Teaching An Old Dog New Tricks: The Spearin Doctrine and Design-Build Projects

The United States District Court for the Southern District of California has now held that the Spearin doctrine applies to design-build subcontractors where the subcontractor is expected to design a portion of their work. The case is United States for the use and benefit of Bonita Pipeline, Inc., et al. v. Balfour Beatty Construction, LLC, et al. (“Bonita Pipeline”) (Case No. 3:16-cv-00983-H-AGS).

In Bonita Pipeline, a subcontractor sued the general contractor and its sureties alleging breach of contract, breach of implied warranty, declaratory relief, and recovery under the Miller Act. The subcontractor then filed a motion for partial summary judgment against the general contractor on its declaratory relief cause of action, seeking a finding that the general contractor could not shift legal responsibility for its defective plans and specifications to the subcontractor.

The evidence presented in support and opposition of the motion showed that the general contractor provided incomplete design documents to the subcontractor at the bid stage, and expressly stated they were incomplete. The subcontractor was ultimately awarded the bid, which included design-build structural steel, metal decking, and other amenities. The parties admitted that the plans and specifications could be refined with further design, whereby the subcontract contained language stating that the subcontractor would assume risk of further change (“refinement”) of the plans and specifications. Further, the subcontract stated that the subcontractor was not entitled to additive change orders or an increase in its bid price for “refinements” resulting from the design-build process. Instead, the subcontractor would only be entitled to additional compensation for enhancements requested by the owner.

During the project the subcontractor sought additional compensation for design errors and changes, with the court noting 93 requests for information and 37 change order requests. The subcontractor also finished its work 290 days late.

The Spearin doctrine (named after United States v. Spearin (1918) 248 U.S. 132) generally holds that an owner (or here, general contractor) impliedly warrants the information, plans, and specifications it provides to the general contractor (or here, subcontractor). Citing case law that state law controls the interpretation of Miller Act subcontracts to which the United States is not a party, the Bonita Pipeline court noted that the California Supreme Court approved and applied of the Spearin doctrine, citing Souza & McCue Constr. Co. v. Superior Court of San Benito County (1962) 57 Cal.2d 508, 510 and E.H. Morrill Co. v. State (1967) 65 Cal.2d 787, 792-793. Citing Coleman Eng’g Co. v. N. Am. Aviation, Inc. (1966) 65 Cal.2d 396, 404, the Bonita Pipeline court also noted that the California Supreme Court has extended application of the Spearin doctrine to construction contracts even where there is no government entity involved.

The general contractor argued that the Spearin doctrine did not apply because the project was one of design-build, and the parties expressly acknowledged that the plans and specifications were incomplete at the time of bidding. The subcontractor, in turn, argued that it acknowledged it assumed the risk that the plans and specifications would be “refined,” but the general contractor nonetheless still impliedly warranted that the plans and specifications provided would be correct, even if incomplete.

Ultimately, the Bonita Pipeline court found the subcontractor’s position persuasive, finding that the Spearin doctrine applies to design-build projects. Regardless, the Bonita Pipeline court denied the plaintiff subcontractor’s partial motion for summary judgment, finding that there were insufficient facts in the record to determine whether the contractor’s extra work was due to errors in the plans and specifications, or whether the extra work was due to the design work expected of the subcontractor.

In support of its ruling, the Bonita Pipeline court relied on a United States Court of Federal Claims case, AAB Joint Venture v. United States, 75 Fed.Cl. 414 (Fed.Cl. 2007). In AAB Joint Venture, the plaintiff contractor won a bid to construct a military storage base in Israel, whereby the project was in a design-build format. The plaintiff was provided specifications from the government, and after construction commenced the plaintiff contractor submitted a request for information questioning the accuracy of the specifications. After further requests for information and responses thereto, the plaintiff contractor (and its subcontractors) performed earthwork using 3-inch stone fill, as opposed to a 6-inch maximum stone fill as specified in the contract. The use of the smaller fill, however, precluded use of the contract-specified density test, as the test could not be used on the smaller fill. Thereafter, plaintiff contractor sought an equitable adjustment as a result of the defective specifications and increased costs, which was denied.

