As most people are undoubtedly aware, the construction industry has seen material prices escalate astronomically over the past few months. Some specialty lumber prices have soared upwards of 6,000 percent. The cost of a sheet of plywood is double what it was even six months ago.
Generally, contractors assume the risk of material prices when they sign a lump sum or GMP contract unless there is a material escalation clause included in the contract terms. Thus, many contractors are likely wondering what their options are to try and get paid for some of these price increases, especially if they are mid-project and do not have a material escalation clause in their contract. Consider the following guidance on mitigating damages arising from these significant price increases:
Engage in open dialogue with the owner early
Contractors that are facing significant material price escalation on projects, regardless of whether there is a material escalation provision, should immediately notify the owner to communicate the cost increase issues. There is no substitute for a good candid conversation about all project issues, especially when they are about significant price increases. Generally, owners have been receptive to discussing the material escalation issues facing the industry as a whole and generally understand it is not the fault of their contractors. Open and candid dialogue with a project owner can allow you to resolve and mitigate issues before they significantly impact your project. Demonstrating to the owner that you are doing everything reasonably possible to procure the materials may also serve to redirect the owner’s attention to the distributors and suppliers that are closer to the source of the problem.
Evaluate mitigation opportunities
Oftentimes there are opportunities for the contractor to mitigate damages relating to material escalation (e.g., proposing different materials, purchasing in bulk, etc.). On a recent large project in Portland, the owner and contractor were able to negotiate use of additional storage/laydown areas so all materials could be purchased by the contractor in advance and stored for later use. In fact, the owner agreed to pay for the additional area that was needed to store the materials. In other instances, it may be cost-effective to secure additional off-site storage and buy materials in bulk. These options to mitigate damages should be brought forward and discussed with the owner to see if a reasonable solution can be reached to mitigate damages to the contractor and the project – there are also implications on payment and insurance that need to be considered if you are storing materials. And a reasonable damage mitigation offer that is rejected by the owner will be a helpful data point in the unfortunate event a claim arises in the future.
Address material escalation issues before contracting
If you are negotiating a private project or bidding on a public works project, ask to include a material escalation provision in the contract terms (either through private negotiations or asking the agency to modify the IFB during the public solicitation process). Most contracts do not have a standard material escalation clause, so contractors need to specifically negotiate these. Owners may benefit from these clauses because contractors would be less likely to include large contingencies to account for the risk of material escalations. These material escalation contract terms can be limited to a certain type of material (e.g., the Oregon Department of Transportation specifications contain a specific provision for steel price increases) or all materials, and limited to certain durations of the contract. An example material escalation clause is:
Owner acknowledges that some of the materials that are to be incorporated into the Project have volatile prices (e.g., the prices of wood, steel, aluminum, etc.) that are changing day-to day or even hour-to-hour. Accordingly, Contractor cannot guarantee material prices for any amount of time during the course of this Contract. If material prices deviate more than ___ percent from the time of execution of this Contract to material procurement, Contractor shall be entitled to a Change Order to compensate Contractor for any material price escalation after this Contract is executed.
If a contractor is faced with an existing contract that does not contain a material escalation clause and a difficult owner that is unwilling to work with the contractor to mitigate the damages, and assuming there are no other contract provisions that would entitle the contractor to additional compensation, then the contractor may be able to argue that the significant cost increase caused the contract to become commercially impracticable or impossible, or that there was a unilateral or mutual mistake at that time of contracting.
Depending on the timing of the project and date of the contract, it is also possible that a clause targeted to COVID-19 may provide relief to the contractor. Likewise, the underlying cause of the material shortage or price increase may arguably trigger a contract’s force majeure provision. These claims, however, can be very difficult to prove and any contractor contemplating such arguments should consult with its attorney.
Material escalation is impacting the entire construction industry and all projects at various levels. Contractors should be proactively addressing material cost increases before they become significant problems and cause an otherwise great project to turn into a distressed project.
This article summarizes aspects of the law; it does not constitute legal advice. For legal advice for your situation, you should contact an attorney.
Column first appeared in the Oregon Daily Journal of Commerce on July 20, 2021.
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