CALIFORNIA SUPREME COURT HOLDS THAT THEORY OF "ABANDONMENT" OF CONTRACT DOES NOT APPLY TO PUBLIC WORKS CONTRACTS
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Gordon Hunt, Esq.
Hunt Ortmann, Blasco, Palffy & Rossell, Inc., A Professional Corp.

1.  INTRODUCTION

2.  FACTS

a. Bidding
b. Change Orders
c. Claim for Non-Captured Change Order Costs

3.  ISSUES

4.  ANALYSIS

a. Inconsistency with the Purpose of Competitive Bidding Statutes
b. Public Policy Concerns
c. Private Works
d. Recovery Based on "Total Cost" Measure of Damages
e. Recovery Based on "Actual Cost" Measure of Damages

5.  COURT'S DECISION

6. CONCLUSION                                                                 

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DISCLAIMER

1. INTRODUCTION

In the case of Amelco Electric v. City of Thousand Oaks (California Supreme Court No. S091069, filed 2/4/02), the California Supreme Court held that the theory of "abandonment" does not apply against a public entity. The court also held that Amelco had not presented sufficient evidence to warrant instructing the jury on total cost damages for breach of contract. The Supreme Court remanded the case to the Court of Appeal with instructions to remand the case to the trial court for a re-trial on the issue of damages.

2. FACTS

a. Bidding

In 1992, the City of Thousand Oaks ("City") solicited bids for electrical work to construct a Civic Arts Plaza. Instead of a general contractor, the project was managed by Lehrer McGovern Bovis, Inc. ("LMB") and the City solicited bids from various prime contractors. It was a multi- prime contract. The City received five electrical work bids. Amelco was low and was awarded the contract. All five bids were within ten percent of each other and the three lowest bids were within three percent of each other.

b. Change Orders

During the two-year construction process, the City issued 1,018 sequentially numbered sketches to various contractors to "clarify" or "change" the original contract drawings or to respond to requests for information (RFI's). The vast majority of the changes were to one building (the office building) and outside lighting. Of the 1,018 sketches, 248 affected electrical work. Amelco requested 221 change orders and the City and Amelco agreed on 32 change orders. Pursuant to those change orders, the City paid Amelco $1,009,728.00 above the contract price ($6,158,378.00), an increase of nearly 17%.

Amelco claimed the project involved an unusually high number of sketches that were difficult to work with, the scheduling of the various contractors' work became more difficult as a result of the changes, it was required to delay or accelerate particular tasks and to shift workers among tasks to accommodate work by other trades, it (Amelco) was unable to produce documentation of instances in which its performance of a work directive or change order was delayed or interfered with by LMB's actions for which it was not compensated, and that the shear number of changes made it "impossible" to keep track of the impact any one change had on the project. Amelco conceded it was inefficient, but assigned responsibility for virtually all of the inefficiency to LMB.

In May, 1993, Amelco wrote LMB concerning Work Directive 48, Addendum No. 1, which Amelco claimed improperly shifted engineering responsibility to Amelco. Amelco requested a change order for $203,759.00 to hire a drafter to update drawings, a foreman and a project engineer. LMB rejected the request on the basis that those tasks were included within the original contract price. Amelco did not hire any additional personnel and signed a change order for zero dollars and zero additional time because LMB verbally promised Amelco that "things are going to get better". On July 29, 1994, over one year later, and two months before project completion, Amelco requested a second change order for Work Directive No. 48. Amelco asserted the executed change order did not include any field productive labor impact or related problems and that the price for this work will follow in the near future. The opinion does not state what happened with regard to that second change order, but it is assumed that it was never accepted and executed.

c. Claim for Non-Captured Change Order Costs

In January, 1995, (after work had been completed), Amelco submitted a total cost claim for $1.7 million for costs resulting from non-captured costs of the change orders. The claim was rejected. Amelco filed suit claiming "abandonment" and "breach of contract". By the time of trial, Amelco's claim was $2,224,842.00 because of the discovery of additional costs. After a five-week trial, a jury awarded Amelco $2,134,586.00. The Court of Appeal affirmed the award and concluded that, as a matter of law, a public works contract can be abandoned. The City appealed to the California Supreme Court.

