Force Majeure Application to Increase in Price of Materials

Kent B. Scott | Babcock Scott & Babcock

Is a substantial increase in the cost of materials covered by a force majeure provision? If so, what is the appropriate remedy?

Short Answer

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. The Fourth Circuit adopted the Seventh’s Circuit reasoning in Northern Indiana Public Service Company v. Carbon County Coal Company, 799 F.2d 265 (7th Cir. 1986), which dealt with a utility company’s efforts to escape a fixed-price coal contract, that:

[the defendant] committed itself to paying a price at or above a fixed minimum and to taking a fixed quantity at that price. It was willing to make this commitment to secure an assured supply of low sulphur coal, but the risk it took was that the market price of coal or substitute fuels would fall. A force majeure clause is not intended to buffer a party against the normal risks of a contract. The normal risk of a fixed price contract is that the market price will change. If it rises, the buyer gains at the expense of the seller (except insofar as escalator provisions give the seller some protection); if it falls, as here, the seller gains at the expense of the buyer. The whole purpose of a fixed price contract is to allocate risks in this way. A force majeure clause interpreted to excuse the buyer from the consequences of the risk he expressly assumed would nullify a central term of the contract.

Langham-Hill, 813 F.2d at 1330 (quoting N. Ind. Pub. Serv’s., 799 F.2d at 275).

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

Assuming the contract between an owner and contractor is a fixed price contract, it is likely the substantial increase in price cannot trigger the force majeure clause since the contractor assumed the risk of an increase in the market price of lumber when it entered into the fixed price contract. the contractor had the opportunity to bargain for an escalation provision, a cost-plus contract, or a higher contract price to reflect its risk. Thus, the contractor is contractually obligated to purchase lumber at the higher market price so long as lumber is available for the contractor to purchase.

It is important to note that although it is likely Burton Lumber 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.

Material Cost Escalation: Who Bears the Cost Now? And, What Can Be Done to Address the Problem in the Future?

Sherman Botts | Stinson

While an increase in construction costs for materials is not new to the industry, the extent of the cost increases during this COVID-19 time may be beyond anyone’s experience. Prior to COVID-19, material costs have spiked for many products, such as oil, asphalt, concrete and plywood. Those cost increases may have arisen from certain tragedies involving Mother Nature’s hand, such as flooding, hurricanes, fires and tornadoes. In other instances, increased costs may have been prompted by tariffs recently implemented over the past few years by governmental actions. In each case, the increased cost is usually unforeseen and the parties are faced with the basic dilemma: who should bear the cost of the increased costs? Owner? Contractor? Subcontractor? Or, some or all of the above?

With the COVID-19 pandemic, the increased costs and delays appear to affect far more materials than ever before. Beginning in early 2020, construction projects are facing increased costs with structural steel, lumber, copper, plumbing and electrical materials. There is no uniform assessment as to the degree of increase in prices, which have ranged from 25% for tariff-affected materials to more than 70% to 300% for lumber. Some have observed that structural steel has increased by more than 250%.

Coping with Cost Increases and Delays on an Existing Project

A common scenario now involves a construction client who calls and asks two essential questions: (1) who must bear the brunt of the increased cost for a particular material; and (2) whether the increase can be passed on to other parties associated with the project. The construction lawyer’s first response should be: “What does your contract provide?” Indeed, the first step in any analysis must start with the contract that the parties negotiated (or maybe just blindly signed) at the outset of the project. Does the prime contract or subcontract include a “force majeure” clause? (For those new to construction contracts, the title “force majeure” may not appear in the body of the contract but the concept is often present.) The French term “force majeure” means a “greater force” and usually excuses delays experienced by a contractor or subcontractor when the delays are unforeseen and caused by reasons beyond their reasonable control. A common example of a force majeure clause is found in AIA Documents A201, in the underscored portion of Section 8.3.1 below:

§8.3.1 If the Contractor is delayed at any time in the commencement or progress of the Work by (1) an act or neglect of the Owner or Architect, of an employee of either, or of a Separate Contractor; (2) by changes ordered in the Work; (3) by labor disputes, fire, unusual delay in deliveries, unavoidable casualties, adverse weather conditions documented in accordance with Section 15.1.6.2, or other causes beyond the Contractor’s control; (4) by delay authorized by the Owner pending mediation and binding dispute resolution; or (5) by other causes that the Contractor asserts, and the Architect determines, justify delay, then the Contract Time shall be extended for such reasonable time as the Architect may determine.

