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By Andrew D. Ness
Thelen Reid Brown Raysman & Steiner LLP

Risk management for the construction of capital-intensive projects should begin at the very earliest stages of project planning and continue through project completion. Straightforward risk-management techniques are available to an owner of a construction project at the project planning, contract formation and contract administration phases of the project. If followed, these techniques will both reduce the chance of major claims on the construction project and will put the owner in a position to successfully defend against any claims that may arise.

Claims Avoidance Techniques

Contract Documents. During the design phase of a construction project, an owner's ideas, concepts and project requirements are transformed into detailed plans and specifications that will be used by the contractor to construct the project. It is important that an owner, in conjunction with the architect/engineer, exercise the utmost care and consideration when making decisions early in the design phase to minimize the impact of any disputes on project progress.

Proper planning and careful review of project plans and specifications can substantially minimize the likelihood of disputes and provide a basis for timely resolution of any problem that may occur.

It may be advisable for the owner to establish an independent contract document review team that will review the project documents as a whole. The contract review team should look for ambiguities, inconsistencies and conflicts in the project documents. Persons not involved in the preparation of the original documents may provide a fresh look and be better able to identify deficiencies in the documents than the people who prepared them.

Schedule. The project schedule is one of the most important considerations in construction project management. Schedule control is critical if the owner, contractor and all other parties to the contract expect to complete the project on time, within budget and in accordance with the plans and specifications.

A good scheduling specification should include a combination of provisions addressing all elements in the development, review, approval and monitoring of a schedule. For example, an owner should consider including a schedule in the bid documents that sets forth the major project milestones. This will enable the contractor to more realistically evaluate the time and phasing requirements of the project and to more accurately assess the lead time needed for the procurement of materials and equipment, to estimate the project staffing and labor requirements, and to anticipate the general weather conditions for different phases of the project.

Typically, an owner requires that the contractor prepare and submit a construction schedule in accordance with the owner's needs, as provided in the owner's scheduling specification. The contractor should be required to assign a duration to each activity shown on its schedule and to provide an estimate of the time required to complete the activity. Further, the specification should state how frequently the approved project schedule must be updated and should describe how monthly progress payments will be calculated. By providing a strong scheduling specification in the early phases of the project, the owner can ensure that the contractor's schedule accurately reflects the project status, thereby ensuring that the project schedule is a useful management tool.

Change Orders. From the owner's perspective, managing a dispute-free project also requires, to the extent possible, that all change orders are prepared, evaluated and executed in a timely fashion. When a situation warranting a change order arises, the owner and the architect/engineer should move quickly to document all facts surrounding the need for the change. The direct costs of performing the changed work and the potential impact the change may have on the project schedule should be promptly analyzed. Ideally, the construction contract should require that a change order be made by written order of an authorized officer of the owner and designated specifically as a change order.

In the typical construction contract, the contractor is required to submit a written notice of claim within a certain number of days after receipt of an owner directive if the contractor wishes to obtain an equitable adjustment for the directive. Failure to do so constitutes a waiver of the contractor's claim rights under most circumstances if the owner can show prejudice as a result of the delayed claim.

Construction projects rarely are completed without encountering some problem not anticipated by the owner or the contractor, such as errors in the construction plans, site conditions differing from what was expected, new or improved construction methods becoming available, or changing owner requirements. Accordingly, a contract clause that allows the owner to modify the contract in response to changing circumstances during the performance of the contract is critical. Such a clause provides the owner with the flexibility to meet unforeseen contingencies without being required to negotiate an entirely new contract.

The owner could encounter schedule delays if the contract does not explicitly provide for the performance of a change order pending final agreement on its pricing. To avoid this problem, the owner should include a contract provision requiring the contractor to proceed with the work pending determination of any contract price or schedule adjustment.

Responding to Contractor Claims

When an owner is made aware of or receives notice of a potential claim by a contractor, the owner immediately should make an initial review of all of the circumstances and related events involving the potential claim. Often, a contractor's problem can be resolved quickly by objectively evaluating the contractor's concern and applying "the rule of reason" before the problem escalates into a full-blown dispute. In this way, early evaluation of the facts involving the potential claim can focus the issues and increase the likelihood of a prompt, good faith, negotiated settlement.

Proper Submission of Claims. At the outset, the owner should determine whether the contractor's claim has been submitted completely, correctly and in accordance with the contract requirements. For example, the owner should determine whether the contractor has provided timely notification of the claim under the terms of the contract. The owner should ensure that the contractor has submitted the necessary supporting factual information, cost and schedule data, and project documentation to back up any claim asserted.

The speed with which a claim can be analyzed is dependent, in part, on how well it is organized. Accordingly, the owner should require that the contractor submit the claim, with supporting documentation, in a form that sets forth and identifies the primary, secondary, and any indirect claim in a clear, concise manner. The owner also should require the contractor to identify the applicable contract provisions and the cost and schedule impacts related to each issue. A claim that is not properly supported should be returned to the contractor for resubmission.

Factual Investigation. The owner usually should conduct an immediate independent investigation of a contractor's claim. Often this is best accomplished with the assistance of legal counsel, depending upon the amount of the claim and the complexity of the project. The documentation and presentation of the facts in defense of the claim can have a significant impact on the outcome of construction litigation and should be carefully considered. The following steps may be taken during a preliminary investigation of a claim to assist in its efficient resolution:

1.  The project design professional should be put on notice of potential liability if the claim involves a construction failure and the designer's work potentially contributed to the failure.

