A recent decision by a Massachusetts Superior Court judge in the case Certified Power Systems, Inc. v. Dominion Energy, highlights the danger in suspending payments to a contractor or subcontractor, even when there seems to be a good reason to do so.
The dispute before the judge arose from a private power plant renovation and upgrade project. The general contractor experienced delays and extra costs from the start of the project, due in large part to design errors. By the time the piping subcontractor bid on the job and mobilized on site, the project was already significantly behind schedule. While the subcontractor was aware that the project had fallen behind, it was not made aware of the design problems, the serious flaws in the then-current project schedule, or of the near-certainty that large amounts of overtime would be needed to recover the delays.
The subcontractor encountered numerous delays and was required to perform extra work as a result of design and fabrication errors. The change orders amounted to 85% of the subcontract value. The project schedule was not changed to accommodate the added work, and the subcontractor was therefore required to increase its project staffing and work overtime (which impacted its efficiency). To make matters worse, the processing of the change orders began to slow down as the owner began to insist that it would no longer handle changes informally, but would require the formal submission of all required paperwork for extras. The subcontractor’s cash flow began to suffer, and it had difficulty paying its own subcontractors, suppliers, and union benefits.
The subcontractor was required to submit lien waivers with its monthly payment requisitions, certifying that it had fully paid its subcontractors and suppliers. As the project neared substantial completion, the general contractor discovered that in fact the subcontractor was in arrears in its payments to its suppliers and the union. Upon this discovery, the general contractor – concerned that the subcontractor might default or become insolvent – suspended all payments to the subcontractor, including monthly base contract payments, as it was entitled to do under the terms of the subcontract. The general contractor continued to bill the owner for the subcontractor’s work, but it withheld the money it received from the owner. The general contractor was aware that the payments it received from the owner were enough to satisfy the claims against the subcontractor, but it declined to issue joint checks until months after the project was complete.
The disputes among the various parties (the subcontractor, general contractor, owner, and sureties) could not be resolved, and a lengthy trial resulted in the Superior Court judge’s 147-page decision. The judge found for the subcontractor on several of its contract claims arising from the extra work and the delays, awarding it $5 million. More importantly, however, the judge found for the subcontractor on its claim for unfair business practices (M.G.L. c. 93A), stating that the general contractor’s decision to withhold all contract funds “virtually destroyed” the subcontractor’s business. While the general contractor had a contract right to withhold funds for unpaid claims, the judge held that this right had to be exercised in good faith. The court placed great weight on the fact that the general contractor could have alleviated the problem by executing joint checks. While the judge decided not to impose multiple damages, since the general contractor had acted on the advice of its attorneys, it did award the subcontractor its attorneys fees.
The message for general contractors and owners is clear: even though you may have a contractual right to stop payments upon learning that there were false lien waivers and unpaid subcontractors or vendors, that may not be enough to justify suspending all payments. The Court will require more to be done, especially if joint checks or other procedures are available to remedy the problem. If payment to the subcontractor could have eliminated or mitigated the problem, then the false certification of payment in the lien waiver may not be deemed material.
The Superior Court judge’s decision may be appealed. We will report as to any appeals or other further actions in the case. In the interim, parties to a contract must recognize that there is an obligation of good faith, which judges will enforce between parties to a contract. Standing on a contract provision without seeking to mitigate its impacts will not be permitted.