Would delays and dramatically increased costs in materials caused by COVID-19 be covered by this contract clause in one of the most common contract templates in the construction industry? First, stating the obvious—this clause does not expressly refer to COVID-19 nor does it refer to “epidemics” or “pandemics.” (These words may be found in other published templates.) Because the provision in this instance makes no mention of the pandemic, should the contractor’s or subcontractor’s delayed performance be excused because of a COVID-19-caused event? There is no black and white answer in this regard.

Some would argue that the use of the word “unusual” in Section 8.3.1 means that the event must be unforeseen and that the COVID-19 events are NOT unforeseen or “unusual” because all parties in the construction industry have been dealing with COVID-19 for a long time, at least since the President declared the Coronavirus to be a pandemic on March 13, 2020. The argument continues that, since COVID-19 is a known event, experienced contractors and subcontractors should have learned how to address the risk of cost increases by locking down quotes from suppliers or advanced ordering of materials.

Many would argue, though, that the pandemic need not be expressly mentioned in the provision and that it should certainly qualify as an “unusual delay…. or cause beyond the Contractor’s control.” This is an important delay claim for the contractor or subcontractor to submit, particularly if the contractor or subcontractor faces the risk of a liquidated damage assessment. But an extension of contract time may be the only remedy available to the contractor or subcontractor under this provision. The potential for an increase in the contract sum is not mentioned here and its absence may be damning to a contractor’s request for increased compensation, unless the remedy of increasing the contract sum was negotiated into the contract.

It is important to note, however, that Section 8.3.1 may refer to only contract time extensions but it does not absolutely bar requests for increased costs. Indeed, Section 8.3.3 provides:

§ 8.3.3 This Section 8.3 does not preclude recovery of damages for delay by either party under other provisions of the Contract Documents.”

As such, the request for increased cost recovery may still be submitted provided that the subcontractor’s or contractor’s claim complies with the applicable notice provisions in the contract. In addition, the claimant should consider submitting the claim in the in the form of an equitable request for additional compensation as discussed below.

If the contract provides no relief to the contractor or subcontractor for significantly increased costs, an equitable argument must be presented to deal with the facts at hand. The subcontractor may be placed in such a position that it is not able to perform its duties under its subcontract if it is forced to bear the burden of all increases in costs. Obviously, an assumption of a 300% increase in materials would likely put many subcontractors out of business. If a subcontractor walks off the project for that reason, the project will likely face substantial delays and increased costs that others would have to bear if the project is to continue and if there is no performance bond relief available.

The subcontractor should consider making a very prompt request for equitable adjustment in compensation under the doctrine of impracticality or impossibility to address the increased costs. The equitable claim should be submitted to the tier contractor above it so that it can be processed up the contracting chain. The claim must emphasize that the dramatic increase in costs is unforeseen and renders the subcontractor’s performance an impossibility and that the increased costs will negatively impact the subcontractor’s ability to successfully and timely perform if no relief is provided.

The net result of the increase and the subcontractor’s inability to perform can cripple the completion of the project, which is not in the best interest of any party to the project. Through timely communication among the parties, there may be acceptable alternatives to avoid a shutdown to the project. Perhaps other materials can be used? Perhaps there can be a sharing in the cost? Perhaps design changes can be made?

The courts have reviewed whether dramatic increases in cost of materials will excuse performance by a contractor but jurisdictions vary as to the outcome. On the excused performance side, consider the analysis by the New York court in Moyer v. City of Little Falls, 134 Misc. 2d 299, 301–02, 510 N.Y.S.2d 813 (Sup. Ct. 1986), and its observation and ultimate conclusion that:

[T]here is a growing trend that performance should be excused (1) if governmental action or other contingencies create a substantially unjust situation totally outside contemplation of the parties and (2) which an experienced draftsman would not reasonably anticipate. In this instance, it is stipulated that the 666% price increase [in dumping costs at the required landfill] was not and could not have been within the contemplation of the parties. Such a massive cost escalation is ‘excessive’ as a matter of law and future performance by plaintiff must be excused.

