Dissecting Contract Breach Terminology, Warranties, and Remedies

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BREACHES

OF CONTRACT

Dissecting Contract Breach

Terminology, Warranties,

and Remedies: Part Two

By Jerey P. Aiken and Dylan C. Ochoa

Editor’s note: This is part two

in a series of articles. Part one

was published in the last issue

of The Construction Lawyer.

Introduction

In part one of this article, we

discussed the various inconsis-

tencies and deciencies within

the prevailing nomenclature

associated with the classica-

tion of contractual breaches

and r

esulting remedies. The

focus was on three traditional

approaches: first, material

breach; second, partial vs. total

breach; and nally, a hybrid of

a total, partial, and material

breach. The chosen conceptual approach is critical to

determine the appropriate remedy, such as entitlement

to monetary damages, or avoidance of further perfor-

mance obligations. Therefore, part two of this series of

articles offers a proposed solution to the existing prob-

lems within the traditional approaches drawing from the

unique, process-oriented, practice of construction law.

Contract Breach in Construction—The Solution

Descriptive Nomenclature

Given the shortcomings of the three binary approaches to

contractual breach, it is unsurprising that they simply do

not work well when applied to process-oriented contracts

involving interdependencies between the contracting par-

ties, for example, as encountered in construction. It is for

this reason, among others, that the traditional approach to

construing contractual breach presents unique challenges

in the construction arena. We submit that construction’s

three-tier approach of substantial breach, material breach,

and immaterial/technical breach more accurately reects

what one should encounter from an appropriately descrip-

tive, and logically-consistent, classication of contractual

breach.

For example, at the highest rung of recovery, a

substantial breach entitles one to exercise a termination

option in addition to recovering damages.

Such a breach

can only occur in the absence of substantial completion

of one’s performance (how one can substantially breach

a substantially performed contract is confusing at best).

Following substantial performance, the only breaches

are (a) a material breach, allowing the recovery of dam-

ages but subject to the limitation of economic waste and

diminished value; and (b) an immaterial/technical breach,

which does not provide for any monetary relief equal to

a material breach where the basis for an award would

result in economic waste without any diminution in value.

It would seem appropriate to start the process of

developing appropriately descriptive terminology in the

world of contractual breach with the simple concept that

a breach must at least be material to justify any award of

damages, or other relief. In other words, the term mate-

rial should not be at the uppermost rung of the ladder,

entitling termination, or excusing non-performance, by

the nonbreaching party. Instead, it should be one rung

lower. Moving it down to the area where monetary dam-

ages are available, but excuse of non-performance is not,

allows for a more logical classication enabling the high-

est rung to occupy a substantial breach.

In this way, a

substantial breach triggers the right to terminate while

also triggering the right associated with any material

breach to recover damages for costs to complete, or to

cure, subject to the duty to mitigate such damages

and

application of the economic waste and diminished value

doctrines. This approach avoids the inconsistency of hav-

ing to dene material breach as to allow for exercise of

two potential remedies (i.e., termination and/or dam-

ages), leaving a breach allowing for only one remedy (i.e.,

damages) relegated to the bin of being classied as an

immaterial breach—a problem avoided with the partial

breach concept.

It is worthwhile to note that in the construction eld,

the term substantial is used to characterize a breach

entitling the other party to terminate.

Courts have

also employed this term in non-construction settings,

although doing so has been almost always without expla-

nation for abandoning the term material to characterize

the breach. Oftentimes, courts use the two terms syn-

onymously,

which only leads to confusion as to what is

really intended.

A breach should be considered substantial only if

substantial performance is not achieved. In this way,

there would be a common concept of what is, or is not,

Jerey P. Aiken

Dylan C. Ochoa

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substantial governing both the stage of performance

and the character of the breach. Some courts have done

so.

As a practical matter, equating total and substan-

tial for this category of breach makes much more sense.

In other words, once substantial performance has been

rendered, there can no longer be a substantial breach.

Again, the term substantial is applied with like meaning,

whereas material and total do not have a similar benet

in conveying equal concept terminology to both perfor-

mance and breach. A breach that results in less than a

destruction of the essence of the transaction, yet that is

signicant enough to be more than unimportant, should

be considered material to support an award of damages,

be it the cost to complete or repair, accrual of interest,

or diminished value. A breach that is truly unimportant

or inconsequential should be classied as a immaterial or

technical. Admittedly, any of these latter terms convey-

ing the concept of insignicance would depend upon an

inherent application of the economic waste and dimin-

ished value principles such that the diminished value, on

its face, would be zero.

Now, would this shift the burden of proof for the

breaching party seeking to avoid damages liability? No.

If, for example, the owner asserts a damages claim for

the cost to correct the construction of a stud wall to

move each stud one-quarter inch without any meaning-

ful improvement to the wall’s functionality, or structural

integrity, the contractor still has the burden of proving

the cure for the breach would entail economic waste and

would not produce an improvement in market value such

that it amounts to a purely technical or immaterial breach.

Again, the playground basketball adage of “no harm,

no foul” is particularly applicable to this type of breach.

Labeling it as an immaterial or technical breach would

be more descriptive, although in many cases a detailed

analysis of the cost to complete or correct in compari-

son to any diminishment in market value would still be

required to arrive at the same spot—namely, no recover-

able damages.

Remedies for Breach

It is hornbook law that absent a contractual provision

authorizing one party to make changes to the other’s

required performance (e.g., a “changes clause”), any

ordered change, or changes, amounts to a breach of con-

tract, or potentially, an abandonment. Whether such a

change amounts to a substantial, material, or technical/

immaterial breach is oftentimes a difcult question to

answer. Focus must be paid to whether the unauthorized

change involves the addition or deletion of work, plus its

relative signicance to the overall contractual arrange-

ment. The available remedies for a type of breach of this

nature will generally be determined under the same prin-

ciples as applicable to any other breach.

