October 02, 2018
Author: Craig Wagnild
Organization: Bays Lung Rose & Holma
I. Introduction - An Overview
A. The Landscape of Construction Contracting in Hawaii
1. The Players - and their roles
Construction, like most endeavors, is a collaborative process involving many players with separate and distinct roles. The size and complexity of construction projects often necessitates careful planning, scheduling, and cooperation between disciplines. Even small construction projects generally involve a number of different disciplines working together to complete the project.
The “players” on a construction project each want clearly defined and strategically limited roles. They want, and need, to: i) identify the work for which they will be responsible; ii) understand when, how, and how much they will be paid for the work; iii) know when different portions of their work must be completed; iv) limit their liability risk to only those things over which they have control; and v) understand what will happen if they are unable to timely or correctly complete their work. While their roles differ, each player on a construction project looks to a construction contract to clearly address these five things.
There may be many players on a construction job, and different jobs require different players with roles that may change slightly from project to project, however, here are four general categories of the players to be discussed in these materials. a. The owner. The owner is the buyer. Typically, the owner holds title to the real property upon which the project is being constructed, but that is not always the case. In some cases there may be more than one owner. In others, the owner(s) may be represented by a project manager or other third party. On every project, however, it is important to clearly identify who the owner is and who has the authority and obligation to speak for the owner. The owner is the player that pays for the construction project. Owners often do not fully understand or appreciate all that goes into a construction project, nor do they have to. In a very general sense, all owners want three things. First, the owner wants the project built correctly and completed on time. Second, the owner wants everyone paid for their work once the work is completed so there are no liens or lingering claims against the owner or the property. Third, the owner wants the risk of (and liability for) mistakes and/or delays clearly defined and assigned on other players. In exchange for these things, the owner is willing and expected to pay for the project.
b. The architect. The architect is responsible for the design of the project. Architects are licensed in Hawaii pursuant to Hawaii Revised Statutes (“HRS”) Chapter 464 and regulated by the Professional and Vocational Licensing Division of the State of Hawaii Department of Commerce and Consumer Affairs (“DCCA PVL”). The architect must understand the needs and desires of the owner for the project and tailor a program (which includes the design, functionality, materials, and construction methods) to accomplish the owner’s objectives. In many cases, the architect plays a continuing role throughout the construction process of evaluating and approving the work performed by the contractors, subcontractors, and others. The architect may be the only professional on a project that fully understands the program, all the facets of the designed project, the owner’s objectives, the contractual obligations of the other parties, and the materials, methods and conditions needed to correctly construct the project. The architect therefore serves to look after and protect the interests of the owner by controlling the payment for work.
c. The contractor. The contractor builds the project. Contractors are licensed in Hawaii pursuant to HRS Chapter 444 and regulated by the DCCA PVL. Contractors construct what the architect designs based upon the program decided upon by the architect and the owner. Contractors rarely know all the details of the program, though it is helpful if they do. Like the ringmaster in a circus, the contractor participates in the work but also serves as the leader for coordinating and directing each of the subcontractors, specialty contractors, suppliers, and other participants in the actual building of the project. Contractors generally want five things, not necessarily in this order. First, a contractor wants to complete a project on-time and without disputes or injuries. Second, a contractor wants to be paid on-time and without excessive retention. Third, a contractor wants a project that starts and stays on-schedule. Fourth, a contractor wants to avoid unnecessary risk or liability. Fifth, a contractor wants to build a quality project that will impress the owner, the architect, and others.
d. The subcontractors/specialty contractors. Typically subcontractors and specialty contractors are lumped together with the contractor in discussions involving construction contracts. They are addressed separately here because their roles and contractual objectives are actually somewhat different from general contractors. Subcontractors and specialty contractors are, like general contractors, required to be licensed in Hawaii pursuant to HRS Chapter 444 and regulated by the DCCA PVL. Like the general contractor, subcontractors and specialty contractors follow the program developed by the owner and architect, and are charged with constructing the project in accordance with the design, specifications, materials, and methods as called for in the plans prepared by the architect. However, unlike the general contractor, subcontractors and specialty contractors typically have very limited roles in a construction project. They want to get in, get their work done, and get paid. They have the luxury of not caring how the other parts of the project are going. As long as the work of other parties on a project does not adversely affect the ability of the subcontractor to perform its work on time and correctly, the subcontractor will not concern itself with anything beyond its work and role. The five points set forth above for contractors can be slightly modified for subcontractors/specialty contractors, again not necessarily in this order. First, a subcontractor/specialty contractor wants to complete its work on-time and without disputes or injuries. Second, a subcontractor/specialty contractor wants to be paid on-time and without excessive retention. Third, a subcontractor/specialty contractor wants its work to start on time and finish on-schedule. Fourth, a subcontractor/specialty contractor wants to avoid any risk or liability for any part of the project beyond the limited work it is performing. Fifth, a subcontractor/specialty contractor wants to perform its work on the project such that it impresses the contractor, the owner, the architect, and others.
