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 *NEW   REFERRAL FEE$$$$$$$$$$ By Sam K. Abdulaziz, Abdulaziz, Grossbart & Rudman
IMPROPER POST-AWARD CONTRACT PRICE NEGOTIATIONS UNDER THREAT OF “TERMINATION FOR CONVENIENCE” By Daniel F. McLennon McLennon Law Corp.  (PART 1, PRIVATE WORKS)
CALIFORNIA APPELLATE COURT HOLDS THAT A CONSTRUCTION MANAGER ON A PRIVATELY OWNED PROJECT DOES NOT NEED A
CONTRACTOR’S LICENSE
Construction Change Directives
DON’T LET YOUR PROFITS GET MOTHBALLED WITH THE CONSTRUCTION PROJECT!
Scott Holbrook Elected to Board
San Diego Deputy DA Honored for Helping to Protect the Construction Industry!
Actions a Contractor Can Take to Help Survive Tough Economic Times
AN OVERVIEW OF THE ADDITIONAL LEGAL EXPOSURE A CONTRACTOR MAY ENCOUNTER IN CONSTRUCTING A GREEN BUILDING
THANK YOU LETTER WRITERS FOR SB802!!

IMPROPER POST-AWARD CONTRACT PRICE NEGOTIATIONS UNDER THREAT OF “TERMINATION FOR CONVENIENCE” By Daniel F. McLennon McLennon Law Corp.

(PART 1, PRIVATE WORKS)
In this tough economic climate, with contractors vying for the little construction work available and driving down construction costs, owners have been tempted to threaten “termination for convenience” to force contractors to “renegotiate” the contract price after the contract has been entered, and even after construction has started. Some owners have succumbed to this temptation and extracted price concessions from contractors. Is this practice legal in California, or does it expose the owner (or general contractor who obtains concessions from subcontractors) to liability for damages?

In private works, threatening termination for convenience to obtain post-contract price concessions may breach of the covenant of good faith and fair dealing, implied in every contract, and subject the breaching party to liability to pay the injured party the benefit of the bargain he originally struck. No California case has ruled directly on this issue, but the highest court of the State of Maryland recently held that post-contract price renegotiation may subject a contractor to liability for failing to act in good faith toward its subcontractor.

Principles of California law and from the Maryland case are discussed below. They support that such a claim for benefit of bargain damages could succeed in California.

In public works, in addition to the implied covenant of good faith and fair dealing, contractors are protected by the competitive bidding statutes. These provide a separate path for recovery of damages and may subject the breaching party to civil penalties. Public works is beyond the scope of this article and will be addressed in a future article.
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Misuse of the “termination for convenience” clause in Maryland

This section draws from the case of Questar Builders, Inc. v. CB Flooring, LLC. (3) (“Questar”). It provides background and highlights regarding the application and misapplication of the “termination for convenience” clause in the construction context. Citations and crossreferences have been omitted for sake of brevity.

In Questar, the Court of Appeals of Maryland, Maryland’s highest court, upheld the rule that “termination for convenience” clauses may be enforceable, subject to an implied obligation to exercise the right to terminate in good faith and in accordance with fair dealing. In that case, the trial court concluded that Questar improperly terminated its subcontract with CB Flooring, LLC (“CB Flooring”) and awarded more than $243,000 in damages to CB Flooring to compensate it for the profits it would have made on the contract.

The court reviewed extensive factual background and testimony and remanded the case to the trial court to resolve discrepancies in the parties’ account of the events leading up to the termination of the subcontract. In essence, CB Flooring alleged that Questar, the general contractor, hired CB Flooring, the low bidder, to install carpeting at Greenwich Place, a luxury mid-rise apartment and townhome complex, for a total price of $1,120,000.

After CB Flooring requested a change order of $103,371, Questar terminated CB Flooring and contracted with the next low bidder, Creative Touch Interiors (“CTI”). Initially, CTI submitted a bid for $1,240,000, but after CB Flooring’s termination, CTI contracted to perform CB Flooring’s scope (including the change order work) for CB Flooring’s original price of $1,120,000.

