Language in Performance Bond Critical in Determining Surety’s Rights to Complete

Jared Gillman | Saul Ewing Arnstein & Lehr | October 11, 2019

If an owner terminates a contractor due to a contractor default on a bonded project, can the surety hire the same contractor to complete the work under the bond?  Depending on the language of the bond, it may be permissible in Florida.

Recently, in Seawatch at Marathon Condominium Association, Inc. v. The Guarantee Company of North America, No. 3D18-1337, 2019 WL 4850194 (Fla. 3d DCA Oct. 2, 2019), a Florida appellate court ruled that the unambiguous terms of an AIA A312 Performance Bond permitted a surety to propose a previously-terminated contractor as the “replacement contractor” under a Takeover Agreement.

The AIA A312 Performance Bond provided that the surety was required to exercise one of the following series of options upon a contractor’s default:

“4.1 Arrange for the contractor, with consent of the owner, to perform and complete the Contract; or 

4.2 Undertake to perform and complete the Contract itself, through its agents or through independent contractors; or…”

The surety elected to complete the contract itself pursuant to Section 4.2 of the Bond, and presented a Takeover Agreement to the owner.  The Takeover Agreement provided that the defaulted contractor would complete the project for the surety.  The owner refused the Takeover Agreement because it would not consent to the terminated contractor completing the work on the project.

The appellate court held that the terms of Section 4.2 were unambiguous, and lacked the consent requirement of Section 4.1.  Therefore, the court would not read into Section 4.2  a consent requirement, and held that the surety’s refusal to provide another replacement contractor was not a breach under the terms of the bond.

The owner also argued that the surety could not complete the project itself under Section 4.2 because it was not a licensed contractor.  However, the appellate court rejected this argument, holding that the surety did not need to be a licensed contractor to enter into the Takeover Agreement.

Like any construction contract, it is important to understand the terms contained within a performance bond.  Had the owner successfully modified the terms of the bond to require its consent to a replacement contractor, the dispute (and the resulting legal fees) could have been avoided.

Blockchain and Smart Contracts May Solve the Unsolvable Problem in Construction

Thomas D. Franklin and Brian R. Gaudet | Kilpatrick Townsend & Stockton | August 22, 2019

Every construction project, from contract negotiation through the payment of the final pay application, suffers from the same conundrum born out of every parties’ desire for certainty and finality. That problem is the issue of the exchange of lien waivers for payment. The issue is those parties lower in the construction chain are asked to provide unconditional lien waivers (swearing that they have already been paid) as part of their request to be paid. This happens all the way up the chain until you reach the top. It is borne out of the project financer’s desire to make sure that when they issue a progress or final draw on funding that they are achieving finality on costs of construction for everything that transpired prior to that draw. This, of course, helps insure that their investment in the project is not attacked by mechanics and materialmen’s liens filed by unpaid subcontractors and suppliers down the chain. (While the financiers typically have a superior priority in the property, the financiers would rather that the borrower occupy the property and pay them back in accordance with the repayment schedule, than to foreclose, fight over priority, and suffer loss from an insufficient recovery on foreclosure or to have to hold the property for some extended period of time.)

Several states have passed laws, and in other places, parties negotiate the exchange of a conditional release in exchange for a check, which would be followed up, in theory, with an unconditional release when the check is honored by the payor bank and becomes “good funds.” A conditional release is a compromise position that is sometimes rejected and it has its own problems. Rather than relying on a single executed document, a party would need to also have proof of the funding of the check in order to know whether it may rely on the conditional release or not. This need to look to external sources is less than ideal from the finance side.

There are other imperfect solutions to this problem up until blockchain and smart contracts, which may be the perfect solution. One solution was to have the prime contractor prepay its subcontractors prior to submitting what essentially would be a request for reimbursement from the Owner for what was already spent. The subcontractors, as a precondition to receiving that payment, would have already had to prepay their lower tiered subcontractors and suppliers. In theory, that solution works. In practice, it fails. The reason it fails is that the parties with the least financial wherewithal are asked to prefund a significant payment and hope for a timely reimbursement. The larger the project, and the higher the monthly burn rate on expenditures, the more unlikely you are to succeed in this pre-payment paradigm.

Another solution, which is even more impractical in practice, is for every party on the construction project who is expected to receive a portion of a particular monthly draw to assemble in a large conference room and exchange cash for unconditional releases in an elaborate closing ceremony, each and every month. This would permit the exchange of hard currency for unconditional releases, seemingly satisfying the finance side’s desire for finality and certainty, as well as the working side’s desire to make sure they do not end up financing the project themselves. There are obvious problems with this scenario, including the logistics and time necessary to perform it, and the security risks. Through the use of blockchain, however, the parties can accomplish the same thing electronically.

