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Construction In Brief: Winter 2010

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Playing The Contractor Shell Game

By Matthew Gioffre

Subcontractors on construction projects are often anxious to receive payment for their work and are all too willing to sign anything that general contractors place in front of them in order to put that money in their pockets.  Recognizing the advantage of their position, general contractors will often require subcontractors to sign releases of all claims associated with the work performed during a particular pay period.  Historically, courts in Pennsylvania have upheld the broad application of these releases and, to the extent that a claim arose before the release was signed, the subcontractor would be completely barred from recovering on that claim.

However, a recent Pennsylvania District Court case calls into question whether the language of a release of claims is always sufficient to bar claims for delay damages incurred throughout the course of the project.  Pioneer Construction Co., Inc. v. Pride Enterprises, Inc., et al. describes a scenario in which a subcontractor was permitted to pursue its delay claims despite the existence of signed releases.

Pioneer, as a project subcontractor, executed releases in exchange for payment throughout the course of the project, covering each pay period that it was on site.  The releases were extremely broad.  They released the general contractor and the project owner from “all rights, claims and demands…  arising out of or pertaining to the above referenced project…  up to and including” the most recent payment period.

The project was woefully behind schedule and the owner repeatedly extended the schedule for reasons completely unrelated to Pioneer’s work.  These delays resulted in Pioneer incurring significant costs.  After the project ended, Pioneer brought claims to recover the delay costs, and the general contractor asserted that the releases signed by Pioneer provided a complete defense to Pioneer’s delay claims.

While releases such as those signed by Pioneer would usually bar delay claims, the court held that they were insufficient to bar Pioneer's claims in this case.  The court read the broad language of the releases in the context of the parties’ course of dealing with one another during the performance of the subcontract.  In particular, the court was swayed by the manner in which the general contractor treated Pioneer’s potential delay claims before Pioneer brought suit against the general contractor.  In support of its own delay claims against the owner, the general contractor had asked Pioneer to prepare a statement of claim establishing how it was impacted by the delays.  The general contractor certified this claim and then submitted it to the owner.

The court held that the general contractor’s request that Pioneer prepare a statement of claim and its certification of the validity of Pioneer’s delay claim appeared to be in conflict with the terms of the release that purported to bar such claims. Therefore, the court determined that the parties’ course of dealing suggested that both Pioneer and the General Contractor believed that Pioneer maintained its delay claims despite the language of the releases.  Accordingly, the court refused to dismiss Pioneer’s claims on the basis of the releases alone.

The Pioneer case has broader implications for both subcontractors and general contractors. As a subcontractor, you need to closely examine any documents, and particularly releases, that the general contractor requires you to sign in order to receive payment.  If you are aware of project delays that may cost you money, be sure to note on the release that you are not waiving claims for the costs associated with those delays.  If you do not include this type of limiting notation on the release, you are taking a gamble that: (1) the general contractor will take actions in conflict with the terms of the release, and (2) that, as a result of the general contractor’s actions, a court will disregard the release.  This gamble, if lost, will result in the waiver of valuable claims.

As a general contractor, even if your subcontractor is willing to sign a release, that is not the end of the story.  Be sure that you treat the release, at all times, as though it has extinguished all of the subcontractor’s claims.  If not, the courts just might put more stock in what you do than in what the release says.

Withdrawal Liability: What’s At Stake?

Whether you are a union or non-union contractor, it is important to know about “withdrawal liability.”  If you have never heard of it, you are not alone.

Withdrawal liability refers to a contractor’s obligation to make payments to a union pension plan after it ceases to be a signatory with that union.  To be clear, we are not talking about the type of payments that a union contractor routinely makes to a pension fund for contributions on behalf of its employees under the terms of a collective bargaining agreement.  Withdrawal liability is a completely separate type of financial liability a contractor may be obligated to pay under federal law.  Since a contractor’s withdrawal liability can easily be in the range of hundreds of thousands, if not millions of dollars, it is important to know the basics about withdrawal liability.

An employer’s obligation to pay withdrawal liability is triggered when a union pension plan is “underfunded.”