Questar argued that it terminated CB Flooring for cause, and failing that, it had the right to terminate CB Flooring for any reason at all, under the “termination for convenience” clause. Interestingly, the “termination for convenience” clause did not expressly, itself, give Questar authority to terminate CB Flooring. It starts out stating, “if this Subcontract Agreement is terminated for convenience . . .”, without ever specifying the meaning of termination for convenience or the circumstances under which it might be exercised. The only other relevant termination for convenience language was found in paragraph 12, concerning Questar’s rights in event of a breach of contract by CB Flooring. The end of paragraph 12 provides “if subcontractor is not in breach, then such termination shall be deemed termination for convenience pursuant to paragraph 14 hereof . . . ”. The trial court found that CB Flooring had not materially breached the subcontract, and therefore, Questar could not terminate CB Flooring for cause.

The trial court next rejected Questar’s contention that it enjoyed a right to terminate the subcontract for any reason. The court considered and rejected Questar’s claim that its subjective loss of faith in CB Flooring’s ability to perform satisfactorily “or for the agreed upon price” satisfied whatever implied limitations there might be on the exercise of the termination for convenience clause.

On review, the court of appeals considered in detail the development of the laws supporting the right to terminate for convenience, which developed during and following the American Civil War as a tool for the US Government to avoid costly military procurements that were rendered unnecessary by changing war time technology or cessation of conflict. The Federal Government relied on broad powers to terminate contracts during and after World War I, and in 1917 Congress passed the Urgent Deficiency Appropriation Act authorizing the President to modify, suspend, cancel, or requisition any existing or future contract for the building, production, or purchase of ships or material ordered for the war effort. Basically, this law provided just compensation for work performed, but not for anticipated profits.

Later, the government began including clauses in procurement contracts allowing for cancellation on specified grounds, such as termination or limitation of war and changes rendering the completion of the contract unnecessary. The court stated, “the direct predecessor of the modern termination for convenience clause” developed during the military buildup to World War II. The termination for convenience clause became mandatory in all fixed-price contracts. Although the word “convenience” was included, the intent remained that the government would have the right to terminate a contract as justified by the vagaries and uncertainties of armed conflict.

In the 1960s, the use of such clauses expanded beyond contracts needed for military operations, and it gained widespread use in civilian and peace-military contracts. By 1967, the Federal procurement regulations made termination for convenience clauses mandatory in most fixed priced supply contracts and construction contracts. Currently, the Federal Government includes these clauses in a myriad of supply, construction, and research and development contracts. (4)
These clauses typically now state “that the government may terminate if the Contracting Officer determines that a termination is the government’s interest.” (5)

However, the Federal Courts recognized that the common law rule that a valid contract must be supported by consideration and may not be illusory counterbalances contract provisions allowing the Federal Government to terminate at its convenience (in circumstances more mundane than the vagaries of war).

The Maryland Court explored two standards for assessing whether termination for convenience would render the contract illusory: the “changed circumstances” test and the “bad faith/abuse of discretion” test used by the Federal Courts. Greatest deference to the government’s right to terminate is accorded under the “bad faith/abuse of discretion” test. Significantly, support for this standard peaked in Colonial Metals Co. v. United States, 494 F.2d 1355 (ct.cl 1974), where the court held that the Navy did not act in bad faith when it terminated its contract with a copper supplier in order to obtain a better price elsewhere, even though the contracting officer knew of the better price at the time the parties entered the contract. In this court’s view, to succeed against the Federal Government for wrongful termination would require “well-nigh irrefragable proof” that the government acted in bad faith, given the strong presumption recognized in the federal cases that the government acts in good faith.
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The Maryland court found, however, that more recent decisions declare Colonial Metals Co. to have been decided wrongly, recognizing that the government cannot terminate a contract for convenience simply to get a better bargain from another source.

The Maryland court went on to analyze the use of termination for convenience clauses in construction contracts. The court noted that the case law supporting the broad right of termination in federal contracts is of  limited value when interpreting a contract between private parties. For political reasons, the Federal Government stands in a position entirely incomparable to that of a private person. The court cited a commentator, noting “while [termination for convenience] is an extraordinary result for private contracts, it should not seem so extraordinary in the government setting in which the government provisionally submits to the law of contract as an incident of sovereignty.” In other words, the government is bound by contracts only because the government chooses to be bound.