What are blockchain and smart contracts? Blockchain is a cryptographic technique to validate transactions for each transaction so that there is trust in what transpired at any given moment, because the algorithm is so strong. A distributed ledger (it exists in multiple locations) for the blockchain provides an unhackable solution, as many parties possess a copy, and it would be impractical to hack all of them to change the ledger. Some blockchains integrate smart contract capability that uses software code to automatically enforce one or more contract terms before the underlying transaction takes effect. A smart contract could be used in conjunction with, or to replace, project management/finance software to set up rules for the execution of a transaction or series of transactions. This can provide enhanced visibility or other functionality in a secured way with a distributed ledger and algorithmic security. Since many possess a copy of the blockchain and understand the underlying rules of the smart contract, there are no secrets and no chance at manipulation.

How would this work to solve the problem discussed above, is as follows. Using software with controlled access to the blockchain, the parties participating on the construction project would register and be invited into the project finance database. Parties lower in the chain could upload their unconditional releases, which the system would hold in escrow. The project financier (owner or lender) would pre-load the draw payment on its end either just prior to funding or before the next month of work began, so that the parties performing work could be assured that payment was locked in the system. Once the system received all of the unconditional releases required for the draw, the funding would happen through some combination of the smart contract or traditional software to enforce the rules so that the blockchain records the compliance with a perfect audit trail. The payment would not just flow from the bank to the owner. The entire distribution could simultaneously occur, with the payment simultaneously flowing throughout the entire matrix of those expecting payment. The suppliers and subcontractors would be paid at the same instance the draw was funded to the general contractor. The blockchain would be used to securely track and distribute the funding, as all parties can be assured the prerequisite conditions for proceeding were met. Because of its distributed ledger system, there would not be the ability of one party to manipulate the system. The releases could be created through the software system or smart contracts so that a party could not simply upload a blank page to trick the system. There would still need to be human oversight in determining who should be a participant in payment system, as well as validation of whether work was performed, and at what percent of completion. As this approach catches on over time, anyone who supplies or provides labor to a project would know to register on the project to secure its payment.

Certainly there are still “What ifs…” to be worked through on a per project basis, but the fundamental problem has been solved with technology that is secure, unhackable, transparent, and lightning fast.

The Advantages of Virtual Reality in Construction

Spivey Lipsey | Construction Executive | June 20, 2019

Virtual reality provides an unparalleled spatial sense for visualization at a lower cost than full-scale replicas. Today, VR is being used heavily in preconstruction to align owner expectations and educate design team stakeholders. For those already employing BIM solutions, coordination can be made much more effective by leveraging existing design models with very little added cost.

As anyone who has tried a VR headset before can attest, the ability to accurately perceive spatial relationships in design cannot be replicated through traditional 2D media such as screens or paper. VR solutions also have the ability to iterate rapidly. These technologies are linked to BIM, providing real-time feedback as the design changes. This is in stark contrast to traditional full-scale mockups and offline renders, which are cumbersome and time-consuming to update with design changes. 

SUBSTANTIAL BENEFITS WITHOUT A HEFTY PRICE TAG

Budget limitations and ROI are always a concern with emerging technology. Fortunately, VR comes cheaply with BIM production. These solutions are significantly less expensive than full-scale mockups and far more efficient when compared to longhand sequencing explanations and esoteric detailing of complex designs. Even the most elaborate VR setups are a fraction of overall construction cost, ranging from a few hundred to a few thousand dollars depending on the level of adoption.

Design and coordination models are widely available in construction today and facilitate VR use with little additional effort. The immersive aspect and spatial recognition are intuitive and efficient compared to 2D plans. Even 3D models viewed through design software is not full scale and is fragmented to produce traditional construction documentation.

Augmented reality can also aid with the sequencing of elements from a Gantt chart. Using Navisworks or similar software, schedule information can be imported and linked to geometry. The 3D elements are then automatically animated and updated with changes to the model and schedule. Additionally, VR allows us to see how these components come together in a scaled environment and reveal conflicts that may be otherwise hidden. This is particularly useful for construction with tight clearances due to existing infrastructure. 

Without a complete design model, VR can be expensive and time-consuming to maintain with design changes. For BIM projects, however, it’s a solid investment with many rewards. VR is another tool in the belt of designers and contractors to ensure construction adherence to design intent. 

GETTING STARTED WITH VR TECHNOLOGIES

For a company using VR for the first time, a curated experience is recommended. Small flaws in the design can easily become focal points in VR and it’s important to ensure user focus remains on priority items. This can be done through limiting user interaction with the model and ensuring viewable areas are more polished.

For example, a more curated experience can be accomplished by exporting specific areas individually from the model to present as separate scenes. Another option is to create boundaries with hidden geometry to limit movement to a particular area, ensuring users only see polished parts of the model and aren’t overwhelmed by accidentally veering off to unfinished or non-navigable areas.

