Insight from Carlton Fields

Transcription

1 Insight from Carlton Fields 2011 The Surety s Exposure for 1 By Bruce Charles, Lindsay E. Levin, and Mark A. Brown I. INTRODUCTION II. BOND FORMS AND COURT INTERPRETATIONS Although it is generally said that the liability of a surety is coextensive with that of its principal, the extent of a surety s liability will depend on the terms of the bonded contract and the bond itself. Most commonly, the performance bond surety is liable for work not completed by its principal or work that was not properly performed. The performance bond surety may also be liable for damages that fl ow from the late completion of the work. An obligee under a performance bond may suffer damage if the project, otherwise acceptable in terms of quality, is not timely delivered. These damages for delay may be actual or liquidated. The surety may also be liable for other consequential damages arising from the principal s breach that do not relate to delay. In order to recover consequential damages from the principal or its surety, it is necessary for an obligee to show that the alleged damages were inherently related to the breach, should reasonably have been expected to result from the breach, or were within the contemplation of the parties at the time that the contract was signed. 2 A. The Bond Stands Alone Or The Bond Incorporates The Bonded Contract Some courts have held that the performance bond should be construed based on the language of the bond itself (apparently without regard to the terms of the underlying bonded contract). In American Home Assurance Co. v. Larkin General Hospital, Ltd., 3 for instance, the court ruled that a surety cannot be held liable for delay damages due to the contractor s default unless the bond specifi cally provides coverage for delay damages. In Larkin, the bond only provided for completion of the work and therefore, the surety was not responsible for delay damages claimed by the obligee. The court stated that: the purpose of a performance bond is to guarantee the completion of the contract upon default by the contractor. Ordinarily a performance bond only ensures the completion of the contract. The surety agrees to complete the construction or to pay the obligee the reasonable costs of completion if the contractor defaults the language in the performance bond, construed together with the purpose of the bond, clearly explains that the performance bond merely guaranteed the completion of the construction contract and nothing more Carlton Fields, PA. All rights reserved. Carlton Fields publications should not be construed as legal advice on any specific facts or circumstances. The contents are intended for general information purposes only and may not be quoted or referred to in any other publication or proceeding without the prior written consent of the Firm, to be given or withheld at our discretion. To request reprint permission for any of our publications, please use our Contact Us form, which can be found on our website at. The distribution of this publication is not intended to create, and receipt of it does not constitute, an attorney-client relationship. The views set forth herein are the personal views of the author and do not necessarily reflect those of the Firm. 1

2 Although the bond in Larkin may have incorporated by reference the underlying construction contract and that contract may have provided for delay damages caused by the contractor, the court did not identify these facts and declined to impose the apparent obligations of the contractor for such damages on the surety. Similarly, In Downingtown Area School District v. International Fidelity Insurance Co., 5 the court stated: [I] still think that as a matter of plain English, the [Performance Bond] does not make [the surety] liable for delay damages caused by [the principal]. The court determined that the fact that the bond incorporated the contract by reference only sets out the condition of [the surety s] liability rather than the scope of that liability. 6 Thus, the court held that the surety was only liable to the obligee for the cost of completion of the construction contract and not for delay damages. In contrast, some courts have looked at the terms of the underlying construction contract and specifi - cally transferred all of the obligations of the bonded contractor for delay to the surety even in the absence of language in the performance bond providing for such liability. In Cates Construction, Inc. v. Talbot Partners, 7 the court noted that the underlying construction contract between the contractor and the obligee is by reference made a part of the performance bond. Upon the contractor s default (and declaration thereof by the obligee), the surety must complete the contract or arrange for the completion of the contract, thereby making available suffi cient funds to pay the excess completion costs, including other costs and damages for which the Surety may be liable. 