What The Recent Beacon Decision Means For Developers And General Contractors

Steven M. Cvitanovic and Whitney L. Stefko – Haight Brown Bonesteel – August 14, 2014

On July 3, 2014, the California Supreme Court (the “Court”) came out with its decision in Beacon Residential Community Association v. Skidmore, Owings & Merrill, et al. The Beacon decision settled a long-standing dispute in California about whether design professionals such as architects and engineers owe a duty to non-client third parties. In finding that the plaintiffs in Beacon could state a claim against the architects of the Beacon project, the Court also sowed the seeds of change in the way contracts are structured between developers, architects, engineers, and even general contractors.

So, how will Beacon change the landscape for developers and general contractors? It is important to understand the factual background in Beacon to predict how the decision may alter the playing field. For a detailed analysis of the Amicus briefs in the Beacon matter from the AIA, the CBIA, and the Consumer Attorneys of California, please click here.

The Beacon case arose from a common development model in California: a developer conceives a multi-unit project, maps the project as a condo development but rents as apartments. Shortly after completion of the Beacon project, the developer sold the entire project and the new owner finalized the existing condominium map and placed the units on the market as condominiums. Although the architects always knew they had designed a residential structure, the project ultimately became a condominium development. The newly formed homeowners’ association filed a construction defect suit against the developers, general contractor, the subcontractors and the architects for design and construction defects.

Starting a project as “apartments” and later selling them as condominiums has been a major source of litigation. Moreover, the evolution of such a project creates complex issues involving indemnity and insurance. The decision to market a project as apartments rather than condominiums is normally driven by, among other things, timing and cost. The timing element boils down to the developer’s assessment of market conditions. The cost element boils down to which project (i.e., apartment or condo) will be more profitable. The cost to obtain insurance on an apartment project is less than the cost to obtain insurance for a condo project, thus the incentive for the developer to start the project as an apartment.

The most immediate result of the Beacon decision will likely be that design professionals will use the result as leverage in price negotiations on certain projects to account for the real or perceived risk that they may be brought into a lawsuit involving third parties.

Developers will also likely see an increase in indemnity and deed restriction requests from design professionals. Construction defect litigation concerning apartments is infrequent. In contrast, a significant percentage of condominium projects go into construction defect litigation. Many years ago, general contractors felt that the developer client’s decision to convert to condominiums left them with significant litigation exposure so they began demanding deed restrictions and reverse indemnity in the event of a conversion. Developers can now expect much the same from architects where they seek indemnity or deed restrictions on condo conversions.

Similarly, developers can also expect renewed efforts by design professionals to limit liability under the contract. Limitations of liability are still valid under Civil Code section 2782.5. While such liability limitations will probably not be binding on third parties, it will bind the developer in the event of an issue.

Although California has fairly strong anti-indemnity statutes, the plain wording of Civil Code section 2782.05 still at least allows indemnity for passive negligence in non-residential projects. Apartments would qualify as non-residential. General Contractors must be more vigilant than ever regarding indemnity provisions, particularly provisions that purport to indemnify the architect, such as the AIA General Conditions A201, section 3.18.1. In the event a General Contractor is provided with an A201, that document must be modified to take into account a possible change in indemnity obligations in the event of a conversion of the project to condominiums.

Finally, look for the insurance market to realize an opportunity when it sees one. Normally design professionals have their own E&O insurance, but design wraps do exist. On some projects, it might make a whole lot of sense for the owner to put together a program that covers the contractors and a program that covers the design professionals. This model could take a lot of pressure off owners when it comes to increased pricing, deed restrictions, and indemnity.

It will be years from now before we understand the full effect of the Beacon decision. There will likely be effects that are currently unforeseen. In the long term, and after all the hoopla surrounding the decision is yesterday’s news, the effects of the Beacon decision could turn out to be marginal. What is for certain is that the building industry will inevitably find an equilibrium point around which it will do business, with or without the Beacon decision.

via Haight Brown Bonesteel | Publications & Insights | Construction Law Client Advisory: What The Recent Beacon Decision Means For Developers And General Contractors.

