After almost two decades of practicing construction law and related litigation, I have learned there are really only two types of contractors: those who have been sued, and those who will be. This fundamental principle received a fair measure of validation recently in a report from business credit scoring agency Creditsafe. The firm found that the construction industry had the third-highest number and cost of legal filings among all U.S. business sectors. Indeed, construction businesses had 212,582 legal filings entered against them last year, resulting in cumulative losses exceeding $3.36 billion, according to Creditsafe’s State of Credit Risk 2022 report released in February 2023.
For any construction attorney living in and around this industry, the findings were hardly surprising. The numbers merely reflect the fragmented nature of the industry with some projects having more than 40 or 50 parties (contractors, subcontractors, sub-subcontractors, suppliers, etc.) involved. Anytime you have that many variables, when there are disputes, its inevitable that you will have voluminous claims and cross-claims. A construction project’s multifaceted structure differs from your typical business arrangement where deals get done, often, one on one. With so many different players and egos, there are a lot of opportunities for things to go sideways. And, let’s be honest, a lot of opportunities for questionable actors to game the system.
In the current economic environment, those opportunities have only multiplied, as access to capital has tightened and banking jitters have spurred lenders to apply more scrutiny to projects. For example, there are often provisions that require change order approvals to go through the lender itself. So even if the owner and the general contractor agree, if the lender says no, that creates an almost immediate dispute. Incorporation by reference clauses that are embedded in many contracts, where the rules that apply to a relationship higher up in the project chain must be adopted by those lower down, can also lead to more disputes when one party does not fulfill its obligations.
If one party sues upstream, then every contractor has to sue their subcontractor and suppliers to protect themselves, so it becomes a legal nightmare. It creates a domino effect that runs in both directions resulting in a litigation monster (and, not coincidentally, a windfall for construction attorneys).
The same multipliers that lead to a high number of claims also contribute to outsized monetary damages paired with increased costs for materials and labor, liquidated damages, legal fees, etc. Technology is another reason construction litigation costs so much. Even a project that is not huge could generate multiple terabytes of data in discovery. This increases the cost of document collection and analysis, essentially hoping your attorneys can find the needle in the haystack. As any litigant can tell you, there is no small measure of expense in that exercise.
How To Avoid Claims
With both the numbers and dollar amounts of construction claims at dizzying heights, lawyers say the best thing to do is to try to avoid claims in the first place, while writing language into contracts to keep their costs down when they do happen. As with nearly all aspects of construction, that starts with the fine print. While form contracts can be a good starting point, it is not the final destination. Each project’s contract must be customized, even if those modifications cost more to write up. Do not be penny wise and pound foolish. We see it all the time where a project is worth $50 million, but owners, developers and contractors will just take a form contract, change the names, and hope everything will go well. I am here to testify that it almost never goes that way.
Instead, put in the time and money to make sure the issues of the day, as well as the current project, are reflected in those governing documents. For example, you can use clauses that preclude someone from making a claim based on certain scenarios, such as delay claims. If you are a general contractor, you can put provisions in your subcontracts that changes or delays caused by an owner cut off liability to subcontractors unless and until you recover from the owner. That makes sure the general contractor does not get caught with the owner’s mistakes.
Keeping Claim Costs Down
If claims do arise, which they inevitably do, put contract language into your documents that can help keep the price tag down as well. For example, include provisions for third-party mediation before a dispute can be taken to court – this is a very effective deterrent. Another strategy is to introduce a clause for liquidated damages — which are paid when a party does not fulfill its side of the agreement — using an amount that’s predetermined before any disputes arise. If that gets put in the contract and a delay happens, it helps expedite enforcement, because no expert needs to be brought in at that point to determine what damages should be. But it also puts the contractor on notice for any potential costs. Be careful with these provisions, however, as courts scrutinize them heavily. Finally, have a good construction attorney on your team. Consult an experienced construction attorney early in the process to assist you strategize and plan. A little work early on can be the difference in whether you win or lose the battle and whether or not you go broke in the process.