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April 20, 2014

Before You Sign a Contract: Stop, Read, and Audit

The Illinois Appellate Court recently delivered a decision chock-full of important reminders for everyone who enters into contracts, particularly those in the construction industry. The decision—Asset Recovery Contracting v. Walsh—comes to us courtesy of the first subcontractor hired for demolition work on conversion of Chicago’s Palmolive Building from office space to a residential condominium.

The two principal, but certainly not the only, important reminders in this decision:

  • Before you sign a contract: Stop! Re-read the terms. Audit them to ensure they’re still in harmony with your situation; and
  • A contractor who agrees to a “no damage for delay” clause in their contract should expect only tepid prospects of success when later asking for extra money because the owner, another project participant, or something beyond anyone's control, delays the work.

Backstory

The story starts as the demolition subcontractor starts work without a subcontract. As work progresses, things start to go awry. Tenants who were to relocate continue to occupy their premises, fire department safety orders delay and require re-sequencing of work, and the owner had trouble getting project financing. Although aware of these problems, the subcontractor still continues working without a subcontract.

Meanwhile, lawyers representing the subcontractor negotiated subcontract terms opposite the prime contractor's management and lawyers. About nine months after starting work, the subcontractor finally signed a subcontract. That subcontract:

  • Bore an effective date about nine months before signing, around the time that the subcontractor started work and before problems and additional costs started to mount;
  • Obliged the subcontractor to complete the demolition work for modestly more than their original bid;
  • Allowed the prime contractor to unilaterally change the scheduling, sequence, and pace of the demolition work—without any change in price to defray additional costs of a change—as long as the prime contractor gave the subcontractor reasonable advance notice of the change;
  • Featured three–-yes, three-–"no damage for delay" clauses:
  • (1) Denied any increase in price for additional costs imposed by delay, even for delay imposed by the owner or prime contractor; (2) Incorporated terms from the prime contract into the subcontract that deny additional money for costs associated with delay, even if it's the owner who imposes the delay; (3) Affirmed that the subcontractor isn't entitled to additional money, or time in the schedule, for pre-subcontract delay, nor for future delays caused by problems that existed on the subcontract's effective date.

  • Included the subcontractor's certification that: (1) the subcontractor is familiar with all of the facts and circumstances affecting the demolition work, (2) the schedule attached to the subcontract provides enough time to finish the demolition work, and (3) the price identified in the subcontract is sufficient for the subcontractor to finish the work for that price.

Delays intensified. Problems went from bad to worse. Ultimately, the subcontractor requested hundreds of thousands of dollars for extra costs imposed by delays, including the ones mentioned above. The prime contractor denied most of those requests. The subcontractor sued. The prime contractor countersued. The lawsuits became a trial. The trial became an appeal. And the appeal fostered the decision: Appellate Court agrees with the prime contractor. And their reasons resonate far beyond the world of contractors and construction:

  • The court mentioned their long-standing observation that the date parties sign a contract is not necessarily the effective date of their contract. The date on the contract is ordinarily the effective date. And where the contract is signed later, its contractual terms relate back, and are effective from, the date reflected on the contract if that coverage is clear from the face of the contract. It was clear on the subcontract here. The subcontract bore a date and that is all it took;
  • The court rejected the subcontractor's suggestion that to apply before signing, a contract must expressly state that it takes effect at an earlier time. "We find no such limited holding," the court replied. "This is not the law in Illinois.";
  • With the subcontract applying retroactively to pre-signing work, the subcontractor couldn't escape the "no damage for delay" clauses' forestalling pursuit of money to defray the costs of pre-signing delays. Nor could the subcontractor avert the sufficient time and money certification from waiving claims for costs imposed by pre-signing delays.

The court summed it up: The subcontractor knew of all the delays, yet did not request a modification to the subcontract allowing for delay damages, but rather signed the subcontract and proceeded to work.

No Exceptions From No Damage For Delay

The subcontractor urged the court in vain to use implied contract terms and judicially created "no damage for delay" exceptions to navigate around the "no damage for delay" clauses.

  • Intentional owner interference. The court found that though some owner acts and omissions contributed to the delays, they did not qualify as the kind of intentional interference that violates an implied promise—in the prime contract—that would exclude these delays from the "no damage for delay" clauses. Similarly, the subcontractor asked to apply a judicially-created exception for "active interference." Other states apply this exception when one party actively interferes with the other's performance. Under this exception, active interference subverts using a "no damage for delay" clause against the victim of the interference. The court observed that Illinois doesn't recognize this exception, and they refused to adopt it.
  • Delay beyond contemplation. This exception excludes from a "no damage for delay" clause delay that is beyond contemplation of the contracting parties when they entered into their contract. The court observed that when they entered into the subcontract, the subcontractor was aware of manifold delays in progress of their own work, and delays affecting the project at large. So, delays imposing additional costs on the subcontractor weren't beyond contemplation. And so, the beyond contemplation exception didn't apply.
  • Delay duration unreasonable. This exception excludes delay that lasts too long from a "no damage for delay" clause. But the court held that the delays the subcontractor suffered weren't so lengthy that they became unreasonable. And so, they didn't apply this exception. Particularly, the court observed that before entering into the subcontract, the subcontractor had opportunities to avert lengthy delays, or at least cushion their blows, but didn't seize those opportunities and must now live with the consequences.

The court summed it up in this remark: The subcontract identified the initial price, which the subcontractor bid for the project, and also provided for change order requests which the subcontractor used for additional costs. The subcontract, however, clearly barred delay damages. The subcontractor agreed to the clear terms of the subcontract which barred delay damages.

Lessons From the Asset Recovery Decision

  • Prior work clause. If someone provides work before signing the contract, you're better off addressing that issue privately in your contract. A "prior work" clause is often the best way to do that. This prior work clause piece explains how.
  • Audit before you sign. Before you put pen to paper, audit:
    • Price, and what composes it, to ensure it's enough;
    • Deadlines to ensure you can still achieve them, and that they're harmonious with those in the work sequence before you, the same time as you, and after you;
    • Representations and certifications. Here you are representing or certifying that something is or isn't. Once you represent or certify to those things, you usually have to live with them even if they're not spot-on;
    • Incorporation of terms from outside sources (e.g., other contracts, laws, policy manuals). You need to know if you're bringing terms from somewhere else into your contract. Then you need to audit those terms to see what they say. And if there are terms you can't accept, work to exclude them or limit how they apply under your contract;
    • Limitations affecting your rights to get more time, more money—i.e., the "damage for delay" clause—or both, if things don't go as planned. If categorical denials are too draconian, perhaps you can negotiate for limited or qualified rights to additional time, or additional money. This applies doubly for circumstances: (1) beyond your control, (2) you can't reasonably foresee, or (3) too impractical to plan for in advance;
    • Counterparty duties. Once you've audited the things on your side of the threshold, take the time to ensure that your counterparty is also obliged to perform as you expect them to.

This decision holds important lessons for everyone who enters into contracts, particularly building contractors, regardless of whether they contract for a one-car garage renovation or a multi-billion dollar corporate acquisition.

© 2014 Much Shelist, P.C.

About the Author

Much Shelist is a full-service business law firm based in Chicago. Since our founding in 1970, and as we have grown to approximately 85 attorneys, we have nurtured a collaborative culture that emphasizes sophisticated, senior-level attention to client matters, combined with a collegial, creative atmosphere that allows us to deliver the highest level of service to every client. In addition, we are firmly committed to remaining independent, thus creating an environment of stability for our clients and our attorneys.

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