Written by Jim Castles
Many design firms have faced the following scenario: A building, or series of buildings (e.g., college campus) has serious defect issues, e.g., water intrusion. The damages are catastrophic requiring reconstruction in the tens of millions of dollars. In the investigation of the cause(s) of the defects contributing to the water intrusion, construction defects are readily identified as the primary cause. The Owner’s experts, joined perhaps by the Contractor’s experts, also identify what they contend is a design flaw that may be contributing to the intrusion. The design team vehemently disagrees. It is next to impossible to prove whether the design issue did, in fact, contribute to the water intrusion or, if it did, where this occurred. It is universally agreed that the main culprit is the construction errors and there is strong disagreement as to whether there was, in fact, a design defect and whether that purported defect contributed at all to the water intrusion and resulting damage.
Let’s assume this case moves forward and eventually ends up in mediation. The reasonable costs to repair figure is generally agreed to be around $50 million. The Owner focuses the negotiation on the Contractor but runs into issues related to insurance coverage; indemnity claims between the Contractor and subcontractors and other issues. The Owner concludes the best he can do with the Contractor and the subcontractors is a settlement of $40 million. Under California law, the Owner and Contractor file a motion with the Court to determine that the $40 million settlement is a good faith settlement pursuant to Code of Civil Procedure section 877.6, The motion is granted which discharges (dismisses) the Architect’s cross-complaint against the Contractor and subcontractors for equitable indemnity. The Architect is now on an island as the only remaining defendant in the case. What is the Architect’s potential exposure? Because the damages are $50 million and the settlement is $40 million, the Architect now has an exposure of $10 million even though it is highly questionable whether the design was deficient or the degree to which that deficiency (if it exists) caused the damages! Sound familiar? This is a scary scenario.
Let’s a assume the Architect has $5 million in coverage that is available to cover this potential loss. If the Architect rolls the dice of going to trial to prove that either the design was not defective and/or that any damages caused by the defect were well under $5 million, the Architect runs the risk that if he loses, he is now exposed to millions of dollars in damages for which he has no insurance. It takes a courageous Architect to go this route although it does happen on occasion. Most Architects decide that they cannot afford to take this risk as it would potentially bankrupt their firm. Instead, negotiations commence in earnest with the Owner. The Architect has tried for months to get the Owner to negotiate but the Owner’s counsel decided that the best way to tactically negotiate was to first make the best deal they could with the Contractor and subcontractors and to only then negotiate with the Architect. Where there is insufficient insurance to cover the amount at risk to the Architect (in this example, the risk is $10 million), the Owner will then make a policy limits demand on the Architect (in this example, $5 million). This then creates a tension between the Architect’s insurer and the Architect because the insurer would rather take the case to trial since the amount being demanded seems to be outrageously high in light of the facts that there are real questions about whether the design was even flawed and also about the amount of damage that this might have caused. The Architect, however, does not want to gamble and go to trial because if things go wrong, he has a potential exposure of $10 million which means he has $5 million of potential exposure for which he does not have insurance. Negotiations follow and if this case goes the route of most cases, it will end up settling for an amount that greatly exceeds what the Architect should have reasonably paid to settle based on risk and the Architect’s proportionate fault.
The question you are probably asking is “How can this happen? How can the law sanction and even facilitate such an unfair result?” The answer is that this occurs because of what’s called “joint and several liability” and because of the tendency of judges to grant good faith settlement motions (CCP 877.6) when many of these motions should be denied.
The concept of joint and several liability derives from the concept of joint tortfeasors. Joint tortfeasors are two or more individuals who either (1) act in concert to commit a tort, (2) act independently but cause a single, indivisible tortious injury, or (3) share responsibility for a tort because of vicarious liability. If two or more parties have JOINT LIABILITY, they are each liable up to the full amount of the obligation. If two or more parties have SEVERAL LIABILITY, each tortfeasor is liable only for their respective obligations based on their percentage of fault. If, however, two or more parties have JOINT AND SEVERAL LIABILITY, any of the defendants can be pursued as if they were jointly liable and it becomes the responsibility of the defendants to figure out their respective proportions of liability and payment. This is typically done by the filing of equitable indemnity cross-complaints by the Architect against the Contractor and vice versa. The plaintiff may not recover for the same injury twice but has the option of proceeding against just one jointly and severally liable defendant to recover 100 percent of his damages. The concept of joint and several liability was intended to ensure that the plaintiff is made whole where one or more defendants cannot make good on the damages. If the plaintiff (e.g., Owner) recovers 100 percent of the joint and several damages from the Contractor, for example, the Contractor can recover an amount from the Architect that is equal to the percentage of fault assessed to the Architect. Thus, if the Architect is assessed 15 percent of the fault for causing the joint and several damages, the Owner can recover 100 percent from the Contractor and the Contractor can recover 15 percent from the Architect.
In our example, the damage caused by the water intrusion would arguably be joint and several because although water getting in from the alleged design deficiency was independent from the water getting in from the construction defects, the results arguably caused an indivisible injury (damage). This means that if the case goes to trial, each defendant is liable for 100% of the joint and severally caused damage assuming they are found to be at fault. If there had been no settlement and the case went to trial with the Contractor, subcontractors and Architect as defendants, the jury might have found the Architect’s proportionate share of responsibility to be zero to 10%. Let’s assume, to illustrate the point, that the Architect has a crystal ball that tells him that the jury will find $50 million in jointly caused damage and that the Architect’s proportionate fault for the damage is going to be found by the jury to be 5 percent. This 5 percent of $50 million translates to $2.5 million. Because of the $40 million settlement by the Contractor and subcontractors, however, and because of joint and several liability, the Architect’s liability would now be $10 million (the difference between the $50 million in damages and the amount of received in settlement with the Contractor and subcontractors – $40 million). This is true even if the jury thought the Architect’s proportionate share of responsibility to be 5 percent. Thus, despite the fact that the Architect’s liability, as found by the jury, is really $2.5 million on a proportionate fault basis, the Architect’s real liability is now $10 million.