To achieve the ROI that VR solutions are capable of delivering, accurate models are of paramount importance. Models lacking consistency and accuracy will contain distracting errors and detract from the focal points and design elements intended for discussion. Excess modeling should also be avoided as it can significantly impact performance in VR and create additional cleanup. 

LOOKING AHEAD

From the design team to the contractors and owners, VR improves understanding and expectation of deliverables across the board, greatly enhancing both project coordination and the review process. Managerial roles that, in the past, had been technology-averse now use VR for its intuitive view of the design BIM and investigating model elements in ways they would previously have avoided.

Visualizing the spatial relationship between model elements is where VR really shines. Steve Jobs famously said that computers are like a bicycle for the mind. VR is very much a bicycle for our spatial cognition. High ROI on BIM projects, combined with hardware that is growing less expensive and more powerful each year, makes one thing very clear—VR is here to stay.

Did Your Developer Go Bankrupt And Leave your Association Holding The Bag? Your Remedy May Lie Within The Developer Agreement

Lydia Chartre | Husch Blackwell | August 7, 2019

Even the best and most established real estate developers can face hard times, especially in the aftermath of recession and economic downturn, as we experienced a few short years ago. Many condominium and subdivision developments found themselves half completed, both in terms of units and homes built, and common area improvements (like streets and curbs) left undone.  Where a new developer comes in to build upon the remaining lots, what responsibilities does he take on?  As related in a recent 2019 case, the answer may be found in the original development agreements with the municipality.

Facts

In a 2019 case, a development company went bankrupt halfway through developing a subdivision.  That developer did not complete the improvements promised to the City in the development agreement.  The development agreement specified that it applied to the successors and assigns of the developer, which by definition under the terms of the agreement, applied to purchasers of the lots from the developer for development purposes.  A new developer bought the remaining lots from the original developer out of its bankruptcy, for the purpose of completing construction of the homes in the planned subdivision.  The City expected the new developer to complete the roads within the subdivision per the development agreement, but when the new developer refused to take on that cost, the City sued.

Court Rulings

The court determined that the language within the agreement the original developer had with the City was clear in that it bound future developers to its terms.  When the new developers purchased the lots, they became bound by the developer agreement.  As a result, the new developer became obligated to complete the roads.

Lesson

If you are in a community association that has unfinished improvements within the common areas because your original developer dropped the ball, there may be remedies for you within the original developer agreements.  Taking a look is worth your time and money; otherwise, the Association could be left holding the bag.

United City of Yorkville v. Fidelity and Deposit Co. of Maryland, et al., 2019 IL App(2d) 180230

This Project Is Behind Schedule – What Is a Contractor to Do?

Michelle Litteken | PilieroMazza | August 6, 2019

Construction projects rarely, if ever, go precisely as planned. One of the most common issues government contractors face is falling behind schedule. A schedule is developed, and then the contractor is confronted with differing site conditions, changes, or a litany of other causes of delay. The contract completion date that seemed easily achievable when performance began may now appear to be impossible to meet. What should a government contractor do to ensure they are compensated and to avoid liquidated damages?

The first step in most situations is to notify the contracting officer in writing. There are several FAR provisions that require a contractor to provide notice (e.g., FAR 52.242-17 Government Delay of Work; FAR 52.243-1 Changes – Fixed-Price; and FAR 52.236-2 Differing Site Conditions), and providing notice helps to preserve one’s rights moving forward.

The next step is determining the type of delay that has occurred. There are three types of delay: inexcusable, excusable, and compensable. Determining the type of delay requires an analysis of responsibility, impact, and the existence of other delays during the same time period.

  1. An inexcusable delay is a delay that is solely caused by the contractor or their team. This includes rework or slower than expected production.
  2. An excusable delay is a delay that occurs because of unforeseeable events outside of a contractor’s control, and without the contractor’s fault or negligence. Common excusable delays include acts of God or unusually severe weather. To obtain an extension of time, the contractor must demonstrate that the event delayed the overall completion of the project (known as the critical path), and the delay did not coincide with another delay (a concurrent delay). An excusable delay extends the period of performance, but it does not include any monetary relief.
  3. compensable delay is a delay entirely caused by—and the responsibility of—the government. This includes differing site conditions, directed changes, and defective specifications. Like an excusable delay, to recover compensation, the contractor must show that the delay affected overall completion of the project, and it was not concurrent with any other delays. A compensable delay extends the period of performance and entitles a contractor to delay damages.

If the delays encountered are excusable or compensable, the next step may be submitting a request for equitable adjustment (REA) or a claim to modify the period of performance and seek delay damages if appropriate. Because an REA or claim is more likely to succeed if the contractor has regularly updated the project schedules and kept accurate and complete daily logs/reports, recordkeeping and documentation is extremely useful. For complex projects, a schedule analysis prepared by an outside consultant may be needed. A successful REA or claim can help a contractor avoid liquidated damages and potentially recover additional compensation.