Termination for Convenience Clause: Once a shield, now a sword

The significant decrease in construction projects due to the current recession and tight credit market has changed the significance of certain terms in construction contracts between owners and contractors. With owners and developers delaying projects for which plans have been drawn and completely shelving certain projects, the termination for convenience clause contained in many owner-general contractor contracts has become a sword for owners as opposed to a shield. The lack of work for contractors has allowed owners to use the termination for convenience clause to obtain better bargaining power for contracts executed prior to the current credit crisis but for which the work has not yet commenced. Most contracts between an owner and general contractor contain a relatively standard termination for convenience clause. Such a clause will state in pertinent part that the owner may terminate the contract for any reason whatsoever at any time. Such a clause was traditionally inserted in contracts for owners to act as a shield to protect them from breaching contracts with the general contractor and other vendors in connection with the construction of the project if they could not continue with the project for reasons other than those within their control. For example, owners may find themselves in situations where its lender refused to finance or continue to finance the project due to the failure of the owner to abide by or live up to the terms of the loan agreement, or if the market became soft and the project would not be profitable. Obviously, this termination for the owner's "convenience" is not a termination for cause which arises when the general contractor breaches the contract by, for example, either failing to adhere to the project schedule, pay its subcontractors or correct defective work. In addition, when an owner terminates a contract for its convenience, it cannot recover any damages, such as excess costs to complete the work, from the general contractor which it would have been entitled had the general contractor breached the contract. For the last few years before the current downturn in the construction market, the amount of new construction projects the New York City metropolitan area was at or near an all-time high. During the condominium and hotel construction boom, owners had to pay premiums to some general contractors to build their projects when the owner was ready for construction. In those construction contracts, some general contractors were able to have the termination for convenience clause stricken or, if not stricken, were able to have the owner include a provision that if the contract was terminated for the owner's convenience, the general contractor would be paid a "break up" fee or lost profits in addition to the fair and reasonable value of the work performed up to the date of termination. The break up fee was generally based on a percentage of the profits that the general contractor would have earned if it was permitted to finish its work. However, for those contractors who were not fortunate to have the termination for convenience clause stricken or who could not negotiate a break up fee, the economic downturn has given the owner additional bargaining power for work that did not commence before the current recession. Instead of using the termination for convenience clause as a shield, now the owner can use it as a sword. Due to the sharp decrease in new construction projects, many contractors have become desperate for contracts. Owners may now request a contractor to lower their contract price or threaten to terminate the contract for convenience. If the contractor cannot recover any lost profits from the termination for convenience, it becomes forced to lower its contract price, thus making less of a profit, or lose the contract completely. Losing the contract completely, however, may cause the contractor to lose key workers or worse, go out of business, if the company does not have enough work to pay the workers. Most contractors at this point in time are simply trying to get through this economic downturn and stay in business. While contractors may find this use of the termination for convenience clause unfair, owners may nevertheless use it as a sword to lower construction costs. There is no case law that would prevent the owner from using the termination for convenience clause for this purpose. As a result, contractors must now earn lower profits or find a way to value engineer the work in order to maintain their profit margin. Andrew Richards, Esq. is a partner for Kaufman Dolowich Voluck & Gonzo LLP, Woodbury, N.Y.