Cases of the Month
Significant Cases and Decisions Impacting the Construction Industry
By: Ira Genberg and Ryan Stinnett
1. Adequacy of Notice of Surety’s Default Under Performance Bond, Seaboard Sur. Co. v. Town of Greenfield, 370 F.3d 215 (1st Cir. 2004).
* What the Court Considered: A town hired a contractor to renovate a school building. When the town later declared the contractor in default, the surety stated that it needed additional time to investigate and requested documentation of the contractor’s default. While the surety’s investigation continued, the town sent a series of letters to the surety, urging it to commence the remedial and contract work. Then, while the town and the surety were negotiating a takeover agreement, the town’s building committee decided to proceed without the surety’s involvement. The surety filed a declaratory judgment action, arguing that the town had materially breached the bond by hiring its own contractor, and therefore the surety’s obligations under the bond should be discharged.
* What the Court Said: Because the town failed to provide sufficient notice of the surety’s default, the town breached its obligations under the bond.
* What the Opinion Means: The performance bond required the town to provide additional written notice to the surety of the surety’s alleged default under the bond and to allow fifteen days within which the surety could cure its default. Here, because the town’s letters to the surety did not alert the surety to an alleged default, indicate that the surety was in material breach, or refer to the bond’s notice provision, those letters failed to “convey with reasonable certainty the information reasonably needed” to satisfy the purpose of the bond’s notice requirement.
2. Disqualification of Arbitrator Under California Arbitration Act, Azteca Constr. v. ADR Consulting, 18 Cal. Rptr. 3d (Cal. Ct. App. 2004).
* What the Court Considered: A contract between a construction company and a consultant contained a provision whereby the parties agreed to arbitrate any dispute in accordance with the American Arbitration Association (“AAA”) Construction Industry Rules. After the consultant filed a demand for arbitration against the construction company, the AAA recommended a supposedly neutral arbitrator. The construction company sought to disqualify the proposed arbitrator on the basis of the arbitrator’s prior dealings with a principal of the consultant. The arbitrator refused to disqualify himself, and the AAA refused to remove him. After an award was issued in favor of the consultant, the construction company filed a petition with the trial court to vacate the award, arguing that the California Arbitration Act (the “Act”) permitted the construction company to have the arbitrator disqualified.
* What the Court Said: The award was vacated because the construction company should have been allowed to disqualify the arbitrator.
* What the Opinion Means: The Act “permits either party uncomfortable with the disclosures of any proposed arbitrator to disqualify him or her within 15 days after receiving the disclosure statement.” The AAA rules, by contrast, provide that the AAA shall have final authority to determine whether to disqualify an arbitrator. Relying on a provision of California law that allows anyone to “waive the advantage of a law intended solely for his benefit,” the consultant argued that the construction company waived its right under the Act to disqualify the arbitrator by agreeing to the AAA rules. The court disagreed, stating “the AAA Construction Rules…must yield to the disqualification scheme set forth in [the Act.]” Because the Act’s provision allowing disqualification by either party was intended to benefit the public, it could not be waived by private agreement.
3. Defective Design and the Elements of Commercial Impossibility, Evan Johnson & Sons Constr., Inc. v. State, 877 So. 2d 360 (Miss. 2004).
* What the Court Considered: The state of Mississippi (the “State”) hired a contractor to build a national guard facility that included a curved barrel roof. Although the contractor informed the State that the roof could not be built according to the plans and specifications provided by the State’s architect, the State instructed the contractor to complete the roof as designed. When the contractor attempted to build the roof in a manner other than that provided in the plans and specifications, the State rejected the work because it did not provide the desired appearance. Following an eleven-month impasse during which two cure notices were sent to the contractor and the scheduled completion date had passed, the State terminated the contract. The contractor sued the State and the architect based on a theory of defective design.
* What the Court Said: The State and its architect were not liable on the contractor’s defective design claim because the contractor failed to prove the impossibility of building according to the design.
* What the Opinion Means: To show that the roof could not have been built in accordance with the design, the contractor was required to prove both subjective and objective impossibility. “Because [the contractor] failed to prove any other contractor was unable to comply with the original design and specifications and because [the contractor] failed to attempt to construct the roof according to the original design and specifications,” the contractor’s claim for defective design was without merit.
4. Definition of “Collapse” in Insurance Policy (Part I), Assurance Co. v. Wall & Assoc. LLC, 379 F.3d 557 (9th Cir. 2004).