The AAB Joint Venture court found that the Spearin doctrine applied to the design-build project. It held that “[t]he purpose of the specifications is to serve as a guide to the contractor … The contractor should be able to rely on a reasonable interpretation of the contract.” “The standard that must be met under the implied warranty is that the specifications will result in a satisfactory, acceptable, or adequate result; short of that, the specifications are defective and the contractor is entitled to an equitable adjustment.” There, the specifications provided a range of sizes for fill that could be used by the subcontractor, though some sizes in turn precluded use of the contract-specified density test. The AAB Joint Venture court held that the fact that the specifications allowed for some satisfactory results did not preclude a finding that they were defective. In other words, “[d]efective specifications may be found when the full scope of the dimension tolerances set forth in the specifications do not produce satisfactory results.”

The Bonita Pipeline court also relied on a Civilian Board of Contract Appeals case, Drennon Constr. & Consulting, Inc. (“Drennon”), 13 B.C.A. (CCH) ¶ 35,213 (2013). In Drennon, the plaintiff contracted with the Bureau of Land Management (“BLM”) to widen a road at a campground in central Alaska. Widening the road required excavating a hillside, and building a gabion wall along the cut. The hillside ultimately collapsed, and the contractor’s work was placed on suspension. Ultimately, the road was widened without the use of a gabion wall, and the contractor sought recovery for its costs during the suspension period, as well as the cost of purchasing gabions for which it no longer had use. The contractor contended that the geotechnical information provided in the BLM’s solicitation was defective. In contrast, the BLM argued that the contract was one of design-build, and that the contractor was not entitled to any recovery because of the contractor’s own faulty design.

The Drennon panel sided with the contractor, finding that the hillside would have collapsed regardless of the approach undertaken by the contractor. The court pointed out that the solicitation included a road design and specifications from the civil and geotechnical engineer. The engineer testified that the digital terrain model it utilized for its design contained inaccurate control points, and that the BLM denied the engineer’s request to perform a survey to address the inaccuracies. On that basis, the engineer testified that they intentionally added language to the solicitation that would have warned potential bidders of the inaccuracies of the model. The Drennon panel found this directly contributed to the increased costs suffered by the contractor. The Drennon panel also found that the engineer’s geotechnical report was defective, noting that the site conditions experienced by the contractor were materially different than what was described in the report.

Bonita Pipeline shows that the Spearin doctrine is still alive and well, and even permeating into modern construction projects. The doctrine’s application to a design-build project at the United States District Court level shows that it is moving of specialized venues such as the Federal Court of Claims and Board of Contract Appeals. The Spearin doctrine reaches its centennial anniversary this year on December 9, 2018.

Legislative Update – The CSLB’s Study Under SB465

Following the tragic Berkeley balcony collapse in 2015, the Legislature enacted California Senate Bill 465 which commissioned the Contractors State License Board (“CSLB” or “Board”) to perform a study regarding the efficacy of having contractors report settlements to the Board. In December 2017 the CSLB released their findings in a report. The ultimate conclusion of the report is to recommend to the Legislature that the ability of the CSLB to protect the public “would be enhanced by regulations requiring licensees to report judgments, arbitration awards, or settlement payments of construction defect claims for rental residential units.” Senator Jerry Hill authored SB465, and his office is presently now drafting legislation on settlement reporting based in part on this study.

The most troubling concern about the study is transparency. The report references nine exhibits, all of which have been withheld from publication under purposes of confidentiality. Therefore, much of the CSLB’s study must be taken at face value because much of the data they rely on to formulate their conclusions cannot be independently verified.

One of the factors that the CSLB undertook in its study was to determine criteria for when a settlement was “nuisance value,” and therefore less important for reporting purposes. The CSLB acknowledged there was no industry-wide definition for “nuisance value,” whether it be in the insurance industry, construction industry, or otherwise. Insurer survey respondents reached a general consensus on aspects of what can constitute a “nuisance value” settlement, including the amount of the settlement and the size of the case. However, the response rate to the insurer survey was only 3.3 percent. In general, the concern with using settlement amount and size of the case as indicative factors is the fact that a large settlement size, for instance, may still constitute a “nuisance value” settlement. One example would be a large settlement figure in a case involving hundreds of homes in multiple subdivisions.

