Recent Surety Cases With Surprising Outcomes

Last week, my partner, Seth Price, and I gave a presentation about Payment and Performance Bonds to the Construction Section of the Atlanta Bar Association.   Part of our presentation focused upon recent cases (decided within the last 18 months or so) involving payment and performance bond issues.  We called them “scary” cases because the outcomes were very surprising and unpredictable and could not have been contemplated or foreseen by the claimants without extraordinary “due diligence” before providing labor or materials to the project.

I’ll share a couple cases to see if you agree with our characterization:

Scary case #1:

U.S. ex. rel. Roc Carter Co, LLC v. Freedom Demolition, Inc., 2009 WL 3418196 (M.D. Ga. 2009)

• In this case, the U.S. leased property on a military base to a private corporation for the purpose of constructing, operating and maintaining a military housing facility

• The lease limited government’s liability to that of a lessor and stated construction was a private undertaking

• The corporation then entered into design-build contract to construct military housing on the leased property

• The contractor provided payment and performance bonds naming the U.S. and project lender as co-obligees

• A second-tier subcontractor sued the contractor and surety its under the Miller Act for labor and materials provided to the project

• The U.S. District Court dismissed the subcontractor’s suit, holding that the Miller Act did not apply because U.S. was not a party to the design-build contract and the project did not involve a contract to construct a “public work”

• The District Court set for the three elements that it determined were required to have a “public work” contract: (1) there must be a construction contract, (2) the U.S. must be a party to the construction contract; and (3) the contract must require Payment and Performance bonds that are in favor of U.S.

The “scary” part of this case is that there would have been no reasonable way for the second-tier subcontractor to know that the Miller Act would not apply to its claims against the surety.  The subcontractor would not have had access to the lease between the U.S. and the private company, and likely would not even had access to the construction contract between the lessee and the general contractor.  The work was performed on a U.S. military base, and involved the construction of military housing.  The payment and performance bonds issued by the contractor named the U.S. as a co-obligee, and therefore, it would have been reasonable to assume that the U.S. was a party to the construction contract.

I suppose the lesson of this case is that now all parties supplying labor and materials to a construction project which they believe to be a federal government project must undertake “due diligence” to make sure that the U.S. is a party to the construction contract and that the payment and performance bonds are written in favor of the U.S.

Scary case #2:

U.S ex. rel. Sigler v. AMC and E.C Scarborough, 2010 WL 5100913 (D. Nev. 2010)

• This case involved a second-tier supplier suing a surety under the Miller Act

• The surety was an individual, not a corporation (yes, that’s possible under the Miller Act in very limited circumstances)

• The individual surety collected a premium for only one year and the payment bond stated that it was limited to the first year of the project

• The supplier did not deliver materials to the project until Year 2 of the project

• The supplier argued that the limitations period in the bond impeded the purpose of the Miller Act, and that the GC violated the Act.

• The U.S. District Court granted the surety’s motion for summary judgment, finding that “The Court cannot hold a surety liable for coverage that it did not intend to provide.”

Again, the “scary” part of this case is that there was no reasonable way for the supplier to have known at the time that it supplied the materials that the limitations period for the bond had already expired!!  Typically, subcontractors and suppliers do not request a copy of the payment bond until after they supply materials and labor and do not get paid.  In fact, the Miller Act only requires a Contracting Officer to provide a copy of the payment if requested by a subcontractor or supplier by affidavit post performance. At that point, it was already too late for the supplier to file a bond claim under limitation provided for in this bond.

In this case the supplier has filed a motion for reconsideration that is still pending, so this decision is not yet final.  But this case, like the Roc Carter case described above, require subcontractors and suppliers to take exceptional measures to secure copies of the contracts and bonds prior to beginning any work—measures that have not been common practice in the construction industry to this point. 

From our perspective, these cases are scary for contractors and their lawyers who counsel them about precautions to take to preserve and protect payment bond claim rights.  The two cases create new hurdles for contractors performing work on federal public projects to jump in order to protect their bond claim rights.

What do you think—is “scary” an appropriate adjective to describe the outcomes of these cases?

Advertisement

 

Amendment 4 is a Good One – Vote Yes

I am a skeptic when it comes to constitutional amendments.  I don’t think I have ever voted “yes” for any proposed amendment to the Georgia Constitution.  This year is different. I will be voting “yes” for Amendment 4 on the November 2^nd ballot, and you should too.  Here’s why:

Here’s the thing—constitution amendments are usually so poorly worded that even those that merit passing often do not because no one understands what they say or what the proposed amendment is meant to achieve.  I’m afraid that this is true for Amendment 4 as well.

On the ballot, it will read like this:

“Allows the State to execute multiyear contracts for projects to improve energy efficiency and conservation.

Senate Resolution No. 1231

Ga. L. 2010, p. 1264

Shall the Constitution be amended so as to provide for guaranteed cost savings for the state by authorizing a state entity to enter into multiyear contracts which obligate state funds for energy efficiency or conservation improvement projects?

(   )  YES

(   )  NO”

The actual amendment will be to add a new paragraph to Article VII, Section IV to read as follows:

Paragraph XII.  Multiyear contracts for energy efficiency or conservation improvement.