A rather unique aspect of construction law is the

treatment accorded to changes issued under a contrac-

tually-sanctioned changes clause and how, in certain

instances, that treatment exemplies aggregating multi-

ple material breaches to amount to a substantial breach,

thereby triggering a termination option under the First to

Breach rule. This happens via the concept of “death by a

thousand cuts,” which has been recognized as a legitimate

vehicle for concluding that a series of less-than-substan-

tial changes by way of a changes clause, or otherwise, can

amount to a “cardinal change.”

Because, by denition,

a cardinal change entitles the contractor to either quit or

continue performance,

it is functionally equivalent to

substantial breach in terms of the remedies available. Yet,

no judicial decision specically equates the two. Neverthe-

less, this seems to provide fertile ground for establishing

that an aggregation, or series, of less-than-substantial

breaches can amount to a substantial breach triggering

the First to Breach option in areas outside the construc-

tion eld.

There is a related issue associated with monetary dam-

ages available under the cardinal change rule. While this

is a subject beyond the primary focus of this Article, suf-

ce it to say that the question becomes how a contractor

is entitled to be compensated should such a change occur.

Courts generally recognize the contractual scheme for

compensating a contractor under a changes clause does

not apply in the event of a cardinal change,

but instead

that the doctrine of quantum meruit applies.

The cen-

tral issue is the extent to which a contractor is entitled

to that measure of compensation. That is, is a contrac-

tor entitled to the reasonable value of the work which

was impacted by the cardinal change? Or is a contractor

entitled to the reasonable value of the work for the entire

project? If the latter, a contractor could salvage a project

that is underwater nancially and turn it into a protable

one. It might also avoid the need for acceleration at the

contractor’s ultimate expense if the contractor is behind

schedule up to the point of the cardinal change. If the

former, the contractor’s recovery would be limited to the

work impacted by the cardinal change, as has been held

in a case specically rejecting abandonment as a basis for

extending quantum meruit to pre–cardinal change work.

The general rule is that specic performance is not

available when the injured party can be adequately com-

pensated through an award of monetary damages, which

has been found specically applicable to construction

contracts.

Most often, this form of relief is relegated

to situations where something unique is the subject of

promised performance—such as in the case of contracts

involving the transfer of land, which is oftentimes deemed

unique by its nature.

Consequently, it is safe to conclude

that for an obligation to be subject to a specic perfor-

mance remedy, it must be of the essence of the transaction,

and its breach in turn would have to be substantial. In

short, a simple material breach would not be of such a

nature to qualify for this equitable remedy.

The recoverability of punitive damages is also worth

considering insofar as it relates to the three types of

breaches. Punitive damages obviously would not be

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available for a purely technical or immaterial breach

that does not even allow a monetary recovery, although a

theoretical exception would exist under a material-imma-

terial or total-partial construct. In these latter instances, a

minor breach that would not allow for recovery of mon-

etary damages due to application of the economic waste

and diminished value rules could still conceivably allow

for a punitive damages award, although it is difcult to

imagine such a situation.

That leaves recovery in the

event of a material or substantial breach. Generally, puni-

tive damages are not recoverable for contractual breach

because the law recognizes the concept of efcient breach,

which bars liability beyond making the nonbreaching

party whole.

If one is entitled to breach a contract inten-

tionally to accomplish an efcient breach, it stands to

reason that one is likewise free to breach it negligently or

otherwise. At least one court has failed to accept this logic

in upholding a punitive damages award when a written

seven-day termination notice was not given and “the deci

sion to terminate was made in an unprofessional manner

. . . conceived in frustration and consummated in anger.”

The lesson, to be safe, is that when terminating a contract,

do so pleasantly and with a smile on your face.

Finally, several additional issues exist with respect to

standard clauses in the American Institute of Architects

(“AIA”), Engineers Joint Contract Documents Commit-

tee (“EJCDC”), and ConsensusDocs® forms of “General

Conditions” relating to an owner’s right to terminate for

default by the contractor.

No authority has been found

determining whether the contractually-specied grounds

for termination supersede what might be a broader set

of situations comprising a substantial breach triggering

a common law termination option. In addition, while it

seems logical to conclude that the contractual scheme is

intended to be exclusive, as specically provided in the

ConsensusDocs®,

the existence of cumulative rem-

edy provisions in the other two standard forms strongly

indicate the contrary.

One might ask: What difference

does it make? The answer is that both of these contrac-

tual schemes require notice to be effective.

If an owner

improperly terminates without such a notice, a fallback

to the common law ground for the termination might be

very advantageous. As yet, there is no case law on the

effectiveness of such an approach.

Classiﬁcation of Warranties and Related Breaches

Applying the three tiers of breach (substantial, material,

and immaterial/technical) to warranties is difcult due

to the nature of a given warranty or, more accurately, its

particular structure. One cannot accurately determine

the type of breach without rst determining what a war-

ranty really is. Despite the common usage of warranties,

the nature of a warranty is not often discussed insofar

as the time at which a warranty takes effect, aside from

specic contractual triggers.

For example, with a simple

“warranty against defects in material or workmanship,” it

is unclear if the warranty is co-extensive with the basic

contractual obligation to perform in accordance with

contract requirements, or if it is a separate undertak-

ing.

There are obviously situations where warranties

are given as an independent contractual obligation, in

which event the warranty will usually commence upon

issuance. Because a warranty breach will occur if and

when the obligor fails to perform its warranty obliga-

tion and, in virtually all conceivable instances, when the

obligee has already been given full consideration for the

undertaking, there would not appear to be a situation

where a breach by the obligor could be considered sub-

stantial so as to trigger a First to Breach option for the

recipient. It is even less clear what happens when a war-

ranty is given as an integral part of the overall contractual

undertaking without separate consideration—what we

call an integrated warranty.

