Industry Deep Dive – Construction: Practical Strategies for Managing Construction Contracts

Kathy (host):
Well, hello there, and welcome back to another episode of “Help My Business is Growing,” a Podcast where we explore how to grow and build a business that is healthy and sustainable. I’m your host, Kathy Spatina, a fractional CFO and founder of NewCastle Finance, a company where we say that everything that you do in your business is eventually going to end up in your finances. And to get to healthy finances is to have a healthy business.

Kathy (host):
The question is, how in the world do you get there? Well, the answer to that is you can listen to this podcast where we’re going to give you some good tips and tools on how you can actually achieve it. This episode is a part of industry-specific episodes, and we’re going to be focusing on construction and remodeling businesses. And specifically what we’re going to be talking about is contracts in construction and remodeling businesses, because contracts are at the core of every construction project, and if you don’t take time to thoroughly review and negotiate key terms, you could have some unexpected liabilities. You could have financial setbacks, or you could have disputes that disrupt the progress, and again, financial setbacks right there.

Kathy (host):
So missed details can lead to delayed payment. You can have some strained relationships with contractors. You can have lost opportunities for future projects. There’s all sorts of things that come out of—and not good things that come out of not paying attention to your contracts. So how can you identify potential risk before you’re actually signing a contract, and what practical strategies can help you secure fair and balanced terms? And how can you protect your interest while building productive working relationships on these projects? As a reminder, all of the episodes on this podcast have blogs and detailed timestamps that we linked into our episode show notes. So if you’re interested in that, please go ahead and look at it. It’s there for you as a resource.

Kathy (host):
My guest today is Megan Shapiro. She is a risk management strategist, construction attorney, and founder of Construction Contract Coach. After litigating construction disputes for nearly 15 years, Megan is now taking everything she’s learned and teaching construction leaders how to do it like a lawyer through her workshops and coaching programs. Megan offers actionable strategies for negotiation, persuasion and contract review and strategic communication, drawing on her years of representing subcontractors, owners, GCs and everything in between. She empowers construction leaders to win more projects, eliminate claims, and maximize profits, all while reducing risk and helping leaders adopt a lawyer’s mindset to succeeding in business. This is going to be a great episode and a very relevant one if you are in construction and remodeling industry. Join us.

Kathy (host):
Megan, welcome to the show.

Megan (guest):
Thank you. I’m super excited to be here.

Kathy (host):
Thanks so much for being here. We’re going to be talking about something very specific. And this podcast is a part of the industry-specific podcast for construction, and remodeling businesses, and we’re going to be talking about contracts specifically for those businesses, and more specifically, subcontractors and general contractors. So this is going to be a great resource for people who actually need this. And I want to first start this conversation with—there are all sorts of contracts out there, and there could be contracts for subcontractors and for general contractors. How do those differ?

Megan (guest):
Typically, when we’re talking about subcontracts, we are talking about the contract that the general contractor is going to give to the subs that it is using on the project. Those contracts are usually drafted by the general contractor or their team or their attorney, and they serve primarily two functions. One, if it’s a project where there is an owner that’s different from the general contractor, then the subcontract is going to serve as the mechanism that incorporates any provisions from the prime contract that the general contractor is required to bind its subcontractors to.

Megan (guest):
Secondarily, it’s going to primarily act as a risk-shifting mechanism to shift as much risk onto the sub-tier contractors as they are willing to take. Along with that, of course, goes indemnity, the duty to defend, the duty to hold harmless, and things like that. So that’s really what we’re talking about when we’re looking at subcontracts. That’s really what the subcontractor is receiving from the general contractor.

Megan (guest):
When we’re talking about general contracts, that’s typically what I—what is commonly referred to as the prime and that’s usually what the general contractor is receiving from the owner. Similar to the framework for a subcontract, equally with a prime contract, usually the owner and their team are drafting the prime contract and giving it down to the giving it to the general contractor. Same goals, though—the goal of the prime contract is to shift as much risk from the owner onto the general contractor as the general contractor is willing to accept. It also has a lot of provisions in it that it knows it wants the general contractor to bind the subcontractors to, who are going to do work on the job. It does other stuff besides that too—insurance requirements for the project, all the nitty gritty. Sometimes it even gets into scheduling. But really, when we’re talking about the written contracts on these projects, it’s primarily a risk shifting mechanism.

Kathy (host):
Yeah, and let’s talk about these two specific ones, the general contractor and the subcontractors. Because I want to go deeper into these. For the general contractor, what would be some of the things that a contractor should really be incorporating in the business as they’re thinking about how do I shift the risk?

