Construction Claims- New

8/2/2019 Construction Claims- New

1/114

AD-A268 757awwxlap''IO) CONTRACT CLaIS AND

METHODS O AVOIDING coNTRAjcT LITIGATIONT!IWUGN DISPUTE RNSOLUTION ALTERATIVE

k (atctvo

OFSPII LVIL MNI IGIPhtx ft rLnu ozmomom

1,6MD mc umo C

U~rMITY P FL0RID

3 ,,mer 099COM01-n-U.145

A'f A 27R ',QUItU TOA NGAUIECSI~l


2/114

CONSTRUCTION CONTRACT CLAIMS ANDMETHODS OF AVOIDING CONTRACT LITIGATIONTHROUGH DISPUTE RESOLUTION ALTERNATIVES

BYIJOSEPH. LAVIGNE

A REPORT PRESENTED TO TH E GRADUATE COMMITTEEOF TH E DEPARTMENT OF CIVIL ENGINEERING INPARTIAL FULFILLMENT OF TH E REQUIREMENTSFOR THE DEGREE OF MASTER OF SCIENCE

UNIVERSITY OF FLORIDASummer 1993


3/114

TABLE OF CONTENTSCHAPTER ONE - INTRODUCTION 1

CHAPTER TW O - CONSTRUCTION CONTRACT RISK 52.1 Introduction 52.2 Establishing Contract Risk 62.3 Types Of Contract Risk 102.4 Allocating Contract Risk 122.5 Project Risk Management 152.6 Benefits Of Proper Risk Management 18

CHAPTER THREE - CHANGES, CLAIMS AND CONTRACT DISPUTES 203.1 Introduction 203.2 Change Order Terminology 21

3.2.1 Change 223.2.2 Constructive Change 223.2.3 Change Order 223.2.4 Claim 233.2.5 Dispute 233.3 Changes To The Contract 243.4 Change Order Categories 25

3.4.1 Owner And Designer Initiated Changes 253.4.2 Contractor Initiated Changes 263.4.3 Other Changes 26

3.5 What Instigates Claims 263.6 Classification Of Claims 283.6.1 Design Changes And Additions 283.6.2 Changed Site Conditions 293.6.3 Delay Claims 303.6.4 Acceleration, Compression, ImpactAnd Ripple 32

3.7 The American Institute Of Architects Process 333.7.1 Issuing A Change Directive 333.7.2 Decision Of The Architect 343.7.3 The Disputes Process 353.7.4 Arbitration 36

3.8 Effectiveness Of The AIA Claim Process 36


4/114

CHAPTER FOUR - A LEGAL FOCUS ON TH E ARBITRATION PROCESS 394.1 Introduction 394.2 The Development Of The Arbitration Process 394.3 Enforceability Of Arbitration Clauses 414.4 The Legality And Validity Of Arbitration 424.5 Arbitrability And Timeliness Of Claims 434.6 Comparing Arbitration To Litigation 45

CHAPTER FIVE - THE ARBITRATION PROCESS 505.1 Introduction 505.2 Developing The Arbitration Clause 515.3 Holding An Administrative Conference 535.4 Selecting The Arbitrator(s) 545.5 Selecting A Location For The Hearing 555.6 Prehearing Procedures 565.7 Completing The Arbitration Hearing 57

5.7.1 Identifying The Arbitration Member(s) 585.7.2 Waiving Formal Hearings 585.7.3 Scheduling The Hearing 595.7.4 Professional Conduct Of The Arbitrators 595.7.5 Refusal To Attend Hearings 605.7.6 Opening Remarks 605.7.7 Evidence And Subpoena Rights 605.7.8 Evidence Rules 615.7.9 Witness Testimony 615.7.10 Site Visitation 625.7.11 Documenting The Hearing 635.7.12 Reopening The Hearing 635.8 Arbitrated Awards 645.9 Awards Enforcement 665.10 Judicial Review Of Arbitrated Awards 66

C SIX - OTHER TYPES OF DISPUTE RESOLUTION FORUMS 696.1 Introduction 696.2 Mediation Assisted Negotiations 696.3 Fact-Based Mediation 716.4 AAA Expedited Procedure 716.5 Mini Trial 736.6 Referees And Special Masters 736.7 Summary Jury Trials 746.8 Advisory Opinions 746.9 Non-Binding Arbitration 756.10 Step-By-Step Disputes Resolution 756.11 Disputes Review Board 76

IU


5/114

CHAPTER SEVEN - PARTNERING: A COMMITMENT TO CO-OPERATION 807.1 Introduction 807.2 The Partnering Concept 817.3 The Key Elements Of Partnering 837.4 The Partnering Process 87

7.4.1 Educating The Organization 877.4.2 Making Your Partnering Intentions Known 887.4.3 Commitment From Top Management 887.4.4 The Partnering Workshop 897.4.4.1 Facilitated Workshops 907.4.4.2 Individual Roles AndResponsibilities 917.4.4.3 Creating A Partnering Charter 927.4.4.4 Dispute Resolution Process 937.4.4.5 Joint Evaluation Process 94

7.4.5 Periodic Evaluation 957.4.6 Escalation Of Unresolved Issues 957.4.7 Final Evaluation 95

7.5 Benefits Of The Partnering Process 967.5.1 Benefits To The Project Owner 977.5.2 Benefits To The Prime Contractor 987.5.3 Benefits To The Designer And Consultants 987.5.4 Benefits To Subcontractors And Suppliers 997.6 Potential Pitfalls Of The Partnering Concept 99

CHAPTER EIGHT - SUMMARY 101BIBLIOGRAPHY 109

Ae esil 09 Ior

St#/A, USNPS/Code 031 Ubannouned(Ms. Marsha Schrader - DSN 878-2319) Justirliat __Telecon, 27 Aug 93 - GBID

illlbliy@,,Dist SIotal


6/114

CHAPTER ONEINTRODUCTION

In recent years, construction contract claims havegrown at an alarming rate. It has become increasingly moredifficult for contracting parties to achieve bilateralagreements in an equitable, effective and timely manner (6).Litigating disputes is being abused as a cure-all meanswithin the construction industry, generating adisproportionate growth in court cases. Relaying on thelegal system to judge and resolve a contractual problem iscounterproductive to getting the job done. It is also anextremely time consuming and expensive undertaking for allparties. Therefore, it behooves every contracting party tostrive for timely completion of the work. Resolvingdifferences "in-house" when possible and avoiding litigationat all cost is a worthwhile endeavor. This can beaccomplished through cooperation, meaningful, open-mindednegotiations and a team approach to managing the contractexecution.

The purpose of this research paper is to investigatethe reasons behind the increasing trend toward adversarialcontract relationships and claims. It also looks atpossible disputes resolution techniques that can be used toshort circuit the costly and exhaustive path to litigation.


7/114

The topics covered in the following six chapters ofthis research paper discuss construction contract risk,contract disputes, arbitration and other forms of resolvingdisputes, and partnering. The material covered in thesechapters highlights possible causes for and resolution ofconstruction contract disputes.

Chapter Two addresses the allocation of constructioncontract risk and it's extremely important role in thedevelopment of contract disputes. Risk avoidance, riskallocation, risk management and some of th e pitfalls ofinappropriately assigning risk to a party who can not manageor control it's destiny will be discussed. Chapter Threelooks at how changes, claims and disputes develop overnumerous controllable and sometimes uncontrollablecircumstances. The prime causes of construction contractchanges and their subsequent role in generating contractdisputes will be investigated. Chapter Four focuses it'sattention on th e development of judicial support for use ofarbitration to mediate disputes, technical differencesbetween contract arbitration and judicial litigation, andsome of the legal problems faced by arbitration. ChapterFive is evoted to studying the intricacies of arbitrationas a forum for contract dispute resolution. Chapter Sixtakes a cursory look at other forms of contract disputesresolution techniques in use today. Finally, Chapter Sevenis devoted to the partnering process and it's potential role

2


8/114

for solving the litigious nature and mounting decay of thecontractual process within the construction industry.

Most privately funded projects designed by an architectincorporate standard American Institute of Architects (AIA)documents into the contract specifications. The GeneralConditions of the Contract for Construction, AIA DocumentA201, mandates arbitration between the contracting partiesto resolve contract disputes. Specifically, the arbitrationclause under Paragraph 4.4 of AIA Document A201, stipulatesthat disputes, "shall be settled by arbitration according tothe Construction Industry Arbitration Rules of the AmericanArbitration Association[AAA]" (3-12).

Both of these influential professional organizationsgreatly impact the way we contract for construction servicesand mitigate disputes. Though their standard procedures maynot fit every contract scenario, these two organizations arestill possibly the most prominent authorities effecting theway we execute contracts and resolve disputes today.

