Soaring Material Prices Trigger Industry Anxiety, Contractors in Trouble

Rapidly rising material prices have become the only topic of conversation among contractors at industry conferences, on Zoom calls, and even in casual chatter. Everyone wants to know how their peers are coping with a crisis that has intensified since last spring and shows no signs of abating for at least the next year.

"Starting in March of this year, this issue became pervasive and hasn't let up, making it a long-term topic," said Brian Perlburg, senior advisor for construction law and contracts at the Associated General Contractors of America.

Anirban Basu, chief economist at Associated Builders and Contractors, predicts material costs will continue to climb into next year, noting, "The toughest job in America right now is being a contractor because every decision is fraught with risk and uncertainty."

All Costs Are Rising

COVID-related disruptions have battered global production and supply chains, and the impact continues, but that's just one of many factors behind soaring prices. New Chinese emission restrictions on metal production, factory closures across Asia, destructive winter storms in Texas, natural gas shortages in Europe, global shipping problems, and labor shortages have all combined to drive up costs—putting immense pressure on construction firms that signed contracts based on 2020 or earlier pricing.

"Many projects are currently facing cost overruns," said Donny Smith, director of preconstruction services at PCL Construction's Orlando, Florida, division. "Everything is more expensive—if you can even get it. Some air conditioning units are unavailable even if you're willing to pay millions. These difficulties can't be avoided; flexibility is key to meeting the challenge."

In this uncertain environment, contractors are doing their best to cope and have found some interesting workarounds to keep projects moving. Smith cited that over the past six months, PCL helped one client cut costs by suggesting two buildings share fitness facilities rather than each having its own gym, and helped another client reduce a downtown high-rise by two floors by introducing micro-apartments.

He added, "Partnership is more important than ever. In a preconstruction relationship, we can bring new ideas to the table—not necessarily sacrificing quality—but adjusting the budget in multiple ways and finding alternatives."

Justin Aubuchon, chief estimator at Boston-based BOND Building Construction, said communication and transparency among contractors, subcontractors, and clients—while always important—have now become critical. He said contractors need to gain multiple perspectives by communicating frequently with subcontractors and staying on top of industry news, so they can develop mitigation measures and adjustments before high costs or material shortages cause delays.

"The problem isn't just spending more money; the solution is more work," he said.

Like most contractors, BOND purchases materials immediately after contract signing and pre-purchases some items to lock in prices and ensure timely delivery. Aubuchon also works closely with architects, owners, and subcontractors, closely monitoring approval documents throughout the process.

"You don't want a subcontractor to come back and say, 'I delayed the purchase,'" he said.

Basu agrees that collaboration at all levels is key to success. "We often draw lines between project owners and general contractors, and between general contractors and subcontractors. Now we have to become one family. Everyone faces similar challenges and shares the same goals. It makes sense to share the risk of moving forward," he said. "But in these turbulent times, having a good lawyer is indeed a wise idea."

Price Adjustment Clauses

Until this year, many contractors were unfamiliar with material price adjustment clauses. These clauses allow construction companies to pass a certain percentage of procurement price increases on to owners, allowing them to set smaller contingency fees in bids, while also letting owners share in savings if prices drop. Such clauses specifically address volatile price increases, distinguishing them from force majeure clauses—which excuse contractual obligations due to catastrophic or unforeseeable events but may only include time extensions, not monetary compensation.

Perlburg (who also serves as executive director of ConsensusDocs, a catalog of design-build contracts) said, "Many contracts previously lacked price adjustment clauses because they were hard to include before the crisis fully erupted." He added that free downloads of ConsensusDocs' material price adjustment clause in April had already exceeded all of 2020, and interest continues unabated. "People have reacted very strongly," he said. "Owners and other stakeholders are willing to discuss and take reasonable measures."

John Greenhall, a partner at Philadelphia-based law firm Cohen Seglias Pallas Greenhall & Furman, said owners are more willing to discuss including escalation costs in contracts. "They want tight control, and contractors and subcontractors must be willing to share information," he said. "If contractors are willing to show prices in their bids so escalations can be tracked, owners are willing to negotiate with them. I've seen this in both large and small projects."

David Toney, a partner at Houston-based law firm Adams and Reese, said the dramatic fluctuations in construction material prices in 2021 have once again highlighted the importance of addressing potential material price increases during the contract phase. He added that effective price adjustment clauses must clearly list specific materials that may fluctuate in the short term and establish a consensus on what constitutes a "fluctuation"—which could mean a 5% increase within 30 days or a 30% increase within 180 days.

Lee A. Weintraub, a shareholder at Fort Lauderdale, Florida-based law firm Becker & Poliakoff, advises using contingency funds rather than itemized costs when drafting contracts for materials with the largest price increases and hardest to obtain, such as stucco and concrete. He added that allowing public clients to leverage their tax advantages to purchase materials directly can also provide some relief.

Kenneth M. Roberts, chair of the construction law team at New York-based Venable LLP, said that in any case, price adjustment clauses must be clear and specific, detailing how both parties share the additional burden when material prices rise to an agreed-upon level, and specifying substitutes when materials are unavailable.

Roberts added that the impact of the pandemic and supply chain disruptions on subcontractors and contractors is "directly related to the quality of their contracts and the reasonableness of their partners." He warned that owners who refuse to share risk during the contract phase are unlikely to become more cooperative once the project begins. "You're dealing with someone who isn't willing to seek fair compromise with you. Once you realize that, put on your armor," he said. "You are indeed taking contractual risk. Hopefully, for that risk, you've priced yourself adequately."