This means that the pension plan’s current assets were, in a given year, less than the value of the vested pension benefits it owed. For each year a pension plan is underfunded, a contractor that owes withdrawal liability will have to pay its "fair share” of the amount by which the plan is underfunded.  Roughly speaking, a contractor’s “fair share” is the contractor's contributions to the pension plan for its employees as a percentage of all contributions to the plan.  For example, if a pension plan is underfunded by $10 million in a given year, and a contractor’s contributions were 1% of the total contributions to the plan, the contractor’s withdrawal liability would be $100,000 (or 1% of $10 million) for just that year.

There is a very real potential that contractors will face withdrawal liability in the foreseeable future.  This is because most union pension plans in the building and construction trades have been underfunded by millions of dollars for the past several years, and remain underfunded, as a result of the severe economic downturn.

So, when does a contractor owe withdrawal liability? Withdrawal liability is triggered when a contractor stops being a party to a collective bargaining agreement with the union and no longer has an obligation to contribute to the union pension plan, but continues to perform the same type of work anytime within the next 5 years (or, in some cases, if the contractor engages non-union subcontractors to perform the work).  Simply put, if a contractor is no longer signatory with a union, and the contractor stays in business, the contractor will usually be responsible for withdrawal liability if the union pension fund was underfunded in any year that the contractor was a union signatory.

This is the most typical instance of withdrawal liability, but not the only one.  A contractor may owe withdrawal liability when there is a sale of the company, a sale of assets, or even if it significantly reduces the amount of pension fund contributions it makes (whether due to a decreased business volume, or a scaling back of operations).  If multiple contractors leave a union at the same time, or there is a plan termination, this may also trigger withdrawal liability.

You need to know about withdrawal liability even if you are a non-union contractor.  If you purchase the assets of a union company, you may also be “'buying” some or all of the seller’s withdrawal liability.  If you are considering becoming a union shop, you will certainly need to account for this future potential liability in your business planning.

Many contractors are surprised - to put it mildly - to discover that they owe a tremendous amount of money upon leaving a union.  Regardless of whether you are a union or non-union contractor, you need to be aware of the very real potential for withdrawal liability, given today’s economy, so that it does not become a “phantom” that suddenly appears from the shadows.  The rules governing withdrawal liability are complex, and the Labor and Employment Group at Cohen Seglias is ready to provide you the long-term guidance you will need to manage your business and any potential exposure to withdrawal liability.

Controlling Your Own Fate? KNOWING WHAT TO DO AS THE BENEFICIARY OF A PERFORMANCE BOND

By Daniel E. Fierstein

Are you a project owner or general contractor currently protected by a performance bond?  If so, it is important that you understand your obligations under the bond.  A bond is a contract, and like any contract, failure to perform as required (even if you are the protected party) could constitute a breach of the contract.  If you breach the bond agreement, then there is a possibility that the surety will be released from its obligations under the bond and will not have to undertake or pay for completion of construction.  Because the consequence of losing the protection of the performance bond is so severe, it is vital that you read the language of the bond, paying particular attention to how and when notice to the surety is required. Also focus on the requirements relating to your obligation to assist the surety in its investigation of your claim.

Each of the above performance bond requirements was recently addressed by the U.S. Court of Appeals for the District of Columbia in Hunt Construction Group, Inc. v. National Wrecking Corporation.  In this case, Hunt Construction Group, the general contractor, was protected by a performance bond obtained by its subcontractor, National Wrecking Corporation (NWC).  NWC was retained by Hunt to perform the excavation work necessary for a hotel construction project in Washington, D.C.  Pursuant to the parties’ subcontract, NWC was scheduled to complete its work by February 12, 2004.  NWC, however, did not complete its work until April 6, 2004, resulting in the acceleration of the concrete subcontractor and $803,264 in alleged delay damages.  In July 2004, approximately three months after NWC completed its work, Hunt provided NWC and NWC’s sureties notice of default and termination.  Shortly thereafter, NWC’s sureties attempted to contact Hunt to investigate the claim, but received no response until Hunt filed its lawsuit.

After considering Hunt’s and NWC’s arguments in the lawsuit and the language of the performance bond, the Court concluded that a surety’s obligations under a performance bond are triggered when: 1) the protected party clearly and unequivocally declares the contractor or subcontractor in default, and 2) formally notifies the surety early enough in the project for the surety to address the default.  The Court explained that unless the protected party provides proper notice in a timely fashion, the surety will be deprived of its opportunity to remedy the contractor’s or subcontractor’s default.  The Court further explained that if the protected party breached the notice requirements, it would not be entitled to receive any of the benefits provided in the performance bond.

