January 2008 Issue
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Who Owns The Float?
Protecting Your Business Through Buy/Sell Agreements
Recent CaseNotes
Who Owns The Float?
By Joe Leone and Kim Cohen
Joe concentrates his practice in Construction Litigation and Public Construction Law. Kim concentrates her practice in Construction Law and Litigation, Commercial and Business Litigation, Public Contract Law, and Surety Law.
Minimizing disruptions to all construction activities is important for contractors to maintain good productivity on construction projects. However, for those activities on the critical path a disruption means the project completion date will be extended.
It has long been commonplace for contractors to create a “critical path method” (CMP) schedule for use in managing construction activities on a project. This tool is invaluable in determining which activities are on the critical path and how much float the other activities have before they become critical.
A disruption to critical path activity will cause a delay in substantial completion of the project. If the contractor is the cause of the delay then the contractor will be liable for damages to the owner. If the cause of the disruption is out of the contractor’s control then the contractor is entitled to an extension of time. If the cause of the delay is a result of acts or failures to act by the owner or the owner’s designers, then the contractor is entitled to an extension of time as well as compensation for the additional costs incurred by the contractor as a result of the delay.
However, what if the delay or disruption is to non-critical activities? Should the owner be entitled to disrupt the non-critical activities at their whim without liability? On the other hand, shouldn’t the owner be able to rely on the float identified on the contractor’s schedule in order to make design changes? Is the contractor entitled to the float it had built into the schedule or is the owner entitled to use it regardless of whether the contractor may later need it or not? In other words, who owns the float?
There are two schools of thought as to who owns the float on a construction project. The old school is that the contractor owns the float and the owner may not use it without liability. See e.g. Appeal of Continental Consol. Corp., ENGBCA No. 2743, 67-2 BCA ¶ 6624 (1967). The theory is that the contractor, by contract, has control of means, methods, techniques, sequences, and procedures and is obligated to perform the work in accordance with the schedules it submits to the owner. See for example § 3.3.1 and § 3.10.3 General Conditions of the Contract for Construction (Form A201), American Institute of Architects, 2007 Ed.
However, some more recent cases theorize that float is a resource to be shared by the parties and is available on a first come, first served basis. This is sometimes colloquially stated as “the project owns the float.” See e.g. Appeal of Dawson Constr. Inc., GSBCA No. 3998, 75-2 BCA ¶ 11563 (1975).
The difficulty for the contractor is that the timing and sequencing of activities not only affects the overall completion date, but the contractor’s productivity and margin for error. If all of the non-critical activities were suspended by the owner such that they all became critical, the odds that the contractor would complete the project on time and with the same productivity as originally anticipated, would be nearly zero.
In cases involving a delay to the completion of the project, courts generally start with the question of who caused the delay. In performing this analysis courts focus on critical path activities or non-critical path activities that become critical as a result of the delay.
In the case of Weaver-Bailey Contractors, Inc. v. United States, 19 Cl.Ct. 474, 478 (1990), engineers for the United States Army Corps of Engineers underestimated the amount of unclassified excavation required to be performed by the contractor. As a result, the earthwork activities were extended into the winter. The contract contemplated upgrades to a recreational area at a lake. The contractor had originally intended to perform the grading and upon completion of the grading to place rip-rap where required by the drawings.
As a result of the delay in the earthwork, the contractor suspended work in the winter. In the spring, erosion had created large ravines in the previously completed earthwork. The contractor’s claim included the cost of repairing the erosion as well as delay damages. The court held that the contractor was entitled to both elements of damage.
The government argued that had the contractor phased the grading and rip-rap placement, then the erosion would not have occurred. The court held that the contractor had the right to schedule the earthwork and rip-rap sequentially as that method would have completed the project within the contract requirements but for the government’s estimation error.
The court noted that it was the contractor’s obligation to act reasonably once the owner’s estimation error was identified. The contractor took manpower from other non-critical activities and applied it to the earthwork once it realized that the completion date would be affected. The contractor reasoned that the most important activity to complete was the earthwork. The court held that the contractor acted reasonably in adding additional resources to the earthwork activity and extending other non-critical activities.
This case illustrates the important points that the contractor may sequence the activities as it wishes and may, if it acts reasonably, re-sequence the activities if it deems necessary. In other words, the contractor can use the float as it determines provided that it does so reasonably.
