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Law/Courtroom - May 2003

Don't Be Trapped By Change Orders
By William M. Coats

It is common for general contracts to include change order clauses providing for stated percentage markup on change orders to cover overhead and profit associated with the changed work. The percentages are usually in the 10 to 15 percent range. And while the mandated percentage might be adequate to cover the extra overhead cost related to a moderate level of changes that are expected on any project, it would not be adequate to cover the overhead growth on a project when a large volume of intrusive change orders cause the project to run substantially over in time and cause additional administrative expenses.

In the case of a substantially impacted project, if the general contractor has agreed to formal change orders with small markup on all of the changes to the project, the fact that it has signed off on the changes may prevent the assertion of an impact claim for the real effect on its overhead cost of the cumulated changes it encountered.

Whether or not the acceptance of change orders with standard markup waives an impact claim is a complicated legal question highly dependent on the facts of a particular case, and it is not the purpose of this column to delineate all of the situations that would prevent or allow the assertion of an overall impact claim. Texas law does have some cases that are helpful to the contractor in such situations, and some that are not, and some contracts are clearer than others on the acceptance of a change order barring further related claims.

The purpose of this column is to point out an obvious way a contractor can avoid waiving its impact claim: Don't agree to change orders that are silent on the subject. If you submit change orders that might result, cumulatively, with others to cause an impact on overall overhead costs, submit the change order with a specific reservation.

For instance, you can attempt to add the following language to the change order form: "A contractor reserves the right to pursue a claim for the impact, if any, of this change order on its overall cost of performance of this project, and such cost is not included in the calculation of this change order." If the owner is unwilling to permit change orders with such a reservation, it is appropriate to insist that the contract provisions for changed directives be utilized to authorize and pay for the direct cost of the changed work in the absence of a change order.

One of the common situations where contract markup does not adequately compensate for the added overhead resulting from change orders is the situation where change orders are issued after substantial completion. In this situation, there is often a day?for?day relationship between daily overhead rate and the overhead impact associated with performance of the changed work and the daily overhead rate can be added to the proposed change order for each day expected to be expended in performance of the changed work performance. Actually stating the impact, when that is possible, is preferable to a reservation.

There can be situations where a complete redesign of a structure through late value engineering can result in a deductive change order (and thus no percentage markup for overhead and profit at all) if only the direct cost of performance of the work is considered, and not the disruptive impact of making wide scale changes late in a project.

In spite of this, contractors often submit deductive change orders without any reservation or calculation of impact cost. There is a natural tendency to want to tie down the real contract price for the direct cost of the work, but it is a mistake to let that desire result in a waiver of important, valuable rights to impact claims.

The small markup often allowed by standard change order clauses are simply not worth the loss of the right to be fairly compensated for the impact of changes to the work when the volume of changes is beyond the level that can reasonably be expected. No one can force a contractor to sign a change order with terms that are not adequate for the total cost of changes in the work (including impact), and no change order is preferable to losing a valuable right to fair compensation.

I would apologize for wasting your time with this obvious point, but it is a point that is more often overlooked than not.

William M. Coats is a director and member of the executive committee and head of the Construction/Surety section of Houston-based Coats, Rose, Yale, Ryman & Lee PC.

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