WHAT HAPPENS WHEN YOU CAN'T GET LABOR OR MATERIALS
By Mark L. McAlpine of McAlpine & McAlpine, P.C.
Bloomfield Hills, MI
With the current excess demand in the construction marketplace and the resultant persistent shortages of trades and materials, many project owners and contractors are asking about their rights and obligations when trades or materials are not available when needed or at the expected price. Obviously, the best time to address these questions is before the contract is signed so that the risks can be balanced and priced. However, even the most skilled and knowledgeable contractors cannot forsee every material shortage which may affect the project. It can be equally difficult to predict whether subcontractors will have trade labor when needed to meet their schedule commitments.
Because these shortages are often not anyone's fault, the parties and the courts often struggle to find the best way to manage this problem.
To make this point, consider the ever more common situation where a nearby project offers (or even the entire local market) a particular trade substantial overtime (seven 10's or seven 12's), drawing down the available trade pool from other projects. Either the contractors on the other projects match the overtime (and take the productivity losses) to keep or draw the needed trade or experience a delay in the project due to the unavailability of that trade. Either way, the project is adversely affected even though neither the owner nor the contractor can be faulted for the event. How this situation is resolved can be critical to the success of the project and the financial well-being of the involved parties.
THE GENERAL RULE
In the case of a fixed price contract, the party responsible for providing the labor or material generally bears both the price and schedule risk. This has long been the law in Michigan and other jurisdictions as pronounced by the Michigan Supreme Court in Chase v Clinton Co, 241 Mich. 478 (1928) where the court refused a contractor any relief where the onset of World War I created labor and material shortages. Rejecting the contractor's attempts to invoke the doctrine of commercial impracticability, the court noted that: "[s]ubsequent events which in the nature of things do not render performance impossible, but only render it more difficult, burdensome, or expensive will not operate to relieve the contractor." This basic principle is embedded in most standard contracts which go even further and provide, for instance, that the contractor's failure to provide sufficient labor or proper materials needed to maintain the schedule is grounds for the termination of the contract by the owner (AGC 200 General Conditions (1997), Article 11.2; AIA A201 General Conditions (1997), Article 2.4,14.2.1; EJCDC 1910-8 General Conditions (1996) Article 15.02 A.1). Similarly, where the owner is to provide labor through a separate contract or the materials or equipment to be installed by the contractor and is late in providing either, the contractor is generally entitled to a price and schedule adjustment (AGC 200, Article 6.3.1; AIA A201, Articles 6.2.3, 8.3; EJCDC 1910-8, Articles 12.03 A, 12.06 B).
Accordingly, there will generally be little relief for the party who bears the price risk for either material or labor shortages unless the contract specifically addresses the issue. If the owner provides the materials or if the materials in question are covered by an allowance item or if the contractor provides the materials under a cost reimbursable contract, the owner is usually stuck with material cost increases. Similarly, if the contractor provides the labor or material under a fixed price contract, any increases in costs will generally be borne by the contractor. Like all things in the law and construction, there are exceptions to these general rules.
THE EXCEPTIONS
The general rule applies unless the other party takes some action which causes the increase in labor or material costs or causes shortages to delay the project in unexpected ways. For instance, where the owner delays the start of the project causing the contractor to pay more for materials or labor as a result of time-driven price increases or causes delays due to the unavailability of materials which were otherwise available earlier, the contractor will generally be entitled to an increase in the contract price or additional time or both. Indeed, many owner-caused delays can have this effect, such as delayed approval of shop drawings, late issuance of a notice to proceed, delayed acquisition of right-of-ways, significant project changes and a host of other actions which prevent the contractor from proceeding as envisioned by its bid. Where these situations occur, the contractor will generally be entitled to adjustments of both the contract price and time, provided the cause and effect can be demonstrated and proper mitigation steps were taken.
Just such a situation occurred in Bissell v L.W. Edison Co, 9 Mich. App 276 (1967) where a subcontractor was excused from performance which was rendered impossible due to an owner's later design and construction sequencing decision which made it impossible for the subcontractor to obtain the materials needed to complete its performance. In this situation, the owner's decision delayed the time period of the subcontractor's work which in turn forced the work to be done in weather which made it impossible to obtain the materials needed to complete the subcontract.
Similarly, where the owner has specified a range of acceptable vendors for contractor furnished equipment and then unreasonably refuses to approve the contractor's submittal, some courts have allowed both price and time relief. While generally the contractor bears the cost and time risk even in this situation, a few courts have been willing to recognize an implied warranty on the part of the owner that it has investigated the acceptability of each of the specified vendors such that the contractor is entitled to rely on a price and schedule commitment for any one of the specified vendors in submitting its bid. Appeal of T. H. Taylor, Inc., ASBCA No. 26494 (August 19, 1983); CCM August 1982, p. 5; Appeal of Parker’s Mechanical Constructors, Inc., ASBCA No. 29020 (May 29, 1984); CCM September 1984, p. 5; Hawaiian Bitumuls and Paving v. United States, 26 Cl.Ct. 1234 (1992); CCM January 1993, p. 8. In at least one case, the court allowed relief where the owner specified a single vendor who could not satisfy the schedule requirements for the project. Appeal of J-I-J Construction Co., Inc., ENG BCA No. 4815 (September 14, 1984); CCM December 1984, p. 5; Saran Industries, Inc. v. Marathon Oil Co., 666 F.2d 85 (5th Cir. 1981); CCM April 1982, p. 2.