8 The Cates court and others have held that the other costs and damages language implicitly means that the surety is liable for additional damages encompassed in the bonded contract and then incorporated in the bond. 9 The Cates court imposed liability on the surety for delay based on a provision in the bonded contract (but not the bond itself) imposing liability on the contractor for delay. B. The AIA 311 Performance Bond The AIA Document A311 Performance Bond does not specifi cally provide that the surety is liable for delay or consequential damages. The bond states: Whenever Contractor shall be, and declared by Owner to be in default under the contract, the Owner having performed Owner s obligations thereunder, the Surety may promptly remedy the default, or shall promptly 1) Complete the Contract in accordance with its terms and conditions, or 2) Obtain a bid or bids for completing the Contract in accordance with its terms and conditions, and upon determination by Surety of the lowest responsible bidder, or, if the Owner elects, upon determination by the Owner and the Surety jointly of the lowest responsible bidder, arrange for a contract between such bidders and Owner, and make available as Work progresses (even though there should be a default or a succession of defaults under the contract or contracts of completion arranged under this paragraph) suffi - cient funds to pay the cost of completion less the balance of the contract price, but not exceeding including other costs and damages for which the Surety may be liable hereunder, the amount set forth in the fi rst paragraph hereof. Although the Larkin and Cates courts both appear to have reviewed an AIA 311 bond form, they came to very different conclusions about the surety s liability. Therefore, the surety may be liable for more than the cost of completion depending on the jurisdiction handling the case. Signifi cantly, the Larkin court did not state whether an owner can recover consequential or delay damages for a surety s own failure to fulfill its obligations as contrasted with the bonded contractor s breach. 2

3 The Larkin court stated that our holding is limited to circumstances in which an owner sues a surety for delay damages due to a contractor s default. Whether an owner can recover consequential delay damages for a surety s failure to fulfill its obligations as set forth in a performance bond is not an issue before this Court. 10 If a surety fails to act promptly, the surety may be liable for delay damages and not merely the costs of completion and repair. C. The AIA 312 Performance Bond The AIA Document A312 Performance Bond (1984 edition) provides the surety with more options and procedural protections than the A311 form, but it also establishes the surety s liability for delay and other consequential damages. When the owner declares a Contractor Default under the A312 performance bond, the surety is given a number of performance options. The somewhat ambiguous reference to other costs and damages for which the Surety may be liable contained in the A311 bond, has been deleted in this bond form. Instead, the A312 bond expressly obligates the surety for a list of consequential and delay damages, in addition to the costs of correcting and completing the principal s work. The enumerated damages include additional legal, design professional and delay costs resulting from the contractor s default (or the surety s failure to act), liquidated damages, or if none are specifi ed in the contract, then actual damages for delay. 11 The A312 bond states: To the limit of the amount of this Bond, but subject to commitment by the Owner of the Balance of the Contract Price to mitigation of costs and damages on the Construction Contract, the Surety is obligated without duplication for: 6.1 The responsibilities of the Contractor/under the construction contract as may be amended and supplemented including but not limited to the responsibilities for indemnity, warranties, guarantees for correction of defective work and completion of the Construction Contract 6.2 Additional legal, design professional and delay costs resulting from the Contractor s Default, and resulting from the actions or failure to act of the Surety under Section 4; and 6.3 Liquidated damages, or if no liquidated damages are specifi ed in the Construction Contract, actual damages caused by delayed performance or non-performance of the Contractor. Paragraph 6 of the bond distinguishes between different categories of loss. Under 6.1, the surety is liable for the cost of completion if the bonded principal breached its contract. The surety is also liable for actual or liquidated damages for delay caused by the bonded principal under 6.3 of the bond. The surety is also liable under 6.2 for other delay costs resulting from the contractor s default assuming they are not encompassed by liquidated damages. The surety s liability for its own breach is governed solely by 6.2 of the bond. However, 6.2 limits the surety s liability to the delay costs to complete the project as a result of its own delay. The terms costs and damages in 6.2 and 6.3 refer to different remedies, so delay damages should be barred in their entirety against the surety resulting from its own delays or failure to act.12 Costs as defi ned under 6.2 include additional legal and design professional expenses as defi ned by the express words of the bond. Delay costs could also include various administrative expenses claimed by the owner, for instance, if they are directly related to delay and not otherwise encompassed by the liquidated damage provision. 3