Megan (guest):
For the general contractor, to shift the risk down to the subs, well, what they really should be thinking about is having robust indemnity language in the contract. That’s the number one sort of risk shifting mechanism that is inside these contracts, where it basically—the language can be as broad as requiring the subcontractors to fully defend and indemnify the general contractor, such that to the extent that a claim is made by the owner against the general contractor, if they have robust enough indemnity language in those subcontracts, then the general contractor should, in theory, not have to pay out of pocket any money at all, either defending the claim, settling the claim or paying out on the claim. So that’s the number one thing that general contractors should be looking at in terms of trying to shift that risk down to the subcontractors. The goal ultimately being we as the general contractor do not want to have to pay out a single penny in defending any claims that arise related to this work. The flip side of that coin, though, is that general contractors want to be careful in the indemnity language, because usually the duty to defend and indemnify go hand in hand. We almost say them like they’re one word, like, “Oh, duty to defend and indemnify.” Those are two distinct and separate duties, and they do have separate and distinct language that goes into the contract. From a general contractor’s standpoint, while they want to have robust indemnity language that’s shifting as much indemnity to the subcontractors as possible, when it comes to the Defense Language, they want to be making sure that they’re including clear language that allows them, as the general contractor, to continue to control the defense. That means that they get to choose the attorney who’s going to be defending the claims that the owner is bringing against them. It means that they will probably be paying the attorney that they’ve selected directly, but then they’ll be seeking reimbursement from the subcontractors. But if they rely too heavily on just having robust indemnity language, and they ignore the nuances of the duty to defend as well, then they might end up in a situation where a savvy subcontractor—like my clients, because I advise them to do this—they push back and say, “Okay, you gave us a duty to defend and indemnify. Now I want to control the defense,” which means the subcontractor can choose the attorney and can really make the decisions about how the case progresses. And that can be the difference between a case settling quickly or being wrapped up in litigation for many years. There are a lot of things that go on with the right and the ability to control the defense itself, in terms of strategy decisions that can be costly. So as a general contractor, you want to make sure that your contract has language that is preserving your ability to control the defense.

Kathy (host):
And you have mentioned indemnity a couple of times now. So you know, for people who are not lawyers and are not understanding that type of language, can you explain to us, in plain speak, what is indemnity, what it is and what does it actually do in the contract?

Megan (guest):
So indemnity is essentially—the easiest way to think about indemnity is, you have to pay me back for money I have to pay. That’s it’s really pretty much that simple. So by way of illustration, let’s say we have an owner who’s made a claim on a project against the general contractor, because that’s who they’re—that’s who they have a contract with. The general contractor would then bring a claim against the subcontractors because that’s who they have a contract with. So now we’ve got all key stakeholders that are parties to the contracts related to this project at the table.

Megan (guest):
Indemnity means that to the extent that the general contractor has to pay out the owner on a claim, so whether that’s through a settlement or through an ultimate judgment, if it goes all the way to trial or arbitration, but there’s some sort of decision that forces the general contractor to pay the owner some money—some damages money. Indemnity is then the general contractor’s right to go back to the subcontractors and say, “Now pay me back. Reimburse me 100%.” So indemnity is really sort of like you got to pay me back for money I have to spend. That’s kind of the quick and easy. It’s, of course, more nuanced than that, but that’s sort of the quick and easy way to kind of understand, and that’s why I said earlier, with robust indemnity language in the subcontracts that the general contractor is drafting, they want to make sure their goal is that they don’t have to pay out anything at the end of the day, so even if they have to front the money, that indemnity clause allows them to get reimbursed from the subcontractors for all the money that they had to spend defending the claim or settling it out.

Kathy (host):
Yeah, that makes sense, and that makes a real, real financial impact as well. Because it’s not coming out of your pocket as a general contractor—it’s coming out of the subcontractor’s pocket. So that can make a huge financial impact on you.

Megan (guest):
Yeah, absolutely. And it’s worth mentioning that in some cases, the actual damages that are being alleged by the owner pale in comparison to the amount that is actually spent on attorney fees. And so that’s why that duty to defend is equally important, because you want to be the one that gets to decide what the attorney is doing and how the attorney is handling the case, because that’s where the money can really add up very quickly.

Megan (guest):
And if you’re the general contractor and you’re having to front that money on the front end, knowing you’re going to get it back from the subcontractors later, but from a cash flow management standpoint, that’s a consideration that you need to be aware of, so that you can plan for that in your financial planning and your budgeting for the year, especially if you have—if you have a project that you know is probably going to end up in a claim down the line. Because, let’s be honest, we all know the projects that are more likely to end up in claims when they’re going on. So if you have an inkling that this project might end up with a claim, you can sort of start planning ahead as a general to say, “All right, we know we’re going to have to front the defense costs in this thing, so we need to set aside a bucket of money for that so that we don’t end up running into cash flow management issues later.”

Kathy (host):
And is there anything in the contract that you can have if a situation arises, that you can manage that money up front that you need to be putting up to defend yourself? Is there any way possible to manage that in terms of how much you’re putting out there?

