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OP-ED: Contract Drafting Tools to Protect Contractors Amid Uncertainty

Daily Journal of Commerce Oregon
April 2, 2018

Overview

President Trump dealt a major blow to the construction industry earlier this month when he signed an order imposing stiff tariffs on steel and aluminum imports, at 25% and 10%, respectively. While imports from Canada and Mexico are specifically exempted from the order, other big exporters of these materials now face new costs. Delivering on a campaign promise to defend the domestic steel and aluminum industries, President Trump’s stated rationale for issuing the order is to promote national security and lower the trade deficit.

However, those objectives may come at a cost to industries that rely on these materials, such as construction. According to the Associated General Contractors (AGC), the tariffs will “put tens of thousands of high-paying construction jobs at risk, undermine the President’s proposed infrastructure initiative and potentially dampen demand for new construction projects for years to come.” Whether those propositions become a reality remains to be seen, but these tariffs will—at the very least—change how developers, contractors and material suppliers prepare for large-scale construction projects.

Contractors who are already engaged in fixed-price contracts involving steel or aluminum may now become engaged in disputes over which party—owner, contractor or supplier—must pay for any price escalation. These disputes will be driven based on the contractual obligations already in place between the parties. However, moving forward, contractors entering into new contracts with owners and suppliers have a few ways they can contractually protect themselves from price uncertainty resulting from the new tariffs or other future government action.

For example, when contracting with an owners, a contractor can request inclusion of a price escalation clause in a contract. This type of clause requires that the contract sum be equitably adjusted by change order in the event of a significant material price increase (provided the increase is through no fault of the contractor—as is the case of the new tariffs). “Significant” may be contractually defined as a cost increase over a certain percentage, to give the owner some certainty as to total cost in the event of a dramatic price change. Oftentimes these costs will be tied to an industry pricing index to ensure uniformity. Parties can also agree to include a formal notice requirement, to ensure contractors give owners adequate notice of such increases so owners can plan accordingly.

Another way for a contractor to limit exposure is through drafting a custom provision that specifically addresses price escalation of steel and aluminum. Similar to the general price escalation clause, this provision can outline when it applies (for example, when the price of steel goes up more than a certain percentage) and what happens (for example, the owner may opt to terminate the contract entirely, or agree to suspend for a particular duration), but can also include other negotiated outcomes so that it is clear what the parties intend to happen in the event of price volatility caused by the new tariffs or other unexpected events.

Contractors should also pay careful attention when drafting other contractual provisions that involve a potential delay in performance; with material price volatility comes the risk of a material shortage, which in turn can cause a project to be delayed. The prime contract with the owner and the material supply contract with the supplier should both outline which party is liable in the event of a material delay or shortage. And the contractor should carefully review and consider any liquidated damages and consequential damages provisions—both of which create exposure for the contractor in the event of a performance delay.

Regardless of which contractual protections are put in place, now—more than ever—it is important that whatever key provisions that are included in the prime contract between the owner and general contractor flow down, when appropriate, to contracts with subcontractors and material suppliers. When it comes to price escalation and potential delay, having all parties playing by the same rules is the most effective and efficient way to address issues that may come down the pike.

In this uncertain political and economic landscape, Benjamin Franklin’s old adage that an ounce of prevention is worth a pound of cure rings true. It is a good idea to get these provisions drafted now so that contractors are prepared to address the impacts of these new steel and aluminum tariffs, whatever they may be.

Column first appeared in the Daily Journal of Commerce on March 27, 2018.

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