In this case, Hunt waited until NWC completed its work before Hunt provided the sureties with notice of NWC’s default.  At that time, Hunt had already deprived the sureties of the opportunity to cure NWC's default or arrange for performance of NWC’s work.  Because the sureties were deprived of  these contractual rights under the performance bond, the Court held that the sureties had no obligation to pay Hunt.

Like the Court in the Hunt case, Pennsylvania and New Jersey courts first turn to the language of the performance bond to determine the obligations of the protected party and the surety.  Similarly, you should look to the language of the performance bond to determine your obligations as the protected party.  Specifically, you should determine the requirements for providing formal notice to the surety (i.e., does the notice have to be in writing, what information must be included, does it have to be delivered by certified mail?).  You should also determine your obligation to assist the surety in investigating your claim.

Finally, you need to provide formal notice of default as soon as you have knowledge of the contractor’s or subcontractor’s failure to perform.  By providing notice to the surety as early  as possible, you maximize the surety’s opportunity to cure the default or hire a replacement contractor to finish the work.  Conversely, if you wait until the end of the project or hire a replacement contractor without first notifying and giving the surety a chance to complete the work, you risk losing any benefit you may have received under the performance bond.

In sum, by properly reviewing or having counsel review your performance bond at the beginning of the project, you can ensure compliance with your obligations and maintain your rights as the protected party under the bond.  If you do so, you could avoid the fate of Hunt, and increase your chance of recovery from the surety.

Service-Disabled Veteran Owned Business Program

By Edward T. DeLisle

In recent testimony provided to the House of Representatives' Committee on Small Business, a disturbing fact was revealed: millions of dollars earmarked for Service-Disabled Veteran-Owned businesses (SDVOSBs) have been paid to companies that do not qualify for the program. Compounding the problem is the fact that insufficient fraud-prevention programs exist to effectively combat such abuses. This was the conclusion reached by the United States Government Accountability Office (GAO) following a case study that included an investigation of 10 companies claiming SDVOSB eligibility.

In 2008 alone, $6.5 billion in federal contracts were awarded to companies that certified themselves as SDVOSBs. While this figure only represents 1.5% of all government contracts paid in that fiscal year, it is still a very large number. If the federal government ever attains its mandated goal of 3%, many more billions will become available to qualified SDVOSBs. Given the paucity of work in the private sector over the course of the last 18 months, many companies are attempting to tap into this potential source of revenue. As the GAO pointed out, however, a number of these companies have misrepresented their credentials, effectively taking contracts away from those that are truly qualified to receive them.

The companies identified in the GAO case study received approximately $100 million in SDVOSB contracts, and over $300 million in additional 8(a), HUBZone and other non-SDVOSB contracts through the federal government. Certainly, none of these monies should have been paid to the companies in question. Because there are no requirements to terminate contracts when a firm is deemed ineligible, in certain circumstances, companies were permitted to continue performing, despite the government’s determination that the firms did not qualify as SDVOSBs. Many more were not debarred from receiving federal contracts, even though the transgressions noted were obvious.

The GAO did note that the U.S. Department of Veterans Affairs (VA) has taken steps to address this problem by introducing an SDVOSB validation process. That process includes confirming an owner’s status as a disabled veteran, as well as his or her control over day-to-day operations. The problem, however, is that the VA’s certification and validation process is not a government-wide system. It is limited to those contracts issued directly by the VA. Because many other federal agencies issue contracts that are earmarked for SDVOSBs, there are considerable gaps in the SDVOSB program.

If your company is an SDVOSB, or if you are interested in forming a company that qualifies for participation in the program, it is very important for you to comply with applicable SBA and procurement regulations.

The fierce competition for federal government contracts exposes many companies to size status protests which, if successful, can cause an SDVOSB to lose an award. Our Federal Contracting Practice Group is available to assist you with these important compliance issues.

Understanding Your Commercial General Liability Policy A LOOK AT COVERAGE PROVIDED TO ADDITIONAL INSUREDS

By Jonathan A. Cass

This is the second in the series explaining provisions and coverages available under a commercial general liability policy.

As part of a construction project, General Contractor (GC) and Subcontractor (SC) enter into a contract that requires SC to name GC as an additional insured under SC’s CGL policy.

