In George R. R. Martin’s “Game of Thrones” books,1 each of the many different lands or houses have mottos or mantras unique to their region’s attributes. In the North, where it is always cold and getting colder, they repeat the mantra, “winter is coming,” as an omen of bad things to come.
That saying is also a truism – the next winter is always coming, even during the current winter – and it is intended to be a constant reminder to be ready for winter’s inevitable return. The same seems to be true when one hears about a recession. The next one is always coming, and it is a good idea to be prepared.
It is difficult to read any current financial news without seeing dire predictions of imminent recession.2 Rising interest rates and prices are changing the economics and viability of real estate development and construction and many industry leaders are acting now, including anticipatory reductions in force and deferring speculative development.3
Winter is indeed coming. Is this one different? If it arrives as predicted, it will come on the heels of a global pandemic and its impacts on the availability of labor and materials. It also comes after a fairly long period of growth. Both lawyers and clients may be a bit out of practice in the arts of recession mitigation and survival.
Construction and real estate lawyers and their clients have been busy for more than a decade with development, design, construction, expansion, contracts and growth. Disputes arose and were litigated but most resulted from scope, pricing and change order disagreements, or because something bad happened – rather than from the limited financial resources of one of the parties.
The COVID-19 pandemic and resulting supply chain challenges have tested even the most financially capable parties over the last two years. Most recently, there have been significantly more mechanics liens, receiverships and bankruptcies than we’ve seen in some time.
We have also seen an increase in the frequency of late-in-the-project change orders and disputes, many of which have common themes of one or more of parties’ challenges with money, labor supply, project management or other resources.
Is winter coming? No doubt. Here are a few things to think about for this next storm.
Nearly every call from a client involves the description of an issue, problem or challenge, followed by a question, “Can I do that?” and, from the lawyer, the question of “What does the contract say?”
In early 2020, industry parties scoured their contracts for force majeure and change order provisions to see how to work with the coming pandemic mitigation costs and delays. Some Eric Singer found relief in the contracts while others did not, though most projects seemed to keep moving.
The discussions may have a different tone or urgency when the economy changes.
Construction lawyers have their own motto or mantra, “Read the freaking contract.” The contract is the starting point for all analysis, discussions, disputes, rights and remedies.
This includes amendments to the contract, which, in the construction industry, are usually in the form of change orders. If you have signed a change order, it has amended the contract and – usually – is the final and binding expression of agreement on all work or changes covered by the change order.
Owners will argue for treatment as an accord and satisfaction and fully integrated agreement concerning all work, costs and time referenced in the document.
Contractors who discover they’ve left something out or that there were other impacts to the change may have a difficult time recovering if the face of the change order is clear – even more so, if the contract provides that each change order is the final expression of the deal reached on the change.
With winter coming, all parties to a change order must be careful about the language of the change. If some costs or timelines are not yet known or will be addressed in a later change order, this change order should say so expressly.
Owners and developers may have become sloppy with collection or scrutiny of lien waivers, particularly for the lower tiers and material suppliers. Contractors may have relied on customer relationships, good will, promises and enough money to go around rather than carefully watching the required timing for mechanics liens in the state where the work is occurring.
Everyone involved in design, construction and development should check in with their lawyers to audit and tighten payment procedures to protect their respective rights.
For owners and developers, it will be too late to clean up missing lower tier waivers once you’ve funded a draw request and a lien notice arrives.
For contractors and material suppliers, make sure you have a procedure to calendar lien deadlines and make it someone’s job to identify payment lag, gather the required documents and get them to the lawyers sufficiently in advance of the lien or notice deadlines.
Your internal procedural audit should include or consider that there have been statutory changes since the last recession. Retainage reform and prompt payment statutes have been amended in many states in recent years. Make sure you know the current law in the state where your project is being constructed.
Does your payment process comply with the current statutory deadlines? Are you holding more retainage than is legal in the project’s state? If so, you may be giving the project’s specialty contractors and suppliers additional remedies like interest, attorney fees or the right to stop work.4 And if you are a contractor, specialty contractor or material supplier, look into whether you have such additional remedies
Last, keep in mind that mechanics liens may not be a complete remedy, particularly in a falling economy. Liens are collateral for a debt and work best when the property has sufficient equity to pay off the construction loan and all the lien claimants. When property values have fallen or there is insufficient equity in the incomplete project when it runs out of money, your lien may be undersecured.
Every state’s law treats lien priorities differently, but insufficient collateral generally means that nobody is getting paid in full. If you are an owner or developer, consider performance and payment bonds or subcontractor default insurance as well as available title insurance products to keep your project protected.
If you are a contractor, specialty contractor or material supplier, ask whether there are payment or performance bonds and get copies before starting work or making deliveries. For large or international material orders, consider letters of credit or bond to secure payment.
Winter and recessions are periodically upon us. Preparation and planning can help you hone the arts of mitigation and survival.