Even though an integrated warranty might be an essen-

tial component of a contract necessary for formation

purposes, unless its operability commences upon exe-

cution of the contract, it is difcult to imagine how its

breach could be considered a substantial one. Presum-

ably, the obligation to perform work free from defects

in material and workmanship is co-extensive with the

warranty undertaking until substantial completion is

achieved. The integrated warranty seems to offer little,

if anything, of value to this point, but with one possible

exception. For purposes of determining the existence of

a substantial breach of the base contract, thereby trigger-

ing a termination option, the focus is on the importance

of the obligation insofar as the essence of the transac-

tion is concerned. It would seem that there could not be

a breach of the companion warranty obligation indepen-

dent of the nature or signicance of the base contract

obligation being unfullled.

If a critical obligation is breached, it does little to

say the companion warranty obligation is also breached

unless one asserts that, within the four corners of the

warranty, there is a substantial breach independent of

the underlying contract breach. If this were the case, a

material breach of the base contract could be considered

a substantial breach of the warranty—–which seems to

make little sense. Consequently, it seems safe to conclude

that an integrated warranty will not confer any additional

rights worth considering by a obligee prior to substan-

tial performance of the base contract. It is presumed that

the warranty, although not so stated on its face, actu-

ally speaks as of the date of substantial performance. If

that is true, then a subsequent breach of the integrated

warranty cannot be considered a substantial breach trig-

gering a termination option for an owner even though it

was an essential term of the contract.

The owner might

exercise such option, for example, to avoid any remaining

payment obligations, although common law offset rights

would probably have the same effect.

The primary importance of the onset of a breach of an

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integrated warranty is the fact that such date will establish

the commencement of limitation periods for instituting

formal legal action.

To make such a determination, the

specic terms of the warranty must be carefully analyzed

because they will control the overall nal decision. Vari-

ants from a basic “warranty against defects in material

or workmanship” are several, including the presence or

absence of provisions related to a time period after which

the warranty is extinguished and (i) defects arising dur-

ing the warranty period without a requirement for notice

to activate a cure obligation or (ii) defects arising during

the warranty period wherein the warrantor receives writ-

ten notice of the claim within the specied time period.

Additional common features can include (i) the absence

of a specically stated obligation that the warrantor must

repair or replace the defect, (ii) a provision giving the

warrantor an option to correct the deciency prior to

the recipient acting on its own if the recipient wants to

hold the warrantor responsible, and (iii) a provision that

species whether or not the warranty is the recipient’s

sole remedy in the event of defects. If notice is required

to trigger a warranty performance obligation, a breach

could not occur nor a limitation period start running

until a reasonable time following such notice without an

appropriate cure.

When Is Warranty Performance Due?

If a party wrongfully terminates, or is properly termi-

nated, prior to substantial performance in a non-sales

transaction, both its base contract obligation as well as

its warranty obligations should survive that event. So far,

no conclusive authority has been found on this point, nor

does the case law focus on the character of the breach of

one’s warranty obligation.

Prior to substantial comple-

tion of the base contract, both the integrated warranty

and underlying performance obligation are essentially the

same. Courts generally look to the date that the instal-

lation or other performance is substantially completed

before any limitation period for ling claims commences.

This, obviously, has a distinct advantage in terms of sim-

plicity rather than addressing potential complexities

present with the actual warranty obligation. Rarely are

warranties crafted with specic terms addressing time for

performance and completion of the warranty obligation.

One impact of the date of a warranty breach is com-

mencement of the statute of limitations for contract

claims (including warranty claims). In other words, if

there is a six-year statute of limitations for breach of

contract claims, it may make a signicant difference if

the warranty is deemed breached upon substantial com-

pletion, due to defects in materials or workmanship, for

example, or at some later date. If a warranty provides the

obligor an opportunity to cure defects of which it receives

notice within a one-year warranty period, there are sev-

eral issues that should be addressed. For example, if the

obligor receives notice on the last day of the warranty

notice period, it obviously must have the right to per-

form its warranty obligation following the expiration of

that period.

Another issue is whether the warranty is

breached if the obligor fails to cure the defect on its rst

attempt, or whether it is entitled to multiple attempts and

over what period of time.

At this point, there is little if any authority on the issue

of whether it is “one strike and you’re out,” apart from

the context of commencement of the statute of limita-

tions for breach of a cure warranty. A few cases discussing

the statute of limitations applicable to warranty breach

claims have concluded that when there are multiple unsuc-

cessful attempts to cure, the limitations period does not

start until the obligor “refuse[s] to make repairs.”

Sev-

eral cases have recognized that there are multiple ways in

which a cure warranty can be breached: (a) repudiating

the obligation before or after a demand to cure is made or

notice of defect is given; (b) failing to undertake repairs

within a reasonable time after the requirement is triggered;

repair, abandoning the effort prior to completion.

One

court has gone so far as to state that a refusal to repair

defective work under the base contract will result in a

separate contractual breach for which its own limitations

period and remedies will apply.

A similar series of issues arise with an open-ended

warranty covering defects that “arise or exist within” a

given warranty period regardless of when the condition

rst becomes apparent.

This type of warranty is per-

petual in that a construction defect will exist on the day

of substantial completion regardless of when it becomes

apparent. Without a requirement for notice of the con-

dition within a specied time period, the warranty will

continue to run forever, regardless of when the condition

rst becomes evident.

Regarding this particular type of

warranty, the same questions exist as to the time for com-

mencement and completion of warranty performance.

Must cure efforts be started within a certain period of

time following notice of the claim, or can an obligor wait

until near the end of the warranty period before under-

taking the cure?

Presumably, the implied obligation of

good faith would require commencement of cure efforts

within a reasonable time following notice.

An issue also

arises with respect to a warranty obligor’s liability for any

direct or consequential damages that are sustained fol-

lowing notice and prior to a nal effective cure.