During the course of the project, an employee of another subcontractor is injured when he trips and falls over debris that he claims was left on the job site by SC.  SC denies that it was responsible for the debris, claiming that it was left by yet another subcontractor.  The injured employee sues both GC and SC.  GC demands that SC’s insurance company defend and indemnify GC because GC is named as an additional insured under the CGL policy issued to SC.

This article will address a number of basic questions related to what it means to be an additional insured.

1. What is the difference between being a “named insured” and an “additional insured"?

The named insured is typically the individual or entity that purchased the policy.  For example, since SC purchased the CGL policy, it is the named insured.  As the named insured, SC is responsible for paying the policy premium, and is insured under the CGL policy, subject to the policy’s terms, conditions and exclusions.

An “additional insured” is another individual or entity for whom the named insured has agreed to provide insurance coverage under its policy.  In the above example, SC has agreed to name GC as an additional insured.   Unlike the named insured, an additional insured has no obligation to pay the policy premium.  However, as explained below, the coverage available to an additional insured, like GC, is narrower than the coverage available to the named insured.

2. How does SC add an additional insured to its policy?

An entity like GC  can be added as an additional insured under SC’s CGL policy in two different ways: (1) by specifically adding the additional insured party as requested by SC (the “named entity endorsement”); or (2) through what is referred to as a “blanket additional insured endorsement” that automatically adds any entity as an additional insured once SC contractually agrees to do so.

The blanket endorsement is a better option for contractors who are frequently required by contract to name other entities as additional insureds.  Because the additional insured is automatically added to the CGL policy once SC signs the contract requiring that it do so,a it avoids the possibility of an entity “falling through the cracks” and not being added as an additional insured due to a mistake by SC or SC’s insurance broker.  However, the blanket endorsement can be more expensive up front to purchase.

3. What rights does an additional insured, like GC, have under SC’s CGL policy?

The short answer is that it depends on the policy.  GC’s rights to coverage as an additional insured under SC’s CGL policy will vary depending on the coverage available generally under the policy, and the coverage available specifically to an additional insured.  Typically, the coverage available to an additional insured is not as broad as the coverage available to a named insured.  This is because insurance companies, for the past 20 years, have been rewriting their policies to limit the coverage available to additional insureds.

In most CGL policies, the coverage available to an additional insured is set forth in a specific endorsement (i.e., a separate document added to the policy).  For example, if  SC is required to specifically identify GC as an additional insured under its policy, the insurance company will most likely use the “CG 20 10 07 04” and “CG 20 10 37 04” endorsements.  One pertains to coverage provided for claims that occur while work on the project is ongoing (i.e., an injury to a worker that occurs at the site), while the other is for claims that occur after work on the project is completed (i.e., a claim for property damage related to an alleged construction defect).

Under these endorsements, an additional insured has coverage for claims “only with respect to” personal injury or property damage that the named insured also causes, at least in part.

In other words (using our GC/SC example), for there to be coverage for the GC as an additional insured under SC’s CGL policy, SC must be found to have contributed to the damage or injury.  There is no coverage if GC is found to be solely responsible for the damage.

4. Does GC have a right to have SC’s insurance company pay for a lawyer to defend GC?

One of the most significant advantages to being an additional insured is that it triggers the insurance company’s obligation to appoint an attorney to defend the additional insured once a lawsuit is filed.  The insurance carrier’s obligation to defend the additional insured exists even when there are questions as to whether there will ultimately be coverage to indemnify the additional insured (i.e., pay any settlement or verdict).

Using our GC/SC example, where SC denies that it was responsible for the debris that caused plaintiff to fall, even though SC may ultimately be found to have not contributed to the damage or injury being claimed by plaintiff, SC’s insurance carrier is still obligated to provide a defense to GC until that determination is made.  By having SC’s insurance carrier pay for GC’s litigation expenses, GC reduces the payment made by its insurance carrier, and thereby reduces its own loss ratios, which can affect future premium costs.

In the past few years, insurance companies, as part of their underwriting and risk management practices, have begun reviewing general contractors’ form subcontracts to ensure that they have appropriate insurance requirements for their subcontractors, including additional insured requirements.  We also recommend, as part of good risk management practices, that general contractors conduct such a periodic review.  Also, subcontractors should carefully review the insurance coverage that is required by general contractors and, at the very least, discuss these requirements with their insurance broker on a contract-by-contract basis to ensure that they are in compliance.

