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The Pandemic Part II: Legal Strategies for Contractors to Survive the Surging Price Increases and Delays in the Later Stages of the Pandemic

by Joseph C. McGowan

The COVID-19 pandemic is infamous for vicious twists and turns, but few could have expected the skyrocketing prices and delays currently faced by contractors in mid-2021.  Prices for lumber, steel, and fuel have all increased dramatically with commensurate delays in delivery times.  The shrinking labor force has been a concern for several years now, but no-one could have foreseen the current shortage of construction workers.

These shortages and delays can be devastating to contractors entering into fixed-price or guaranteed maximum price contracts.  Many of our clients have asked about the legal grounds for seeking relief from project owners in the wake of such cost increases and delays.

The viability of such a claim depends upon a variety of factors, including the contract language, the extent of the price increase on your contract, the cause of the price increase, and the attitude of the owner.

Generally, a contractor entering into a fixed-price contract bears the risk of increases in materials or supplies to perform the contract.  However, there are situations, such as where there is an escalation clause or an owner-caused delay, in which an equitable adjustment is clearly allowable.  Even in the absence of an express contract clause or owner delay, the legal framework exists for making such a claim in extreme situations.  This article will discuss the legal precedent for a materials and labor escalation claim and key facts that can be presented to support such a claim in the current environment.

A.  Factual Background

Prices for construction materials are said to be up across the board from concrete to PVC materials, fuel, steel and appliances.  The most dramatic increase appears to be that of lumber, with some authorities claiming a 350 percent increase during the last year.  It is reported that the price increase for lumber is particularly dramatic because lumber mills anticipated an economic crash from the pandemic, and sold their inventories while slowing production.  

Fluctuations in the prices of materials and services is nothing new, and sometimes track an increase in bid prices.  During the last year, however, materials and services costs, on average, have out-paced bid prices by more than 10 percent, according to a “Construction Inflation Alert” prepared by the Association of General Contractors of America based on producer price indexes.

Similarly, the AGC reports that 54 percent of contractors’ report difficulty in finding qualified workers in 2021, another fact that will lead to additional labor costs.

Many contractors who entered into fixed or guaranteed maximum priced contracts prior to, or during the early stages of the pandemic, may be facing double, or even triple-digit losses, depending upon the work involved.  Others are impacted by potential delay damages due to the pandemic’s shortages and supply chain issues.  These contract contractors have several legal arguments they can make to seek relief from their clients.

B.  Economic Price Adjustment Clauses

The contractor’s best opportunity for succeeding in a price escalation claim arises where the contract provides an express economic price adjustment clause or similar language.  Such a clause provides for an adjustment to fuel, steel, concrete, or other material prices where the cost of these materials increases or decreases.  Usually, the changes are keyed to an index provided by the public entity or some other generally accepted survey.  All contractors should examine the special and general provisions of their contracts for clauses that allow economic price adjustment.  At least 38 states allow for price escalation specifically for fuel to be inserted in public works construction projects.  For a list of these states, refer to the AASHTO Subcommittee on Construction, Contract Administration Section, Survey on the Use of Price Adjustment Clauses,” which can be found here. The Federal Acquisition Regulations also allow for use of  Economic Price Adjustment on certain federal projects.  See, also, Federal Acquisition Regulation 52.216-4.

C.  Claims Based Upon Owner-Caused Delay

Contractors may also claim an escalation in materials and labor costs for owner-caused delays or suspensions which result in the contractor performing the work after the price increase.  For example, in George Hyman Construction Co., ENGBCA No. 4541, 85-1 P17,847 (1985), the board of contract appeals determined that the government delayed a subway station contractor by failing to provide the contractor sufficient access to the site.  In addition to other delay damages, the board awarded to the contractor the escalation in price for materials and supplies that occurred during the period of delay.  The board allowed the escalation to be calculated using the price tables found in Engineering News Record.  Needless to say, such a claim is particularly necessary where the prices increase as dramatically as they have during the last year.

Contractor’s driven into the pandemic period by owner-caused delays occurring prior to the pandemic have a significant escalation claim.

D.  Claims Based Upon the Doctrines of Impracticality, Mutual Mistake and Force Majeure.

Absent either an express escalation clause or an owner-caused delay, there are several legal theories that have been asserted, with limited success, by parties seeking an adjustment of price based on increased materials, labor or energy costs.  The most common are (1) impracticality, (2) mutual mistake, and (3) contractual relief via so-called “force majeure” or “acts of god” provisions.  

1. Impracticability

Courts in California and other jurisdictions have allowed a party to modify or be excused from performing a contract where performance of that contract would be impractical, as courts have defined this term.  It used to be that a party was only excused from performing its contractual obligations where the contract was literally impossible to perform.  Starting with the California case Mineral Park Land Co. v. Howard (1916) 172 Ca. 289 (“Mineral Park“); however, courts have softened this rule to allow a party to avoid performing a contract where the unreasonable cost of performance makes it merely “impractical.”

In Mineral Park, a contractor building a bridge entered into a supply contract with a property owner to take from the riverbed on the property owner’s land all of the required gravel and earth necessary to build the bridge.  The price for the gravel and earth was set at a fixed price per cubic yard.  After taking about 50,000 cubic yards of the materials, however, the contractor procured the remaining 50,000 cubic yards necessary to complete the project from a different source.  The contractor used a different source because, although sufficient gravel and earth was present at the riverbed, the remaining material was under water, and it would have cost the contractor ten to twelve times as much to remove and dry the material as it would to procure the materials elsewhere.  Thereafter, the property owner sued the contractor for the money the owner would have earned had the contractor taken all of the gravel and earth from the riverbed.  

