Ohio Appellate Court Awards Consequential Damages for Contractor’s Failure to Achieve Substantial Completion Due to Recklessness

Alexandra Parriman | Bricker & Eckler

When a contractor indicated indifference to executing a project on schedule and failing to meet the substantial completion date, an Ohio appellate court found that the contractor’s actions constituted recklessness and, based on the terms of the contract, triggered the award of consequential damages.

This case arose out of a contract between Jay Bakhshi, sole owner and representative of Miami Valley Construction Group, LLC (MVCC) (Contractor), and Rick Baarlaer, owner of Marick, LLC (Tenant). The contract was formed for the purpose of renovating property in Springboro, Ohio, where the Tenant leased space intending to open a local tavern.

In July 2016, before any written contract was signed between the parties, the Tenant gave the Contractor $58,000 in order to allow the project to get started after delays in getting the plans drawn and approved. It was not until September 2016 that the parties entered into a written contract for $193,805.41, with an estimated completion date of October 17, 2016. At the same time the parties signed the contract, the Tenant issued a cognovit promissory note and security agreement, agreeing to pay the Contractor $40,000 for “value received.”

Due to delays, the parties executed a change order in November 2016 pushing the estimated completion date to December 8, 2016, and increasing the contract price by $4,600.

The project was not completed until March 2017, despite the Contractor’s continued assurances that it would be completed by December 8, 2016.

In June 2017, the Contractor initiated a suit against the Tenant and his company, arguing that he was owed $62,927.99 under the contract. The Tenant countersued for breach of contract asserting that the promissory note was void.

The trial court found in favor of the Tenant on his breach of contract claim and in favor of the Contractor on his unjust enrichment claim for work performed outside the contract. Both the Tenant and Contractor then filed cross appeals, and the Ohio Court of Appeals heard the case on several issues.

The appellate court first considered the issue of substantial completion. The Contractor argued that he did not breach the contract because his company substantially completed its obligations by December 8, 2016. The contract between the parties did not define substantial completion, so the Court of Appeals looked to Ohio Revised Code (“O.R.C.”) Section 2305.131, which statutorily defines substantial completion in the context of statute of limitations as “the date the improvement to real property is first used by the owner or tenant of the real property or when the real property is first available for use after having the improvement completed in accordance with the contract or agreement covering the improvement, including any agreed changes to the contract or agreement, whichever occurs first.” The Court of Appeals found “no question” that the Contractor failed to substantially complete the project because, among other concerns, drywall and fire-retardant panels were not installed until just before Christmas and only the rough electrical and plumbing were complete by December 8, 2016, the contractual date for substantial completion.   

Next, The Court of Appeals examined the issue of recklessness. The Court noted that the Tenant did not need to prove that the Contractor wanted to harm him, and instead cited the Ohio Supreme Court’s definition of recklessness as “conduct characterized by the conscious disregard of or indifference to a known or obvious risk of harm to another that is unreasonable under the circumstances and is substantially greater than negligent conduct.” The Court of Appeals agreed with the trial court that the Contractor was reckless. To determine this, the court considered factors such as the fact that the Tenant’s project was the only project the Contractor was working on at the time and the Contractor took multiple vacations during the project without leaving plans for work to be done in his absence. Additionally, the Tenant testified that he went to the project site on many occasions and there was no one working. The Court found that the Contractor’s actions indicated a “complete indifference to the obvious risk that [the Tenant] would be harmed by [the Contractor’s] failure to perform the contract in a timely manner” and concluded this amounted to recklessness.

The issue of recklessness was not only introduced by the Court for analysis, but was an integral part of the original contract signed by both parties on September 9, 2016. The contract stated in relevant part, “In no event shall either party hereto be liable to the other party for any consequential, indirect, incidental, special, exemplary, punitive, enhanced damages or lost profits relating to this agreement [except for liability arising, directly or indirectly, from reckless or willful acts of a party].” As such, effectively any claim to consequential damages was waived unless reckless or willful action was taken by either party.

