Delay Risks and Management Tools – A Framework for Drafting and Negotiating Liquidated Damages Clauses

Jeffrey R. Appelbaum

I. Introduction1

The role of a transactional construction lawyer, especially when representing the project

owner, is to assist in creating a project framework that maximizes opportunities for success. This

is not usually achieved by creating onerous or draconian contract provisions that unreasonably

shift risk, thereby creating the need for other project stakeholders to respond in a

counterproductive fashion. Rather, the goal is to develop an overall project approach whereby

project assets and opportunities are maximized, and project risks are assessed and controlled as

efficiently as possible.

On sophisticated projects, it is useful for the owner to create a project risk management

matrix to catalogue and quantify the anticipated risks of construction and develop a

comprehensive strategy to either abate risk (i.e., minimize the risk with corrective systems and

processes), allocate risk (i.e., establish a fair sharing of risks and rewards among the owner,

design professional and contractor), or transfer risk (i.e., place risk with the entity most capable

of absorbing the risk).2 While this process will address several types of potential risk, a critical

concern on most commercial and institutional construction projects, and the focus of this paper,

is the risk of delay.

The failure to achieve substantial completion by a required date can result in

extraordinary financial loss and inconvenience to the owner and other stakeholders. For

example, most professional sports facilities are scheduled to be substantially complete at least

one month before a major “opening day” event.3 Missing that date is unthinkable – the result is 1 The author would like to thank Ben McKelvey, Erin Luke, and Patrick Sweeney (members of Thompson Hine’s construction practice group) for their contributions to this article.

2 The typical risk matrix lists the universe of project risks for which stakeholders have the greatest concern on the “X” axis, and then provides a range of possible remedies on the “Y” axis, including: (a) an indication of which parties have primary and secondary responsibility, (b) a listing of contractual, insurance and process remedies, and (c) an identification of applicable project contingencies and other financial remedies. The risk matrix can be quite comprehensive and provides an excellent tool for (1) identifying and filling gaps in the project delivery system, (2) convincing lenders and rating agencies that project risks have been identified and addressed, and (3) identifying remedies during the course of the project.

3 The time required between substantial completion (i.e., the date by which the contractor has finished all work required for beneficial occupancy by the owner) and the commencement of commercial operations varies dramatically by project type. For example, a major hotel may require two to four months between substantial completion and opening to the public. During this

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millions of dollars of lost revenue and extraordinary expense incurred in canceling, delaying or

moving the opening day event to an alternate facility, not to mention embarrassment to the sports

team and/or the facility operator.

Well-managed projects employ a wide range of tools to deal with the issue of project

delay. Some of those tools are designed to avoid delay in the first place (which is normally the

highest priority).4 Even with the best project protocols in place, however, delays do occur and

the employment of a prompt mitigation strategy to address resulting damages is often critical to

project success. While it is important for the owner to establish appropriate methods for dealing

with delays outside of the contractor’s5 control, one of the chief concerns of the owner from a

contractual perspective is to properly address delays, and resulting damages, that are within the

contractor’s responsibility. This may be best achieved through implementation of an effective

liquidated damages provision in the owner/contractor agreement.

This paper provides a suggested framework for crafting liquidated damage provisions

that effectively allocate risk for contractor-caused delays, incentivize timely completion, and

maximize opportunities for overall project success. To fully understand the role, and limitations,

of liquidated damage provisions within a comprehensive risk mitigation scheme, it is helpful to

first categorize the different types of delay and resulting damages that typically occur on a

construction project, as discussed in Section II below. One can then proceed to consider

remedies for delays that are within the scope of the owner’s responsibility, as discussed in

Section III.A, and those that are the primary responsibility of the contractor, as discussed in

Section III.B. Focusing on contractor-caused delays, the discussion then concentrates upon the interim period, the owner or hotel operator will be installing any FF&E (Furniture, Fixtures & Equipment) that is not within the contractor’s scope of work, all OS&E (Owner Supplies & Equipment), undergoing final staff training, and completing other work required to ready the hotel for opening. Other projects may require more or less time between substantial completion of construction and commencement of operations. Typically, the contractor is responsible for delays incurred prior to substantial completion, while the owner is responsible for delays incurred subsequent to substantial completion but prior to commencement of commercial operations (or beyond). 4 Delay avoidance is best achieved by implementing an effective project delivery approach, including selection of an appropriate project delivery system, employment of capable design professionals and builders, development of a proper budget and schedule, and implementation of an excellent protocol for project communication and coordination among all stakeholders. See Jeffrey R. Appelbaum, PNC Park: Structuring a Successful Project Delivery and Risk Management Approach, ABA Forum on the Construction Industry (April 2001); Project Delivery Systems & Planning for Success, Florida Bar’s 6th Annual Construction Law Institute (March 2013); Does it Really Matter? What Does the Project Delivery System Bring to the Success or Failure of the Project?, ABA Forum on the Construction Industry (April 2012); What Were They Thinking? Understanding the Construction Project From the Public Owner's Perspective, The Fidelity and Surety Law Committee of the ABA (January 2014).

5 The author uses the term “contractor” generally to refer to the prime contractor on a project. Sometimes there are different considerations at play if a contractor is performing the work in the varying roles of “general contractor”, “construction manager at risk”, or “design/builder.” We have addressed those considerations throughout from time to time, but in general this paper uses the term “contractor” to refer to a prime general contractor performing the work on a lump sum basis without design responsibility.

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art of negotiating and crafting effective liquidated damage provisions that appropriately manage

the risk of loss to the owner.

II. Background: Delay Types, Causes and Consequences

Delays on construction projects happen for a variety of reasons. Some delays are caused

by the parties involved in the design and construction process (i.e. the owner, contractors, or

design professionals), while other delays are caused by outside forces. A party’s responsibility

for delay is primarily based on that party’s ability to manage and control the specific delay event,

since some parties are in a better position to control certain types of delays than others.

Delays can be generally categorized into three groups based on these principles:

Compensable Delays : Delays that are within the control or responsibility of the

owner are referred to as compensable delays. Examples of compensable delay

“triggers” include owner-initiated changes, design errors or omissions,6 and differing

subsurface conditions. The owner is typically in the best position to manage and

mitigate these types of risks, and the contractor is normally entitled to both an

extension of time and financial compensation for compensable delays.7

Excusable Delays : Delays that are not within the control or responsibility of either

the contractor or owner are referred to as excusable delays. Examples of excusable

delay “triggers” include unusual weather, industry-wide strikes, and events of force

majeure. Since neither party is in a position to control these risks, the parties share in

the costs associated with resulting delay. The traditional view is that the contractor is

entitled to an extension of time but not compensation for excusable delay. However,

sometimes the timely completion of the project is more important to the owner and an

extension of time is not possible. If the owner is unable or unwilling to grant an

extension of time for an excusable delay, then the contractor is forced to accelerate,

and the cost of acceleration becomes compensable.

