With the arrival of inflation come concerns regarding increases in the price of building materials within the construction industry. Contractors, subcontractors and others who contract to perform construction work can suffer significant losses when the prices they must pay for materials rises significantly between the time they sign the contract and actually purchase the materials. The general rule is that, unless there exists a contract clause allowing contractors or subcontractors to pass significant price increases for materials on to others, contractors and subcontractors are stuck with the price stated in the contract or subcontract. When prices rise, the contractor or subcontractor eats the difference. Rising prices can thus turn a profitable project into a catastrophic failure. How are contractors and subcontractors to protect themselves?
Once a contract is executed, there is usually little that can be done to change the document to address rising prices. Effort must therefore turn to future protection. The best technique for dealing with increasing future prices for building materials is by adding a price escalation clause to contracts and subcontracts. While this will not help for past contracts or subcontracts, it can certainly offer significant protection going forward.
Contractors and subcontractors alike often sign contractual documents without a proper assessment of the risk of each clause. While it is never appropriate to try to hide clauses within a contract, it is also not the job of the drafter of the contract to explain each contract term to the opposing party. One helpful technique to successful contract drafting and negotiation is to avoid having any single clause stand out from the others, either due to its length or complexity. It is instead often best that each clause be appropriate for its context.
Set forth below are three options for contractors and subcontractors to consider in dealing with future increases in the price of materials. Adding a clause like one of these to a construction contract or subcontract before it is signed allows a contractor or subcontractor to pass a significant price increase for materials on to those with whom it contracts. While neither of the three options may be appropriate for any particular circumstance, a review of them may be helpful to contractors and subcontractors hoping to add a little protection on an issue which seems to present a significant looming concern. The main difference between the three options presented is the length and complexity of each.
Among the options, please note that there is a blank space in each for the percentage by which the price for materials must increase before the contractor’s customer may be required to compensate the contractor for those price increases. In each case, the triggering percentage is subject to determination which will depend on the needs of the contractor. The specific percentage may depend on how much the materials component of the contract compares to the labor component. It is not uncommon for clauses like this to be as low as 5% and as high as 25%. The percentage will depend on the situation and negotiation skill.
In using a contract term like those below, it is important to customize the language to the rest of the contract document. The terms used in the example are “Contractor” and “Customer”. It could just as well be “Subcontractor” and “Contractor” or “Contractor” and “Owner”. The point is that it is necessary to use the terms that are consistent with the rest of the contract or subcontract document in which they are used. Here are those options for consideration:
Materials Price Increase: In the event that there are significant increases in the prices that Contractor pays for materials and supplies for the work to be performed between the date the Agreement is signed and the date that materials are purchased for the work to be performed, Contractor shall be entitled to additional compensation from Customer as described herein. A significant increase in price is defined herein as an increase as to any specific items of materials of _____ percent (__%) or more. In such a case, Customer shall pay to Contractor, on request, all sums by which the cost to Contractor for any such items of materials has increased beyond __%. This would apply, but not be limited to price increases in lumber, plywood, steel, sheet metal, roofing materials, fuel, manufactured products and equipment. Contractor is entitled to demonstrate this price increase through the use of quotes, supplier list prices, invoices or receipts, when requested. Contractor shall not be responsible for increased prices of materials when caused by delays, shortages or unavailability of materials due to conditions not caused by Contractor.
Materials Price Increase: Contractor shall be entitled to additional compensation from Customer when the price for any materials to be used on the Project increases _____ percent (__%) or more between the time the Contract is signed and materials for the project are purchased. In such a case, Customer shall pay to Contractor, on request, all sums by which the cost to Contractor for any item of materials has increased beyond __%. This would apply, but not be limited to price increases in lumber, plywood, steel, sheet metal, roofing materials, fuel, manufactured products and equipment. Contractor is entitled to demonstrate this price increase through the use of quotes, supplier list prices, invoices or receipts, when requested.
Materials Price Increase: When the price for any item of materials to be used on the Project increases _____ percent (__%) or more between Contract signing and materials purchase, Customer shall pay to Contractor, on request, all sums by which the cost to Contractor for any materials item has increased beyond __%, as demonstrated by Contractor. This includes but is not limited to price increases in lumber, plywood, steel, sheet metal, roofing materials, fuel, manufactured products and equipment.
When contractors and subcontractors encounter situations on a project that are not properly addressed by the terms of their contracts and subcontracts, it is time to revise the operative document. With the recent threat of inflation and corresponding increases in the prices of building materials, contractors and subcontractors would do well to consider a clause to protect themselves from such events. Even though inflation is beyond the control of contractors and subcontractors, the right contract language can at least help to weather the storm. Those who actively protect themselves with protective contract language are more likely to survive difficult times when others do not.
Article written by William L. Porter, Esq. in 2021. Mr. Porter is a principal in Porter Law Group, Inc. in Sacramento, California. He can be reached by phone at (916) 381-7868.