Construction projects typically involve many parties and multiple tiers of contractual relationships. It is a stark reality that the farther down one is on the contractual chain, the greater the payment risk. Subcontractors and suppliers sometimes look up the chain to seek assurance of payment. Project owners and general contractors, for a variety of practical reasons, sometimes extend this assurance.
A recent federal appellate case involves this situation. A project owner felt the need to assure a key supplier to the owner’s prime contractor. The owner sent the supplier a letter citing the owner’s strong financial rating and its long term bonding and banking relationships. The owner offered to pay the supplier directly or to issue joint checks to the prime contractor and supplier.
The supplier didn’t respond to the letter. But when the prime contractor went out of business without paying the supplier, the supplier looked to the project owner for payment. The question became, did the owner’s letter – in itself – create an enforceable payment guarantee?
How do you feel about seeking, or extending, a payment guarantee up or down the contractual chain? Subcontractors and suppliers have protections in the form of mechanic’s liens and payment bonds. Is it reasonable to expect more and look to parties with whom they have not contracted for payment? As always, I welcome your comments.
Featured in next week's Construction Claims Advisor . . .
- Termination Clause Was Unenforceable Penalty
- Engineer without Written Change Order Denied Recovery for Misrepresentation
- Shortcomings in Contract Documents Leave Design/Build Contractor Exposed
Bruce Jervis, Editor
Construction Claims Advisor
Posted by: Mike | 08/27/2010 at 08:26 AM
Bruce,
It appears to me that the most important thing about any contractural obligation is that it is sustainable enough to make sure that the terms of the contract are complewted on every level, so as not to hold up completion of the owner's project.
Contract sustainability must pas from one level to the next. Normally, it starts between the contrctor and the owner with their contract and responsibilities are passed along that line. The line gets longer when subcontractors are involved. Owner, GC, Subcontractor, supplier and then manufacturer is usually the path for contracts to normally address and responsibilites flow from one level to the other. Material feeds up fromt he manufacturer and payments feed down to that same level. Any contract that does not allow for that tracking, even when one of the portions along the way may be cut out, for any reason, leaves everyone holding the bag and delays the project, costing everyone more money, except the lawyers involved in straightening it out in the end.
Posted by: J. Sheedy | 08/27/2010 at 08:50 AM
If the Owner "..felt a need to assure a key supplier to the Owner's prime contractor..." then the Owner hired the wrong contractor which is obviously confirmed by the fact that the contractor went out of business without paying the supplier. If the supplier sold to an uncreditworthy contractor and failed to file his mechanic's lien and notice to the bonding company then he deserves what he apparently got. We do not allow payment guarantees up and down the contractural chain which, in any event, is a one way street. Whose guaranteeing performance by the subcontractor or supplier to the contractor? Everyone needs to do their homework and exercise their rights when necessary or suffer the negative results.
Posted by: Joe Valrose | 08/27/2010 at 09:03 AM
Owner should have done a better job checking contractor's financial position out. If the Owner thought there was a risk - Owner should have joint checked contractor & supplier. Also, Owner needs to monitor the prelien information and ask the contractor for lien releases with monthly billings.
Posted by: Jim Tilton | 08/27/2010 at 09:51 AM
I have observed that aggressive project Owner's tend to take greater liberties with their contract interpretations than the more capable Owner's, Design Professionals, GCs, Subs, and Suppliers.
Moreover, these interpretations and resulting actions cause more project confusion and change, than project progress.
This in turn continuously decreases the probability of project success for all stakeholders.
Posted by: Reggie S. Smith | 08/27/2010 at 10:43 AM
Owners should have absolutely no technical input once the project is committed to final drawings and subbmitted for bid and GC selected. Just about every job now has some substantial hinderence placed by Owners representatives who most of the time are mere office lackys or people with little to no previous construction experience. That being said, once the GC is hired I suppose the Owner is free from responsability for the GC subs and suppliers. What I would like to see is an absolute law preventing GCs from avoiding or delaying payment to subs without substantial cause. Pay when I get paid should be felony theft. Of course being a Sub I am biased having been constantly burned by greedy or incompitent GCs.
Posted by: Joseph Cox GMA Inc. | 08/29/2010 at 09:10 AM
You said it: they have mechanic’s liens and payment bonds...
letters advertising strong credit ratings up the supply chain are just PR.
Posted by: Lou | 08/31/2010 at 07:25 PM
Subcontractors are an essential part of the construction process and should not be left waiting for their money. Most subs are required to pay their labor bills weekly and material bills monthly, so they should not be left waiting for money any longer than thirty days (fifteen days should be the norm). If an owner can't afford to pay his GC on a monthly basis than he can't afford the project.
Posted by: Sean Cadigan | 09/01/2010 at 03:01 AM