California Appellate Decision Highlights Importance of Ensuring Consistency Between Prime Contract and Subcontract

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When a general contractor enters into a subcontract with a subcontractor, the general contractor will usually want to make sure that the subcontract is consistent with the prime contract. The general contractor wants to avoid, for example, a prime contract that requires disputes to be litigated in California state court and a subcontract that requires disputes to be arbitrated in Oregon, which could result in the general contractor litigating in two forums, spending twice as much money on legal fees and exposing itself to potentially inconsistent results.

One potential way to avoid inconsistencies in the prime contract and subcontracts is to incorporate the former by reference into the latter. But as a recent California appellate decision shows, that approach can have pitfalls if the general contractor is not careful, at least with respect to arbitration provisions.

In Remedial Construction Services, LP v. AECOM, Inc.1, a subcontractor filed a lawsuit against a general contractor, and the general contractor moved to compel arbitration.2 The prime contract's dispute resolution provision required all disputes to be decided by binding arbitration in Texas, where the project owner was based.3 The general contractor argued that the prime contract's arbitration provision was incorporated into the subcontract pursuant to the following provision:

The contract between Contractor and [Owner] . . . is hereby incorporated into and made a part of this Agreement by reference. Subcontractor assumes toward Contractor all of the obligations and responsibilities contained in the Prime Agreement or client flow-down provisions . . . that Contractor assumes towards its Client as they relate to Subcontractor's performance of the Work. In the event of a conflict between any provision of this Agreement and the Prime Contract the more restrictive provision shall govern.4

The trial court denied the motion to compel arbitration and the California Court of Appeal affirmed. The appellate court began by noting that under the incorporation provision in the subcontract, the subcontractor only assumed the general contractor's obligations under the prime contract to the extent they related to the subcontractor's work, without any indication this would include assumption of the arbitration provision.5 It appeared particularly significant to the court that the arbitration provision was a single clause in a 151-page prime contract.6

Even more problematic from the court's perspective was the fact that the subcontract contained a dispute resolution provision requiring litigation in court and also had a provision stating that the subcontract took precedence over the prime contract to the extent they had any conflicting provisions.7 These provisions also supported a conclusion that disputes under the subcontract were not subject to arbitration.

General contractors should take this case as a reminder to ensure that there are no significant inconsistencies between their prime contract and subcontracts. If the prime contract has an arbitration provision in it, the general contractor should consider including an arbitration provision in its subcontracts rather than just relying on an incorporation by reference provision.

At a minimum, however, the general contractor should ensure the subcontract does not have a conflicting dispute resolution provision that requires litigation in court. Given the importance that some courts put on the right to a jury trial, the general contractor will want the subcontract to state as clearly as possible that all disputes are subject to arbitration in order to minimize the risk that a court will later conclude that the subcontractor is not required to arbitrate.

Of course, if the prime contract requires litigation in court, before putting an arbitration provision in the subcontract the general contractor should carefully consider whether the benefits of arbitrating disputes with the subcontractor outweigh the downsides of potentially litigating in two separate forums.

Subcontractors should use this case as a reminder to familiarize themselves with the prime contract if it is incorporated by reference into the subcontract. Subcontractors will want to avoid finding themselves in a dispute in the middle of a project and, upon reading the prime contract for the first time, discover that they are subject to a host of obligations of which they were previously unaware.

FOOTNOTES

1  65 Cal.App.5th 658, 279 Cal.Rptr.3d 909 (2021).
2  Id. at 911.
3  Id.
4  Id. at 913.
5  Id.
6  Id.
7  Id. at 913-14.

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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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