Another issue, as referenced above, involves the ques-

tion of whether a warranty obligor is entitled to make

multiple attempts to cure the problem before a breach

actually occurs—and, if so, how many and over what

period of time.

While a warranty recipient’s obligation

to mitigate its damages may require allowing the obli-

gor subsequent cure efforts, there is unlikely to be any

provision in the warranty itself addressing this question.

Absent specic contractual language in the warranty, the

question of mitigation is not one of breach of a recipient’s

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warranty obligation to allow multiple cure efforts but

rather one of limiting or precluding the recipient’s dam-

ages recovery.

Also, warranties frequently do not specify a right for

the obligor to attempt a cure of the defect, although it

seems implicit and is explicit in major standard-form con-

tracts.

Absent such a clear right, a recipient should be

entitled to engage a third party to cure the deciency and

seek recovery of the related expenses.

Doing so, however,

could jeopardize the recipient’s right to recover a portion

or all of any other direct damages arising from the defect,

in addition to inviting a failure to mitigate defense by the

warranty obligor.

A related issue is whether the base contract’s warranty

against defects arising within, for example, one year also

creates a new one-year warranty regarding defects in the

purported cure that is performed. Only one set of the

major standard-form contracts specically provides for

a one-year warranty on warranty work.

Absent such a

clear contractual solution to the issue of defectively per-

formed warranty work, it seems clear that any purported

warranty “x” that is later discovered to be an ineffective

cure should result in a breach of the obligor’s warranty

obligation whenever discovered during the period of the

relevant statute of limitations.

Otherwise, a purported

cure implemented on the last day of the warranty period

might fail on the next day without the recipient having

any further recourse if the integrated warranty was des-

ignated the exclusive remedy. In support of this position

is the general rule that ambiguities are construed most

strictly against the drafter. Because the obligor invari-

ably drafts the warranty provision, it should bear the risk

associated with such extended coverage for the recipient.

This is not to say persuasive arguments might be crafted

to the contrary, although there does not appear to be

any denitive guidance in this respect. Finally, thought

should be given to whether the structural operation of

the warranty can amount to a frustration of purpose so

as to invalidate the problematic features.

Other issues arise with respect to a recipient’s right to

partially correct a defect as a part of its mitigation obliga-

tion while awaiting warranty performance by the obligor

without jeopardizing its right to recoup expenditures in

that effort. If the warranty is structured as an exclusive

remedy for the recipient, this becomes particularly trou-

blesome. A savvy practitioner will recognize this potential

problem and craft language to mitigate or eliminate such

an effect. Likewise, an owner should accept an exclusive

integrated warranty with a limitation on its term only if it

excludes claims for latent defects rst appearing after the

exclusivity period expires so that recourse can be available

under the base contract for the full period of the appli

cable statute of limitations or repose.

The Designer’s Implied Warranty

As any seasoned practitioner knows, an owner impliedly

warrants the adequacy of a design specication furnished

by its designer.

The obvious problem for the owner is

that by virtue of a deciency in the design documents,

it may be faced with a contractor’s claim for extra com-

pensation. Yet, if the owner cannot recoup that liability

from its designer, it will be left with an unexpected bill to

pay without having budgeted the expense. To successfully

pass through that liability to its designer, the owner will

look to enforce the implied warranty that it receives from

the designer. But what is the nature of that implied war-

ranty? One case describes in some detail the underlying

rationale for denying an implied warranty of “a satis-

factory result” amounting to strict liability for designers

absent the failure to satisfy the negligence standard of

care.

This is so regardless of whether a claim is pursued

on the basis of contract or tort obligations.

An attempt

to close the gap, so to speak, by imposing via contract a

standard of care higher than what an ordinary prudent

designer would have exercised under the same or similar

circumstances

creates a signicant problem for both the

designer and the owner. Namely, the designer’s errors and

omissions insurance coverage would, in all likelihood, be

inapplicable, leaving the designer “naked” from a cover-

age point of view.

The scope of a warranty creates problems as well.

While the usual warranty covers workmanship and mate-

rials, this overlooks the issue of design. For example,

the builder of a spec home provided an extensive set of

warranties regarding the structure and equipment com-

ponents; the home happened to be built in the midst of

an underground stream, necessitating installation of a

sump pump system. Unfortunately for the new owner, the

system was grossly undersized such that the sump pump

ran 24 hours a day, seven days a week, and burned out

in short order. In addition, the sump pit was too small

to handle the inux of water. The builder asserted that it

was not responsible for the condition, insisting that there

was no express or implied warranty as to the adequacy of

the system’s design and that the components of the sys-

tem were neither defective in workmanship or materials.

Ultimately, in that case, the builder recognized that the

law would in all likelihood imply a warranty of adequate

design, thereby prompting a settlement of the dispute.

Subcontractor Warranty Issues

Little, if anything, has been written or judicially pro-

mulgated when it comes to the issues surrounding a

subcontractor’s integrated warranty that its work will

be free from defects in materials or workmanship.

The

most basic inquiry has to do with the question of when

a subcontractor’s warranty performance obligation com

mences. Is it with the substantial completion of its work,

or of the entire project (the latter being the traditional

trigger for the general contractor’s obligation)? If it is

deemed to commence upon completion of the subcon-

tractor’s work, then when does it expire? While the specic

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terms of that warranty are important for making such

determinations, in all likelihood, contractual specicity

on these issues will be lacking. That, however, may be

of little practical signicance because if a subcontractor

fails to perform its work free from such deciencies, the

prime contractor may simply assert a claim of breach

under the base subcontract.

One obvious additional issue revolves around whether

a prime contractor can have a First to Breach option

insofar as its subcontractors are concerned.

