United States: Recent Virginia Supreme Court Decision Makes Waiver Of Home Office Overhead Claims Unenforceable In Public Construction Contracts

An April 17, 2009, Virginia Supreme Court decision, Martin Bros. Contractors, Inc. v. Virginia Military Institute,¹ makes waiver of home office overhead claims unenforceable in public construction contracts subject to the Virginia Public Procurement Act ("VPPA").² Following Martin Bros., public bodies wishing to impose limits on home office overhead claims for delays in construction projects will be better served either by (1) relying upon a clear specification of reasonable liquidated damages for a construction contractor's compensable delay damages, or (2) procuring the project under the Public-Private Education Facilities and Infrastructure Act ("PPEA"),³ which should not be subject to the limitations imposed by Martin Bros.

I. Background

The recovery by contractors on construction projects of damages for delay has long been a contentious issue, and claims for home office overhead have triggered particularly heated debate. This is because delay damage claims can be among the largest construction claims made on a project; often appear to be based on more subjective than objective support; and may include some elements of damage, such as alleged unabsorbed home office overhead, that are based upon a formulaic approach rather than a clear demonstration of actual loss.

As a result, some project owners have resorted to what are known as no-damage-for-delay clauses to avoid the threat of huge delay-damage claims by contractors. Such clauses, which a majority of states recognize as permissible in private construction contracts, essentially purport to preclude the contractor from recovery of damages for delay, even if the delay is caused by the project owner.⁴ Also, the construction industry recognized that huge claims by contractors and owners for questionable categories of damages were becoming too prevalent and injurious to the industry. As a result, the American Institute of Architects' ("AIA") 1997 documents incorporated a new waiver of consequential-damages clause that contained mutual waivers of certain kinds of damage claims that were becoming detrimental to the construction industry, including claims for home office overhead. These mutual waivers were originally contained in the AIA's AIA A201-1997, General Conditions document,⁵ later in the AIA's 2004 design-build documents,⁶ and still later in the AIA's 2007 revision to its documents, particularly in the AIA A201-2007.⁷ Waiver of home office overhead claims arguably is the industry custom in construction contracts today.
In 1992, the Virginia General Assembly, at the behest of some of the contracting community, enacted a significant restriction on the ability of Virginia public bodies to limit damages recoverable by a construction contractor for delay. This enactment added a section to the Virginia Public Procurement Act that makes any public construction contract provision that purports to waive, extinguish, or release the rights of a contractor to compensation for unreasonable owner delay, void as against public policy. This section allows only limited restrictions on construction contractor delay damages claims against public bodies. The section, Va. Code §2.2-4335, provides in part as follows:

The restrictions under 2.2-4335 on limitations public bodies may make on contractors' delay damage claims are extremely broadly worded. In 2003, the Virginia Supreme Court construed 2.2-4335 in Blake Construction Co. v. Upper Occoquan Sewage Authority⁸ and gave the statute's language its full, broad, literal effect in striking down a public body's various attempts to limit a contractor's claims for delay damages.

Neither the statute's language nor the Blake opinion specifically addresses the issue of a contractor's potential ability to recover home office overhead for delay, despite a specific contractual clause waiving home office overhead claims. However, Martin Bros. appears to put this issue to rest. Waivers of home office overhead, even though now arguably the industry standard and contained in the AIA documents, cannot be enforced by a Virginia public body in a construction contract procured pursuant to the Virginia Public Procurement Act.

II. Martin Bros.

In Martin Bros., a general contractor performing a construction contract for the Virginia Military Institute ("VMI") was delayed by 270 days by VMI. The contractor, Martin Brothers, claimed some $430,243 as delay damages, but VMI paid only $99,646 because of limitations in the parties' contract. The contractor sued for the difference. VMI relied upon a provision in its general conditions that (1) limited delay damages to certain site direct overhead expenses, such as the site superintendent's pro rata salary, temporary trailer expenses, and temporary utilities; (2) specifically excluded home office expenses; and (3) excluded field office expenses that were not specifically allowed.⁹ VMI also relied upon the agreed percentage mark-up allowed the contractor and subcontractors on changes, arguing that the clauses allowing the mark-ups were, in essence, liquidated-damages clauses expressly permitted by Va. Code §2.2-4335(B)(3).¹⁰ The circuit court agreed and granted VMI summary judgment. The Virginia Supreme Court disagreed and reversed.

The Virginia Supreme Court found that the clause allowing agreed percentage mark-ups on changes provided "no compensation whatever for extra expense incurred by the contractor purely as a result of delay."¹¹ The Supreme Court held that "these clauses allowing markups on changes" are not an agreed formula for the calculation of damages for delay and, therefore are not liquidated damage provisions contemplated by Code §2.2-4335(B)(3)."¹² The Supreme Court thus found that "[t]he contract provisions operate as an absolute bar to most of the delay expenses incurred by Martin and, therefore, are void and unenforceable as against public policy by virtue of Va. Code §2.2-4335(B)(3)."¹³

III. Implications of Martin Bros.

The clauses at issue in Martin Bros. primarily barred home office overhead expenses, which are a type of damage for delay. Under Martin Bros. then, any waiver by a contractor of home office overhead expenses in a construction contract entered into under the Virginia Public Procurement Act would appear to be void. This would appear to include the now industry-standard waiver of home office overhead contained in AIA documents since 1997.