4 Some owners have attempted to hold sureties liable for actual delay and consequential delay damages resulting from its own delays or failure to act which they argue are permitted based upon the delay cost language contained in paragraph 6.2 of the Bond. In International Fidelity Insurance Company v. County of Rockland, SWCF, the court held that the drafters of the AIA 312 bond clearly intended that there is a distinction between delay costs and delay damages in 6.2 and 6.3, respectively. The court held that 6.2 obligates the surety for certain incidental costs that may be incurred by an owner due to the contractor s breach of the construction agreement or resulting from the actions or failure to act of the Surety. 13 These costs include sums paid to architects to supervise the completing contractor, sums paid for legal services related to the contractor s default or additional engineering costs and legal costs incurred by the owner to rebid the contract as a result of the contractor s breach. 14 These additional costs and expenditures, which the owner must pay to complete the construction of the building, clearly correspond to the category of damages addressed by 6.2 of the Bond 15 The Rockland court held that 6.3 of the bond addresses actual damages caused by delayed performance of the contractor and are calculated in a different manner than delay costs. 16 Essentially, they refl ect not the additional incidental expenses required to complete the project, but rather the loss of use of the structure, or loss of revenue, that the owner or the owner s business suffers as a result of delay in completion of the structure. 17 The court held that the owner s claim for damages against the surety was limited as follows: Because the County s counterclaims in this action are limited to claims for loss of revenue, lost depreciation reimbursement, and additional interest incurred due to delay in completion of the building, the claimed damages all constitute damages caused by delayed performance, Bond at 6.3 Therefore, to the extent that they are caused by delayed performance of the Contractor, such damages fall within the language of 6.3 of the Bond, and the Surety is obligated under the Bond for their payment. However, to the extent that such delay damages are caused by the actions of the Surety, they do not fall within the language, and therefore within the coverage, of the Bond. Following the logic of Rockland, loan costs, construction loan interest, interest, insurance and property taxes are delay damages as provided for in 6.3 and therefore, not recoverable against the surety. Courts have limited an owner s claim for damages against the surety due to the surety s own breach of the bond to delay or incidental costs as provided in 6.2. Of course, even this interpretation provides that the surety would be liable for completion costs and liquidated damages in the event the bonded contractor breached and delayed the project as well. An additional argument has been made that actual damage items do not fi t within the other items listed in 6.2 (i.e., legal costs and design professional costs) and therefore, actual damages were not intended to be considered the types of delay costs for which the surety would be obligated if it failed to act. The Rockland court found that the category of delay damages under 6.3 of the Bond includes the additional interest costs incurred by the owner due to delay such as the cost of extending the interim or permanent construction loan and, subject to proof requirements, claims for lost contracts due to delay. 18 [The drafters] must also be presumed to be familiar with the standard maxims of contract construction, including the maxim expression unium est exclusion alterius (the expression of one thing is the exclusion of another). Thus, the drafters must have acted intentionally when they divided these damages into two different subparagraphs, 4

