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March 29, 2012

Claims clauses: Mike Johnson case is here to stay

  • Courts continue to sustain the rule and have broadened its reach since its enactment in 2003.
  • By JOE STRAUS and JOAQUIN HERNANDEZ
    Schwabe, Williamson & Wyatt

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    Straus

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    Hernandez

    Failing to strictly follow claim notice procedures in a construction contract may have disastrous consequences.

    In 2003, the Washington State Supreme Court altered the playing field and issued a cautionary and sobering opinion proclaiming that contractors that do not strictly comply with claim notice procedures are in danger of waiving claims for delays or extras, unless the project owner “unequivocally” waives the notice provision. The opinion, known to those in the construction industry as the “Mike Johnson case,” alarmed contractors.

    The case resulted in what many considered a harsh rule. Since the opinion was rendered, and as recently as this month, courts continue to sustain the rule and have broadened its reach.

    So what steps may a contractor take to lessen the impact of the Mike Johnson case legacy?

    Critics argue that the Johnson outcome imposed an overly harsh rule considering the circumstances of the case. For the construction industry, “constructive” notice or substantial compliance, the well-established practice, was gone. Strict compliance with all facets of the notice became the new standard.

    For those that may not recall, the contractor in that case failed to comply in a timely manner with a complex, multi-stepped claim notice provision found in many public contracts. The project owner knew about the substance of the claims and engaged in negotiations to reach a settlement. However, the State Supreme Court ruled that failure to strictly follow the procedures outlined in the claim notice provision within the time required resulted in a waiver of the claims — even despite settlement discussions. Moreover, the court felt that the project owner’s actions after learning of the claims did not amount to “unequivocal” acts of waiving the contract’s notice provision. The rule may now apply to terminated contracts.

    Earlier this month, in an unpublished opinion, the Court of Appeals applied the Mike Johnson case to a contract terminated for convenience.

    In that case, the city of Olympia hired a contractor to build a fish passage tunnel, which the city terminated for its convenience as permitted under the contract. After termination, the contractor submitted a claim to the city seeking over $1.1 million, but the city calculated that it owed the contractor just over $500,000.

    The contractor refused to sign a change order for that amount. The city unilaterally issued the change order and issued a check to the contractor, which the contractor cashed.

    The contractor sued the city, but the city successfully dismissed the case arguing that the contractor waived its claims by failing to comply in time with the contract’s notice provisions. The contractor argued the notice requirement did not apply because the city had terminated the contract and some of the costs arose after termination. However, the appellate court held that the contractor “was required to comply with the notice provisions even after termination.”

    Again, the standard was strict compliance.

    Whether the case establishes new precedent is debatable because the opinion was unpublished. The opinion nevertheless is a stark reminder about the perils involved in failing to strictly follow claim notice provisions.

    Minimizing risk

    Clearly understanding the contract’s claim notice provision before bidding on a project or signing the contract is obviously the first step in minimizing any risk of waiving claims. Claim notice provisions always outline procedures that add administrative costs and burdens to a contractor. This means effective calendaring and timelines for on-site personnel.

    The more complex the notice provision, the more likely there are increased costs to the contractor to prepare, negotiate, administer and resolve the claim.

    Taking into account the administrative costs associated with notice provisions and adding such costs to the bid or contract sum will encourage contractors to deliberately prepare claim notices according to the contract and promote sound contract administration practices. Contractors all too often learn about the complexity of claim notice provisions when a claim arises during the project. When this happens, it might be too late to strictly comply.

    The flurry of various activities in a project may lull a contract manager into providing an oral or informal notice of claim. The ease, convenience, and sometime necessity of sending email messages to the owner’s representative documenting an email “discussion” about a claim may provide a false sense of security that a claim is perfected under the contract or that the owner has sufficient notice of the claim.

    Sometimes the owner’s representative acknowledges the informal claim or gives a contractor the “OK” to file a more formal claim at another time. Given what occurred in the Mike Johnson case, such situations are not likely to excuse the contractor from following claim notice procedures and the time deadlines imposed by these provisions.

    What about subcontractors?

    Contractors must also consider how the claim procedures in their subcontracts reconcile with the prime contract’s claim procedures. It may not be enough to rely on a subcontract’s flow-down provision to address notice of claims to the owner. The amount of time given in a subcontract to provide notice of a claim may not give the contractor sufficient time to, in turn, present the claim to the owner under the prime contract’s claim notice provision.

    The contractor should allow for sufficient time to evaluate the subcontractor’s claim before issuing notice to the owner.

    When a claim is presented to the owner, contractors should include language preserving their right to supplement the claim.

    Claim notice procedures are complex because they require a significant amount of information. Sometimes all information required to support a claim is not known. Substantial compliance with notice may not be sufficient. The decision point is not whether the contractor’s compliance was “substantial” enough, but whether the owner accepted the “substantial” notice in such a manner as to constitute an “unequivocal waiver.”

    Cases subsequent to the Mike Johnson case show that courts may likely enforce the notice if it substantially complies with the contract provisions, but only if the owner’s action indicates acceptance of the notice. Contractors should include a reservation in their claim notice giving it the right to supplement the claim after the full range of impacts is known. They should also include as much information as possible so that the owner is aware of the claim’s full substance and potential downside.

    A decade later, the rule pronounced in the Mike Johnson case is alive and well in Washington. Commentators consider the Mike Johnson case one of the harshest cases in the country on contractor notice requirement.

    Contractors should not lose sight of the case and take appropriate measures to preserve their claims and assure that the claim notice procedures are strictly followed. It seems as if the Mike Johnson case is here to stay.


    Joe Straus and Joaquin Hernandez practice construction law at Schwabe, Williamson & Wyatt’s Seattle office.


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