Risky Business: Implied Warranty of Design in Construction Manager at Risk Agreements
Construction and Procurement Law News, Q4 2015
In Coghlin Electrical Contractors, Inc. v. Gilbane Building Company, the Massachusetts Supreme Court explored the applicability and scope of an implied warranty regarding the sufficiency of designs and specifications in the context of a construction manager at risk contract with a public owner. In Coghlin, a contractor entered into a guaranteed maximum price (“GMP”) construction manager at risk (“CMAR”) agreement with a public owner to build a psychiatric facility. Under the contract, the owner held design responsibility, while the contractor/CMAR was slated to provide consultative services and recommendations regarding that design. Once design was approximately 60% complete, the CMAR would begin construction of the facility.
The CMAR hired an electrical subcontractor to complete the electrical work on the project. The project encountered delays when the electrical subcontractor discovered that the design did not adequately account for the installation of overhead mechanical and electrical work in the second building in the facility. The design issues and other delays caused the electrical subcontractor to suffer impacts, and the subcontractor filed suit against the CMAR for damages associated with these impacts. The CMAR, in turn, filed a third-party complaint against the project owner alleging breach of the implied warranty that the designs and specifications would be free of defects.
The trial court dismissed the CMAR’s third-party complaint, concluding that the CMAR accepted some of the design responsibility making the implied warranty inapplicable to the proceeding. On appeal, the Supreme Court of Massachusetts disagreed with the trial court and reversed the ruling below. The court concluded that while the CMAR arrangement altered the relationship of the owner and contractor, it did not so alter it as to completely discharge the owner’s implied warranty of the sufficiency of design. Instead, the court determined that the implied warranty existed between the owner and CMAR, but on a limited basis. In the typical design-bid-build context, an implied warranty of design covers damages caused by design defects where the contractor has acted in good faith reliance on the design. In the CMAR context, the court added an additional requirement that the contractor must act reasonably in light of its own design responsibilities as the CMAR.
The good faith reliance standard requires a contractor that encounters obvious defects in the design to take steps through investigation and owner inquiries to resolve gaps in the design documents before an implied warranty of design is applicable. The additional duty to act reasonably imposed by the court requires that a contractor acting as a CMAR must show that its reliance on an owner’s design was reasonable in light of the CMAR’s own responsibilities. The greater the design responsibility of the CMAR, the harder it becomes for the CMAR to demonstrate reasonable reliance on the owner’s design.
In the context of the Coghlin case, the court noted that the use of the GMP pricing mechanism and the CMAR’s responsibility for consulting on design and making design recommendations demonstrated some acceptance of design risk. The use of a GMP suggested that the owner and CMAR expected that the CMAR would price some of the risk of design defects into the overall price, but the court noted that the CMAR agreement was executed when only 60% of the design was complete. The CMAR could not be expected to account for all design risk when nearly 40% of the design was incomplete at the time of contracting. Additionally, the court determined that the owner retained control over the design and was under no obligation to accept recommendations from the CMAR. The court concluded that these factors weighed in favor of creating a limited implied warranty of design, but the intensely factual analysis of this particular contract arrangement suggests that not all CMAR agreements will be addressed similarly.
The court in Coghlin described the construction management at risk arrangement as an evolving construction delivery method that creates uncertainty around the applicability of traditional construction law principles and the interpretation of contract documents. Notwithstanding the direct applicability of this case only in Massachusetts and the benefits to this method of construction contracting, contractors and owners may want to account for the inevitable blurring of the design responsibility and draft such agreements with a focus on both the express terms of the contract and any duties that may be implied from the express undertaking. When the CMAR involves subcontractors in the pre-finalization review process, the blurring becomes more pronounced, and the parties should, to the extent feasible, draft contracts that address the resulting risks.