6 This definition applies to traditional project delivery systems in which design and construction services are separately provided by different entities under direct contracts with the owner. The owner is responsible for design errors with respect to the contractor, and the designer may be responsible to the owner for such issues, if the designer has failed to perform in accordance with the applicable standard of care (discussed in more detail below). On a design/build project, the risk profile shifts because the contractor is providing both design and construction services. In that scenario, the risk responsibility for design errors and omissions lies with the design/builder, and any delay resulting from such issues would be non-excusable.

7 Often, an owner will try to limit its responsibility for compensable delays through a “no damages for delay” clause, which states that the contractor is not entitled to additional compensation for delays, but solely to an extension of the completion date. There are issues regarding the legality of such a restriction that vary from jurisdiction to jurisdiction. However, a discussion of “no damages for delay” clauses is beyond the scope of this paper. See Maurice T. Brunner, Validity and construction of "no damage" clause with respect to delay in building or construction contract, 74 A.L.R.3d 187, for more information.

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Non-Excusable Delays : Delays that are within the control or responsibility of the

contractor are referred to as non-excusable delays. Examples of this type of delay

include delays resulting from defective work or improper sequencing or management

of subcontractors. Since the contractor is in the best position to avoid or mitigate

these types of risks (and is normally legally responsible to do so through express

contractual provisions), the contractor is entitled to neither a time extension nor

money on these occasions. To the contrary, if a non-excusable delay occurs, the

contractor may have responsibility to compensate the owner for the damages that

ensue.

Each type of delay can cause damages to the owner. However, as between the contractor

and the owner, the primary issue is the damage resulting from non-excusable delays, which are

exclusively the contractor’s responsibility. The types of delay damages the owner can recover

from the contractor for non-excusable delay generally fall into two categories:

i. Direct Damages : Direct damages are those that follow naturally and necessarily from

the contractor’s breach,8 and are reasonably foreseeable at the time of contracting.

Examples of direct damages to an owner arising out of a contractor-caused delay can

include the cost of temporary facilities, replacement contractors, or the cost of

extended project administration, such as additional compensation paid to owner’s

representatives or other consultants.

ii. Consequential Damages : Consequential damages are more attenuated. They are

damages that flow from the consequences of the contractor’s actions, not from the

contractor’s conduct itself.9 Examples of consequential damages that an owner might

incur include lost profits and rents, lost business opportunities, and adverse effects to

reputation.10

The classification of damages as direct or consequential has significant implications.

Direct damages usually require only proof of costs because causation is obvious or presumed. In

order to recover consequential damages, however, an owner must specifically prove causation

(i.e., that the damages resulted from the consequences of the contractor’s actions, and not from

8 Tenn. Gas Pipeline Co. v. Technip United States Corp., 2008 Tex. App. LEXIS 6419 (Tex. App. - Houston [1st Dist.] 2008).

9 Id.

10 Consequential damages are also a risk for the contractor. Types of consequential damages that a contractor might incur include material and labor escalation, depreciation of equipment value, rental costs and additional home office overhead costs.

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other intervening causes, like economic downturn or slow business) and foreseeability (i.e., that

the consequences that caused the damage were contemplated by the parties at the time of

contract).11 In addition, some courts require only proof of direct damages based on a “reasonable

estimate,” whereas consequential damages must be proved with “reasonable certainty.”12

In practice, it may be difficult to determine whether a certain type of damage will be

viewed as direct or consequential by a court. Courts can reach different determinations even in

the same opinion. For example, in Roanoke Hospital Ass’n v. Doyle & Russell, Inc.,13 the court

held that additional interest cost resulting from extension of the term of construction financing

due to a contractor delay was a “direct” damage, but added interest cost due to a change in

interest rates during the delay period was a “consequential” damage. According to the court,

additional interest from extension of the loan term was a “predictable result” of the delay,

whereas additional interest due to changes in interest rates during a delay period are caused by

market factors and not the delay itself.

III. Delay Remedies and Risk Management Tools

Each type of delay can cause significant issues for the owner. Depending on the nature

and cause of delay, the primary tools for addressing resulting loss (from the owner’s perspective)

are insurance, contingency funds, and contractual risk allocation provisions, such as liquidated

damages clauses (which are the focus of this paper).

A. Owner’s Risk or Risk Neutral Events – Insurance and Indemnity

Some risks for which the owner maintains primary responsibility and result in “excusable

delay” are best covered through insurance. This is particularly true when the loss due to delay

results from a “fortuitous event” (which may be insurable) as opposed to the purposeful act of

the owner (which may not be insurable). An effective builder’s risk insurance policy will not

only cover replacement cost that may result from a builder’s risk event (fire, flood, named storm,

earthquake, etc.), but can also be crafted to cover the associated costs of resulting delays.14

For example, if a wind storm knocks down a masonry wall during construction, the

builder’s risk policy will normally cover the direct replacement cost of the wall (i.e., labor and

11 Spang Indus., Inc. Ft. Pitt Bridge Div. v. Aetna Cas. & Sur. Co., 512 F.2d 365 (2d Cir. 1975); Suburban Propane, Div. of Nat'l Distillers & Chemical Corp. v. Proctor Gas, Inc., 953 F.2d 780, 790 (2d Cir. 1992) (applying Vermont law).

12 Compania Embotelladora Del Pacificao, S.A. v. Pepsi Cola Co., 650 F. Supp. 2d 314 (S.D.N.Y. 2009).

13 215 Va. 796 (1975).

14 Delays resulting from builder’s risk events would constitute excusable delays based on the general principles outlined above.

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materials). It may be necessary for the masonry contractor to rebuild the wall on an overtime or

second shift basis at substantial additional cost in order to maintain the project schedule. This

cost should be covered by the builder’s risk policy if the owner has purchased “Expediting

Expense” coverage. Expediting Expense coverage, however, is normally limited to the work of

the directly affected contractor (in this example, the mason), and only applies for the time frame

during which the work is replaced. If the project is still behind schedule after replacement of the

masonry wall, and the impacted downstream subcontractors (such as the electrical or mechanical

subcontractor) must proceed on an accelerated basis to complete the project on time, such

acceleration expenses may also be covered if the builder’s risk policy includes an additional

coverage typically known as “Contractors Extra Expense.” In the worst case scenario, the

builder’s risk event is so severe that no amount of overtime or additional workforce can preserve

the completion date, and the project completion is delayed, resulting in a large financial loss to

the owner. This financial consequence can be addressed through the procurement of “Delay in

Completion” coverage under the builder’s risk policy as well.