Secondly, contracting through the use of a fixed price,competitive bidding strategy is still a way of life both inthe private and public sector. With these two points inmind, my research paper directs a great deal of attention tothe application of AIA contract requirements and AAAarbitration rules to fixed price, competitively bidprojects.

The material covered within this paper by no means isintended to exhaust the potential mechanisms or alternatives


9/114

available today to regain control of the constructioncontracting process through disputes resolution at th eproject level. However, it provides the reader with a solidunderstanding of the problems and possible solutions to helpcure the disputes ailing or nations' construction industry.

I 4


10/114

- WOCONSTRUCTION CONTRACT RISK2 .1 NTRODUTIQON

Contracting for construction services is an inherentlyrisky venture for the owner, design agent and contractor.All of these parties are exposed to unanticipated risks,exposure to economic loss and unforeseen contract liabilitywhile performing under the contract (15). Riskresponsibility plays an important role in the development ofcontract disputes that arise during the constructionprocess.

Though the risk of doing business can not beeliminated, proper risk management can lead to a smootheroperation and ultimately reduce th e total cost of th eproject for the owner, designer and contractor alike (15).Likewise, improper risk allocation can result in increasedbid contingencies, higher projects costs, poor workingrelationships, a higher probability of disputes and theincreased risk of judicial intervention between th eparties (15). This chapter concentrates on the development,allocation and management of risk as it effects theconstruction process.


11/114

2.2 ESTABLISHING CO1NTRACT RISKThe owner's primary objective when planning

construction is to obtain a complete and usable facility ina timely manner. Understanding risk allocation and properlyapplying responsible risk management techniques to th eproject documents will help ensure the completed structureconforms to the quality and timeliness standards as definedby the contract documents at a reasonable price (16).Improper risk allocation in turn increases the potential forclaims, disputes and the need fo r litigation. Unrealisticexpectations and performance demands placed on a contractorunder a competitively bid, "bargain basement" price sets thestage for conflict from the onset of the project.

The owner selects the contracting method used toundertake the construction project. Whether the contract iscompetitively bid, negotiated, fixed price, cost-plus-a-feeor guaranteed maximum price will play an important role inthe contractual relationships that develop between thecontracting parties (6). However, nearly all publiclyfunded and many privately funded construction projects areawarded as competitively bid, fixed price contracts. Thissystem of contract award has been, and possibly will remain,the primary method of obtaining construction contractorservices for some time to come (16). It is also possiblythe riskiest type of contract to undertake for th econtracting parties. Delivery of a facility based on abottom line figure has an extremely high potential for


12/114

failure. Costs are sure to escalate due to changes forwhich, in some cases, neither the owner nor the contractorwant to assume the risk responsibility for. Disagreementsand disputes tend to be pervasive under the risk ofunarticipated cost overruns and liability exposure allowingIawsuits to permeate this high stakes venture.

The advantage of the fixed price contract method ofaward is that it provides the owner with a reasonableguarantee of the total project cost at the time of bidopening. Though contract modifications are a way of lifewithin the construction industry, a properly prepared set ofcontract documents can provide the owner with the desiredconstruction quality while limiting the potential risk ofunforeseen cost escalation caused by changes (15). Thequantity of contract modifications can be projected as apercentage of award based on the type and location ofconstruction being undertaken so long as the contractdocuments are adequately developed. This can be done withsufficient accuracy for the owner to incorporate enoughcontingency into the project budget to cover th e anticipatedincreases in contract price due to the changes that willoccur during the construction process. Conversely, a poorlyplanned and designed project will result in a greater degreeof design errors, omissions or implied but not clearlyspecified work that will be a point of protest between thecontracting parties. Under these circumstances, completingthe project as planned, scheduled and budgeted for may be

7


13/114

unrealistic. These impractical performance expectations maycreate undue friction between the parties thought th eperformance period (15).

For the owner, another major advantage of a fixed pricecontract is that a substantial portion of the contract riskis assumed by the contractor. However, as noted, the tradeoff can have significant monetary repercussions if th econtract documents are incomplete, inconsistent or vague.With an adequate design, changes to the contract shouldremain within the anticipated budget protecting the ownerfrom th e risk of creep in the overall project cost. Inessence, with an adequately designed fixed price contract,the owner is protected from the risk of price fluctuationsand project cost overruns which the builder will have toshoulder. In the absence of unanticipated change orders onthe project, the owner is exposed to minimal projectrisk (6).

One of th e main disadvantages of fixed pricecontracting is that it encourages marginal bidding andfrequent underbidding of construction projects. Though itmay seem to lack sound business judgment for a contractor tounderbid construction projects, this is often done in ahighly competitive construction market in an effort togenerate a sufficient volume of work to keep the companyafloat. With the construction industry already falteringand the federal government making major cuts in federal and

I8


14/114

defense construction budgets, the construction market willcontinue to shrink, intensifying the already overlycompetitive industry.

As competition for construction work tightens andprices fall, contractors are increasingly forced to gambleon higher risk projects (15). The project documents becomeblack and white and contractors become less agreeable totaking responsibility for the gray, ambiguous work notclearly defined by the contract documents. At other times abad gamble may lead to run away project costs forcing thecontractor to look for ways to cut expenses (15). Thecontractor may be left with no alternative but to search forloopholes in the contract documents that can give him theleverage needed to capitalize on high return change orders.

Owners and designers, on the other hand, often try toseparate themselves of contractual risk or liability byincorporating catch all clauses into the contract documentsthat attempt to make the contractor liable for work he cannot control or which is not clearly identified at bidtime (6). These clauses unfairly place the responsibilityfor shouldering a majority of the construction risk on theback of the contractor. The owner and designer may try toenforce performance of these sometimes unrealisticallydemanding contract clauses by withholding payment from thecontractor through retention of funds for what they perceiveas the contractor's unwillingness to perform In accordancewith the contract documents. As a result, from the onset of

I 9


15/114

award an adversarial relationship between the partiesdevelops. Neither party ends up trusting the other toassume their reasonable share of the contract responsibilityand risk.

These types of risk avoidance have underscored theconstruction industry's ability to get the work done withoutthird party intervention. Without compromise, thelikelihood of ensuing disputes, claims and litigation willsurely follow. These disputes are perpetuated by bothparties' unwillingness to equitably share the responsibilityand risk associated with completing the project. Thecurrent mood in the industry that only one party can comeout ahead at the end of the contract has been the catalystsbehind the movement away from a cooperative venture towardsone filled with conflict and hostility. Unfair riskallocation encourages this attitude.2.3 TYPES OF CONTRACT RISK

Contract risk comes in many forms and can be generatedby numerous sources throughout the life of the contract.Some of those risks are controllable, such as the length ofthe contract period to complete the project, and some areuncontrollable, such as weather. Smith has broken contractrisk down into two types, those associated with contractingand those associated with construction (15). He believescontractual risk increases as the clarity of the contractrequirements, communication and timely contract

10


16/114

I

administration decreases (15). He further suggests that theinherent construction risks that develop due to factors thecontracting parties can not control are issues such asweather, site conditions and resource availability (15).Smith asserts that contractual risk can be reduced throughthe thorough development of the contract documents whereasconstruction risk can only be managed (15).

Though not comprehensive, Smith developed the followinglist exemplifying the risks the parties may encounter during

project execution:1. Adequacy of project funding.2. Subsurface conditions.3. Adequate labor force.4. Political climate and interference, communityactivism.5. Adequacy and availability of owner representative.6. Permits and licenses.7. Site access.8. Sufficiency of plans and specifications.9. Innovative design.10. Owner involvement in design.11. Appropriate designer involvement in construction.12. Late or unsuitable owner furnished material andequipment.13. Delayed deliveries.14. Delay in presenting problems.15. Delay in addressing and solving problems.16. Labor productivity.17. Subcontractor capability.18. Delays and disruptions.19. Worker and site safety.20. Adequacy of performance time.21. Changes in needs or requirements of finishedproject.22. Governmental acts23. Acts of God.24. Union strife and work rules.25. Cost escalation.26. Overlapping insurance coverage.27. Unreasonable systems performance guarantees. (15-8)

11


17/114

2.4 ALLOCATING CONTRACT RISKIn discussing contract risk, Barrie states that, "in

the traditional construction process, the parties shouldhave well defined duties and liabilities coupled with th eability to manage, carry out, and control th eduties" (6-451). Contract risk can therefore only befaithfully assumed by all parties if they have the abili tyto control the outcome associated with the risk. The ownerand the designer set the stage fo r risk allocation whendeveloping the contract documents. The potential riskexposure to each party should be clearly defined by thecontract, giving the risk to the party that can manage,control and bear the cost the best (15).

Unfortunately, a great source of disputes inconstruction contracts arise today when the owner or designagent attempts to abandon their professional obligations byshifting unrealistic responsibility for the contract riskand liability to the contractor through the wordingincorporated in the contract documents. These, "risktransfer provisions of the contract" unduly force additionalcontractual risk on the contractor without empowering himwith the ability to mitigate or control it (6-451).

