Presenting a live 90-minute webinar with interactive Q&A Payment and Performance Surety Bonds and Subguard Insurance in Construction Projects Asserting and Defending Surety Bond Claims and Exploring a Cost Effective Alternative for Owners, Contractors and Sureties to Protect Rights or Maximize Recovery TUESDAY, OCTOBER 23, 2012 1pm Eastern 12pm Central 11am Mountain 10am Pacific Today s faculty features: Lawrence Melton, Partner, Nexsen Pruet, Columbia, S.C. Jonathan Burwood, Partner, Hinshaw Culbertson, Boston Ira Schulman, Partner, Pepper Hamilton, New York The audio portion of the conference may be accessed via the telephone or by using your computer's speakers. Please refer to the instructions emailed to registrants for additional information. If you have any questions, please contact Customer Service at 1-800-926-7926 ext. 10.
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Surety Bonds and Subcontractor s Default Insurance October 23, 2012 Strafford Seminar October 23, 2012
Lawrence C. Melton Nexsen Pruet, LLC Columbia, South Carolina Jonathan Burwood Hinshaw Culberston Boston, Massachusetts Ira Schulman Pepper Hamilton, LLP New York, New York Strafford Seminar October 23, 2012 6
Strafford Seminar October 23, 2012 7
1976 J.D. Washington & Lee Law School Admitted: Virginia, DC, South Carolina 1979 Representing Contractors on D.C. Metro System 1997 Returned to South Carolina 1998 Teaching Construction Law at University of South Carolina School of Law 2001 Joined Nexsen Pruet 7 offices in North and South Carolina; General Commercial Practice; 12 in construction practice group 2005 Published South Carolina Construction Law- 2ed. 2012. Strafford Seminar October 23, 2012 8
Wants Building Has Money Can Build Wants Money Owner Contractor Strafford Seminar October 23, 2012 9
Build First Pay Later Pay First Build Later Owner Contractor Strafford Seminar October 23, 2012 10
Negotiated Schedule of Values, e.g. AIA A201 (2007) 9.2 Applications for Payment Based on % of Completion Architect s Certificate of Payment Retainage/Substantial Completion/Punch List/Final Acceptance Strafford Seminar October 23, 2012 11
Owner Bill based on % of work in place Payment based on approved % of work less retainage GC (self performs 0% of work) Subs and suppliers invoice full price. GC paid for work in place less retainage. GC never has enough to pay subs/ suppliers in full. GC subject to Prompt Payment Acts. Subs may agree to retainage Suppliers probably will not agree to retainage Owner may agree to pay upfront: mobilization; general conditions; special equipment acquisition Owner will not agree to front end loading GC Subject to False Claims Acts (31 U.S.C. 3729 et seq.) 29 States and D.C. Subs Survey Clearing & Grading Foundation Rebar Concrete Framing Electrical Mechanical Roofing Painting Landscaping Etc. Suppliers Equipment Redi-mix Steel Windows Tile Paint Bricks Etc. Strafford Seminar October 23, 2012 12
Every construction contract or subcontract is an extension of credit. Strafford Seminar October 23, 2012 13
Subs/suppliers GC Owner Eliminate Risks Manage the Risk Risk not getting paid/not paid on time Risk of subs/suppliers filing liens/nonperformance/failure/bankruptcy Risk of GC non-performance; technical incompetence; underbidding; dishonesty; mismanagement; liens tie up financing Do Not build Bonds and Insurance Strafford Seminar October 23, 2012 14
Mechanics Liens: An American Solution to a Universal Problem: Laws of Maryland 1791, Chap. XLV, X :... for all sums due and owing, on written contracts, for the building of any house in the said city... the undertaker... employed by the person for whose use the house shall be built, shall have a lien on the house and the ground on which the same is erected... and shall have the remedy as upon a mortgage... Mechanics Liens do not apply to Government projects absent express waiver of sovereign immunity. Strafford Seminar October 23, 2012 15
Being surety has ruined many men who were prosperous... Ecclesiasticus, 29:18 (circa 180 B.C.) 3 Parties: Owner (bond obligee) Contract for construction GC (bond principal) promise to pay GAI premiums Surety (Bond Obligor) Strafford Seminar October 23, 2012 16
