Jun 22, 2022

Supreme Court Decision Cautions Care in Termination

Written by Matthew Gurr

This article originally appeared in the Spring 2022 issue of Construction Law, the newsletter of the WSBA Construction Law Section. Read the article on WSBA.org

In Conway Const. Co. v. City of Puyallup, 197 Wn.2d 825, 490 P.3d 221 (2021), the Supreme Court of Washington considered several issues related to whether the City of Puyallup properly terminated a contract for default. As a matter of first impression, the court also considered whether the city was entitled to an offset of costs for defective work discovered after termination.

The overall takeaway in this case is that there may be a potential shift toward contractor friendly decisions by a court that tends to favor public owners. However, it could be that the actions of the City, in failing to meet with the contractor, or even reviewing Conway’s attempts to cure prior to termination, were especially concerning to the Court. Regardless, it provides further framework for contractors performing under public contracts and reinforces the implied duty of good faith and fair dealing, as well as the burden placed on a public entity to show that its default termination of a contract is justified.

Conway arose from a public works project, in which the city of Puyallup contracted with Conway to build the nation’s first arterial roadway with pervious concrete. The contract incorporated the Washington State Department of Transportation’s (“WSDOT”) Standard Specifications for Road, Bridge, and Municipal Construction (the “Standard Specifications”). The city also drafted a second contract, specific to the public works project (the “Public Works Contract”).

During performance of the contract, several issues arose. The City of Puyallup issued multiple nonconformance reports to Conway, stating that some of Conway’s work did not meet contract specifications. The City subsequently issued a notice of suspension, identifying nine contract violations. Under the terms of the contract, Conway had 15 days to remedy the alleged violations. Conway took steps to cure the issues, including attempts to meet with the Puyallup City Engineer. However, the City’s engineer repeatedly refused to meet, or discuss the violations with Conway. Eventually, the City issued a final notice of termination for default and withheld further payment to the contractor. Several months after the termination, the City also found defective concrete panels that needed to be replaced.

Conway sued the City, arguing that the termination to default was improper and should be converted into a termination for convenience. At trial, the court found that the termination was, in fact, one for convenience. The City of Puyallup appealed the decision. The Court of Appeals mostly affirmed the trial court’s ruling.

The Court began its analysis by distinguishing between a termination for convenience and a termination for default:

“[a] termination for default must be based on good cause, such as the contractor’s failure to meet the requirements of the contract.” See 5860 Chi. Ridge, LLC v. United States, 104 Fed. Cl. 740, 755 (2012). “By contrast, a termination for convenience clause in a contract gives a public entity the “the right to terminate, ‘at will,’” assuming no bad faith or abuse of discretion.”  John Reiner & Co. v. United States, 163 Ct. Cl. 381, 390, 325 F.2d 438 (1963).

The Court further noted that the two types of termination resulted in two different financial consequences for Conway. If terminated for default, Conway would be forced to pay the City for costs incurred in completing the project. On the other hand, if terminated for convenience, the contractor would be entitled to payment for work performed up until its date of termination.

In turning to the two contracts underlying the project, the Court determined that the Public Works Contract prevailed over the Standard Specifications. As such, the terms of the Public Works Contract governed the termination.  The Court found this to be a crucial distinction because the Standard Specifications allowed Conway to remedy defects prior to the City issuing a default termination, while the Public Works Contract did not include a remedial provision. Further, the Public Works Contract “termination for default” clause stated that once the City determined that sufficient cause existed to terminate the contract, the City must provide written notice to the contractor and its Surety, indicating that the contractor breached the contract. The contractor would then have 15 days to cure the breach. Of particular importance, if the remedy provided was not to the satisfaction of the City of Puyallup, the City Engineer possessed the authority to terminate the contract.

In applying the Public Works Contract, the parties disputed the correct standard for termination. The City argued that the trial court should only have asked whether the City was satisfied with Conway’s attempts to remedy the breach. On the other hand, Conway argued that the appropriate test was whether Conway neglected or refused to correct the defective work. By this standard, if Conway made any attempt at all to provide a remedy for the breach, the termination was improper.

The Court determined that both parties’ termination standards were correct. In so doing, the Court found that the contract required that Conway show that it did not neglect its duty to remedy defective work. However, the contract also required that the City be reasonably satisfied with the contractor’s attempt to cure. The City was further required to act in good faith when deciding whether it was “satisfied” with the contractor’s efforts. In reviewing the trial court’s findings, the Court determined that the City Engineer’s failure to meet with Conway, or discuss the breach, equated to bad faith on the part of the City. As such, the City withholding its “satisfaction” from the contractor’s attempt to cure was unreasonable.

Next, the Court turned to the act of termination. The Court noted that it was the City’s burden to prove whether the termination was justified. In applying the standard put forth in the Public Works Contract, the Court found that Conway did not, in fact, neglect its duty to cure the defective work. As a result, the City did not have the right to unreasonably withhold its satisfaction with Conway’s efforts. Because the City failed to meet its burden of proof, the termination was converted to one for convenience.

On first impression, the court addressed the issue of whether the City was entitled to an offset for defective work found after the termination, where the City failed to provide notice to Conway of the defective work. In finding against the City, the Court applied the plain language of the Public Works Contract. The contract required that the City give notice to Conway of any defective work, which the City failed to provide. The City also did not give Conway an opportunity to cure the defective work. As such, the City was not entitled to an offset of costs. Lastly, the Court determined that Conway was entitled to attorney fees. The Court first noted that RCW 39.04.240, allowed for attorney fees for public work contracts under specific circumstances. Regardless, the court found that Conway was eligible for attorney fees under provisions of the contract. In applying the “Disputes and Claims” clause, the plain language required that the prevailing party in any lawsuit pursuant to the contract be entitled to an award of its cost of defense. The Court reasoned that Conway was entitled to fees because RCW 39.04.240 was not an exclusive fee provision, nor did the contract clause waive Conway’s right to fees under RCW 39.04.240.