Other risks are that are initially the responsibility of the owner, as opposed to the

contractor, may be assignable to other project participants, such as the architect, and the owner

may recoup resulting delay costs from the other responsible parties.15 For example, a common

cause of compensable delay is design errors or omissions. For projects that employ a typical

design-bid-build or construction management project delivery system, the architect or engineer is

retained directly by the owner. The architect/engineer prepares plans and specifications which

the owner, in turn, supplies to the contractor with an implied warranty as to their adequacy.16

This allows the contractor to submit its best price in reliance upon the adequacy of the drawings,

with the understanding that it will be paid for additional work that may be required as a result of

errors or omissions in the plans and specifications, including any cost associated with delays

resulting from such errors or omissions.

Although the owner is responsible to the contractor for errors or omissions in the

drawings (as well as resulting costs and delay damages), it does not necessarily follow that the

15 Some onerous contracts attempt to shift risk for owner-caused delays back to the contractor. In many states, this practice is prohibited as a matter of law through so-called “Fairness in Contracting” statutes. For example, Section 4113.62 of the Ohio Revised Code (Construction Contract Provisions Against Public Policy) provides that contract provisions that waive or preclude an owner’s liability for delay damages when the owner caused the delay are void and unenforceable as a matter of public policy.

16 As initially promulgated in United States v. Spearin, 248 U.S. 132 (1918), the Spearin Doctrine provides that the owner impliedly warrants to the contractor the accuracy, completeness, and suitability of plans and specifications. This doctrine has been adopted in nearly every state.

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architect/engineer who prepared the drawings is, in turn, responsible to the owner. This is

because the design professional does not warrant the adequacy of its work product to the owner,

but only agrees to perform in accordance with the applicable "standard of care."17 Thus, a "gap"

arises between the owner's obligation to the contractor and the architect/engineer's obligation to

the owner.

The resulting difference in responsibility, sometimes referred to as the Spearin Gap, is a

frequent source of disputes. To the extent that errors or omissions are due to the design

professional’s failure to meet the applicable “standard of care,” the resulting costs associated

with project delay or acceleration may be recoverable from the design professional and should be

covered by that professional’s professional liability insurance policy, or a separate professional

liability insurance policy put in place by the owner.18 To the extent the errors or omissions do

not rise to the level of “professional negligence” (and thereby fall within the Spearin Gap), or are

otherwise not subject to reimbursement by the design professional or professional liability

insurance, then the risk resides with the owner, and it is incumbent upon a responsible owner to

maintain an adequate financial contingency to deal with such issues.19

B. Contractor’s Risk – Consequential Damages and Liquidated Damages

A primary concern for the owner of a complex construction project is addressing the cost

and other impacts of delayed completion caused by factors within the control or responsibility of

the contractor. As described above, such delays are typically referred to as “non-excusable.” In

the event of a non-excusable delay, significant issues arise as to the nature and extent of the

17 Under industry standard documents and applicable common law, the design professional is only liable to the extent that it fails to meet the professional “standard of care.” See, e.g., AIA Document B201 2007, Standard Form of Architect’s Services: Design and Construction Contract Administration, § 1.2: “The Architect shall perform its services consistent with the professional skill and care ordinarily provided by architects practicing in the same or similar locality under the same or similar circumstances.” From time to time, an owner will prevail upon a design professional to elevate the standard of care provision (for example, by inserting the requirement to “perform to the highest standard of practice”) only to learn that professional liability coverage afforded to the design professional or the project will not provide coverage for the increased exposure.

18 For example, an owner may purchase an Owner Protective Professional Indemnity (OPPI) insurance policy, which indemnifies the owner directly (as the named insured) for professional negligence of the architect or engineer. The OPPI policy responds in excess of the underlying project or entity specific professional liability policies required for the architect. Other options, such as a professional "project policy" are also available. See Jeffrey R. Appelbaum, Insuring and Bonding the Design/Build Project segment of Withstanding the Tremors: the Golden Rules for a Rock-Solid Design/Build Project, ABA Forum on the Construction Industry (January 2007).

19At the outset of every project, it is incumbent upon a responsible owner to create a budget that covers all project “hard costs” and “soft costs.” “Hard costs” are primarily the payments made to the contractor. “Soft costs” include design and all other consultant fees paid by the owner, builder’s risk and other insurance costs paid by the owner, all costs associated with real estate development and acquisition, legal fees, and an owner’s contingency adequate to cover unforeseen conditions, anticipated design changes and other owner risks such as the “Spearin Gap” described above. It is not unusual for “soft costs,” exclusive of real estate costs, to equal or exceed 20% of the overall project budget.

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financial responsibility that the contractor should bear to the owner, and how and when the

resulting delay damages should be calculated and assessed. The most significant resulting costs

are normally within the realm of “consequential damages,” which can be extraordinary in

amount and difficult to predict with accuracy.

The contractor must take primary financial responsibility for such delays and resulting

damages, as there is no insurance or other risk transfer vehicle available for the owner to address

this peril, and it would be cost prohibitive for the owner to maintain a financial contingency

capable of addressing such risk. On the other hand, the contractor will seek to limit its exposure,

particularly to consequential damages, to avoid a disproportionate blow.

1. Consequential Damages

Depending upon the nature of the facility being constructed, the amount of the alleged

consequential damages asserted by the owner can be enormous, especially in comparison to the

contractor’s fee for services. For example, in the case of Perini Corp. v. Greate Bay Hotel &

Casino, Inc.,20 the contractor, Perini, entered into a contract to renovate the Sands Hotel &

Casino in Atlantic City. The guaranteed maximum price of the contract was originally

$16,800,000 (subsequently adjusted to $24,000,000) which included Perini’s fee for services in

the amount of $600,000 plus actual expenses. Ultimately, the project was delivered several

months late, and the owner sought compensation for its lost profits.

After much contentious litigation, including an arbitration award that was ultimately

upheld by the Supreme Court of New Jersey, the owner was awarded over $14,500,000 in lost

profits as consequential damages – almost 25 times the contractor’s fee! This and similar cases

caused an outcry in the contracting community. The potential exposure for excessive damages

was viewed as prohibitory and, consequently, led to the insertion of the “mutual waiver of

consequential damages” provision that first appeared in the 1997 version of the AIA 201 General

Conditions.21 20 610 A.2d 364 (N.J. 1992)

21 The standard AIA consequential damages waiver clause reads as follows:

4.3.10 Claims for Consequential Damages. The Contractor and Owner waive Claimsagainst each other for consequential damages arising out of or relating to this Contract. This mutual waiver includes:

.1 damages incurred by the Owner for rental expenses, for losses of use, income,profit, financing, business and reputation, and for loss of management oremployee productivity or of the services of such persons; and

.2 damages incurred by the Contractor for principal office expenses including the

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The “mutual waiver of consequential damages” is not a perfect solution to this problem.

