Responding to Structural Failure: What Construction Business Owners Need to Know

On July 7, columns buckled in a building under construction Manhattan, New York. The instability spurred fears of collapse, and nine buildings were evacuated. The high-rise was deemed stable and safe to begin emergency repairs by the next morning. An investigation is underway to determine the cause of the event and potential prevention methods for the future.

The near-catastrophe had all eyes on New York and raised questions about design and construction processes. When a structural failure occurs, construction business owners may find themselves under immense pressure. I spoke with Robert Alfert, a partner at Nelson Mullins’ Orlando office, to cover a typical investigation process. Learn how to prepare and what you can do to mitigate risk in your projects.

 

What is the standard investigative process like when a building experiences structural failure or collapse?

There are a handful of critical steps that all stakeholders need to initiate immediately, often simultaneously given the emergency scenario.

First and foremost, the primary stakeholders, usually the owner, the contractor and the design professionals, need to collaborate to immediately address the emergency situation. That means if there is a risk of collapse or a risk of injury to others, the property obviously needs to be evacuated immediately. The authority having primary jurisdiction over the structure needs to be alerted immediately as well. If it is a significant risk of collapse, the property will probably be cordoned off. If possible, the structural system should be shored up to prevent the risk of imminent collapse.

All of the stakeholders need to review their respective contracts and insurance policies, which will include the owner’s upstream contracts with their lenders, investors and landowner, if any, so that all notice requirements are identified and steps are taken to ensure the proper contractual notice is given to every entity that requires notice and every entity that is potentially a responsible party. That will include all parties placing their insurance carriers on notice, and if the property is bonded, putting the surety on notice as well. Preserving rights and claims is critical during this early stage, as the root cause of the failure may not be known. A root cause analysis often can take many months, and a party does not want to be in a situation of placing a potentially responsible party on notice, after the fact, potentially after spoliation of evidence has transpired.

The project stakeholders and key parties that are potentially liable should immediately retain expert witnesses to perform a root cause analysis of the failure. In a catastrophic failure, there often is a rush to retain the more renowned structural engineers. While in a perfect world one would think all parties should collaborate and use one engineer to identify the failure and the fix, the liabilities and exposure are far too significant. Each party needs its own expert witness to provide independent analysis, guidance and opinions.

All parties need to go immediately into records preservation mode. Many party lawyers will likely include records preservation and retention language in their notice letters. The key is to preserve all possible evidence and avoid the risk of inadvertent, or possibly even intentional, records destruction or deletion. The retention and preservation needs to cover all electronic records in particular, as most large projects in this modern era are driven digitally. Project management software like Procore needs to be preserved and protected, as does the building information modeling (BIM) model, which is likely controlled by the architect or structural engineer.

Photo-documenting and videotaping the premises is critical, as is the preservation of all physical evidence. Unless necessary to address an emergency or other exigency, the physical evidence should not be disturbed until all proper parties have been placed on notice and accorded an opportunity to inspect and test if necessary. 

What should a construction business owner do to prepare for an investigation?

Let’s start with the basic premise: The “investigatory team” needs to be led by the construction lawyer, who generally should advise on what expert witnesses to retain for the forensic investigation. A skilled construction lawyer has been involved in these situations before, and will generally know which subject matter experts are best in class. The other basic premise: gather all construction records in your possession and preserve and maintain them securely. Many of these records become core to the claims and litigation and may need to be used for three to five years or even more. And make sure the construction lawyers send litigation hold and preservation letters to all parties that potentially are at fault, especially those that owe indemnity to the contractor client, such as implicated subcontractors.

What documentation will investigators need?

While the list of key records can turn on the event in question, generally the investigators will need:

• All project contracts (including subconsultant contracts and subcontracts of potentially responsible parties)    
• All insurance policies 
• The full set of permit drawings for the project (all architectural and engineering drawings)
• Project photographs and videos, including drone aerials
• BIM model (this is the computer program for the structural system)
• Agenda and minutes of the standard owner-architect-contractor site meetings, which are periodic but could be weekly on larger projects 
• Contractor daily reports
• Architect and engineer periodic inspection and site visit reports 
• Any inspection reports of the authorities having jurisdiction 
• Assuming this is a structural failure:
  • Structural engineering drawings 
  • Requests for information (RFIs) and change orders related to structural issues
  • Contractor submittals and shop drawings involving the structure
  • Threshold inspection reports (many jurisdictions require these reports on a daily basis for larger projects)
  • Any testing reports, especially on concrete pours

  We are and have been in a new era — most of these records are now in electronic format. The investigatory team needs access to all relevant electronic documentation, including access to the project management software. Text messages, cellphone pictures and emails often become critical as well, and occasionally what is said in text message becomes the proverbial “smoking gun.”

  
   

  If the investigators find that a construction defect is to blame, who is on the hook for payment? 

  If the defect is construction, not design or engineering, the prime general contractor is liable for the repair costs and ensuing damages. The general contractor can push down some of the liability to subcontractors that caused or contributed to the problems.