3. ISSUES

The first and primary issue the California Supreme Court addressed was whether or not the abandonment theory of liability applies against a public entity. The court stated that under long-standing California law, if a public contract is declared void, a contractor may not be paid for work performed under that contract. Further, the court had previously ruled that "quantum meruit" (that is reasonable value of work performed) recovery for extra work beyond the contract requirements was generally not allowed. The court framed the issue that it was deciding as follows:

"The question in this case is whether a public entity is liable under an abandonment theory to a contractor when it makes numerous changes to the contract work, and these changes allegedly make it difficult and more costly to perform the contract because of delay, interference with the work of other trades, and other problems not captured in the price of the executed change orders."

The court acknowledged the leading cases in California that had applied the "abandonment" theory, all of which had dealt with private works of improvement. Those private works' cases had, in general, held that where an owner imposes upon the contractor an excessive number of changes such that it can fairly be said that the scope of the work under the contract has been altered and the parties have ignored the change order process an "abandonment" of the contract may be found allowing the contractor to recover on a total cost basis. The court acknowledged that the United States Federal Court of Claims has historically recognized government breach of contract liability under the doctrine of "cardinal change". The court distinguished the "abandonment doctrine" from the "cardinal change doctrine" stating that those two theories are "fundamentally different". The court noted that under the California "abandonment" cases, the parties ceased to follow the contract's change order process and the final project is materially different from the project contracted for whereupon the contractor can recover the reasonable costs for all of its work. Turning to the Federal "cardinal change" cases, the court noted that under the cardinal change doctrine, the cardinal change constitutes a material breach of contract whereupon the contractor may recover breach of contract damages for the additional work.

a. Inconsistency with the Purpose of Competitive Bidding Statutes

The court then embarked upon its "analysis". The court started off by concluding that the abandonment theory of liability does not apply to public entities because such a theory is fundamentally inconsistent with the purpose of competitive bidding statutes. The court noted that under Public Contract Code §20162, general law cities are required to award contracts to the lowest responsible bidder and the Supreme Court had previously not allowed recovery on a quantum meruit (reasonable value) basis where there is a defect in the bidding rendering the contract void. The court stated that if they held that the City's numerous changes could result in the contract being set aside in its entirety, Amelco would find itself in no different situation and therefore should receive no different treatment than a contractor who had performed under a void contract. The court further stated that the City would not have the authority to contract with Amelco for a quantum meruit (reasonable value) payment and would be required to rebid the project. The court stated it was without authority to abrogate the bidding statutes and make a new contract between the parties which the City could not do.

What the court was, in effect, saying is that since competitive bidding must take place on public projects, the court could not allow a finding that a public contract had been "abandoned" and thereby make a new contract between the contractor and the public body allowing recovery of the reasonable value of the contractor's services in disregard of the contract price. After noting that competitive bidding statutes are for the benefit of the tax payers, the court stated the following:

"It is difficult, however, to ascertain how the general public benefits by allowing a contractor to claim abandonment of the public works contract following completion of the work, and recovery for the reasonable value of its work; indeed, just the opposite seems true. Permitting such recovery would appear to unduly punish the tax-paying public."

b. Public Policy Concerns

The court further noted that to allow a contractor to make a claim following completion of the work, implicates significant public policy concerns. The court noted that under the "abandonment" doctrine, the contractor is not required to demonstrate at what point the contract was abandoned. The court noted that Amelco did not determine it had a claim until November of 1994, after the work was completed. The court noted that under the "abandonment" doctrine, a certain number of changes is permissible, but at some indeterminent point, the next requested change becomes "excessive" resulting in setting aside the competitively bid contract and thereby allowing the contractor to recover on a quantum meruit basis from the beginning of the project onward. As a result, the "abandonment" theory fails to provide any meaningful guidance for public agencies to determine whether the "line has been crossed". As a result, public entities would not receive timely notice of claims that would allow them to make project management, budget or procedural adjustments during the course of construction. Contractors would be permitted to wait until the project was completed before giving notice of "too many" changes, resulting in intolerable uncertainty in budgeting and financing of public construction projects. The court further noted that allowing contractors to recover in quantum meruit, rather than the bid cost, would encourage contractors to unrealistically bid low with the hope of prevailing on an abandonment claim based on numerous changes inherent in any large public works project.

