Archive for ‘Construction Litigation’

Joint Representation of Multiple Parties on a Construction Project

Typical contractual relationships on a construction project

A construction project typically involves several contractual relationships. The Owner may contract with a Lender as well as a Contractor; the Contractor with Sub-contractors and maybe even a Surety.

Opportunities for joint representation of these parties on the same construction project do occur. The Contractor may have joined with the Owner or with its Sub-contractors in a joint venture to do the project. The same economics underlying the joint venture may lead the parties to use the services of the same law firm on the project. But, even then, the parties have probably used different counsel to negotiate the joint venture.

Given the need to negotiate contracts and the probability of at least routine disputes and litigation during the project, joint representation of the typical contracting parties seems unlikely to work ethically or practically.

Contractor/Lender relationship

What about the contractor and the lender? Unlike the owner and the lender, the contractor and the lender do not necessarily have a direct contractual relationship.

But, the contractor may have to look to the lender to fund pay applications – especially in a project owned by a single purpose entity with limited liability and resources. The principals behind the owning entity may have resources, but they have set up the LLC for the specific purpose of limiting their liability. This fact makes the contractor dependent on the loan disbursements for payment on the construction contract.

Unfortunately, the lender may refuse to fund a pay application for reasons related to the owner’s performance on the loan, not the contractor’s performance on his contract with the owner. The contractor may not get paid even if he has performed. Not surprisingly, the AGC advises: “The lender may (or may not) be your ally.” (AGC Guide to Construction Financing, 2d ed. 2007, p. 15)

This prospect probably means that the lender and the contractor are not typically going to seek out the same counsel. Nor would a construction law firm reasonably seek to represent both on the same project. But, what if the same law firm already represents both the lender and the contractor?

The law firm probably has a strong incentive to represent at least one or the other of its clients on the project. The problem is that either client might not like its law firm representing the other client on the project. The law firm may face the choice of representing neither – a very distasteful decision – or trying to represent both despite the possibility of funding issues.

In this situation the law firm has the ethical and fiduciary obligation to consider whether it can represent both and, if so, how.

The ethical rule

ABA Model Rule 1.7(a) establishes a prohibition “if the representation involves a concurrent conflict of interest.” Under the rule a “concurrent conflict of interest” exists if the clients are “directly adverse” or if there is a “significant risk” that the representation of either client will be materially limited by the law firm’s responsibilities to the other client. Comments 7 and 26 to the rule make clear that both types of conflict can occur in transactional matters, not just litigation. And, Comment 2 makes it the lawyer’s responsibility to determine whether a conflict exists.

“Concurrent conflict of interest”

Certainly, a direct contractual relationship can involve a “concurrent conflict of interest” when the parties are negotiating the contract or if a dispute develops over contract performance. The law firm in our situation may conclude that no concurrent conflict exists because its client the lender will not have an immediate, direct contract with its client the contractor.

But, this conclusion overlooks the reality of the construction project. The lender may require the owner, with which it has a direct contract (the loan), to obtain the contractor’s consent to an assignment of the owner’s interest in the construction contract. The lender may even require the contractor to obtain a completion guaranty from the contractor. Both of these requirements benefit the lender and effectively create a potential obligation by the contractor to the lender. Even though the lender and the contractor may not have an immediate, direct contractual relationship, they may become “directly adverse.”

The loan agreement may also attempt to provide the lender with a priority over any contractor lien on the project. While the validity of the priority may depend on state law, the lien interests of the lender could interfere with the lien interests of the contractor. As noted before, the lender may refuse to fund a pay application. The reality is that there may be a “significant risk” that the law firm’s ability to represent both clients could be materially limited.

“Consentable concurrent conflict of interest”

If a concurrent conflict of interest exists, ABA Model Rule 1.7(b) requires the law firm to determine whether the conflict is “consentable,” meaning can the clients consent to (waive) the conflict. The law firm can only ask the clients to consent to the conflict if it “reasonably believes that the lawyer will be able to provide competent and diligent representation to each affected client.”

Presumably, the law firm would have objective difficulty making this determination if the clients were already “directly adverse” or if the law firm’s ability to represent either client were already materially limited by one or the other client. For example, one client insists that the law firm favor its interests over the other client. In other words, the law firm should only be able to make a reasonable determination that a conflict is “consentable” if the conflict is merely potential and even unlikely.

Informed consent

If the conflict is consentable, the law firm must then obtain the clients’ “informed consent, confirmed in writing.” This requires the law firm to consult with the clients, disclose the various ways and risks of adverse effects on the clients from the joint representation and the alternatives and then confirm their consent in writing. The clients’ sophistication is important, but the burden is absolutely on the law firm.

Since most consentable conflicts will be potential, can the client actually provide an informed consent to something in the future? While the rule does not provide a bright line test, it does suggest that a general, open-ended consent to future conflicts is not effective and that the answer depends even more on the sophistication and experience of the client.

