The latest Engineering News Record reported that gypsum board prices rose 12.5% in 2012 and could increase 15.11% in 2013. That’s a huge increase in material costs. Are you doing anything to protect yourself? Do you have an escalation clause in your contracts?
What happens if you don’t have an escalation clause?
If you don’t have an escalation clause, you are either at the mercy of the contractor to allow the increased material costs or you can claim that it is impractical to complete the contract. To win on a claim of impracticability, you must show that:
- prices greatly increased;
- no one anticipated the price increase; and
- the subcontractor did not assume the risk of price increases.
Not surprisingly, this last two criteria cause the most problems. Everyone is anticipating price increases. And, courts have long held that the normal risk of a fixed-price contract is that the market will change and these contracts are an explicit assignment of the risk of market price increases to the seller and market price decreases to the buyer. So, this could prove a very difficult argument to win.
What is an escalation clause?
Simply put, an escalation clause allows for an increase in the contract price if material costs increase.
A sample provision provides:
The Contract Price has been calculated based on the current prices for materials as of the execution of this Agreement. Contractor agrees to use his best efforts to obtain the lowest possible prices from available material suppliers. But, if a significant price increase occurs during the period of time between contract execution and substantial completion of the Project, the contract price shall be adjusted by an amount reasonably necessary to cover any increase. A significant price increase shall mean any increase in price exceeding ____ percent (____ %)
As with any construction contract clause, you will have to negotiate for its inclusion. One method may be to allow for a two way escalation clause through which the upstream party gets the advantage of any cost decreases and the contractor can increase its costs to reflect cost increases.
Regardless of the language you use, you are better served having an escalation clause in your contract to take into account the very real possibility that construction material costs will continue to increase.