Fortunately, most contractor claims never reach the formal claims process and are resolved on the project level after one or more negotiation sessions. These negotiations culminate in a change order that contains the specifics of the agreement and is typically enforceable against both parties. As a recent case decided in New York reminds us, however, unless these agreements are supported by valuable consideration, they may be subject to challenge.

GII Industries, Inc. v. New York State Department of Transportation, 2009 WL 3030737 (Bkrtcy. E.D.N.Y.) involved a contract let by the New York State Department of Transportation (NYSDOT) to reconstruct the West Side Highway in New York City.

During the first stage of construction, the contractor discovered a large underground pipe, which was not shown on the project drawings, and was forced to halt all work. The agency launched an investigation. In the meantime, the NYSDOT instructed the contractor to proceed with stage two work out of sequence. Subsequently, the NYSDOT informed the contractor that the pipe must remain in place while work in stage one was performed.

The contractor tracked its costs and submitted a request for nearly $8 million, which the NYSDOT rejected because the contractor allegedly failed to comply with the contract’s recordkeeping requirements. A few months later, the NYSDOT relented and issued a change order granting 579 additional days to the contract.

Eventually, the contractor agreed to recalculate its claim by totaling its actual costs for the affected work and then subtracting from that the contract revenue it received for such work. This led to a NYSDOT offer of $7,112,438.60, which the contractor accepted. In the formal change order, the sum was capped at $7,112,438.60, and the final amount would be determined in an audit of the contractor’s “actual, reasonable and verifiable costs.”

Several months later, the NYSDOT concluded its audit and determined that the contractor’s actual costs were less than originally reported. The NYSDOT thus reduced the contractor’s claim accordingly. The contractor disagreed and filed suit against the NYSDOT for over $10 million.

In its answer to the complaint, the NYSDOT asserted that the settlement agreement established a cap of $7,112,438.60 on the contractor’s recovery. The contractor countered that the agreement is unenforceable because it lacks valuable consideration. There was neither a benefit received by it nor any right or interest given up by the NYSDOT.

The NYSDOT argued that its compromise of a claim potentially worth less than the amount specified served as adequate consideration. The court rejected that argument because (1) under the contract the NYSDOT already was obligated to pay the contractor its actual reasonable and verifiable costs; and (2) the $7,112,438.60 amount constituted nothing more than a cap on the contractor’s recovery without any obligation by the NYSDOT to pay a particular amount.

Typically, one party’s willingness to agree upon a fixed amount to compromise a claim serves as adequate consideration for a settlement agreement or change order. However, in this case, there was no fixed or minimum payment amount specified and, therefore, no benefit conveyed or right given up by the NYSDOT. GII Industries thus serves as a reminder that contractors and state highway departments must scrutinize their change orders and settlement agreements to ensure they are supported by valuable consideration and are not subject to challenge.