* What the Court Considered: An owner hired a construction repair specialist to investigate a persistent water leakage problem in its building. The exterior of the building was EIFS siding, which was attached to gypsum sheathing. A decorative brick façade was attached to the EIFS by use of adhesive. The construction repair specialist determined that the EIFS was in danger of falling completely off the building, but stated that there was no way to tell when, if ever, the EIFS would fall. When the condition worsened, the owner submitted a notice of loss to its insurance company. The policy provided that the insurer would “pay for loss or damage caused by or resulting from risks of direct physical loss involving collapse of a building or any part of a building caused…by…hidden decay.” The insurance company argued that the policy’s collapse coverage applied only to the “sudden falling down” of a building.
* What the Court Said: The insurance policy provided coverage for both imminent collapse and actual collapse.
* What the Opinion Means: Washington law “does not require actual collapse in policies providing coverage ‘for risk of direct physical loss involving collapse of a covered building or any part of a covered building.’” Additionally, the phrases “risk of loss” and “involving collapse” suggest that, when read as a whole, an insurance policy extends to cover imminent collapse.
5. Definition of “Collapse” in Insurance Policy (Part II), Buczek v. Cont’l Cas. Ins. Co., 378 F.3d 285 (3d Cir. 2004).
* What the Court Considered: A condominium association purchased a three-story, two-unit structure and obtained an all-risk insurance policy, which covered “direct physical loss or damage…caused by collapse…if the collapse is caused by…hidden decay.” The building was supported by thirty-four wood pilings, which extended approximately three feet above grade to a depth of forty feet below. Thirteen years after the building was purchased, the association owners noticed the structure swaying in high winds. To comply with local codes, the owners replaced the rotted portions of the existing pilings with concrete beams over the piles, building up a foundation wall from the concrete beams to the building. The insurance company denied coverage for the loss because the condition did not constitute an imminent collapse.
* What the Court Said: Because imminent means “likely to occur at any moment,” the building was not subject to imminent collapse.
* What the Opinion Means: New Jersey follows the majority rule in defining “collapse” to include “serious impairment of structural integrity that connotes imminent collapse.” However, a vulnerability to ninety mile-per-hour winds, which may occur once in twenty years on the New Jersey coast, does not constitute “imminent collapse.” Rather, “imminent” should be read to mean “likely to happen without delay” or “likely to occur at any moment; impending.”
6. Requirement that the Insured be “Legally Obligated” to Pay as a Prerequisite for Coverage Under a CGL Policy, Detroit Water Team v. Agric. Ins., 371 F.3d 336 (6th Cir. 2004).
* What the Court Considered: A joint venture entered into a design/build contract with a city to renovate the city’s water plant. In connection with the project, the joint venture obtained a commercial general liability (“CGL”) policy, which covered the joint venture and its demolition subcontractor. The policy provided that the insurance company would “pay those sums that the Insured becomes legally obligated to pay as damages because of ‘bodily injury’ or ‘property damage’ to which this insurance applies.” When the subcontractor demolished a portion of an old reservoir, it also tore down a concrete wall the reservoir shared with an adjacent manhole containing the plant’s electrical system. The joint venture immediately repaired the damaged electrical system and sought to recoup its expenses from the insurance company.
* What the Court Said: The insurance company was not obligated to pay under the CGL policy because the joint venture was not “legally obligated” to repair the electrical system.
* What the Opinion Means: Under Michigan law, a general contractor usually is not liable for the negligence of its subcontractor. However, even assuming that contractual liability could satisfy the “legally obligated” requirement of the CGL policy, the joint venture’s contractual obligation to make the repairs “was not sufficiently definite as to constitute a legal obligation for which the insuring agreement provides coverage.” In fact, “[i]f any party was ‘legally obligated’ to pay any ‘sums’ because this incident, it was [the subcontractor].” Therefore, if the city had sought damages from the subcontractor, coverage likely would have been available under the CGL policy. The joint venture thwarted that process, however, by rushing to make the repairs.
7. California Contractor’s License as Necessary for Recovery, Themeing Solutions, Inc. v. Peck/Jones-OC America Constr., No. B171395 (Cal. Ct. App. 2004).
* What the Court Considered: A general contractor hired a Nevada-licensed subcontractor to provide fabrication and finishing for a mall remodeling project. Because the subcontractor was not licensed to perform construction services in California, it provided all work through a separate contracting company, which was a licensed California contractor. For several months, the general contractor made progress payments to the subcontractor without objection. Eventually, however, the general contractor refused payment, and the subcontractor filed suit for breach of contract.
