An old hand in construction once told this writer that the income and risks in the typical construction job are inverted. The parties with the most risk make the least income, namely the subcontractors.
Another veteran put it more simply: the more one’s hands are on the tools and one’s feet get dirty, the less profit one makes and the greater the risk of the job going badly. Bonding companies, who seldom see the job, seldom face significant risk while the contractor and trades, in the trenches, face economic catastrophe if the job goes wrong.
The parties to the construction process - owners, developers, sureties, carriers, A/E's (architects and engineers), prime contractors, suppliers, and subcontractors - are becoming increasingly a wary of contract risks and financial exposure, and are focusing on the assignment of those risks to other parties. The owner usually establishes much of the initial contract framework for risk allocation: the owner may insist that the A/E’s agreement omits any type of limitation of liability. The prime contractor might have to decide if no-damage-for-delay and/or consequential damages clauses are acceptable in view of potential contract rewards.
On the next tier down is the subcontractor, whose contract usually carries many of the prime's risks and sometimes a few more. For example, it is not uncommon for subcontract agreements to contain a no-damage-for-delay clause that is not present in the owner/prime contract. What options are available to the subcontractor when he/she encounters such risky situations? One option is to not bid on the work, but a subcontractor who wishes to stay in business will often shun this option. Since subcontractors are virtually powerless to substantially alter the general’s standard form subcontract provisions, perhaps the answer lies in risk assessment and mitigation. Simply stated, although the subcontractor may be unable to control all aspects of the process, he/she is usually in a position to manage and control critical aspects of the process.
This article outlines various measures subcontractors can employ during the bid phase to minimize their financial exposure.
Many contracts contain some type of express or implied requirement that prospective bidders are to visit the site. The subcontractor will generally be responsible for the knowledge he/she would have gained had he/she actually made a site visit. If there is any possibility that information having a bearing on the price of the work may be discovered, a site visit is recommended.
This writer recently had a case in which the contractor had failed to visit the premises, had failed to note that next door to the job site was another construction site whose dust and other waste would make the finishing time for his trade double the anticipated time. When suggesting a change order to the owner, the subcontractor was shown the contract bid documents which warned each party to visit and inspect the site and stated, “Contractor hereby represents that contractor has physically inspected the site and makes this bid after full inspection of the premises.” My client commented that he had had two sick children and four bids to get out that week. Those excuses had no legal effect on his rights and he had to suffer his losses.
One of the most beneficial types of site visit is one made in the company of other members of the project team because the subcontractor can benefit from the other’s fields of expertise. Even though the successful prime contractor will not have been chosen, the subcontractor should make the effort to coordinate his site visit with that of the expected prime contractors.
A site investigation report should be written to include the investigator's general impressions regarding accessibility, local weather conditions, availability of utilities and any recognized problems. Opinions and suggestions offered by owner representatives should be covered. Comments concerning labor union manpower levels, anticipated cooperativeness and expected pay scales should be recorded. If photographs are taken, they should also be included. When complete, the report should be made available to all members of the estimating team who themselves should visit the site if they have any confusion as to its conditions.
Note: If the owner or general learns that something was discovered during the site visit that will or may increase the price for the subcontract work, it is important that other bidders are made aware of it so as to maintain a competitive situation. It is ill advised to allow a bidder to obtain a contract if he has been denied all of the pertinent available information. Even if you are one of the subs bidding on the job, you might want to make sure your competitors are aware of such factors. One way to ensure that this type of information is promulgated is to bring it up at the pre-bid conference. While your competitor may face economic catastrophe by failing to visit the job site and getting the bid due to poor bidding practice, the fact remains you lost the bid and his economic destruction will not help you meet your own payroll.
Most contractors review the pertinent contract forms prior to computing a bid price, but the process should go much deeper. Many owners and general contractors retain attorneys or experts to prepare the General Conditions portion of their contracts. Our office spends hundreds of hours a year doing precisely that for owners and general contractors. Because of this, the subcontractor should make a review specifically to point out any unusual or restrictive language, to assess his interpretation regarding the intent and impact of this language, and to outline ways of coping with problems which may result from the language. Examples of such language would include stringent notice requirements, lack of a changes clause, absence of a consequential damages waiver, etc. To fail to have adequate legal review of such clauses is to put the entire project at risk. As one sad subcontractor advised us when he first consulted us at the end of a construction project, “With this contract I was going to lose money no matter what happened during the project.” He was right.
In some jurisdictions, clauses such as No Damages for Delay and Owner's Representative Acting as an Impartial Arbitrator of Disputes have been struck down by the courts as being unenforceable. It is not prudent, however, to rely on the possibility that a clause is unenforceable. No Damages for Delay clauses and others like it should be negotiated out of subcontracts and the prime contractor should be encouraged to do likewise with the owner.