There is

no reason that a prime contractor should not have that

remedy in the event of a substantial breach by the sub-

contractor. In such event, the prime contractor could use

the breach as a means of discharging the subcontractor

from the job, while also potentially relieving the prime

contractor from further obligations on its part and hold-

ing the subcontractor to the warranty obligations under

the subcontract. Of course, the question of substantial

breach of a subcontract can only occur if there is not sub-

stantial completion of that subcontract, regardless of the

stage of completion of the project as a whole. There does

not seem to be any basis for applying a different scheme

of breach labels to subcontracts than one would use with

respect to the prime contract.

Prime contractors who employ blanket “ow down”

clauses in their subcontracts create potential hidden prob-

lems for their subcontractors. The operative effect of a

“ow down” is to pass down to the subcontractor all obli-

gations relating to the subcontracted work that the prime

contractor has to the owner under the prime contract.

Absent some limiting language, this would include all

integrated warranty obligations. No court decision has

addressed the extent of a subcontractor’s warranty obli-

gation in such an event. Nevertheless, should the prime

contractors warranty be open-ended, running perpetu-

ally, then so too would the subcontractor’s warranty with

respect to its work. An experienced construction practi-

tioner reviewing a subcontract for her client will carefully

examine not only the scope of the “ow down” clause,

but also the particular structure of the prime contrac-

tor’s own warranty obligation in order to determine if

appropriate revisions are required to the subcontract so

as to avoid this exposure. The issues surrounding an open-

ended warranty obligation should therefore be worthy of

considerable attention.

Conclusion

People normally have little time to immerse themselves in

the implications of inconsistent and decient terminology

in the eld of jurisprudence. Nevertheless, an understand-

ing of the existing inconsistencies and deciencies in the

nomenclature surrounding contractual breach is a worth-

while undertaking in view of its signicant impact on the

proper creation, or assessment, of a party’s rights and lia-

bilities. The law of contractual breach in the construction

eld offers a solution to the deciencies inherent in the

traditional approaches. Lawyers knowledgeable in this

eld should be mindful of not only the issues surround-

ing the subject of breach, but also the need to export the

underlying terminology to areas beyond construction so

that eventually the courts will “get it right” and thereby

provide a commonsense basis for juries to arrive at fac-

tual determinations, while avoiding the risk of misleading

practitioners.

Jerey P. Aiken, Esq., jereypaiken@gmail.com, is an adjunct

professor of construction law at the University of Wisconsin Law

School and School of Engineering. Dylan C. Ochoa, Esq., dochoa@

hansonbridgett.com, is a construction associate practicing in Hanson

Bridgett LLP’s Los Angeles oce and an alum of the University

of Wisconsin Law School. For further information and questions

in connection with the article, please contact the authors at

jereypaik[email protected]om or dochoa@hansonbridgett.com

Endnotes

1. It is interesting to note that Black’s Law Dictionary, in dis-

cussing substantial performance, draws a distinction between

material and substantial without explanation of the difference.

Substantial Performance, B

lack

’

ictionary

1281 (5th

ed. 1979) (“. . . the contract has been honestly and faithfully

performed in its material and substantial particulars”).

2. See, e.g., U.S. for the Use & Benet of Aucoin Elec. Sup-

ply Co. v. Safeco Ins. Co. of Am., 555 F.2d 535 (5th Cir. 1977);

Ditmar v. Beckham, 86 S.W.2d 801, 802 (Tex. Civ. App. 1935);

5 c

orBin

ontracts

§1110 (1964); Ehlinger v. Bodi Lake

Lumber Co., 36 N.W.2d 311, 316 (Mich. 1949) (“[H]e who com-

mits the rst substantial breach of a contract cannot maintain

an action against the other contracting party for failure to

perform.”).

3. See J.M. Beeson Co. v Sartori, 553 So. 2d 180, 182

(Fla. Dist. Ct. App. 1989); Reliance Ins. Co. v. Utah Dep’t of

Transp., 858 P.2d 1363, 1370 (1993, abrogated on other grounds

by Com. Real Est. Inv., L.C. v. Comcast of Utah II, Inc., 285

P.3d 1193, 1203 (Utah 2012); c.f. All Seasons Constr., Inc. v.

Manseld Hous. Auth., 920 So. 2d 413, 416 (La. 2006) (stating

that substantial completion was “referred to also as substantial

performance” and “can result even though deciencies exist”).

4. See Providence Wash. Ins. Co. v. Beck, 255 N.E.2d 600

(Mass. 1970) (holding failure to comply with a seven-day notice

of termination was “a substantial breach”).

5. Reid v. Mut. of Omaha Ins. Co., 776 P.2d 896, 906 (1989).

Mitigation is generally required when damages are sought in

tort cases, as well as in contract cases. See, e.g., Angelos v. First

Interstate Bank of Utah, 671 P.2d 772, 777 (1983); Jankele v.

Tex. Co., 54 P.2d 425, 428 (Utah 1936); restatement (seconD)

of torts § 918(1) (am. l. inst. 1979).

6. See a

. i

nst

rchitects

, aia 201-2017, G

eneral

conDitions of the contract for construction § 14.2 (2017)

[hereinafter AIA Documents].

7. See Nowicki-Hockey v. Bank of Am., 2017 Mich. App.

LEXIS 1069 (2017) (applying substantial breach in the context

of a loan transaction); Oak St. Funding, LLC v. Ingram, 749

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be copied or disseminated in any form or by any means or stored in an electronic database or retrieval system without the express written consent of the American Bar Association.

F. Supp. 2d 568, 574 (2010) (“[H]e who commits the rst sub-

stantial breach of a[n] [employment] contract cannot maintain

an action against the other contracting party for failure to per-

form.” (quoting Chrysler Int’l Corp. v. Cherokee Exp. Co., 134

F.3d 738, 742 (6th Cir. 1998) (quoting Ehlinger, 36 N.W.2d 311)).

8. Flaig v. Gramm, 1999 MT 181, ¶ 25 (1995) (“A substan-

tial or material breach is one which touches the fundamental

purposes of the contract and defeats the object of the parties

in making the contract.”); see also Gas Sensing Tech. Corp. v.