Megan (guest):
Yeah, you can try in your subcontracts to have the language in that duty to defend provision in the contract. You can try to include language that essentially says, even though we as the general contractor are reserving the right to control the defense, we expect the subcontractors to pay a pro rata allocation of the defense fees as they are incurred. And so that’s not common language that I ever have seen. Actually, I don’t think I’ve ever seen it, but it’s something that a general contractor could try and then what would happen in that case is they’d still get to control the defense. They’d get to hire the attorney, but when the attorney’s bill comes in, the general contractor can go back to the subs that are implicated in the claim and say, “All right, the bill, let’s keep the math simple. This month’s bill from the attorney is $1,000—there are three of you, so each one of you needs to pay to the attorney directly your 1/3 share of $1,000 and the bill is due in 30 days. Send proof to me that you’ve remitted payment,” and if the subcontractors didn’t do that, they would technically be in breach of contract. And so the general contractor would then have remedies against the subcontractors for breach of contract.

Kathy (host):
And what would those remedies look like? Let’s talk about that a little bit. If there is a breach of contract, what are your options there?

Megan (guest):
So if we’re again, we’re talking about subcontractors who are breaching a general—breaching their subcontract with the general contractor. The remedies are typically going to be outlined in the contract, so it depends on what the breach is, what remedies are going to be triggered in the contract. There’s been, what I would say is a rising trend, an increase in subcontracts and prime contracts that are eliminating on both sides what we call consequential damages. And what that means is we’re going to be limited to damages that are directly related to whatever the breach was itself, and we’re going to cap it there. We’re not going to allow that sort of ripple effect of damages. So like, for example, you breached in this particular way which caused the next thing to happen and the next thing to happen, and that sort of domino effect of adding on damages. There’s been a rise as a trend that I’ve seen in limiting consequential damages. So we are going to be limited to the realm of damages that are directly related to and arise out of whatever the breach is. So that’s really the best answer that I can give, because the damages themselves, the categories and the numbers are going to be dependent directly on what the breach by the subcontractor was.

Kathy (host):
So and as I’m thinking about this, let’s say that you had hired a subcontractor plumber, and because they have done something wrong, the plumbing was done wrong, and there was a water leak issue. So the water leak could have, like mold remediation and all of that. It could be a huge, huge trickle down effect. The only thing that you would then be limited to as a subcontract would be, maybe the mold remediation and actually pulling out the bathtub, or whatever it is that was an issue, but not doing all the drywall and all the other things that happened, or how would that look like?

Megan (guest):
So this may be, and I don’t know the answer to this, because for your listeners, I’m only licensed to practice law in California, so this may be state specific, but in California, that would be handled through—if it’s if it’s a new home tract build, for example, it would be handled under our right to repair act SB 800 is what it’s called. But even if it’s a renovation, or remodel or something like that, once it got into litigation, normally what happens is the owner is going to hire experts immediately to evaluate and assess the damages and try to determine the cause of those damages. Once they’ve done that, that expert witness that they’ve hired is going to do an allocation of those damages to the trades that are potentially impacted, or how to roll. So with your example, the homeowner’s expert is going to say, “All right, we’ve identified a plumbing leak, so clearly the plumber is going to be on the hook. There are all of these other damages that may be a direct result of the water leak.” Maybe the mold remediation is part of that. In California, we don’t take mold claims very seriously, so we don’t often give money for that. But in other states, I know they still do, so the expert witness would be the one that would sort of come up with whatever that allocation is, and that allocation is usually based off of the expert’s opinion about the percentage of fault of the overall damages allocated amongst the trades who may have had a contribution or participation in whatever caused the damage to happen in the first place. And then that becomes a subject of negotiation in mediation, and if it ultimately doesn’t resolve in mediation and goes to trial, then we ask the finder of fact, whether that’s the judge or the jury, to take the competing expert opinions and decide what they think is right.

Kathy (host):
And let’s go back into as you have called it, the prime contract, the contract between the contractor and the general contractor and the homeowner. What are some of the other issues that you have seen in the contract that can really hurt the general contractor if they don’t have it written in the contract with their owner?