Barrie gives an example of this practice citing the"site-of-the-work clause" used frequently in state andprivate contracts (6). This clause places the risk of bothsite and subsurface conditions on the contractor. Horespecifically, the site of the work clause reads in part,1


18/114

"any interpretations or evaluation of the subsurfaceinvestigation record made by the bidder shall be at the solerisk of the bidder" (6-451). Though the owner and designerspend a significant amount of time, money and effort toresearch, test, and analyze the site conditions prior toproject development, this clause unfairly places the risk ofunknown site conditions on the contractor. The contractorhas no control over these unknown site conditions since hisexposure to the project site is limited to the documentationmade available to him at the time of bid and through a briefprebid site visit.

Another good example given by Barrie is in theincorporation of a Critical Path Method (CPM) schedulerequirement into the contract specification (6). Thisspecification may call for the owner and the contractor toshare th e contract float (6). The outcome tends to lean infavor of the owner since he is the approving authority forproject scheduling. The schedule approval process allowsthe owner protection through risk avoidance of delay claimssince he can force the contractor to plan the work over theentire contract period. Though the contractor may be ableto complete the work ahead of schedule, the approval processallows the owner to infringe upon the contractor's right tosequence and complete the contract in the most costeffective fashion he deems fit (6). Should the contractorbe delayed beyond the anticipated early completion date he

---- 13nmm m ~


19/114

projected due to owner negligence, the owner will beprotected from delay damages through his control over theproject float (6).

Risk transfer provisions of a contract such as theexamples just given are often times disputed when anunforeseen problem arises during construction. The ownerattempts to eviscerate responsibility for the problem andthe associated cost since he maintains the risk wascontractually the responsibility of the contractor.Conversely, the contractor feels no obligation to a risk hehad no control over at the time of bid. Under theseconditions, ensuing law suites can be expected when a fairand reasonable solution or compromise can not be mutuallynegotiated.

Increasingly, juries are tending to side against thecontracting party who is perceived to have been unfairlyenriched through the use of risk transfer provisionsregardless of the exculpatory provisions of the contractthat shifts the contract risk inappropriately (16).Unfortunately, all the parties to the contract lose whendisputes arising from exculpatory contract provisions areleft unresolved and litigation becomes unavoidable. Barrieclearly points out that, "in many construction lawsuits, thesum of the parties, direct expenses, court costs, expertwitness and attorneys fees is often in excess of the finalaward and is not received until many years afterconstruction completion" (6-452). Shedding confrontational

i* 14


20/114

attitudes, sharing the responsibility of risk equitably andworking toward conflict resolution from the start, willultimately be in the best interest of these parties, bothfinancially and professionally.2.5 PROJECT RISK MANAGEMENT

Mason has stated that identified risks can be managedby either avoidance, abatement, retention ortransfer (15-3). Avoiding, retaining or transferring therisk does not minimize its potential effects on the projector the contracting parties. Therefore, as Smith believes,the impetus behind an effective contract is througheffective management of the contract risk (15). He statesSthat: Contract preparation that allocates risk with abalanced input from all parties will be most costeffective ....How these risks are allocated amongparties to the contracting process has a direct

bearing on total project cost. (15-1)IITherefore, it is up to the owner and designer toproperly develop a contract risk management strategy forthose risks which are controllable. When developing theproject documents, the owner and designer should ensure thecontract risk management strategy employs fair and equitabletreatment to all the contracting parties. The owner anddesigner should evaluate each potential risk based on itscapability to impact the overall project cost or time ofperformance (15). This may bring to light an unequitable orunusually high risk to one of the parties. The owner and

* 15


21/114

design agent may then be able to eliminate or reduce thesetypes of risks to a reasonable level through careful projectdocument development.

The general terms and conditions within the contractspecifications contain the clauses which allocate the riskto the contracting parties and defines the responsibilityand liability of each in carrying out the contract (6). Itis in the general terms and conditions of the contract thatthe owner and designer must incorporate the risk managementstrategy to be implemented. Barrie asserts the followingcontract clauses of the general terms and conditions of th econtract set the stage for contract risk management:

1. Definitions.2. Quality interpretations and variations.3. Examination of work site.4. Subsurface exploration.5. Changes and alterations.6. Extra work.7. Authority of the engineer.8. Cooperation with others.9. Minimum wage rates.10 . Responsibility for damage claims.11. Contract time for completion.12. Adjustment to contract time.13. Termination of contract.14. Failure to complete and liquidated damages.15. Right of way or access delays.16. Measuremant of quantities.17. Compensation for changes and alterations.18. Claims for additional compensation.19. Notice requirements.20. Payment for extra and force account work.21. Progress payments and retention.22. Mobilization payment. (6-452)

The owner and designer should carefully scrutinizethese clauses and review risk management thoroughly. Theowner controls risk allocation through his approval of th e* 16


22/114

general terms and conditions of the contract. Though he maydesire to minimize his risk in completing the project,knowingly placing an unfair portion of the risk on thecontractor will not protect him as anticipated. In reality,he exposes himself to potentially higher bid prices, projectdelays and an increased risk of time consuming and expensivedispute proceedings (15).

When planning the project, Smith believes the owner anddesigner should take the following actions to help lower theoverall risk during project execution:

1. Review and revise "front end documents".2. Invest a little more to obtain more geotechnicalinformation. Make all geotechnical informationavailable to the contractor.3. Make use of constructability reviews.4. Real time disputes resolution.5. Realistic contract performance time.6. Recognize the need for budget contingency.7. Planned communication.8. Pre-planning for permits/utilities/zoning.9. Use the differing site condition clause.10. Recognize that design is a very small and oftenunderfunded component of cost.11. Delegate decision making authority to owner's siterepresentative. (16-15)

When determining whether to bid on a particularproject, contractor's should likewise carefully scrutinizethe general conditions and terms of the contract to assurerisk is equitably and fairly distributed to bothparties (6). A contractor should determine the desirabilityto bid on a particular project based on an evaluation andsubsequent determination of the risk involved in the projectand the need to include excessive contingency protection in

17


23/114

the bid proposal (6). If the decision is to bid on th eproject, the inclusion of a significant contingency to thetotal bid price will be necessary to limit the contractor'sexposure to a potentially risky venture.

An examination of the general terms and conditions ofth e contract by the contractor should focus on the owner'sfairness in allocating risk, the evaluation of his riskexposure, the completion of a bid or no bid analysis and thedevelopment of a bid plan that incorporates risk managementinto his proposal (6).2.6 BENEFITS OF PROPER RISK MANAGEMENT

All the parties associated with the contract benefit byproper risk allocation. The owner benefits from reduced bidcontingencies, a greater probability of timely completionand fewer contract disputes that are time consuming andexpensive to resolve (15). By in large, the owner is morelikely to receive a fair price for a facility that meets hisneeds and fulfills his expectations (15). Likewise, thecontractor is placed in a better position to bid morecompetitively and realistically through the elimination ofcontingency protection (15). He has a greater opportunityto do a good job and provide the customer with a quality andtimely product (15). Furthermore, not forcing undue risk onth e contractor reduces conflict between the parties andhelps to avoid exorbitant dispute resolution (15). Lastly,

18


24/114

the designer is removed from assuming unrealistic liabilityin relation to his involvement and ability to control thefinal product (15).

All parties benefit from a development of relationshipswhich maintain accountability and responsibility forappropriate contract risk. Proper risk allocation leavesthe door open for fewer disputes and a reduced need ofcontract enforcement through third party intervention (15).Overall, the owner, designer and contractor leave theproject with a greater sense of accomplishment (15).

Smith articulates the benefits of proper riskmanagement best when he states:

Construction projects and their participants willbenefit significantly by routinely taking a moresystematic, structured, and global view of (andapproach to) risk than is sometimes done at present.Enhanced and broadened cognizance of the wide range ofrisks that could materialize during the planning,design, and construction phases of a project willresult in better informed and more prudent designs,improved specifications, better informed bids, improvedproject relationships and communications, and enhancedconstruction contract administration practices. It isaxiomatic that all of these, of course, shouldcontribute to fewer misunderstandings and unfulfilledexpectations, less acrimony, and therefore less timeand money spent dealing with attempts to mitigate theadverse consequences of unanticipated risks. The endresult is that many disputes will be avoided and otherswill be susceptible to resolution on the job. Theentire project benefits. (15-13)In summary, proper risk management is essential for the

successful, unimpeded completion of every constructionproject.

