Most transactions have some sort of cost associated with them. The bank charges $2 to use its ATM. Your financial advisor charges his fee to execute your stock trade. Your lender charges interest for the immediate use of its capital to fund your project.
When it comes to breach of warranty claims, those transaction costs often appear in the form of attorney’s fees, and they can frequently be the tail that wags the dog. Texas has strict limitations on when attorney’s fees are recoverable. Generally speaking, they are only recoverable when specifically allowed by statute or if the claim falls into one of eight defined categories:
1) rendered services;
2) performed labor;
3) furnished material;
4) freight or express overcharges;
5) lost or damaged freight or express;
6) killed or injured stock;
7) a sworn account
8) an oral or written contract
Noticeably missing from this list is breach of warranty. "Are you telling me," you ask, "that if I have to file a lawsuit because the widgets I bought and installed into the Taj Mahal II failed, and I WIN, I’m still going to be out my attorney’s fees???" Maybe, but you’re in a better position than you would have been a year ago.
Attorney’s fees have typically been non-recoverable in breach of warranty claims, so lawyers got creative to find other bases to receive them. One of the more common ways has been to bring claims based on consumer protection statutes (most notably, the Deceptive Trade Practices Act, or "DTPA"). The DTPA, which includes breaches of warranty within its scope, does allow for recovery of attorney’s fees.
Not every would-be plaintiff, however, qualifies for the protections created by the DTPA. For example, businesses with assets greater than $25 million are excluded. Does that mean that larger companies cannot recover their attorney’s fees while smaller companies can, even under the same facts? Until recently, that was probably the case.
Earlier this year, the Texas Supreme Court shook things up with the Medical City Dallas, Ltd. v. Carlisle Corporation case. 251 S.W.3d 55 (Tex. 2008). The court ruled that attorney’s fees are recoverable for claims of breach of an express warranty. The reasoning behind this decision was that breaches of express warranties sound in contract, and attorney’s fees are recoverable for a breach of contract. The court did not address whether attorney’s fees were recoverable for breach of implied warranties.
What does all this mean for you? First, it means that your transaction costs for bringing a claim for breach of warranty may have just gone down. But it also means that best practices dictate that you get that warranty written down. The law is still fuzzy on whether attorneys’ fees are recoverable for implied warranties, so make sure the warranty you get is express.
Thursday, September 25, 2008
Friday, September 19, 2008
The Birth of a Contract
The construction industry is driven, to a large degree, by contracts (just consider the name "contractor"). The AIA has its standard forms, and many companies have their own models that they prefer to use. But when is a contract formally created? Does it happen with a handshake? What about when forms get faxed back and forth, with each new round creating new modifications to the terms?
Generally speaking, a valid contract is formed when an offer is made, it is accepted, and there is a meeting of the minds. There is no acceptance when there is an attempt to change or qualify the terms of the offer. If there is such an attempt, the offer is rejected. A purported acceptance that adds conditions not contained in the offer is not actually an acceptance–it is a rejection of the offer. Additionally, a qualified or conditional response to an offer does not create a contract because there is no meeting of the minds. This is actually a counter-offer.
A counter-offer must be accepted by the party who made the original offer to constitute a contract. An acceptance takes effect only when the acceptance is communicated to the offeror. When an offeror/counter-offeror does not specify the manner of acceptance, the offeror impliedly authorizes acceptance by the same manner used to present the offer.
Meeting of the minds, or mutual assent, is the essence of a contract, and it is judged objectively on the basis of what the parties actually said and did.
"OK, that sounds like a bunch of legalese," you say, "and I’m still not sure when a contract is formed when I’m going back and forth with the owner/general/sub."
The Texas Supreme Court has provided some guidance, and the case of Capital Bank v. American Eyewear is instructive. That case involved a question of whether a lease was valid and contained an acceptance of an offer. The plaintiff, American Eyewear, prepared a proposed lease and submitted it to the Bank. The Bank’s president then made several changes in the document, signed and delivered it. An officer of American Eyewear then, in turn, initialed the changes made by the Bank’s president, but made three additional changes before signing the document. The court held that when American Eyewear made changes in the lease form executed by the Bank and sent it back to the Bank, that action acted as a counter offer, which was not binding on the Bank without the Bank’s acceptance of the counter offer.
