Cases of the Month
Significant Cases and Decisions Impacting the Construction Industry
By: Ira Genberg and David L. Hobson
1. AIA Contractual Indemnity, Watral & Sons, Inc. v. OC Riverhead 58, LLC, 34 A.D.3d 560 (N.Y. App. Div. 2006).
* What the Court Considered: Subparagraph 4.18.1 of the AIA contract required the contractor to indemnify the owner for injury or damage caused by the contractor’s negligence. Subparagraph 10.2.5 required the contractor to remedy any damage or loss to persons or property specified in Article 10 unless the loss is attributable to the owner, architect, or construction manager. During excavation work performed by the contractor, an electrical cable was cut, interrupting electrical service to a neighboring business. It was unclear whether the contractor was negligent.
* What the Court Said: The contractor was contractually obligated to indemnify the owner for the damage under subparagraph 10.2.5.
* What the Opinion Means: A party is entitled to full contractual indemnification provided the intention to indemnify can be clearly implied from the language of the agreement. Although 4.18.1 limits the contractor’s obligation to indemnify to damages caused by the contractor’s negligence, 10.2.5 contains no such limitation. Thus, the contractor was obligated to indemnify the owner for damages caused by the electrical outage regardless of whether the contractor was negligent.
2. Enforceability of Pay-If-Paid Clause in New York, Welsbach Elec. Corp. v. Mastec N. Am., Inc., 859 N.E.2d 498 (N.Y. 2006).
* What the Court Considered: An electrical subcontract for a fiber optic telecommunications network included a pay-if-paid clause. The subcontract also provided that it was to be governed by Florida law. When the owner became insolvent, the contractor failed to pay the balance of the subcontract.
* What the Court Said: Although pay-if-paid clauses are against New York public policy, the clause was enforceable here because it was governed by Florida law.
* What the Opinion Means: New York courts will enforce choice-of-law clauses unless the chosen law is “truly obnoxious” to New York public policy. Pay-if-paid clauses, though unenforceable under New York law, are not truly obnoxious. This decision reversed a lower court’s ruling that the clause was unenforceable.
3. Commercial Impracticability Due to Material Cost Increases, In re Spindler Constr. Corp., ASBCA No. 55007 (2006).
* What the Board Considered: During construction of an Air Force hangar, the price of steel increased drastically as a result of the “global steel crisis.” The structural steel subcontractor submitted a claim to the contractor for the increase in material costs, which it claimed made performance of its subcontract “commercially impracticable.” Neither the prime contract nor the subcontract contained a price adjustment clause for material cost changes.
* What the Board Said: The increase in steel prices did not make performance of the subcontract commercially impracticable.
* What the Opinion Means: A contractor asserting commercial impracticability must show that a supervening event made performance impracticable. Here, the supervening fluctuation in the steel price did not make performance impracticable because the 23 percent price increase represented a subcontract price overrun of only five percent. Furthermore, because the steel subcontract was a fixed-price contract, the subcontractor bore the risk of market fluctuations.
4. Legal Malpractice Liability for Cost-Plus Contract, Smith v. Preston Gates Ellis, LLP, 135 Wash. App. 1022 (Wash. Ct. App. 2006).
* What the Court Considered: A property owner desired to construct his “dream home” on the property. He retained a law firm to evaluate the terms of the potential construction contract. The firm reviewed the contract and engaged in some negotiation with the contractor’s attorney, after which the owner signed the contract. The cost-plus contract did not contain a guaranteed maximum price. The project greatly exceeded the owner’s budget, and the contractor engaged in overbilling for labor. The owner sued the law firm, claiming that if he had known about the risks inherent in the contract he would not have signed it.
* What the Court Said: The law firm’s failure to adequately advise the owner of the contract’s risk was not the proximate cause of the owner’s damages.
* What the Opinion Means: To succeed on a claim of legal malpractice, the client must prove that the attorney’s breach of its duty was the proximate cause of the cleint’s damages. Proximate cause exists if the client can demonstrate that “but for” the attorney’s negligence the client would have obtained a better result. Here, the owner could not prove that he would have obtained a better result had the firm advised the owner of the risks inherent in a cost-plus contract with no maximum price. Mere speculation that he would not have entered into the contract if adequately apprised of the risks was insufficient.
5. Owner Liability for Contractor Employee Injury, Young v. Delcor Assocs., Inc., 723 N.W.2d 459 (Mich. 2006).
* What the Court Considered: While retrieving staples, the employee of an independent contractor stepped on a portion of wall panel lying over a second floor stairwell opening. Because the wall panel was not one solid section but two sections joined at a joint, the employee fell twenty feet to the basement.
* What the Court Said: The premises owner was not liable for the employee’s injury.
* What the Opinion Means: The owner had no duty to protect the employee from the hazardous condition that caused the injury. Furthermore, the hazardous condition was created by the independent contractor, the owner had no notice of the condition, and the condition was not unreasonably dangerous in the context of a construction project.
6. Architect’s Duty to Surety, RLI Ins. Co. v. John H. Hampshire, Inc., 461 F. Supp. 2d 364 (D. Md. 2006).
* What the Court Considered: After a contractor abandoned its work, the owner determined that a significant number of exterior panels installed by the contractor had been installed improperly. The contractor’s surety agreed to remove and replace the improperly installed panels. The surety eventually sued the project architect, claiming the architect had a duty to inspect and supervise the work of the contractor and failed to do so.
