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Subcontractors Can Manage Risk

A Risky Business” is how the May 2014 issue of Construction Executive labeled the industry in an article providing three stakeholders’ perspectives of risk management. Why is risk so pronounced for subcontractors, and what can they do to manage it?

The Endless List of Risks for Subcontractors

The terms risk, risk-shifting and risk management are used frequently, but what exactly do they mean? And what risks are specifically applicable to sub-tiered contractors?

It would be nearly impossible to list everything that could go wrong and expose a subcontractor’s company to financial hardship. Truly understanding the risk potential requires an understanding of why these risks arise. Following are three major risks.

  • Financial Risk – Subcontractors purchase materials (usually on trade credit) and then perform labor. They typically bill their customer and get paid aftercompletion or partial completion. Subcontractors, therefore, have a financial risk that they will not get paid on time or not at all, and be liable for trade credit, payroll or other expenses that have already been fronted on the project.
  • Safety Risk – Construction can be a dangerous business. There is always a risk of something happening on a project that affects the safety of workers, participants or bystanders.
  • Performance Risk – Many things may put the subcontractor in a position where it cannot perform or finish a job. No matter who is at fault for the performance challenge, the subcontractor shoulders that risk.

Education and Understanding Insulates Against Risk

In Construction Executive’s “A Risky Business” article, Brian Allison, CEO of an electrical subcontracting firm, said in reference to contract terms: “I did not even read contracts until I was made aware of the risks at an education conference…I would bet that a majority of subcontractors don’t even read their contracts because they just aren’t educated on the risks that could be included.”

This comment from Allison is an unfortunate reality for subcontractors, and one huge risk mitigation tool is just developing an understanding of how these risks arise on projects and what can be done about them. However, attending a conference on risks and reading industry publications will only scratch the surface. Grow a quality relationship with a quality construction attorney, never take anything for granted and never stop learning.

Pay Attention to Financial Risks

One could argue that financial risks on a construction project actually act as a fountainhead for all other risks. In other words, it all comes back to the money. If cash is moving through the contracting chain smoothly, then it’s likely subcontractors can commit the proper resources to getting the job done well, safely and completely.

Accordingly, keep the following in mind:

  • Pay attention to financial risk-shifting contract clauses. Contracts contain a number of clauses that attempt to shift financial risk, including contingent payment provisions such as pay-when-paid or pay-if-paid clauses. It’s a good idea to refuse to sign payif-paid clauses altogether, and to be very stingy on pay-when-paid provisions. Don’t ignore other financial risk-shifting provisions, such as change directive clauses, change order restrictions, claim notice provisions and liquidated damage clauses.
  • Always stay in a secured position. For all this talk about industry risks, would it be surprising to learn that the industry could be and was designed to be incredibly unrisky and secure for subcontractors? More than 200 years ago, Thomas Jefferson introduced the first mechanics lien legislation to take all financial risk off the subcontractor’s shoulders. Since then, all 50 states have wholeheartedly adopted lien and bond claim laws, and other laws, with the explicit purpose of protecting subcontractors against non-payment. It is foolish to ignore these protections, or to dismiss them as too complicated or a relationship problem. Savvy companies use these security rights, and the industry knows about these rights and expects them. Understand these rights, and remain in a secured position at all times.

call to action

Years of construction attorneys drafting and pushing onerous contract clauses, coupled with the recent burn from the economic recession, has the industry on edge. Most construction disputes devolve into a fight over who is going to get the best of the other and who is going to win.

This is a call to action for everyone in the industry, up and down the contracting chain, from the bidding process to the final nail: Respect everyone’s role in the project, allocate risk to one another fairly, and embrace and preserve lien and bond claim rights.

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