Incorporation By Reference Strikes Again

INCORPORATION BY REFERENCE STRIKES AGAIN:

CONTRACTOR DEPRIVED OF RIGHTS UNDER SUBCONTRACTOR'S PERFORMANCE BOND BY FAILING TO PROVIDE NOTICE OF DEFAULT AS REQUIRED BY SUBCONTRACT INCORPORATED BY REFERENCE

By: Robert S. Tanner, Esq.

In a previous article, "Before Signing That Contract, Be Sure You Understand All of the Terms Incorporated by Reference," we discussed that during contract negotiations it is important to understand terms that might be incorporated by reference into your contracts. For example, it is not unusual for a subcontract to state something along the lines of, "the Subcontract Documents consist of (1) this Subcontract; (2) the Prime Contract, including general and supplementary conditions; (3) Drawings, Specifications, Addenda . . . ." Frequently, some of the referenced documents are not provided to the subcontractor but only offered as available for inspection if the subcontractor wants to review them. Often, the subcontractor also represents by signing the subcontract that it did inspect the referenced documents prior to signing the subcontract. It must be understood that the law generally enforces terms of referenced documents which are "incorporated by reference."

The general rule of enforcing terms incorporated by reference into a contract recently came into play CC-Aventura, Inc. v. Weitz Company, LLC, Case No. 11-11191 (11th Cir. Oct. 11, 2012). In that case, the general contractor terminated the subcontract with its subcontractor. The subcontractor had furnished a performance bond to protect the general contractor against the event of the subcontractor's default. The performance bond required that the general contractor provide the surety with reasonable notice of the subcontractor's default. The performance bond, which is a form of a contract, also incorporated the subcontract by reference. The subcontract provided that in the event of the general contractor's termination of subcontractor, the general contractor had the option of either completing the subcontractor's work or requiring the surety to complete the subcontractor's work. The subcontract expressly required the general contractor to provide the surety with written notice if the surety was to be called on to complete the work.

The general contractor did not provide the surety with written notice of the subcontractor's default but instead proceeded to complete the subcontractor's work. The general contractor then sought "reimbursement" from the surety for the additional costs incurred as a result of the subcontractor's alleged breach, but the surety rejected. The general contractor sued the surety. The trial court entered judgment in favor of the surety due to the general contractor's failure to provide notice to the surety. The general contractor appealed.

In the appeal, the general contractor argued that a ruling by a Florida state appellate court in 2007 in a similar situation should have been applied to reach the outcome that the general contractor did not have to provide notice of the subcontractor's default to the surety. However, although the situations may have been similar, they were not the same. In the 2007 case, the subcontract that was incorporated by reference into the performance bond allowed the general contractor to terminate the subcontractor, complete the subcontractor's work, and later sue the surety for the shortfall. In that case, it was contractually proper for the general contractor not to give the surety notice prior to completing the defaulted subcontractor's work.

Because the subcontract in CC-Aventura v. Weitz that was incorporated by reference into the payment bond required the general contractor to provide notice to the surety if the general contractor intended to make a claim on the performance bond, the general contractor was not able to recover from the surety when it failed to give that notice.

It appears clear that when it negotiated the subcontract the general contractor was aware of the subcontract terms governing termination and requiring notice to the surety. The reasons it did not strictly abide by those terms when it terminated the subcontractor were not discussed in the court's opinion. Of course, it is an understatement to say that a general contractor has a lot going on when in the throws of a large project. But parties to a contract must be mindful that the contract terms dictate what is required and failure to abide by them can be costly. Each party to a contract should have at least one person, if not more than one, who is intimately familiar with the terms of the contract. Repeated reviews of the contract may be required as the project progresses, especially as new circumstances arise and different provisions of the contract are implicated. For these reviews to be comprehensive, they must also include the terms incorporated by reference.