19


25/114

THREECHANGES, CLAM AND CONTRACT DISPUTES

3.1 INTRODUCTIONAs so astutely stated by Judge Kern at the conclusion

of the civil suite between Blake Construction and C. J.Coakly Company:

... except in the middle of a battlefield, nowhere mustmen coordinate the movement of other men and allmaterials in the midst of such chaos and with suchlimited certainty of present facts and futureoccurrences as in a huge construction project... Eventhe most painstaking planning frequently turns out tobe mere conjecture and accommodation to changes mustnecessarily be of the rough, quick and ad hoc sort,analogous to ever-changing commands on thebattlefield (10-5.1).

Change and construction contracting go hand in hand inthe construction business since few, if any, constructionprojects are completed without the need to make changes tothe original project documents. Modifying the originalcontract documents through execution of change orders is away of life in the construction industry.

Ahanged condition occurs when the construction at thejobsite must be modified from those represented in thecontract documents. Changes can be initiated by one ofseveral parties including the owner, the designer, thecontractor, the subcontractors or regulator agencies. Amajority of these changed conditions are minor and can be

* |20


26/114

resolved in the field through a simple alteration in th especified requirements. This can usually be accomplishedwithout the contractor incurring lost time or an increase incost to complete the work. These types of modifications arecommonly referred to as field changes and are typicallyhandled between the owner's representative and thecontractor's site superintendent. Other changes causingeither a variation in time or cost to complete or both arecompensible and require modification to the terms of thecontract through the issuance of a change order.

Frequently however, an issue will arise which affectsthe cost or time of completing the project for which it isunclear who is responsible fo r absorbing those costs. Whenthe contracting parties share different opinions as to theexistence, scope or extent of a noted on-site conditionwhich falls into this gray area of contractualresponsibility, a disagreement over compensation will ensue.This chapter addresses contract changes and their role inthe development of claims and disputes between thecontracting parties during the construction process. Italso examines the claims and disputes procedures asspecified inhe American Institute of Architects (AIA)contract documents.32 CHANGE ORDER TERMINOLOGY

It is mportant to fully understand the terminologyrelated to contract modifications to better comprehend th e


27/114

mechanics of claims. This section is devoted to definingthe terminology used to address the topics common toconstruction claims (6-455).

3.2.1 ChangeA change occurs when the scope of the contract work is

modified or is impacted not due to the fault or negligenceof the contractor. Changes are compensible in money or timeor both.

3.2.2 Constructive ChangeA constructive change occurs when the owner or designer

fails to recognize a contractor's entitlement to a changedcondition in a timely manner.

3.2.3 Change OrderThe formal contract document that modifies the original

contract. Change orders can be classified as bilateral orunilateral. Bilateral change orders are those which theterms of compensation are mutually agreed upon by thecontracting parties. Under the AIA General Conditions of

Contract for Construction, AIA Document A201, aunilateral change order, termed a construction changedirective, may be issued when the contracting parties cannot agree over the equitable compensation for the change(13). In this instance the owner is entitled bycontract to unilaterally issue a contract change. This

22


28/114

change will be issued in the amount equal to the architect'sestimate of compensation pending final outcome of thedispute (13).

Under the AIA General Conditions, Document A201, achange order is defined as follows:

A Change Order is a written instrument prepared by theArchitect and signed by the Owner, Contractor andArchitect, stating their agreement upon all of thefollowing:1. a change in the work;2. the amount of the adjustment in Contract Sum,

if any; and3. the extent of the adjustment in the ContractTime, if any (13-3.3).3.2.4 CA formal contract procedure used to review contract

disputes between the contracting parties. The claim processis identified in the contract provisions which describes thesteps to be taken to protest an initial decision over th emerits of a change order proposal.

3.2.5 pj~tClaims that remain protested after completing the

claims procedure become disputes between the contractingparties. The dispute resolution process to be followed isoften times identified in the contract documents. Disputesmay be addressed through arbitration, alternate disputeresolution techniques or l i t igation.


29/114

3.3 CHANGES TO THE CONTRACTThe original contract may require modification for

numerous reasons due to the actions or inaction of any ofthe contracting parties or due to external interference.For example, changes can be caused by the owner, thedesigner, the contractor, unknown site conditions, acts ofGod or regulatory agencies (6).

Constructive changes to the contract are often the mostdifficult to resolve. The owner, who is responsible forinstigating the changed condition, believes the contractorhas neither been delayed nor has incurred additional cost.The owner's stand that the change is noncompensibleimmediately places the contested issue into dispute (6).

Aontractor can likewise create a change the contractwhen he fails to perform in accordance with th e projectdocuments. Contractor initiated changes tend to be theresult of a performance failure (6). A unilateral deductivechange may be issued by the owner under these circumstances.Changes of this nature can create friction between theparties if the performance failure or the amount deducted iscontested.

At times, neither the owner, designer nor contractor isresponsible for impacting the contract performance. Thesechanges are brought on by third party interference or otherunanticipated circumstances. These types of changedconditions are also often times a point of contentionbetween the parties if it is unclear in the contract2


30/114

documents who assumes responsibility fo r any additionalincrease inime or expense under these circumstances.

3.4 CHANGE ORDER CATEGORIESThere are three categories of contract changes that

generate the most difficult disputes to resolve since riskallocation is not clearly defined in the contract andneither party is willing to assume responsibility for thechanged condition (6). Barrie categorizes these changesinto owner and designer initiated changes, contractorinitiated changes and changes not caused by the contractingparties (6). Frequently a claim will result over one ofthese conditions if the parties can not reach a compromiseor achieve an equitable solution. In these cases, a thirdparty is employed to adjudicate the conflict throughSarbitration, ther alternate disputes resolution forums orlitigation.

3.4.1 Owner And Desianer Initiated ChangesThe most common types of owner and designer initiated

changes that tend to result in disputes include:1. Numerous last minute addenda during bid period.2. Delay in access to th e site.3. Delay in furnishing approved fo r constructiondesign drawings or clarification's.4. Delay in furnishing owner-furnished items.5. Defects in plans or specifications includingerrors and omissions.6. Major design changes.7. Scope additions.8. Scope deletions.9. Schedule improvement directives.10. Acceleration directives.11. Suspension of work.

* 25


31/114

12. Interference by owner or his designatedrepresentative.13. Nonperformance by owner.14. Termination of contract.15. Equivocal or conflicting contract clauses.16. Slow or inadequate response to submittals andrequests fo r information (6-453).

3.4.2 Contractor Initiated ChangesThe most common types of contractor initiated changes

that tend to result in disputes include:1. Failure to start work as planned.2. Failure to supply a sufficient work force.3. Contractor performance failure.4. Subcontractor performance failure.5. Supplier performance failure.6. Installation of defective work.7. Poor workmanship.8. Schedule delay.9. subcontractor schedule delay (6-453).

3.4.3 Other ChanMesThe most common types of changes resulting in disputes

due to acts or omissions of third parties, differing siteconditions or other circumstances not caused by either partyto the contract include:

1. Unforeseen changed physical site, underground orother conditions.2. Other unforeseen site conditions.3. Unusual weather or other natural event.4. Regulatory agency change.5. Change in law.6. Labor disputes.7. Third-party interference.8. Third-party nonperformance (6-453).

3.5 WHAT INSTIGATES CLAIMSClaims may involve numerous issues resulting from

either the owner's or contractor's perceived failure of theother to live up to the terms of the contract

26


32/114

agreement (15). Having to complete the work other than asspecified and planned can result in schedule delays,increased direct costs and extended jobsite and home officeoverhead (6). Often times views of contract risk ownershipunder these conditions is based on the parties prejudicedperceptions of who should bear the responsibility fo r theincrease in ime or cost. These claims can be the result ofseveral related or totally independent events that haveoccurred during the completion of the project. This makesidentification of responsibility and ultimate resolutionvery complex.

Even when the contracting parties agree a changedcondition to the contract has occurred, they may be unableto reach a bilateral agreement. In part, this is due toeach party's difference of opinion as to the significance ofthe impact on the overall completion of the work (6).Though the direct costs may be easy to establish, otherindirect expenses that may have been incurred can be hard todetermine. The cost and time impact of the change on othercontract work and productivity are based solely on eachparties perception of anticipated project efficiency. Theirinability to come to terms over the effect of the change onthe overall project completion is where lies the potentialfor claims (6).

2


33/114

3.6 CLASSIFICATION OF CLAIMSBarrie has classified claims into four general areas

that he categorized as:1. Design and specification changes and additions.2. Changed site conditions.3. Delay claims.4. Acceleration, compression, impact and effect, andripple effect of above delays andchanges (6-454).

The claims that develop due to design changes,specification changes, additions, changed site conditions,and delays can lead to the claims categorized asacceleration, impact and ripple (6).

