Kevin P. Wallace, Matthew Dials and Peter Lotfalla | Troutman Sanders
As local and state authorities begin gradually lifting COVID-19 pandemic related governmental stop work orders, the construction and real estate industries are grappling with the question of how to recommence on-site work. Whether it be adjusting work sequences to accommodate social distancing guidelines or scouring supply chains to keep material deliveries on schedule, the real estate and building industry is confronting immediate challenges to keep projects on schedule and within budget.
Similarly, owners should immediately take steps to prepare for the flurry of potential COVID-19 related claims that will become pervasive across the industry as contractors seek additional compensation and schedule relief in response to the COVID-19 construction shutdowns. The following outlines the steps they should take in response to potential claims which include: (1) understanding and preserving contractual rights, (2) analyzing the project schedule for non-COVID-19 related delays, (3) mitigating and tracking any potential impacts to the project schedule, and (4) finding an effective path forward to complete the project.
Step 1: Understand and Preserve Contractual Rights.
Before responding to any delay notice or change order request from a contractor, it is important to first take the time to understand your contractual rights. Depending on the magnitude of the potential claims, legal counsel and other consultants should also be engaged to help frame narratives and guide negotiations from the outset. For delay claims arising from COVID-19 shutdown orders, contractors will likely rely upon their contract’s change in law, force majeure, and change order provisions to seek additional compensation and time extensions. These provisions (and others) should be closely scrutinized to ensure that any conditions precedent to entitlement are enforced. For example, many force majeure provisions contain strict notice requirements whereby a contractor will be deemed to have waived claims for additional time or increased general conditions costs if notice is not provided in accordance with the contract. Likewise, a contract’s no escalation provision will govern whether the contractor is entitled to increased costs for materials as a result of the delay. The applicable governmental order should also be analyzed to determine the impact on the specific project, particularly in the event a project was exempt from the order, in full or in part as defenses to the claim may exist.
Additionally, the owner should direct the contractor to strictly enforce its subcontracts including any no-damages-for-delay provisions, no escalation provisions, notice requirements, and other conditions to entitlement (including any provisions in the prime contract that are incorporated by reference into the subcontract). Avoiding non-compensable subcontractor claims is mutually beneficial to both owners and contractors.
Step 2: Analyze the Project Schedule for Non-COVID-19 Delays.
It is important to bear in mind that not all delays are created equally. Although a contract may afford certain COVID-19 related schedule relief to a contractor, such relief may not be available if there were concurrent delays attributable to the contractor or its subcontractors. Accordingly, in analyzing the schedule delays, the following questions should be asked:
- Was the project shut down (in part or completely) due to a COVID-19 governmental order?
- Was the project on schedule before the issuance of the applicable COVID-19 governmental orders?
- Were any of the delays caused by the contractor or its subcontractors?
- Were there prior or pending claims for schedule delays before the onset of COVID-19 impacts?
- Was the contractor entitled to any relief for such claims?
Evaluating responses to these questions will shed light onto the rights of the parties and potential defenses to a contractor’s claim. In order to fully assess the above questions and any alleged impact from the COVID-19 governmental orders, costs and schedule consultants may be necessary and their engagement should be considered at the outset of such analysis.
Step 3: Mitigate and Track the Impacts to the Project Schedule.
Almost all contracts will obligate the contractor to mitigate delays and damages, and such obligation may be implied even absent an express provision. The contract may also require the contractor to submit schedule analysis and cost back-up documentation to support any request for additional compensation and time extensions. That said, owners should also be proactive on these issues by seeking information from the contractor in response to any early notice of potential claims.
From the outset, you should remind the contractor of its obligation to mitigate any claim delays, which may include the contractor proposing a work plan to reduce costs and minimize any time impact to the project’s schedule. The contractor should clearly identify any costs that it would seek the owner to pay arising from the mitigation measures. The contractor should be directed to separately track and report costs and delays allegedly arising from COVID-19 impacts versus other non-COVID-19 project costs (including with respect to any alleged increases to the contractor’s general conditions). Such work plans should be scrutinized to ensure that the contractor is not commingling costs and delays arising from COVID-19 and other causes or concurrent delays.
Step 4: Find an Effective Path Forward to Complete the Project.
The guiding principle for owners should be to complete the project as cost-effectively, quickly and safely as possible, and contractors will be key to accomplishing this goal. Accordingly, owners will be well served to engage with their contractors early and often to resolve any potential COVID-19 related claims.
In response to a contractor’s claim for additional compensation or an extension of time, the owner has the following options:
- negotiate the contractor’s claim and execute a change order reflecting the approved amount,
- reject the contractor’s claim, or
- issue a “construction change directive” or “directed change order” whereby the contractor must proceed with designated work pending resolution of the dispute.
If a claim exists that cannot be promptly resolved, many contracts require the parties to continue performance during any good-faith dispute so long as the contractor performs its work and the owner makes payment of undisputed amounts. If necessary, the parties may agree to an interim solution that advances the project, subject to a mutual reservation of rights under the contract.
The goal, however, should always be to complete the project and mitigate the potential impacts. The dispute will center on the overall amount of damages, which to the benefit of both owners and contractors, will decrease upon completion and make settlement more likely. This may be achieved by the parties negotiating a closeout agreement upon substantial completion that resolves any remaining COVID-19 related disputes as well as any other claims and backcharges that have arisen during the project.
Key Takeaways.
COVID-19 has impacted the construction and real estate industries unlike any other event in recent history. Although these industries face a myriad of urgent issues to address in the coming days and weeks ahead, interested parties should also be considering potential claims and disputes months and even years away. To the extent possible, therefore, the foregoing steps should be taken by owners and developers now to protect against future claims and disputes associated with impacts caused by the COVID-19 pandemic.