  All of the contractor parties — the general contractor and implicated subcontractors — carry commercial general liability insurance (CGL). The CGL policy, if properly noticed of the defect event, generally will assume the defense of the implicated contractors, paying for the lawyer and expert witnesses. If there is a covered defect event, the CGL policy will pay for the ensuing damages, but not typically for the repair to the defect itself. That gray area between defect and ensuing damages is a heavily litigated space between the contractors and their carriers.

  If the project was protected by a performance bond, surety coverage may arise as well. The practical reality is that insurance companies rarely pay 100% of the covered losses, so invariably the contractor parties may contribute to the settlement pot. Often, owners and lender parties accept in settlement an amount less than full recovery in order to bring closure to the situation.
   

  What steps can a construction business owner take to reduce risk on projects?

  Leaving aside the obvious — do quality work and hire qualified subcontractors — the most significant two things a construction business owner can do to minimize risk are the two things most spend the least time doing: (1) preparing and negotiating fair, balanced contracts that allocate and address risk in a commercially reasonable manner; and (2), properly insuring the project and all attendant risks.

  Using industry templates, like the AIA suite of documents, is an excellent starting point for all parties (owners, contractors and architects) to document the terms of the deal and assure that all key elements of an important contract are addressed. These are tried-and-true templates, and they generally cover the majority of the key contract terms and risks.

  Parties then need to customize these templates to the applicable state law and to the particular needs of each project, specifically including the risks. The construction business owner should carefully review an owner’s proposed contract, especially if it is a highly modified AIA document, to make sure that risk is not being allocated to the contractor in an unfair or imbalanced way. Look to the indemnity terms, relief from impact events, warranty terms, waivers of consequential damages and, if possible, negotiate terms that may contain liability. For example, if there is a way to cap exposure to liquidated damages or limit damages to a definable metric, such as contract value or insurance, these risk mitigation strategies are worth considering.

  Many owners, architects and contractors are underinsured for project risk, especially on larger projects. I see it often on projects in the hundreds of millions of dollars: Defects and claims ensue, and we learn that the architect only carried $5 million in professional liability coverage and the contractor only carried $25 million CGL, and neither were project-specific. These larger projects, like the New York City building, where project values can range up to or over $1 billion and claims can range well above standard insurance coverage terms, require customized and coordinated insurance. The owner, architect and contractor all need comprehensive coverage to ensure that the project and each other are adequately insured for the risk.

  Sometimes the owner and its counsel take lead and require project-specific coverages that are commensurate to the project scale and risk. But for the construction business owner, it needs to have its own strategy for protecting against risk. That usually means having a tower of CGL coverage and the ability to implement a Contractor Controlled Insurance Program (CCIP) that is project-specific and with coverage limits that can protect against a catastrophic defect. On a $1 billion project like the NYC tower, that could mean a CCIP with $100 million in CGL coverage. The contractor should be proposing this to the owner as all parties benefit, and it is or should be a reimbursable cost of the work.

  A CCIP also protects the contractor from lapses or deficiencies in subcontractor coverage, as most of the subcontractors will become enrolled into the CCIP. If the owner requires bonding on the project, which then exposes the construction company owners as indemnitors, the construction business owner should employ a subcontractor default insurance (SDI) program or require the owner to pay for subcontract bonds as well, so if claims arise that implicate a trade contractor, they are independently bond as well.

  I cannot overstate how critical the customization of insurance is on larger, more complex projects. It really is the contractor’s best form of protection when a catastrophe arises.

   

  Is there anything else you would like to add?

  Perhaps the most significant surprise is that many parties involved on projects of this scale tend to be underinsured for catastrophic events, do not fully understand what their insurance policies cover and do not cover, and, significantly, do not comprehend that insurance companies are in the business of avoiding liability and compensation. Many insurance companies fight payment even on obvious defects that are covered events. The insurance coverage landscape on a project like this can be very complex, and until the root cause of the failure is identified, it is not always entirely clear which insurance policies are implicated. The applicable insurance policies could range from builder’s risk to the professional liability policies of the design professionals to the CGL policies of the contractors and the developer.

  A lot of parties also fail to comprehend that, even in a clear covered loss or event, the policy still might not provide complete recourse. Generally speaking, commercial liability policies do not pay for the remedy of the defect; they only pay for the ensuing damage. That can be a significant disconnect to full recovery, as the insurance policy will not pay to fix the problem — it will only pay for the damages that ensued from the defect. And professional liability policies can be even more challenging.

  For example, many are declining balance policies, so if the structural engineer had a prior claim payout in that calendar year under the policy, the full value of the policy may no longer exist. Moreover, litigation costs for the attorneys and the expert witnesses further reduce the balance of a policy. Many structural engineers tend to carry professional liability policies ranging from $5 million to $10 million per claim; only the huge engineering firms carry higher amounts, and you can see how those policy limits can erode very quickly from a prior claim or the cost of litigating.  

  These cases are very challenging, and many take years to resolve. And in the meantime, the project needs to be built.