These are some basic guidelines, but the actual formation of a contract is a very fact driven analysis. There will, however, always be three elements: 1) offer, 2) acceptance, and 3) a meeting of the minds.
Examining whether a formal, binding contract is formed may seem like a rudimentary question, but it is actually very important–particularly if there have been back-and-forth changes to forms. If no actual contract was ever formed, then those terms and conditions that you thought were going to guide the transaction may not be applicable. Or, those modifications you thought you made may be worthless.
Generally speaking, a valid contract is formed when an offer is made, it is accepted, and there is a meeting of the minds. There is no acceptance when there is an attempt to change or qualify the terms of the offer. If there is such an attempt, the offer is rejected. A purported acceptance that adds conditions not contained in the offer is not actually an acceptance–it is a rejection of the offer. Additionally, a qualified or conditional response to an offer does not create a contract because there is no meeting of the minds. This is actually a counter-offer.
A counter-offer must be accepted by the party who made the original offer to constitute a contract. An acceptance takes effect only when the acceptance is communicated to the offeror. When an offeror/counter-offeror does not specify the manner of acceptance, the offeror impliedly authorizes acceptance by the same manner used to present the offer.
Meeting of the minds, or mutual assent, is the essence of a contract, and it is judged objectively on the basis of what the parties actually said and did.
"OK, that sounds like a bunch of legalese," you say, "and I’m still not sure when a contract is formed when I’m going back and forth with the owner/general/sub."
The Texas Supreme Court has provided some guidance, and the case of Capital Bank v. American Eyewear is instructive. That case involved a question of whether a lease was valid and contained an acceptance of an offer. The plaintiff, American Eyewear, prepared a proposed lease and submitted it to the Bank. The Bank’s president then made several changes in the document, signed and delivered it. An officer of American Eyewear then, in turn, initialed the changes made by the Bank’s president, but made three additional changes before signing the document. The court held that when American Eyewear made changes in the lease form executed by the Bank and sent it back to the Bank, that action acted as a counter offer, which was not binding on the Bank without the Bank’s acceptance of the counter offer.
These are some basic guidelines, but the actual formation of a contract is a very fact driven analysis. There will, however, always be three elements: 1) offer, 2) acceptance, and 3) a meeting of the minds.
Examining whether a formal, binding contract is formed may seem like a rudimentary question, but it is actually very important–particularly if there have been back-and-forth changes to forms. If no actual contract was ever formed, then those terms and conditions that you thought were going to guide the transaction may not be applicable. Or, those modifications you thought you made may be worthless.
Friday, September 12, 2008
Mediation
Everyone knows at least one mediation joke. My favorite is that the sign of a successful mediation is when everyone leaves equally unhappy (which, by the way, is partially true).
Despite the sometimes negative reputation mediation has gained over the years, it can be a very effective, every economical way to resolve disputes. The specifics of mediation may vary a little depending on the forum, but the basics are this. All parties get together in one room and provide a brief opening statement. The parties then break up into separate rooms. The mediator will typically visit with the party seeking relief first. He or she will find out a little about the claims being made and the relief being sought. The mediator will then visit each of the other parties and find out about their defenses or counter-claims. Anything told to the mediator is completely confidential. Depending on the complexity of the case, dollars and cents may not even be discussed in this first round. The mediator is simply trying to learn in an hour or two what you’ve lived with for some time.
At some point, the claimant makes a formal demand (typically a monetary amount, but sometimes it could be specific performance). That demand is relayed to the other party(ies), who explain to the mediator why they believe that figure is incorrect. If everyone is there is good faith, a counteroffer is usually given and taken back to the claimant. This process repeats itself until either a settlement or stalemate is reached.
"Why," you ask, "should I spend a morning or whole day sitting in the office of some mediator (and pay them for their time) when we could just send offers back and forth over the phone?" Well, there are several reasons.
First and foremost, if you are working under an AIA contract, there is a good chance that you will have to mediate. The AIA General Conditions of the Contract for Construction (Form A201-2007) states that "Claims, disputes, or other matters in controversy arising out of or related to the Contract except those waived....shall be subject to mediation as a condition precedent to binding dispute resolution."