5 used different words and sentence structures to describe them, and obligated the Surety to pay for the specifi ed additional costs resulting from both the Contractors and the Surety s actions in 6.2, but obligated it to pay only for those liquidated or actual damages that were caused by delayed performance or non-performance of the Contractor in Although it may be impractical to construe delay damages, such as lost profi ts, loan interest and insurance, as delay costs because these items appear to be inconsistent with the category in the bond providing for legal and design professional costs, other courts have interpreted the language of 6.2 to include such damages. International Fidelity Insurance Company v. County of Chautauqua suggests that delay costs in 6.2 of the Bond should be interpreted to mean that the Surety is liable to the Owner for actual damages including lost income attributable to the Surety s alleged delay in completing the Project. 20 In Chautauqua, the court interpreted additional legal, design professional and delay costs to mean that the owner may recover from the surety actual damages, including lost income, attributable to the surety s alleged delay in completing the project. 21 The court in Chautauqua, however, makes no mention of whether the bond in that case also included a separate damage provision such as that contained in 6.3 the AIA 312 bond form. It is therefore unclear whether the distinction between the damage provisions was simply not in that bond, or was not brought to the attention of the court. The Chautauqua court engaged in no express analysis of the distinction between actual damages caused by delayed performance versus additional legal, design professional and delay costs. 22 In regard to damages for additional legal fees under the A312 Performance Bond (1984 edition), courts have held that the A312 Bond requires the surety to pay the obligee s reasonable legal fees incurred in terminating the principal and arranging for the completion of the work, but this does not include legal fees incurred in litigation with the surety. 23 The A312 bond form was revised in 2010 but paragraphs 6.2 and 6.3 in the 1984 version remain the same in the 2010 version (although re-numbered as 7.2 and 7.3). Consequently, the surety s liability for delay costs, liquidated damages and actual delay damages remains essentially the same under both forms. III. ACTUAL DELAY DAMAGES Delay claims are common in the construction industry because virtually every project has a tight budget and an aggressive schedule. The parties generally determine by contract which party will bear the risk of delay. Assuming a surety is liable for delay damages, the surety s exposure is based on the nature of the damages suffered by the obligee. Generally speaking, delay damages will be permitted if reasonably foreseeable to the parties at the time the construction contract was entered into and if there is nothing in the contract that bars or otherwise limits such claims. Provisions such as No damages for delay, Liquidated Damages, Notice and Damage Limitation provisions are common contract clauses that may limit the right of a claimant to seek delay damages. A. Types Of Delay Damages Traditionally Claimed Under a Performance Bond Based on the premise that a performance bond surety s liability is co-extensive with that of its principal, owners commonly seek the same delay damages from both principal and surety. As noted above, in spite of the traditional expectation that a surety has no obligation beyond that which is 5

6 expressly set forth in the bond, many courts have broadened the scope of the surety s liability to cover far more than the mere difference between reasonable completion costs and the unpaid contract balance. Courts have found sureties liable for both direct and consequential delay damages by reading the terms of the performance bond together with the provisions of the bonded contract. Courts rely on the provision in the bond that incorporates the construction contract by reference to assess delay damages to the surety even if the bond is silent on the subject of such damages. The bond forms have also become more expansive in terms of coverage. Bonds like the AIA 312 form explicitly provide coverage for delay damages, and public indemnity type bonds include all losses suffered by the obligee. The owner obligee may claim compensation for many types of delay damages including: 1. Administrative costs such as secretarial, consulting, inspections, testing, insurance and other in-house expenses. 2. Supervision costs such as costs for a project manager or supervisor who has extended time on the job. 3. Architect/engineer costs such as costs incurred if a design professional is required to make additional inspections and site visits. 4. Rental costs such as additional rental costs for scaffolding and cranes. 5. Increased interest expense and/or financial cost such as increased interest on the owner s construction loan or permanent fi nancing. Sureties have been held liable under the performance bond for additional interest expense incurred by the obligee on its construction loan for delays caused by the principal Loss of use damages This is the value of the use of the building during the period the owner is deprived of its use. 25 The damages in such cases are generally regarded as amounting to the reasonable rental value of the building for the period in question Attorneys fees Even though delays may cause the obligee to retain counsel, the general rule is that attorneys fees are not recoverable against the surety as a increased cost of completion unless the underlying contract or the performance bond contains an express provision for them. 27 The opposite may be true, however, in