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March/April 2003 Newsletters
Katz & Stone, L.L.P. Construction Newsletter
March/ April 2003
VIRGINIA COURT HOLDS THAT AIA
SUBCONTRACT’S ARBITRATION PROVISION DOES NOT PRECLUDE LITIGATION
OF MILLER ACT CLAIM
Contractors familiar with the American Institute
of Architect’s
(“AIA”) series of form contracts are likely aware
that they call for arbitration, rather than litigation, of claims
arising out of or related to the contract. Many contractors who
use AIA forms may therefore presume that any payment bond or
mechanic’s lien claim they may have is also subject to
arbitration. As illustrated by a recent decision of the United
States District Court for the Eastern District of Virginia, for
contractors using the 1987 edition of the AIA subcontract, however,
such an assumption would be a mistake.
In the case of United States ex rel. American Sheet Metal
Corp. v. The Travelers Ins. Co., 222 F.Supp.2d
789 (E.D. Va. 2002), a contractor entered into a construction
contract with the Navy
to repair a roof. In accordance with the requirements of the
federal Miller Act, the contractor’s surety issued a payment
bond guaranteeing payment of all claims for labor and materials.
Subsequently, the contractor entered into a subcontract for certain
sheet metal work on the project.
After the contractor failed to timely pay the subcontractor’s
requisitions, the subcontractor brought suit against the contractor
and its surety seeking recovery of its money through its claim
against the Miller Act payment bond. Hoping to avoid litigation
of the subcontractor’s claim in federal court, the contractor
sought a stay of the action and a ruling directing the parties
to arbitrate pursuant to an arbitration provision in the subcontract.
The subcontractor argued that arbitration was inappropriate because
the subcontract’s arbitration clause excluded Miller Act
claims.
The subcontract between the parties was the 1987 edition of the
AIA Standard Form of Agreement Between Contractor and Subcontractor
(A401). In resolving the parties’ dispute over arbitration,
the court had to reconcile two separate sections in the subcontract.
Section 6.1 provided that any “controversy or claim between
the Contractor and the Subcontractor arising out of or related
to this Subcontract ... shall be settled by arbitration.” At
the same time, Section 6.5 provided that all provisions, including
Section 6.1, “shall not be deemed a limitation of rights
or remedies which the Subcontractor may have under Federal law,
under state mechanics’ lien laws, or under applicable labor
and material payment bonds unless such rights or remedies are
expressly waived by the Subcontractor.” Recognizing that
the Miller Act gives the subcontractor the right to sue on the
bond in federal court, the court concluded that Section 6.5 specifically
excluded from arbitration such claims and that the subcontractor
had not expressly waived its right to bring such claims in court.
The court’s decision in American Sheet Metal is
a poignant reminder to contractors still using the 1987 edition
of A401
that its form arbitration provisions, in fact, do not require
arbitration of all disputes relating to the subcontract. Based
on the court’s reasoning and the language in Section 6.5,
subcontractors still have the right to pursue their Miller Act,
mechanic’s lien and private-project bond claims in court
without waiting for the resolution of related claims by arbitration.
Contractors wishing to avoid this result and better ensure that
such claims are stayed pending the results of an arbitration
should either delete the exclusion language of Section 6.5 or
use the 1997 edition of A401, which does not include such exclusory
language. Contractors should also void blind reliance upon an
arbitration provision without consideration of the contract’s
other terms. Other contract provisions must be reviewed to ensure
they do not limit the agreement to reduce disputes through arbitration.
REVISIONS TO THE DISTRICT OF
COLUMBIA’S MECHANIC’S LIEN STATUTE CREATE MORE HOOPS
FOR CONTRACTORS TO JUMP THROUGH
Contractors furnishing labor and/or material
to a construction project assume that, so long as they have not
signed a document waiving their mechanic’s lien rights,
they will have little problem filing a mechanic’s lien
under the law of the state where the project is located. While
such an assumption may suffice on most occasions and in many
jurisdictions, amendments enacted last year to the District of
Columbia’s mechanic’s lien statute have erected several
potentially new obstacles to the filing a mechanic’s lien.
The most significant change to the District’s mechanic’s
lien statute relate to the requirements for establishing a lien.
Mechanic’s liens in the District are established by the
filing of a notice of intention to hold a lien on the improved
property. While a mechanic’s lien is still established
by the filing of the requisite notice, current law has imposed
new requirements on what must be filed with such notice. Specifically,
the mechanic’s lien statute now requires that a notice
of lien “shall include” (1) a copy of the work agreement
signed by all parties; (2) a valid residential home improvement
contractor’s license issued by the D.C. Department of Consumer
and Regulatory Affairs (“DCRA”); (3) a certificate
of good standing issued by the DCRA; and (4) a certificate or
statement of good standing from the D.C. Office of Tax and Revenue
(“OTR”).
Due to the present wording of the mechanic’s lien statute,
the requirement to include a copy of a signed work agreement
and a valid residential home improvement license is troubling.