INSURANCE - A contract whereby one undertakes to indemnify another or pay a specified amount upon determinable contingencies. S.C. Code 38-1-20. Funded by a pool of premium paying risk takers Underwriting based on actuarial tables No indemnity of insurer by insured SURETY BOND - Promise to pay the debt of another Funded by the Bond Principal Underwriting based on performance record of Bond Principal and personal assets Principal indemnifies the Surety General Agreement of Indemnity ( GAI ) Strafford Seminar October 23, 2012 17
PAYMENT BOND: 3 PARTY AGREEMENT Surety promises owner to pay subs/suppliers if not paid by GC PERFORMANCE BOND: 3 PARTY AGREEMENT Surety promises owner to complete project in event of GC default SUB-CONTRACTOR DEFAULT INSURANCE: 2 PARTY AGREEMENT Insurer reimburses the contractor for the direct costs incurred arising from subcontractor or supplier default. Strafford Seminar October 23, 2012 18
STATUTORY BONDS MILLER ACT: Act of August 24, 1935, 49 Stat. 793 (40 U.S.C. 3131, formerly 40 U.S.C. 270a). Applies to projects > $100K. LITTLE MILLER ACTS: See, Bransdorfer s 50-State Little Miller Act Compilation (bransdorfer.net) or contact the American Subcontractor s Association, (asa.org), in Alexandria, VA. NOTE: Some States have more than one Little Miller Act, e.g., S. C. has three, 29-5-440 (payment bonds required on all State projects), 11-1-120 (payment & performance bonds required on most contracts by agencies subject to State Consolidated Procurement Code), 29-6-210 (SC DOT Bonds). Strafford Seminar October 23, 2012 19
The Miller Act Bond: FAR 53.301-25-A Standard Form 25-A, Payment Bond: OBLIGATION: We, the Principal and Surety(ies), are firmly bound to the United States of America (hereinafter called Government) in the above penal sum. For payment of the penal sum, we bind ourselves, our heirs, executors, administrators, and successors, jointly and severally. However, where the Sureties are corporations acting as co-sureties, we, the Sureties, bind ourselves in such sum jointly and severally as well as severally only for the purpose of allowing a joint action or actions against any or all of us. For all other purposes, each Surety binds itself, jointly and severally with the Principal for the payment of the sum shown opposite the name of the Surety. If no limit of liability is indicated, the limit of liability is the full amount of the penal sum. CONDITIONS: The above obligation is void if the Principal promptly makes payment to all persons having a direct relationship with the Principal or a subcontractor of the Principal for furnishing labor, material or both in the prosecution of the work provided for in the contract identified above, and any authorized modifications of the contract that subsequently are made. Notice of those modifications to the Surety(ies) are waived. Strafford Seminar October 23, 2012 20
2. If the Contractor promptly makes payment of all sums due to Claimants, and defends, indemnifies and holds harmless the Owner from claims, demands, liens or suits by any person or entity seeking payment for labor, materials or equipment furnished for use in the performance of the Construction Contract, then the Surety and the Contractor shall have no obligation under this Bond. 3. If there is no Owner Default under the Construction Contract, the Surety s obligation to the Owner under this Bond shall arise after the Owner has promptly notified the Contractor and the surety of claims, demands, liens or suits against the Owner or the Owner s property by any person or entity seeking payment for labor, materials or equipment furnished for use in the performance of the Construction Contract and tendered defense of such claims, demands, liens or suits to the Contractor and the Surety. Strafford Seminar October 23, 2012 21