From an owner’s perspective, the waiver is usually unacceptable because it precludes the owner

from collecting any damages for loss of use, income, profit, and similar items due to the

contractor’s failure to perform. In the absence of a remedy against the contractor, the owner has

no other practical method for addressing this risk. From the contractor’s perspective, accepting

the absolute risk of consequential damages is unacceptable due to the possible magnitude of such

damages, and uncertainty as to the circumstances under which they will be assessed. This

potential impasse can be resolved through the negotiation of a fair and reasonable liquidated

damages provision.22

2. Liquidated Damages

A “liquidated damages” clause reduces the owner’s anticipated delay damages (both

direct and consequential) to a fixed amount. If the project is late due to a non-excusable delay,

the contractor pays liquidated damages to the owner instead of actual damages. When used

properly, liquidated damages can be an effective tool to balance the risks of the parties. To

create a well-functioning liquidated damages provision, it is important to first understand the

legal rules regarding enforceability.

a. Legal Rules and Enforceability

The general rule is that a liquidated damages clause must be a reasonable approximation

of actual anticipated damages, not a penalty designed to punish the breaching party. This rule is

based on the common law principle that damages are intended to compensate a party for actual

losses suffered and proved. Although the law allows the parties the general freedom to contract

on negotiated terms (even if the terms are one-sided), the law does not allow a party to recover

damages designed solely to punish the breaching party. Provisions that seek to hurt the

compensation of personnel stationed there, for losses of financing, business andreputation, and for loss of profit except anticipated profit arising directly fromthe Work.

This mutual waiver is applicable, without limitation, to all consequential damages due to either party’s termination in accordance with Article 14. Nothing contained in this Subparagraph 4.3.10 shall be deemed to preclude an award of liquidated direct damages, when applicable, in accordance with the requirements of the Contract Documents.

22 Another alternative would be to limit the contractor’s liability for consequential damages to a certain amount. However, there is still a significant amount of uncertainty involved in setting the liability limit and deciding what types of damages are included in the limit. A liquidated damages provision avoids this uncertainty and establishes a fixed amount recoverable for any damage resulting from delayed completion.

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breaching party (instead of compensating the injured party) are viewed as unconscionable and

violate public policy.23

Historically, courts generally disfavored liquidated damages clauses as unenforceable

penalties; but that view has softened over the years and today courts routinely allow parties to

recover liquidated damages as long as certain rules are followed.24 Different jurisdictions have

developed specific tests for determining whether a liquidated damages clause is an enforceable

“damages” clause or an unenforceable “penalty” clause. In general, there are two25 basic

elements that are required for an enforceable clause:26

1. Reasonableness : A liquidated damages clause must be a reasonable estimate of

anticipated actual damages. If the amount is unreasonable, disproportionate or

unrelated to the anticipated injury, then courts are more likely to find that a clause is

an unenforceable penalty. This is the most important consideration (from both a legal

and a practical perspective) and is discussed in more detail below.

2. Uncertainty : The actual damages covered by the liquidated damages clause must be

difficult to forecast or prove. The rationale is that the parties are agreeing on a

liquidated damages amount to manage the risk of this uncertainty.

In addition to the basic enforcement rules, there are several other legal considerations to

evaluate when drafting a liquidated damages clause:

i. Sole and Exclusive Recovery : A liquidated damages clause is the owner’s sole and

exclusive remedy for delay. An owner will not be entitled to recover actual damages

even if those damages are greater than the liquidated damages remedy.27 However, if

a liquidated damages clause is found invalid, the owner may recover actual damages 23 Richard A. Lord, 24 Williston on Contracts § 65:1 (4th ed.) (“Under the fundamental principle of freedom of contract, the parties to a contract have a broad right to stipulate in their agreement the amount of damages recoverable in the event of a breach, and the courts will generally enforce such an agreement, so long as the amount agreed upon is not unconscionable, is not determined to be an illegal penalty, and is not otherwise violative of public policy.”)

24 See, e.g., JMD Holding Corp. v. Cong. Fin. Corp, 4 N.Y.3d 373, 381 (N.Y. 2005) (“Today the trend favors freedom of contract through the enforcement of stipulated damage provisions as long as they do not clearly disregard the principle of compensation” and “[t]he rule (against penalty clauses) hangs on, but is chastened by an emerging presumption against interpreting liquidated damages clauses as penalty clauses”) (citations omitted).

25 Other jurisdictions add a third prong requiring that the parties intended for the clause to be just compensation for delay, and not a penalty. See Arrowhead Sch. Dist. No. 75 v. Klyap, 79 P.3d 250 (Mont. 2003).

26 See Restatement (Second) of Contracts § 356 (“Damages for breach by either party may be liquidated in the agreement but only at an amount that is reasonable in light of the anticipated or actual loss caused by the breach and the difficulties of proof of loss. A term fixing unreasonably large liquidated damages is unenforceable on grounds of public policy as a penalty.”)27 See Worthington Corp. v. Consolidated Aluminum Corp., 544 F.2d 227 (5th Cir. 1976).

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based on proof of same. In addition, if the owner specifically lists the types of

damages meant to be covered, the liquidated damages clause only applies to those

damages. Damages outside the scope of the list may be recovered based on proof of

actual damages incurred.

ii. Default or Abandonment : Typically, liquidated damages run from a missed

substantial completion date.28 However, in some cases a contractor is terminated

prior to a substantial completion milestone. In such cases, an owner can recover

liquidated damages during the gap between termination and substantial completion if

(1) the owner acts reasonably in re-procuring the work, and (2) the owner expressly

reserves the right to assert such damages in the event of default or termination.

iii. Concurrent Delays : A concurrent delay is a delay caused jointly by the owner and the

contractor.29 The traditional rule is that the owner cannot recover liquidated damages

for concurrent delays because the fault of the delay is so “inextricably intertwined”

that both parties are excused.30 However, a court may allow a partial recovery of

liquidated damages if the cause of the delay can be apportioned between the owner

and the contractor.31

iv. Burden of Proof : The general rule is that liquidated damages clauses are presumed

enforceable and the burden is on the party seeking to invalidate the clause (normally

the contractor) to prove that the clause violates the established rules.32

28 Liquidated damages can also run from an interim milestone completion date. In addition, liquidated damages can be assessed for events other than delays. For example, sometimes in an engineering or design contract, an owner can negotiate a liquidated damage to apply if a key designer fails to work on the project. The owner can assess the value of that person to the project and develop a reasonable estimate of damages the owner expects to incur from that person’s absence.

29 Concurrent delays have also been defined (from a technical “scheduling” standpoint) as “two or more delays that take place or overlap during the same period, either of which occurring alone would have affected the ultimate completion date.” AACE (Association for the Advancement of Cost Engineering) International, Recommended Practice 10S-90.

30 See Coffey Constr. Co, VABCA Nos. 3361, 3432, 3473, 93-2 BCA (CCH) ¶ 25, 788 (1993) (government’s claim for liquidated damages against contractor was denied because government contributed to the delay).