3.6.1 Design Changes And AdditionsProblems do not usually result from these types of

changes as long as they are within the quantity and amountreasonably anticipated by th e contracting parties at thetime of award. When changes of this nature exceed fifteenpercent of the award amount or when a large number isissued, however, project impact and overhead costs can creepfo r both the changed work and the work originally contractedfor (6). As these types of changes approach twenty percentof the contract award amount, the contractor will begin toexperience major ripple effects to the original projectschedule and planned productivity (6).

By insisting the contractor maintain the contractcompletion date, the impact and effect of the additionalwork may force contractor acceleration requiring additionalresources, larger crews, or overtime to stay on the original

28


34/114

schedule (6). Acceleration can potentially lead to adrastic drop in the productivity capabilities of thecontract workforce.

With frequent change, evaluating and quantifying theoverall project impact experienced by the contractor,including the actual and anticipated increase in expense andtime, can be very difficult to determine. This difficultyin identifying costs often times lead to a wide variation inthe perceived equitable compensation for time, money or bothresulting in a complex contract dispute (6).

3.6.2 Changed Site ConditionsDesign professionals and owners opinions differ

considerably from contractors over whose responsibility itshould be to carry the burden of changed site conditions.The risk for differing site conditions can be placed uponthe contractor through the use of restrictive or exculpatorylanguage within the contract documents (6). Regardless ofthe wording in he contract documents however, disagreementover assigning proper responsibility fo r changed siteconditions can erupt into claims due to the perceivedunfairness of the contract.

In an attempt to resolve this disputes problem,inclusion of a differing site condition clause into thecontract absolves the contractor from all liability forconditions that differ materially from those experienced atthe site (6). This rightfully places the risk of differing


35/114

site conditions onto the owner. Differing site conditionclauses are presently required on all federally fundedprojects and are becoming increasingly more common in theprivate industry (6).

3.6.3 Delay ClDelays are fairly commonplace during the construction

process. If the delays are minor in scope and do not affectthe production schedule, impact the critical path or areconcurrent the contract completion date will remainunchanged. Likewise, compensating the contractor for timeassociated with delays due to contract changes can behandled through the normal change order process (6). Atsome point, however, numerous delays, small changes or asignificant number of changes made to the cont-ract canaffect productivity rates and the smooth flow of on-sitework (6). This scenario can lead to unanticipated scheduleimpacts requiring compression of the construction scheduleand acceleration of the work to meet the completiondate (6).

Contract delays are classified as excusable,inexcusable or compensible. Excusable delays are thosewhich are determined to be unforeseeable and uncontrollableby the contractor. Examples of excusable delays includestrikes, acts of God, labor disputes and other force majeureevents (6). Excusable delays are not compensible butrequire equitably increasing the amount of time to complete

30


36/114

the project as a result of the delay. Inexcusable delaysare not compensible for time or money since they are due tothe contractor's ow n negligence and are not th eresponsibility of the owner (6). Compensible delays arethose which are caused by the actions or inaction of theowner. Issues such as contract changes, untimely responseto requests for information or inaction to resolve siteconflicts may be compensible both in time and money (6).

The contractor will request compensation for thosedelays perceived not be due to his fault or negligence.Claims for delay issues can arise when the facts surroundingthe delay are complex or have been muddied by several inter-related events. Though it may be a fair assessment of th eoverall affects of the change on the unchanged work, theinclusion of impact, ripple, acceleration and compressioninto a claim further complicates the delay issue. Trying todetermine the cost associated with these types of claims onthe original contract is an almost impossible task. Evenwhen both parties agree the contractor was delayed, impact,ripple, acceleration and compression claims can impair th eability of the parties to reach a bilateral agreement forthe changed condition (6). Barrie states that these,"complex delay and productivity loss claims, includingacceleration coupled with the impact and effect upon theoverall jobsite, are difficult or impossible to settleduring work performance by polarized parties whose primary

U 3'a lP


37/114

objective remains to try to minimize the damage and tocomplete the project" (6-457).

3.6.4. Acceleration. Compression. Impact and RiDple.Claims associated with acceleration, compression,impact and ripple are borne out of the perceived overallimpact design changes, specification changes, additions,changed site conditions, and delays have on the contractor'sability to complete the project as planned andscheduled (6).

Claims can arise from acceleration or result fromdirecting or constructively forcing the contractor tocomplete the original contract work in less time thanreasonably allowed for under the time extension clause ofthe contract (6). Under these circumstances, the contractormay be required to bear the expense of increasing hisworkforce or to work overtime to meet the directedcompletion date (6). A dispute between the owner andcontractor can arise when the owner directs the contractorto get back on schedule even though the contractor feels hisdelay is xcusable and/or compensible.

Compression claims occur when the owner directscompleting more work than originally contracted for in thesame amount of time as specified in the contract (6).Again, the contractor may claim any cost resulting fromovertime, increased crew sizes or resulting inefficienciesto meet th e directed completion date (6).3


38/114

Impact cost claims can occur if there is a drop inlabor or equipment productivity resulting from differingsite conditions or the addition of change orders to thecontract (6). The contractor is entitled to compensationfor impacts to his work if additional expenses are incurred.

Ripple claims are associated with the overall "ripple"effect a change order or changed condition can have on thatportion of the contract work that is not directly affectedby the change (6). Though hard to establish, ripple iscompensible if additional costs were incurred due toexecution of the change.3.7 THE AMERICAN INSTITUTE OF ARCHITECTS PROCESS

It is quite common for the American Institute ofArchitects (AIA) standard contract documents to beincorporated into most privately funded constructionprojects (13). Looking at the General Conditions of theContract for Construction, AIA Document A201, it clearlyexplains the rights and responsibilities of the contractingparties when incorporating changes into the contract. Italso stipulates appropriate dispute procedures if thecontracting parties can not agree on the changed condition.The following subparagraphs discuss the procedural steps inthe AIA process for disputed changes.

3.7.1 Issuing A Change DirectiveUnder AIA document A201, the owner has the right to

order changes to the construction work as long as it remains

I 33


39/114

within the scope of the project. The contractor isobligated to perform the changed work whether the partiesagree over the compensible value of the additionalwork (13). When agreement on an equitable adjustment cannot be reached between the owner and contractor, the GeneralConditions stipulate that the architect shall judge th ecompensibility of the change. Subparagraphs 7.3.6 and 7.3.8read in part:

... the adjustment shall be determined by the Architecton the basis of reasonable expenditures and savings ofthose performing the work attributable to the change,including in the case of an increase in contract sum,allowance for ovcrhead and profit .... if th e Owner andContractor do not agree with the adjustment in theContract Time or in the method for determining it, theadjustment or the method shall be referred to theArchitect for determination (3-15).

Pending resolution of a dispute, the contractor is requiredunder subparagraph 4.3.4 to continue to diligently pursuecompletion of the contract work (3).

3.7.2 Decision of the ArchitectParagraph 4.3 of AIA Document A201 stipulates the

procedures that must be followed when a disputed claimarises. Under the AIA rules, the party asserting the claimmust present the facts of the claim in writing, "within 21days after occurrence of the event leading to the Claim orwithin 21 days after the claimant first recognizes thecondition giving rise to the claim, whichever islater" (3-11). The party to the claim is also responsiblefor substantiating the claims validity (13).

34


40/114

Claims must first be reviewed by the architect fortheir merit as a condition precedent to arbitration orlitigation of a claim unless:

1. the position of Architect is vacant,2. the Architect has not received evidence or hasfailed to render a decision within agreed timelimits,3. the Architect has failed to take action requiredunder Subparagraph 4.4.4 [written notice ofdecision] within 30 days after the Claim is made,4. 45 days have passed after the Claim has beenreferred to the Architect, or5. the Claim relates to a mechanics lien (3-11).

Under paragraph 4.4, After receiving a claim, th earchitect must take one or more of the following actionswithin 10 days:

1. request additional supporting data from theclaimant,2. submit a schedule to the parties indicating whenthe Architect expects to take action,3. reject the Claim in whole or in part, statingreasons for the rejection,4. recommend approval of the Claim by the other party5. suggest a compromise (3-12).3.7.3 The Disputes ProcessThe disputing party has 10 days to notify the architect

if the claim remains contested following th e architectreview (3). The architect is then responsible fo r providinga final decision regarding the dispute within 7 days (3).


41/114

This decision is binding on the parties subject to review asoutlined in the arbitration clause of the contract (3).

3.7.4 ArbitratiThe American Institute of Architects has incorporated

an arbitration clause into the AIA General Conditions of th eContract for Construction. Paragraph 4.5 of Document A201stipulates that arbitration shall be used for disputeresolution according to the American Arbitration AssociationConstruction Industry Arbitration Rules (3). Notice ofdemand for arbitration must be in writing within 30 days ofreceiving the architects final decision (3).