Other problems

The law firm in our example may attempt to avoid the conflict by assigning different lawyers to represent its two clients on the project. It cannot. If Rule 1.7 would prohibit one lawyer from representing both clients, it also prohibits two lawyers in the same firm.

Representing two clients on the same construction project or, more generally, on the same transaction runs other risks. One client may require the law firm to keep information confidential from the other client. If that information is potentially prejudicial to the other client, the law firm gets into an untenable position. It cannot disclose the information; yet, it has an ethical responsibility to disclose any information to its clients necessary to represent them.

Independent of the ethical requirements imposed by the rules, a law firm also has fiduciary responsibilities to its clients. In the broadest sense this responsibility means that the law firm must put its clients’ interests ahead of its own and act only in the clients’ interests. In this respect the law firm in our example probably has to tell both of its clients that it cannot represent either on the same project.

If the law firm does not and attempts to obtain consent to the joint representation, it runs the risk that if something goes wrong on the project and one or the other of its clients incurs loss, the client may feel and may even be able to show that the lawyer failed to protect the client’s interest due to the joint representation. This result exposes the law firm to liability for damages.

If There Is a Payment Bond on the Project, Keep Your Eye on the Correct Deadline for Filing a Claim

Payment bonds are a part of many (if not most) construction projects. Payment bonds often are required under state (or federal) law for public projects. But these bonds also are commonly required on private projects when the owner demands it.

A payment bond is an agreement between a general contractor and surety for the surety to guarantee the payment of labor and material costs on the project. The existence of a payment bond provides a measure of security for subcontractors and suppliers. Even if the general contractor cannot or does not pay, a subcontractor or supplier can file a claim for payment from the bond.

But subcontractors and suppliers should understand the deadline they face if they try to collect against the payment bond.

Subcontractors and suppliers may be most accustomed to filing mechanics’ liens against the project to remedy nonpayment. Depending on the state where the project is located, an unpaid sub could have several months to file a lien or notice of lien. But a filed mechanics’ lien is not a claim against the payment bond. More importantly, a mechanics’ lien will not stop the clock from running on the deadline to file a claim against the bond. It is common for payment bonds to require that claims against the bond be filed within 90 days after the last day of providing service or materials.

So while it might be a good idea to also file a mechanics’ lien, keep your eye on what the payment bond requires. Courts will uphold the 90-day claim period, and if you miss this deadline then you miss your opportunity for payment under the bond.

“Substantial Compliance” with the Missouri Mechanics’ Lien notice requirement may be sufficient, but “strict compliance” will help you sleep at night.

Missouri law imposes an unusual prerequisite on general contractors before they can file a mechanics’ lien. Early in a project a general contractor must issue a notice to the property owner that mechanics’ liens could be filed in the event of nonpayment. According to the statute, the following notice must be given in ten-point bold type:

NOTICE TO OWNER

FAILURE OF THIS CONTRACTOR TO PAY THOSE PERSONS SUPPLYING MATERIAL OR SERVICES TO COMPLETE THIS CONTRACT CAN RESULT IN THE FILING OF A MECHANIC’S LIEN ON THE PROPERTY WHICH IS THE SUBJECT OF THIS CONTRACT PURSUANT TO CHAPTER 429, RSMO. TO AVOID THIS RESULT YOU MAY ASK THIS CONTRACTOR FOR “LIEN WAIVERS” FROM ALL PERSONS SUPPLYING MATERIAL OR SERVICES FOR THE WORK DESCRIBED IN THIS CONTRACT. FAILURE TO SECURE LIEN WAIVERS MAY RESULT IN YOUR PAYING FOR LABOR AND MATERIAL TWICE.

The law is unusual because the general contractor must issue the notice early in the project before any issue of nonpayment even arises. If the general contractor forgets to issue the notice either when the contract is signed, materials are delivered, work is started, or the first invoice is issued, any later-filed mechanics’ liens could be invalid. It can be a steep price to pay for a failure to supply a notice.

Missouri courts have struggled to determine when a mechanics’ lien should be invalidated for failure to comply with the statutory notice requirements. The relatively easy cases are those where a general contractor does not provide any notice at all. In these instances, the general contractor can expect that a court will invalidate mechanics’ liens, even where work has been completed to the satisfaction of the owner.

The trickier cases are those where the general contractor provides written notice to the owner but without using the exact statutory language. The question here is whether “strict” compliance with the statute is required or whether “substantial” compliance satisfies the law’s requirements. At least one Missouri state appellate court and a federal bankruptcy court applying Missouri law have held that substantial compliance is sufficient. In those cases, the general contractor provided written notice in the parties’ contracts, although without using the exact language from the statute.

Given the remedial purpose of mechanics’ liens, it could be that the Missouri Supreme Court would agree with substantial compliance. But the better path is to copy and paste the statutory text, keep your mechanics’ lien out of court, and sleep better at night.

Does a CGL Policy Cover Construction Defects? It Depends On Where You Are.

General contractors obtain commercial general liability (“CGL”) policies to cover their liability for property damage or personal injury. A general contractor might assume that their CGL policy also covers liability for construction defects. In some instances, that assumption is correct. But in others, they might be surprised to find themselves exposed.