Secondly, mediation really can be a cost-effective way to resolve disputes. Compared to the potential costs of extended litigation or arbitration, the time and expense related to a mediation is not very high. It is useful to have a neutral third party provide his or her honest assessment of a case. They hear all the facts and arguments the way a jury or arbitrator would hear them. And they will offer their disinterested assessment of how a case might turn out if it is not resolved.
A mediator can also be a much more effective messenger of the strengths of your case than you are. Even if they are just relaying the arguments you have already made directly to the other party over the phone (or face-to-face), the fact that the messenger is a neutral third party will often times give those same arguments a little more weight.
Perhaps the most important aspect of mediation is that the parties still control their own destiny. You control how much (if any) you agree to pay or accept. You control what terms and conditions a settlement will have. And you have the right to get up and leave at any point. There is no obligation to settle, and the mediator cannot commit you to a settlement. There is no judge, jury, or arbitrator telling you what you will or will not do. This is a far cry from what happens at a trial or arbitration should the dispute not be resolved. There, you put your company’s fate in the hands of complete strangers over whom you have no control.
At the end of the day, however, mediation only works if all parties are making a good faith effort at resolving the dispute. If a party is not interested in a resolution, it is a waste of time. But if the parties are genuinely interested in trying to work out their differences, then it is certainly a worthwhile endeavor and may prevent bigger headaches down the road.
Despite the sometimes negative reputation mediation has gained over the years, it can be a very effective, every economical way to resolve disputes. The specifics of mediation may vary a little depending on the forum, but the basics are this. All parties get together in one room and provide a brief opening statement. The parties then break up into separate rooms. The mediator will typically visit with the party seeking relief first. He or she will find out a little about the claims being made and the relief being sought. The mediator will then visit each of the other parties and find out about their defenses or counter-claims. Anything told to the mediator is completely confidential. Depending on the complexity of the case, dollars and cents may not even be discussed in this first round. The mediator is simply trying to learn in an hour or two what you’ve lived with for some time.
At some point, the claimant makes a formal demand (typically a monetary amount, but sometimes it could be specific performance). That demand is relayed to the other party(ies), who explain to the mediator why they believe that figure is incorrect. If everyone is there is good faith, a counteroffer is usually given and taken back to the claimant. This process repeats itself until either a settlement or stalemate is reached.
"Why," you ask, "should I spend a morning or whole day sitting in the office of some mediator (and pay them for their time) when we could just send offers back and forth over the phone?" Well, there are several reasons.
First and foremost, if you are working under an AIA contract, there is a good chance that you will have to mediate. The AIA General Conditions of the Contract for Construction (Form A201-2007) states that "Claims, disputes, or other matters in controversy arising out of or related to the Contract except those waived....shall be subject to mediation as a condition precedent to binding dispute resolution."
Secondly, mediation really can be a cost-effective way to resolve disputes. Compared to the potential costs of extended litigation or arbitration, the time and expense related to a mediation is not very high. It is useful to have a neutral third party provide his or her honest assessment of a case. They hear all the facts and arguments the way a jury or arbitrator would hear them. And they will offer their disinterested assessment of how a case might turn out if it is not resolved.
A mediator can also be a much more effective messenger of the strengths of your case than you are. Even if they are just relaying the arguments you have already made directly to the other party over the phone (or face-to-face), the fact that the messenger is a neutral third party will often times give those same arguments a little more weight.
Perhaps the most important aspect of mediation is that the parties still control their own destiny. You control how much (if any) you agree to pay or accept. You control what terms and conditions a settlement will have. And you have the right to get up and leave at any point. There is no obligation to settle, and the mediator cannot commit you to a settlement. There is no judge, jury, or arbitrator telling you what you will or will not do. This is a far cry from what happens at a trial or arbitration should the dispute not be resolved. There, you put your company’s fate in the hands of complete strangers over whom you have no control.
