The rise in popularity of alternative project delivery methods that combine design services complicates the already opaque world of surety bonds. As a general matter, for any project type, a bond is a tripartite transaction in which the contractor pays a percent of the penal sum of the bond to the surety, who undertakes to pay the owner or upstream contractor if the contractor fails to perform its bonded obligation. When the dust settles, the contractor is ultimately on the hook for 100% of the risk that it will fail to perform its obligations. At the time of bonding, though, the contractor only pays a percentage of the bond’s penal sum to secure the surety’s guarantee of payment or performance to the owner or upstream contractor. In many cases, a bond is preferred by all parties as opposed to a letter of credit or other guarantee products. The contractor preserves cash flow, the owner prefers the surety’s financial stability and backing, and the surety makes money while keeping the risk on the contractor.
No matter the style of project delivery, surety bonds come in three flavors: the bid bond, the payment bond, and the performance bond. Under a bid bond, the surety guarantees that the principal will enter into a contract for the price and terms in its bid. The performance bond is an assurance by the surety that, if the principal fails to perform its contractual obligations, the surety will complete performance either by performing itself or paying the obligee the excess costs of performance. Under a payment bond, the surety guarantees the principal’s obligation to pay its laborers, suppliers, and subcontractors. If a surety is called upon to take over the contractor’s obligations, it will perform and then make a claim to recover its losses from the contractor.
The common bond instruments used for the traditional project delivery in which a contractor bids to build a project designed by the owner may not accommodate the shifted design risk that accompanies many alternative project delivery methods such as design-build, design-bid-build, design-build-operate-transfer, and public-private partnerships. On a traditional project, the design professional’s liability is to the owner, and the design risk is wholly segregated from the contractor’s risk in building the project. But when design and build services align, so do the risks, and not all bonding vehicles accommodate this convergence of risk on one side of the project equation.
The bonding of design obligations on projects combining design and build services is determined by the contract requirements and the surety’s offerings. Traditionally, performance bonds provide underwriting for the contractor’s construction obligations while excluding any professional liability claims as to the design. But in combined design/build projects owners expect—and statutes require on public works—performance bonds for the full cost of the project including construction and design. Sureties may be willing to provide combined design/build performance bonds in exchange for additional assurances including minimum standards of insurance for the design professional, and subrogation to the contractor’s rights against the engineer. With variable project-specific contract and statutory requirements, surety offerings, and the composition of design/build teams, every project’s bonding solution will need to account for the variable risk and relationships between the parties.
Bonding for design performance is further complicated by some reticence in the professional engineer design community to accept performance bonds for professional design services. Contractors can attempt to protect their risk for the design portion of a performance bond through tailored cross-agreements with the design professional supported by appropriate endorsements to the design professional’s errors and omissions insurance. Some sureties have specialty bonds for public-private partnership projects, adapted from the longer-running international P3 markets.
On federal projects the parties contracting with the prime contractor have certain statutorily guaranteed rights to payment for the “labor and materials” incorporated into a federal construction project. But a design professional does not necessarily provide labor or materials to a project, and on a design/build project where the designer works for the prime contractor instead of the owner, the design professional may not have secured recourse for nonpayment by the prime. A design professional providing professional design services generally cannot claim against a Miller Act bond as it does not provide manual or physical labor to the project, and provides no supplies that are incorporated into the project.
But, if the design professional provides supervisory services, the weight of authority will permit an architect or other skilled engineer to claim against a Miller Act bond if he or she actually superintends the work done. One possible explanation for this distinction is that a professional engineer who actually supervises the work has an obligation to see that the project actually gets built, as opposed to the design professional whose sole involvement is to prepare the project plans and specifications.
Multiple courts have found that the design professionals’ project supervision may need to be on-site supervision in order to qualify for a claim under the Miller Act. U.S. ex rel. Naberhaus-Burke, Inc. v. Butt & Head, Inc., 535 F. Supp. 1155 (S.D. Ohio 1982); U.S. ex rel. Olson v. W.H. Cates Constr. Co., Inc., 972 F.2d 987 (8th Cir. 1992). In Naberhaus-Burke, the engineer, a second-tier subcontractor, could not recover for its work in preparing certain calculations and shop drawings, but was permitted recovery for the performance of on-site services including project superintending, supervision, and inspection. In Olson, the Eighth Circuit affirmed that professional supervisory work covered by the Miller Act is limited to “skilled professional work” involving actual on-site superintending, supervision, or inspection.
But the mere fact that superintending, supervision, or inspection is performed on-site may be insufficient for a design professional to recover under the Miller Act. In U.S. ex rel. Gulf Ins. Co., 313 F. Supp. 2d 593 (E.D.Va. 2000), those activities must still be “hands on” in order to justify a claim under the Miller Act. Supervisory activities akin to clerical or administrative tasks like paying invoices, reviewing proposals, and supervising hiring do not involve the physical or manual toil required to recover under the Miller Act.
All fifty states, D.C., and Puerto Rico have so-called “little Miller Acts” that mimic the Miller Act, but apply to state projects. Coverage for design professionals can vary state-to-state and in comparison to the federal Miller Act. For example, California’s little Miller Act protects claimants that provide work to the direct contractor. Cal. Civ. Code § 9566. But, architects and engineers “who perform work prior to or otherwise outside the scope of the construction contract have no claim on the contract’s payment bond.” Union Asphalt, Inc. v. Planet Ins. Co., 21 Cal. App. 4th 1762 (2d Dist. 1994). In Florida, architects and engineers are specifically protected by the little Miller Act payment bond as parties “who furnish labor, services, or materials for the prosecution of work provided for in the contract.” Fla. Stat. § 255.05, 713.01.
The design-build context changes both the risk that a contractor has to the owner under its performance bond, and the risk that a contractor has with respect to its hired design professionals under the payment bond. A contractor should design its bonding for each project based not only on the penal sum limits mandated by the contract, but also on the project location, owner-entity, and scope of services required of the design professional.