The heart of the issue is the interpretation of the term “occurrence” in a CGL policy. These policies cover personal injury and property damage caused by an “occurrence.” An occurrence in turn is defined as an “accident.” But courts in different states do not agree on whether damage due to a construction defect should be considered an accident and therefore a covered occurrence under a CGL policy.

In Kansas, an “occurrence” under a CGL policy includes damage caused by defective work so long as it was not intended or foreseeable. Therefore, a general contractor operating in Kansas generally can expect that its CGL policy will provide coverage for construction defects.

In Missouri, the answer might be very different, depending on what is alleged in the petition. The rule in Missouri has been that a CGL policy will cover tort claims resulting from construction defects but not contract claims. The distinction is odd because it puts the focus on what the plaintiff pleads rather than on what actually caused the defect. However, a recent Missouri Supreme Court case indicates that Missouri courts might begin following a rule similar to Kansas courts and instead focusing on whether the damage was foreseeable, regardless of the claim alleged in the petition.

In Colorado, the state legislature recently decided to reverse the rule followed by Colorado courts. Due to disagreement with the then-current court doctrine, the legislature enacted statutory law that defines damage resulting from construction defects to be an “accident,” in order to cause this type of damage to be covered under CGL policies.

The uncertainty from state to state is troubling for general contractors. But as the recent changes above demonstrate, state courts and legislatures are moving to the view that CGL policies cover construction defects.

Predictive Coding – The Future of Document Review?

It is no secret that we increasingly store and categorize information in digital form. Anyone who has been involved in a lawsuit is familiar with this fact. Companies and individuals now create and store their records electronically rather than in file cabinets full of paper.

Due to electronically stored information (ESI) and the use of e-mail as the primary form of communication, there has been a dramatic increase in the volume of “information” in the hands of the parties in a lawsuit. Long gone are the days where a dozen boxes or file cabinet drawers was the universe of documents. Now a lawsuit can routinely put at issue millions of emails and documents that need to be reviewed.

The process of reviewing this volume of records requires can require an extensive review process. In a traditional large firm, the review is tackled by a small army of people organized into a tiered pyramid. At the bottom is a legion of junior or contract attorneys who perform a first-level review. Their work is reviewed by a tier of more senior attorneys, who also make decisions about particularly important documents. Finally there is another level of even more senior attorneys who compile by topic the essential documents to put into the hands of the partners. All the parties in the case perform a review of their own documents and produce what they consider to be documents responsive to the other side’s discovery requests. Then both parties complete this process for the documents they receive from the other side. And then, depending on the case, both sides may need to continue reviewing and producing documents.

It hardly needs to be said that this review process becomes very expensive. Millions of pages of documents will require thousands of attorney hours to review. In some lawsuits, the document review portion of discovery will comprise the largest cost to the client. In an attempt to hold down costs, lower billing junior or contract attorneys review the bulk of the documents. But this raises an interesting question regarding the quality of the review itself. These attorneys are less experienced and in some instances less knowledgeable about all the facts or law as the senior attorneys.

I’m highlighting this issue because a recent decision from the Southern District of New York describes a technology that could represent the beginning of a change in the ESI review process. In Moore, et al. v. Publicis Groupe, et al., 11 Civ. 1279 (S.D.N.Y. Feb. 24, 2012), U.S. Magistrate Judge Peck approved the use of predictive coding by the parties in order to search and identify documents responsive to discovery requests. (Although the implementation of the technology has been stayed by the plaintiffs’ motion to recuse Judge Peck.)

Predictive coding is a process of teaching a computer program how to identify responsive documents. The computer program has access to and can ‘read’ the universe of information in the ESI. But it needs to be taught how to recognize what is important and what is not. For that, a random sample of documents are pulled from the universe and coded by senior attorneys. The documents can be coded as being responsive to particular discovery responses or as being not responsive to any request.

The coded information is then fed into the program, where sophisticated algorithms read and learn from the coding. The training process is itself iterative. The program is directed to identify a pool of responsive documents. The attorneys review this pool, re-code, and this information is fed back into the program to improve its predictions. Once trained, the computer can be set free to identify responsive documents.

Judge Peck’s decision is fascinating for many reasons, but here are three important lessons. First, Judge Peck held that attorneys can use predictive coding to identify responsive documents and still certify under Fed. R. Civ. P. 26(g) that their client’s production is “complete” and “correct.” In other words, the attorneys do not have to manually view every documents in order to comply with their discovery obligations.

Second, the ‘seed’ process of teaching the computer algorithms to identify responsive documents relies on senior attorneys. This technology is potentially disruptive to the traditional tiered document review model.

Third, will this technology represent the future of ESI review? Right now, predictive coding is relatively new technology in the context of litigation, which means that it is expensive. At this time, it may only make sense in a case involving terabytes of information. As with any technology, however, the price will drop. And then the question becomes, will the months-long document review project — and the bill that follows — be a thing of past?