New Horizon Ventures Pty Ltd, 2020 WY 114 (2020) (nding

“material” breach and “substantial” breach to be synonymous for

purposes of justifying termination by the nonbreaching party).

9. See, e.g., Eagle Ridge L.L.C. v. Albert Homes, L.L.C.,

2009 WL 3837413 (Mich. Ct. App. 2009) (rst to breach must

be “substantial” to justify application of the First to Breach

defense); Flaig, 1999 MT 181, ¶ 25 (“A substantial or material

breach is one which touches the fundamental purposes of the

contract and defeats the object of the parties in making the

contract.”).

10. This disregards the potential impact of aesthetics as a

critical or nonessential component of the transaction. While

color may have signicance to its function, in many cases it is

purely a question of aesthetics. The signicance of aesthetic

considerations involves consideration of the subjective value of

the aesthetic component. In those jurisdictions where the courts

have focused on subjective value, cost of repair has been the

measure of damages regardless of diminished value. See Gory

Associated Indus. v. Jupiter Roong, 358 So. 2d 93 (Fla. Dist. Ct.

App. 1978); Lyon v. Belosky Constr. Inc., 247 A.D.2d 730, 669

N.Y.S.2d 400 (N.Y. App. Div. 3d 1998); Advanced Inc. v Wilks,

711 P.2d 524 (Alaska 1985); Fox v. Webb, 268 Ala. 111 (1958).

11. See U.S. for Use of Morgan & Son Earth Moving, Inc. v.

Timberland Paving & Constr. Co., 745 F.2d 595, 599–600 (9th

Cir. 1984); c.f. Olwell v. Nye & Nissen Co., 173 P.2d 652, 654

(Wash. 1946). An exception applies in the construction eld as

a result of the almost unavoidable use of changes to the original

contract terms. Basic contract liability for consequential dam-

ages is limited to the extent that such damages were foreseeable

at the time the contract was entered into. So far, no authority

has been found to resolve the question of whether entry of a

change order moves the foreseeability determination date for-

ward from the original contract entry date. However, in a recent

case, the U.S. District Court for the Middle District of Penn-

sylvania apparently ignored change order requests submitted

by a contractor when construing the foreseeability of ofce

overhead damages incurred on a library construction project.

Scartelli Constr. Servs., Inc. v. Chesapeake Bldg. Components,

Inc., No. 3:18-CV-01164, WL 3493145, slip op. at *5 (M.D.

Pa. 2021) (“[H]ere, Scartelli has provided evidence . . . that the

other change order requests on the project were related to the

truss system delay . . . but it has not provided any evidence to

show that ofce overhead damages were a foreseeable result

of that delay.”).

12. See, e.g., Durr Mech. Constr., Inc. v. PSEG Fossil, LLC,

516 F.Supp. 3d 407, 414 (D.N.J. 2021) (stating that a cardinal

change occurs when there is a such a drastic change in the work

that it effectively “requires the contractor to perform duties

materially different from those bargained for” (quoting Rums-

feld v. Freedom NY, Inc., 329 F.3d 1320, 1332 (Fed. Cir. 2003));

Krygoski Constr. Co., Inc. v. United States, 94 F.3d 1537, 1537

(Fed. Cir. 1996) (holding extent of changes sufciently extensive

where contract price effectively doubled); c.f. Baistar Mech., Inc.

v. United States, 128 Fed. Cl. 504, 504 (2016) (stating cardinal

change results in a breach of contract).

13. Becho, Inc. v. United States, 47 Fed. Cl. 595, 595 (2000)

(nding cardinal change and allowing contractor option to

either terminate or continue performance and receive compen-

sation for extra work on a time and materials basis); Big Chief

Drilling Co. v. United States, 26 Ct. Cl. 1276, 1276 (1992) (nd-

ing government insistence that contractor perform work with a

defective design specication constituted cardinal change and

supported contractor’s election for damages).

14. See, e.g., Allied Materials & Equip. Co., Inc. v. U.S., 215

Ct. Cl. 406, 410 (1978) (rejecting argument that changes clause

limited the scope of damages recoverable where cardinal change

doctrine applied).

15. Becho, Inc., 47 Fed. Cl. at 595 (holding damages to rea-

sonable services rendered under a time and materials scheme);

Big Chief Drilling Co., 26 Ct. Cl. at 1276 (1992) (holding dam-

ages to the reasonable value of changed work performed).

16. See Amelco Elec. v. City of Thousand Oaks, 27 Cal. 4th

228, 228 (2002). However, it appears that while not specically

recognizing changes by the term cardinal, the concept of aban-

donment has been used to address changes mid-project while

granting quantum meruit relief for the entire project. See Olbert

v. Ede, 38 Wis. 2d 240, 243 (1958).

17. See, e.g, Yonan v. Oak Park Fed. Sav. & Loan Ass’n, 27

Ill. App. 3d 967, 972 (stating universal rule that in construc-

tion contracts specic performance will not be enforced as (1)

there are adequate damages remedies at law and (2) courts lack

capacity to act as superintendents on construction projects); 71

am. Jur. 2D Contracts §90 (“[A]s a general rule, contracts for

building construction will not be specically enforced. . . .”).

18. However, courts generally require that the land trans-

fer be described with specicity in the parties’ agreement. See

Boardwalk at Daytona Dev., LLC, v. Paspalakis, 220 So. 3d

457, 459 (Fla. 2016).

19. Punitive damages are generally not permitted absent at

least some monetary damages award, albeit a slight one. E.g.,

State Farm Mut. Auto. Ins. Co. v. Campbell, 538 U.S. 408, 426

(2003).