3. If there is no Owner Default [defined in 16.4 as non-payment] under the Construction Contract... after the Owner has promptly notified the Contractor and the Surety... 5 Notice requirements for subcontractors and remote claimants claim must be for work done/material furnished within ninety (90) days after having last performed labor or last furnished materials or equipment included in the Claim NOTE 15 Upon request by any person or entity appearing to be a potential beneficiary of this Bond, the Contractor and Owner shall promptly furnish a copy of this Bond or shall permit a copy to be made. DON T WAIT UNTIL THE INVOICE IS OVERDUE TO REQUEST A COPY OF THE BOND!!!! Also NOTE 16.1 -.8 definitions of Claim 7.1 [Surety to respond within sixty (60) days after receipt of the Claim] 7.3 Bond obligee (Owner) entitled to attorneys fees if Surety fails to pay amounts agreed to be owed 8 Surety s obligation limited to amount of the Bond 10 Surety not liable for obligations unrelated to the Construction Contract 12 One year statute of limitations (not enforceable in many states, e.g. SC) CAVEAT: PRIVATE BONDS MAY BE SUBJECT TO STATE REGULATION AS TO NOTICE, ETC., e.g., S.C. CODE 29-5-440. Strafford Seminar October 23, 2012 22
1. RTB!! Read the Bond. 2. RTS!! Read the Statute. 3. RTB2!! Read the Book. See, Kevin L. Lybeck, et al., The Law of Payment Bonds (2d ed.), ABA (2011). 921 Pages!!!! Strafford Seminar October 23, 2012 23
A. Coverage: Miller Act Strafford Seminar October 23, 2012 24
Who can make a claim on Miller Act projects? Prime Contractor Materialman (proper bond claimant) 1st Tier Subcontractor (proper bond claimant) Subcontractor (NOT a proper bond claimant) Materialman (NOT a proper bond claimant) 2nd Tier (Remote Claimant) Sub-Subcontractor (proper bond claimant provided notice to Prime Contractor within 90 days of last work) Materialman (proper bond claimant provided notice to Prime Contractor within 90 days of last work) Proper Bond Claimant 3rd Tier Sub-Sub- Subcontractor (NOT a proper bond claimant) Materialman (NOT a proper bond claimant) Materialman (NOT a proper bond claimant) Never a Proper Bond Claimant (i.e., out of luck) 25
AIA A312 2010, 16.2 definition of Claimant includes: any individual or entity that has rightfully asserted a claim under an applicable mechanic s lien or similar statute against the real property upon which the Project is located. B. BONDING CAPACITY (NOT EVERBODY HAS IT). C. INSOLVENCY OF THE SURETY. D. TIMELINESS OF THE SURETY S RESPONSE. E. CLAIMS ARE SUBJECT TO SURETY DEFENSES: 1. OWNER DEFAULT. 2. OWNER OVERPAYMENT (POTENTIAL LIABILITY FOR A/E) 3. SUBROGATION: RIGHT TO ASSERT PRINCIPAL S DEFENSES, E.G. NON-PERFORMANCE, POOR PERFORMANCE, FAILURE TO MITIGATE DAMAGES. 4. LACK OF NOTICE F. PENAL SUM IS LIMIT OF LIABILITY. Strafford Seminar October 23, 2012 26
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Lawrence C. Melton Nexsen Pruet, LLC 803.771.8900 lmelton@nexsenpruet.com Strafford Seminar October 23, 2012 30
SURETY PERFORMANCE BONDS INTRODUCTION & GENERAL CONSIDERATIONS Surety Insurance The Tripartite Relationship The Indemnity Agreement 2012 Hinshaw & Culbertson LLP, an Illinois Limited Liability Partnership. All rights reserved. 31
SURETY PERFORMANCE BONDS RT(F)B: READ THE @*$%# BOND! Bonds Are Contracts Public Projects & Statutory Bonds Federal Miller Act State Little Miller Acts Private Projects Terms of the Bond Control 2012 Hinshaw & Culbertson LLP, an Illinois Limited Liability Partnership. All rights reserved. 32
SURETY PERFORMANCE BONDS PERFORMANCE BOND CLAIMS: MAGIC WORDS? NOTICE DEFAULT TERMINATION 2012 Hinshaw & Culbertson LLP, an Illinois Limited Liability Partnership. All rights reserved. 33
SURETY PERFORMANCE BONDS DEFAULT/NOTICE: L&A Contracting Company v. Southern Concrete Services, Inc., 17 F.3d 106 (5 th Cir. 1994). Balfour Beatty Construction, Inc. v. Colonial Ornamental Iron Works, Inc., 986 F.Supp. 82 (D.Conn. 1997). Dragon Construction, Inc. v. Parkway Bank & Trust, 678 N.E.2d 55 (Ill.App.Ct. 1997). TERMINATION: Elm Haven Const. v. Neri Const., LLC, 281 F.Supp.2d 406 D.Conn. 2003); Enter. Capital, Inc. v. The San-Gra Corp., 284 F.Supp.2d 166 (D.Mass. 2003). 2012 Hinshaw & Culbertson LLP, an Illinois Limited Liability Partnership. All rights reserved. 34
SURETY PERFORMANCE BONDS BASIC SURETY OPTIONS: CHOOSE WISELY Surety Options SURETY INVESTIGATION Takeover Tender Do Nothing 2012 Hinshaw & Culbertson LLP, an Illinois Limited Liability Partnership. All rights reserved. 35
