When is an Unforeseen Condition a “Differing Site Condition”?

by Gray Reed & McGraw
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I was reviewing various articles I have written over the years and came across a prior version of this one about differing site conditions, written nearly twenty years ago.   I was curious – does this cup still hold water?  It does.

Many construction contracts contain some version of a “differing site conditions” clause.   It is found in the current version of AIA’s A201 general conditions, as well as in the EJCDC equivalent.   It also appears in most state DOT specifications, as well as in federal government construction contracts.   Generally, it provides for a change order (subject to procedural compliance) when the contractor encounters (i) subsurface or other concealed conditions that differ materially from the conditions indicated by the contract documents or (ii) unknown physical conditions of an unusual nature differing materially from those ordinarily encountered and recognized as inherent to the work provided for in the contract documents.   But, as they say, “timing is everything.”   This adage applies, too, to a differing site conditions claim.

In Olym­pus Corp. v. United States, 98 F.3d 1314 (Fed. Cir. 1996), the United States Federal Circuit Court of Appeals was confronted with the following ques­tion: Are delays caused by a govern­ment caused hazardous materi­als spill compensable under the federal Differing Site Condi­tions clause?  The court an­­­­­s­wered “no” based on its con­clusion that to be con­sidered a differing site con­dition, the condition must exist at the time the contract was formed.

Olympus entered into a fixed price contract with the United States to pave the plant yards at the Stratford Army Engine Plant located in Strat­ford, Connecticut. As man­­­­­­­­­­­­­dated by the Federal Acquisition Regulation, 48 C.F.R. ‘ 52.236-3 (1995), the contract contained a standard Differing Site Conditions clause which provided, in part, for an equitable adjustment, upon notice, of  “subsurface or latent physical conditions at the site which differ materially from those indicated in [the] contract.”

The plant site was man­aged under a separate contract be­­­tween the United States and Tex­tron Lycoming.  Short­ly after the Notice to Pro­ceed, Tex­tron cut open an oil pipe in the plant yard which caused a spill that contaminated soil in the yard and prevented Olympus from paving.  Olympus was delayed by the clean up effort and sought additional compensation under the Differing Site Conditions clause.  After rejecting the Contracting Officer’s offer of additional compensation as inadequate (Olympus also had an additional claim for delay caused by a strike of Textron employees), Olympus filed suit in the U.S. Court of Federal Claims.  That court found, in part, the Differing Site Conditions Clause only provided com­pensation for delays caused by conditions which existed at the time the contract was formed.  Olym­pus ap­­­­­­­­­­­­­­­­­­­pealed.

The Court first dis­­­­­­­­­­cussed the purpose of the Differing Site Conditions clause, pointing out it is historically used to shift to the government the risk of adverse subsurface or latent physical conditions, as such risk would be normally born by the contractor in a fixed price contract.   Through inclusion of the clause, the government encourages “more accurate bidding”
by discouraging contractors from including con­tingencies in their bids to cover the risk of differing site conditions.  However, according to the court, the clause only shifts those risks which are consistent with the policy of the clause — encouraging more accurate bidding.  It does not shift the risk of all unanticipated conditions.  As such, the court implied the clause did not operate to transfer the risk of nonexistent conditions since such conditions do not affect the accuracy of bidding.

Next, the court established the fact its “precedent has long imposed a temporal limitation on the applicability of the Differing Site Conditions clause.”  Particularly, it cited John McShain, Inc. v. United States, 179 Ct. Cl. 632, 375 F.2d 829 (1967) and Arundel Corp. v. United States, 96 Ct. Cl. 77 (1942) for the prop­osition that for “half a century,” federal courts have interpreted the clause as not applying to conditions which “come into being only after the contract has been executed of the work commenced.”

Finally, the court dismissed Olympus’ argument that there was no express provision in the differing site conditions clause which limited its operation to conditions existing at execution of the contract.  Olym­pus particularly argued that adoption of the government’s interpretation inappropriately gave effect to the governments “subjective intent” over the clear terms of the contract.  The court acknowl­edged that it was obligated to interpret the contract according to its “ordi­nary and commonly ac­­­cepted meaning.”  However, it also stated it was obliged to inter­pret the contract from the per­spective of a “reasonable and prudent contractor” and is bound by precedent.  Based on precedent, the court found a “reasonable and prudent con­­­­­tractor…would have been familiar with the long-stand­ing limitation on a Differing Site Conditions clause to con­ditions existing when the con­tract was executed.”   Since the soil was not contaminated by the oil spill at the time of execution of the contract, the Court rejected Olympus’s claim in its entirety.

Comment

Olympus is still good law.   See Extreme Coatings, Inc. v. United States, 109 Fed. Cl. 450 (2013).  However, Olympus only discussed com­pensability under the fed­eral Differing Site Conditions Clause.  Other avenues may well have been available for recovery of the damages caus­ed by the spill, including change, breach of warranty, suspension of work, and breach of duty not to hinder or delay. The Court even implied as much.

A case awarding compen­sation to the Contractor under similar circumstances but using a different theory is Shea v.  City of Los Angeles, 6 Cal.  App. 2d 534, 45 P.2d 221 (1935).  It involved an action for costs of extra work created when a sewer leaked into a drain­age excavation.  The leak caused flooding of the excava­tion and its collapse.  The con­tract purported to place the risk of “any unforeseen obstruction or difficulties, either natural or artificial, which may be en­countered in the pro­secution of the work…on the Contractor.”  The court found, however, that “the contract did not contem­plate that [the Contractor] should bear the burden of the city’s negligence in doing or permitting acts which would constitute an obstacle to the [Contractor’s] fulfilling the obligations imposed by the Con­­tract.”  Similar logic ap­plies to the oil spill encoun­tered by  Olym­pus.  The gov­ernment should not have per­mitted activities which would jeopardize Olym­pus’ ability to perform the work.

It is unclear why other the­ories were not before the Olym­pus court.  The court hinted that it considered the actions of the plant manager, Textron, as the actions of a third party for whom the govern­ment was not responsible.  Such an argument may have affected the trial court’s ruling on the other listed possible theories, if such theories were before the court.

More significantly, how­ever, the Appellate Court seemed to ignore the fact that Textron was acting in its ca­pacity as a separate govern­ment contractor. As such, the government should have had some sort of duty to coordinate Tex­tron and Olympus’ work such that Textron did not inter­fere with Olympus.  Ob­viously, the government could better control Textron and its perfor­mance than Olympus.  As such, the government could more easily bear the risk of damages caused by Textron’s actions.  Many government contracts are indeed written to place risks on the shoulders of the party best able to control them.

In order to fairly allocate risks, many state and local gov­ernment contracts, as well as private ones, now place the risk of unforeseen hazardous conditions on the government.  We have seen this ac­complished in a separate con­tract clause or via modifica­tions to standard differing site conditions clauses.  Absent such a modification or reallo­cation of risk, “reasonable and prudent contractors” need be aware that while the govern­ment may shoulder the burden of hazardous conditions at a work site which exist prior to contract formation under the traditional Differing Site Con­ditions clause, as interpreted by the Federal Circuit, that clause does not place the risk of unforeseen subsurface or la­tent physical conditions created after contract formation.

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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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