The Trouble with Change Orders

Major disputes can arise in fixed-price contracts when subcontractors perform work on an unwritten change order, and both sides can lose big. Not having the change order in writing makes it hard to prove that the change is not a defect and even harder to get paid for the work. An owner who doesn’t receive a request for a change order may be increasing his project costs.

THE RULE, NOT THE EXCEPTION

More often than not, a construction contract will be significantly modified before the project is completed. In fact, one recent industry survey found that the typical commercial project involves 56 change orders.

Most construction contracts require that all changes or authorizations for extras be put in writing, generally before the work is performed. In real life, though, the pace of work out in the field is often so fast and furious that, in the interest of completing the project, change orders are approved verbally, with the understanding that someone will put them in writing when time permits.

One reason for contention is that unforeseen difficulties, improvements on the plans or even scheduling hassles can send a project in a new direction. In addition, plans and/or specifications are notorious for leaving the details up to the subcontractor. What looks to the subcontractor like a deviation from or addition to the scope of the work, to the owner or general contractor may appear to be a case of the tradesman failing to read the plans.

A subcontractor in this situation faces a difficult choice: to risk not getting paid for failure to get the change in writing, or to get called on the carpet for not completing work that the owner or contractor believes was included in the bid. The owner and general contractor, too, are on shifting sands. The project could be delayed if the subcontractor refuses to complete work without a change order, or the owner could end up paying double for some work.

The best contracts provide for decision making in these situations, by either the architect or the engineer on the project, who can determine whether the change is new work or within the scope of the original work.

WAIVERS

When everyone agrees that a written change order is not necessary and the subcontractor will get paid for unwritten change orders, the writing requirement is waived. But again, whether the writing requirement was waived is itself at the root of many change-order disputes.

There are two types of waivers:

• a written or express statement that change orders don’t need to be written, and
  

• conduct that demonstrates that the writing requirement has been waived.

The first one is relatively clear; the second is considerably murkier and more difficult to prove.

Some contractors and subs have tried to argue that waiving one provision of a contract opens a Pandora’s box that renders the entire contract ineffective. That is not the case. As the Arizona Supreme Court noted in American Continental Life Insurance Company v. Ranier Construction Co., Inc. , “The waiver of one right under a contract does not necessarily waive other rights under the contract.”

FAULTY DOCUMENTATION

As you may have learned the hard way, change orders written after the fact – or not at all – can lead to major disputes, and both sides can lose big money on change orders that lack proper documentation.

In our experience, more change orders are implemented in order to correct faults in the original contract than to achieve an actual change in the plan or design. Generally speaking, many factors can raise the need for change orders, including:

• haste or inadequate planning in preparing the initial contract;

• a poorly defined scope of work;

• compressed project schedules;

• unrealistic cost constraints;

• time and material changes; and

• owner-directed acceleration.
  

One of the causes of change order conflict is that it isn’t easy for most contractors and subs to say “no” when directed to modify work in the field. As a result, they respond to verbal instruction, thus taking a big risk as to whose side a court will take if the owner decides not to pay.

SOLUTIONS

Fortunately, change order pitfalls can be avoided with precise planning and adherence to sound business practices.

Putting the change order in writing benefits all parties, because proving oral change orders is often difficult. While there may not be time to sit down and draft a written document when change order work is required immediately, major changes to the contract should always be authorized in writing before the work is done. The risk of payment disputes is too great to proceed on an oral change order alone. For material suppliers, a written change order is absolutely essential if the contract price, when modified, is $500 or more.

Here are some other proven, practical methods of avoiding conflicts over change orders and other documentation:

• Organize a meeting of key players in advance, including the general contractor and subcontractor.

• Conduct an in-house peer review of working drawings, specifications and other key documents.

• Scrutinize drawings closely from project concept to the final stage and invite outside review.

• Keep communications open with ongoing, on-site project meetings.

• Review and revise critical documents several times during the life of a project.

• Create and use functional checklists.

• Participate in workshops and training related to improving document quality.

• Establish accountability for everyone at every stage of document development.

• Update any system that obstructs development of quality documents.

• Carry out a timely project post mortem to identify problem areas.
  

Have a strict company policy, that no one but the owner can waive, requiring that directives be in writing before any work will be done that is over and above or different from what is called for in the contract.

Here are some other suggestions:

Address the issue before work is started. An owner or general contractor ordering a subcontractor to do additional work should tell the subcontractor whether the work is within or beyond the scope of the contract. Likewise, the subcontractor should make plain its position that new work will require a change order before new work is performed.

Be specific. To avoid misunderstandings, change orders should spell out in detail the additional work that is requested or necessary, and they should be signed and dated by both parties. They should always include whatever drawings, specifications, cost estimates, new deadlines and payment terms are necessary to complete the additional work.

Don’t agree to open-ended change orders. Also known as “time and materials agreements,” these can blow up your budget and strain contractor/owner relationships since they allow the contractor to charge for work as it proceeds and materials and supplies as they are needed. Instead, owners are wise to ask for a fixed sum agreement that obligates the contractor to perform work for an agreed upon sum. The contractor must absorb costs if they are greater than estimated or, conversely, can make a greater profit if costs are less than budgeted.

Subcontractors should reaffirm the hourly rate they will charge for time and material work. Unfortunately, disagreements occur even with the best estimating, contracts and performance. So before trouble starts, videotape your work at different stages, or photograph it. For financial matters, rely on the written word instead of oral agreements.

Confirm conversations with an email or letter immediately. If you have to see a lawyer, you will be able to explain what happened with more than “he said and I said.”

CONCLUSION

Most contractors and subcontractors have high standards for integrity and quality. Unfortunately, faulty documentation creates an environment of unnecessary finger pointing and charges of dishonesty.

In the construction industry, the day of the handshake deal has passed; more than ever before, ensuring prompt and proper payment requires strict procedures and clear documentation.