Because the Court of Appeals found the Contractor’s actions to meet the recklessness standard, the award of consequential damages was appropriate under the contract terms and the Tenant was thus rightfully awarded consequential damages for the Contractor’s reckless conduct.

Finally, the appellate court considered the Contractor’s argument that consequential damages were not appropriate in this action because his actions were not willful. The trial court previously awarded $27,278 to the Tenant in consequential damages calculated by the Tenant’s expert, who analyzed lost profits. The appeals court restated that “lost profits may be recovered by the plaintiff in a breach of contract action if profits were within the contemplation of the parties at the time the contract was made, the loss of profits is the probable result of the breach of contract, and the profits are not remote and speculative and may be shown with reasonable certainty.” Finding that lost profits were considered and agreed to by the parties, as evidenced in their contract, the appellate court agreed with the trial court that the Tenant was entitled to damages for lost profits as a result of the Contractor’s failure to complete the project by the agreed-upon completion date.

The Contractor’s failure to demonstrate the project was substantially complete by the amended project completion date, along with his perceived indifference to executing the project on schedule, led to a seemingly clear-cut decision by the appellate court that the Contractor failed to perform his responsibilities under the contract.

Arguing Cardinal Change is Different than Proving Cardinal Change

David Adelstein | Florida Construction Legal Updates

The cardinal change doctrine has become a popular doctrine for a contractor to argue under but remains an extremely difficult doctrine to support and prove.  Arguing cardinal change is one thing.  Proving cardinal change is entirely different.   As shown below, this is a doctrine with its origins under federal government contract law with arguments extending outside of the federal government contract arena.  For this reason, the cases referenced below are not federal government contract law cases, but are cases where the cardinal change doctrine has been argued (even though these cases cite to federal government contract law cases).

A party argues cardinal change to demonstrate that the other party (generally, the owner) materially breached the contract based on the cardinal change.  In reality, a party argues cardinal change because they have cost overruns they are looking to recover and this doctrine may give them an argument to do so.  But it is important to recognize the distinction between raising it as an argument and the expectation that this (difficult doctrine to prove) will carry the day.

The cardinal change doctrine is a doctrine that originated under federal governments contracts law–the doctrine developed based on drastic unilateral modifications of the contract from the federal government that were not contemplated by the contract’s changes clause.  IES Commercial, Inc. v. Manhattan Torcon A Joint Venture, 2018 WL 4616029, *5 (D. Maryland, 2018).  See also U.S. v. Peter R. Brown Construction, Inc., 674 Fed.Appx. 901, 909 (11th Cir. 2017) (explaining cardinal change doctrine has applied when a contractor is directed by the government to perform a scope “that fundamentally alters the contractual undertaking” such that it is “not comprehended by the normal Changes clause.”) (citation omitted).

The cardinal change doctrine applies “when the government effects an alteration in the work so drastic that it effectively requires the contractor to perform duties materially different from those originally bargained for.”  Durr Mechanical Construction, Inc. v. PSEG Fossil, LLC, 2021 WL 303030, *2 (D.New Jersey 2021) (quotation and citations omitted).   These are changes that “fundamentally alter the nature of a contract” and constitute a “drastic modification beyond the scope of the contract that altered the nature of the thing to be constructed.”  Latex Construction Company v. Nexus Gas Transmission, LLC, 2020 WL 7386358, *8 (S.D.Texas 2020) (internal quotations and citations omitted). See also Amex Construction, Inc. v. Clark County, 2020 WL 3488736, *6 (D.Nevada 2020) (“A cardinal change must drastically alter the work agreed to such an extent that the contractor effectively performs duties that are materially different from those for which the contractor originally bargained.”) (internal quotation and citation omitted).

Noteworthy, out of sequence work, delays, and even increased costs do not amount to a cardinal change.  Ames Construction, supra.