Accordingly, we decline to recognize for private parties the near cart-blanche power to terminate that the courts have given the Federal Government under convenience termination clauses. Instead, we shall interpret and apply paragraphs 12 and 14 of the subcontract according to the common law of contract as interpreted by this Court, which does not require ‘well-nigh irrefragable proof’ of wrongdoing to establish bad faith.

The court notes that under Maryland law illusory contracts are unenforceable, and an “illusory promise” appears to be a promise but it does not actually bind or obligate the promissor to do anything. A promise is illusory if the promissor retains an unlimited right to decide later the nature or extent of his performance. The courts prefer a construction of a contract that will make it effective rather than illusory or unenforceable. The Maryland court observes that the implied obligation to act in good faith and deal fairly with the other party governs the manner in which a party may exercise discretion accorded to it by the terms of an agreement. “Thus, a party with discretion is limited to exercising that discretion in good faith and in accordance with fair dealing.”

The court read paragraphs 12 and 14 of the contract as permitting Questar to terminate the subcontract even in the absence of a default by CB Flooring. However, since the contract itself provided that the agreement would remain in effect through the duration of the project, the court would not read into it an unfettered power by Questar to terminate CB Flooring based on a whim. Nor could Questar exercise that right arbitrarily. The court viewed the right to terminate a contract for convenience as a “risk-allocating tool.”

It summed up Questar’s right to terminate as follows: Thus, Questar was permitted to terminate only if, in its discretion, it determined that continuing with the Subcontract would subject it potentially to meaningful financial loss or some other difficulty in completing the project successfully. Questar’s right to terminate the Subcontract for convenience, however, did not permit it to evade either its obligation to make a good faith (albeit unilateral) determination as to whether CB Flooring was entitled to an equitable adjustment to the Subcontract price under paragraph 13(a) or its obligation to arbitrate disputes with CB Flooring under paragraph 16.

Likewise, Questar was required to act reasonably in ensuring that the Subcontract did not become inconvenient, and it certainly was not permitted to create an inconvenience in order to terminate the Subcontract. The court refused Questar’s argument that it had the right to terminate for no reason, because that would render the subcontract illusory. At bottom, the court concluded that termination for convenience rights may be enforceable, but they are subject to the implied limitations that they must be exercised in good faith and in accordance with fair dealing.
Thus, Questar’s right to terminate the subcontract for convenience was not unlimited. The court noted that the limitations on the exercise of this right by private parties are well defined by those cases recognizing generally that the right must be exercised in good faith.

These clauses may not be used to shield the terminating party from the liability for bad faith or fraud.

The court ended this discussion with the following:
There undeniably is utility in including a broad termination right in contracts in the context of rapidly changing industries and in contracts for large, long-term build-out projects. Such a right to terminate for convenience may serve as an effective tool, protecting one party from the risk of loss in markets where there is a substantial risk due to changing technology or where loss, if it occurs, could result in a financial Waterloo, as in the construction industry. At the same time, the right to terminate for convenience, as we interpret it, provides adequate
consideration for the other party to the contract, protecting that party’s expectations in a binding and enforceable agreement and prohibiting the terminating party from yanking out arbitrarily the carpet from underneath the agreement.
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The court then turned to the trial court’s analysis and remanded the case to the trial court for further analysis of factors going to the ultimate issue of whether Questar breached the subcontract by not exercising in good faith its discretion to terminate the subcontract for convenience. The court cited several Maryland cases defining rights and duties under the covenant of good faith and fair dealing, which are essentially the same as those rights and duties in California:

•  A party exercising discretion must refrain from doing anything that will have the effect of frustrating the right of the other party to receive the fruits of the contract between them;

• Each party must do nothing to destroy the rights of the other party to enjoy the fruits of the contract and must do everything that the contract presupposes they will do to accomplish its purpose;

• The obligation to act in good faith and deal fairly prohibits a party from terminating it’s contract (or otherwise exercising its discretion) to “recapture” an opportunity that it lost upon entering the contract;

• Upon entering a binding contract for a specified duration, the parties thereto “give you their opportunity to shop around for a better price”; and

• An objective standard applies to determine what constitutes good faith and fair dealing.
  The court then noted a number of unresolved factual conflicts that it wished the trial court to resolve. Those factual conflicts are not instructive here, so they will not be recounted. 
  The Good Faith Requirement in California California law in this area is expressed in language similar to that in Maryland.