2.  A thorough site investigation should be conducted to determine the facts surrounding the claim and to record in detail relevant observations of the site. Often, it is advisable to make a photographic or video survey of the site to keep a record of any construction failure or construction delay.

3.  All of the relevant project correspondence should be collected and organized.

4.  The people who are most knowledgeable about the facts relating to the claim should be interviewed.

5.  If the owner prepares a report of the investigation, it should include only facts and summaries of interviews. The report should not include speculation about possible causes of the failure or draw any final conclusions about the facts. One reason to avoid including speculation and conclusions in an investigation report is that if the claim becomes the subject of litigation, the owner likely will be required to turn over the report to the contractor as part of the discovery process. It is more appropriate to have conclusions drawn by a subject matter expert who is qualified to offer an opinion based on the facts as set forth in the investigation.

Legal Analysis. After the factual investigation of a claim has been completed, legal counsel should conduct an analysis of the strengths and weaknesses of the owner's legal position. The first step is to determine whether the contractor has met its burden of proof of entitlement. If the contractor establishes entitlement to a claim, then the contractor must prove that it incurred damages arising from the claim.

Possible Defenses

If an owner is presented with a timely and well-supported claim by a contractor, a number of legal defenses may be applicable, including:

Notice Requirements. Often, a construction contract will contain a written notice provision governing claims for extra work, excusable delay or differing site conditions. If a contractor fails to give proper written notice of a claim, an owner may assert this failure as a defense to the contractor's claim.

Exculpatory Clauses. An exculpatory clause such as a "no damages for delay" clause may be used by an owner to defend against a delay claim brought by a contractor. Enforcement of such exculpatory clauses varies depending on the jurisdiction, but the no damage for delay clause generally is held to be valid and not contrary to public policy.

Prior Settlement Release and Waiver. A change order issued by an owner and executed by a contractor may result in a waiver of a future claim by the contractor for the same event. Thus, the owner should review any prior change orders that relate to a contractor's claim.

Excusable/Noncompensable Delay. If an owner has not assumed the risk of a certain event, the owner ordinarily is not liable for extra costs incurred by the contractor as a result of such event. As a result, a contractor may be entitled to a time extension but not be entitled to additional compensation from the owner for extra costs resulting from the event for which the owner did not assume the risk. For example, a contractor may be entitled to a schedule extension for delays caused by excessive adverse weather conditions but may not be entitled to recover additional costs arising from the delays if the owner did not assume the risk of adverse weather.

Breach of Contract. If a contractor is bringing a claim against the owner on a contract that has not been substantially or properly performed by the contractor, the owner may, in certain circumstances, be able to defend against a contractor's action by asserting that the contractor is in breach of the contract.

Abandonment. A contractor that abandons its performance obligations under a contract may be in breach of contract. Whether such abandonment will constitute an absolute defense to a contractor's recovery for work already performed will depend on many factors, including whether the contract can be divided into discrete segments. If a contract is divisible, then an owner may be less able to assert abandonment as an absolute defense to a contractor's claim for recovery based on work already performed on the contract.

Statutes of Limitation. The statute of limitations for contract actions varies by jurisdiction. It is possible that if a contractor asserts a claim against the owner based on facts occurring far enough in the past, an owner may have a defense against the claim based on the applicable statute of limitations.

Liability of Other Parties. On occasion, a claim against an owner may arise through no fault of the owner. In some instances, when the fault lies with a third party acting as an agent or representative of the owner, the owner may be liable on the claim. However, in other situations, the owner's contractual relationship with the third party may be such that the owner is relieved of liability for the errors of the third party or for a contractor's mistaken reliance on the authority of the third party.

Mitigation. The contractor has an obligation to mitigate any damage that results from a problem on a construction project. Accordingly, an owner may be able to defend against a claim in part by introducing evidence that the contractor should have taken steps to mitigate the problem and to thereby reduce the amount of damage incurred.

Fraud and Misrepresentation. In extreme cases, when an owner is presented with a claim for extra work that the owner believes to be false or grossly misrepresented, an owner may have an action against the contractor for fraud.

Conclusion

Proper project planning and contract preparation in the initial stages of a project can go a long way toward minimizing the impact of disputes on a construction project. Effective contract drafting, project document review and contract administration are important to the long-term success of a construction project. In particular, provisions dealing with project milestones and schedule, changes and notice provisions all are important to effective management of the claims process. Favorable resolution of a construction dispute depends on a swift and effective response by the owner to the contractor's specific concerns. An owner's response should include a review of the contractor's claim to ensure that it complies with the contract requirements, a preliminary investigation of the facts, a review of the applicable contract provisions and an analysis of the applicable law and available defenses. In this way, an owner will be in the best position to respond quickly and appropriately to a contractor's claim and to ensure that the claim will have the least impact on the success of the project.

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For more information about the issues covered in this report, please contact Andrew D. Ness in our Washington, D.C. office at 202-508-4368 or at adness@thelen.com or contact your Thelen attorney. For more information about Thelen's Construction and Government Contracts Department, click here.





©2000 Thelen Reid Brown Raysman & Steiner LLP