Although the statute does not expressly state that such documents
must be attached only “if applicable,” it would seem
to be a matter of common sense that a contractor working on a
commercial project would not need to furnish proof of a home
improvement license to file a lien. Similarly, as the mechanic’s
lien statute does not expressly limit lien rights to those persons
having a signed, written contract, there is good reason to argue
that the requirement to include a signed agreement would not
apply when such a document does not exist. Nevertheless, as no
court has yet to address the proper interpretation of these provisions,
the statute’s unqualified requirement that a notice “shall
include” such documents causes some uncertainty as to whether
a contractor without a home improvement license or without a
work agreement signed by both parties will be permitted to file
a lien. In light of the statute’s ambiguity, the best practice
for a contractor to follow is to always obtain written authorization
for work signed by the party for whom such work is performed
and, if it has a home improvement license, to attach that license
to its notice or adequately describe the work in the notice to
clarify that it is not a home improvement project.
The requirement to include certificates of good standing from
the DCRA and the OTR should also be noted. The statute requires
a lien claimant to file its notice within 90 days after completion
of an improvement or its lien rights are lost. If a contractor
is running up against this deadline, the requirement to obtain
such certificates can significantly slow its ability to timely
file a lien. For example, in order to obtain a certificate from
DCRA, a contractor must be registered to do business in the District.
A contractor who has performed work in the District without having
registered must first register and then apply for a certificate
of good standing prior to filing a lien. Even on an accelerated
schedule, this process can take several days to accomplish. For
more details regarding how to obtain such certificates, contractors
may call DCRA’s Call Center at (202) 442-4400 or the OTR’s
Customer Service Center at (202) 727-4829.
Contractors must also be aware that the time to file suit to
enforce a lien has also been amended. In the past, lien claimants
were permitted to commence suit within a year after the filing
of their notice or within 6 months from the completion of the
building. Under current law, lien claimants must commence an
action to enforce a mechanic’s lien within 180 days after
the filing of a notice of intent to hold a lien or from the date
of completion of the building. Thus, under current law, the time
in which to file suit has been narrowed.
Contractors should be aware that the process to file a mechanic’s
lien in the District is now more treacherous than it once was.
Thus, it is more important than ever before for contractors performing
work on private projects in the District to know the requirements
of the statute and do what is necessary, in advance of a payment
dispute, to ensure that they will be able to timely assert a
mechanic’s lien on the project.
MARYLAND COURT ENDORSES USE
OF EICHLEAY FORMULA
TO QUANTIFY CLAIMS FOR EXTENDED HOME OFFICE OVERHEAD
The method for calculating a claim
for extended home office overhead due to delay that is most widely
accepted by federal and state courts is the “Eichleay” formula.
Prior to last year, however, Maryland courts had hardly discussed,
much less formally approved, the method. In Gladwynne
Construction Company v. Mayor and City Council of Baltimore,
147 Md. App. 149, 807 A.2d 1141 (2002), however, the second highest
court
in Maryland appears to have endorsed its use.
In Gladwynne, a general contractor
was obligated to renovate a Baltimore City high school within
a contract time of 180 calendar
days. Completion of the renovation work was delayed approximately
300 days. The delays primarily arose from the contract’s
requirement that the contractor replace utility lines located
in a crawlspace, which neither the contractor nor the city was
ever able to locate. Eventually, the contractor had to drastically
alter its method for such work. Moreover, delays were also caused
by the architect, who continued to make numerous changes in the
work late into the project. The contractor filed suit to recover
its extended home office overhead costs, which it calculated
using the Eichleay formula. While the city conceded that there
were some delays in the early stages of the project for which
the contractor was not responsible, it disagreed with the delay
period claimed by the contractor. The lower court established
the delay period and awarded the contractor certain damages.
However, the court did not award damages for extended home office
overhead costs because it concluded that all of the elements
of the Eichleay formula had not been met.
On appeal, the lower court’s decision was reversed. Finding
no Maryland case law which expressly adopted the Eichleay formula,
the appellate court noted that it is the most widely approved
formula for calculating unabsorbed overhead costs arising out
of government-caused delay. (See below). In fact, the court noted
that in some jurisdictions the Eichleay formula is the only accepted
method of calculating unabsorbed home office overhead.
The court stated, however, that, in order for a contractor to
recover under the Eichleay formula, it must prove three things:
(1) the contract was suspended, delayed, or disrupted by the
government; (2) the contractor was forced to “stand by” during
the delay; and (3) while “standing by” during the
suspension, delay, or disruption, the contractor was unable to
take on other work. Should the contractor be able to establish
a prima facie case of entitlement
to use the formula, the government, in order to defeat the claim,
must demonstrate that the contractor
did not suffer any loss either because it was able to reduce
its overhead or because it was able to take on other work during
the delay.
The court clarified that “standby” does not require
that the contractor's workforce be idle or that work on the project
be entirely suspended. Rather, a contractor may be deemed unable
to take on additional work if the owner causes a delay of uncertain
duration or if the contractor's bonding capacity is limited.
The appellate court then concluded that the contractor had been
put on standby by the city’s delays because the contractor
could not know when the city would complete the redesign process
and had to remain ready to perform changed and additional work
until the final change order was issued. Moreover, the court
determined from the contractor’s testimony before the lower
court that its limited bonding capacity had also prevented it
from taking on additional work during the delay.