The court buttressed its decision by citing Public Contract Code §7105, which provides, in part, that public works contracts may be terminated, amended or modified only if the termination, modification or amendment is provided for in the contract and the compensation for amendments and modifications shall be determined as provided for in the contract. The court concluded that "abandonment" cannot be considered one of the changes contemplated by Section 7105.

c. Case Law - Private Works

The court then turned to the California cases that had allowed the abandonment and total cost theory on private works. The court stated they are distinguishable on the ground that they involve private parties, not public parties.

d. Recovery Based on "Total Cost" Measure of Damages

The court noted that the public entity would be liable for breach of contract which requires the contractor to prove the breach and as a result of the breach, the contractor was caused damages. The court then discussed what was required to recover "total costs" as a measure of damages for breach of contract. The court stated it was not determining whether "total cost" damages are ever appropriate in a case involving breach of a public works contract. The court merely decided whether the "total costs" theory of damages was properly submitted to the jury.

The court set forth the four elements that must be proven to proceed on a "total cost" theory:
(1) the impracticality of proving actual losses directly;
(2) the contractor's bid was reasonable;
(3) the contractor's actual costs were reasonable, and
(4) the contractor was not responsible for the added costs.

The court then noted that in any breach of contract case, the contractor must prove:
(1) the contract;
(2) the contractor's performance;
(3) the public entity's breach; and
(4) damage to the contractor.

Damages for breach of contract are those within the contemplation of the parties when the contract was entered into or were reasonably foreseeable at that time. Consequential damages beyond the expectations of the parties are not recoverable. The court noted that "total cost" is generally disfavored as the contractor proves total costs by deducting the contract price from the total cost of performance. The court did confirm, however, the jury verdict method of providing damages by proving the four elements set forth above and then modifying the contractor's recovery for any errors in its bid or any costs incurred because of the contractor's own inefficiencies.

e. Recovery Based on "Actual Cost" Measure of Damages

The court concluded that the "actual cost method" is preferred because it provides the court with documented underlying expenses insuring that the final amount of the equitable adjustment will, in fact, be equitable and not a windfall for either the government or the contractor. The court noted that under the "actual cost" measure of damages, the costs must be tied into the owner's fault.

The court relied on the case of Huber, Hunt & Nichols, Inc. v. Moore (1977) 67 Cal.App.3d 278 where a total cost claim was disallowed. The court held that the contractor, in this case, had not met its burden of proof of the four elements and specifically, the contractor had not proven the fourth element, to-wit, that the City and no one else was responsible for the additional costs. The court noted that the contractor had failed to prove how a particular breach caused certain damages and the contractor had conceded it had not distinguished between inefficiencies that were the contractor's and those that were the City's. The contractor merely reduced its claim by 5% and the jury was asked to assume that the remaining 95% was the fault of LMB. The contractor did not demonstrate when any particular breach occurred and sought to recover all costs over the life of the project. The jury was instructed that if it found that the City had breached or abandoned the contract, the contractor could recover the reasonable value of work performed less payments made by the City and less costs incurred by Amelco which were not fairly attributable to the City.

The court held that the jury should not have been instructed to calculate Amelco's loss from any breach of contract under a total cost measure of damages. By reason of the fact that the court had held that the abandonment theory was not applicable to public projects and that the contractor had not properly proven a total cost claim for breach of contract, the court therefore reversed the Judgment and remanded the case to the District Court of Appeal with instructions to remand the case to the trial court to re-try the issue of damages. The court thus sustained the breach of contract finding and required the contractor to re-try the issue of damages.

Dissenting Opinion.

There was a strong dissent by one justice. The dissent pointed out that it has long been the rule in California, in other states and in the Federal Courts that where an owner imposes upon the contractor an excessive number of changes, such that it can be fairly said that the scope of work under the original contract has been altered, the law provides a remedy, to-wit, the original contract is considered mutually abandoned and replaced with a new contract that allows the contractor to recover its actual costs. As noted in the majority opinion, that theory has been upheld in private works projects in California. It has also been the law in the Federal Court cases and is referred to therein as "cardinal change". Whether the theory is labeled "abandonment" or "cardinal change", it operates as a safety valve to allow contractors to recover their actual costs when, through no fault of the contractor, the project goes out of control.