However, in situations where the owner first desires to use the float, the result may be different. Using the “project owns float” analysis, the court in Appeal of Dawson Construction Co., Inc., found that the owner did not cause delay to any critical activities, but simply used the remaining float available on the project. GSBCA No. 3998, 75-2 BCA ¶ 11563. Therefore, the court denied the contractors’ time extensions reasoning that the owner was entitled to use the float. See also In re Santa Fe, Inc., VABCA No. 1944-1946, 84-2 BCA ¶ 17341 (stating that for a contractor to be entitled to an equitable adjustment, the owner-directed change must affect overall project completion and because there was sufficient float available to absorb the delay, the contractor was not entitled to its requested adjustment).
Many construction contracts now address float by stating that float does not exclusively belong to any party and “belongs to the project.” Under such “float sharing clauses”, time extensions are only allowed to the extent that equitable time adjustments from changes or delays exceed the total float along the activity path. Courts have applied such clauses according to their plain meaning finding that if float is available at a particular time, either the contractor or the owner may use it. Because float may significantly affect a contractor’s means and methods, contractors should pay close attention to contract clauses that address float and should strike clauses that allow the owner to have exclusive use of the float.
In response to “float sharing clauses” and recent case law finding that the “project owns float” some contractors simply hide the float in their scheduling program. It is the contractor who decides the methods of construction, sequence of activities, deployment of resources and allowances for risks such as weather, all of which determine the contractor’s scheduling. Generally, the contractor takes the risk that it has underestimated the time needed to complete the project.
Thus, contractors may seek to protect the float by eliminating or minimizing the float in their scheduling programs. This decreases the risk that the owner may use the float for its benefit. Unfortunately, this approach can cause difficulty with the administration of the contract and lead to disagreement as to the reasonableness of the submitted scheduling. Clearly, the better solution, if possible, is for the contractor to insist on a provision in the contract that provides that float is owned by the contractor. The contractor can then indicate the available float on the scheduling program without fear that the owner will use it to the contractors’ detriment.
If you have any questions regarding this article or related matters, please contact Joe Leone or Kim Cohen at (317)580-4848 or jleone@drewrysimmons.com or kcohen@drewrysimmons.com.
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Protecting Your Business Through Buy/Sell Agreements
By Sean M. Mayberry
Sean concentrates his practice in Business and Securities Law.
Small business owners often attain personal independence and job satisfaction that are not available to their colleagues in big business. However, small business owners also face many challenges unique to the small business structure. One issue that small, closely held businesses must address is the significant effect that the departure of an owner can have on the business. The cold reality is that many family-held businesses do not survive past one or two generations. One of the best ways for a small business to prepare for the departure of its original owners and to try to assure the sustainability of the business is to have a well-crafted buy/sell agreement. This article summarizes a few of the basic issues that a business owner should consider when thinking about a buy/sell agreement.
Timing
The best time to structure and implement a buy/sell agreement is before the document seems necessary. Unfortunately, there are numerous stories involving litigation over the ownership of small businesses, which drained the company’s accounts and created lasting rifts among the owners. If the business owners had invested the time and money in structuring a buy/sell agreement when the business was still young and before the strain of losing a business partner, then costly litigation might have been avoided.
Structure
Buy/sell agreements can be structured in any number of ways, but the two most common forms of these agreements are the cross-purchase form and the redemption form. The cross-purchase structure involves the purchase of the former owner’s stock or interest by the other owners of the business. The redemption structure involves the purchase of the former owner’s stock or interest by the entity. A common variation on the cross-purchase and redemption structures is a structure where the stock or interest at issue must first be offered to the business for purchase and if the business refuses to purchase the stock or interest then the stock or interest will be purchased by the other owners.
Triggering Events
No matter what structure is used for the buy/sell agreement, the right or obligation to acquire the former owner’s stock or business interest will be occasioned by a triggering event. Common triggering events that are dealt with in a buy/sell agreement are the death of an owner; the long-term disability of an owner; the termination of an owner’s employment with the business; or the owner’s desire to sell his stock or business interest.