Therefore, the appellate court concluded that the contractor
appeared to have presented sufficient evidence to satisfy the
Eichleay formula for at least some portion of the total delay.
Because, in refusing to award any delay damages for overhead
expenses, the lower court had failed to identify which element
of the formula was not satisfied, the appellate court vacated
the lower court’s judgment and remanded the case for it
to reconsider whether the Eichleay formula was satisfied and,
if so, for what period of time and at what daily rate.
While the Maryland Court of Special Appeals did not go as far
as saying the Eichleay was the exclusive measure of claiming
extended home office overhead, its decision in Gladwynne clearly
approves of Eichleay and sets out the elements that are prerequisites
to its use. Contractors able to demonstrate the elements of an
extended home office overhead claim will now have a proven method
of calculating the amount of their claims under Maryland law.
The Eichleay Formula can be summarized as follows:
1.
| Contract billings on the project |
|
|
|
|
| -------------------------------------- |
X |
Total overhead for
the contract period |
= |
Overhead allocable
to the contract |
Total billings during the
contract period |
|
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2.
| Overhead allocable to the contract |
|
|
| -------------------------------------- |
=
|
Daily contract overhead amount |
| Number of days in ordinal contract period |
|
|
3.
| Daily contract overhead amount |
X |
Number of days of delay |
= |
Recoverable extended home office overhead |
FEDERAL CIRCUIT HOLDS THAT
DISCLAIMER ON SPECIFICATIONS DOES NOT SHIFT RISK OF DESIGN DEFECTS
TO THE GENERAL CONTRACTOR
In White v. Edsall Construction
Co., Inc.,
296 F.3d 1081 (Fed. Cir. 2002), the U.S. Court of Appeals for
the Federal Circuit affirmed that if the government provides
design specification to a general contractor, a general disclaimer
on those specifications which requires the contractor to check
and verify the plans will not shift the risk of design flaws
to the contractor. Although the contractor has a duty to investigate
or inquire about obvious ambiguities, inconsistencies, or mistakes,
it does not have to ferret out hidden or subtle errors in the
specifications. This decision affirms that a disclaimer on
design specifications should not make a contractor a guarantor
of those specifications.
Edsall arose out of the U.S. Army’s (“owner”)
awarding Edsall Construction (“contractor”) a fixed-price
contract for the construction of a facility to house the Montana
National Guard's helicopters. The facility included two hangars
the owner’s engineers had designed. The specification and
drawings called for "tilt-up canopy doors" weighing
about 21,000 pounds each. The design used a complex system of
motors, cables, pulleys, and counterweights to open the doors.
The drawings showed cables attaching to the doors at three points
called "pick points." The cables ran from the pick
points up over a main truss, over several sets of pulleys and
then down to the counterweights.
The drawings also contained a disclaimer that the canopy “DOOR
DETAILS, ARRANGEMENTS, LOADS, ATTACHMENTS, SUPPORTS, BRACKETS,
HARDWARE ETC. MUST BE VERIFIED BY THE CONTRACTOR PRIOR TO BIDDING.” The
engineer testified that he added the disclaimer as an "informational
flag" that bidders should verify the three-pick-point design.
The contractor subcontracted the canopy door construction to
a subcontractor with substantial experience in designing and
building hangar doors. The subcontractor’s owner testified
that he read the disclaimer as a "heads up that there may
be problems" but that his review of the drawings showed
nothing "obviously wrong." After beginning construction,
though, the subcontractor discovered that the three-pick-point
design would not work and suggested an alternate design.
By the time the owner approved the new design, however, the steel
trusses for the doors had been fabricated and delivered to the
site. This required the subcontractor to field modify the trusses.
After the subcontractor had calculated its costs related to the
extra work, the contractor submitted a $70,000.00 extra work
claim to the owner. The owner rejected the claim, stating that
the subcontractor had not complied with the disclaimer and verified
the information prior to bidding.
The Board of Contract Appeals found that the owner’s specifications
contained defects and held that (1) the contractor’s pre-bid
review of the specifications was reasonable and (2) the disclaimer
did not shift the risk of design inadequacies to the contractor.
On appeal, the Court of Appeals affirmed.
The court cited the Spearin doctrine
tenant that when the government provides, and requires its general
contractor to follow, design
specifications, the government impliedly warrants those specifications.
The court thus rejected the owner’s argument that the general
disclaimer required the contractor to “verify” the
plans and shifted the risk of design defects to the contractor.
The court agreed that the disclaimer did require the contractor
to verify basic details, but found that the disclaimer did not clearly
alert the contractor that the design may contain substantive
flaws requiring correction and approval before bidding. Absent
an “express and specific” disclaimer, the contractor
was entitled to rely on the specifications and to recover any
additional costs it reasonably incurred to remedy the defects.
Although the risk of design defects can be
passed through to contractors, Edsall illustrates
that the Spearin doctrine is
alive and well. Absent an express shifting of the risk of faulty
design specifications, contractors who must follow an owner’s
design do not guarantee the adequacy of that design.
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