In Pennsylvania, in Aluminum Co. of Am. v. Essex Grp., Inc., 499 F. Supp. 53, 70 (W.D. Pa. 1980), new regulations for oil and pollution control dramatically increased the seller’s smelting costs and would have caused the seller to lose more than $75 million during the life of the contract while the buyer conversely stood to gain a windfall profit. The court found that regulatory changes of this sort were an unforeseen supervening circumstance, not within the contemplation of the parties at the time of contracting. To the relief of the seller, the court found that the seller’s performance became commercially impracticable.

By contrast, some courts in the Eighth Circuit have found that even excessive increases would not excuse performance by a contractor. In Iowa Electric Light and Power Company v. Atlas Corporation, 467 F. Supp. 129, 140 (N.D. Iowa, 1978), the U.S. District Court for the Northern District of Iowa held that an increase in seller’s costs by 52.2%, resulting in the seller’s loss of approximately $2,673,125.00, failed to constitute commercial impracticability, and precluding judicial adjustment or discharge of the contract for supply of uranium concentrate. In making such a determination, the court noted that cost increases of 50-58 percent had generally not been considered of sufficient magnitude to excuse performance under a contractual agreement. Iowa Electric was cited shortly after by Missouri Pub. Serv. Co. v. Peabody Coal Co., 583 S.W.2d 721, 726 (Mo. Ct. App. 1979), where the Missouri Court of Appeals for the Western District found that an escalation in costs did not render the contract “commercially impracticable” or excuse the contractor’s performance: “[i]ncreased cost alone does not excuse performance unless the rise in cost is due to some unforeseen contingency which alters [t[he essential nature of the performance.”

Proactive Steps for Future Projects

For new projects and new contracts, contractors and owners should consider discussing how the risk of cost escalation can be minimized or shared in the future. If past contracts did not provide any answers, a price escalation clause is often discussed for future contracts. The clauses come in all shapes and forms. Frequently, the clause describes a certain limitation or percentage guideline as to when a cost increase will be considered significant enough for cost relief. Consider the following:

Cost Escalation: In the event of significant delay or price increase of material, equipment or energy occurring during the performance of the contract through no fault of Contractor or its subcontractors, the contract sum, time of completion or contract requirements shall be equitably adjusted by change order in accordance with the procedures of the contract documents. A change in price of an item of material, equipment, or energy shall be considered significant when the price of an items increases ___% or more between the date of this contract and the date of installation. If the increase in price is at least ___%, but less than ___%, the equitable adjustment shall be based only on the amount of increase or decrease greater than ___%, but if the price increase is ___% or more, then the equitable adjustment shall be based on the entire amount of the price increase. If Contractor makes a request for an equitable adjustment to the contract price based on an increase in price, Contractor shall be required at that time to disclose its original price that has increased.

Richard A. Stockenberg, Material Price Escalation Clauses, as contained in The Anatomy of a Construction Contract, The Missouri Bar 2004.

Contractors may find some owners unwilling to consider a price escalation clause. From an owner’s perspective, the owner will expect the contractor or its subcontractor to take all necessary steps to control material costs at the outset of the project. These may include:

  1. Requiring the contractor or its subcontractors to purchase materials in advance.
  2. Requiring the contractor or its subcontractors to “lockdown” the price with its supplier.
  3. If a supplier is unwilling to lock down its pricing, an owner would expect the contractor or subcontractor to shop with another supplier. The problem with this alternative is that the market is changing and a growing number of suppliers are unwilling to lock down pricing for an entire project and will sell their materials at whatever price may exist at the time of the delivery.

To counter an owner’s refusal to consider a cost escalation clause, a contractor may include a very healthy contingency in its bid to accommodate the fluctuation in material costs. Is this what the owner wants?

The circumstances for recovery or rejection of increased costs in an existing project or drafting of an escalation clause for future contracts will require consultation with an experienced construction lawyer. Please contact Stinson for questions and assistance with these matters.

Why Every Lawyer in the Construction Industry Should Pay Attention to Level 10 Construction v Sea World LLC

Christopher M. Wise | Forum on Construction Law

“We will not process outstanding payments to contractors or subcontractors until the pandemic restrictions are lifted.”