31 Robinson v. United States, 261 U.S. 486 (1923); Blinderman Constr. Co. v. United States, 695 F.2d 552, 559 (Fed. Cir. 1982) (“Where both parties contribute to the delay neither can recover damage, unless there is in the proof a clear apportionment of the delay and the expense attributable to each party.) (citation omitted). In Aetna Casualty and Surety Co. v. Butte-Meade Sanitary Water District, 500 F. Supp. 193 (D.S.D. 1980) the court found that the contractor, surety and owner had all caused project delays, but the owner was entitled to recovered liquidated damages on an apportionment basis according to the degree of the other parties’ contribution to the delay.

32 See Commercial Real Estate Inv. v. Comcast of Utah II, Inc., 2012 UT 49 (Utah 2012); Arrowhead Sch. Dist. No. 75 v. Klyap, 79 P.3d 250 (Mont. 2003).

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The key issue for enforceability is whether the liquidated damages amount was

reasonable. A minority of jurisdictions will consider whether the liquidated damages are

reasonably related to actual damages sustained by the owner.33 The focus in these

jurisdictions is whether the liquidated damages amount represents just compensation to the

owner in light of the losses actually suffered at the time of breach or litigation.34 This is

sometimes called the “retrospective” or “second look” approach because it allows the parties to

consider the reasonableness of liquidated damages based on the benefit of hindsight.35 If no

actual damages were incurred by the owner, a court applying this approach might not award

liquidated damages since it would result in a windfall to the owner.36

The majority view of the reasonableness test is whether the liquidated damages amount

was reasonable at the time of negotiation of the contract.37 Under this analysis, an owner may

be entitled to recover liquidated damages even if no actual damages result.38 The rationale is that

the parties enter into a calculated risk by agreeing to liquidated damages provision and must

abide by their agreement regardless of the outcome.39 33 See, e.g., Bear Stearns Gov't Sec., Inc. v. Dow Corning Corp. (In re Dow Corning Corp.), 419 F.3d 543, 549-550 (6th Cir. 2005) (under Texas law, a liquidated damages clause is enforceable if: (1) the anticipated damages are difficult or impossible to estimate, (2) the liquidated damages amount is a reasonable forecast of the amount necessary to render just compensation, and (3) the liquidated damages are not disproportionate to actual damages measured at the time of breach).34 Id.

35 See Heckman, Harper and Edwards, Benjamin. Time is Money: Recovery of Liquidated Damages by the Owner. The Construction Lawyer, 28 (2004).

36 See Bear Stearns at 549-550 (“…if the liquidated damages are disproportionate to the actual damages, the clause will not be enforced and recovery will be limited to the actual damages proven.”) (citations omitted).

37 Ridgeley v. Topa Thrift & Loan Ass’n, 953 P.2d 484 (Cal. 1998) (the amount set as liquidated damages “must represent the result of a reasonable endeavor by the parties to estimate a fair average compensation for any loss that may be sustained.”) (citation omitted).

38 Southwest Engineering Co. v. United States, 341 F.2d 998, 1002 (8th Cir. 1965) (“Where parties have by their contract agreed upon a liquidated damage provision as a reasonable forecast of just compensation for breach of contract and damages are difficult to estimate accurately such provisions should be enforced. If in the course of subsequent developments, damages prove to be greater than those stipulated, the party entitled to damages is bound by the liquidated damage agreement. It is not unfair to hold the contractor performing the work to such agreement if by reason of later developments damages prove to be less or nonexistent. Each party by entering into such contractual provision took a calculated risk and is bound by reasonable contractual provisions pertaining to liquidated damages.”)39 Some public entities have established formula-based liquidated damages provisions in form construction contracts. Ohio, for example, recently established formula-based clauses for use on public projects (the forms are available online at http://ofcc.ohio.gov). The Ohio provision (like many state promulgated forms) includes a schedule of liquidated damages amounts that increases with contract value. The Ohio general contracting form contains only one required recital, i.e. that the actual damages the State expects to incur as a result of a contractor-caused delay are difficult if not impossible to determine. Other state forms (specifically, for construction management at risk and design/build project delivery) contain a recital stating that the liquidated damages amounts are a reasonable approximation of the State’s anticipated damages (it is unclear why this recital was not included in the general contracting or multiple prime forms). A previous iteration of the general contracting form from 2012 included damages of $50,000 per day for contracts over $50 million with no “cap” on cumulated damages (that amount has since been reduced to $15,000 per day for all forms). The forms also require contractors to waive their right to challenge the enforceability of the liquidated damages clause. (Prior versions expressly permitted the State to recover actual

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Establishing a record may become a crucial part of developing an enforceable liquidated

damages clause. Courts regularly look outside the corners of the contract for evidence of the

parties’ negotiations and the calculation of the liquidated damages amount,40 and may invalidate

a clause in absence of such evidence.41

b. The Liquidated Damages Amount – Assessment and Negotiation Tips

Based on the above, a key issue in drafting a liquidated damages clause is the

determination of a reasonable valuation of the damage amount. While attorneys frequently leave

this calculation entirely to their clients, it is a good practice for counsel to review the valuation

process to ensure that the liquidated amount is reasonably related to actual anticipated damages

and that the negotiation and calculation of the amount is properly documented in the event of a

challenge. The following section discusses the evaluation process and some considerations for

establishing an appropriate liquidated damages amount.

i. Initial Calculation - Evaluating the Owner’s Potential Loss

From the owner’s perspective, the first step in crafting an effective liquidated damages

provision is to perform a financial analysis to determine the losses likely to be sustained in the

event of project delay.42 Typically, this involves the calculation of lost net revenue that would

result from the inability to use the newly constructed facility as anticipated, plus additional

expenses required to use an alternate facility (or make other arrangements) during the delay

period. Other expenses might include additional design and consulting fees, additional

construction management and project management fees, extended overhead and administrative

costs, and daily interest on capital costs.

Returning to the specific example of a professional sports facility, a delay to timely

opening may result in the loss of premium seating income, general admission income,

concessions income, retail income and sponsorship income, plus rental expense to play in an

alternate facility, additional expenses for conducting operations in the alternate facility, expenses

damages from the contractor in addition to liquidated damages, however this provision has been deleted from more recent iterations of the forms.) Since the forms are relatively new, there is no case law yet testing the validity of these provisions.40 S.O.G.-San Ore-Gardner v. Mo. Pac. R.R. Co., 658 F.2d 562 (8th Cir. 1981) (finding that liquidated damages not negotiated by the parties did not represent a bona fide agreement).

41 Boone Coleman Constr., Inc. v. Village of Piketon, 13 N.W. 3d 1190 (Oh. App. Ct. 4th Dist. 2014) (court invalidated a liquidated damages provision after finding that there was no evidence in the record to justify a rate that resulted in liquidated damages of nearly one-third the total contract value) (appeal pending, 2014-Ohio-2614, 17 N.E.3d 598 (Ohio 2014)).