SURETY PERFORMANCE BONDS IMPORTANT ECONOMIC ISSUES Financing The Principal The Contract Proceeds Liquidated Damages Bond Penal Sum 2012 Hinshaw & Culbertson LLP, an Illinois Limited Liability Partnership. All rights reserved. 36
SURETY PERFORMANCE BONDS COMMON SURETY DEFENSES Principal Defenses Coverage Issues Conditions Precedent Limitations Provisions Impairment of Collateral 2012 Hinshaw & Culbertson LLP, an Illinois Limited Liability Partnership. All rights reserved. 37
SURETY PERFORMANCE BONDS BEST PRACTICES: CLAIMANTS Read The Bond / Read The Contract Satisfy All Conditions Clear & Unequivocal Communication Preserve The Contract Funds 2012 Hinshaw & Culbertson LLP, an Illinois Limited Liability Partnership. All rights reserved. 38
SURETY PERFORMANCE BONDS BEST PRACTICES: SURETIES Read The Bond / Read The Contract Investigate & Document Be Aware of the Penal Sum Secure The Contract Funds 2012 Hinshaw & Culbertson LLP, an Illinois Limited Liability Partnership. All rights reserved. 39
Jonathan C. Burwood Hinshaw & Culbertson LLP Office 617-213-7009 jburwood@hinshawlaw.com www.hinshawlaw.com 2012 Hinshaw & Culbertson LLP, an Illinois Limited Liability Partnership. All rights reserved. 40
An Introduction To Subcontractor s Default Insurance ( SDI ) Ira M. Schulman October 23, 2012
Background A surety bond is a three-way agreement whereby the surety guarantees to one party the performance and/or payment of another party. SDI (issued by Zurich Insurance under the name of SubGuard) is a two-party agreement between the contractor and the insurer that reimburses the contractor for the direct costs incurred arising from subcontractor or supplier defaults. With SDI the contractor prequalifies the subcontractor/suppliers providing the contractor with flexibility and control unavailable with surety bonds. 42
Candidates For SDI High Annual subcontractor volume Financial strength, management expertise, and willingness to accept the financial risk associated with SDI. Successful history of project completion 43
Surety Bonds Bid, performance, and payment bonds. The bonding rate is calculated based upon contract amount Protection in the event of a refusal or failure to perform Potential refusal of surety to take over work of defaulted contractor Negative Impact to project schedule and budget Personal assets put at risk 44
Advantages of Surety Bonds Objective prequalification Available to lower tier subcontractors/suppliers Penal Sum Limits No Deductible Established body of law regarding interpretation and implementation Available to entities that may otherwise not qualify for SDI 45
Concerns Regarding SDI It s the new kid on the block No guarantee of Project Completion Expensive deductibles Only available to high performing general contractors or at-risk construction managers Provides post-default funding that can prevent dominostyle project-wide delays Limit of liability may not be congruent with total subcontract exposure 46
Subcontractor Default Insurance Shifts burden of defaulting contractor to the insurance company Covers all subcontractors for the project Reimburses all direct costs incurred to complete the defaulting subcontractor s work, including the cost of attorneys and consultant fees incurred to remedy the default Policy exclusions The contractor absorbs the deductible No coverage for third-party injury claims 47
Contractor Advantages Coverage limit Flexibility Potential Cost Savings Reimbursement of Attorney s fees and other non-brick and mortar costs that are not covered by standard surety bonds Allows use of Subcontractors that may not have established bonding lines Avoids waiting for outcome of dispute resolution before reimbursement of costs to complete 48
Contractor Disadvantages Financial Risk Increased Responsibility Absence of settled case law Subcontractor waryness 49
Subcontractor/Supplier Perspective Preservation of Bonding line No indemnity required Default without termination Continuation of payments Potential vendex issue (re: default) 50
Owner Perspective Many owners do not fully understand SDI Large lending Institutions favor SDI SDI helps keep the Project on time Subcontractor Defaults do not impact project budget SUMMARY 51
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