Contract Interpretation

A Lesson on Good Faith and Fair Dealing in Solar ConstructionLate last year, a federal trial court in New York awarded a solar development company $11.6 million in damages against Suffolk County arising out of a dispute on a multi-site carport solar construction project. The basis for this substantial award? The County failed to satisfy its obligation to cooperate with the developer on permitting issues under the parties’ lease agreement. After an extensive dive into the facts of the dispute, the court concluded that the County’s deliberate efforts to stall and frustrate the permitting process violated the lease agreement’s requirement that the County “fully cooperate with the developer in the conduct of its operations and the exercise of its rights.”

In 2010, the developer, EDF Renewable Development, contracted with Suffolk County under a series of lease agreements to supply 20 MW of solar power on seven different carport solar installations throughout the county. As part of the permitting process under certain of the lease agreements, the County required the developer to supply a parking replacement or parking mitigation plan. The court found that the parties’ course of dealing on the permitting process on each of the first six carport sites involved a collaborative approach and the use of conditional permitting to expedite construction.

Because of global supply shortages, the developer elected to procure all solar panels for the seven carport sites along with frame steel in advance of construction. Based on the evidence presented, the court noted that had the developer awaited permit approval prior to ordering panels and frames for each site, the developer would not have been able to complete construction of each site on time. With the exception of the final site, the parties’ collaborative conduct allowed construction of each of the other six solar installations to proceed smoothly and without issue.

In January 2012, the County experienced turnover in its leadership, and the new leadership was approached by a retail developer who opposed the remaining carport solar installation. The new County administration agreed that it would not support completion of the remaining solar installation. The County did not inform the solar developer of this agreement and, instead, for the next three months, the County intentionally stalled and delayed all activity relating to the remaining carport site.

Unaware of the County’s intent, the solar developer continued to finalize conditional permitting and started construction as it had done with each of the six previous carport sites. As time progressed, the County representatives became more and more uncooperative and unwilling to communicate with the developer in any meaningful way in regards to permitting the project, including developing a plan for replacement parking. Finally, in March 2012, the County, for the first time, communicated to the developer that it “preferred” not to proceed with the remaining carport installation and requested that the parties look for an alternative site for the installation. The developer participated in such discussions, but no mutually agreeable alternative site was located.

During these discussions, the County never complained about the lack of a parking replacement plan as being the basis for not proceeding with the carport installation. The trial court concluded that the County’s sole motivation in rejecting and halting the final carport installation was to accommodate the retail developer’s request that the carport installation at the final site not go forward. The court further determined that the County failed to comply with its good faith contractual duty to cooperate with the solar developer in securing permitting and a replacement parking plan for the final carport site, which constituted a material breach of the parties’ lease agreement.

With respect to damages, the court found that the developer’s decision to purchase the solar panels in advance of construction of each site was supportable given the evidence of a global shortage at the time of contracting in 2010 and  that the developer properly mitigated its damages by re-selling the panels and steel material at reasonable rates. Thus, the court awarded the developer its remaining out-of-pocket costs incurred for procurement and project preparation costs, as well as prejudgment interest, for a total award of $11.6 million.

As the court noted, although the County was not required to issue a building permit or to relax the permitting requirements under the lease agreement, those facts did not allow the County to actively and deliberately frustrate the permitting process. By ignoring its good faith obligations under the lease agreement, the County’s efforts to sabotage the final carport solar installation backfired tremendously. The principle of good faith and fair dealing is well-recognized and, often, an express duty in many commercial contracts such as the one in this case. Here, the court demonstrated that a party’s intentional efforts to abuse certain contract provisions to avoid performance is a breach of that duty of good faith and can result in substantial financial award against the non-performing party.

My Roof, My Rules: Arbitrators May Determine Their Own Jurisdiction When the Parties Delegate that Authority

An issue that repeatedly comes up in construction disputes is the scope of an arbitration agreement. Courts generally interpret agreements to arbitrate broadly, and, where the arbitrability of a specific claim has been at issue, courts often defer, allowing such questions to be answered by the arbitrator. One recent opinion from the Ninth Circuit followed this general approach.

In Portland General Electric Co. v. Liberty Mutual Insur. Co., an owner contracted with a general contractor to construct a power plant in Oregon. The work started in 2013. In the contract, the parties consented to the exclusive jurisdiction of any federal court in Oregon. The contract also required a performance bond, and the bond agreement included a statement that “any proceeding, legal or equitable, under this bond may be instituted in any court of competent jurisdiction in the location in which the work or part of the work is located.”

In addition to the bonding requirement, the owner also required the contractor to obtain a written guaranty of performance from its parent company. In the guaranty, the owner and parent company consented to submit any disputes in connection with the guaranty to binding arbitration under the International Chamber of Commerce (ICC) Rules. The guaranty also specified that, once the arbitration proceeding was commenced, either party could implead any other entity (with its consent) in, and/or raise any claim against, any other entity provided such claim arose out of or in connection with an agreement with a subcontractor or the guaranty.

