In Joe Tex’s song about unrequited love, the Southern Soul singer belts out, “I gotcha, never shoulda promised to me.” Joe Tex may have thought this approach is the right one for romantic disappointment, but parties to a contract have a different set of obligations.

A lawsuit by Washington State contractor Nova Contracting should serve as an alert to owners dealing with the assessment of a contractor’s performance. Nova’s lawsuit came about because of the owner’s termination of the contract. Nova claimed the owner was using a “gotcha” review process for its submittals that was designed to prevent performance. The trial court agreed with the owner.

Nova appealed and the court of appeals found sufficient questions of fact to send the dispute back to the trial court. The opinion offers insight into fair dealing and good faith in the performance of construction contracts. Nova Contracting, Inc. v. City of Olympia, No. 48644-0-II (Wash Ct. App. Apr. 18, 2017).

Forty-five days to replace a City culvert

Nova contracted with the City of Olympia to replace a culvert that ran beneath a paved bike path. The parties’ contract incorporated the plans and specifications, Nova’s proposal, and Washington State’s standards for road, bridge, and municipal construction.

Under the contract, Nova had to provide various submittals to the City’s engineer for approval before construction could begin. The contract made two things clear: the City’s engineer approval was a prerequisite to starting work covered by a submittal, and the City’s decision to accept or reject a submittal was final.

The contract allowed Nova had 45 days after receipt of the notice to proceed to complete the project. The City issued the notice to proceed on August 11, 2014. Nova planned to mobilize to the site on August 12, 2014, but it could not mobilize because of delays in the submission and approval of submittals. The delay resulted in an e-mail from the City to Nova on August 19, 2014—one week after Nova’s planned start date. The City expressed its view that Nova could not meet the project schedule and requested a revised schedule.

The problems continued after that. The City rejected many of Nova’s submittals and re-submittals. Nova argued that the City was preventing its performance by improperly rejecting the submittals, but achieved no resolution. By early September, many key submittals remained unapproved.

Termination leads to litigation

On September 4, 2014, the City initiated the termination Nova’s contract. The City cited Nova’s failure to mobilize, the elapse of 17 of the 45 project work days, Nova’s failure to provide an updated project schedule and failure to provide appropriate submittals, and the impossibility to complete the project in the remaining time. In the termination notice, the City gave Nova 15 days to cure.

Nova mobilized to the site on September 4, the day of the City’s notice letter and well within the 15-day cure period. Four days later, the City delivered a stop work order. In the City’s view, Nova failed to notify the City before “beginning work,” failed to secure prior written approval to mobilize, and placed equipment at the site without the City’s approval.

Nova protested and a letter-writing battle followed. Nova eventually filed suit, alleging that the City breached its duty of good faith and fair dealing. Nova argued, among other things, that the City’s handling of the submittals imposed requirements that were not part of the contract and delayed Nova’s work such that it could not timely complete the project. Nova argued that the City prevented Nova from attaining its justified expectations under the contract. The City counterclaimed for liquidated damages.

The trial court dismissed Nova’s claims on summary judgment and awarded liquidated damages and attorney’s fees to the City. But the case did not end there. The Court of Appeals of Washington reversed the trial court’s judgment and remanded the case for further consideration of Nova’s claims.

When does good faith and fair dealing apply?

The court started its analysis with the premise that the law in the State of Washington, like most states, imposes an implied duty of good faith and fair dealing in every contract. This duty requires the parties to cooperate with each other so each party may benefit from full performance of the contract.

The duty of good faith and fair dealing does not add or contradict the express terms or impose sort of “free-floating obligation of good faith.” Rather, it means that the parties must perform the obligations imposed by their agreement in good faith.

The question presented is whether the parties acted in a manner of “faithfulness to an agreed common purpose and consistency with the justified expectation of the other party.” In Nova’s case, did the City act to prevent Nova from attaining its reasonable expectations under the contract?

The court looked to the Restatement (Second) of Contracts for guidance. The good faith and fair dealing question is whether the party’s conduct “violate community standards of decency, fairness, or reasonableness.” Quoting from the comments to section 205, the court explained that “subterfuges and evasions” are obvious breaches of good faith and fair dealing, but that the duty also extends to a wide range of conduct:

Subterfuges and evasions violate the obligation of good faith in performance even though the actor believes his conduct to be justified. But the obligation goes further: bad faith may be overt or may consist of inaction, and fair dealing may require more than honesty. A complete catalog of types of bad faith is impossible, but the following types are among those which have been recognized in judicial decisions: evasion of the spirit of the bargain, lack of diligence and slacking off, willful rendering of imperfect performance, abuse of power to specific terms, and interference with or failure to cooperate in the other party’s performance.

The City argued there was no duty of good faith and fair dealing applicable to its review of Nova’s submittals. It argued that good faith and fair dealing applies only when a party has discretionary authority and that the Nova contract gave the City unconditional authority. In the City’s view, there was no duty of good faith and fair dealing because the City Engineer’s decisions are final on all questions relating to the progress of the work, interpretation of the plans and specifications, and termination for default.

The court rejected the City’s broad reading of its authority under the contract. The court held that the contract did not provide the City with the absolute right to reject all submittals for any reason. The City’s judgments were to be guided by whether the submittal indicated Nova’s work would be in compliance with the contract. The City had to exercise discretion consistent with the contract’s requirements. The fact that the City’s interpretation of the plans and specifications are “final” does not give the City unlimited discretion. The contract gave the City discretionary authority to accept or reject submittals, not unlimited authority.

Did the City’s conduct interfere with Nova’s reasonable expectations?

To answer the factual question of whether the City’s actions interfered with Nova’s reasonable expectations under the contract, the court set forth a litany of issues raised by Nova’s expert witness:

  • The City demanded that all submittals be approved before Nova could begin work. Nova’s expert testified that this is contrary to industry practice, which requires approval of only the submittals that apply to the work being started. Further, the contract did not itself require all submittals to be approval before work could begin.
  • The City failed to impose reasonable and proper requirements in the rejection of submittals. As an example, the City rejected a submittal because mill reports for the project’s pipe were not included. However, the mill reports could not be prepared until the pipe was available for delivery and the City prohibited delivery until all submittals were approved. Nova’s expert described the City’s submittal review process as a “gotcha.” The City was reviewing them only for the purpose of finding a reason to reject them. According to Nova’s expert, the City’s review was an effort to prevent Nova’s performance rather than to assure itself that Nova’s performance would conform to the contract.
  • The City rejected an initial submittal for one reason and then rejected the resubmittal for new and different reasons. One submittal had been rejected four times. Each rejection cited new and different reasons.
  • The City cited Nova’s failure to mobilize as a basis for terminating the contract. When Nova mobilized, the City refused access and identified Nova’s unauthorized attempt to access the site as another basis for termination.

A promise should not be a gotcha

More than in most commercial contract arrangements, parties to construction contracts must interact and work together to have a successful project. The opinion in Nova Construction is a reminder that parties must exercise discretion in a balanced way, with an eye toward making the project a success. The efforts should be to work together and not to make the other party’s performance unreasonably difficult. As the Restatement says, there is an implied contractual requirement for “decency, fairness, or reasonableness.” Though both parties have multiple duties, obligations, and responsibilities set forth in the words of the contract. How you exercise them is just as important.

With apologies to Joe Tex, a “gotcha” may be fair in love, but it is not fair in construction.