Megan (guest):
So one area that is really fraught with potential for missteps and claims down the road that go against the general contractor is actually the insurance requirements, and that can manifest in a couple of different ways. If it’s a project that is going to be under what we call an owner controlled insurance policy, or a contractor controlled insurance policy, an OCIP, or a CCIP, or some people call it a wrap policy, then there are specific guidelines and things that not only the general has to do, but that the general has to make sure that its subs are doing, to make sure that they’re enrolled in this particular private insurance policy. And that can be really very specific, and if they don’t follow it to the letter, then there could be real problems down the line where that private insurance doesn’t—I’m calling it private insurance. That’s not accurate. But for ease of understanding for this conversation, we’re going to call it quote-unquote “private insurance.” I don’t want any of your insurance listeners to be like “Megan, what are you talking about?” Sorry, Rocio, if you hear this. So the private insurance, they could deny—they could start denying claims for things like that, for defects in the general contractor making sure that the subcontractors were enrolled properly. So that’s one area that can be pretty risky. If it’s not subject to what I’m again calling sort of, quote-unquote “private insurance,” if it’s subject to a standard general liability policy, then oftentimes what I see happening is owners are having really onerous insurance requirements that general contractors sometimes can’t even qualify for, and they might not be able to qualify for them because of things like, carriers aren’t offering those types of endorsements anymore because there were so many claims, and now the carriers just don’t sell them. But for whatever reason, maybe it’s a relic language in an old prime that just got recycled for this project, and nobody pointed it out before. Whatever the reason is, we’ve got insurance requirements in the prime contract that the GC has to meet that they can’t meet. So when they take that contract to their broker, hopefully that’s what they’re doing. That’s what you should be doing as a general contractor. You should be taking these prime contracts to your insurance broker to make sure that your broker is aware of the insurance requirements in the contract so they can tell you whether or not what I’m talking about is going to be a problem, but I know not all general contractors do that. Some of them don’t talk to their broker at this stage, so they might be agreeing to contracts that have insurance requirements that they will never be able to satisfy. So not only is that going to be a problem for having coverage if a claim does arise, but technically they’re starting out in breach of contract out of the gate, because the insurance requirements are part of the contract, and if you’re not meeting that part of the contract, you’re in breach. So insurance is one of the ways where I see a lot of general contractors get into a lot of trouble, particularly, like I said, if they’re not looping their broker into the conversation during the contract negotiation phase to make sure that they can even qualify for the insurance requirements that they need to have.

Kathy (host):
So will you—and this is interesting—would you have to loop in your broker for every single contract that you have, or is it just specific contracts that you think that might be problematic, or maybe they’re over a certain threshold or revenue, or should it be every single one across the board?

Megan (guest):
So I want to clarify. You don’t have to—it’s what I would call a best practice, right? From a risk management standpoint, I would say that it is advisable, again, I would advise that you at least send the contract that you’re negotiating to your broker, every single one of them, to just make sure you’re not going to have any problems qualifying for the insurance that’s required within them. Most brokers, at least in California, don’t charge for that, so there’s no downside. It’s just like, “Hey, I’m bidding this project. Can you take a quick look at the insurance requirements and make sure we’re okay, good to go?”

Megan (guest):
If it’s that sort of, what I was calling private insurance, that wrap/OCIP/CCIP, that sort of owner-controlled or contractor-controlled insurance policy, that’s a little bit of a different animal. That’s really going to be within the purview of either the owner, if it’s an owner-controlled insurance policy, or the GC itself, if it’s a contractor-controlled insurance policy. And so that’s a bit of a different animal. I don’t know if I’ve got clear guidelines on what I would recommend general contractors do if your project that you’re bidding in the contract is subject to one of those types of policies. I would suggest that it would probably be a good idea to have an initial conversation with your broker and get their thoughts and feedback on how best to proceed. They’re going to be much better qualified to answer that question than I can.

Kathy (host):
What do you do in a case where you have not followed that best practice? Now you know about it. Now you know better. But if you have existing projects already that you did not go through that process, is there anything that you can do to be more compliant right now? And if, in case that it does become a problem, what could you do?

Megan (guest):
I have no idea. That is definitely a question for your broker. This is why I love having really good working relationships with my clients’ insurance brokers. Because if I were the attorney representing a client who called me and said, “I just realized I’m under-insured on this project and I don’t know what to do,” I would just probably call their broker myself and say, “This is what just happened. What do we need to do to remedy this?”

Megan (guest):
I would suspect that there may be additional supplemental or excess policies that the broker could maybe secure related to the project specifically, but I really don’t know—that’s super into the specifics of insurance, which is—I’m conversant enough in insurance to be able to advise my clients on it. I love suing insurance carriers for denying claims against my clients, but that’s really getting into some sort of nuanced insurance strategy that a broker is definitely going to be better able to answer.

Kathy (host):
And that’s a great answer, Megan, so if our listeners—if you’re one of those right now, just go ahead and talk to your broker and let’s see what can be done.

Megan (guest):
Yeah, absolutely. And there are brokers who are specific brokers for construction companies. They either exclusively work with construction companies or primarily work with construction companies, and so they know the nuances and the ins and outs of the insurance that goes along with big projects like this. If your broker is not one of those brokers, and you’re interested in finding a broker who is, feel free to send me a DM. I’ve got great relationships with many insurance brokers who can sell, who do can and do sell insurance all across the country, not just in California, but it is vitally important that you have a knowledgeable broker, and certainly, if your broker is not going to just answer that quick question or give you a quick contract review and make sure—give you the “okay” stamp of approval that you are going to be covered on the insurance requirements, it’s time for a new broker, because I promise you, there are many knowledgeable and competent construction-specific brokers out there who do that for their clients all day long. And so if you’ve got one that’s unwilling to do that, it’s time to move on.

Kathy (host):
That’s a great advice right there. Yeah, and as you were talking about this, you were you also mentioned that you worked with clients where they get their claims denied by the insurance. So what are some of the things that you have seen the most common game that insurance carriers like to play?

