr. Patricia D. Galloway
President and CEO
Pegasus Global Holdings, Inc.
1750 Emerick Road
Cle Elum, WA 98922
Phone: 509-857-2235
Fax: 509-857-2237
Email: p.galloway@pegasus-global.com
Website: www.pegasus-global.com

This is published in ConstructionRisk.com Report, Vol. 16, No. 10 (December 2014).

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ConstructionRisk.com Report (December 2014)

Inside this Issue

Article 1

Economic Loss Doctrine Bars Claim against Engineer Individually

Article 2

Wyoming Case Highlights Importance of Following Contractual Notice Provisions

Article 3

“Condition Precedent” Means Pay IF Paid

Pay if Paid or Pay when Paid

Comment

Article 4

Unrelated Errors Entitle Architect to Full Coverage for Each Independent Claim

Professional Liability Policies

Article 5

Contractor’s Damages Reduced by Virginia Statutory Cap on Modifications for Public Contracts

Article 6

Are Engineers Human?

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Connect

Contract Guide for Design Professionals

Recent Newsletters

All Newsletters

Risk Management Workshops

Life Skills Workshop Slides

Contract Clauses – Papers and Articles

Construction Risk Management