Many contractors see an analogous situation where the owner requires that the general contractor use only pre-approved subcontractors or where the owner rejects the contractor’s first choice of subcontractor. The contract usually remedies this situation in favor of the owner by requiring the contractor to be responsible for its subcontractors and providing that the contractor cannot be required to contract with any subcontractor to whom it objects. However, in a notable exception to this general rule, the Michigan Court of Appeals in In re F. Yeager Bridge and Culvert Co., 150 Mich.App 386 (1986) observed that the general contractor was given relief under its contract with the State of Michigan where its fabricated structural steel subcontractor became insolvent after the lifting of federal price controls on steel (and thus performance under the original contract was rendered impossible) given the fact that the structural steel subcontractor had been pre-qualified by the State. The court reformed the contract to provide that the State, rather than the general contractor, had the obligation to obtain the structural steel. While this decision is a rather extreme departure from the general rule, it does demonstrate that the courts may grant relief in situations where the general contractor is required by the owner to use a particular subcontractor or supplier which is later unable to perform due to labor or material shortages.
Where materials or "goods” are concerned, there is a difference in the body of law applicable to suppliers of materials versus subcontractors who both supply the materials and install them. If the primary purpose of the contract is the supply of materials or equipment, then the Michigan Uniform Commercial Code (MUCC) will apply. If, however, the primary purpose of the contract is the installation of the materials or equipment, then the contract will be governed by general contract law. This difference can be important in extreme situations where the doctrine of commercial impracticability or impossibility may excuse a supplier's obligation to perform due to material shortages under the MUCC, but where the same facts will not excuse the installing subcontractor's obligation to perform under its contract with the general contractor. In other words, the difference in the applicable law could allow a material supplier to be excused without liability for not meeting its delivery commitments to the subcontractor, even though the material delay could expose the subcontractor to breach of contract damages or even liquidated damages under its contract with the general contractor. The best way to avoid this possibility is to ensure that the contract/purchase order issued to the material supplier is carefully drafted to mirror the subcontractor's performance obligations regardless of the provisions of the MUCC.
It is noted that some standard contracts do provide limited relief for the contractor where trade or material shortages interfere with its ability to perform. For instance, most standard contracts will grant the contractor a time extension where labor becomes unavailable due to a strike or labor dispute (AGC 200 (1997) Article 6.3.1; AIA A201 (1997) Article 8.3.1). Indeed, many custom contracts include labor disputes in force majeure clauses which excuse performance where labor disputes affect the project. Interestingly, the AIA 201 (1987 and 1997 versions) General Conditions Article 8.3.1 now allows at least an extension of time (and does not preclude an increase in the contract price) where an “unusual delay in deliveries” affects the project. Earlier versions of this contract used the phrase “unusual delay in transportation” which would most likely be viewed by a court as narrower than the term “deliveries”. While a court decision addressing this difference in terminology has not been located, it may be possible in certain cases to argue that the newer versions of this clause provide the contractor greater schedule relief for material shortages where, for instance, the materials or goods are specially manufactured for the project and where the doctrine of constructive delivery may not require a manual transfer of possession at the project site.
THE FIX
As discussed above, there are exceptions to the general rule that the party providing labor or materials bears both the price and schedule risk associated with any shortages of either. Indeed, space does not permit a complete discussion of all of the circumstances in which a contractor or subcontractor may be granted relief from the operation of the general rule. However, it is never wise to leave one's fate to a sometimes unpredictable and arbitrary judicial system. Rather, the best solution where labor or material shortages are foreseen is to specifically provide relief in the contract itself.
It is best practice for the owner and contractor to openly discuss material and labor impacts on the project. This starts with the design professional considering the availability of materials in the design process. For instance, the use of traditional masonry versus pre-cast panels or the use of structural steel framing versus a concrete structure are legitimate considerations for any owner in any time-value-of-money evaluation of how material and methods choices affect schedule, particularly now that interest rates are on the rise. Indeed, there is great value in consulting the contractor during an early value engineering process who can give current information as to the availability of materials and labor. Thus, the first step in dealing with potential material and labor shortages is to take reasonable action to ensure that the design does not unnecessarily expose the project to material and labor delays and price escalations.
The next step is to address unavoidable material and labor sensitivities in the contract. While some owners may prefer to pass the entire risk onto the contractor, it should be prepared for added contingencies in the contractor's price to cover the potential risk of material or labor shortages which might produce a windfall profit for the contractor if the risk does not materialize. To avoid these contingencies, the owner may wish to recognize material or labor shortages as force majeure events which entitle the contractor to a time extension or possibly allow the contractor to recover all or a portion of its actual cost increases where material prices increase or where overtime premiums are necessary to attract or retain labor. Additionally, the author is aware of certain insurance products being tested in limited markets which may cover an owner's exposure to increased material and labor costs where the size of the project and length of the schedule justify the premium.
While these steps may appear extreme to an owner used to fixed price contracts, it must be recognized that the best contractors can now afford not to bid contracts which impose unreasonable risks or to bid such contracts with significant contingencies to cover these risks. The owner is either deprived of the use of the better contractors or is put in the position of potentially paying windfall profits if material or labor risks do not materialize.
CONCLUSION
Material and labor shortages have caused many difficulties in the current construction market, even to the point where some owners are delaying projects in hopes of better future market conditions. While standard contracts provide some relief for the contractor exposed to these conditions, the general rule still imposes both the price and schedule risk on the providing party. Judicially imposed exceptions exist, but are both unpredictable and expensive to obtain. The best course for all concerned is to recognize the potential impact these shortages can have and to deal fairly and openly with these issues during the design state and in the development of the parties’ contract.