Just because the cardinal change doctrine applies to federal government contract law does not mean it universally applies to state law.  For instance, in Durr Mechanical, the court refused to apply the cardinal change doctrine because it had not been adopted by New Jersey law. Durr Mechanical, supra, at *5 (“I find no compelling reason to recognize a cardinal change doctrine claim under New Jersey law, and decline to do so.”).   On the other hand, in Latex Construction Company, the court found that while the plaintiff faces significant hurdles in proving a cardinal change, the doctrine applied to private construction contracts.   Latex Construction Company, supra, at *8.

When arguing cardinal change, outside of the federal government contract arena, please remember that there may be an argument that the doctrine does not apply to the state law claims.  And, even if there is an argument that the cardinal change doctrine does apply, keep in mind that the origin of the doctrine and its historical context will apply.  The change should apply to a drastic change/modification (unilateral modification) that fundamentally alters the contract because it is so materially different than what was bargained for–this is difficult to prove!

Dispute Resolution Provision in Subcontract that says Owner, Architect or Engineer’s Decision is Final

David Adelstein | Florida Construction Legal Updates

In subcontracts, it is not uncommon to see a provision that says something to the effect:

Should any dispute arise between the parties respecting the true construction or interpretation of the Plans, Specifications and/or the Contract Requirements, the decision of the Owner or the Owner’s designated representative as set forth in the General Contract shall be final.

This is a provision in a subcontract dealing with dispute resolution, typically when there is a dispute as to whether the subcontractor is performing extra-contractual or base contract work regarding an “interpretation of the Plans, Specifications, and/or the Contract Requirements.” It is not uncommon for there to be a dispute as to whether certain work is within the subcontractor’s scope of work or outside the subcontractor’s scope of work and subject to a change order.

This language, however, is not a get out of jail free card for a contractor just because the owner or the architect render a decision adverse to the subcontractor.

For instance, in F.H. Paschen, S.N. Nielsen & Associates, LLC v. B&B Site Development, Inc., 2021 WL 359487 (Fla. 4thDCA 2021), the subcontract contained the same provision discussed above.  During construction, a dispute arose as to whether a 561 square yard asphalt area was required to be demolished by the subcontractor and replaced with concrete.  The subcontractor claimed this area was not within its base scope of work that only required it to demolish concrete areas and replace such areas with new concrete. The subcontractor was directed to perform this disputed work and submitted its costs to the contractor.  The contractor submitted the subcontractor’s costs to the architect and the architect decided that the 561 square yard asphalt area was included in the contractor’s scope of work.  The contractor used the architect’s decision to argue the subcontractor was not entitled to the additional costs because the asphalt area was included in the subcontractor’s scope of work.

Unfortunately for the contractor, the court disagreed based on the express terms of the subcontract.    The subcontract did not use the term asphalt or require the subcontractor to demolish asphalt areas.  It did require the subcontractor to demolish concrete or pavement areas.  The court found that:

[T]he only reasonable interpretation of the subcontract is that the scope of work did not include the removal and replacement of asphalt [area] of the parking lot. ‘Asphalt’ and ‘concrete’ are not synonymous terms.  Nothing in the subcontract stated that the Sub was required to remove any asphalt from the parking lot.  The subcontract did not say that the Sub was required to remove pavement from the ‘entire’ parking lot.  Nor did the subcontract describe the specific square footage of pavement that the Sub was to remove.

B&B Site Development, supra, at *3.

Well, what about the validity of the decision of the architect that found the demolition and replacement of this asphalt area to be within the contractor’s scope of work?

While there are certainly times such a provision is governing, “construction contracts cannot leave the arbitrary or fraudulent decision of an architect or engineer or the like to operate as a conclusive settlement of matters in controversy.” B&B Site Development, supra, at *4 (quotation and citation omitted).  Stated differently, “[t]he law does not allow a third party’s arbitrary decision concerning the scope of a contract’s specifications ‘to operate as a conclusive settlement of matters in controversy.’” Id. (citation omitted).

