January/February 2006 Newsletters

• CONTRACTOR HAS A DUTY TO SEEKCLARIFICATION OF AMBIGUOUS CONTRACT TERMS
  
  
• AMBIGUITY IN CONTRACTUAL ARBITRATION PROVISION FORCES PARTIES TO RESORT TO THE COURTS
  
  
• ALABAMA COURT REFUSES TO COMPEL ARBITRATIONAFTER THE PARTIES EXCHANGED DISCOVERYAND INCURRED SUBSTANTIAL LITIGATION EXPENSES
  
  
• OWNER NOT A THIRD-PARTY BENEFICIARY OF AGENERAL CONTRACTOR-SUBCONTRACTOR CONTRACT

 

Katz & Stone, L.L.P. Construction Newsletter
January/February 2006

CONTRACTOR HAS A DUTY TO SEEKCLARIFICATION OF AMBIGUOUS CONTRACT TERMS

A contractor who fails to seek clarification of the meaning of ambiguous contract terms prior to the submission of its bid may be bound by the owner’s reasonable interpretation of those terms.  The case of Delicacies Constr. Co., Inc. v. City of New York, 2005 NY Slip Op 25321, 1 (N.Y. Misc. 2005) illustrates this proposition.

Here, the contractor was the winning bidder for a public improvement construction project involving the replacement of a pedestrian bridge in New York City.  The Contract consisted of various documents—including the Proposal for Bids, the contractor’s Bid, Technical Specifications, and the Agreement.  The project was substantially completed, and the contractor’s claim accrued on May 31, 1999.  However, the contractor brought suit against the City on October 21, 2004.

In its claim, the contractor asserted that it supplied additional labor, materials, equipment and services pursuant to the Contract.  As such, the contractor believed that it was entitled to an equitable adjustment, and claimed that the City’s failure to compensate it for the additional work constituted a breach of contract.  The contractor argued that the City failed to design, administer and manage the construction project properly.  As a result of the city’s aforementioned failures, it took the contractor an additional four years (along with the requisite additional costs and expenses) to complete the project.

In response, the City argued that the contractor’s claims were foreclosed by the statute of limitations contained in the Contract documents.  The City alerted the court to Article 53 of the Agreement which required a claim to be brought within four months after the accrual of the claim. The contractor argued that because its claims for delay damages were based upon the Contract and not specifically the Agreement—the four-month statute of limitations contained in Article 53 of the Agreement was to be applied to “claims based on this Agreement”—the four-month statute of limitations did not apply.

The court disagreed with the contractor’s argument.  The court observed that Article 1 of Chapter I of the Agreement did not readily distinguish between the terms “Contract” and “Agreement.”  In fact, that the terms were used interchangeably throughout the entire Contract and within the Agreement section itself.  As a result, the court interpreted the statue of limitations provision contained in Article 53 of the Agreement to apply to both the claims based upon the Contract and the Agreement. To the extent there was some ambiguity caused by the term “Agreement” in Article 53, there was an additional contractual requirement that the contractor request clarification of such ambiguities. The court found that the contractor failed to clarify the meaning of the contractual language it claimed was ambiguous before submitting its bid; thus, it was bound by the City’s reasonable interpretation of Article 53. As a result, the court ruled that the contractor’s claims were time-barred because the contractor waited over five years to bring suit against the City after its claims accrued in May 1999.

This case illustrates that contractors must be aware of ambiguities in contract language.  Contractors must resolve such ambiguities prior to submitting their bids, or risk being held to the project owner’s interpretation of the ambiguous language.

AMBIGUITY IN CONTRACTUAL ARBITRATIONPROVISION FORCES PARTIES TO RESORT TO THE COURTS

Parties to construction contracts often incorporate into their contracts alternative dispute resolution provisions which mandate the resolution of disputes through means other than litigation.  However, Needham’s Point Holdings Ltd. v. Johnston Int’l Ltd., Civil Appeal No. 12 (Barbados 2005) demonstrates that ambiguities in the language of such provisions can undermine the underlying purpose and the benefits associated with alternative dispute resolution—avoiding litigation; saving time and money.

In Needham’s Point, a dispute arose between the owner of a Barbados hotel project and the general contractor; the contractor initiated arbitration pursuant to a provision contained in their contract.  The provision incorporated by reference the United Nations Commission on International Trade Law’s (“UNCITRAL”) arbitration rules and Barbados’ arbitration statute.  Further, the provision provided that the UNCITRAL rules would apply to the arbitration proceedings as long as the UNCITRAL rules were not inconsistent with the Barbados statute.

