No one wants to enter into a business contract with a project owner that is in bad financial shape. Sometimes, the red flags are obvious: like a media headline or industry report. More typically, signs of distress are more subtle. Here are tips about what to look out for, and the importance of contractual clarity.
Read The Signs–And The Contract
In the rush of the workday, and the eagerness for new business, it’s easy to overlook signs that a client or project owner is in trouble. Similarly, eagerness to keep the business moving and growing can lead construction company owners to rush through the contract, sign on and get to work. Dan Rosenberg, a construction attorney, reminds us to keep a cautionary eye out for these signs of financial distress, especially when one or more become a pattern:
- Failure to make payments. It is one thing if there is a dispute that arises during a project and, as a result, a payment is not made. However, it is a much bigger sign of distress if an owner fails to make a payment that is otherwise uncontested.
- Sudden slowdowns in payments. If the owner has been regularly meeting its payment obligations but suddenly materially changes its payment pattern, this could be a sign of problems.
- Suddenly unresponsive personnel. If the owner’s team becomes slow to respond or suddenly becomes unresponsive, this is not a positive sign.
- Significant turnover in personnel. If the owner’s personnel suddenly start leaving and, in particular, if senior officers, such as the CFO, leave, such turnover is not a good sign. High-level personnel often know of issues before others.
In the event red flags start flapping during a project, it’s wise for builders to proactively consider how to protect their businesses–and that means fully understanding the terms of the contract, which ideally time was spent doing before sign-off. Keep in mind that analysis has found that in recent years, the top three causes of construction industry disputes relate to these contractual concerns:
- Errors and/or omissions in the contract document.
- Owner/Contractor/Subcontractor failing to understand or comply with contractual obligations.
- Poorly drafted or incomplete or unsubstantiated claims.
When signs of financial distress appear during a project, builders should explore ways to minimize financial harm to their businesses, such as:
- Understand your contractual right to stop working. …It is critical that the contractor understand when it has the right to stop working. Likewise, a contractor must understand the business implications of continuing to work when it is not getting paid.
- Understand the consent and assignment agreement. On most private projects, a general contractor negotiates and signs a consent and assignment agreement at the beginning…that gives the owner’s lender the right to take an assignment of the construction contract if the owner defaults … .When the owner is in financial distress such agreements become critical. Keep in mind that these documents often require that the general contractor notify the lender in writing of an owner default.
- Understand downstream payment obligations. Any contractor that has not been paid needs to carefully understand its own payment obligations. Pay-if-paid clauses become critical in such scenarios….
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