jurisdictions where attorneys fees are recoverable by statute, 28 and in jurisdictions where the courts have refused to distinguish sureties from insurers Site and home office overhead costs (in cases where the contractor is the obligee) Damages for extra job site overhead are recoverable for those expenses that the contractor continues to incur because of compensable delays. Job site overhead may include additional job site supervision, additional salaries during the delay period, premium or overtime pay and construction expenses for the project including trailer, utilities and equipment rental, cost of security, storage and insurance. Like other businesses, a construction contractor also has certain fi xed administrative expenses, commonly referred to as home offi ce overhead. Normally, a contractor allocates home offi ce overhead expenses to each project in proportion to the duration of the projects. In the case of a delay or disruption, a contractor s performance period is extended without a corresponding increase in revenue to cover extended home offi ce overhead costs. 6

7 B. Types Of Consequential Damages Traditionally Claimed Under a Performance Bond An obligee s claim against a performance bond surety for delay damages is, fi rst and foremost, an action for breach of contract. In order to be made whole, the owner (or general contractor if the surety issued a subcontract bond) must demonstrate that the alleged damages were the direct result of the breach and that they were (or should have been) contemplated by the parties. Many of the delay damages alleged in construction litigation are not technically direct damages. The damages claimed are indirect or consequential to the contractor s improper or untimely completion of the bonded contract. Although consequential damages arise from special circumstances, these damages are not recoverable as a result of a breach of contract unless such damages were reasonably foreseeable at the time of contracting and were within the contemplation of the parties. Thus, even in cases where an owner can demonstrate that it was damaged by a contractor s failure to timely perform, not all claimed consequential damages are recoverable. Recovery in each case is specifi c to the terms of the performance bond, the bonded contract and the foreseeable circumstances at the time of contracting. Even in jurisdictions in which the performance bond surety s liability has been expanded to include damages for delay, it is still necessary for the owner to prove reasonable foreseeability before it can recover consequential damages from the contractor or the contractor s surety. 1. Lost Revenue This is typically the most signifi cant component of an owner s claim for consequential delay damages. 30 The rationale for the recovery of these damages never varies: time is money, and lost time equals lost money - in the form of lost profi ts, unrecouped fi xed costs and even unrecouped variable costs that the owner unavoidably incurs during the delay. 2. Lost Profits Lost profi ts due to delay may also be recovered as damages. 31 Owners face several challenges when seeking to recover compensation for contractor-caused delay. In addition to establishing the contractor s breach and causation, an owner also must be able to quantify its damages with reasonable certainty. 32 To do so, an owner must establish that its damages are not speculative, but rather are capable of being ascertained by reference to some defi nite standard, such as market value, established experience, or direct inference from known circumstances. This reasonable certainty requirement is particularly diffi cult for the owner seeking to recover lost profi ts resulting from the delayed opening of a new business. Contractors and their sureties have had a measure of success in defeating damage claims based upon owners claims for alleged lost profi ts. In most cases in which the surety prevailed on this point, the court concluded that anticipated profi ts are simply too speculative to be allowed. Thus, in Gurney Industries, Inc. v. St. Paul Fire & Marine Ins. Co., 33 although the plaintiff succeeded in demonstrating that completion of its building was delayed due to the actions of the bonded contractor, which delayed delivery of its product to a mill for manufacture, the appellate court held that plaintiff s lost profi ts claim was conjectural and dependent upon factors too speculative to support an award. 3. Lost Opportunities Lost opportunity damages are another form of consequential damages. These damages are held to the same standard of foreseeability as claims for lost profi ts Loss of or Extended Financing Where the owner has fi nanced the construction work with a loan or line of credit, one element of damages for delayed completion on a project is extended fi nancing costs. 7