42 This is the same exercise that the owner performs to price “Delay in Completion” coverage under a builder’s risk policy, since the cost of delay to the owner is the same regardless of cause.

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for advertising the change of venue and similar costs. Moreover, a professional sports team

owner might determine that the inability to commence the season with its grand opening event

will have a ripple effect resulting in lost advertising and other revenues for the entire season.43

It is also incumbent upon the owner to determine the timing of its losses and consider

whether different liquidated damages amounts should be used for different triggering events. For

some facilities, the loss associated with each day of delay has the same approximate value. This

may be the case for a storage facility where the same rent is paid for an alternate facility for each

day of delay and all other additional costs are incurred on a constant basis. For other facilities,

the loss is highly variable.

For example, assume that the substantial completion date for the hypothetical stadium

project is 30 days prior to the first event at the facility-- the so-called “home opener.” Liquidated

damages associated with failing to meet the substantial completion date may be set at $25,000

per day, because that is the approximate cost that the owner must absorb to compress its move-in

effort prior to the home opener if the completion of construction is extended. However, if

completion is not achieved by the home opener, and the event has to be canceled or the locale

changed, the liquidated damage for missing that single game may soar to $2 million or more.

Thereafter, the additional liquidated damage for missing each succeeding home game may be

several hundred thousand dollars based on the anticipated extended costs for use of an alternate

facility and the related transition costs associated with moving back to the stadium once the

project is completed.

The key (from both a practical and a legal perspective) is to create a liquidated damages

amount that reasonably approximates the actual damages the owner expects to suffer. In the

stadium example, separate liquidated damage rates are created for each event so that the rate

amount is reasonably aligned with actual damages the owner expects to incur at each milestone.

Establishing a single rate based on substantial completion alone could either grossly

underestimate or overestimate the liquidated damages amount or (in the worst case) invalidate

the clause from a legal perspective.

ii. Limitations - Market Conditions and Liquidated Damages Caps

43 For example, for one recent project, an NFL owner determined that missing the home opener in a new stadium facility would decrease net revenues by 9% for the remainder of the year, in addition to losses for the home opener itself.

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Once the potential loss to the owner is determined for each key milestone using a

reasonable (and legally defensible) formula, the owner should conduct an independent

assessment of market conditions to determine the maximum amount of such damages that can be

absorbed by the contractor without adverse financial consequences for the project. Aside from

the risk that unreasonably high liquidated damages could be challenged from a legal basis,

imposition of excessive liquidated damages will impact contract pricing and/or dissuade bidders

from engaging whatsoever. While the contractor will agree to absorb a certain amount of

liquidated damages, it will also attempt to mitigate that risk by passing some or all of those

damages through to its subcontractors, who may ultimately be responsible for project delays.

The subcontractors, in turn, will increase their bid prices to offset some of the risk, and those

increases will ultimately be reflected in an increased overall contract sum.44 Thus, the result of

an onerous contract that too aggressively assesses liquidated damages may be to greatly increase

the contract price to the detriment of the owner.

Putting aside the issue of subcontractor pricing, sophisticated contractors in the current

market place often object outright to unlimited exposure to liquidated damages. Different

categories of projects possess highly distinct risk profiles, and the amount of delay risk that a

contractor is willing to absorb varies based upon project type and the amount of profit that the

contractor expects to earn. For community impact projects, such as stadiums, convention

centers, hospitals, museums, major hotels, corporate headquarters or high rise residential towers,

the contractor is often a Construction Manager at Risk performing work on an open book,

Guaranteed Maximum Price (GMP) basis, and the total amount of liquidated damages is

typically capped at a percentage of the overall “Fee” that the Construction Manager can earn for

the project. “Fee” is generally defined as profit plus home office overhead, and for a major

project, the Construction Manager’s fee may be in the range of 2 to 3% of the costs of the work

for which the Construction Manager is responsible.

Returning to the stadium hypothetical, assume the Construction Manager’s GMP

includes $400 million in projected costs of the work, and a Fee of 2.5% or $10 million. The

Construction Manager may propose that liquidated damages be capped at 50% of the Fee, or $5

44 This makes the “cost” of a liquidated damages provision difficult to fully ascertain, even on open-book Guaranteed Maximum Price contracts, as the price increase is hidden in lump sum subcontractor bid prices. It should also be noted that any increase in the price of a subcontractor, or sub-subcontractor, is multiplied by the time it reaches the owner, since upper tier contractors mark up the pricing received from lower tier contractors (charging profit, overhead and insurance/bond costs to the subcontractor cost).

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million, while the owner may counter with a cap of 100% of the Fee. The ultimate resolution

may occur somewhere between those two positions.45

From the owner’s perspective, an obvious concern raised by a cap on liquidated damages

is whether the contractor will be sufficiently incentivized to complete the work once the cap is

reached. If, in the example above, liquidated damages are capped at $5 million, and assessed at

the rate of $2 million for missing the home opener and $600,000 for each subsequent home

game, then once six games are missed, no more damages can be assessed for delay. What if the

contractor simply “throws in the towel” at that point and abandons the effort, pulls necessary

staff from the job, or otherwise does not proceed in good faith to complete the work? While the

dramatic loss of reputation that would occur to the contractor might certainly be a disincentive to

such conduct, a well-crafted contract should premise any liquidated damage cap upon an

affirmative duty to pursue the work in good faith.46

iii. Balancing the Risk of Inadequate Liquidated Damages

In some cases, an inexperienced owner or lawyer may fall into the trap of establishing an

artificially low liquidated damage amount that can inadvertently benefit the contractor to the

extreme detriment of the owner.

For example, on a recently negotiated multi-million dollar infrastructure project,

liquidated damages were set by contract at $1,500 per day, despite the fact that timely

completion was of paramount importance to the owner. Although the contract established a

March 1 completion date, the successful bidder had no intention of ever meeting that date.

Rather, the bidder planned on completing on May 1 (60 days later) and simply increased its bid

by $90,000 to absorb the anticipated increased cost of the liquidated damages assessment. This

amount was far less than the cost of performing certain work in winter conditions that would

have been required to achieve the earlier contractual completion date.

Unfortunately, the impact of the delay to the owner was far greater than the liquidated

damage amount assessed, but this fact had not been properly evaluated at the time the contract

was prepared, so there was little the owner could do to prevent late completion or its ensuing

financial loss. The owner was limited to the amount of liquidated damages and was legally and

45 When the author started in this business, liquidated damages were rarely capped. In the early 90’s, a cap at 100% of Fee was common. In the last few years, sophisticated construction managers have requested that liquidated damages for delay be capped at 50% of Fee, and negotiations have typically led to results between 50 and 100% of Fee, depending on other financial variables.

46 A sample clause is included below in Section III.B.2.c.iii.

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contractually prohibited from recovering its actual damages, even though they were far in excess

of what the parties negotiated.