* What the Court Said: The architect was not liable to the surety because the architect owed no duty to the surety.
* What the Opinion Means: In Maryland, when only economic loss is involved, there must be an “intimate nexus” between the parties. Where there is no contract between the parties, the “intimate nexus” requirement can be satisfied by showing an equivalent to contractual privity exists. Here, there was no “intimate nexus” between the surety and architect. The court declined to hold that the inspection and supervision requirements imposed upon the architect were as much for the protection of the surety as for the owner.
7. Subcontractor’s Failure to Meet Standard of Care, Stonegate Homeowners Ass’n v. T. A. Staben, 50 Cal. Rptr. 3d 709 (Cal. Ct. App. 2006).
* What the Court Considered: A contractor hired to construct retaining walls at a residential development entered into an oral subcontract for the waterproofing and drainage work. Because the contractor did not know how to apply the sealant, it did not tell the subcontractor how to perform its work. When water began to leak through the retaining walls, the homeowners association brought a suit against the subcontractor, alleging the subcontractor failed to satisfy the industry standard of care.
* What the Court Said: Because the subcontractor failed to meet the industry standard of care, it was liable to the association.
* What the Opinion Means: The subcontractor argued that its duty to the association was defined solely by the subcontract terms. The court disagreed, noting that a subcontractor has a duty to perform its work in a good and workmanlike manner. The fact that the contractor did not tell the subcontractor how to perform its work underscored why the subcontractor was under a duty to adhere to the industry standard of care.
8. Surety’s Rights Under Indemnity Agreement, Ins. Co. of the West v. Gibson Tile Co., 134 P.3d 698 (Nev. 2006).
* What the Court Considered: The tile subcontractor entered into a General Indemnity Agreement (“GIA”) with its surety. Two suppliers made claims against the bond, which the subcontractor was unable to pay until it received money from the contractor. When the contractor made payment, the subcontractor deposited the funds into a trust account controlled solely by the subcontractor’s attorney. The surety then sued the subcontractor, alleging it had a right under the GIA to a joint trust to any money collected from the contractor used to satisfy the suppliers’ claims. After the subcontractor settled the claims, the surety proceeded with its indemnity claim, arguing it had a right to recover its attorney fees and costs incurred in attempting to enforce the GIA.
* What the Court Said: Although the surety made no payment on the bond, it could nevertheless recover its attorney fees and costs under the GIA.
* What the Opinion Means: Unlike insurers, sureties profit solely from the premiums they collect. Indemnification rights guard against the potential losses, help reduce the surety’s risk, and keep premiums relatively low. Therefore, a surety is entitled under the GIA to indemnity for its costs regardless of whether any payment is ultimately made under the bond.
9. “Damage to Property” Exclusion in CGL Policy, ACUITY v. Burd & Smith Constr., Inc., 721 N.W.2d 33 (N.D. 2006).
* What the Court Considered: A contractor was hired to replace a tar and gravel roof at an apartment building with a rubber roof. During construction, the building sustained significant water damage to the interior. The contractor eventually agreed to accept a judgment against it on the condition that any recovery come solely from the proceeds of its commercial general liability (“CGL”) policy. According to one of the policy’s exclusions, the insurance did not apply to “[t]hat particular part of real property” on which the contractor was working.
* What the Court Said: The insurer was not liable for damages to the roof itself but was liable only for damages to the building’s interior.
* What the Opinion Means: A CGL policy is intended to protect the insured from liability in the event the insured’s work causes bodily injury or damage to property other than the insured’s work product. The roof was the particular part of the property on which the contractor was performing operations. Thus, damage to the roof itself was excluded from coverage.
10. Enforcement of Arbitration Provision, Twin Oaks at Southwood, LLC v. Summit Contractors, Inc., 941 So. 2d 1263 (Fla. Dist. Ct. App. 2006).
* What the Court Considered: The parties’ construction contract contained an arbitration provision. After the planned completion date, the parties executed a Project Completion Agreement (“PCA”), which extended the time for completion and updated the contract amount based on three new change orders. The PCA provided that the terms and conditions of the original contract shall remain in full force and effect. The contractor sued the owner for amounts unpaid under the PCA. The owner counterclaimed for liquidated damages and other claims based on the contract. The contractor argued that the owner’s counterclaims should be dismissed and submitted to binding arbitration because of the contract’s arbitration clause.
* What the Court Said: The contractor waived its right to demand arbitration of the counterclaims by suing to enforce the PCA.
* What the Opinion Means: The contract defined a modification to include a “written amendment of the Contract signed by both parties.” The PCA met the contract’s definition of a modification, and therefore claims under the PCA were subject to the contract’s arbitration provision. By suing under the PCA, the contractor waived its right to demand arbitration of the counterclaims.
Ira Genberg is a Senior Partner at the Smith, Gambrell & Russell, LLP law firm in Atlanta, Georgia, and also General Counsel for Associated Owners & Developers (AOD), McLean, Virginia. David L. Hobson is an Associate at Smith, Gambrell, & Russell, LLP. For more information or if you have any questions, contact us at: firstname.lastname@example.org.