The cost of certain critical construction materials has risen exponentially. Global steel production dropped in response to COVID-19, decreasing supply, increasing price. Engineered wood products are scarce, with material suppliers rescinding prior commitments and prioritizing projects. Certain markets face a shortage of aggregate, driving up the price of concrete. For contractors with ongoing projects on a T&M basis, the material price escalation is secondary to the schedule delay. For contractors with ongoing projects on a lump sum or GMAX contract, extended delivery delays in conjunction with price escalation threatens not just the profitability of the project, but the viability of the company, particularly if liquidated damages are at issue. For contractors negotiating future projects, obtaining a price escalation clause will be difficult, but very necessary given the current price volatility of certain materials.
While today’s circumstances are unique (to paraphrase Monty Python: nobody expects a global pandemic), there are existing mechanisms designed to address today’s circumstances. Most, if not all, construction contracts have a force majeure provision. A force majeure provision excuses a contractor’s untimely performance for unanticipated events typically identified in the contract (e.g., unusual delays in delivery outside the contractor’s control). A force majeure provision typically entitles the contractor to an extension of time, but some permit an adjustment in price under certain circumstances. For contractors under T&M contracts, an extension of time may be all they need. For others, time is only half the issue.
For contractors with current projects under a lump sum or GMAX contract whose force majeure provision does not allow for price adjustment, current material price escalations will quickly put a profitable project in the red. Although no one wants to go back to their customer to ask for more money due to increased material costs, sometimes doing so is not only necessary, but justified. There are ways to ask for relief without straining the relationship to the breaking point:
- Communicate, communicate, communicate in a timely manner. Follow the notice provisions in the contract for unforeseen circumstances either as a force majeure event or request for change order. Even if the contract only allows for an extension of time, that is better than nothing and starts the dialogue not only about schedule impact, but also the price escalation at the root of the issue. Perhaps an alternative material can be approved and sourced to avoid the delay and minimize the total impact.
- Provide sufficient information to allow the other side to make a similar request up the chain of contracts, to the owner and eventually the lender. At the end of the day, everyone wants a successful project. The chain of contracts is only as strong as its weakest link. If the chain breaks, the project may fail to everyone’s detriment.
As for projects in the pipeline, material escalation clauses are necessary, but will not be easy to obtain. Typically, upstream parties, be it owners or general contractors, are looking for price certainty in an uncertain market. A material price escalation clause allows the parties to adjust the contract price based on an agreed-upon metric. For example, the clause could allow for price adjustment when the price quoted at bid time exceeds an agreed-upon threshold of the price at the time of order or delivery. Conversely, and as an incentive to allow the clause, it could also contain a savings mechanism in the event the specified material decreases in price by a certain threshold. At the end of the day, without an escalation clause, contractors will likely inflate their pricing to protect against the risk of future increases, driving up the cost of construction in general. By contrast, with the promise of a material price escalation clause, contractors can bid based on current market pricing rather than inaccurate forecasts of material pricing.
No matter where you are in the project or chain of contracts, today’s volatile material pricing will affect you in some manner. Timely utilizing existing contractual mechanisms and anticipating material price escalation in future projects, will be critical to a successful project.