The court rejected the property owner’s claim, and instead modified the contract between the parties on the basis that enforcing the original agreement would have required the contractor to bear “an excessive and unreasonable cost.”  The doctrine of impracticality, first discussed in this case, was later adopted by the Restatement Second of Contracts section 261, the Uniform Commercial Code section 2-216 and by courts throughout the United States.

A contractor experiencing a devastating increase in materials and labor costs could argue, as they did the contractor in Mineral Park, that the price increase made performance “impractical.”  This may mean relief from performing a portion of the contract, or renegotiation thereof.  The types of information that can be submitted for such a claim are discussed in Section “E.”

2. Mutual Mistake

Another legal theory that has been successfully argued to obtain a change order is the doctrine of mutual mistake.  Courts in California and other states allow a contract to be voided or modified where the parties were mistaken regarding some basic or material fact that caused the plaintiff to enter into the contract.  

The best known case allowing a reformation of the contract based upon a mutual mistake as to energy costs, is Aluminum Company of America v. Essex Group, Inc. 499 F. Supp. 53 (W.D. Pa. 1980) (“Alcoa“), a case involving a long term contract for Alcoa to supply Essex with aluminum.  To determine the price for the aluminum under the contract, the parties inserted into their contract a complex pricing formula based upon labor costs, materials costs, and a host of other factors.  This formula, however, failed to adequately adjust the price of aluminum after the OPEC crises and other world events caused a drastic increase in the price of electricity.  As a result of Alcoa’s increased electricity costs, Alcoa stood to lose $60,000,000 under the contract.  

In an attempt to recover these costs, Alcoa sued to have the pricing mechanism modified on the theory that the parties had been mutually mistaken about the effectiveness of the pricing formula.  In analyzing the issue, the court considered whether the doctrine of mutual mistake could be applied solely to mistakes regarding existing facts, or whether it could also be applied to predictions regarding future facts.  Unlike many courts, the Alcoa court found that a mutual mistake could be applied to the prediction of future facts.  Based upon this determination, and the finding that Alcoa stood to lose $60,000,000 as a result of the mistaken prediction, the court granted the request and modified the contract between Alcoa and Essex.

Although the Alcoa case is distinguishable on a number of grounds, contractors experiencing a drastic increase in materials and labor in conjunction with the pandemic could make the argument it entered into a fixed price contract under the assumption that materials and labor prices would remain reasonably stable.  The type of evidence that can be submitted is discussed in Section “B” below.

3. Force Majeure Clauses

The presence of a “force majeure” or so-called “act of God” clause in a construction contract may also support a contractor’s price escalation claim.  A typical force majeure clause in a construction contract states, “[i]f Contractor is delayed in the performance or progress of the Work by fire, flooding of the site, epidemic, abnormal weather conditions, act of God . . . or other causes not the fault of and beyond the control of the Authority and Contractor, then Contractor shall be entitled to an equitable adjustment in Contract Times.”  A contractor may be able to seek some relief by arguing that the increase in fuel price was “beyond the control” of the contractor.  To determine if this is possible, the force majeure clauses of each contract should be carefully examined. 

In most instances, however, force majeure clauses provide little additional relief beyond what is provided by the doctrine of impracticality.  Moreover, clauses such as the one quoted above, generally only excuse “delays” to the project.  They do not allow additional compensation, or excuse other performance issues.

E.  Evidence A Contractor Can Submit to Request an Equitable Adjustment

The theories of impracticality, mutual mistake and force majeure can be boiled down to two primary requirements issues.  These are:

  1. A showing that the price increase was so unforeseeable that it was a basic assumption of the parties that no such price increase would occur; and
  2. A showing that the price increase was so drastic that it would be impractical for a contractor to carry out the contract.

To meet the first of these requirements (that the price increase was unforeseeable), we suggest that contractors:

  • Refer to the contractor’s written, pre-bid estimate of costs for the project, and break out (or extrapolate) the amounts estimated for fuel costs.  These numbers should demonstrate the contractor’s expectations for diesel prices;
  • Request the owner to provide a detailed breakdown of the engineer’s estimate for the project.  This would show the owner’s “basic assumptions” regarding fuel costs; and
  • Show statistical data regarding the stability materials and labor prices leading up to the start of the pandemic.  This would demonstrate that the contractor and the owner were reasonable in expecting the price to remain relatively stable.

To meet the second of these requirements (that the price increase made the contract impractical), we suggest that contractors:

  • Show the actual costs that the contractor paid for materials and labor, demonstrating that these costs drastically exceeded the contractor’s budget for the project;
  • Show the price increases through market data, demonstrating that the price increase was beyond the control of the contractor;
  • Demonstrate that the price inflation increased the contractor’s costs on the project a significant percentage over and above its original estimate; and
  • Attempt to tie the increase to a specific pandemic-related event that is clearly beyond the control of a contractor.

If you are in need of an experienced litigator, please contact the firm of Rogers, Joseph O’Donnell, a firm specializing in construction law, government contracts, employment law, environmental law, retail trade, white collar crime, Attorney Liability and Conduct, Cybersecurity and Privacy, and Complex Commercial Litigation.

 

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