Following Martin Bros., the primary contractual mechanism available to Virginia public bodies to protect themselves against inflated home office overhead claims at the contract formation stage of a VPPA project is to expressly provide for liquidated damages payable to the contractor for the delay. Such a provision should expressly state that it is providing liquidated damages for the contractor's and its subcontractors' delays that are in lieu of any and all contractor and subcontractor actual damages for delay. The amount specified as liquidated damages may still be subject to challenge as against public policy if it bears no reasonable relationship whatsoever to reasonably anticipated damages.¹⁴ For example, liquidated damages at $1 per day on a $100 million project would appear hard to justify. However, the public body may be able to protect itself against a challenge as to the reasonableness of the stipulated liquidated damages by including a waiver by the contractor of the right to make such a challenge. The Virginia Supreme Court has recognized the effectiveness of a contractual waiver to challenge liquidated damages,¹⁵ albeit not in the context of a public contract entered into using competitive sealed bidding. Also, advance use of a plausible methodology to arrive at liquidated damages would help to sustain their reasonableness. For example, a technique used by some Virginia public bodies to liquidate a contractor's delay damages is to use the contractor's original general conditions costs and divide them by the original number of days scheduled for the project's duration to yield a per diem number. This per diem number becomes the liquidated damages payable to contractor for each day of owner-caused delay. This technique appears to provide a reasonable liquidated damage amount for delay. However, the public body would need to obtain the contractor's general conditions amount as part of the bid process to use this technique or else make its own estimate, perhaps aided by its architect or engineer, as to what the general conditions costs reasonably might expected to be for the project.

Further, Martin Bros. and Va. Code §2.2-4335 do not appear to apply to procurements done by Virginia public bodies under the PPEA. That is because (1) the Virginia General Assembly expressly exempted procurements under the PPEA from most provisions of the VPPA;¹⁶ (2) §2.2-4335 is one of the provisions of the VPPA that is not made applicable to the PPEA;¹⁷ (3) the PPEA was enacted after the VPPA and §2.2-4335;¹⁸ and (4) §2.2-4335 applies to a "public construction contract" whereas, under the PPEA, the parties enter into a "comprehensive agreement."¹⁹

Even after Martin Bros., just because a contractor suffers owner-caused delay and there is no liquidated-damages clause for damages for such delay, does not mean the owner is responsible to pay the contractor for the home office overhead expenses claimed. Although the Virginia Supreme Court has recognized that home office overhead can be a recoverable damage,²⁰ in recent years, a number of federal sector cases have limited the circumstances when it can be recovered.²¹ Since the federal sector was among the first jurisdictions to recognize home office overhead claims in construction cases, such as in Eichleay,²² the more recent federal cases should have some persuasive effect. Even if not determinative as a matter of law, their rationales may inform expert witnesses. Further, as construction industry experts have shown, a number of different methods exist for calculating home office overhead that yield surprisingly different results. Finally, the contractor ultimately bears the burden of proof to a reasonable degree of certainty as to a home office overhead claim.²³

IV. Conclusion

After Martin Bros., Virginia public entities can no longer rely on waivers, such as those in the AIA documents, to protect themselves from inflated home office overhead claims. Instead, at the contract formation stage, resort must be made to a liquidated-damages clause for contractor damages payable because of owner-caused delay, or to procurement under the PPEA. At the contract administration stage, home office overhead claims remain subject to a number of challenges.

Footnotes

^{1.Record No. 081403 (Va. Sup. Ct. Apr. 17, 2009) (slip op.)}

^{2.Va. Code §§2.2-4300, et seq.}

^{3.Va. Code §§56-575.1, et seq.}

^{4.See, e.g., M. Bruner, Annot. "Validity and Construction of 'No Damage' Clause with Respect to Delay in Building or Construction Contract," 74 A.L.R. 3d 187 (1976).}

^{5.AIA Document A201-1997, §4.3.10.}

^{6.AIA Document A141-2004, Exhibit A, §A.4.1.10.}

^{7.AIA Document A201-2007 §15.1.6.}

^{8.266 Va. 564, 587 S.E.2d 711 (2003).}

^{9.Martin Bros., supra.}

^{10.Martin Bros., supra.}

^{11.Id., slip op. at 7.}

^12.Id.

^13.Id.

^{14.See, e.g., Brooks v. Bankson, 248 Va. 197, 208, 445 S.E.2d 473,479 (1994).}

^{15.See Gordonsville Energy, L.P. v. Virginia Elec. & Power Co., 257 Va. 344, 512 S.E.2d 811 (1999).}

^{16.Va. Code §56-575.16.}

^{17.Va. Code §56-575.16.}

^{18.2002 for the PPEA versus 1982 for the VPPA and 1992 for the amendment to the VPPA adding 2.2-4335.}

^{19.Compare Va. Code § 2.2-4335A with Va. Code §56-575.9.}

^{20.Fairfax County Redevelopment and Hous. Auth. v. Worcester Bros. Co., 257 Va. 382, 514 S.E.2d 147 (1999).}

^{21.See, e.g., Charles G. Williams Constr., Inc. v. White, 326 F.3d 1376 (Fed. Cir. 2003); P.J. Dick Inc. v. Principi, 324 F.3d 1364 (Fed. Cir. 2003); Sergent Mech. Sys. Inc. v. United States, 54 Fed. Cl. 47 (2002).}

^{22.Eichleay Corp., ASBCA No. 5183, 60-2 BCA ¶6688, aff'd. on reconsideration, 61-1 BCA ¶2904.}

^{23.E.g., Sunrise Continuing Care, LLC v. Wright, 277 Va. 148, 671 S.E. 2d 132 (2009).}

This article is presented for informational purposes only and is not intended to constitute legal advice.