Since the pandemic began, I have wondered what courts across the country would do when businesses started breaking contractual obligations and blaming, or using, pandemic restrictions as their defense. Most lawyers would agree that a force majeure clause would likely be the deciding factor in these types of breach of contract claims. However, the United States has never experienced the pandemic restrictions we have faced over these last few months and many companies recognize that their force majeure clause might not be as reliable as they might have once hoped. Now, we have the unique ability to witness what a California federal court will rule regarding this exact argument.

On June 8, 2020, California contractor Level 10 Construction, LP (“Level 10”) filed a Complaint in the United States District Court for the Southern District of California alleging Sea World declined to pay for construction of a 2020 theme park attraction until Sea World reopens. Specifically, Level 10 alleges that the payment for work, originally over $11 million, “was not conditioned upon Sea World San Diego’s theme park being open for business to the public,” that Sea World San Diego repudiated the contract by stating “Sea World San Diego would not process any outstanding payments until the parks open,” and that “Sea World San Diego understands they are in breach of contract.” As a result, Level 10 is claiming damages in the principal amount of not less than $3,278,471.30 plus interest.

The fact that Sea World has recognized that they are in breach of contract means that they may be relying on their force majeure clause or the doctrine of impossibility to justify their delayed payments to Level 10. Typically, the party relying on their force majeure clause may be granted relief from performing their contractual obligations if certain events render performance untenable or impossible.

As a refresher, the legal definition of force majeure, or “act of God,” describes any event that is unexpected by all parties, not caused by any party, and affects the relationship between them. A force majeure clause indicates that a party owes no liability to the other in the event force majeure makes performance impossible. A force majeure clause includes not only natural events but also acts by a human agency that are usually not within the scope of “acts of God.”

The pivotal moment in Level 10 Construction v Sea World LLC might be whether the pandemic restrictions make Sea World’s contractual obligations “impossible.” Performance of a duty is excused when a change of circumstance renders it impossible. Impossibility of performance of a duty under a contract is a defense for a claim of breach for non-performance of that duty when the performance of the duty becomes impossible due to unforeseen but changed circumstances.  Simply stated, impossibility is a condition in which an event cannot physically or lawfully take place.  Sure, the pandemic could easily be argued as an unforeseen event, but is the contractual obligation impossible?

SeaWorld Entertainment, Incorporated owns Sea World San Diego, and, according to their most recent Securities and Exchange Commission Form 10-Q filing (quarterly period ending March 31, 2020), they have roughly $192,760,000 in cash and cash equivalents. Sea World San Diego will likely need to show how meeting their contractual obligation is impossible due to the COVID-19 pandemic restrictions, when they seem to have enough cash on hand to pay Level 10. While this seemingly simple breach of contract case might depend on Sea World’s force majeure clause or the doctrine of impossibility, the effects of this case are potentially deafening.

Assume for a minute that Sea World San Diego argues that they are, for all intents and purposes, bankrupt due to COVID-19. An argument which is not so absurd because it was reported that SeaWorld Entertainment recently raised $227.5 million through a private offering that it could use to help pay its bills after projecting a revenue decease of roughly 32%. The court might be put in a position to determine just how far they are willing to stretch the definition of impossibility. Having to raise money in order to make ends meet might be enough to make courts agree with Sea World’s defense.

Every industry, especially the construction industry, should be paying attention to Level 10 Construction v Sea World LLC. If Sea World is successful, then businesses that have requested a Paycheck Protection Program loan might have an argument that the doctrine of impossibility applies in their contractual obligations. This could lead to thousands of businesses refusing to honor their contractual agreements and significantly increase the number of cases in an already inundated court system.

Force Majeure Claims in Future Waves of COVID-19: Four Key Actions

Mark Crossley and Timothy Hill | Hogan Lovells

As countries emerge from lockdown, talk turns to The Return of COVID-19. Here’s how to succeed in future force majeure claims and stop your projects from becoming what sounds like a second-rate horror movie:

1. Decide COVID-19’s status as a force majeure event

Is a subsequent COVID-19 wave a new event or a continuation of the first?