At the end of the day, however, mediation only works if all parties are making a good faith effort at resolving the dispute. If a party is not interested in a resolution, it is a waste of time. But if the parties are genuinely interested in trying to work out their differences, then it is certainly a worthwhile endeavor and may prevent bigger headaches down the road.
Monday, September 1, 2008
Prompt Payments to Contractors and Subcontractors -- It's Not Just a Good Idea, It's the Law
My last article discussed the pitfalls of holding and distributing construction payments and loan receipts. But what if you’re on the other end of that equation–what if you’re the party who is seeking payment. What kind of protection is out there for you?
Liens may be an available remedy, and there is always the option of litigation. But what if your company is working on a project and your portion of the job is about half finished, but the company you contracted with is about four months behind on payments. This isn’t the first time they’ve fallen behind, but it’s a lucrative contract for your company (when you’re paid) and you would like to finish out your work. Additionally, it is a high profile project and you would like to use it as an example of what your company can do, but these late payments are creating all kinds of cash flow problems for you. Do you keep working and hope payment comes sooner rather than later, or do you pull your crew from the site? If you pull your crew, are you inviting litigation for walking off the job?
The Texas Prompt Payment to Contractors and Subcontractors Act provides some guidance for this scenario. It states that if an owner receives a written payment request from a contractor for an amount that is allowed under a contract for work or specially fabricated materials, the owner must make payment within 35 days of receiving the request. Unpaid amounts accrue interest at 1½ % per month.
Even more notable about the statute is that it gives contractors the ability to stop working. If an owner fails to pay the contractor an undisputed amount within 35 days, the contractor may suspend its contractually required performance. This can be done ten days after the contractor gives the owner (and possibly the owner’s lender) written notice that (1) payment has not been received, and (2) the contractor intends to suspend performance for nonpayment.
At this point, you’re doing a mental calculation of the costs of pulling your crew off the job site and then sending them back and wondering if it is worth the expense. You’re in luck—the statute provides that a contractor who suspends performance under this provision is not required to supply further labor, services, or materials until it is paid the amounts due (over which performance was suspended), plus costs for demobilization and remobilization.
Obviously, there are many factors to consider before pulling off a job for nonpayment, including the relationship between the parties, potential for future projects, and the amount at stake. However, having the force of the Texas Payment to Contractors and Subcontractors Act behind you will at least provide a little piece of mind.
Liens may be an available remedy, and there is always the option of litigation. But what if your company is working on a project and your portion of the job is about half finished, but the company you contracted with is about four months behind on payments. This isn’t the first time they’ve fallen behind, but it’s a lucrative contract for your company (when you’re paid) and you would like to finish out your work. Additionally, it is a high profile project and you would like to use it as an example of what your company can do, but these late payments are creating all kinds of cash flow problems for you. Do you keep working and hope payment comes sooner rather than later, or do you pull your crew from the site? If you pull your crew, are you inviting litigation for walking off the job?
The Texas Prompt Payment to Contractors and Subcontractors Act provides some guidance for this scenario. It states that if an owner receives a written payment request from a contractor for an amount that is allowed under a contract for work or specially fabricated materials, the owner must make payment within 35 days of receiving the request. Unpaid amounts accrue interest at 1½ % per month.
Even more notable about the statute is that it gives contractors the ability to stop working. If an owner fails to pay the contractor an undisputed amount within 35 days, the contractor may suspend its contractually required performance. This can be done ten days after the contractor gives the owner (and possibly the owner’s lender) written notice that (1) payment has not been received, and (2) the contractor intends to suspend performance for nonpayment.
At this point, you’re doing a mental calculation of the costs of pulling your crew off the job site and then sending them back and wondering if it is worth the expense. You’re in luck—the statute provides that a contractor who suspends performance under this provision is not required to supply further labor, services, or materials until it is paid the amounts due (over which performance was suspended), plus costs for demobilization and remobilization.
Obviously, there are many factors to consider before pulling off a job for nonpayment, including the relationship between the parties, potential for future projects, and the amount at stake. However, having the force of the Texas Payment to Contractors and Subcontractors Act behind you will at least provide a little piece of mind.