A properly negotiated liquidated damages clause should balance the risks of both parties

and attempt to prevent a windfall to either. While market considerations may necessitate

reasonable limits on contractor liability for liquidated damages, an owner must take care not to

set an amount that is too low to properly balance and mitigate risks of delay.

c. The Liquidated Damages Clause

i. Drafting Considerations and Samples

As discussed above, liquidated damage provisions are subject to challenge in every

jurisdiction if they do not satisfy certain legal standards primarily established by case law.

Accordingly, it is useful to include recitals within a liquidated damages provision that anticipate

and address the basic legal tests for enforceable clauses. As an example, an effective clause may

include the following recitals:The Parties acknowledge and agree that because of the unique nature of the Project and the expense involved in moving to a substitute facility, it is difficult or impossible to determine with precision the amount of damages that would or might be incurred by Developer as a result of Construction Manager's failure to achieve Substantial Completion on or before the Scheduled Substantial Completion Date. It is understood and agreed by the Parties that:

(i) Developer shall be damaged by failure of Construction Manager to meet such obligations, (ii) it would be impracticable or extremely difficult to fix the actual damages resulting therefrom, (iii) any sums that would be payable under this paragraph are in the nature of liquidated damages, and not a penalty, and are fair and reasonable, and (iv) such payment represents a reasonable estimate of fair compensation for the losses that may reasonably be anticipated from such failure, and shall, without duplication, be the sole and exclusive measure of damages with respect to any failure by Construction Manager to achieveSubstantial Completion on or before the applicable Substantial Completion Date.

This provision shall survive Final Completion or termination of this Agreement. All liquidated damages referenced in this paragraph are collectively referred to herein as the “Delay Liquidated Damages.” The Delay Liquidated Damages shall be payable upon demand at the time they accrue. The Delay Liquidated Damages are intended to be Developer's sole and exclusive remedy for all delay related damages suffered by Developer, but shall not be deemed to cover the cost of completion of the Work or non-delay related damages resulting from Defective Work.

The clause covers each of the three major factors considered by courts when determining an

enforceable clause. Specifically, the clause establishes (1) the reasonableness of the liquidated

damages amount, (2) the difficulty of determining actual damages with precision, and (3) the

parties’ intention that the liquidated damages are intended to be compensation and not a penalty.

It also establishes the agreement that liquidated damages are intended to be the sole and

exclusive remedy for delay (the default position) and includes language stating that the

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liquidated damages may be assessed at the time of accrual (for enforcement during termination

or default scenarios). In addition, damages that are not related to delay are carved out from

operation of the clause. This carveout is typical and focuses the scope of the clause on damages

for delay.

However, it is important to note that there is no “magic” language for an enforceable

clause. Courts will look beyond stock recitals such as “not a penalty” or “reasonable estimate of

owner’s delay damages.”47 On the other hand, some courts have even enforced provisions that

included the term “penalty,” despite the well-established rule against penalty clauses.48

Accordingly, in addition to including boilerplate recitals, it is helpful to include a detailed

explanation of how the liquidated damages are to be assessed. As an example, the following is a

detailed liquidated damages calculation that was used on a recently completed major-league

baseball stadium:Liquidated Damages.

If the date of Substantial Completion of the Work occurs after the Scheduled Substantial Completion Date, then Construction Manager shall pay to the Team (by direct payment or offset from the Contract Sum) the following amounts:

(a) Two Million and No/100 Dollars ($2,000,000.00) if the Team is unable to hold or conduct at the Project the Home Opener as scheduled (hereinafter referred to as the “Home Opener Liquidated Damages”) as a result of Construction Manager's failure to achieve Substantial Completion of the Work by the Scheduled Substantial Completion Date provided that the Home Opener is not scheduled before ______.

(b) A lump sum of Six Hundred Fifty Thousand and No/100 Dollars ($650,000.00) (hereinafter referred to as the “Game Liquidated Damages”) for each major league regular season home baseball game (a “Game”) (other than the Home Opener) that the Team is unable to hold or conduct at the Project as a result of Construction Manager's failure to achieve Substantial Completion of the Work by the Scheduled Substantial Completion Date.

(c) The amount per calendar day (hereinafter referred to as the “Daily Liquidated Damages”) for each day Construction Manager fails to achieve Substantial Completion beyond the Scheduled Substantial Completion Date, as it may be adjusted as provided in the Contract Documents, is as follows:

(i) within the first fifteen (15) days following the Scheduled Substantial Completion Date (“First Delay Period”), the Daily Liquidated Damages shall be zero;

(ii) within the period beginning on the sixteenth (16th) day and ending on the thirtieth (30th) day following the Scheduled Substantial Completion Date (“Second Delay Period”), the Daily Liquidated Damages shall be Twenty Thousand and No/100 Dollars ($20,000.00) per day;

47 Olsen v. Tyre Gen. Contr., Inc., 907 A.2d 146 (Del. 2006).

48 Id. (reversing the decision of the trial court after concluding that the trial court over-relied on the appearance of the word “penalty” in the liquidated damages clause).

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(iii) within the period beginning on the thirty-first (31st) day and ending on the sixtieth (60th) day following the Scheduled Substantial Completion Date (“Third Delay Period”), the Daily Liquidated Damages shall be Twenty-Five Thousand and No/100 Dollars ($25,000.00) per day;

(iv) following the Third Delay Period, the Daily Liquidated Damages shall be Thirty Thousand and No/100 Dollars ($30,000.00) per day.

(d) The Daily Liquidated Damages, Home Opener Liquidated Damages and Game Liquidated Damages are not cumulative and when a scheduled Game or Home Opener is not played, only the Game Liquidated Damages or Home Opener Liquidated Damages, respectively, shall be assessed to the extent permitted on that day. All liquidated damages referenced in this Section are collectively referred to herein as the “Delay Liquidated Damages.” Construction Contingency shall not be used to pay Delay Liquidated Damages.

This clause links varying liquidated damages amounts to specific delay events. This kind of

framework (when supported by evidence verifying the calculation of the phased sums) will help

the owner establish that the clause was based on a reasonable estimation of actual anticipated

delay damages.

ii. Liquidated Damages and Construction Contingency

Note that the clause in Section III.B.2.c.i restricts the Construction Manager’s ability to

use contingency to pay liquidated damages. The question of whether contingency can be used to

offset liquidated damages is only applicable to contracts performed by a Construction Manager

on an “at risk” and open-book basis. On a lump sum contract, contingency is built into the total

bid, and the owner has no method (or need) to track a contractor’s expenditures from the

contingency. A Construction Manager's contingency, on the other hand, is an important risk

management tool for both the owner and the Construction Manager. It allows the parties to

establish a “set aside” sum to pay for certain types of unanticipated work that are normally

within the Construction Manager's realm of responsibility, but which also may arise out of

reasonable but misaligned business assumptions. For example, the contingency can be available

to pay for extra work due to estimating errors, subcontractor buyout losses, subcontractor

coordination issues, gaps in subcontractor buyout, or overtime.