On December 18, 2015, the owner terminated the general contractor. In response, the contractor’s parent company filed a demand for arbitration. The contractor claimed it had not defaulted, that the termination was wrongful, and that the owner was due nothing under the guaranty agreement. Shortly thereafter, the parent company impleaded the surety under the performance bond invoking the impleader provision of the guaranty agreement and Article 7 of the ICC Rules. The surety consented and sought relief similar to that of the parent company.

The owner objected to the inclusion of the surety and sought a preliminary injunction in federal district court to prohibit joinder of the surety into the arbitration. The owner claimed that the contractor’s parent company had improperly impleaded the surety as part of a collusive effort to arbitrate claims that the owner and surety had agreed to litigate in Oregon courts. The district court granted the injunction, and the surety appealed.

On appeal, the surety argued that the owner’s election to arbitrate in the guaranty agreement and the ICC Rules left the issue of arbitrability of a particular claim up to the arbitrator and not the district court. The Ninth Circuit agreed with the surety, reversed the district court’s decision, and remanded the question of whether the surety’s claims could be arbitrated to the ICC arbitrator.  The Ninth Circuit noted that “parties may delegate the adjudication of gateway issues such as arbitrability of claims to the arbitrator if they clearly and unmistakably agree to do so.” The court then determined that the incorporation of the ICC Rules into the guaranty accomplished just such a delegation, where the rules expressly set forth in Article 6(3) that the arbitral tribunal had the power and authority to determine its own jurisdiction over a particular claim or question. The court reached this conclusion even though neither the performance bond nor the construction contract provided for any agreement to arbitrate disputes between the surety and the owner.

The Ninth Circuit showed deference to the parties’ agreement to arbitrate, and the court’s decision highlights the importance of dispute provisions in contracts, even when found in exhibits or addenda incorporated by reference (e.g., bond or guaranty agreements). Here, the owner likely did not anticipate addressing any claims under the bonds in arbitration, but, because of the guaranty’s broad impleader language and its incorporation of the ICC Rules, the owner ended up in a disfavored forum. And, although the arbitrator may later determine he or she lacks jurisdiction over the surety’s claims, when give the opportunity, arbitrators often reach the opposite conclusion and find a claim arbitrable. Given that reality, the Portland General Electric case demonstrates that all construction industry participants should be mindful of the deference courts will give to arbitrators when determining the arbitrability of claims.

What Is “Fair Compensation” Following  Termination for Convenience by the Government?The Armed Services Board of Contract Appeals (ASBCA) recently tackled a contractor’s claim for pre-construction costs following termination for convenience by the U.S. Army Corps of Engineers. In Pro-Built Construction Firm (June 1, 2017), the Board addressed a dispute arising out of a 2011 contract to construct a police station in Afghanistan.  Eight months after executing the contract, but before issuing the notice to proceed (NTP), the Corps terminated the project over security concerns in the area. Pro-Built sought payment for $1.1 million in pre-construction services, which included subcontractor payments and standby costs for employees and workers for the entire eight-month period. The Corps rejected Pro-Built’s claim arguing, in-part, that it was unreasonable for the contractor to incur costs prior to the issuance of the NTP.

The ASBCA disagreed with the Corps of Engineers and awarded Pro-Built $338,708.47 in termination costs. The Board noted that the termination of the contract had the general effect of converting the contract into a cost-plus reimbursement agreement and entitled Pro-Built to reimbursement for all reasonable costs incurred. For the Board, the determination of what costs were reasonable and thus reimbursable was a fact-intensive inquiry.

In Pro-Built’s circumstances, construction work performed prior to the issuance of the NTP was not recoverable because the contract made clear such work would be performed at-risk. In contrast, standby labor costs and subcontractor costs incurred in preparation for the issuance of the NTP could be recoverable. The ASBCA was persuaded by testimony from Pro-Built’s expert and fact witnesses that market conditions in Afghanistan made it reasonable to staff up prior to issuance of the NTP and that the preparation costs were not related to construction services.

However, the ASBCA was troubled by some of Pro-Built’s cost accounting for certain employees and the claim for all eight months of costs prior to termination. The Board did not think it was reasonable for Pro-Built to incur standby and subcontractor costs for the full eight-month period when it initially anticipated issuance of the NTP one month after contract execution.  The record also showed that several Pro-Built employees were shifted onto other projects a few months after execution when no NTP was forthcoming. As a result, the Board significantly reduced Pro-Built’s claim to allow only for recovery of three months of standby/preparation costs.

There are a few takeaways from the Board’s opinion. First, government contractors should be aware of their rights following a termination for convenience. Even prior to mobilization, there are significant costs incurred to develop and prepare for a project. If a project is terminated, a well-developed claim may include pre-mobilization costs. Second, government contractors should consider carefully how they present their claims for fair compensation when terminated for convenience. In the Pro-Built case, the Board expressed concern about the “all-or-nothing” approach taken by Pro-Built (which sought all eight months of costs) and the Corps (which denied all costs summarily) in presenting their competing arguments. This forced the Board to make the reasonableness determination on its own without guidance from the parties. Pro-Built and the Corps, for that matter, may have been better served by providing additional recovery alternatives to possibly adduce a more favorable opinion from the Board.