Focus On Construction/Infrastructure - October 2009

Contents

• The Inter-Relationship of Risk Management - Provisions in Construction Contracts: Part 2
• Legal Implications for Green Building - Part 2: Practical Tips to Reduce Risk
• The Use of Performance Specifications

The Inter-Relationship Of Risk Management - Provisions In Construction Contracts: Part 2
By Phillip J. Scheibel, Calgary

In a previous article we highlighted the need for contract drafters to give consideration to the inter-relationship of common risk management provisions in construction contracts and specifically reviewed the relationship between a maximum liability clause and the requirement to obtain a performance bond in a stipulated amount. The within article explores the potential concerns that arise when parties tie a maximum liability clause to the insurance provisions in the contract.

The inter-connection between maximum liability clauses and insurance provisions is most often found in contracts involving design professionals and engineering firms, although they are also seen in standard terms and conditions relating to the sale of goods. Most commonly, one encounters a contract that states any liability is limited to the extent that such liability is covered by the insurance in effect or, alternatively, that liability will be limited to the amount of insurance required by the contract.

The first concern that arises from such provisions is of primary import to the owner or purchaser. Making an ability to recover damages contingent on the presence of insurance is a risky proposition that may preclude or severely limit recovery. For example, what if the policy was never purchased, was cancelled, or simply lapsed? What if the insurer denies coverage? What about per claim, aggregate and multiple or successive contract issues? What if legal fees and expenses reduce the limits of the policy?

The second concern that arises is of significance to both contracting parties. The problem with connecting maximum liability provisions to insurance coverage and policy limits is that ambiguity frequently results as to what the actual liability limit is. As is well known to those in the industry, the problem with ambiguity is that it is the life blood of litigation.

The potential ambiguity is illustrated by the following example from a case the author litigated. In an EPCM contract the engineer represented it would perform the services with the standard of professional skill, diligence and care customarily applied by others performing similar services for similar projects. The engineer then stated its maximum liability for a breach of this provision would be limited to:

The obvious ambiguity or uncertainty created by the clause is the nature of the claim and whether the claim is pursuant to the standard of care provision and therefore caught by the maximum liability provision, or otherwise, in which case there is no liability cap whatever. The next question, assuming the claim falls within the standard of care provision, is whether it is covered by insurance. These problems can be magnified in the EPC or EPCM context where the engineer provides multiple services with the result the claim can be characterized in different ways. A further ambiguity, particularly as it relates to the errors and omissions insurance, is whether there are single or multiple claims. Finally, when there are various limits for different claims, there is often uncertainty as to the aggregate liability.

A recent reported example of uncertainty over the actual maximum liability where the liability limit was tied to insurance is SaskPower International Inc. v. UMA/Black & Veatch Ltd., 2007 SKCA 40. The contract in question was for engineering services for the construction of a cogeneration facility at a potash mine. The contract provided for a $10 million fee to the engineers and required the engineers to obtain a $10 million errors and omissions policy with a deductible not to exceed $500,000.00. The contract limited the engineers' liability as follows:

A lawsuit ensued and the owners claimed $18 million against the engineers. The engineers argued that if the owners' insurance applied, their liability was limited to $500,000.00 and in all other cases, their liability was limited to the amount the owners paid the engineers. As the parties agreed the owners' insurance applied, the engineers argued clause (a) limited their liability to $500,000.00 and clause (b) was not engaged.

Conversely, the owners argued clause (a) limited liability to the amount of insurance (where it applies) plus the deductible, and that clause (b), if and to the extent coverage did not apply, limited liability to the amount paid to the engineers. As the parties agreed the insurance applied, the owners argued the engineers were liable to the extent of the coverage ($10 million), plus the deductible, and then liable for the excess amount, but not exceeding the amount paid to the engineers.

The Saskatchewan Court of Appeal agreed with the argument advanced by the owners, such that the entire $18 million claim could be pursued.

In summary, connecting limitation of liability clauses to the insurance provisions can lead to ambiguity and uncertainty as to the actual limits of liability and therefore to unexpected results. The SaskPower case starkly illustrates the dangers, as one party argued its maximum liability was $500,000.00 while the other party argued its entire $18 million claim could be advanced. Generally speaking, the practice of linking the two clauses ought to be avoided. If a party wishes to limit its liability, it should do so expressly and independently of other contractual provisions. Proceeding in this manner should bring clarity to a party's potential liability regardless of the nature and characterization of the claim being advanced and irrespective of whether it is covered by insurance.

Legal Implications For Green Building - Part 2: Practical Tips To Reduce Risk
By Karen Martin, Vancouver

In Part I of this article published in May 2009, we reported on the American experience with legal claims arising from the green building movement. At this time, there have still been relatively few litigation cases and to our knowledge, no reported cases with helpful judicial reasoning on green building issues. However, based on experience, we expect that there will soon be significant green building disputes making their way through the American and Canadian legal systems.

Lessons learned from litigation often fuel new approaches in contract drafting and construction project management, however, prudent owners, contractors and design professionals are taking steps now to reduce the risks inherent in construction projects with a focus on sustainability, such as projects seeking LEED" certification. The fact that no one participant has complete control over the ability to achieve the desired LEED" certification creates significant legal risk.

At the front end of a project, drafting contracts during the construction phase, best practices are being developed to reduce risk. In the balance of this article, we outline some of our recommendations for prudent steps to take to minimize risks on these exciting projects.