Bidders have an obligation to point out patent errors and ambiguities that they discover during the bidding process. However, they do not have an obligation to ferret out all hidden defects in the contract documents. If an error is found or a question develops, it should be pointed out to the owner or prime contractor and his response recorded in writing as protection against a changed ruling after bid. In addition, an error or discrepancy noted in the contract documents, which increases the price for the work and which is called to the attention of the owner, should maintain competitiveness between the bidders.
Waivers of lien or stop notice rights in contracts must be resisted in every contract. The Mechanic Lien and Stop Notice protections are vital for subcontractors who should also make sure that they strictly conform to the notice requirements imposed by such legal remedies. See our article on Mechanics Liens.
A word of caution regarding contract ambiguities: The test of an ambiguity is whether or not there are two or more interpretations which can be deemed reasonable, particularly in the local jargon of the trade. Ambiguities are often construed against the drafter of the contract document, but if an apparent ambiguity is found, it is best to inquire in writing because there is no certainty regarding the ultimate resolution of ambiguities. Any covert plan to capitalize on a contract ambiguity or omission at a later date is not recommended.
During the bid phase consideration should be given to the time frame in which the work is to take place, and the form of the subcontract agreement which the prime contractor later expects his subcontractors to execute. Many subcontractors purposely avoid investigation of timeframes and contract format because they are aware that, once the information is in their hand, they must either agree, or create an early confrontation by voicing their objections through bid qualifications, which may result in their bid being considered non-responsive. Regardless, it is imprudent for a subcontractor to seek work without at least some preliminary mutual understanding of what the prime contractor expects in these two areas.
The subcontractor is at times not going to be willing to sign the prime's subcontract, as a matter of good business sense, and at times the prime contractor is not going to be receptive to the modifications that the subcontractor suggests or requires. However, as a practical matter, work should not begin without a signed contract.
The project's original estimate, complete with site investigation report, contract analysis, vendor quotes and quantity takeoffs should be bound and maintained in a secure location. This is a key document that indicates intent of the subcontractor and describes the conditions and work which he/she has contemplated and tendered a price on. It should as a matter of course contain an estimating schedule, manpower loading chart, major equipment loading chart, and cash flow analysis. The last is an important item in the later establishment of entitlement to interest on compensable damages. It does not matter if borrowing costs are calculated and the profit margin is reduced accordingly to maintain the same bid value; whatever can be established as being routinely contemplated and practiced in the estimating procedure is strongly arguable as applicable to calculations of compensable damages. In the same vein, qualifications, exceptions, unit price composition, insurance rates, labor escalation, overhead, and G&A percentages and rates used should be clearly denoted in the original estimate.
A standard format should be developed for all estimates. At the completion of a successful bid, an estimator or cost engineer should be assigned to immediately put the original project estimate in the format of a control budget. While it is fresh in his mind, an estimator can organize this file and add whatever explanatory notes are required. This requires only a short time and the cost is far outweighed by the potential benefits should a dispute arise in the course of construction. Good estimate documents constitute some of the best evidence and can be persuasive when properly compiled and maintained. One of the reasons that original estimates are not used to resolve many construction claims is that they are incomplete and too poorly developed to be useful.
Once on-site, an early task for the project manager should be to refine the project bid by breaking down the estimate to a preliminary cost-loaded schedule and man-loading curve. It is preferable to have the prime contractor's preliminary schedule in hand when doing this, but it is not unusual to find that the prime's first formal construction schedule is considerably different from the schedule the subcontractor developed based on bid phase information supplied by the prime or owner. It is therefore sometimes more advantageous for the subcontractor to develop his formal schedule first and then try to get the prime to incorporate it into the project's overall schedule.
In either case, the time to determine reasonable durations and manpower utilization is at the time the first formal schedule is being developed and negotiated. Even though in most instances the subcontractor will ultimately have to conform to the prime's schedule, it is still important to refine the estimate at this point. It is essential to see how different the actual project's plan is from that which had been expected during the bid phase and to determine the possible impacts on the subcontractor's estimate. This exercise can reveal how much fighting or persuading is required to get as close as possible to a compromise on bid phase expectations. There will often be the odd case in which the prime contractor's formal schedule will differ so radically from the subcontractor's bid phase expectations that the subcontractor will be forced to proceed under protest, but this should only be done as a last resort. Any such protest must be in writing delivered to the relevant parties and legal advice is strongly recommended.
Once the schedule has both the prime's and the subcontractor's concurrence and is submitted to the owner, it should again be resource and cost-loaded. This is the schedule that the parties have agreed to work under, and unless the subcontractor is already proceeding under protest, it will be considered the baseline. From this point onward, every updated version of the schedule can be compared to the original immediately upon receipt to determine changing requirements and allow timely notification to the prime if those changes adversely affect the subcontractor's operations.