Megan (guest):
And yes, I chose that language very intentionally, because they insurance companies are all about algorithms, right? They’re always adjusting claims, and they’re all about odds, and so a lot of them will deny claims out of the gate to just see who pushes back. So one of those common denials that I see, especially on the subcontractor side, so a subcontractor has been has received a claim from a general contractor, usually because the owner brought the claim against the general like I talked about earlier, that sort of three party part of this. So the subcontractor has received the claim. They’ve been brought into the claim resolution process, whatever that is, whether it’s litigation arbitration, and now they’ve tendered that claim to their insurance, because that’s what their insurance is for. The most common game that I see the insurance carrier play is denying the claim because there’s no allegation of what they call resultant damage. So let me give you an example to illustrate the point. If you have a tile subcontractor, let’s say that there are claims that it’s a new build and so there are claims on every single building code, because that’s what they do out in California. They just make a claim against everything, even if it’s not valid, and they let the defense side of it sorted out. So let’s say that they’ve made a claim about absolutely everything. You’re the tile subcontractor. They’re now saying the tile was improperly installed. Perhaps they’re saying you didn’t clean the slab so it didn’t adhere properly, and now it’s delaminating and popping, creating a trip hazard, whatever it is you now tender the claim. Your carrier could come back and say, “Cool, cool. But like this, policy is not designed to provide coverage for your bad work,” meaning you didn’t properly clean the slab. This policy is designed to pay for damages that your bad work causes to other work. So in the case of tile, if you can’t show that the improper installation of the tile then also caused damage to some other part of the project that was not the tile subcontractor’s scope of work, then they’re going to deny the claim. In that particular case, this is based on a real-life example. What I argued in that case was the repair required the tile to be removed, which required the baseboards to be removed and replaced, and we were not responsible for the baseboards, and that was how I got around that. But that’s kind of a common one that they’ll try out of the gate of like, well, let’s see if anybody pushes back, because unfortunately, a lot of construction companies, whether they’re subcontractors or GCs, they don’t realize that they have the power to fight back when they get a claim denial, and if they are unfortunate enough to have a broker who is maybe not quite as invested in their success as a company, their broker might not be telling them, “Hey, you should talk to an attorney. We should be pushing back on this.” That’s why I love the brokers that I work with and that my clients work with, because they will not hesitate to say, “Hey, subcontractor, this is a denial. There’s nothing I can do about x. I’m your broker, but you need to call Megan right now.” So it’s really important for construction companies of all kinds to be aware that if you do get a denial from an insurance company, you need to look closer, scratch the surface, dig a little bit deeper. It might be worth fighting back. The better carriers will back down very easily. As soon as you push back and say, “Now wait a minute, there’s clearly resultant damage. Here’s what it is.” Then they’ll say, “Okay, fine. We’ll accept the tender under a reservation of Rights. We’ll appoint an insurance defense of counsel to an insurance appointed defense attorney to defend the claims, and we’ll indemnify any settlement that gets paid out.” And they’ll back down very easily. Sometimes it’s not that easy, and it is a fight where you need to actually hire an attorney who knows how to do insurance bad faith.

Kathy (host):
Wow, that’s a lot, but what I’m hearing here is essentially, do not give up the first time if you hear no. So you got to keep on going. Also, again, bringing the back in the financial ramifications. It’s it’s worth hiring an attorney, especially if you have a huge claim against you and that’s gonna, that’s gonna significantly impact your financial performance.

Megan (guest):
Yep, absolutely. Wow.

Kathy (host):
So we’ve talked about general contractors. Let’s talk about the subcontractors. And the problem with the subcontractors is that when the general contractor gives them the contract that they’re dictating, all of the terms and the subcontractor feels like I have to take this if I want to get that particular job. What are some of the advice that you can give to subcontractor when it comes to negotiating terms with their general contractor.

Megan (guest):
The number one thing that I would tell subcontractors, if you take nothing else away from this podcast, and you are a subcontractor, know that everything is negotiable just because the GC says to you, this is a take it or leave a contract, I’ve got no power to negotiate. My attorney is that I can’t make any changes or red lines. That’s not true. You can always attempt to negotiate. If you try, they might say no, but they’re not going to just take away the opportunity. They’re gonna be like, well, you’re off, right? We’re rejecting you now. We’re done. You’re out of that. You’re off the project. That’s not gonna happen just because you attempted a red line. And so the only worst-case scenario is that your red lines get rejected, but it’s always worth trying. The other thing that I would say is, when you do that, when you do try it, there are ways that you can present those red lines as mutually beneficial to both sides. The problem with a lot of these subcontracts that GCs are passing down to subcontractors is that they were written by some attorney who doesn’t even work for the company, like 20 years ago, and nobody ever really looked at it again. And it’s maybe been changed a few times when some red lines made sense, and now it’s this, like hybrid Frankenstein’s monster of a contract that nobody has really looked at or paid attention to. And so there’s all. Always, almost shouldn’t say always, I’m an attorney. I know better. I shouldn’t speak in absolutes. But almost always, there’s going to be language in there that they don’t know is in there and that they don’t actually like either. Once you point it out to them and explain to them how it could negatively impact them as well, even as written. And so don’t be afraid to try those red lines, and just be intentional about thinking about how you present the proposed red lines to your counterpart at the GC, and always try to take the approach of explaining to them why it’s either beneficial for them or, at a minimum, why it’s not bad for them. Yes, it’s a change, but it’s not a change that’s going to ultimately negatively impact them, keeping in mind that, again, the general contractors’ number one goal in the subcontract itself is to shift as much risk to you as possible. So when you’re going back and negotiating those red lines that you’re pushing through, keep in mind that that’s their set, that their that’s their state of mind. And so when you’re doing your negotiation strategies for trying to push those through, remember what, where they are coming from, and how you present the red lines that you’re trying to push through.

