Lumber prices have soared in an unprecedented way, increasing over 275% in the construction industry since May 2020. This has caused significant financial hardships for unprepared owners, suppliers, subcontractors, builders and contractors. In an effort to protect against having to foot the bill for the rising costs of lumber (or any other type of raw materials), there are several viable contractual solutions that should be considered in your construction contract.
One solution that may work for everyone is pre-ordering the lumber and incorporating that fixed price into the contract. However, this approach works best if the rising price of lumber would significantly outweigh the cost of storage fees and insurance. Likewise, if a party can store the amount of lumber needed for the project in a safe and secure place without any storage fees, then this may be the best solution for everyone particularly if the contractor or builder has executed a guaranteed maximum price (GMP) contract.
A GMP contract typically binds the contractor or builder to a specific price such that they assume the risk for cost overruns unless the contract states otherwise through price escalation or shared price clauses. Courts in the state of Georgia have repeatedly ruled against contractors and builders in a GMP contract where there are overrun costs as a result of the rising price of lumber, steel or other raw materials.
Price escalation clauses are another viable solution to combat rising lumber costs. There are two types of price escalation clauses: Cost-based adjustment clauses compare the actual incurred cost with the bid cost, while index-based clauses track and adjust prices based on existing material price indexes. These clauses can be included in contracts to adjust costs due to the fluctuation in the costs of raw materials or labor.
Different roles in the lumber construction process will take different courses of actions regarding price escalation clauses. For a building project, owners generally prefer relying on construction indexes because of their concern about determining and verifying actual price increases that they may be responsible for on the project. However, a general contractor wants to pass material price spikes to the owner and subcontractors such that the price escalation clauses are preferred when they are identical for both parties.
Likewise, a price escalation clause is beneficial for subcontractors and suppliers if it can be mutually agreeable between the contractor and owner. A homeowner who is building a custom home should consider a material price escalation clause that adjusts both up and down. For instance, if the price of materials decreased, the homeowner could benefit from this type of clause.
Another possible solution is a shared price clause, which allows the contractor or builder to be reimbursed for higher material prices, but only after the rate of increase reaches a certain percentage. Until the threshold is met, the contractor bears the risk. This provision generally is used for public works projects under the Federal Acquisition Regulation.
Notably, a shared price clause may not shield an owner from liability when they have executed a joint venture agreement with a construction company. Georgia courts have held that an owner is not entitled to damages for lost profits from the construction company and its parent due to the joint venture agreement neither relieving nor “shielding” the owner from their responsibility for damages resulting from increases in construction material quantities and prices, creating added costs to construct the project. Consequently, a contractor and subcontractor will most likely prefer a shared price clause because an owner could still bear some responsibility for the price increase in lumber.
Finally, a force majeure clause may be helpful if there is a severe shortage of raw materials or supplies due to a pandemic, war, embargo or “Act of God.” A force majeure clause allocates the risk of non-performance due to natural or unavoidable catastrophes to other parties in the contract. However, it does not really address a rise in costs for raw materials. In fact, Georgia courts have emphasized that a force majeure clause’s intention is not to be a “buffer” for a party against the normal risks of a contract including price increases for materials, such as lumber.