In this series of articles, we examine various “onerous clauses” commonly found in construction subcontracts. Onerous clauses are unfair clauses that both shift the risk on a construction project to the party least able to bear it and conflict with the reasonable expectations of the same party. The purpose of these articles is to discuss the purpose and effect of onerous clauses and suggest some means of avoiding them. Nevertheless, the advice of a construction lawyer should be sought to identify and modify onerous clauses prior to signing any subcontract.
When a construction project is not running smoothly, is not uncommon for the general contractor to want to terminate one or more of its subcontractors. If the general contractor does so, the basic rule is that the general contractor will then be liable to the terminated subcontractor for all damages that result from termination, including lost profits and other reasonably foreseeable losses resulting from the termination (being consequential damages). However, there are two exceptions to this rule:
- Where the subcontractor has fundamentally breached its own contractual obligations; or
- Where the contract expressly provides that the general contractor may so terminate.
The determination of whether a specific breach is sufficiently ‘fundamental’ enough to allow the general contractor to terminate under point one can be difficult. In order to be able to act with greater certainty, general contractors often include a term in their contracts setting out the specific circumstances allowing them to terminate without being liable for lost profits and consequential damages.
Some subcontracts go further, however, and include a termination for convenience clause. Such a clause will typically give the general contractor the right to terminate the contract for any reason while limiting its liability to the subcontractor to an amount equal to the value of any material or labor furnished to the date of termination.
While this type of clause may not on its face seem unfair, it is important to note that such a clause will usually not include any obligation on the general contractor to compensate the subcontractor for any profit, which was presumably the subcontractor’s main reason for entering into the subcontract in the first place.
Perhaps more importantly, a termination for convenience clause can expose a subcontractor to greater potential loss than simply a potential loss of profits. During the project, a subcontractor may have payment obligations to suppliers and sub-subcontractors that cannot be avoided. A subcontractor who has ordered project-specific equipment, for example, may not be able to cancel the order and therefore may be obligated to purchase it. In the event of termination, this subcontractor will then have to sell the equipment to a third party and will bear the loss on the equipment. Such loss may be substantial where the equipment is specialized and has no value to anyone outside of the project.
A subcontractor may be able to protect itself from such risks by:
1. insisting on a provision that makes the terminating general contractor responsible for all cancellation charges and all consequential damages caused by the termination; or,
2. if the general contractor will not agree to such a clause, the subcontractor can insert a clause in its own contracts with suppliers and sub-subcontractors allowing it to cancel its orders and contracts without liability for lost profits and consequential damages in the event of a termination for convenience by the general contractor.
Even if a subcontractor can adequately protect itself from the risk of liability to suppliers and sub-subcontractors, it must still decide if it is prepared to run of the risk of loss of its profits in the event of termination. Such a determination is ultimately a business decision that each subcontractor must make.
David Mckenzie is a lawyer practicing construction and commercial litigation at Jenkins Marzban Logan LLP in Vancouver. He is called to the bar of British Columbia
DISCLAIMER:The author does not intend to form a solicitor-client relationship with a reader of this article. This article is for information purposes only. It should not be relied upon for legal advice. If you require legal advice, you should seek counsel authorized to practice law in your jurisdiction.