This gives rise to the obvious question of whether the Architect can succeed on his equitable indemnity claim against the Contractor to recoup the amount that exceeds the Architect’s proportionate share of fault. If the Architect is required to pay $10 million when his proportionate share of fault would result in him paying only $2.5 million, can the Architect seek to recoup the $7.5 million from the Contractor? After all, by finding the Architect to be 5 percent at fault, the jury found the Contractor to be 95 percent at fault. While the Contractor settled for $40 million, should the Contractor not be required to pay 95 percent of the $50 million which translates to $47.5 million? If not, should the Owner not be required to absorb the $7.5 million since the Owner settled with the Contractor foe too little? The answer to both questions is “NO.”
California Code of Civil Procedure 877.6 provides that any settlement that is determined by the Court to be “in good faith” “shall bar any other joint tortfeasor … from any other claims against the settling tortfeasor for equitable comparative contribution, or partial or comparative indemnity, based on comparative negligence or comparative fault.” For a settlement to be deemed to be a “good faith settlement” means that it is supposed to be “in the ballpark” of the settling tortfeasor’s potential liability for the claim. It has been the experience of this writer that CCP 877.6 motions are almost always granted as being in good faith especially when large sums are paid in the settlement. Judges want cases to settle. During the life of the case, judges often recommend to the parties that they schedule a mediation and attempt to get the case settled. Also, when certain joint tortfeasors settle and the settlement is confirmed as a good faith settlement, it puts pressure on the remaining joint tortfeasors which create leverage to get them to settle. For all these reasons, the vast majority of settlements are confirmed by the Courts as good faith settlements.
So where does this leave design professionals? How can you avoid getting “set up” such that your joint/several exposure far exceeds your proportionate share of fault? Here are 3 recommendations:
First, add a provision in your contract with the Owner that states that in any claim or lawsuit brought by the Owner, the Architect’s liability shall be several only, and not joint and several, and that the Architect’s several liability shall be limited to the Architect’s proportionate percentage of fault.
Second, be sure to negotiate a limitation of liability provision in your contract with the Owner that limits your liability to the Owner to the amount of insurance you have available to cover the claim at the time of settlement or at the time of judgment. If your insurance is like most, the coverage under your policy will be reduced as defense expenses are incurred by the insurer. The amount of coverage may also be depleted by other claims made against the same policy. As a result, while you may start off with a policy with limits of $2 million, for example, the amount of insurance left at the time of settlement or at the time of a judgment may be substantially less that $2 million. If you have a limitation of liability clause that limits your liability to $2 million because this is the insurance required to be provided as part of the contract, you may find yourself woefully short at the time of settlement or judgment. In such a case, your firm’s assets would be at risk to cover the delta between the amount of available insurance and the $2 million stated in the limitation of liability clause. Also, if possible, get the Owner to agree to indemnify you against any liability that exceeds your limitation of liability amount. In the example used in this article, if you suffered a $2.5 million judgment and only had $1.75 million in available insurance, the Owner would be limited to recovering $1.75 million from you. However, let’s assume the Contractor did not settle and the Contractor seeks to recover $2.5 million from you on an equitable indemnity claim. Since you are not in contract with the Contractor, you do not have a limitation of liability agreement with the Contractor. The only way to protect yourself against this risk is to have an agreement with the Owner whereby the Owner would indemnify you for the difference between the $2.5 million and the $1.75 million of available insurance.
Third, always try to engage the Owner in settlement discussions as early as possible and stay engaged in those discussions. Do NOT sit back as other settlement discussions are on-going and find yourself caught as the “last man standing” without a settlement. Remember, if you settle early and get a good faith settlement, this allows the Owner to exert more pressure on the remaining defendants as now they will be confronted with an exposure that potentially exceeds their proportionate fault. Also, design professionals can often assist the Owner in making the case against the Contractor and subcontractors particularly when many who worked for the Contractor are no longer around or available and when the Architectural team is still together and has project knowledge that may be difficult for the Contractor to develop.
Fourth, if you do get “set up” and find yourself in the position of being the last man standing with joint/several liability, and you feel the settlement with the Contractor, for example, is not fair and exposes you to far more than your proportionate share of fault, your only option is the fight the motion for good faith settlement (CCP 877.6) with everything you’ve got. Many people make only a token effort at opposition because they know that the motion is likely to be granted. This may be your only shot at avoiding a disproportionate exposure, however, so your opposition should be considered highly important and any/all resources necessary should be dedicated to preparing the opposition.
Jim Castles specializes in construction matters and has over 40 years of experience advising architects and engineers with respect to contracts, risk management, project documentation and strategic positioning. He has also successfully tried, arbitrated and negotiated numerous settlements on behalf of architects and engineers in construction related disputes of all types including schedule-related claims (delays, disruptions and accelerations), cost overruns, defects and earth movements (landslides and subsidence). Jim has repeatedly been recognized as a Super Lawyer in construction in California.