Another early task to accomplish is the establishment of an overhead rate to apply to change order markup. This rate should be broken down into two categories: 1) Labor related costs, and 2) time-related costs. The labor-related number should contain as many items of costs as possible since most changes will affect labor. The time-related number is for additional application to changes that have time extensions involved. Overhead items that should be considered when deriving these rates are as follows:
Supervision, engineering, job office, travel and subsistence, ground rental and leases, telephone and telegraph, safety and first aid, photographs, professional services, travel pay, health and welfare fund payments, pension and vacation fund payments, financing costs, miscellaneous and general expenses, equipment and property insurance, auto and truck insurance, specific risk insurance, health and accident insurance, licenses and permits, sales and use tax on equipment, site preparation costs, office maintenance, shops and sheds maintenance, power installation and distribution, communication systems, water system, hand tools and supplies, small equipment, power, heat, drinking water, autos and pickups, miscellaneous hauling, move-in and move-out expenses, payroll levy on overhead and contract bond expense. In short, every subcontractor cost that will increase if the job is extended beyond the original completion date, or if additional labor is required, should be considered.
Construction drawings should obviously be coordinated in advance of actual construction. Designers expect this coordination to take place and most contracts make it a requirement, not only to detect interferences with other trades, but also to allow the respective trade subcontractors to impose their own expertise onto the design. Coordination should not be performed in a perfunctory manner, as it is the subcontractor's opportunity to conform the design to practical constructability and he/she should use people who understand the relevant structural, mechanical and/or electrical drawings. Ideally, the project superintendent would also be involved in both the planning and checking phase of the drawing coordination.
From a potential future claims standpoint, certain safeguards need to be included in the drawing coordination activity. First, a sepia of the original contract drawing should be made and stored in a safe place. This is the record of the as-bid contract condition and should be stamped as such. The original is then used to make working copies for coordination drawings and it should be updated continually to reflect changes by the owner. Revisions should be noted on the drawings in sufficient detail to provide a traceable record of the history of revisions. In this manner, the original contract drawing will eventually evolve into the project's as-built drawing. A drawing revision log should be maintained, along with a file of the directed changes. If a claim should develop regarding defective and deficient contract documents, the sepia of the original can be quickly contrasted with the updated drawing and the revisions log to reflect the magnitude of the defects.
The foregoing is a general approach; all projects will be different to some degree. For instance, there are projects on which the owner furnishes an updated reproducible with each change, saving the contractor the effort required to make the alteration. In this case, the important item is to first review the changes to ensure they are understandable and completely identified. Then, a complete, easily followed record of all changes should be maintained.
The sooner all submittals are in and approved, the sooner the subcontractor's exposure to the danger of delaying his own or other's progress is reduced. This should be completed early in the project. When something goes wrong, the subcontractor does not want to be in a position in which the prime or other subcontractors are able to cite his/her tardy submittal process as being contributory to the problems. Furthermore, as soon as submittals are approved, the subcontractor is in a position to place orders and firm up prices. Also, and very importantly, a quick and thorough submittal effort will ensure that the project documentation trail will not become clouded with offensive paper. All submittals and approvals should be logged and filed in a systematic manner.
A program of regularly scheduled job progress photos should be embarked upon even before construction begins. Pre-construction conditions shown by photographs can serve to negate claims of damages to existing conditions and claims of negligence. They can also serve as excellent evidence of changed conditions. Further, as-built schedules are very useful in claim preparation and are usually time consuming to compile retrospectively from project documentation. Progress photos often fill in the "gaps" should a claim arise in the future.
Every job should have a camera on-site to record scenes of accidents and situations which may later become the subject of contention. Such situations are alleged by defective work and differing site, or other conditions to which the subcontractor may object. Many contracts require that the owner be supplied regular job site photos but even in the absence of this requirement, the subcontractor should take it upon him/herself to compile and maintain a complete set of photographs.
A small tools and equipment inventory should be kept and periodically revised so as to update overhead percentages for change order markup. Major equipment should be constantly accounted for, including dates of transfer on and off the project, and idle and repair periods. A corporate equipment superintendent who transfers equipment from project to project and establishes both internal and external corporate equipment rates is a valuable asset. His/her records should be computerized for printout by project.
An updated equipment rate schedule should be maintained at the project for change order pricing. Many contracts provide for a particular rate schedule, and in these cases, the equipment should be assigned the appropriate rate immediately upon arrival. When no rate is available, the project personnel should endeavor to obtain owner or prime contractor agreement as to the acceptable rate schedule early in the project, preferably before the first change order is priced.
Equipment records are important to future claims. This is the area in which most subcontractors delude themselves regarding actual project costs and often fail to recover a fair amount in claims simply as a result of forgotten equipment or lack of proof of equipment being on-site. The superintendent's daily diaries should record any equipment arriving, leaving, working, idle or under repair. If such records are complete and routinely kept, they will generally be considered evidence of the facts.
As in a marathon race, a construction project may be “won” or “lost” at any stage of the work and errors before the ground is broken are actually the major cause of unprofitable jobs for contractors. All know that bidding badly means a project, in which everything goes right, can still lose money. Equally vital is to take the preconstruction steps above since errors there can make a good job installing irrelevant to the bottom line.