Specifically, the arbitration provision in the parties’ contract did not mandate whether to utilize one or three arbitrators.  As such, the parties relied upon the UNCITRAL rules which directed them to agree on the number of arbitrators within fifteen days of the submission of the demand for arbitration.  When the parties agreed to utilize a three-arbitrator panel, the UNCITRAL rules further mandated that each party appoint one arbitrator and the two appointed arbitrators would select the third.

However, after appointing the arbitrators, a dispute arose between the parties as to the method of appointment and role of the third arbitrator. The contractor favored the UNCITRAL rules’ approach, which treats the third arbitrator as the presiding arbitrator, or the chairman, of the panel with a vote equal to the other two arbitrators.  The owner favored the Barbados statute’s description of the third arbitrator as an umpire with the authority to decide the case only if the other two arbitrators were not in agreement.  As a result, the contractor applied to the Permanent Court of Arbitration in the Netherlands, pursuant to the UNCITRAL rules, for the appointment of a presiding arbitrator.  The owner responded by commencing an action in a Barbados court, pursuant to the statute, to appoint an umpire.  The lower court ruled for the contractor, and found that the UNCITRAL rules applied to the arbitration.  Moreover, the court held that the UNCITRAL rules were not inconsistent with the statute, and that pursuant to the UNCITRAL rules, the third arbitrator should be the presiding arbitrator, not an umpire.  The owner appealed.

The appellate court found that the Barbados statute was similar in language to the British arbitration statute, and turned to British precedent to help resolve the issue as there was little or no caselaw interpreting the Barbados statute.  The owner pointed to British caselaw which seemed to hold that, where an arbitration agreement calls for each party to appoint one of the two arbitrators and the two appointed arbitrators to select the third, then the third arbitrator serves as an umpire.  However, the contractor argued that such court decisions only applied where the contractual arbitration provision required a three-arbitrator panel.  Here, by contrast, the provision did not mandate whether to utilize one or three arbitrators.  Further, the parties only ended up with three arbitrators by agreement and reference to the UNCITRAL rules.

Siding with the contractor, the appellate court concluded that the lack of a requirement in the parties’ arbitration provision to utilize one, three, or any certain number of arbitrators made the Barbados statute’s reference to the third arbitrator as an umpire inapplicable to the facts of this case.  Hence, the court ruled that the third arbitrator was to serve as a presiding arbitrator under the UNCITRAL rules, rather than as an umpire.

The parties in Needham’s Point incorporated an arbitration provision into their contract in order to resolve their disputes without recourse to the courts.  However, their dispute—over an ambiguity in the arbitration provision itself—resulted in proceedings before two courts, and undermined the purpose of the arbitration provision and the benefits of arbitration.  Accordingly, parties to a construction contract are strongly advised to seek out and eliminate any conflicts or ambiguities in their own alternative dispute resolution provisions to avoid losing the time and cost benefits associated with such provisions.

Note, Katz & Stone, L.L.P. successfully assisted Johnson International Limited (the general contractor) in this matter.

 

 

ALABAMA COURT REFUSES TO COMPEL ARBITRATIONAFTER THE PARTIES EXCHANGED DISCOVERYAND INCURRED SUBSTANTIAL LITIGATION EXPENSES

The standard American Institute of Architects (AIA) form contract agreement typically incorporates in its general conditions section an arbitration provision under which one party to the agreement may compel the other party to arbitrate a dispute arising out of that agreement and forgo litigation.  However, as the Court of Civil Appeals of Alabama held in Jones-Williams Construction Co. Inc. v. Town & Country Property, L.L.C., 2005 Ala. Civ. App. LEXIS 470 (Ala. Civ. App. 2005), a party may waive its contractual right to compel the other party to arbitrate.

In Jones-Williams Construction, a dispute arose between an owner and contractor over the construction of an auto dealership.  The owner filed a complaint alleging that the contractor breached the contract.  The contract was an AIA standard form agreement which incorporated general conditions containing an arbitration provision.  This arbitration provision required the owner and the contractor to arbitrate all disputes arising out of the construction of the dealership.

After the complaint was filed, the contractor filed an answer to the complaint, interrogatories, requests for production of documents, and a motion to compel the owner’s response to those discovery requests.  The parties also resolved one discovery dispute regarding the taking of depositions.  In addition, the trial date was rescheduled six times.

Two years after the complaint was filed by the owner, the contractor filed a motion to compel the owner to arbitrate the dispute pursuant to the arbitration provision of the general conditions. The owner objected to the contractor’s motion and argued that it should not be compelled to arbitrate its claim.  In support of its objection, the owner argued, among other reasons, that the contractor had waived its right to compel arbitration because the contractor filed its motion to compel arbitration two years after the owner filed its complaint.  The court agreed with the owner and denied the contractor’s motion seeking to compel the owner to arbitrate the dispute.

