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Posted by Thomas A. Littlefield
When a construction project is delayed, damage claims can result, and fingers are quickly pointed at the contractor to be held accountable for these damages. Planning for all the potential delays that can affect a project is not easy ― especially in today’s unpredictable pandemic environment with its supply chain shortages, volatile prices of materials, and inadequate pool of skilled workers. With this backdrop, today, sureties are all the more concerned about the increased exposures that arise when a contractor may not be fully aware of the liability and financial risk they are exposed to from these clauses and is not adequately prepared to avoid or mitigate this exposure.
A strong strategy for risk mitigation may potentially save the contractor from financial devastation and allay the concerns of their surety. It requires the contractor to perform diligent contract reviews and understand a specific contract’s terms and conditions intimately during the negotiation stages. With the help of their team of professionals ― including their bond producer, surety, and construction attorney ― they should review a contract to develop a 360-degree picture reflecting the contract’s complexities, including a close review of both contract rights afforded to them as well as for all damages for which they may be held liable in both direct and consequential terms. With this understanding, the contractor will be able to form a strategy to assess and mitigate how the various damage clauses could affect the company’s business.
Before signing a contract, the contractor must:
- Review it with their attorney and understand the legal remedies they can use.
- Determine the maximum financial liability they could incur if the completion schedule is not met.
- Determine the amount of damage clause risk they are financially able and willing to take.
Before taking on any new project, it’s always useful to be familiar with the terminology and various types of damage clauses that can appear in contracts.
What are the primary damage clauses in construction contracts?
Actual or “compensatory” damages are assessed to reimburse or make good the loss caused by a breach. They result from additional costs that accumulate when a project is delayed or faulty workmanship must be repaired or replaced. Usually, the project owner or general contractor must prove the damages and their monetary cost.
Liquidated damages are assessed when actual compensatory damages are too difficult to demonstrate. Smart contracts include a “not-to-exceed” dollar limit cap, enabling the contractor to avoid catastrophic losses. Predictable contingencies are used to determine potential damages ― which can be budgeted into a contractor’s project. These are the most common damages found in construction contracts.
Consequential damages are the indirect costs resulting from a delay, and ― if not excluded or if compensation is not specifically stipulated ― they can expose a company to unlimited and undefined liability. Consequential damages can be a company killer.
Read More about Risk Mitigation Strategies
Critical contract clauses to understand include the no-damage-for-delay clause and cross-project setoffs. To learn more about these and other elements to consider for your risk-mitigation strategy, read my article, “Understanding Damage Clauses in Construction Contracts,” which appears in Pipeline, which is published by the National Association of Surety Bond Producers (NASBP).
Tom is a VP Director, Large Contract Accounts at Old Republic Surety with a wide variety of experience in contract surety. Tom has a varied background within surety including underwriting complex, large contract accounts, with expertise in contract risk analysis.