Monday, August 25, 2008
The Texas Construction Trust Fund Act -- What You Don't Know Can Hurt You
It is pretty universally accepted that construction payments and construction loan receipts should be prudently held and distributed. However, this is more than just a sound business practice–a failure to appropriately hold and distribute construction funds could actually land you in jail and bogged down in litigation.
The Texas Construction Trust Fund Act (the "Statute"), found in Chapter 162 of the Texas Property Code, regulates construction payments and loan receipts. The Statute expressly states that construction payments are trust funds if (1) the payments are made to a contractor or subcontractor, (2) under a construction contract, and (3) for the improvement of specific real property in this state. This also applies to loan receipts. The party who receives these funds is a trustee.
A trustee who, intentionally or knowingly or with intent to defraud, retains, uses, disburses, or otherwise diverts trust funds without first fully paying all current or past due obligations incurred by the trustee to the beneficiaries of the funds, has misapplied the trust funds.
Sounds like common sense, right? It might be, but the penalties for failing to adhere to these requirements can be quite stiff. A trustee who misapplies trust funds over $500 in violation of the Statute commits a Class A misdemenor. If the trustee misapplies those trust funds with intent to defraud, they may be guilty of a third-degree felony.
Since potential felony liability for failing to pay subcontractors sounds pretty harsh, it’s important to know exactly what "intent to defraud" means. A trustee acts with "intent to defraud" when he retains, uses, disburses, or diverts trust funds with the intent to deprive the beneficiaries of the funds.
In addition to potential criminal prosecution, misapplication of trust funds can also create civil liability–and hence, litigation. Because the holder of the construction payment or loan receipts is a trustee, there may be a fiduciary relationship with the beneficiary–at least with respect to the trust funds. Fiduciary relationships bring with them heightened duties, including loyalty and the utmost good faith, candor, integrity of the highest kind, and fair and honest dealing.
By failing to pay, the intended beneficiary could bring a lawsuit asserting, among other claims, breach of fiduciary duties. This is notable because an intentional breach of fiduciary duty opens up the possibility for punitive damages.
The Statute does establish affirmative defenses to claims of misapplication of trust funds. It is a defense that the trust funds not paid to the beneficiaries were used by the trustee to pay its actual expenses directly related to the construction or repair of the improvement or have been retained by the trustee, after notice to the beneficiary, as a result of the trustee’s reasonable belief that the beneficiary is not entitled to the funds.
It is also a defense that the trustee paid the beneficiaries all trust funds they were entitled to receive no later than 30 days following written notice to the trustee of the filing of a criminal complaint or other notice of a pending criminal investigation.
The Texas Construction Trust Fund Act underscores the need for good business practices with respect to construction payments. This Statute increases the potential penalties that may arise for failing to appropriately manage these funds. The key is to handle construction payments and loan receipts with great care.
The Texas Construction Trust Fund Act (the "Statute"), found in Chapter 162 of the Texas Property Code, regulates construction payments and loan receipts. The Statute expressly states that construction payments are trust funds if (1) the payments are made to a contractor or subcontractor, (2) under a construction contract, and (3) for the improvement of specific real property in this state. This also applies to loan receipts. The party who receives these funds is a trustee.
A trustee who, intentionally or knowingly or with intent to defraud, retains, uses, disburses, or otherwise diverts trust funds without first fully paying all current or past due obligations incurred by the trustee to the beneficiaries of the funds, has misapplied the trust funds.
Sounds like common sense, right? It might be, but the penalties for failing to adhere to these requirements can be quite stiff. A trustee who misapplies trust funds over $500 in violation of the Statute commits a Class A misdemenor. If the trustee misapplies those trust funds with intent to defraud, they may be guilty of a third-degree felony.
Since potential felony liability for failing to pay subcontractors sounds pretty harsh, it’s important to know exactly what "intent to defraud" means. A trustee acts with "intent to defraud" when he retains, uses, disburses, or diverts trust funds with the intent to deprive the beneficiaries of the funds.
In addition to potential criminal prosecution, misapplication of trust funds can also create civil liability–and hence, litigation. Because the holder of the construction payment or loan receipts is a trustee, there may be a fiduciary relationship with the beneficiary–at least with respect to the trust funds. Fiduciary relationships bring with them heightened duties, including loyalty and the utmost good faith, candor, integrity of the highest kind, and fair and honest dealing.