* What the Court Said: The subcontractor was not entitled to seek recovery under its contract because it failed to comply with the contractor licensing requirement of the California Business & Professions Code.
* What the Opinion Means: Under California law, “no person engaged in the business or acting in the capacity of a contractor, may bring or maintain any action . . . without alleging that he or she was a duly licensed contractor at all times during the performance of that act or contract.” Contrary to the subcontractor’s contention, the statute does not require merely that the contractor be licensed in some state, but rather the contractor must be licensed in California. Further, the fact the subcontractor acted through a California-licensed contractor did not allow the subcontractor to avoid the licensing requirement because it was the party that actually entered into the contract with the general contractor.
8. Existence of Constructive Trust Between Owner and Subcontractor, Tabar, Inc. v. D & D Services, Inc., 601 S.E.2d 143 (Ga. Ct. App. 2004).
* What the Court Considered: A general contractor hired a subcontractor to replace certain air conditioning units with heat pumps in a building that was owned by a corporation. Although the general contractor was paid for the work done by the subcontractor, the general contractor failed to pay the subcontractor. The subcontractor then sued the corporation, the general contractor, and the general contractor’s president. The trial court granted summary judgment in favor of the subcontractor against all defendants, making no distinction between them. On appeal by the corporation, the subcontractor argued that all defendants, including the corporation, were holding the heat pumps supplied by it in a constructive trust for the subcontractor.
* What the Court Said: No constructive trust existed between the corporation and the subcontractor because the corporation was unaware that the general contractor had no intention of paying the subcontractor.
* What the Opinion Means: A constructive trust exists under Georgia law “whenever the circumstances are such that the person holding legal title to property, either from fraud or otherwise, cannot enjoy the beneficial interest in the property without violating some established principle of equity.” Here, the corporation paid the general contractor for the heat pumps and did not know, nor should it have known, that the general contractor did not intend to pay the subcontractor.
9. Liability Under Texas Deceptive Trade Practices Act, A. I. G. Constr. Co. v. Thomson, 2004 WL 2002556 (Texas App. 2004).
* What the Court Considered: The plaintiff approached a construction company regarding the potential construction of bulkheads and pilings on two projects. According to the plaintiff, he eventually hired the company on the basis of certain representations made by the company’s CEO. Following completion of the work, the plaintiff noticed that the work was defective and sued the company. A jury awarded damages to the plaintiff based on the construction company’s alleged violations of the Texas Deceptive Trade Practices Act (the “Act”). The construction company then sought to have the trial court enter judgment in its favor despite the jury’s decision.
* What the Court Said: The jury’s verdict was not reversed because there was at least a scintilla of evidence to support its decision that the company violated the Act.
* What the Opinion Means: The Act prohibits wrongfully “representing that goods or services are of a particular standard, quality, or grade, or that goods are of a particular style or model.” However, it is not a violation of the Act to make a representation that is merely a promise to perform under a contract. “In this case, [the CEO] represented to [the plaintiff] that he had the ability to perform the work in a good and workmanlike manner, a statement beyond the agreement the parties had for [the company] to drive pilings and build bulkheads.”
10. Conduct of the Parties as Evidence of Contract Abandonment, O’Brien & Gere Tech. v. Fru-Con/Fluor Daniel, 380 F.3d 447 (8th Cir. 2004).
* What the Court Considered: A joint venture acting as general contractor hired an engineering company to design and build six buildings in a paper-manufacturing complex. Throughout the project, there were numerous changes to scope, price, and schedule. In addition, the parties could not agree which set of documents defined the base scope of the work or the design stage from which work changes should be measured. The contract’s changes clause, which required the engineer to proceed immediately with change requests before a price had been negotiated, negatively impacted the engineer’s cash flow, thereby causing a breakdown of the work change process. Eventually, the joint venture fired the engineer because of a persistent failure to satisfy milestone deadlines.
* What the Court Said: The engineer was entitled to the reasonable costs of its work because the parties had abandoned the contract.
* What the Opinion Means: Under Missouri law, contract abandonment may be accomplished by “implied consent through the actions of the parties.” The scope, quantity, and frequency of changes may be factors that demonstrate that the parties have abandoned a contract. In this case, the parties working relationship was “outside the parameters of the contract, so much so that they could not even agree to disagree.” Thus, there was sufficient evidence the parties had abandoned the contract through their actions.
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. Ryan Stinnett is an Associate at Smith, Gambrell, & Russell, LLP. For more information or if you have any questions, contact us at: email@example.com.