Here, the court found that the subcontract was clear as to the subcontractor’s scope and allowing the architect’s decision to be conclusive would “unfairly allow the revision of the explicit scope of a subcontract after work has commenced, to the detriment of the subcontractor.”  B&B Site Development, supra, at *4.

It was clear that the 561 square yard asphalt area was included in the contractor’s scope of work.  However, it was also clear that this scope of work was not clearly included in the subcontractor’s scope of work.  As a result, it would be arbitrary for the architect to find this scope of work was included in the subcontract (when the architect never reviewed the subcontract) just because the contractor was always responsible for this work.   Clearly defined scopes of work are important.  This case illustrates why because had the subcontract included language that suggested the asphalt area was within the subcontractor’s scope of work, the ruling would have been different because the architect’s decision as to what was included in the contractor’s scope of work would have presumably been passed to the subcontractor.

Force Majeure: What are the Chances for Relief?

Kent B. Scott | Babcock, Scott & Babcock

Introduction

Is a substantial increase in the cost of materials covered by a force majeure provision?

In short, the answer is dependent on the terms of the specific contract. If a contract is a fixed price contract, an increase in the cost of materials likely will not be covered by a force majeure provision. Moreover, if a contract is a fixed price contract and it contains a “no damage for delay” provision, then it is very likely an increase in the cost of material will not be covered by a force majeure provision. Since it is unlikely a substantial increase in the cost of materials will trigger a force majeure provision, it is not necessary to determine what the appropriate remedy would be.

Analysis

Applying Florida law, the Eleventh Circuit found that a contractor who entered into a fixed price contract with a property owner and subsequently saw a substantial increase in its costs due to effects of a series of hurricanes, which caused a shortage of labor and material, was precluded from recovering additional labor and material costs from the force majeure events – i.e., the hurricanes. S&B/BIBB Hines PB 3 Joint Venture v. Progress Energy Fla., Inc., 365 Fed. Appx. 202, 203, 205 (11th Cir. 2010). In S&B, the parties’ contract required the contractor to “provide pricing for [all material, equipment, workmanship, labor, engineering, and any other items or labor performed or furnished] at a firm fixed price.” Id.at 203. The contract further contained a “no damage for delay” provision that provided “that in no event shall Contractor be entitled to any increased costs, additional compensation, or damages of any type resulting from such Force Majeure delaysId. at 204. The court ultimately found that:

it would subvert the entire purpose of a fixed price contract to allow [the contractor] to recover additional labor and materials costs when the benefit of a fixed price contract is to protect against price increases, labor shortages, material shortages, and the like. In contracting for the fixed price construction job, ‘the parties thoroughly addressed and allocated the risks’ inherent in the project, and [the contractor] could have increased its prices to reflect the risks it was assuming.”

Id. at 205-06 (quoting Marriot Corp. v. Dasta Const. Co., 26 F.3d 1057, 1065-66, 1066 (11th Cir. 1994)). The court reasoned that “[t]he contract made plain that [the contractor] bore the risk of these additional expenses and could have negotiated an alternate contract containing an escalation clause, a cost-plus arrangement, or a higher fixed price to protect against unforeseen expenses or increased its contract price to account for such risks.” Id. at 206.

The Fourth Circuit similarly held that a force majeure clause does not protect against changes in market price. Langham-Hill Petroleum Inc. v. S. Fuels Co., 813 F.2d 1327, 1330 (4th Cir. 1987). In Langham-Hill, two parties entered into a fixed price contract for a lump sum number of barrels of oil, which would be purchased at the fixed contract price over four monthly installments. Id. at 1329. The first three installments concluded without dispute. Id. However, prior to the fourth and final installment there was a substantial drop in the world oil prices. Id. The purchaser invoked the contract’s force majeure clause and refused to perform any further obligations under the contract. Id. The Fourth Circuit reasoned that “[i]f fixed-price contracts can be avoided due to fluctuations in price, then the entire purpose of fixed-price contracts, which is to protect both the buyer and the seller from the risks of the market, is defeated. Id. at 1330.