• “In every contract or agreement there is an implied promise of good faith and fair dealing. This means that each party will not do anything to unfairly interfere with the right of any other party to receive the benefits of the contract; however, the implied promise of good faith and fair dealing cannot create obligations that are inconsistent with the terms of the contract.” (6)

• "There is an implied covenant of good faith and fair dealing in every contract that neither party will do anything which will injure the right of the other to receive the benefits of the agreement." (7)

• “The covenant of good faith and fair dealing, implied by law in every contract, exists merely to prevent one contracting party from unfairly frustrating the other party's right to receive the benefits of the agreement actually made. The covenant thus cannot ‘be endowed with an existence independent of its contractual underpinnings.’ It cannot impose substantive duties or limits on the contracting parties beyond those incorporated in the specific terms of their agreement.” (8)

While California has yet to address good faith and fair dealing limits on exercise of the termination for convenience, conditions are undoubtedly ripe for a test case to arise. As in Maryland, California probably will find that bad faith termination for convenience will support a terminated party’s claim for loss of profits damages.

Moreover, wrongful threats to terminate for convenience to leverage price concessions may also be actionable.

(3) Case # 153, September term, 2008, filed August 25, 2009
(4) See 48 C.F. R. Section 48.905 (2009)
(5) On the other hand, 48 C.F.R. Section 52.21.2(1)(2009) provides that in contracts for “commercial items” the government may terminate “for its sole convenience”.
(6) CACI 325: Breach of Covenant of Good Faith and Fair Dealing—Essential Factual Elements
(7) (Comunale v. Traders & General Ins. Co. (1958) 50 Cal.2d 654, 658 internal citation omitted.)
(8) (Guz v. Bechtel National, Inc. (2000) 24 Cal.4th 317, 349-350, internal citations omitted, original italics.)

By Daniel F. McLennon, McLennon Law Corp., Daniel McLennon is Chair of the ASAC Government Relations Committee, and a member of the Bay Area Chapter ASA Board of Directors. He can be reached at 415-394-6688 and dmclennon@mclennonlaw.com.
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CONSTRUCTION CHANGE DIRECTIVES

In today’s market, it’s more important than ever to use documentation as a tool to protect your profits. As a service to our fellow ASA members, eSUB provides educational articles and webinars to assist you in spending more time on your work and less time on your paperwork. This month we’re addressing Construction Change Directives, otherwise known as CCDs. The best way to protect yourself from these Owner Friendly stipulations to your contract is to proactively issue correspondence to outline the terms and protect your rights to fair payment BEFORE you perform the work.

According to the AGC Contract Documents Handbook, “Contract Construction Change Directive is a written instrument prepared by the Construction Manager and signed by the Owner directing a change in the Trade Contract Work and stating a proposed adjustment, if any, in the Trade Contract Price or Trade Contract Time or both. A Trade Contract Construction Change Directive shall be used in the absence of agreement on the terms of a Trade Contract Change Order.”

What does this mean in layman’s terms? It means that even if you’re at an impasse with the Owner on what the Change is going to cost, you’re still mandated by contract documents to perform the work.

Certain contracts have language that is friendlier to Subcontractors than others. For instance, beware of AIA A201 General Conditions where the Architect has the right to decide the amount of the contract change. You may have the right to dispute the decision, but if you do, you also run the risk of having to fund the entire cost of the change until the dispute is resolved.

On the flip side, the ConsensusDOCS are much more favorable to the Contractor and stipulate that the Owner must pay 50% of the estimated cost to perform the work during the dispute resolution process.