By failing to pay, the intended beneficiary could bring a lawsuit asserting, among other claims, breach of fiduciary duties. This is notable because an intentional breach of fiduciary duty opens up the possibility for punitive damages.
The Statute does establish affirmative defenses to claims of misapplication of trust funds. It is a defense that the trust funds not paid to the beneficiaries were used by the trustee to pay its actual expenses directly related to the construction or repair of the improvement or have been retained by the trustee, after notice to the beneficiary, as a result of the trustee’s reasonable belief that the beneficiary is not entitled to the funds.
It is also a defense that the trustee paid the beneficiaries all trust funds they were entitled to receive no later than 30 days following written notice to the trustee of the filing of a criminal complaint or other notice of a pending criminal investigation.
The Texas Construction Trust Fund Act underscores the need for good business practices with respect to construction payments. This Statute increases the potential penalties that may arise for failing to appropriately manage these funds. The key is to handle construction payments and loan receipts with great care.
Wednesday, August 13, 2008
The Wizard Behind the Curtain
One of the most memorable scenes in the Wizard of Oz was when we finally got to meet the notorious Wizard himself. When Toto pulled the curtain back, we saw that he wasn’t the brooding, intimidating figure that his image and reputation led us to believe he was. Instead, we saw a small, mild mannered gentleman who looked incapable of harming a fly. With a simple tug of a curtain, the grand image was blown.
Now, what does the Wizard of Oz have to do with construction and, for that matter, any business? A lot. As paperwork has evolved into computer-work, there has been a shift from focusing solely on paper documents to investigating electronically stored information ("ESI"). In litigation and arbitration, attorneys are not limiting discovery to paper documents. They are investigating electronic versions of e-mails, Word documents, spreadsheets, voicemails, and other forms of ESI.
Why? Because just like Toto pulled back the curtain on the Wizard, ESI allows the curtain to be pulled back on your paper file. There’s a lot more to every document, spreadsheet, and e-mail than just the words on the page. Buried in every file is data about who created it, who modified or accessed it, when it was created, who was bcc’d, etc. ESI reveals spreadsheets formulas that would otherwise generate raw numbers on paper. And those redline changes and comments on your Word document? Well, just read this business plan to find out how not to get a project funded. Then imagine reading a contractor’s bid that unknowingly included all the comments about the corners they can cut.
This isn’t meant to scare you back to a stone tablet and chisel, but it is a cautionary tale. Before you send that contract to the other side, be sure you’re not including your own personal commentary. That e-mail you thought you deleted–it’s still resting comfortably on the company’s server. You make efforts (and probably spend good money) to keep your confidential information confidential. Don’t accidentally hand over the keys to your file room. When it comes to ESI, what you see isn’t always what you get.
Now, what does the Wizard of Oz have to do with construction and, for that matter, any business? A lot. As paperwork has evolved into computer-work, there has been a shift from focusing solely on paper documents to investigating electronically stored information ("ESI"). In litigation and arbitration, attorneys are not limiting discovery to paper documents. They are investigating electronic versions of e-mails, Word documents, spreadsheets, voicemails, and other forms of ESI.
Why? Because just like Toto pulled back the curtain on the Wizard, ESI allows the curtain to be pulled back on your paper file. There’s a lot more to every document, spreadsheet, and e-mail than just the words on the page. Buried in every file is data about who created it, who modified or accessed it, when it was created, who was bcc’d, etc. ESI reveals spreadsheets formulas that would otherwise generate raw numbers on paper. And those redline changes and comments on your Word document? Well, just read this business plan to find out how not to get a project funded. Then imagine reading a contractor’s bid that unknowingly included all the comments about the corners they can cut.
This isn’t meant to scare you back to a stone tablet and chisel, but it is a cautionary tale. Before you send that contract to the other side, be sure you’re not including your own personal commentary. That e-mail you thought you deleted–it’s still resting comfortably on the company’s server. You make efforts (and probably spend good money) to keep your confidential information confidential. Don’t accidentally hand over the keys to your file room. When it comes to ESI, what you see isn’t always what you get.