Kathy (host):
Do you have any examples that you can give us where a sub had received a contract from a general contractor and they negotiated, and how they were able to negotiate in terms that were better, that were better terms for them, and that they presented it in a way that it’s actually beneficial to the GC, yeah. I

Megan (guest):
Mean, I have a lot of examples of that. That’s one of the things that I coach my clients on. Right when I’m talking about my private coaching clients, we literally go through key contractual provisions that are always areas that are ripe for potential red lines, and we talk about strategies that you can use to sort of push it through. Some of those are delay provisions. Some of those are liquidated damages clauses. Some of those are some changes, some key changes around the indemnity and duty to defend language that we talked about at the top of this, at this episode. So there are lots of areas where once you actually read the language itself that’s in the contract that you’ve received, it’s clear that either it’s unclear. And I know that sounded funny, but I’m going to say it again. It’s clear to you that the language is unclear, which means it’s probably unclear to the general contractor too. Indemnity clauses are a great example of this. They are so convoluted. They’re usually like 12 lines of text, and that’s one sentence with like, 45 commas in it, and it’s like you have to read it 63 times to even have a vague understanding of what it’s trying to say. A super easy red line that you can negotiate very easily with the general contractor is to go back and say, Okay. What do you think this says? And what do you want it to say? Okay, and then you can talk about it in plain language. And then you can just say, why don’t we just put the plain language in there? We’ve come to an agreement about what we both are fine with this saying, let’s take out all the legalese and the 43 commas and like, let’s just be plain about it. Subcontractor will indemnify general contractor for all claims related to and arising out of subcontractor scope of work on this project period. Let’s make it simple, right? Something like that. There would need to be some additional limiting language in there if you’re the subcontractor. But that’s, that’s sort of a shortcut example of of a way that you could kind of have that conversation with the general contractor to show them that like, this is not you doing, you attempting as a subcontractor, you attempting to negotiate red lines. Is not a battle. This is not you saying I’m going to war. It’s me versus you. The approach and the pitch is, this is us as a team, as a partnership, on this project, and it benefits everybody to have a more clear contract. It benefits everybody to have a contract that we all understand what it says and what everybody’s obligations are. Ambiguity leads to claims, leads to expense, and that’s not good for anybody. And that’s the pitch.

Kathy (host):
I love that. I love that very clear, very, very clear. I will go back into a couple of things that you mentioned. You have mentioned the late provision and something about Liquify. I did not catch that, and I would like to really define those terms for the listeners so that they’re aware of what they actually mean. Yeah.

Megan (guest):
So that was liquidated damages. So delays in liquidated damages sort of go hand in hand, which is why I said it so quickly. So usually what we’re talking about there is, there’s usually going to be provisions in the contract, particularly in the subcontract, although also probably in the prime. But they will be different. Usually that basically say, if you meaning the person who’s receiving the contract, so in the prime, the general in the subcontract, the subcontractor. If you are responsible for causing delays on this project, then the following things happen. So that’s a general outline of what a delay provision is. Liquidated damages go hand in hand with that, because oftentimes what we see is the liquidated damages are the remedy that go along with the delay. So what it looks like is. Is for each day that you cause the project to be delayed, you will be assessed liquidated damages in the amount of x7 $150 a million dollars. It depends on the size of the project and the scope of the subcontractors work. That’s what liquidated damages are, and that’s how liquidated damages show up as a clause, and it’s almost always tied to delay claims. There are a few very minor, very unusual exceptions to that where liquidated damages can show up in a construction contract as a remedy for some other type of breach, but usually it goes with delay claims.

Kathy (host):
Yep.