8 Such damages are recoverable unless waived. 35 Financing costs incurred by an owner as a result of a delay caused by the contractor may include extended fi nancing costs over the delay period, increased post-completion fi nancing costs due to loss of permanent fi nancing commitments resulting from delay, 36 and increased loan administration expenses that are charged to the owner/borrower. Not only could there be additional interest on the loan, but the interest rate may increase during the extended term of the loan. 37 In other instances, courts have been reluctant to fi nd the surety liable for additional interest paid on construction loans. Where it has been determined that the surety is not responsible for increased fi nancing costs, the reason is usually that such damages appear to the court to be unforeseeable and not contemplated by the parties, 38 or that the surety s conduct was not egregious enough so as to render it liable for interest in excess of its bond amount. 39 claimant s failure to prove its delay damages with the requisite particularity may preclude recovery against the performance bond surety regardless of the terms of the bond or the construction contract. More paragraph text.the wedge below is anchored inline. For more information, please contact: Lindsay E. Levin llevin@carltonfields.com /llevin Mark A. Brown mbrown@carltonfields.com /mbrown CONCLUSION The success or failure of a claimant in recovering delay damages from a performance bond surety varies based upon the particular bond form employed and the terms of the underlying construction contract, if it is incorporated into the bond. Absent language of limitation in either the bond or the construction contract, a surety s liability for delay damages may be found to be coextensive with that of its principal. Thus, the surety will be liable for all delay damages for which its principal is liable. Another line of authority, however, provides that a surety cannot be found liable for delay damages unless the bond and/ or the contract expressly provides for such liability. Nevertheless, the trend in the law seems to be toward fi nding the surety liable for some categories of delay damages. Therefore, a surety faced with a claim for delay damages should evaluate the claim to be certain that the claimant has presented proper evidence to establish its alleged damages. Ultimately, a 1 This article is a condensed version of an article published by Carlton Fields attorneys Bruce Charles, Lindsay E. Levin, and Marc A. Brown titled The Surety s Exposure to Delay Damages. The original article has been formatted for this website. 2 International Technical Instruments, Inc. v. Engineering Measurements Co., 678 P.2d 558 (Colo. Ct. App. 1983) So.2d 195, 196 (Fla. 1992). 4 Id. at A.2d 560, (Pa. Commw. 2001) 6 Id. at 566, n P.2d 407 (Cal. 1999). 8 AIA Document A Cates, 980 P. 2d at ; United States Steel Corp. v. Agua Alliance, Inc., 2005 WL (Pa. Com. Pl. 2005); St. Paul Fire & Marine Ins. Co., 93 F. Supp. 2d 1170, 1175 (D. Wyo. 2000). 10 Id. at 196, n AIA Document A Int l Fid. Ins. Co. v. County of Rockland, SWCF, 98 F. Supp.2d 400, 412 (S.D.N.Y. 2000). 13 Id. at Id. 15 Id. 16 Id. 17 Id. 18 Id. at Id. at A.D.2d 1056, 1057 (N.Y. App. Div. 1997). 21 Id. 22 County of Rockland, 98 F. Supp.2d at Tri-State Marine Construction, LLC v. Acuity, A Mutual Ins. Co., Case No (M.D. Tenn. April 21, 2006) [This case is not available on Westlaw but is available on the court s electronic fi ling site, 24 Continental Realty Corp. v. Andrew J. Crevolin Co., 380 F.Supp. 246 (S.D.W. Va. 1974); Roanoke Hospital Ass n v. Dole & Russell, Inc., 214 S.E. 2d 155 (Va. 1975). 25 Int l Fid. Ins. Co. v. County of Rockland, SWCF, 98 F. Supp. 2d 400, 415 (S.D.N.Y. 2000). 26 Id. 8

9 27 Contractors Equip. Maint. Co., Inc. v. Bechtel Hanford, Inc., 150 F. App. 585, (9th Cir. 2005); North American Specialty Ins. Co. v. Chichester Sch. Dist., 158 F. Supp.2d 468, (E.D. Pa. 2001). 28 Marshall v. W&L Enterprises Corp., 360 So.2d 1147 (Fla. Dist. Ct. App. 1978); Church of The Holy Spirit v. Bevco, Inc.,338 N.W.2d 601 (Neb. 1983); Edmonds v. Western Surety Co., 962 P.2d 323 (Colo. App. 1998). 29 State Surety Co. v. Lamb Construction Co., 625 P.2d 184 (Wyo. 1981). 30 R. Harper Heckman and Benjamin R. Edwards, Time is Money: Recovery of Liquidated Damages By the Owner, The Construction Lawyer (Fall 2004). 31 Int l Fid. Ins. Co., 98 F. Supp. 2d at Blue Water Envtl., Inc. v. Village of Bayville, N.Y., 2006 WL , at *6 (N.Y. Supp. 2006) (summary judgment entered against contractor on its lost profi ts claim where it failed to submit any proof as to the manner in which the owner s delay caused it to be unable to bid or perform work on other projects); Rooney v. Skeet r Beat r of Swt. Florida, 898 So. 2d 968, 969 (Fla. 2d DCA 2005); Himes v. Brown & Co. Secs. Corp.,518 So. 2d 937, 939 (Fla. 3d DCA 1988) F.2d 588, 598 (4th Cir. 1972). 34 LBL Skysystems, Inc. v. APG America, Inc., 319 F. Supp 2d 515 (E.D. Pa. 2004). 35 AIA Document A201, Article (waiving owner damages incurred for fi nancing ). 36 Fullerton v. McGowan, 6 Conn. App. 624, 507 A.2d 473, 477 (1986). 37 Continental Realty Corp. v. Andrew J. Crevolin Co., 380 F.Supp. 246 (S.D.W.Va. 1974). 38 Supra, note U.S. v. Seaboard Sur. Co., 817 F.2d 956, 964 (2d Cir. 1987). 9