Arbitrated awards may be subject to judicial appealaccording to the applicable federal and state laws of th ecourt having jurisdiction over the dispute (3). A fewstates do not enforce arbitration clause requirements unlessan award has already been made by an arbitration board (16).However, inmost states and under the Federal ArbitrationAct, appeal procedures are not available. In fact, moststatutes make arbitration mandatory and binding on thecontracting parties (16).

3.8 EFFECTIVENESS OF THE AIA CLAIM PROCESSThe effectiveness of the AIA claims procedures for

settling disputes and minimizing litigation appears to be apoint of contention within the construction industry. Oneof the debates held during the ninth annual meeting of theForum on the Construction Industry, sponsored by the

* 36


42/114

American Bar Association, looked at the practicality ofhaving the architect act as the initial authority fo r claimsvalidity before undertaking arbitration or litigation (14).As noted during this discussion by Ross Altman, a Chicagoattorney:

making the architect a claims officer only invitestrouble. It is unreasonable to expect the architect tohave the knowledge and skill to resolve the numeroustypes of claims that will invariably arise on anyconstruction project. Moreover, it is unrealistic toexpect the architect to act completelyimpartially (14-31).Dale Ellickson, senior director of AIA's documents programresponded in kind. Lunch paraphrased his remarks bystating:

The role of the design professional as a quasi-arbiteris supported not only be long experience, but morepragmatically by the logic that the design architect orengineer is most familiar with the scope and intent ofthe project. Bringing in a third-party also would bemore costly and time-consuming. Allowing the on-sitearchitect or engineer to handle this function permitsthe disposition of small problems that could easilybecome large problems if left to th e end of theproject (14-31).

Though both parties appear to have some valid points,selecting the dispute resolution method to be employed on acontract based on cost should not be the only considerationlooked at as implied by Ellickson. The cost associated witharbitration is insignificant as compared to the expensesthat both parties will incur when undertaking legalrecourse.

3


43/114

Discussing the effectiveness of the AIA method, Heyerperceives that this method of dispute resolution is viewedwith skepticism by the construction industry as being fairand reasonable. He notes that within the contractingcommunity as a whole, "very few contractors believe that th eArchitects act independently of the Owner in making these[change orders, time extensions and claims]decisions" (12-7). Heyer's perceptions are probablycorrect. With that in mind, the current AIA procedures fordispute resolution appears to be an ineffective tool forfighting disputes.


44/114

CHAPTER FOURA LEIGL FOCUS ON TH E ARBITRATION PROCESS

4.1 INTRODUCTIONArbitration was established as a method to resolve

contract disputes without having to enter the litigationarena. Though th e mechanics used for dispute resolution aresomewhat different between these two systems of justice,arbitration procedures are not completely divorced from thejudicial system (16). Arbitration supplements but does notreplace the legal authority of the courts. The courts arecalled upon when enforcement of an arbitration clause isrequired. They also enforce the awards made by th earbitration board if they are not complied with voluntarilysince the arbitration board has no enforcementauthority (16). The primary difference of arbitration overthe court system is its ability to settle constructiondisputes without th e need to undertake a long, exasperatingand expensive litigation process.4.2 THE DEVELOPMENT OF THE ARBITRATION PROCESS

Prior to the 1920s most judicial courts were notsupportive of arbitration as a method for settling contractdisputes (16). As a rule, arbitration agreements werejudged to be unenforceable under common law (16). Oftentime the courts undermined the process's ability to properly

I 39


45/114

function and limited contractual enforcement only to thosearbitrations that has already made a ruling (16). Othertimes the judicial system would not uphold a contractrequirement directing the parties to arbitrate stating thatthe clause was an invalid contract requirement (16). Somecourts allowed revocation of the agreement by one of thecontracting parties if done prior to award (16). Otherslimited award damages for contractual breach of a contractwhen a party failed to arbitrate according to therequirements (16).

The courts' attitude about using arbitration fordispute resolution began to improve when many of the stateslegislative bodies enacted statutory regulations enforcingarbitration requirements in the early 1920s (16). Sweetstates these arbitration statutes where important foraccomplishing the following objectives that have beenfundamental to the success and development of thearbitration process:

1.Made agreements to submit future disputes toarbitration irrevocable.2. Gave the party seeking arbitration the power toobtain a court order compelling the other party toarbitrate.3. Required courts to stop any litigation where there

had been a valid agreement to arbitrate a pendingarbitration.4. Authorized courts to appoint arbitrators and fillvacancies when one party would not designate thearbitrator or arbitrators withdrew or were unableto serve.


46/114

5. Limited the court's power to review findings offact by the arbitrator and her application of thelaw.6. Set forth specific procedural defects that couldinvalidate arbitral awards and gave time limits for

challenges (16-672).Favoritism toward arbitration has since grown within

the legal community out of a perceived need to expediteresolution of contract disputes, to mitigate legal expensesand to relieve an already overburdened court system ofcontractual law cases (16). For example, in the case ofSpence versus Omnibus Industries, the court revealed theirapproval of arbitrating disputes in place of litigation whenit stated:

The law favors contracts for arbitration of disputesbetween parties. They are binding when they are openlyand fairly entered into and when they accomplish thepurpose fo r which they were intended.Our trial courts are clogged with cases, many of theninvolving disputes between contracting parties. One ofthe principal purposes which arbitration proceedingsaccomplish is to relieve that congestion and to obviatethe delays of litigation (16-673).

4.3 ENFORCEABILITY OF ARBITRATION CLAUSESPresently the federal government and nearly every state

has enacted laws that encourage and enforce arbitration whenthe agreement is freely entered into by both contractingparties (16). These laws address the responsibilities ofcontracting parties to arbitrate when bound by anarbitration clause in the contract (16). However, thecourts carefully scrutinize arbitration clauses when broughtto court under protest and their record of upholdingiii41


47/114

arbitration requirements has varied somewhat (16). This isespecially true when the requirement to arbitrate a disputeis undisclosed or is forced upon one of the parties throughits incorporation into an adhesion contract (16). Anadhesion contract is one in which the terms of the agreementare largely dictated by one party and merely adhered to bythe second party.

The court may require proof that both parties knew ofthe intent and understood the consequences of a contractcontaining an arbitration clause. As pointed out by Sweet,contractor's may unknowingly sign a contract that containsan arbitration clause due to the many layers of referencesincorporated into contract specifications (16). They mayalso not clearly understand the ramifications of the disputeclause on their ability to litigate a claim because of theseconfusing specifications. He notes:

An owner who uses AIA documents will sign the BasicAgreement, A101, which states nothing about arbitrationbut incorporates A201, the General Conditions, into theContract Documents. To complicate the process, A201'sarbitration clause is among a number of provisions inArt. 4 captioned "Administration of the Contract."Even more difficult fo r the unsophisticated owner,4.5.1 requires arbitration in accordance withConstruction Industry Arbitration Rules of the AmericanArbitration Association (C I Rules). These formidablerules are not included in the ContractDocuments (b, p. 678).4.4 THE LEGALITY AND VALIDITY OF ARITRATION

A party to the contract may feel it is not in theirbest interest to arbitrate and desires to break thiscontractual requirement. Under these circumstances they

42


48/114

usually look for a way to attack the validity of th earbitration agreement (16). Cases brought before the courtsto invalidate arbitration agreements include reasons such asfraudulent procurement, unconsionability, or that it lacksmutuality (16). Various courts have sided both fo r andagainst the plaintiff in these cases depending on the factsbrought before them. However, it is plainly the opinion ofthe judicial system to leave arbitration clauses in tackunless significant facts can be brought to bear whichquestion the fairness or reasonableness of the clause toboth contracting parties (16).

4.5 ARBITRABILITY AND TIMELINESS OF CLAIMSTwo other commonly protested issues regarding

arbitration address the jurisdiction and timeliness of theprocess (16). Court decisions responding to these twoissues have also varied somewhat based on the court'sperception of arbitration and the interpretation made of thearbitration clause in the contract (16). As an example,court decisions have differed significantly when determiningif iquidated damages, aesthetic quality or tort claims fallwithin the preview of arbitration (16). The legalembracement of arbitration, including the implied terms ofthe agreement, can therefore differ significantly fromjurisdiction to jurisdiction (16).

Decisions handed down by an arbitrator are sometimesvoided by the courts if it has been determined the4

43


49/114

arbitrator exceeded his jurisdiction (16). Nevertheless,courts that favorably support the underlying principles ofarbitration usually will not narrowly interpret arbitrationclauses to deny settlement of a particular contractdispute (16). For example, "one court noted that overtechnical judicial review of arbitration awards on the basisof the scope of the arbitrator's authority can frustrate thebasic purpose of arbitration" and denied relief to theplaintiff (16-676). The proceeding will generally be upheldand enforced if the descending party has agreed to arbitratein the first place (16).