Utah courts seem to follow this reasoning. In Kilgore Pavement Maintenance, LLC v. West Jordan City, 2011 UT App 165, ¶ 2, 257 P.3d 460, a pavement contractor provided a city with a fixed price bid that was based on liquid asphalt oil being priced at $350 per ton, which the city accepted, and the two parties subsequently entered into a contract. Id. Shortly after the parties entered into the contract, the price of liquid asphalt increased to $1005 per ton. Id. at ¶ 3. The court ultimately held that the contractor “assumed responsibility for supplying all materials necessary for its performance, and therefore, assumed the risk of supply cost increaser”, which ultimately precluded the contractor from relying on a claim of impossibility or commercial impracticability. Id. at ¶8, 12. While a force majeure clause is absent from the reasoning in Kilgore, Kilgore does provide that under Utah law, a fixed price contract is prima facie evidence of an allocation of risk of the change in the contracted material’s market price.

Conclusion

It is important to note that although it is likely a claimant is precluded from relying on a force majeure provision, it may still have a claim under an excuse doctrine, such as “frustration of purpose, impossibility, and commercial impracticability.” § 7:322. Relief from disruption caused by COVID-19 pandemic, 2A Bruner & O’Connor Construction Law § 7:322. However, pursuant to Kilgore, it is unlikely such a claim would be successful. 2011 UT App 165, ¶ 8, 12, 257 P.3d 460.

That’s A Goocher: SD Court Finds Enforceable Construction Contract Despite Lack of Time Component

Matthew DeVries | Best Practices Construction Law

What’s a goocher?  If you saw the movie, Stand By Me, then you know exactly what I mean.  And there are times when parties to a construction contract face a goocher.  Here’s what I mean…

In J. Clancy, Inc. v. Khan Comfort, LLC, the Supreme Court of South Dakota held that a missing time element in a construction contract did not invalidate the contract.  In other words, the court found that a contract existed—i.e., there was  meeting of the minds among the parties—despite the lack of a completion date or time of performance.

In this payment dispute between the owner of a hotel and a construction contractor, there did not appear to be a traditional construction contract executed by the parties.  However, there were numerous written documents such as a proposal, invoices, and change orders that had been either signed by or transmitted between the parties.  Based upon those documents, the trial court held that there was not an express written contract, but that there was a series of implied-in-fact contracts between the parties.

The appellate court disagreed and held that the contractor’s proposal, which was signed by the owner, was an unqualified acceptance of the parties’ agreement.  The owner’s subsequent payment of the initial deposit and the contractor’s immediate commencement of work evidenced the formation of a contract.

Here’s the goocher! The appellate court held that all essential terms of an express contract were present in the contractor’s proposal, despite the fact that there was not a time of performance.

The document listed the subject matter of the work to be performed, the quantity of materials to be ordered and installed, the price for the goods, and the parties’ payment terms. Missing from the September document was a timeline for completion of the work. This, however, is not fatal.

Relying on a South Dakota statute, the court concluded: ““If no time is specified for the performance of an act, a reasonable time is allowed.”

Whether you are dealing with a commercial or residential project and whether you are a contractor or owner, this case illustrates a few important concepts.  First, words matter. What you include in your contract will be important for avoiding a dispute, as well as determining the outcome after a dispute arises.  Second, time matters. While the court in this case found that the missing element of time was not fatal, in many states the words “Time is of the essence” in the construction contract is a material term that needs to be included if you want to enforce that time period. Finally, conduct matters. Both the trial court and appellate court found that the conduct of the parties were important, although the courts reached different conclusions.  Avoid these type of disputes by having a roadmap of risk allocation through a clear and unambiguous construction contract.