Wednesday, August 6, 2008
Pay When Paid Clauses
"Pay When Paid" contract clauses have become a fairly common tool used by general contractors to limit financial liability to subcontractors in the event of an owner’s insolvency. In a nutshell, they provide that a GC’s obligation to pay the sub is contingent on the GC being paid by the owner. If the GC isn’t paid by the owner, the GC has no obligation to pay its sub. Though the wording will vary from contract to contract, Pay When Paid clauses generally look something like this:
In Texas, Pay When Paid clauses are typically enforceable IF they create a condition precedent and not simply a covenant to pay. A condition precedent is an act or event, which occurs after the making of the contract, that must occur before there is a right to immediate performance and before there is a breach of contract. They basically create a contingency, where a party has no obligation to perform X until condition Y occurs first.
While there are no magic words that are necessary to create a condition precedent, terms such as "if," "provided that," "on the condition that," or some other phrase that conditions performance usually indicate an intent to create a condition precedent. Gulf Const. Co. v. Self, 676 S.W.2d 624, 627 (Tex.App.–Corpus Christi 1984).
It is important that the contract language is very clear on this. Because conditions precedent tend to be fairly harsh, courts do not favor finding them in contracts. For example, in a hospital construction project, a contract between between the GC and a sub included the following provision:
Pay When Paid clauses are an effective way for general contractors to manage risk and limit financial liability when there is a question about an owner’s solvency. Like so many other terms, they are deal points to be negotiated. You don’t want to lose the protection you worked hard to acquire because of a poorly worded contract. The key to having an effective, enforceable Pay When Paid clause is to make sure it actually creates a condition precedent. Without that, the GC has probably done nothing but re-enforce its own obligation to pay.
Notwithstanding anything to the contrary herein, payment by the Owner to the General Contractor is a condition precedent to the ubcontractor’s right to payment from the General Contractor.These clauses are pretty heavy handed since they are an attempt to shift the risk for nonpayment from the general (who contracted directly with the owner) to a sub (who might have little or no relationship with the owner). As such, the question is this: Are Pay When Paid clauses actually enforceable?
Partial payments for or on account of Work performed will be made by Contractor to Subcontractor as the Work progresses, provided however, that as a condition precedent to any such payment, like payment has been made by Owner to Contractor.
In Texas, Pay When Paid clauses are typically enforceable IF they create a condition precedent and not simply a covenant to pay. A condition precedent is an act or event, which occurs after the making of the contract, that must occur before there is a right to immediate performance and before there is a breach of contract. They basically create a contingency, where a party has no obligation to perform X until condition Y occurs first.
While there are no magic words that are necessary to create a condition precedent, terms such as "if," "provided that," "on the condition that," or some other phrase that conditions performance usually indicate an intent to create a condition precedent. Gulf Const. Co. v. Self, 676 S.W.2d 624, 627 (Tex.App.–Corpus Christi 1984).
It is important that the contract language is very clear on this. Because conditions precedent tend to be fairly harsh, courts do not favor finding them in contracts. For example, in a hospital construction project, a contract between between the GC and a sub included the following provision:
When the owner or his representative advances or pays the general contractor, the general contractor shall be liable for and obligated to pay the sub-contractor up to the amount or percentage recognized and approved for payment by the owner’s representative less the retainage required under the terms of the prime contract. Under no circumstances shall the general contractor be obligated or required to advance or make payments to the sub-contractor until the funds have been advanced or paid by the owner or his representative to the general contractor.The court of appeals ruled that this clause only created a covenant regarding the terms and manner of payment, not a condition precedent to payment. Id. As such, the general contractor did not limit its financial liability. It was required to pay its subcontractors even though the owner failed to pay the GC.
Pay When Paid clauses are an effective way for general contractors to manage risk and limit financial liability when there is a question about an owner’s solvency. Like so many other terms, they are deal points to be negotiated. You don’t want to lose the protection you worked hard to acquire because of a poorly worded contract. The key to having an effective, enforceable Pay When Paid clause is to make sure it actually creates a condition precedent. Without that, the GC has probably done nothing but re-enforce its own obligation to pay.
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