The General Assembly may by general law authorize state governmental entities to incur debt for the purpose of entering into multiyear contracts for governmental energy efficiency or conservation improvement projects in which payments are guaranteed over the term of the contract by vendors based on the realization of specified savings or revenue gains attributable solely to the improvements; provided, however, that any such contract shall not exceed ten years unless otherwise provided by general law.

In an earlier post, I explain how performance contracts work and address the most obvious benefit of these contracts, which is the ability of cash-strapped governments to obtain badly needed renovations and infrastructure improvements without having to have a large annual capital budget.  But there are several other good reasons to vote for this amendment.

• It’s good for the environment. The improvements implemented through performance contracts will mean that the state is consuming significantly less energy and water.  In Georgia, anything that reduces demand on the electric grid during peak times and/or conserves the use of water are good things.

• It will save money. State and local governments will immediately save money on electricity, natural gas and water bills upon completion of the improvements.  I have seen some projections of savings between $30 million and $50 million per year.  In times like these when governments are looking for every way to cut budgets and decrease spending, this is an innovative and painless way to do it.

• It will restore construction jobs. Georgia sustained greater than average unemployment rates during this recession and one of the sectors that lost the most jobs was construction.  If state and local governments start entering into performance contracts, Georgia will have a greater demand for construction workers again.  In fact, the National Association of Energy Services Companies (NAESCO) has performed an estimate of the potential employment growth that could come from performance contracting.  Click here to read it.

• It has a history of success. The federal government and many of our border states have been using performance contracting for decades to fund renovations, retrofits and infrastructure improvements with great success.  Georgia does not have to invent the wheel with respect to performance contracting legislation, and can benefit from the lessons learned by these other government entities.

• It will NOT increase taxes. State and local governments will not need to raise taxes in order to build annual capital budgets for these projects.  The projects are paid for by the savings in the energy bills created by the improvements.  If the energy savings are less than what was promised, then the ESCO, not the government is responsible for the shortfall.

The vote on Amendment 4 is well timed.  It comes at a time when we need it most.  Let’s not let this opportunity slip by.

 

Performance Contracting Amendment Is Now In The Hands of Georgia Voters

photo by Robert S. Donovan

This November when Georgia voters go to the polls to cast their ballots for mid-term elections, they will also have the opportunity to vote on an amendment to the Georgia Constitution to allow public entities to enter into Energy Savings Performance Contracts (ESPCs).

Most people have never heard of ESPCs or “performance contracting” and may not be able to fully understand the implications of this amendment simply by reading the proposed language on the ballot.  However, this amendment (designated as Amendment #4 on the November 2, 2010 ballot) is an important one because it is a step forward for Georgia in embracing legislation that promotes progressive energy policies and green building initiatives.

Under an ESPC, a state agency enters into a contract with an energy services company (ESCO) to perform a detailed energy and water use audit of a particular facility or campus to identify energy and/or water-saving improvements that can be made to reduce the agency’s operation costs going forward.  The ESCO then designs a retrofit project and builds or installs the energy/water saving measures identified in its audit.

Here’s how ESPCs differ from other contracts:

The Performance Guarantee

• The ESCO “guarantees” that the state agency will incur a specified amount of savings in energy and/or water consumption for a period of years (usually 10 years). “Savings” are generally tracked by ongoing various measurement and verification protocols that are written into the contract.

• If the savings do not meet the amount of guaranteed savings specified in the contract, the ESCO pays the agency the difference between the guaranteed savings and the actual savings.

Payment for the Project Costs

• Unlike traditional retrofit projects that are paid for from capital improvement budgets, with ESPCs the ESCO pays for or arranges financing for the project upfront so that the state agency does not have to come up with a substantial lump-sum payment at the time the project is performed.

• Instead, the project is paid for over the “guarantee” period from the “savings” that are generated by the improvements.  During that period, the ESCO is usually under contract with the state agency to operate and maintain the equipment and improvements for a separate fee.

Many states and the federal government have been using ESPCs for over a decade as a means to obtain badly-needed infrastructure improvements when shrinking budgets have not otherwise allowed for capital improvements.

The reason that ESPCs have not historically been used in Georgia is because Georgia’s Constitution prohibits the state or any of its agencies from entering into multi-year contracts.  This year, the Georgia legislature passed a constitutional amendment which would allow state agencies to pay over multiple years for “energy efficiency or conservation improvement projects.”  In order to take effect, the amendment must be approved by a majority of the voters casting ballots on the amendment.

If the amendment passes, it will be a significant victory for green building and energy-efficiency companies and advocates.  This change could potentially open the door to hundreds of millions of dollars of state projects, and could substantially reduce overall the energy and/or water consumption of the State of Georgia and its agencies.

So, I encourage everyone to check out these websites for more information about energy savings performance contracts and the proposed Amendment #4:

Energy Services Coalition

Georgia Environmental Finance Authority

Taxpayers for Energy Efficiency

U.S. Department of Energy, Federal Energy Management Program

I will also be posting more discussion points about energy saving performance contracts in the next few weeks in order to aid voters in their research about this important constitutional amendment.

In the meantime, do you think voters should vote “yes” to the amendment and bring energy savings performance contracts to Georgia?