2. The Projects - and how they change things
Construction projects vary not only in size, but in type. Projects to build a singlefamily home, differ greatly from condominium projects, office buildings, commercial retail centers, public works projects, and state and federal government projects. Construction contracts for each of these types of projects differ greatly and involve different statutory procedures, disclosures, requirements, provisions, and remedies. As an introductory note and for purposes of illustration, here are a few different types of projects and a handful of matters that must be addressed in construction contracts for these projects.
a. Residential projects. Owners of residential property in Hawaii, whether they own the property in fee simple or leasehold, are protected when a home is being built or improved on their land by Hawaii law which requires licensed contractors to make certain disclosures and inform the homeowners of their rights and obligations in the construction contract. HRS Section 444-25.5. Contractors (not architects or engineers) are obligated to inform owners of, among other things, the lien rights of parties furnishing work on the project and the option of demanding bonding on a project. Contractors must enter into a written contract with the owner for the construction work and the contract must include the lien rights and bonding disclosures. Id. In connection with the lien disclosures, the DCCA PVL requires that contractors disclose each of the following to owners: i) all information pertaining to the contract and its performance, the absence of which might mislead the homeowner to the homeowner’s detriment, including but not limited to the lien rights of labor, suppliers, and subcontractors; ii) the scope of the work to be performed; iii) the approximate percentage of work to be subcontracted; iv) whether the contractor is bonded and whether the owner has a right to demand bonding on the work to be performed; v) the contractor’s license number and contractor classifications; vi) all warranties available, if any; and vii) an estimate of the cost of the work to be performed. Hawaii Administrative Rules (“HAR”) Section 16-77-79 (2004). Contractors are also required to inform the owner of the contractor’s right to repair any alleged construction defects prior to the owner initiating any litigation or arbitration proceedings. HRS Section 444-25.5.
b. Commercial projects. Commercial projects anticipate more sophisticated owners, or owners represented by someone with construction experience and knowledge like a professional construction manager. Therefore, contractors are not required to provide the same extensive disclosures to owners of commercial projects as they must for residential projects. However, commercial projects are typically more complex, involve more parties, and have greater financial risks to the owners. If a commercial construction project is not timely completed, the owner may suffer damages resulting from, for example, the loss of income from the project for the period of completion delay, the interest on the construction loan taken to finance the development, and/or the loss of tenants or purchasers who exercise a right to terminate their leases or sales contracts due to the delay. These consequential damages to an owner can be great, and the risk of such damages must be allocated or addressed somehow in the contraction contracts. The oversight, administration and evaluation of work on a commercial construction project greatly exceeds that required on typical residential projects. Commercial projects often have one or more construction managers representing the owner, and have the architect intimately involved in the project from start through completion and the release of retainage.
c. Government projects. Government projects are unique because they often involve contracting procedures and processes designed to ensure competitive pricing and fair awarding of construction contracts. The RFP and bidding process may also include award preference or priority for members of certain minority groups. Construction contracts for government projects have federal and state law requirements that include obligations, conditions, and disclosures that must be accepted by architects, contractors and the subcontractors/specialty contractors they use.
3. The Contracts - and how they structure relationships
Construction contracts set forth the basis for the relationships and responsibilities of the parties involved in building a project. The same project might be constructed a number of different ways with parties in differing roles and vastly different scopes of authority and responsibility. Some projects may have just one construction contract, while others may have numerous interrelated contracts and agreements. Some arrangements may have every party contracting directly with the owner, while others may have parties contracting with other parties. In some cases AIA or other form contracts can and should be used, while other situations demand very carefully considered and drafted construction contracts designed to address the particulars of a specific project.
Here are a few types of contracts to consider.
a. Residential vs. commercial. Residential contracts are often less complex than commercial contracts and are often amenable to AIA form contracts. However, contractors need to be careful to include the disclosures and other provisions required by Hawaii law in their construction contract or risk penalties and adverse treatment. Commercial contracts need to address the roles and responsibilities of all the players on the project, and need to address the issues of liability for delays or defects including whether and how to address consequential damages, the evaluation of work and approval of payments, and the resolution of disputes.
b. Form contracts and tailoring. Form contracts are like a sculptor’s clay. No one suggests that to be a good artist the sculptor needs to make his own clay. And yet no good sculptor would make a few cosmetic changes to a lump of clay and call it art. Whether they be from the AIA or another group standardizing construction contracts, form contracts provide a structure and starting point for developing a construction contract. Forms help identify issues and suggest ways of addressing those issues that, at least in theory, balance the respective concerns and interests of the parties in a manner that is both practical and fair. That is a good starting point for discussion and a means of expediting the contracting process, but it is only a start. The real challenge and the mark of a good construction attorney comes in tailoring the form contracts to specific parties, circumstances, and particular projects. At a time when everyone just wants to sign a piece of paper and get started building, good attorneys need to stress the importance of addressing the rights, responsibilities and the risks and potential liabilities of the parties in the construction contracts, and getting their clients to appreciate and focus on them.