Take heed of section 14.1.3 of the AGC Contract Documents Handbook which states, “The Trade Contractor shall evaluate the proposed adjustment… and respond, in writing, to the Construction Manager stating the Trade Contractor’s acceptance or rejection of the proposed adjustment and the reasons therefore.”

To protect yourself, eSUB is offering such a letter which you can download by visiting www.esubinc.com and clicking on the “Free Project Correspondence” button in the middle of our Home Page. The letter is titled “Construction Change Directives. By pro-actively issuing this piece of correspondence, you’re taking the initiative to outline the terms instead of the other way around.

If you’re interested in learning more strategies to protect your profits, please contact our educational director, Benny Baltrotsky at bbaltrotsky@esubinc.com to register for one of our educational webinars, offered at no cost to ASA members.

Wendy Swift-Rogers, CEO Wendy Swift-Rogers, CEO eSUB Inc.
14396 Garden Trail, Ste. 100,  San Diego, CA 92127
800-493-3782,  858-829-3814 cell,  858-759-7269 fax,  wswift@esubinc.com

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CALIFORNIA APPELLATE COURT HOLDS THAT A CONSTRUCTION MANAGER ON A PRIVATELY OWNED PROJECT DOES NOT NEED A
CONTRACTOR’S LICENSE
By William C. Last, Jr. Attorney at Law
Last & Faoro

It has always been clear that California construction managers who contract with public agencies to provide construction management services must have a valid California Contractor’s License. The issue of whether or not such a license is required for privately owned projects has not been as clear. In the case entitled The Fifth Day, LLC v. James Bolotin, et al. (March 2009), an appellate court has addressed that issue.

In this case The Fifth Day, LLC (CM) entered into an agreement with Industrial Real Estate Development Company (Owner) to provide certain “industrial real estate development and construction project management” services. The contract set out a lengthy list of the CM’s duties and obligations relative to the contemplated project. Generally, the CM ‘s duties included coordinating the activities of various workers, maintaining records, keeping the Owner apprised of the project status, respond to on-site issues as they arose, and to be owner's general agent. The CM was not responsible for, nor did it have the authority to perform any construction work on the project, or to enter into any contract or subcontract for the performance of such work. In keeping with those limitations, the Owner contracted with a licensed general contractor to perform and/or supervise all construction. The general contractor in turn contracted with subcontractors. Eventually the CM sued the Owner, seeking compensation allegedly due for construction management services rendered on the project. In defense of these claims the Owner asserted that the CM was not entitled to receive any compensation because it did not have a California contractor’s license, and was thus barred pursuant to Business and Professions Code (“B&P”), §7031 (which bars unlicensed contractors from maintaining an action for payment). The trial court agreed with the Owner, but the appellate court reversed that
decision and concluded that the CM was not required to have a contractor’s license.

The appellate court reviewed the statutory definition of a contractor (B&P §7026) and concluded that the services provided by the CM did require it to have a contractor’s license. The decision notes, “that the Legislature provided that construction managers on public works projects must be licensed architects, engineers or general contractors (Govt. Code section 4525).” The court went on to conclude that since the Legislature has not enacted a similar statute for privately owned projects the Legislature had determined that licensure of construction managers was not necessary for private projects.

A strongly worded dissent was rendered by a dissenting appellate court justice. The dissent reviewed the strong public policy in favor of requiring licensure. It also noted that “requiring licensing of construction managers who undertake to supervise the work of other licensed construction professionals is consistent with the purposes of the Contractors State License Law.”

Conclusion:

The Fifth Day case makes it clear that if a construction manager who is providing services to a private-owned project limits its services to those set forth in the Fifth Day case and does not contract for or perform construction work, a contractor’s license is not required. From this author’s point of view, he would not be surprised if the Legislature amends the relevant statutes to require a construction manager to be licensed. Due to the strong public policy favoring contractor licensing, the author would also not be surprised if the California Supreme Court reviews the Fifth Day case.