Until the majority decision in this particular case, no court had ever limited the doctrine of abandonment to contracts with private owners. Public and private contracts are interpreted in the same fashion. The dissent pointed out that in this case the parties deviated from the contract's change order process by performing changes on a "price and proceed" basis. The dissent noted that the rule should not be different for public works projects than private works projects. The same events that allow contractors to recover on private projects and federal projects occur on state public works projects. The dissent stated there was no legal precedent for the majority's holding.

The dissent also noted that contractors will not "bid low" and hope to recover on an "abandonment" theory in the event the public agency makes numerous changes. The dissent pointed out that no contractor would take such a risk.

The dissent further stated that allowing the contractor to seek reasonable value where there are excessive changes will encourage public agencies to issue adequate plans and specifications so that intelligent bidding can take place. Further, it would allow contractors to recover their actual costs rather than requiring the public entity to draw up new plans and specifications and rebid the project to comply with the competitive bidding statutes. The dissent pointed out that the contractor is required to complete the project under the abandonment theory and the owner has to pay for the excessive changes made over the life of the project. The dissent noted that the best support that the majority had for its opinion was Public Contract Code §7105. The dissent pointed out, however, that said code section deals with "termination", "amendment" and "modification". If the Legislature had intended it to deal with "abandonment", it would have said so. The dissent pointed out that Public Contract Code §7105 did not repeal the common law rule that contractual liability of a public agency is the same as that of a private individual. The dissent concluded by stating:

"There being no authority or persuasive reason to prohibit application of the abandonment doctrine to construction contracts with public entities, I dissent."

Contractors and their attorneys had assumed, based upon the California cases that had applied the abandonment theory in the private sector and the numerous cases that had applied the "cardinal change" theory in the federal sector would be equally applicable to public works projects performed in California. This opinion of the California Supreme Court makes it clear that contractors may no longer proceed on an "abandonment" or "cardinal change" theory where there have been excessive changes on a public works project. By reason of this opinion, contractors would be well advised to give notice every time any act or event occurs on the project not within the control of the contractor that impacts the contractor's time or cost of performance and request a change order for the cost and time of that impact. Furthermore, contractors would be well advised to promptly start the tracking of costs applicable to each such impact so that the contractor may proceed on an "actual cost" basis. The contractor should seek a change order under the appropriate provisions of the contract documents. That request may be under the Changes Clause, the Suspension of Work Clause, or the Changed Conditions Clause. Contractors will be allowed to continue to proceed under a breach of contract theory under this decision. It will be necessary for the contractor to prove the normal elements in any breach of contract action which are outlined above. If the contractor proceeds on a total cost basis, it will have to prove the four elements outlined above in order to proceed on a total cost basis for breach of contract.

It should be noted, however, that the Supreme Court did not overrule the "modified total cost" method of proceeding. Under the modified total cost theory of damages, the contractor proves the four elements outlined above, but gives a credit to the owner for any of the elements that the contractor is unable to satisfy. Essentially, that typically results in the contractor giving a credit against its total costs for any errors that the contractor made in its bid or any excessive excess costs that were incurred as a result of the contractor's own inefficiencies.

Under this California Supreme Court decision, contractors will no longer be able to proceed on a "abandonment" theory and should make every effort during the construction project to give notice of any event that impacts their cost or time of performance and seek recovery under the appropriate provisions of the contract documents (primarily the Changes Clause). Contractors would likewise be well advised to attempt to maintain separate cost records attributable to each breach. Obviously, contractors should never give notice of the claim after the project has been completed. It is the opinion of the author that that was one of the primary reasons for the decision, to-wit, that the contractor did not present its $1.7 million claim until after work had been completed. Even though the contractor did write a couple of letters seeking a change order for one of the directives, evidently under the evidence as submitted at the time of trial, it did not give notice of its overall claim in a timely fashion.

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