The World Health Organisation still says COVID-19 is a pandemic. This might mean it’s a single continuing event. However, the project may be getting back to normal when it feels the impact. Read your contract and consider how the right to relief is defined. For example, the 2010 FIDIC Pink Book (but not the 1999 and 2017 Red, Yellow and Silver Books or the 2008 Gold Book) refers to performance of substantial obligations being prevented. This suggests a subsequent wave is likely to be a fresh event. Best practice is to send a new notice when you’re aware of the further impact of a subsequent wave.

2. Identify the event actually affecting performance

Is a subsequent wave not the event disrupting performance at all?

If the pandemic is the cause, then its impact depends where the project, labour force and supply chain are located. During the first wave, strategies differed across jurisdictions and there remains little consensus on the best approach. Some sites were allowed to continue to operate; others were closed and workers quarantined. Responses to subsequent waves are unlikely to be more coherent.

Alternatively, is the new event that is actually causing delay not the virus itself but the reintroduction of government restrictions (perhaps after a local outbreak in a workers’ dormitory) which require physical distancing and self-isolation, workplace closures or the suspension of transport links which usually provide free passage for people and materials?

Being clear which of these two broad categories of causal event you’re relying on means you can establish:

– the performance of which contractual obligations are affected by the event and the extent they are being prevented, hindered or delayed. Many contracts demand this level of substantiation. A by-product is a more tailored set of detailed records, which you must maintain to prove causation;

– when the event starts and stops affecting performance. Note that the end of one event as restrictions are lifted may herald the beginning of another notifiable event (such as the imposition of safe working rules when activity resumes). In your notice of an event ending, reserve your rights should it reoccur following subsequent waves (for example, the reinstatement of previously-issued stringent measures); and

– whether you have a claim at all – the contract wording is critical here: remember that the event may have made the project slow down and cost more, but not necessarily impossible; some contracts and jurisdictions require that the event be the sole cause of delayed performance to allow relief.

3. Work together to introduce precautions now

Although COVID-19 and related causes should meet stipulations in signed contracts that the event was unforeseeable, claims in subsequent waves will have a better chance of success where project participants can show they have learned lessons from previous waves. Underprepared employers and contractors may be seen not to have reasonably mitigated the impact of measures likely to be re-imposed in the near future in light of the disease’s ongoing presence. Many are encountering cross-border supply chain difficulties. Those higher up the chain may have little sympathy with contractors who have run into problems as a result of “just in time” arrangements.

Review working practices, which may involve thinking about dividing teams, providing personal protective equipment, and introducing hygiene products and sanitation facilities, temperature checking, control of access, and safe eating and sleeping accommodation. This exercise is fact sensitive and depends on the contract.

The gap between previous and subsequent waves is also significant. Employers can’t expect contractors to have done as much to avoid the effects of a second wave if it occurs weeks rather than months after the first. For example, masks may currently be hard to secure at short notice for certain site locations.

Project participants must communicate openly now and raise issues early as they decide what precautions are needed. Can you keep projects on track by performing contractual obligations unaffected by the event? Engage with supply chains to understand their contingency planning. This requires many organisations to bolster crisis management procedures and teams perhaps on a scale never seen before so that all options and alternative claims (maybe for disruption or changes in law) can be considered properly.

Whether there is positive collaboration or not, every party must comprehensively document how they carefully contemplated each option (such as alternative supplies and work forces) and why one was implemented over others. For example, local materials could be ruled out if they don’t comply with the contractually specified quality.

4. Realise solutions won’t be straightforward

Timely and accurate notices, honest communication and extensive records will improve your position, but parties will differ in how they view subsequent waves. Take whatever action you can now, but remember claims will play out against the backdrop of broader, unresolved factors like the pandemic’s course, the status of regulations and guidance, and policy decisions about the burden the private sector should bear.

STOP PRESS… ADJUDICATION STRENGTHENED

The UK Supreme Court has upheld the right to launch a statutory adjudication of a dispute under a construction contract at any time, even if the claiming party is insolvent. In Bresco Electrical Services Ltd (In Liquidation) v Michael J Lonsdale (Electrical) Ltd [2020] UKSC 25, the Court unanimously held that the insolvency set-off rule does not conflict with statutory adjudication – an adjudicator still has jurisdiction and the adjudication is not futile. This case significantly helps the construction supply chain during a period when cash flow is essential, whether or not insolvency is on the horizon, and should be persuasive in upholding similar regimes elsewhere.