c. Owner-Architect agreements. The contract between the owner and the architect is often the first agreement reached. The details of the ownerarchitect contracts and the issues that need to be addressed will be covered later in the materials, however, it is important that the parties develop a project program and clearly set forth the architect’s responsibilities and obligations to the owner throughout the life of the project.
d. Owner-Contractor agreements. The contract between the owner and the contractor is usually the largest and most complex construction contract. It often includes, in addition to the standard contractual provisions, general and supplemental conditions to the contract, the project drawings, the specifications or project manual, pre-execution addenda, and change orders, among other things. The definition of the scope of work should be carefully crafted to help avoid misunderstandings and disputes as to what work constitutes base contract work and what is a change in the contract. Contractors will need to compare the contract documents with the field conditions and also confirm that the provisions relating to progress and final payments are acceptable. Both parties need to look at how disputes will be handled and what liability each may have for damages resulting from delays or defects in the work.
e. Contractor-Subcontractor agreements. The contract between the contractor and a subcontractor or specialty contractor needs to lock the subcontractor into performing certain work at a specific time for an agreed-upon price. If this seems obvious, the not-so-obvious concerns involve the liability of separate disciplines and/or interconnected work of several subcontractors, bonding and insurance provisions for subcontractors, payment terms and lien rights, delays affecting subcontractors, and change orders. Depending on the project and the owner-contractor agreement, the contract between the contractor and a subcontractor may be simple or quite complex.
Due to their respective bargaining powers, subcontractors are often the parties who are forced to accept unfavorable contract provisions. They are also the party least able to absorb the financial effect of a delay in payment or a deduction in contract payment. Attorneys representing subcontractors need to carefully consider what risks the subcontractor is willing to take and aggressively negotiate with the contractor’s counsel to include provisions in the contract that protect the subcontractor. There is often very little time to do this, so advanced preparation is important.
B. Three Fundamental Contracting Rules
Construction contracts are complex and often overwhelming. This manual is intended to help break them down and discuss the various elements and considerations that should go into any agreement that will govern the construction of a project in Hawaii. Allow us to start with three fundamental contracting rules, rules that apply to all agreements, but are perhaps especially applicable to construction contracts.
1. Fundamental Rule #1: Goal = identify and allocate responsibilities and risks
The primary purposes of a construction contract should always be to: a) clearly define and explain the work that will be performed and who will be responsible for that work; and b) identify and allocate the risks so all parties understand their liabilities and can plan (and price) accordingly. Most of the provisions in standard construction contracts are intended to assist in one of these two objectives. With respect to defining and explaining the work, the construction contract should clearly set forth what work will be done, when it will start and what (if any) prerequisites exist for performance, how long it will take, when it will finish, who is responsible for performing the work, how and when it will be reviewed and evaluated, who will perform the work, and how and when the party performing the work will be paid. With respect to identifying and allocating risks and liabilities, the construction contract should state what will happen if the work is not timely commenced or completed, what will happen if the work is defective, what warranties (if any) will be given with the work, what indemnities (if any) will be given by the party performing the work, what rights the performing party has to collect payment and, in the event payment is not received, to lien the project and/or property.
2. Fundamental Rule #2: Perspective matters
Everyone has a bias. Contracts reflect those biases. The same contract for the same services will be entirely different if it is written by an architect, than if it is written by a contractor. The perspective of the contract drafter subtly, and sometimes not so subtly, alters the framework as well as the substantive and procedural provisions in contract. AIA construction documents have been drafted by the American Institute of Architects and therefore, notwithstanding claims of neutrality, they include provisions designed to protect and favor the interests of architects. Appreciate the perspective of the drafter of any contract you review and it will help identify the areas the drafter felt were important enough to address. This can often help parties appreciate what issues are of greatest importance to the other side and work to find ways to craft provisions that protect both parties’ interests.
3. Fundamental Rule #3: Plan for a project to succeed, but contract as if it won’t.
Things go wrong. All the time, every time, on every project. The greatest gift a lawyer can give a client is a clear understanding of what will happen if things go wrong on a project. Parties need to have an arrangement clearly set forth in their contract as to how they will handle the inevitable problems that will arise. At the start of the project is a time when no one knows what problems will arise, who will cause them, or what effect they will have on the project. That is, in some senses, the perfect time for parties to be completely fair and understanding. Many parties and attorneys see this is an opportunity to argue over strict provisions forcing one party to agree to draconian penalties and remedies in the event something happens. Wise counsel instead looks for ways to set mechanisms in place for the parties to quickly identify and isolate problems before they arise or when they are small, and then work together to avoid or fix the problems with the minimal cost and disruption to the project possible. Rather than treating problems as a polarizing event, this approach encourages collaboration and cooperation aimed at problem-solving. Often parties may agree to share minimal losses as a means of encouraging parties to disclose and work together on problems quickly. Even if a construction contract doesn’t do this, it needs to clearly state the risks and who bears the liability in the event of a problem. Even the most draconian liability provisions in a construction contract may be acceptable to a party that can assess and plan ahead with a full appreciation of the risks and rewards of the contract.