20. See Patton v. Mid-Continent Sys., Inc., 841 F.2d 742,

751 (7th Cir. 1988) (“[E]ven if the breach is deliberate, it is not

necessarily blameworthy. The promisor may simply have discov-

ered that his performance is worth more to someone else. If so,

efciency is promoted by allowing him to break his promise, pro-

vided he makes good the promisee’s actual losses. If he is forced

to pay more than that, an efcient breach may be deterred, and

the law doesn’t want to bring about such a result.”).

21. Cuddy Mountain Concrete, Inc. v. Citadel Constr., Inc.,

824 P.2d 151 (Idaho 1992) (stating that post-termination revi-

sion of daily work records was “another factor which may

indicate that Cuddy Mountain is entitled to punitive damages,”

but without any explanation as to a jurisprudential basis for so

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concluding).

22. aia Documents, supra note 6, § 14.2; enG’rs Joint con-

tract Documents comm., eJcDc c-700, stanDarD General

conDitions of the construction contract § 16.02 (2018)

[hereinafter

eJcDc Documents]; consensusDocs®, stan-

DarD

Greement

anD

eneral

onDitions

etween

wner

anD contractor § 11.2 (2014).

23. ConsensusDocs® section 13.8 seems to explicitly provide

for noncumulative remedies by specifying that rights under the

agreement are exclusive.

consensusDocs®, supra note 22.

24. aia Documents, supra note 6, § 13.3.1; eJcDc Docu-

ments, supra note 22, § 18.03(A).

25. aia Documents, supra note 6, § 14.2.2; eJcDc Docu-

ments, supra note 22, § 16.02(B).

26. AIA Documents section 9.8.4 provides that general

warranties commence upon substantial completion. aia Doc-

uments

, supra note 6. EJCDC Documents section 15.08(A) is

of like effect. eJcDc D

ocuments

, supra note 22. In contrast,

ConsensusDocs® section 3.8.1 provides commencement upon

the date of nal payment or the date of certicate of substan-

tial completion. consensusDocs®, supra note 22.

27. Compare Hartford Accident & Indem. Co. v. Scarlett Har-

bor Assocs. Ltd. P’ship, 647 A.2d 106, 120 (Md. 1996) (treating

developer’s breach of contract and warranty claims as separate),

with D.R. Horton, Inc.–Denver v. Bischif & Coffman Constr.,

LLC, 217 P.3d 1262, 1272–74 (Colo. 2009) (holding that a breach

of warranty claim, while of necessity involving a contractual

breach, is separate from a breach of base contract obligations

and may result in different damages calculations).

28. So far, there is no authority on whether the effective

commencement date of an integrated warranty will move the

foreseeability determination date from original contract execu-

tion to potentially allow for recovery of consequential damages.

In fact, nothing has been found addressing the recoverability

of consequential damages in the event of a warranty breach,

although this might be expected to arise more with an indepen-

dent warranty.

29. Oftentimes, statutes of limitation are subject to exten-

sion by virtue of a discovery rule. Statues of repose, on the

other hand, are designed to provide an absolute claim cutoff,

not subject to discovery rule extension. Police & Fire Ret. Sys.

of City of Detroit v. IndyMac MBS, Inc., 721 F.3d 95, 106 (2d

Cir. 2013) (“[I[n contrast to statutes of limitations, statutes of

repose ‘create[] a substantive right in those protected to be free

from liability after a legislatively determined period of time.’”

(quoting Amoco Prod. Co. v. Newton Sheep Co., 85 F.3d 1464,

1472 (10th Cir. 1996) (emphasis and square brackets added by

IndyMac court))).

30. Hoagland v. Celebrity Homes, Inc., 572 P.2d 493, 494

(providing the measure of damages for breach of an implied

warranty of workmanship with respect to a construction con

tract without discussing the character of the breach).

31. See Antigua Condo. Ass’n v. Melba Invs. Atl., Inc., 517

A.2d 75, 82–84 (Md. 1986) (holding contractor was not required

to repair construction deciencies “instantly” upon its notice to

cure, but rather that there was a period of time during which

it could “investigate the problem and prepare to perform the

actual repair work” before the statute of limitations commenced).

32. Spinoso v. Rio Rancho Ests., Inc., 626 P.2d 1307, 1311

(N.M. Ct. App. 1981) (“During the three years following the

rst written notication of defects . . . , [the seller] made various

attempts at repair[,]” which were unsuccessful. Finally, the seller

refused to make further repairs and the purchaser sued.); Rob-

erts v. NVR, Inc., 2015 WL 3745178, at *3–4 (Pa. 2015) (denying

the general contractor’s motion to dismiss a complaint when the

homeowner adequately pled its breach of warranty claim after

the homeowner provided the contractor with adequate notice

and the contractor failed to correct alleged defects).

33. See Presidents & Dirs. of Geo. Coll. v. Madden, 505 F.

Supp. 557, 557 (D. Md. 1980), aff’d in part & appeal dismissed

in part, 660 F.2d 91, 91 (4th Cir. 1981); Beaudry Motor Co. v.

New Pueblo Constructors, Inc., 626 P.2d 1113, 1113 (Ariz. Ct.

App. 1981); Fowler v. A & A Co., 262 A.2d 344, 344 (D.C. 1970).

34. Geo. Coll., 505 F. Supp. at 557; see also Zellan v. Cole, 183

F.2d 139, 139 (D.C. Cir. 1950).

35. This would be the case if the provision merely species

it “warrants against defects in material and workmanship” or

“warrants against defects in material or workmanship arising

within (a specied period of time)” without a requirement that

would trigger the start of the warranty obligation upon notice

to the obligor within a specied time frame.

36. Structuring a warranty on an open-ended basis is a solu-

tion to the problem presented with an exclusive time-limited

warranty that would preclude relief for latent defects not dis-

coverable prior to the lapse of the warranty period.

37. Antigua Condo. Ass’n v. Melba Invs. Atl., Inc., 517 A.2d

75, 82–84 (Md. 1986).

