Anatomy of a Construction Contract

The function of a contract is to reflect the intentions of the parties.  In construction, the shared intention is to build a specific project, within a defined time frame, at an agreed price, and in a prescribed manner.  If the contract is well-drafted, the parties have a good start toward a successful project.

The contract will tell the parties what their respective rights and obligations are, as well as the consequences of not fulfilling their obligations.  Keep in mind, though, that the remedies for non-performance may often be too little too late.  Good contracts can help minimize the need for inadequate remedies.

Healthy construction contracts have an anatomy of eight fundamental categories of clauses.  Understanding the categorical nature of any particular clause can help determine the relation of that clause to the contract as a whole and thus foster better understanding of the clauses negotiating, drafting, and administering.

1. Housekeeping
2. Scope of Work
3. Contract Price
4. Schedule for Performance and Completion
5. Allocation of Risk
6. Contract Administration and Logistics
7. Dispute Resolution
8. Warranties

1.   Housekeeping
Every contract must properly and completely identify the parties, the project, and the contract documents.  This includes full corporate names and addresses, and a formal property description for the project.  If there are other material participants, say for a subcontract, it is useful to include non-parties such as the designers or the owner, as well.

It is imperative that all of the contract documents be specifically identified.  Contract documents include the construction agreement itself, and may also include separate general and special conditions, construction drawings, specifications, addenda, project manuals, soils reports, etc.  If such documents are identified as part of the “contract documents,” they clearly become part of the construction agreement that governs the parties’ respective rights, obligations, and liabilities; and must be reviewed for consistency and applicability.

Contracts should also include a signature section documenting assent to the agreement.  Make sure contracts get signed, preferably before commencement of the work.  The lack of signatures can unduly complicate any future dispute.

2.   Scope of Work

A construction contract is not complete if it doesn’t fully specify the scope of work to be performed by the contractor.  For most projects, the greater part of the scope is described in construction drawings and specifications, and these must be identified in detail in the construction contract.

3.   Contract Price

The contract price must be stated without ambiguity.  If it is not, ultimately a judge,  jury, or arbitrator will be required to decide the reasonable value of the work performed, and at a much later time than completion of the project.  The contract price will, of course, depend on the project delivery method.  The most common forms are fixed price and cost-plus; the latter may be with or without a guaranteed maximum price.  These forms of pricing can, in turn, be affected by whether the contract is for construction only, for design-build, or for some form of construction management.

4.   Schedule for Performance and Completion

A large number of construction disputes arise out of scheduling.  The more clearly the parties can identify the construction schedule in a contract, the lower the risk of protracted disputes later on.  A schedule can be in the simple form of a start date and a completion date or, on more complicated projects, bar charts or full-blown critical-path method (CPM) project schedules.

5.   Allocation of Risk

There is always uncertainty in construction projects and, with that uncertainty, risk.  The risk can, and often does, translate to liability for unforeseen costs.  Good construction contracts provide for those risks by inclusion of clauses addressing matters such as differing site conditions, non-payment, injury to person or property, or warranty and claims by others.  The purpose of such clauses is to reflect the parties’ agreement at the beginning of the project as to who bears the risk of liability in the event that unforeseen events create liability and impose additional costs on the project or the parties.  If such provisions are not included, much later on a court or arbitrator will decide how applicable law distributes that risk.

Insurance is an important tool for risk allocation and a necessary component of every construction contract.  Experience has shown that the best allocation of a particular risk is to the party best situated to manage that risk.

6.   Contract Administration and Logistics

This category of clauses addresses contract and project administration matters, and includes payment procedures and reporting.  To state what might be obvious, in addition to good contracts, good project documentation is essential to optimal project administration, and it is critical to resolving disputes favorably.

7.   Dispute Resolution

If a disagreement arises over performance obligations under a construction contract, and the contract does not provide for any dispute resolution procedures, the claimant’s only recourse is in the courts.  Litigation is expensive and time-consuming, however.  Thus, contracting parties will often call for alternate dispute resolution (“ADR”) procedures which are intended to provide, in theory at least, quicker, more cost-effective resolution of disputes.

A common ADR procedure is mediation in which a trained neutral person conducts a structured settlement conference between or among the parties with the intention of reaching a voluntary and acceptable settlement by the parties.  The mediator has no authority to make decisions that are binding on the parties.  Nevertheless, if the contract calls for “mandatory mediation,” the parties are required to participate in mediation in good faith, even if they don’t agree to settle in mediation.

The major ADR procedure used in the construction industry is arbitration.  Arbitration is binding on the parties, effectively substituting for most of a court’s responsibilities.  In fact, an arbitration proceeding may be similar to a judicial proceeding, without such procedural elements as depositions and written discovery.

In either form of ADR, the parties pay equally for the fees of the mediator and/or the arbitrator, unless the contract provides otherwise.

8.   Warranties

Warranties impose an obligation to repair defective work, and they can be express, that is, stated in the contract, or implied, in which case the law will impose a duty irrespective of the contract.  An express warranty is a legally separate obligation from the duty to perform under the construction contract, even though a warranty may be recited in that contract.  Hersh Companies Inc. v. Highline Village Associates, 30 P.3d 221, 225 (Colo. 2001).  “[Warranty] claims seek recovery for the breach of a subsequent contractual duty to repair or replace rather than recovery for a deficiency in the original work, they do not fall within the class of actions governed by [the limitations of actions statute for construction professionals].”).