Limitation of Liability Clause in Pre-2007 Professional Contracts Enforceable

Ross A. Hoogerhyde – Gordon & Rees LLP – August 25, 2014

The Colorado Legislature enacted the Homeowner Protection Act (HPA), C.R.S. § 13-20-806(7), in response to unequal bargaining power between builders/developers and home buyers.  The Legislature was concerned that builders/developers included onerous clauses in form home purchase agreements that limited their liability for any homeowner dispute.  Homebuyers, left with the choice of agreeing to the limitation or not purchasing the home, would agree to limit their liability, often without reading or understanding the agreement.  Then, years later, the builder/developer would rely on the limitation of liability to defeat homeowner claims.

The HPA addresses this concern by voiding any express waiver of or limitation on the legal rights and remedies provided by Colorado’s Construction Defect Reform Action as against public policy.  The HPA was enacted on April 20, 2007, and applies to any action filed after its enactment.

Since its passage, builders, developers, architects and engineers struggled with whether the HPA voids limitations of liability in professional contracts executed prior to enactment.  Architects, engineers and other professionals argued that the HPA could not void their contractual limitation of liability because: (1) voiding these clauses in contracts executed prior to the HPA would be unconstitutionally retrospective and (2) the HPA applied only to contracts with homeowners, not sophisticated commercial parties such as builders, developers, architects and engineers.

Colorado district courts struggled with these issues without guidance from Colorado’s superior courts for seven years.  Finally, on Jan. 30, 2014, the Colorado Court of Appeals issued its first reported opinion regarding the HPA in Taylor Morrison of Colo., Inc. v. Bemas Constr., Inc., 2014 COA 10.

In Taylor, the Colorado Court of Appeals concluded that applying the HPA to void limitation of liability clauses in professional contracts executed prior to enactment of the HPA was unconstitutionally retrospective.  Thus, limitations of liability in professional contracts between sophisticated parties executed prior to 2007 are enforceable.

However, the Court of Appeals did not address the alternative argument that the HPA could not apply to any professional contracts and was limited to only homeowner contracts.  Given this, uncertainty remains whether the HPA voids limitation of liability clauses in a professional contract executed after enactment of the HPA.  This uncertainty will not be resolved until the Colorado Court of Appeals or Supreme Court clarifies the scope of the HPA.

via Limitation of liability clause in pre-2007 professional contracts enforceable – Lexology.

Duty to Defend Construction Defect Case Triggered by Complaint’s Allegations

Tred Eyerly – Insurance Law Hawaii – August 20, 2014

The subcontractor’s insurer could not escape contributing to defense costs of its insured when coverage was possible based upon the underlying complaint’s allegations. Seneca Ins. Co. v. James River Ins. Co., 2014 U.S. Dist. LEXIS 97156 (D. Ore. July 17, 2014).

The underlying action alleged construction defects in a 60-unit complex located in Seaside, Oregon. S.D. Deacon Corp. was the general contractor and contracted with the owners association to reconstruct portions of the building, including the curtain wall. Deacon subcontracted with Superwall Design, LLP for work on the curtain wall renovation.

At some point not specified in the underlying complaint, the Association notified Deacon of construction defects in the curtain wall renovation. Deacon investigated and concluded that the alleged property damage was the result of inadequate usage of materials, violations of state and local building codes, and violations of relevant industry standards relating to the work performed by Superwall. Deacon contended that the problems were caused by Superwall’s faulty workmanship.

Deacon put Superwall on notice of the construction defect claims in a letter dated January 24, 2012. Deacon tendered its claim as an additional insured under Superwall’s policies to James River and Travelers. Deacon filed the underlying action against Superwall, and sent James River a copy of the complaint by email on October 25, 2012. James River denied the tender with no explanation.

Deacon later amended its complaint and added another defendant, Beeline Glass Company, which Decon hired on July 8, 2011 to assist Superwall.

James River argued that Deacon’s pleadings contained allegations from which James River could conclude the alleged damage occurred before the policy’s effective date of September 26, 2011, thereby excluding such damage from coverage. James River relied on Deacon’s allegation that it had to hire Beeline to assist with Superwall’s work in July 2011. Thus, James River’s argument that the fact that Superwall performed work on the project in the summer of 2011, coupled with Deacon’s allegations that Superwall’s work was defective, demonstrated that the alleged damage occurred, or began to occur, prior to the policy’s effective date.