38. Id. at 82; see also McClain v. Kimbrough Constr. Co., Inc.,

806 S.W.2d 194, 198 (Tenn. 1990) (stating general rule that parties

are expected to deal with each other fairly and in good faith even

where those principles are not embodied in the party’s contract).

39. Liability for consequential damages should be limited by

the foreseeability of those damages as of the time the warranty

was given as opposed to the time of any breach of that warranty.

C.f. Hadley v. Baxendale, 9 Exch. 345, 345 (1854) (holding that

consequential damages are limited to those foreseeable at the

time of contracting).

40. Antigua, 517 A.2d at 82; see also Magnum Constr. Mgmt.

Corp. v. City of Miami Beach, 209 So. 3d 51, 54–55 (Fla. Dist.

Ct. App. 3d Dist. 2016) (upholding a public contract provision

requiring the owner to provide a period of time within which a

period to cure must be performed by a contractor).

41. AIA Documents section 12.2.2.1 requires the owner to

Prime contractors who employ blanket

“ﬂow down” clauses in their subcon-

tracts create potential hidden problems

for their contractors.

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give notice and a right to cure in order to avoid a waiver of its

warranty rights. aia D

ocuments

, supra note 6. So does Con-

sensusDocs® section 3.9.1 and EJCDC Documents section 3.9.1.

onsensus

ocs

®, supra note 22; eJcDc D

ocuments

, supra note

22. See ACE Sec. Corp. v. DB Structured Prods., Inc., 25 N.Y.3d

581, 589 (N.Y. 2015) (holding that the notice to cure as provided

by the parties’ contract was a substantive condition precedent to

ling suit and that plaintiff’s failure to provide an opportunity

to cure was fatal to its breach of contract claim).

42. McClain, 806 S.W.2d 194 at 198 (holding that general

contractor may, after giving its subcontractor notice and a reason-

able opportunity to cure alleged defects, rescind the subcontract,

seek another subcontractor to perform the curative work, and

recover damages).

43. eJcDc Documents, supra note 22, § 15.08. AIA Doc-

uments section 12.2.2 has no comparable provision, nor does

ConsensusDocs® section 3.9.4. aia Documents, supra note

6; consensusDocs®, supra note 22. ConsensusDocs® provides

that if there is an unsatisfactory cure of defective work within the

correction period, the owner shall give the contractor an option

to further correct that work.

44. Roberts v. NVR, Inc., 2015 WL 3745178, at *3–4 (Pa.

2015) (denying general contractor’s motion to dismiss complaint

as homeowner adequately pled its breach of warranty claim after

the homeowner provided the contractor with sufcient notice and

the contractor failed to correct alleged defects).

45. For frustration of purpose as a separate theory, see Cutter

Labs, Inc. v. Twining, 221 Cal. App. 2d 302, 314–15 (1963) (stating

elements of a frustration of purpose claim); and Lloyd v. Murphy,

25 Cal. 2d 48, 48 (1944) (outlining public policy principles to con-

sider when construing equities in a frustration of purpose claim).

46. United States v. Spearin, 248 U.S. 132, 132 (1918).

47. City of Mounds View v. Walijarvi, 263 N.W.2d 420, 423

(Minn. 1978) (“Architects, . . . engineers, . . . and others deal in

somewhat inexact sciences and are continually called upon to

exercise their skilled judgment in order to anticipate and provide

for random factors which are incapable of precise measurement.

. . . Because of the inescapable possibility of error which inheres

in these services, the law has traditionally required, not perfect

results. . . . If every facet of structural design consisted of little

more than the mechanical application of immutable physical

principles, we could accept the rule of strict liability which the

city proposes. But even in the present state of relative techno-

logical enlightenment, the keenest engineering minds can err. . .

.” Id. at 424.).

48. Balfour Beatty Infrastructure, Inc. v. Rummel Klepper &

Kahl, LLP, 130 A.3d 1024, 1034–35 (Md. 2017) (holding eco-

nomic loss doctrine precluded contractor’s negligence claim

against a designer for allegedly defective design work). The sig-

nicance of the legal theory lies in the respective statutes of

limitations in that negligence-based claims traditionally have

a considerably shorter period to le suit than contract claims.

49. Examples are requiring the designers abide by the highest

or most conservative design standards in the industry.

50. In this case, an equitable principle also came into play.

The colloquial version is “as between two innocent parties the

guilty one must suffer.” More precisely, as stated in Montgomery

Ward & Co. v. Peter J. McBreen & Associates, “the law abounds

in the proposition that as between two innocent parties, the less

blameful should prevail.” 40 Ill. App. 3d 69, 72 (1976); see also

Edwards v. Mid-Continent, 252 S.W.3d 833, 838 (Tex. Ct. App.

5th Dist. 2008) (“[C]ourts have held that as between two inno-

cent parties, the party that must suffer the loss is the one that

mistakenly created the situation and was in the best position to

have avoided it.”).

51. But see Lockheed Martin Transp. Sec. Sols. v. MTA

Capital Constr. Co., 2014 WL 12560868, at *28 (S.D.N.Y. 2014)

(denying contractor’s motion for summary judgment on its

breach of warranty claim against a subcontractor whose war-

ranty period had not yet been triggered). In Lockheed, the court

noted that MTA had failed to produce any case law to support

an anticipatory breach of warranty where the warranty period

had not yet been triggered. Id.

52. For example, in Scheck Industrial Corp. v. Tarlton Corp.,

the court, in a breach of warranty claim by a general contrac-

tor against its subcontractor, rejected the subcontractor’s First

to Breach defense that the general contractor’s failure to pro-

vide access to the contract documents relieved the subcontractor

from its warranty breach. Scheck, 435 S.W.3d 705, 727–28 (Mo.

Ct. App. 2014).

53. The subcontractor, under a “ow down,” also acquires

all rights against the prime that the prime has against the owner

under the prime contract.

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