Project Development and Procurement Phase

• retain consultants and contractors with demonstrated expertise and experience
• develop processes to ensure your team is fully aware of all current regulatory requirements, as these are changing rapidly
• develop a written overall strategy and detailed plan early in the project for achieving LEED" certification
• all parties should be cautious of making promises in relation to green issues. These could result in an enhanced standard of care or form the basis of misrepresentation claims
• consult an experienced construction lawyer for a review of your procurement documents to ensure they give you the desired ability to consider important green issues in bid evaluation and contract award decisions
• consider the potential impacts on the project as well as legal liabilities associated with the use of new products, designs, technologies and construction methods
• analyze early and account for the impact on project schedule of the use of new approaches and of the implications of the LEED" certification process

Contact Drafting

• Do not use the standard form construction and design contacts without consulting an experienced construction lawyer for advice on recommended amendments to address and allocate appropriately the risks of green building. There are significant changes to be made to these contracts to address the risks.
• Avoid the use of vague terms like "green" and "sustainable" in contracts unless defined.
• Identify in your contracts expressly and specifically the party responsible for particular steps in relation to achieving green goals such as for obtaining specific categories of LEED" points, preparation of required documentation or taking steps in the certification process.
• Specifically address what happens if certification is not achieved, including considering contractual provisions such as holdbacks that take account of the fact that certification is typically not achieved until long after substantial completion.
• Consider and address available insurance.
• Address the desired scope of "no consequential damages" and limitation/exclusion of liability clauses. These typically eliminate a remedy for owners who lose tax credits, rents or sales, and other financial consequences due to a failure to achieve LEED" certification. They also typically prevent claims for recovery of losses flowing from claims by third parties, such as purchasers or users of the building. An owner to whom achieving LEED" certification is important may want to amend these clauses to ensure there is a remedy for failure to achieve certification.
• In design consultant contracts, avoid language amounting to a guarantee or warranty of performance, which will be excluded from the consultant's insurance coverage.

Design and Construction Phases

• Designers should take care to fully investigate (not relying solely on manufacturer's sales literature), test as required, and report the risks clearly to their clients in relation to the selection of new materials so that fully informed decisions can be made.
• Contractors and designers should allow for additional time in the schedule and budget for the time associated with using new materials and methods, increased designer inspections and approvals, and enhanced quality assurance progress.
• Establish a written procedure for dealing with LEED" issues such as ensuring proper documentation is being maintained, contemplated changes that may affect a LEED^TM point, or Credit Information Requests to the Canada Green Building Council.
• Since no one party will be responsible for achieving all LEED points, project procedures that enhanced communication and cooperation are warranted.
• Consider necessary training for construction personnel in relation to new materials and methodologies.
• Devote greater time, effort, and expertise to commissioning to fully address green issues.
• Devote more resources to operating and maintenance manuals and training of owner staff.

Disputes will arise on green building projects. When they do, a proactive and pragmatic approach to investigation, analysis and resolution of the dispute will help you avoid your project becoming the first reported green building case in Canada.

The Use Of Performance Specifications
By Robert Simpson, Calgary

One of the three essential elements of any construction contract is a complete description of the work that the contractor is required to do. In most construction contracts, this is accomplished by providing the contractor with detailed construction drawings and specifications. Often, however, disputes arise as a result of the information contained in construction drawings and specifications being incomplete or ambiguous.

Even when specifications are complete and there is no ambiguity as to what the contractor is required to do and the contractor follows the specifications provided to it to the letter, disputes can arise if the end product doesn't perform as expected or required. This happens when the specification fails to properly detail the steps required to be taken to do the work in the appropriate manner.

Performance specifications, however, avoid the problems that can arise from a faulty or defective specification as performance specifications describe the results that the contractor is to achieve as opposed to the methodology to be used to construct the work to achieve those results.

Building codes often use performance specifications to dictate the results to be achieved in the construction of a building. For instance, the Alberta Building Code provides that a building envelope is to be constructed so that it is water tight¹. Obviously if this type of specification is used, it is up to the contractor doing the work to determine how the result is to be achieved, which transfers the design responsibility to the contractor for that element of the work.

While there is merit in using performance specifications, it is not appropriate to do so in every situation. The nature of the work and the sophistication of the party performing the work must be considered first. It is not appropriate to use performance specifications if it is intended to incorporate a new design or methodology for achieving the desired result or if the work to be done is not the usual type of work performed by the contractor. In these circumstances, it is best to set out explicit directions on how to do the work in the specifications.

Performance specifications, however, are appropriate and most often used when the contractor has specific expertise in doing the work. For instance, speciality equipment manufacturers are often required to provide equipment that meets the purchaser's performance requirement for the equipment being purchased. Likewise, speciality trade contractors, even without knowing it, are actually doing work according to a performance specification. The electrician hired to wire a new house under construction is seldom provided with any specifications for the work it is to do. It is up to the electrician to ensure that he wires the house in accordance with the applicable code and so that it provides the electrical outlets and lighting usually required by a homeowner. It is only when the homeowner requires something specific or different than the norm that a performance specification will be inappropriate.

The use of performance specifications is very useful in defining what a contractor is to provide but care must be exercised to determine if and when it is appropriate to use performance specifications.

Footnote

^{1. Alberta Building Code, subsection 5.6.1.1}

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.