The Impact of COVID-19 on the Construction Industry: Planning for the Inevitable

Neil Keenan, William Abramovicz and Matthew Bedan | Forensic Risk Alliance

The COVID-19 pandemic continues to impact all facets of the global economy, disrupting supply chains and work forces, and straining contractual relationships between businesses. These issues are especially important in the construction industry, which traditionally relies on precise schedules of workers and material, and endeavors to limit potential delay claims in order to ensure profitability. These critical schedules are being impacted in a variety of ways, including changing government executive orders, sick or quarantined workers, and supply chain interruptions. In many cases, COVID-19 orders from public officials impose new job site standards, such as mandatory social distancing, use of personal protective equipment, and quarantine periods for workers crossing state lines. In many areas, projects are shut down completely. For example, 85% of New York City operating sites were on pause by mid-April. As the industry reacts, we can expect an uptick in related litigation in the form of breach of contract actions and force majeure claims.

It is critical for construction firms to plan for this disruption to protect assets, ensure business continuity and renegotiate project planning and financing, with labor shortages among the primary concerns. This may be caused by the illness itself, mandatory state/local government quarantines, or even union guidelines encouraging workers to stay at home. This was the case when the North America’s Building Trades Unions (NABTU) and the Center for Construction Research and Training (CPWR) urged anyone feeling sick to not go to work on March 11 this year. Travel restrictions could similarly limit the availability of high-skilled personnel who are essential for the completion of specific key tasks, like experts traveling from one project to another to help teams on the ground resolving technical issues. In addition, certification visits and inspections may be delayed or canceled, resulting in delays for otherwise functioning construction sites.

The pandemic is squeezing supply chains and creating difficulties including late or canceled deliveries, and price escalation from suppliers. The consequence is that many construction sites have been shut down for an indefinite period of time. On March 27, ABC News reported that Ken Rigmaiden, the general president of the International Union of Painters and Allied Trades, estimated that “half of the construction sites in the country have shut down since the COVID-19 pandemic began.” These closures generate significant unanticipated costs that could grow due to extended periods of storage for some materials and equipment, which were delivered before the shutdown but have not yet been installed. There are also many construction sites with dangerous or valuable materials that must be secured and maintained around the clock, quarantine orders notwithstanding. Finally, late payments from customers may have a significant impact on firms and their capacity to finance the goods and services required to complete a project. As much of the world economy remains locked down, alternative financing sources begin to diminish, further endangering projects.

As COVID-19 testing increases and the required personal protective equipment becomes more readily available, we can expect work to resume on many sites, but not without glitches. In the short term, demand for construction materials and skilled resources likely will remain high. Shortages of key variables combined with cash flow and financing difficulties will result in additional costs and delays, potentially further fueling the litigation wave.

Businesses should remain aware of fraud risks inherent to the unprecedented situation.  The shortage of supplies and materials could lead suppliers to break contractual terms related to pricing so they could sell their goods to other customers willing to pay a higher price. This period of inactivity is also favorable to assets misappropriation. For example, inventory checks should be performed before and after the shutdown, as the risk of materials disappearing or being diverted would increase.

Businesses with ongoing construction projects’ top priority should be to document every event causing a delay or cost increase. Documenting this evidence daily is critical to establishing a potential claim—or defending against one—and later quantifying damages. At FRA, we have experience establishing and supporting—or defending against—such claims, including preparation of economic damages and quantum models, and providing forensic analysis of overcharges, improper payments, questionable or unsupported costs and other allegations. For example, we recently assisted an NYSE-listed real estate development firm with a multi-million dollar dispute involving one of its construction sites in India. This review included key vendor analysis, tax and royalty payments, daily construction reports, actualized project schedules, personnel interviews and onsite visits spanning multiple cities, which resulted in evidences of invoice padding. FRA has also achieved remotely what others could not, by deploying remote data collection, remote transaction testing, remote interviews, and other remote procedures. We plan to continue using these solutions in order to help our clients navigate through this pandemic and beyond.