Liability for cost estimates/cost overruns

Dec 13, 2020

Contract disclaimers reflect the reality that estimating is an art, not a science – and that design professionals cannot guarantee or warrant the actual costs of construction.

When you take your car in for repairs, the mechanic gives you an “estimate.” Jurors understand this concept, that a customer relies on an “estimate” before authorizing work, and should not have to pay more. How about estimates of construction costs?

Architects are often criticized for being unable to accurately estimate construction costs. In one case it was said that, “There seems to be no reported case in which an architect is alleged to have over-estimated the cost of a building project. Indeed, no case reveals that an architect has correctly estimated the cost of a project although tradition assures that this does occur.” Williams Engineering, Inc. v. Goodyear, 496 So.2d 1012 (La. 1986).

Since design professionals cannot predict the exact amount that contractors will bid, their estimates of construction costs are normally not guarantees, but professional opinions which, for years, the AIA called “Opinions of Probable Construction Costs” – a phrase still used by many firms, and recommended by some lawyers and insurers. However, when the designer’s contract contains a fixed budget, courts generally hold that design professionals have to use reasonable care to prepare a design that will meet that budget. A harsh rule of law was developed over the years that if costs far exceeded the owner’s budget, the design professional could not recover its fee. This rule has its roots in cases from the early 1900s and is so strict, that some of the older cases held that even where there was no agreement on construction cost, an owner may reject the plans if the cost proves to be too great. Some of those older cases also held that an architect only gets one shot at the design, and the owner was not obligated to allow the architect to revise the design to meet budget.

Generally, absent a disclaimer, courts today look to the “standard of care” to see if the design professional was negligent in their estimates when given a firm budget. There is no hard, fast rule on this “standard,” but in a 1974 federal case, where the bids were twice the owner’s budget, there was evidence that the architect should have been reasonably able to estimate costs to within a 20 percent to 25 percent margin of error.

AIA-type disclaimers. In response to the old, tough cases, standard industry contracts (like the AIA and EJCDC documents) now routinely contain disclaimers regarding the designer’s liability for estimates. Under the current 2017 edition of the AIA’s B101 Owner-Architect Agreement, the architect provides three estimates during design, and the architect’s basic services only include “conceptual” estimates based on area or volume of the structure (“detailed cost estimating” is deemed to be “Supplemental Services” for an additional fee). First is an estimate based on a preliminary design. Based on the owner’s approval, the architect proceeds to the design development phase, which includes an “update” of the first estimate. If the owner approves again, the architect then moves into the construction documents phase in which it once again updates the estimate and requests the owner’s approval. As in prior versions of the AIA contracts, Article 6 of the current B101 disclaims any warranty or representation that actual bids will not vary from the owner’s budget or any estimate prepared by the architect.

In the 1997 version of the AIA’s Owner-Architect Agreement, the words “best judgment” were deleted – a phrase that had been used for many decades and which arguably raised the standard of care from “reasonable” to “best.” (Compare 1997’s B141, Par. 2.1.7.2 to Par. 5.2.1 of the 1987 B141.) Thirty-some years ago, the 1987 edition of the AIA contract also stated that there was no fixed limit of construction cost established as a condition of the agreement, unless agreed to in writing signed by the parties. However, that clause was dropped in the 1997 version. Par. 6.6 of the 2017 AIA B101 provides specific contract remedies if the lowest “bona fide” bid comes in over budget. Those remedies include: 1) owner approves an increase in the budget; 2) owner authorizes re-bidding or re-negotiation; 3) owner terminates the contract, but pays the architect; 4) owner revises the project program, scope, or quality to reduce the cost; or, 5) some other “mutually acceptable alternative.” If the owner chooses to revise the scope of the project, the 2007 version required the architect to revise the drawings without additional charge to meet the budget. In 2017, that was changed to delete “without additional compensation” if the change is due to unanticipated market conditions. Also, modifying the design is the “limit of the architect’s responsibility,” a type of limitation of liability clause.

Effect of disclaimers. Cases involving AIA-like disclaimers have had mixed results. In one case, despite disclaimers, the court held that the cost representations were negligently made to the construction lender, who could sue the engineer for damages. The court also rejected an argument that the estimates were merely “opinions,” which are not actionable. In another case, Malo v. Gilman, 379 N.E.2d 554 (Ind. App. 3 Dist. 1978), the architect’s estimate was $70,000, but the lowest bid was $105,000 (a 50 percent error) and the architect was denied its fee. Without discussing the effect of the AIA disclaimer, the court held that the architect “lost his right to recover compensation when he designed a building impossible of construction within the maximum cost limitation” – even though there was no maximum cost in the contract! The court allowed evidence of an oral agreement on cost to supplement the written contract. In another case examining an AIA disclaimer, the architect’s estimate was $39,973, but the actual cost was nearly $80,000 (a 100 percent error). The architect was found to be negligent and was denied its fee. Expert testimony was not required because the error was so gross. As to the disclaimer, citing to another case, the court said, “If, as the seems to infer, it means that an architect will under no circumstances be bound by his estimate, we would consider it contrary to public policy because it would mean that no matter how large the bid for doing the work, would be obligated to pay an architectural fee based on that amount.” In a 2014 New Jersey case, a homeowner sued his architect claiming he contracted for a house with a budget of $5 million, but the architect designed a larger house costing between $11 million and $13 million. While expert testimony was not required due to the huge variation, the trial court dismissed the lawsuit based on disclaimers that the preliminary budget was not a guarantee or warranty of the contractor’s estimates. When the owner saw the actual estimate, he asked the architect, whimsically: “What are you guys smoking over there?” and felt the numbers were inflated. The court found that the owner thought the architect’s estimates were in error and directed the architect to complete the design. As a result, the owner essentially assumed the risk and consented to the design of the more costly house.

Over-estimating? While the opening quote from a 1986 case may have been true at the time, i.e. that no reported case found a designer had over-estimated the cost of a project, that changed in 1993 when an engineering firm was sued in Florida for actually over-estimating the cost of construction, which led the county to issue bonds for more than was needed. However, the engineer’s contract said that estimates of probable construction cost could not be guaranteed and that actual costs might vary from the estimate. Although a jury found in favor of the county, the appellate court reversed, finding no breach of contract, given the disclaimer.

Summary. When a group of 10 bidders estimate a project, they all come up with different costs for the same project – and these companies estimate work for a living! Why then should design professionals be expected to get it exactly right when 10 contractors cannot agree on the cost? Therein lies the standard of care, which does not hold architects or engineers to a perfection standard, but to a reasonable standard. Contract disclaimers, like those used by AIA, reflect the reality that estimating is an art, not a science – and that design professionals use reasonable care, but cannot guarantee or warrant the actual costs of construction. A candid discussion with the owner, up front, might be the best approach to set expectations. If the owner wants a more reliable estimate, they may want to hire an independent estimator.

William Quatman, FAIA, Esq., is general counsel and senior vice president at Burns & McDonnell Engineering Co. He can be reached at bquatman@burnsmcd.com.

Click here to read this week's issue of The Zweig Letter.

About Zweig Group

Zweig Group, three times on the Inc. 500/5000 list, is the industry leader and premiere authority in AEC firm management and marketing, the go-to source for data and research, and the leading provider of customized learning and training. Zweig Group exists to help AEC firms succeed in a complicated and challenging marketplace through services that include: Mergers & Acquisitions, Strategic Planning, Valuation, Executive Search, Board of Director Services, Ownership Transition, Marketing & Branding, and Business Development Training. The firm has offices in Dallas and Fayetteville, Arkansas.