The CSLB also raised another concern in that, presently, any implementation of mandatory settlement reporting would not be fully aligned with statutes of limitation. The Board noted that under present regulations (in particular, Business & Professions Code section 7090), it cannot impose discipline on a licensee without first undertaking an investigation. Yet, under Business & Professions Code section 7091, the CSLB has 4 years from the date of violation to commence a disciplinary action from the date of violation; 10 years if the alleged violation is a latent defect that specifically concerns structural defects. (With regard to the exception for latent structural defects, the CSLB admits that to “prove up” such an exception would require expenditure of resources such as retaining experts and issuing subpoenas.) Moreover, the burden of proof between the civil action that resulted in a settlement (preponderance of the evidence) is lower than the burden of proof the CSLB must establish to impose discipline on a licensee (clear and convincing evidence). The CSLB estimated that such an investigation by itself would take 6 months to 1 year to establish a case under clear and convincing evidence. Because it is common for construction defect actions to be filed close to the 10-year statute of repose, and sometimes years before such an action to reach settlement, it would not be surprising for a settlement to be reported to the Board after the time has passed for which it can prosecute for a disciplinary action. It is presently unclear whether any forthcoming bill mandating settlement reporting will address these statute of limitations or burden of proof issues.

The more practical concern for licensees is that they are already exposed for a decade following substantial completion of their projects under Code of Civil Procedure section 337.15. Presuming it takes at least 1 to 2 years minimum to settle such an action filed close to the expiration of the statute of repose, licensees would then be obligated to report their settlement to the Board, thereby potentially exposing them to an entirely new investigation, which in turn may take in excess of a year to complete. Under this scenario, a licensee can face penalties for a project it left around a decade and a half prior. The CSLB implicitly acknowledged the possibility of engaging in “fishing expeditions,” noting that from the facts of studied cases, other “conceivable” violations of the Contractor’s Law could be present that are separate and distinct from the settled defect claims, and that such new potential violations could warrant further investigation. In other words, the Board could use a reported settlement as the basis to start an investigation of defects that would spread out to other areas which may not even be encompassed in the underlying lawsuit.

The CSLB also noted a logistical difficulty with settlement reporting. If two contractors are involved on a single project, the Board would need to receive settlement information simultaneously and not separately in order to perform a proper analysis and assign responsibility “without having to conduct undue additional research.” The concept of simultaneous settlement reporting will undoubtedly be difficult to implement in situations such as when one party to a defect suit settles but the other does not. Similarly, what if one party to a defect suit settles, the other does not, and after trial the settling party is found mostly at fault? What about joint ventures and other single purpose entities? The CSLB’s study does not address these concerns.

The CSLB noted that the Board of Professional Engineers, Land Surveyors, and Geologists (BPELSG) contains a case reporting requirement embodied in Business & Professions Code sections 6770, and pursuant to that section, the BPELSG opens cases on all settlement reports they receive. The BPELSG stated that a majority of the reports they receive arise out of settlement, not judgment. Similarly, the CSLB acknowledged that the California Architects Board (CAB) also contains a reporting requirement, embodied in Business and Professions Code section 5588. CAB reported that, of their licensed population, they receive reports relating to approximately 0.14% of their licensees per year. Both boards reported that the utility in case reporting is mostly a consumer protection device for the public good. It can thus be inferred that the reporting requirement is not necessarily meant to produce results (i.e., more findings of violations or imposition of discipline).

In contrast, the CSLB licenses more than twice the amount of entities that the BPELSG and CAB do, combined. Moreover, BPELSG and CAB license individuals, while the CSLB licenses both individuals and entities with qualifying individuals. Further complicating this matter is that on a typical construction project, the number of individuals licensed by BPELSG and CAB are minimal compared to the numbered of CSLB-licensed entities. This is logical, given the presence of multiple contracting trades on a given project, as opposed to the number of designers.

The CSLB assumes that the percentage of licensed individuals who would be disciplined should a reporting requirement be instated would be similar to BPELSG and CAB, around 11 to 15%. But this assumption is based on the CSLB’s present complaint versus discipline figure, where around 15% of claims result in disciplinary action. Of course, the two figures are not necessarily correlative, as the BPELSG and CAB base their figure on actual settlement reporting, while the CSLB’s figure is based on present disciplinary actions in a setting without mandated reporting.

It is understood that Senator Hill, author of the SB465 study bill, is presently drafting legislation that would impose a mandatory settlement reporting requirement for construction defect cases involving rental residential units. As discussed above, there are multiple hurdles with developing a reporting requirement that actually empowers the Board and protects the public while not imposing undue potential exposure to licensees beyond the statute of repose, and which utilizes public resources and taxpayer money wisely. It can be said that more investigation and enforcement will always benefit the public good. The difficulty, however, is balancing the interests of all stakeholders, and determining where to “draw the line” between judicious expenditure of limited resources and safety enforcement for public welfare.