This article, ©2009, was written by William C. Last, Jr. Mr. Last is an attorney who has been specializing in Construction Law for over 30 years.. In addition to belonging to a number of construction trade associations, including the Bay Area Chapter of ASA, Mr. Last holds a California “A” and “B” license. He can be contacted at 415-764-1990 or 650-696-8350. A number of his past articles can be found on his website (lhfconstructlaw.com). This bulletin is published periodically to provide general information about current legal issues. The articles are not intended to be a substitute for the advice of an attorney as to a specific problem. If you have a specific legal question or need legal advice, you should contact an attorney.

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DON’T LET YOUR PROFITS GET MOTHBALLED WITH THE CONSTRUCTION PROJECT!
by Theresa Crawford Tate
Crawford & Bangs

With the downturn in the economy and the freezing of the credit markets, many owners have stopped construction projects midstream, some being placed on hold with plans to resume upon the availability of funding, and others just mothballed indefinitely. Rarely are these owners with interrupted projects able to pay their contractors and suppliers in full before the project is stopped. Quite commonly, many involved in the projects are awaiting payments when they are told to stop work.

Frequently, contractors are asking what to do to protect their rights after a project has been placed on hold.
The first priority in dealing with any troubled project should be to secure payment to the extent possible. This means on private projects filing a mechanic’s lien, stop notice and occasionally a payment bond claim; and a stop notice and payment bond claim on public projects. As most of you know, the timing of these remedies runs from “completion” of a project. However, in the case of a project stopped before actual completion how long should a contractor wait? The California statutes have provided an answer to this at Civil Code section 3086. This section provides that a project is deemed complete by operation of law at 60 days after cessation of labor, or after 30 days of a continuous stoppage of work the owner may record of a notice of cessation and the project will be deemed complete on that date. So if a project is stopped and no work is done during a sixty day period (not just your particular work but all work on the entire project), the project is complete. After that point, mechanic’s lien, stop notice and payment bond rights will run from that completion date.

Just as the law allows a notice of completion to condense the timeframes for the payment rights identified above, it also provides a method for the owner to shorten those rights by recording a notice of cessation of labor. This document is recorded with the County Recorder where the project is located, and unlike a notice of completion, there is no statutory requirement that the owner serve this document on the contractors who served preliminary lien notices for the project. When recorded, the Notice of Cessation reduces the initiation time for a mechanic’s lien, stop notice and payment bond by 30 days. Therefore, stopped projects should be watched closely and contractors should not delay in pursuing payment rights. After a stoppage for 30 days, the contractor should assume that statutory payment deadlines have started to run and the contractor should act accordingly to protect its rights.

Another issue that often arises on these mothballed projects is defect or personal liability. What if the project is stopped halfway through completion and inadequate measures have been taken to secure and weatherproof the construction site? Contractors are expressing concerns about potential liability for theft, vandalism, trespassers and deterioration of construction materials left at the site. Most contracts provide that the contractor remains liable for the construction materials until they have been incorporated into the project and accepted by the owner. However, a contractor is rarely in a position to protect and safeguard its materials on a construction site after it has been vacated. If possible, a release should be obtained from the owner indicating that the contractor is accepting no responsibility for the condition of the construction site and materials during the delay. While ideal, such a release may be difficult if not impossible to obtain, which leaves the contractor with no choice but to document any and all concerns, as quickly and clearly as possible, to both the owner and the prime contractor. Additionally, if the contractor is asked to return to the project at some point, a detailed inspection should be
conducted to discover any potential problems which have arisen during the delay and these issues should also immediately be addressed to the owner and/or prime contractor.

During these difficult financial times, contractors need to work smarter and be diligent about protecting their statutory payment rights. These rights have short deadlines and can easily be lost by not adhering to the requisite timelines. Also, protection against liability prevalent on an interrupted project should be sought even if the contractor is not successful in gaining the intended release. The mere documenting of the concerns could greatly reduce potential future liability. Riding out the construction downturn is possible and can even be profitable for those companies that are vigilant in protecting their legal rights.

This article was provided by Crawford & Bangs (www.builderslaw.com) and is intended to provide the reader with general information regarding current legal issues. It is not to be construed as specific legal advice or as a substitute for the need to seek competent legal advice on specific legal matters.

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