The court noted that a party may waive its right to arbitrate a claim if it substantially invokes the litigation process to the point that the opposing party would be prejudiced if arbitration were allowed.  However, this prejudice must be carefully balanced with the strong federal policy in favor of arbitration.  Not surprisingly, the court explained that there was no specific test to determine whether a party has waived its right to arbitrate a claim; the court must make its decision on a case-by-case basis.  Nonetheless, the court recited examples constituting prejudice—where the party seeking to compel arbitration allows the opposing party to incur litigation expenses which arbitration would have alleviated; where the partying seeking to compel arbitration took advantage of judicial discovery procedures not available in arbitration.

After a lengthy discussion as to authority cited by the owner and the contractor, the court concluded that the trial court did not err in denying the contractor’s motion to compel the owner to arbitrate the dispute arising out of the construction of the auto dealership.  Specifically, the court found that by answering the complaint, filing interrogatories and requests for production of documents, filing a motion to compel the owner’s response to the discovery requests, and resolving a discovery dispute related to the taking of depositions, the contractor had substantially invoked the litigation process.  Furthermore, the court noted that the owner had already incurred hefty attorney’s fees for discovery which could have been avoided in an arbitration proceeding.

All owners and contractors should be aware of the Jones –Williams Construction court’s ruling that a failure to compel the opposing party to arbitrate a dispute pursuant to an agreement containing an arbitration provision in a timely manner, combined with a substantial invocation of the litigation process, may waive their right to compel arbitration.  For this reason owners and contractors who enter into agreements which provide for arbitration of disputes should not assume that they may compel the other party to arbitrate at any time before the trial begins.  In addition, owners and contractors should consider their decision to proceed with litigation (especially in the discovery phase) initiated by the opposing party, in order to avoid waiving their right to compel arbitration pursuant to the underlying contract.

OWNER NOT A THIRD-PARTY BENEFICIARY OF AGENERAL CONTRACTOR-SUBCONTRACTOR CONTRACT

Unless a contract specifically provides otherwise, an owner is not a third-party beneficiary of a standard contract between a general contractor and a subcontractor.  This principle is illustrated in the case of Outlaw v. Airtech Air Conditioning & Heating, Inc., 412 F.3d 156 (D.C. Cir. 2005).

In this case, an owner hired an architect to draw up the architectural plans required to secure construction permits for renovations to a recently purchased building.  The plans included renovations of the building’s heating, ventilation, and air conditioning (HVAC) system.  The owner retained a general contractor for the project, and the general contractor retained a subcontractor to install the HVAC system.  The owner played a very hands-on role over the course of the project.   In particular, the owner was heavily involved in many of the project’s details which were normally handled by the general contractor.

As the project progressed, problems arose and the owner decided to end its relationship with both the architect and the general contractor.  Notwithstanding, the owner requested that the subcontractor finish the work on the HVAC system.  The subcontractor declined the owner’s request; the subcontractor explained that it was only contractually bound to the general contractor and not to the owner.  As a result, the owner hired another firm to finish the HVAC work.  However, after the owner moved into the building, it discovered that the new HVAC system did not work properly and sued the original subcontractor for breach of contract and damages.

Based upon traditional contract law principles, the court found that absent any indication to the contrary in a contract, a property owner is not a third-party beneficiary to a contract between a general contractor and subcontractor.  In addition, the court established that the standard form contract between the contractor and subcontractor did not contemplate a role for the owner and could not be construed to confer specific rights on the owner.   As such, the subcontractor had no duty to the owner, and the court held in favor of the subcontractor.

In response, the owner argued that it was a third-party beneficiary to the general contractor-subcontractor contract because the contract contained language providing that the owner was entitled to “keep any and all parts.”  In addition, the contract contained a signature line for the “Owner/General Contractor.”

The court noted that beyond the language that the owner was entitled to “keep any and all parts” and the signature line—which was actually signed by the general contractor—the general contractor-subcontractor contract contained no further references to the owner.  Moreover, the court observed that there was no course of dealing between the owner and the subcontractor which would suggest the owner was a third-party beneficiary to the contract.  The owner played no role in the contractor’s selection of the subcontractor, and although the owner was very hands-on during the construction process, the subcontractor did not acquiesce in the owner’s efforts to step into the general contractor’s shoes.

Accordingly, a project owner should be aware that irrespective of its level of involvement in a project, it may not become a third-party beneficiary of a general contractor-subcontractor contract unless the contract specifically provides otherwise.