Membership in an Unsecured Creditors’ Committee

As more entities in today’s economy file for the protection afforded by the bankruptcy code, your company may find itself in a position where it has been solicited to participate in the bankruptcy case by joining a creditors’ committee.  If you receive a letter from the Office of the United States Trustee inviting your company to join such a committee, you should consider whether membership is right for you.  Unsecured creditors of an entity that has filed a bankruptcy petition are often solicited to be part of the Official Committee of Unsecured Creditors, also known as the “Committee.”  The purpose of the Committee is to protect the rights and interests of all unsecured creditors of the debtor entity.

The primary benefit of membership in the Committee is that members have a say in the negotiations and administration of the case.  The Committee or its counsel is given notice of all filings in the case, and thus has access to information relating to the debtor and its estate.  The Committee also actively participates in important steps in the debtor’s bankruptcy estate.  For example, the Committee generally negotiates the debtor’s plan of reorganization or liquidation.  There is no out-of-pocket cost relating to being a member of the Committee, as professionals hired by the Committee are reimbursed from the assets of the debtor’s estate for fees and expenses incurred in representing the Committee.

Participating in a Committee can be time-consuming and can pose difficult choices.  The Committee has a fiduciary duty to all unsecured creditors. This fiduciary duty requires the Committee to determine what is best for all unsecured creditors, not just for those participating in the Committee.  This can be difficult when, for example, a certain course of action is best for the Debtor but may not be a benefit for the individual members of the Committee. Nevertheless, upholding the fiduciary duty is the most important part of membership in the Committee.

WHAT'S NEW

In lieu of hosting our annual holiday party, Cohen Seglias chose to support an important need in the local community.  With the help of clients and employees, the Firm continued a tradition of providing toys to needy children in the Philadelphia community by donating funds, as well as hosting a toy drive to benefit The Support Center for Child AdvocatesOn December 17, 2009, Cohen Seglias partner Ed Seglias presented a $5,000 check toChild Advocates'  Executive Director Frank Cervone.  The donation benefitted their 2009 Holiday Toy Drive and helped Child Advocatesprovide toys for abused and neglected children throughout Philadelphia during the holiday season.  Cohen Seglias has partnered with Child Advocates for ten years and is a proud supporter of their ongoing work.  We'd like to offer a heartfelt thanks to our clients for their toy and monetary donations.

The Support Center for Child Advocates provides legal assistance and social service advocacy to abused and neglected children in Philadelphia County.  Child Advocates is one of the most successful volunteer models serving children in the county.  Since its founding in 1977, Child Advocates has trained more than 3,000 attorneys who contribute pro bono services valued at more than $4 million annually.  To learn more about Child Advocates, please visit www.advokid.org.

On January 1st, five lawyers joined our Pittsburgh office from three separate law firms, more than doubling the size of the office and enhancing our commercial litigation practice.  Manning J. O'Connor II joined the Firm as managing partner of the Pittsburgh office, while Patrick Sorek and Mark Stadler joined as partners.  Douglas C. Hart and Christopher A. Cafardi joined as senior associate and associate, respectively.

Manning J. “Jim” O’Connor II is a partner in the Commercial Litigation Group.  An experienced trial lawyer, Jim counsels and represents clients in a wide variety of matters with special emphasis in the areas of commercial disputes, employment issues and healthcare litigation.

Patrick Sorek is a partner in the Commercial Litigation Group and has considerable experience in civil rights and employment.  Patrick formerly served as a trial lawyer with the Civil Division of the United States Justice Department in Washington D.C., representing the White House, NASA, the FBI, CIA, and other federal agencies in Federal District Court.

Mark Stadler is a partner in the Business Law Group and focuses his practice primarily on health care providers and related business transactions.

Douglas C. Hart is a senior associate in the Commercial Litigation Group.  He maintains a general litigation practice, focusing on commercial litigation as well as employment and discrimination matters.  Doug is also a Certified Public Accountant.

Christopher A. Cafardi is an associate in the Construction Litigation Group.  He focuses his practice on construction litigation issues, representing owners and contractors in a variety of jurisdictions.

For additional information, contact Crystal Garcia at (215) 564-1700 or cgarcia@cohenseglias.com.