The contingency is available on an as-needed basis; if contingency funds are unused at

the end of a project, the funds are normally credited to the owner, although the Construction

Manager may share in a portion of the savings or be otherwise incentivized. As a general

proposition, the Construction Manager's contingency is intended to cover a wide range of risk

and should not be exhausted for liquidated damages. Stated another way, if three months are left

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to complete the project and ample contingency remains that would be returned to the owner if

unused, the owner would not want the Construction Manager to stop pressing for completion

because it can simply accept liquidated damages and use the contingency that would otherwise

be returned to the owner to pay for them. For this reason, the ability to use contingency to pay

for liquidated damages is normally completely or severely restricted, or capped.

The extent to which it is permitted varies from project to project, but the negotiation of

the Construction Manager’s Fee, liquidated damages, and amount and use of contingency

(including shared savings, and extent of any incentive bonuses) are normally tied together. In

the stadium example above, if the owner agreed to allow the Construction Manager to apply a

portion of its Construction Contingency to satisfy liquidated damages, the owner might use the

following clause:

The Delay Liquidated Damages shall be payable upon demand at the time they accrue, except that Construction Manager has the right to apply up to Two Million and No/100 Dollars ($2,000,000.00) of the Construction Contingency or other amounts by which the Contract Sum is less than the GMP to satisfy Delay Liquidated Damages that may be assessed against Construction Manager as long as Construction Manager has proceeded in good faith to attempt to achieve Substantial Completion.

iii. Liquidated Damages Cap

In the event that an overall “cap” or limitation of liability with respect to liquidated

damages is negotiated, the following is an example of a contract provision that may be included:If Construction Manager or its surety continues to diligently pursue Substantial Completion of the Work, then the cumulative amount of the Delay Liquidated Damages shall not exceed the maximum total amount of three quarters (3/4) of Construction Manager's Fee (the “LD Cap”), and Owner waives any recovery for delay in excess of the LD Cap. If Construction Manager abandons the Work without right under this Agreement, or fails to diligently pursue Substantial Completion in good faith (except when such failure is due to the Agreement having been terminated for reasons other than Construction Manager's and surety's abandonment of the Project), then there shall be no LD Cap.

This provision is premised upon the Construction Manager's obligation to diligently pursue the

work in good faith in order to guard against the owner’s concern that the Construction Manager

will have no incentive to complete the project after the liquidated damages cap has been

achieved.

iv. Interplay Between Liquidated Damages and Waiver of Consequential Damages

Another important drafting consideration involves the interplay between consequential

damages waivers and liquidated damages provisions. As noted above, a liquidated damages

clause can be used to balance the effects of a complete mutual consequential damages waiver.

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However, the liquidated damages provision may not work for this purpose if the delay damages

covered under liquidated damages are considered consequential damages that are waived in the

mutual consequential damages waiver clause. Therefore, it is important to coordinate the

drafting of both provisions and include appropriate carveout language in the consequential

damages waiver to protect the owner’s right to recover the negotiated liquidated damages

amount.

The standard AIA clause for mutual waiver of consequential damages includes a simple

carveout addressing this issue.49 Here is another example of a more detailed provision specifying

the scope of the waiver and identifying a litany of excluded damages from the scope of the

consequential damages waiver:This mutual waiver includes:

1.1.1.1. damages incurred by Owner for rental expenses, for losses of use, income, profit, financing, business and reputation, and for loss of management or employee productivity or of the services of such persons; and

1.1.1.2. damages incurred by Contractor for principal office expenses including the compensation of personnel stationed there, for losses of financing, business and reputation, and for loss of profit except anticipated profit arising directly from the Work and earned by Contractor in accordance with the Contract Documents.

Nothing in this Section shall preclude any recovery of the following:

1.1.1.3. Delay Liquidated Damages in accordance with the Contract Documents;

1.1.1.4. third-party claims and other damages, claims, costs or expenses arising under, or covered by, Section X (Indemnification);

1.1.1.5. claims, damages, costs or expenses relating to violations of Applicable Law;

1.1.1.6. claims, damages, costs or expenses relating to fraud, negligence, willful misconduct;

1.1.1.7. breach of any obligations relating to patent infringement or protection of intellectual property or confidential information;

1.1.1.8. claims, damages, costs or expenses covered by any insurance that Contractor is required to carry by the terms of the Contract Documents; or

1.1.1.9. claims, damages, costs or expenses caused by Contractor’s refusal to perform under the Contract Documents, including, Contractor’s refusal to perform any express warranty under the Contract Documents or any obligation arising upon a termination for breach of contract under the Contract Documents.

Negotiating these carveouts is another important part of the process of managing the risk of

delay damages during the contract drafting phase.49 See footnote 21, supra.

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v. Interplay Between Liquidated Damages and Performance Bond

As part of negotiating and drafting the liquidated damages clause, the owner should

consider and assess available sources for collecting liquidated damages in the event that the

contractor cannot pay. Bonds can provide a potential source of recovery for the owner in this

event.

Performance bonds obligate a surety to guarantee the proper and timely completion of the

contractor’s work, or otherwise compensate the owner for the contractor’s default. Whether

liquidated damages (or consequential damages) are recoverable under a performance bond

depends on the language of the bond and the law of the applicable jurisdiction. The bond must

either properly incorporate contract language that includes a liquidated damages provision, or

expressly permit the recovery of liquidated damages on the face of the bond.50 However, it is

important to note that an owner’s recovery from the bond will be limited to the penal amount of

the bond, which is normally set at 100% of contract value.51

The liquidated damages provision included in the owner/contractor agreement is

typically incorporated into the contractor/subcontractor agreement by a so called “flow-down”

provision. If the subcontractor defaults, the subcontractor’s performance bond may provide

protection to the contractor for recovery of liquidated damages as described above. In the

alternative, if the contractor possesses Subcontractor Default Insurance, that policy will normally

cover liquidated damages properly assessed against the defaulting subcontractor, subject to a

sublimit set forth in the policy.

IV. Conclusion

An important role of the transactional lawyer representing a sophisticated owner on a

complex construction project is to assist the owner to identify sources of project risk and develop

tools that reasonably abate, allocate or transfer that risk. Among the various important tools

described in this paper, the effective use of a commercially reasonable liquidated damages

provision is a particularly effective risk management device that can optimally balance the

interests of both the owner and the contractor with respect to the issue of contractor-caused

delay.

50 Land Mine Enters. v. Sylvester Builders, Inc., 1989 U.S. Dist. LEXIS 5701 (S.D.N.Y. May 22, 1989).

51 Board of Supervisors v. Safeco Ins. Co., 226 Va. 329 (Va. 1983).

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