In summary, Justin feels the, "judicial resolution ofthe jurisdictional question is likely to be influenced bythe court's attitude toward arbitration, the relativebargaining power of the parties, and the apparentappropriateness of arbitration for the particulardispute" (16-677). Courts tend to be unwilling to evaluatea question of jurisdiction and will usually enforce thefindings of an arbitration board if the award has alreadybeen made (16).

Timeliness of the demand for arbitration is anotherissue that has generated some legal review in the past.Contract arbitration requirements often times state that thedemand for arbitration shall be made in a reasonabletime (16). However, determining what is considered areasonable time to demand arbitration is very subjective.For example, the American Institute of Architects Document

44


50/114

A201 states the requirements for making a timely request forarbitration. Specifically, decisions of the architect mustbe appealed to arbitration within thirty days of thedecision (3). Other disputes must be submitted within areasonable time for examination by the arbitrationprocess (3). Again, defining what is considered to bewithin a "reasonable time" is questionable. Several legalsuites over the timeliness of arbitration requests havegenerated various determinations by the courts. As with thequestion of arbitrability, legal decisions over issuesinvolving timeliness are likely to be influenced by th ecourts' perception and attitude toward arbitration, theappropriateness of arbitrating the particular dispute andthe equity of the process to both parties (16). Therefore,to avoid protests based on an issue of timeliness, it ispreferred to specifically state in th e contract what isconsidered a reasonable time to submit a dispute.4.6 COMPARING ARBITRATION TO LITIGATION

One of the primary differences between arbitration andlitigation as a method of dispute resolution is thatarbitration is voluntarily agreed to be used to help settledifferences before a dispute even occurs. Arbitrationreduces the risk of claim escalation and time delays to thecontract parties typically associated with litigation.Arbitration is by and far a quicker and more cost effectivemethod of resolving contract disputes.

45


51/114

Though the American Arbitration Association (AAA) is anon-profit organization, the initial cost of filing forarbitration greatly exceeds that associated with filing alegal suite (16). Under C! Rules, the cost fo r filing aclaim or counter claim under arbitration is based on th esize of th e claim with $300 set as the minimum fee (16).The size of the fee can become exorbitant as th e cost of theclaim increases. For example, an abbreviated scale ofarbitration fees assessed fo r a claim is provided asfollows:

Claim Amount Filing Fee$25,000 $750$200,000 $2,250$200,000 to 5 million $2,250 plus 1/4% of theexcess over $200,000Over $5 million $14,250 plus 1/10% ofthe excess over$5 million (16-694)

This AAA fee is due sixty days after filing or before thefirst date of the hearing, whichever occurs first (1). Forarbitrated hearings, the contracting parties are alsoresponsible for all the costs associated with the hearingincluding the arbitrator(s) fees, clerical fees and expensesassociated with renting a hearing room to holding thehearing (16). In comparison, court costs are provided freeof charge as a public service to the litigants.

Arbitrations are primarily intended to resolve twoparty disputes. Its abbreviated format is not suited formultiple party claims and counterclaims due to their

46


52/114

complexity. For this reason multiple party claims are notusually handle by arbitration. Joinder and consolidation ofa claim are much more easily accomplished through the legalsystam (16). The courts are well suited and experienced inresolving multiple party suites that require an extensiveamount of time to prepare for and complete.

The legal process of "discovery" is time consuming andcostly. Discovery is the, "process by which attorneys inlitigation can obtain evidence from the other party toprepare for the hearing" (16-694). Arbitration allows fordiscovery in a limited form to avoid delaying th e hearing.Under the judicial system, discovery is a laborious andlengthy procedure and considered a major step in thelitigation process.

Arbitration has the advantage of speed and costeffectiveness over litigation. Arbitration does not requirethe parties be represented by legal counsel as in thejudicial system. Therefore, arbitrated hearings are notslowed down by attorneys and the complicated rules ofdiscovery and evidence that can drag litigation on fo r anexcessive amount of time (16).

Transcripts of the hearings are also not required forarbitrated hearings, saving both time and money to completethe process (16). The speed and simplicity of an arbitratedhearing not only results in quicker decisions but reducesthe expense the parties must absorb.4

I 47"


53/114

Arbitrators are not educated in the field of law norhave the experience of a trial judge in hearing legaldisputes. However, they often times possess the technicaland field experience to better understand the mechanics ofthe dispute (16). Arbitrator's are also not compelled tofollow legal precedence in their decisions as is commonlydone inhe court system (16). Awards are more apt to bebased on technical as well as the legal merit.

Litigated hearings are held at the court ofjurisdiction located at the principal city nearest to wherethe lawsuit was filed. Contrary to this, arbitratedhearings can be held anywhere that is convenient to all theparties (16). Furthermore, site visits to investigate th edispute are common in arbitrated hearings but difficult toarrange with court cases (16).

Arbitrated hearings are closed to the public andjustification for an award is not required to be given bythe board members (16). Litigated cases, on the other hand,are open to the public and awards are often followed by alengthy legal explanation of the decision handed down by thecourt.

Lastly, legal decisions can be retried by the appellatecourt based on an error of law or if there was no evidenceto support the findings of fact. Arbitrated decisions arenot appealable unless associated with a procedural problemor misconduct on the part of the arbitrator (16). In fact,Justin notes that arbitrated awards containing an error of5 48


54/114

law have not been successfully overturned by the courts inthe past when he states:

One court stated that the court will not inquirewhether the determination [award] was right or wrong.Another stated errors of fact or law are not sufficientto set aside the [arbitrated] award. Another statedthat an error of law was not reviewable unless th earbitrator gave a completely irrational construction toth e provision in dispute. Another stated that honesterrors were not reviewable" (16-690).In summary, though the court system was possibly used

as a model when initially establishing arbitrationprocedures, the brevity of arbitration attained byminimizing the number of procedural steps was intentionallyincorporated into this dispute resolution process. Withoutbeing able to expeditiously handle disputes by limiting theprocedural scope, the main focus of expediency and costeffectiveness of the arbitration process would be lost.

4


55/114

CHAPTER FIVETHE ARBITRATION PROCESS

* 5.1 INTRODUCTIQNThis chapter addresses the dispute resolution process

through arbitration. Third party disputes resolution canencompass a broad or narrow spectrum of contract issuesunder dispute. If an arbitration clause is incorporatedinto the contract documents, the scope of what can bedisputed under arbitration is defined within the general

* conditions of the contract specifications.Arbitration is sed to resolve disputes that are broad

in nature and have historically been resolved through thelitigation process. Until 1966, arbitration using theAmerican Institute of Architects (AIA) documents was eithercompleted informally between the parties or through th eAmerican Arbitration Association (AAA) commercial rules (1).These rules caused delays and procedural problems since theywere not geared toward the requirements of the constructionindustry (1). In 1966, the AAA adopted the ConstructionIndustry Arbitration Rules which are no w supported as aforum for dispute resolution by fourteen nationalconstruction associations (1).

3 50!r


56/114

5.2 DEVELOPING THE ARBITRATION CLAUSEDispute resolution through the arbitration process can

be made mandatory by incorporating this requirement into the

contract documents. If an arbitration clause is notincluded in the contract documents, parties can stillmutually agreeto arbitrate a dispute through the AAA bysubmitting a signed statement of their intent (1). With theinclusion of an arbitration clause within the contractdocuments, the contracting phLries acknowledge resolvingcontract disputes through arbitration upon signing thecontract (161.

Usually the arbitration clause of the contract is basedon a standardized set of rules developed by a leader in theconstruction industry such as the Construction IndustryArbitration Rules of the American ArbitrationAssociation (16). The clause, however, is not required tobe drafted around any particular set of rules. Though statestatutes sometimes do mandate particular requirements to beincorporatea within the arbitration clause, modernarbitration statutes usually only require that the agreementbe in writing (16).

Tailoring of standard arbitration rules may bedesirable to fit the needs of the contracting parties. Forexample, the party developing the arbitration clause mustknow the desired extent of authority to be given to thearbitration board. Nore specifically, Sweet suggests the

51


57/114

contracting party may desire to modify a standardarbitration clause to include:

1. Limiting arbitration to factual disputes such asthose involving technical performance standards oreliminating arbitration of other types of more"legal" disputes such as termination

2. pecifying the place of arbitration.3. Providing a designated person or persons asarbitrator or arbitrators.4. Limiting arbitration to claims not exceeding adesignated amount or percentage of the contractprice.5. Limiting disputes to those that occur while thework is proceeding with an expedited one-personpanel.6. Permitting consolidation of separate arbitrations.7. Providing a right to discovery.8. Limiting the award to the most fair of the lastproposals or an amount between the two finalproposals of the parties.9. Eliminating th e use of attorneys.

10. Making the award "nonbinding" (16-696).Sweet clearly points out, however, that the more complicatedth e arbitration clause becomes, the more burdensome it maybe to reach a quick conclusion of the dispute (16). Thegreater the variables, the greater the time and costassociated with the performance of an arbitrationhearing (16).