Purchase Financing
The two most common ways to finance the purchase of the stock or business interest in a buy/sell agreement are through the use of insurance proceeds or through a payout over time with interest. If insurance proceeds are used to finance the purchase, then either the business or other owners will purchase one or more insurance policies, depending on whether the agreement is a cross-purchase or redemption type, on the life of the owner at issue. Using insurance proceeds to finance a cross-purchase buy/sell agreement can become cumbersome if there are numerous business owners. The difficulty of using insurance proceeds in a cross-purchase structure can be seen by the fact that if every owner in a six-shareholder corporation were required to cross-purchase insurance policies to finance potential purchases then thirty policies would have to be purchased. Additionally, fairness issues may arise if certain owners are older or in worse health than the other owners because the insurance policies on these owners will cost significantly more even though their stock or business interest will have the same value as that held by the other owners.
Valuation
Similar to most aspects of the buy/sell agreement, there are many ways that the shares or interest at issue can be valued but the most common are: (1) fair market value, (2) formula pricing, and (3) a value based upon the available insurance proceeds that will finance the purchase. Fair market value represents the value of the ownership interest in an arms-length transaction whereas a formula based value would consist of another objective measure such as book value. Valuing the stock or ownership interest based upon the value of the applicable insurance proceeds can be a good compromise, if all parties agree, because there will definitely be sufficient funds to complete the purchase at the time of the triggering event.
Tax Implications
If the buy/sell agreement is structured in the cross-purchase form and is triggered by the death of an owner then the family of the deceased owner should be allowed a stepped up basis in the shares or interest and will not therefore have any tax consequences when the shares and interest are sold to the other owners. The other owners should also benefit from a stepped up basis equal to the purchase price of the shares or interest. Under the redemption structure, the family of a deceased owner may also be able to benefit from a stepped up basis through careful valuation of the shares or interest and, as a result, may be able to minimize any taxable gains.
Final Thoughts
Small business owners work day and night to build their businesses so it only makes sense to take prudent steps to protect those businesses. One of the most effective and cost-efficient ways to protect a closely held business is to work with an attorney to draft a solid buy/sell agreement well before the agreement becomes necessary.
If you have any questions regarding these cases or related matters, please contact Sean M. Mayberry at (317) 580-4848 or email him at smayberry@drewrysimmons.com.
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Recent Casenotes
Eckman v. Green, 869 N.E.2d 493 (
New Welton, a vendor, hired Green, a contractor, after entering into a purchase agreement with the Eckmans for a new home. After the home was completed, there were problems with the perimeter drainage system and the Eckmans sought a judgment for damage against Green and New Welton. Green argued that he was a third-party beneficiary to the limitations provision in the agreement between New Welton and the Eckmans, shortening the time in which a breach of contract action could be brought. The court found that Green failed to meet the criteria of a third-party beneficiary because the purchase agreement between the Eckmans and New Welton did not name Green, nor did it show a clear intent to benefit Green as a third party.
Kirk Reuille v. E.E. Brandenberger Construction, Inc., 873 N.E.2d 116 (Ind. App. 2007)
Reuille and Brandenberger entered into an agreement to construct a home. The contract provided that, in any dispute which involved five thousand dollars or more, the prevailing party would be entitled to reasonable costs and expenses, including attorney fees. The parties entered into a private settlement agreement following a dispute. Reuille did not have a consent decree or enforceable judgment entered with the settlement agreement. Reuille then attempted to recover his attorney fees from Brandenberger. The trial court found that Reuille was not a “prevailing party” and denied his motion for attorney fees. The Court of Appeals affirmed.
Perlmutter v. E.E. Brandenberger Construction, Inc., 2007 WL 2811087 (
Brandenberger and the Perlmutters entered into a contract for the construction of a home. Brandenberger brought a breach of contract action against the Perlmutters. After the Perlmutters made changes during construction, Brandenberger became aware that the Perlmutters did not intend to pay the final contract draw and certain overages. The trial court found that the Perlmutters acted in bad faith regarding the construction contract, failed to pay for improvements, and were unjustly enriched by their failure to pay the final draw and overages; therefore, the Perlmutters were in breach of contract. The Court of Appeals agreed with the trial court’s finding that the Perlmutters were unjustly enriched by upgrades they requested but did not pay for and that the original contract had been modified orally and by the conduct of the parties. Furthermore, the court found that the Perlmutters breached the contract when they failed to pay the final draw. Finally, Brandenberger was not required to strictly adhere to the contract notice requirements for default where the Perlmutters had actual or constructive knowledge that final payment was due but they refused to pay.
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