Megan (guest):
And is there anything that you can do as a subcontractor to minimize those, to minimize the imposition of liquidated damages or to minimize the delay claims, both actually to minimize the delay claims themselves. That’s more of like project management kind of kind of question, right? But what you can do from a contract standpoint is you can make sure that the language in the delay claim or the delay clause itself within the subcontract is as favorable to you as possible. For example, you can try to negotiate things like grace periods, or if it’s going to be a multi phase project, for example, maybe you can negotiate credits that you can offset. So if you finish early on phase one, then maybe you get, you know, some credits that you can then use to offset a delay in Phase four, for example. So there are ways that you can kind of negotiate the language around the delay claim itself, as for the imposition of liquidated damages. Same thing. It’s really all about negotiating the language in that particular provision in the contract to make sure that the number like the actual penalty amount. I’m calling it a penalty because I think it’s a penalty, but legally it’s not considered a penalty. I just want to be very clear, if it’s $750 $150 you want to make sure you can afford that, right? If it’s a million dollars per day, and you’re a tiny little subcontractor, that should be a non starter, and you should never sign this contract, right? But you can do things like that. You can negotiate around around that. You can also do things like attempt to negotiate a cap on liquidated damages. Maybe that cap is a percentage of your profit on the project. So let’s say if you were so if the value of the contract is a million dollars, then you maybe could have language in there that says liquidated damages shall not exceed $750,000 so that way, at least you’re not upside down. Because I have seen cases where subcontractors were assessed so many liquidated damages that it exceeded the amount that they even made on the project to begin.

Kathy (host):
Wow, yeah, yeah, that that can, that can ruin a business right there?

Megan (guest):
Yeah, I’ve had it happen, yeah, literally had it happen.

Kathy (host):
So in, in case where you have seen that this poorly managed contract caused the major issue, what they could have done differently? Did they not have a lawyer? Did they not have a broker to work with them? Like, what? What happened? What was that breakdown? Did they just not see that particular clause, like, what could have have done differently that they didn’t have done?

Megan (guest):
I’m going to talk in generalities and not specifics to that particular example that I was talking about for attorney client privilege reasons. But I think when you are talking about something as catastrophic as that, where, like, your liquidated damages exceed the amount that you were paid on the contract, and now you’re literally, like, Shut it, shutting the doors to your business, that’s a result of, like 100,000 things that went wrong. Right? It usually starts with like they didn’t read the contract before they signed it. The number of subcontractors who don’t read those contracts before they sign them because they falsely believe it’s Take it or leave it and they just need to get money in the door I get, I would venture to guess that many subcontractors that have gone out of business have gone out of business because they didn’t read their contracts. So it probably started there. So they probably had no idea that if they were going to, if they were not going to be able to perform or meet the schedule, that this could be the doubt, that this could be the potential ramification. They usually seem surprised when you talk to them about it. They usually seem surprised to learn that, like, Oh, you’re getting liquidity damages per day of $750,000 they’re like, wait, what? I’m like, it’s in the contract you signed, right? So usually that’s where it starts. They didn’t read the contract, or they read it but felt like they couldn’t negotiate it, or they read it, tried to negotiate it and failed, or they read it and knew how dangerous it was, but believed that they would not, that it wouldn’t be a problem for them, that they’d be able to perform, and then something unexpected happened, like a pandemic or a labor shortage or supply chain issues are a huge one these days, right? So it’s usually the result of a lot of different things along the way, some of which were in their control, like reading the contract before they signed it, and some of which are out of their control, like supply chain and labor shortage issues, and so it’s really, it’s just a matter of really, truly owning your contract from the very beginning and making sure that the person on the project who is responsible for owning that contract, usually it’s the project manager, but I know every construction company is different, but usually it’s the pm really knows that contract inside and out. And so as soon as it looks like because, you know, you know when supply chain issues are coming down the pike. You know when labor shortage issues are starting to be a problem, you can see these things coming a little bit in advance, not, you know, not years in advance, usually, but you can start to see when these things are getting date, you’re getting into the red zone of danger, and the project manager needs to be immediately going into that contract and figuring out what their best options are based on the language in the contract that they agree to. That might mean talking to an attorney at that point. It might mean investing that money on the front end to ultimately create a strategy that hopefully saves the company in the long run, but at a bare minimum, the project manager, or whoever owns the contract needs to be starting to leverage that contract and starting to figure out what are our options here based on the contract that we actually signed.

Kathy (host):
And you pointed out two really good things with the supply chain issues and the labor shortage issues. So the supply chain issues were real, real problem during COVID and labor shortages. You’re there still an issue right now. What can you do in the contract, if anything, to minimize that risk to yourself?

Megan (guest):
I have yet to come up with or see a great way to minimize the risk of labor shortage problems that really is truly like kind of just a risk the subcontractors have to bear, and they just kind of have to figure it out. I don’t have a good answer for that. One, supply chain issues, which are still a very big problem, particularly with some trades like steel, is still a problem. A lot of component parts, and especially in mechanical are big problem, they’ve got like, 365 day lead times. It’s crazy. And so for supply chain issues that can be helped handled in the contract ahead of time, and it just, it’s as simple as including supply chain issues in the force majeure clause, for example. Or if there is no force majeure clause, then adding a specific clause, a standalone clause in the contract itself that says something along the lines of, I would probably do it somewhere near the delay claim provision, but I would, I would have language that says something along the lines of, issues related to or delays that are caused by supply chain issues will be considered to be no fault of either party to this contract and will not result in the imposition of liquidated damages or something like that?