The court did not find this argument convincing. The fact that Superwall performed work on the Project in the summer of 2011 did not mean its work was finished prior to the inception of the policy. Similarly, an allegation that remedial work was performed in the fall of 2011 did not establish when in the fall the remedial work was performed.

Therefore, James River’s duty to defend was triggered by the allegations in Deacon’s complaint and the duty was not extinguished by any allegations in Deacon’s amended pleadings.

via Insurance Law Hawaii: Duty to Defend Construction Defect Case Triggered by Complaint’s Allegations.

Talk is Cheap – Promises to Pay are a Poor Substitute for Adherence to Contractual Notice Provisions

Charlie G. Baxley – Bradley Arant Boult Cummings LLP – August 1, 2014

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.

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 showed, once a dispute arises good intentions are a poor substitute for compliance with the requirements of the contract.

via Talk is cheap – promises to pay are a poor substitute for adherence to contractual notice provisions – Lexology.

California Law Restricting Non-licensed Contractors’ Right to Recover for Unpaid Services does not Apply to Miller Act Claims

Carly Miller – Bradley Arant Boult Cummings LLP – August 1, 2014

In a recent decision, the federal appellate court encompassing nine western states and two Pacific island jurisdictions held that a California law restricting the right of non-licensed contractors to recover for unpaid services did not apply to actions brought under the Miller Act, federal legislation that requires prime contractors on certain government contracts to post payment and performance bonds.

In Technica LLC ex rel. U.S. v. Carolina Casualty Insurance Co., Candelaria Corporation (“Candelaria”) was the prime contractor on a federal project in California in which it purchased a payment bond provided by Carolina Casualty Insurance Company (“CCIC”). Candelaria entered into a subcontract with Otay Group, Inc. (“Otay”), which, in turn, subcontracted with Technica, Inc. (“Technica”). Technica received only partial payments from Otay for the labor, materials, and services it provided. Candelaria at some point terminated Otay’s subcontract, prompting Technica to file a complaint invoking its Miller Act rights to recover outstanding amounts under the contract and payment bond.

The Miller Act provides that a person who has provided labor or materials in performing work on a federal project and who has not been paid within 90 days after the work was performed may bring an action on the payment bond for the amounts unpaid. The Miller Act extends this right to subcontractors as well as sub-subcontractors. The scope of the remedy and the substance of the rights under the Miller Act are, in general, considered matters of federal, not state, law.

Candelaria and CCIC argued that California Business and Professions Code § 7031(a) provided a defense to Technica’s Miller Act claim in that it precludes contractors who are not licensed in California from maintaining an action for compensation for services under the contract. Candelaria and CCIC argued that because Technica did not hold a valid California contractor license, it could not assert a Miller Act claim. The lower court sided with Candelaria and CCIC, concluding that because Technica was not licensed, as required by a California law, it was precluded from pursuing its Miller Act claim.

Upon review, however, the federal appellate court reversed and held that the limitation in § 7031(a) did not apply to a Miller Act claim, and that, therefore, Technica’s Miller Act claim was not barred. The appellate court reasoned that the application of a state statute as a defense to a Miller Act claim could result in the nullification of those rights. Additionally, as a practical effect, enforcing a state licensing requirement against Miller Act claims would cause inconsistent applications of the Miller Act, as federal subcontractors should not be required to comply with licensing requirements in every state in which they may perform work on a federal project.

Those performing work on government projects should take heed of the Technica decision in the event of future disputes regarding non-payment. State laws restricting non-licensed contractors from collecting for unpaid services may be poor defenses to Miller Act claims. As with any other law, however, it may be prudent to comply with licensing statutes in a given state before undertaking to perform work there. For example, had this suit been filed by a sub-subcontractor against Technica, Technica’s lack of a license might have precluded Technica from asserting a counterclaim.

via California law restricting non-licensed contractors’ right to recover for unpaid services does not apply to Miller Act claims – Lexology.