Though not all are required for every arbitration, someof the more common steps in the arbitration process underthe Construction Industry (CI) Arbitration Rules of the AAA


58/114

include; holding an administrative conference, selecting th earbitrator(s), selecting a location for the hearing, holdingpreliminary hearing procedures, completing the arbitrationhearing, arbitrating awards, arbitration enforcement and theallowed scope of judicial review (16). These steps will bediscussed further in the following sections.5.3 HOLDING AN ADMINISTRATIVERSThe AAA may schedule an administrative conferencebefore the appointment of the arbitrators if requested bythe parties or if the disputes are large and complex (2).This informal meeting between the parties and an AAArepresentative is used to establish a procedural process forthe arbitration. Topics of discussion typically include:

1. A brief statement of the dispute and issues to beresolved.2. Specify the amounts of claims and counterclaims.3. tipulation of uncontested facts.4. Schedule for the exchange of information, includingany reports from experts.5. Lists of witnesses, including biographies of expertwitnesses and outlines of testimony.6. Estimated length of case and schedule for hearings.7. Number of copies of exhibits to be made.8. Briefs.9. Conduct of hearings and closing remarks.

10. Arbitrators' directives fo r resolving disputes overexchange of information (2).

3


59/114

Completing these procedural steps before the arbitrationhelps ensure the process is completed in an orderly,expeditious manner (2).5.4 SELECTING THE ARBITRATOR(S)

The method used to select the arbitrators is defined bythe arbitration clause of the contract (16). Typically,arbitrators are selected by the contracting parties afteraward of the contract rather than by being identified withinthe arbitration clause (16). The joint selection of th earbitration board assures both parties an impartial decisionwill be made when resolving disputed matters. The partiesmust be confident that awards will be based solely on thefacts and the expertise of the panel.

This actual selection process can vary somewhat fromcontract to contract depending on the wording of thearbitration clause. The clause can stipulate that eachparty name an arbitrator with the third being jointlyselected by the previously named board members. Somecontracts require the parties select only two members of th e

panel with the selection of the third member tobe made only to break a deadlocked decision (16). Onsmaller contracts, the clause may stipulate only using onearbitrator to resolve disputes (16). Some clauses identifya known neutral party, such as the American ArbitrationAssociation, to designate the arbitrators when the partiescan not mutually select the board (16). In this instance5


60/114

the AAA will name a particular panel of qualified membersfrom which the parties may be able to mutually select thearbitrator. If they still can not agree, the AAA willassign arbitrators to preside over the disputehearings (16). Normally, unless the arbitration clausestates or the parties agree otherwise, a board of threearbitrators is used to evaluate claims (16).

Some contracts follow the AAA guidelines whereinarbitrators are appointed to the board by the AAA after ademand for arbitration is made (1). The board appointmentsare based on a short-list selection of nominations made bythe disputing parties from the list of possible candidatesthe AAA has named (1).5.5 SELECTING A LOCATION FOR THE HEARING

The arbitration clause does not usually identify a sitewhere the hearing will take place. This is to allow forjoint selection of a mutually neutral location (16). Anylocation is onsidered adequate as long as its selection isreasonable, cost effective, expeditious to resolving of thedispute and mutually neutral. For example, the site may beselected for its proximity to the actual jobsite tofacilitate site visits during the hearings. The AAA isusually authorized to designate the location where thehearings will be held if the contracting parties can notagree on a mutually neutral site (16). If the parties arebound by the AAA arbitration rules, the time and place for

Ii55


61/114

the arbitration is automatically selected by the AAA afterconsulting with both parties to determine a mutuallyconvenient time and place (1).5.6 PREHEARING PROCEDURzS

Under the AAA rules, the party who initiates thedispute action submits a notice of the intent to arbitratestating the reasons fo r th e dispute, the amount of the claimand the remedies sought by the party (1). The initiatingparty is responsible for paying a fee based on the amount ofthe claim to cover the cost of the proceedings (16).

Depending on state statutes controlling the arbitrationprocess or for extremely large or complicated claims, ashort pretrial "discovery" period may be necessary as amethod to aid both parties in their mutual understanding ofthe issue being disputed (16). Discovery allows thecontracting parties to examine witnesses or documents heldby the other. This gives both parties a chance to obtainthe facts pertinent to the dispute and evaluate the other'sposition (16). In some instances, during the pretrialdiscovery process additional information or factssurrounding the debated issue may clarify the disputeallowing both parties to reach a mutually acceptablesettlement without the need to arbitrate.

Though not required, before the arbitration hearingboth parties may consider forwarding the other an advancecopy of their case facts, their interpretation of those

3 56II


62/114

facts and their justification fo r their position (16).Justin suggests this advance submission will narrow thescope of the dispute during the proceedings by eliminatingissues not relevant to resolution of the dispute (16). Thismay lead to a more expedient settlement saving both partiestime and money (16).

However, he beauty of arbitration lies in its abilityto quickly and efficiently respond to conflict. Sweetclearly notes that the parties must be careful not tounintentionally undermine the ultimate goal of expediting,simplifying and minimizing expense of the conflictresolution process (16). Incorporating too many of theprocedures common to the legal system into arbitration canlimit its effectiveness. Good judgment and common sensefocused on the goals of arbitration should be used as abenchmark against over complication. For this reason,representation by legal council may be counter productive tothe process.5.7 COMPLETING THE ARBITRATION HEARING

Typically arbitration clauses do not describe theprocedures that must be followed for holding an arbitrationhearing (16). Often times, statutory law, arbitrationassociations or trade groups provide general guidelines bywhich the arbitration board uses to conduct a hearing (16).In the absence of any guidelines, the arbitration boarddetermines how the hearings are to be conducted. The

57


63/114

following examines those procedures commonly employed inmost arbitration hearings.

5.7.1 Identifying The Arbitration Member(s)In some instances the arbitration clause does notrequire selection of the arbitrator(s) until a dispute hasbeen presented in writing (16). In this instance, selectionof the arbitrator(s) must be made before any action can betaken to resolve the grievance. It is the responsibility ofboth parties to quickly identify mutually acceptablearbitrator(s) so the hearings can expediently proceed.

5.7.2 Waiving Formal HearingsThe contracting parties may agree to have the

arbitration board review a particular dispute based solelyon each other's written statements (16). These statementssummarize the issues and facts surrounding the dispute aseach party sees it. The contract documents or any otherwritten documentation that may shed some light on resolvingthe conflict is forwarded with their written statements(16). For smaller disputes, this method of resolution cansave time and money for both parties by minimizing theirefforts to complete the dispute resolution process. Evenstill, the arbitrator has the right to request a hearing beheld if he contracting parties do not provide sufficientinformation for the board to reach a decision (16).

* 58ii


64/114

5.7.3. Scheduling The HearingThe arbitration board should attempt to meet as soon as

possible after the notice of a dispute is forwarded.Sufficient time should be allowed, however, for both sidesto properly prepare their case before the date of thehearing. Based on the complexity of the claim, this shouldtake into account the time that may be needed to obtain theprofessional services deemed necessary to present theirposition or complete any testing needed to substantiatetheir case. Disruptions to the arbitration process, such asa request for postponement or recess of a hearing, can begranted by the board if there is reasonable cause fo r th erequest (16).

5.7.4 Professional Conduct of The ArbitratorsThe parties should be allowed to question the

arbitrators at the beginning of the hearing to confirm theirimpartiality toward the dispute (16). The arbitratorsshould openly disclose any information that could presenteven the appearance of favoritism.

The arbitrators may open the hearings by stating th eoath they are bound by if required by state or federalarbitration statutes (16). Conduct of the hearings shouldbe geared toward honesty, professionalism, fairness andimpartiality. Even an erroneous appearance of favoritism toone side can result in post award protests, resubmission ofthe claim fo r review or follow on litigation.

59


65/114

5.7.5 Refusal To Attend HearingsShould one of the parties to the contract refuse to

attend th e hearing, the arbitration should still proceed asscheduled. The party in attendance will be given th eopportunity to present his position to the arbitrationboard (16). Any written information provided by th eprotesting party will be reviewed before making anaward (16). The arbitrated award will be based solely onthe evidence before the arbitrator at the conclusion of thehearing (16).

5.7.6 OUening RemarksIt is up to the discretion of the arbitration board

whether they will permit the parties in dispute to open th ehearing with some brief remarks (16). Sometimes openingremarks can be beneficial for very large or complexdisputes. These statements may shed some l ight on th erelevant facts of the dispute and help the arbitrators focuson the real issue at hand (16).

5.7.7 Evidence & Subpoena RightsNeither party desires to present information or

witnesses that may weaken their case during the hearing.Without the authority to require the contracting parties orknown witnesses to cooperate, the ar