Kathy (host):
Yep. And this is going to be a, probably a tough question to answer, but let’s say that you’re a subcontractor who didn’t really read the contract well, and now you’re stuck with a bad, bad contract. Is there anything that you can do. Oh, boy, that’s what I said. This is probably going to be a tough one. Yeah, there’s nothing you can do. You could just say, you know, there’s nothing that’s going to just be a lesson for next time.

Megan (guest):
Yeah, I mean, again, as I said earlier, I’m an attorney, so I don’t like speaking in absolutes, so it like pains my soul to be like, Nope, there’s nothing you can do. So I’m hard pressed to say there’s nothing you can do, but I’m also struggling to think of anything you can do. I would say the best option would be that as soon as you realize you’ve screwed up and you’ve entered into a really bad contract, immediately dig in and start give it to that project manager, to take ownership of that contract and know it inside it out, so that way you can start to anticipate where the issues are going to arise, when they’re going to happen, and you can, ahead of time, have a game plan and a strategy for how you’re going to deal with the issues that are going to impact you as a result of this bad contract. But that’s probably the best you’re going to be able to do for a contract you’ve already signed.

Kathy (host):
Yeah, so Megan, we talked a lot about these contracts, and there’s so much complexity in there. And if someone is listening to this podcast and saying, oh my goodness, I don’t even know where to start. I don’t even know if I have a problem to begin with, what tip would you give them, something actionable that they can do in the next week or two to get them closer to contracts that are favorable to them, whether they’re a general contractor or a subcontractor?

Megan (guest):
I would say the cheapest, easiest, fastest thing that they can do is pick a project, either one that’s ongoing right now, or one that they’re in the process of bidding, and read the contract, the whole thing from beginning to end. Now, if you’re the general, read the prime. If you’re the subcontractor, start with the subcontract, but don’t stop there, because your subcontract is almost always going to incorporate, by reference, the prime, which means you’re bound to all the terms in the prime too. So you got to read the prime also. So that means you got more reading to do subcontractors. I know. I know you’re going to be like you’re probably going to be reading between 50 and 75 pages. I know. I know what I’m saying is not easy, but it is the cheapest way for you to do this on your own without hiring somebody like me. Right? Read it line by line. I mean literally line by line. Be the entire thing, and do your best to understand every single thing that it is talking about in there. Make notes, make highlights, make annotations, make cheat sheets for yourself. And really go through it and ask yourself, Okay, what does this mean for me? Like, what obligation do I have as a result of this particular paragraph? You may not have an obligation in every paragraph, but if you’re the subcontractor, you’re gonna have an obligation in most of those paragraphs. Most of those paragraphs. So what’s my obligation in this paragraph? Make a note in the margin if it’s something that’s really sort of these, what I call red flag key contractual provisions. There are about eight of them. If it’s one of those, it’s really going to be a little bit more nuanced. Of like, Okay, I know what my obligation is as a result of this particular provision. And then, now, what’s the debt? Like, what’s the hammer? And then what do I do? Like, notice provisions are great for for this example, like, if you’ve got notice provisions in their specific requirements, around when you have to give notice to the GC, or when the GC has to give notice to you. For like, a notice secure, for example, make put that on a post it, so you know exactly what those deadlines are. Notice to your deadlines are notoriously tiny and short, right? It’s like, especially if you’re unfortunate enough to receive a contract that has them in hours instead of days. So you could get a 48 hour notice to cure and you have a douchey GC on the other side that doesn’t send it to you until 7pm on Friday night, and by the time you even open your inbox on Monday morning, your 48 hours is up. You want to know that so that needs to be on a post it somewhere, like right there on the top of the contract. Go through the contract, pick it apart, pull it apart, and try to educate yourself just on your own, reading it of like, what are my obligations under? Every single phrase of every single provision of this contract? That’s the best way to start. The more you read contracts, the more comfortable you get with them, the more you start to recognize common phrases in common language, and the more you start to really sort of get a handle for even when it’s phrased differently, what it means and what you want to be pushing back on.

Kathy (host):
That’s a great advice. Megan, thank you for that. If our listeners want to find you, where can they find you?

Megan (guest):
So I post on LinkedIn every day. You can find me at Construction Contract Coach on LinkedIn. I’m also on YouTube at the same Construction Contract Coach, Facebook, Construction Contract Coach, Instagram, Construction Contract Coach. Tiktok is a little bit different. I am Construction Attorney on TikTok, and you can find me on my website, which is meganshapiro.com.

Kathy (host):
And we’re going to put all of those links in the show notes. So pick your favorite social media and find Megan in there. Thank you so much, Megan.

Megan (guest):
Thank you.