What happens to fixed price contracts if the material costs increase?
COVID-19 Pandemic: What happens to fixed price contracts if the material costs increase?
The pandemic has shaken up all industrial sectors and it has certainly not spared the residential construction sector of Quebec.
Entrepreneurs and customers face their own set of problems: the egregious need of building materials and the soaring prices of those materials.
From a legal standpoint, what happens when the contract between the parties is a fixed price one even though the price of construction materials increases along the way?
Definition of a fixed price contract
A fixed price contract is a type of business or service contract under which the customer must pay the convened price after the contractor has agreed to perform a work according to precise plans and specifications.[1] It is the contractor who provides all the labor and assumes the risks of the costs of foreseeable additional work unless it can be shown that the input in the plans and specifications were deficient or erroneous.[2]
So, if the work or the service costs less than what had been foreseen in the contract, the customer cannot claim a reduction in the price.[3] In contrast, the contractor is not entitled to a price increase if the work was more expensive than what was specified in the contract.[4]
In short, generally, the obligations of the parties are set in stone unless the two parties consensually agree to modify them.
A fixed price contract can be absolute or relative. An absolute fixed price contract does not contain any clause making it possible to modify the plans and specifications of the contract so as to change the cost of the work.[5]
On the contrary, a relative fixed price contract contains clauses making it possible to modify plans and specifications and states the right to reserve a change in prices to take account of force majeure or unforeseen circumstances.[6]
Force majeure is an unforeseen event by a reasonably prudent and diligent person placed in the same circumstances as the debtor (customer) who contracts with the entrepreneur.[7] In addition, this reasonable person could not themselves have resisted this event which made it impossible to perform the obligation.[8]
Obviously, in the case of extras or additional work excluded from the contract, it is up to the contractor who claims them to prove that the omission of excluding them is a fault attributable to the customer.[9]
Some fixed price contracts already include language to allow for increases in prices.
L’Association des professionnels de la construction et de l’habitation du Québec (APCHQ) has provided on its website model clauses that considers price and cost increases.[10]
These clauses provide the possibility to modify the fixed price subject to justifying the increase with supporting documents. Therefore, the customer will have fifteen (15) days to sign the new modified document accepting the price increase, failing which the contract could be nullified and cancelled.
- Prior to COVID-19 pandemic
How did Quebec courts deal with the notion of force majeure (unforeseen circumstances) before the pandemic?
Entrepreneurs have tried unsuccessfully to invoke the notion of force majeure in order to be released from the contract and recover losses they sustained due to an increase in the price.
The Superior Court[11] refused to grant snow removal companies the sums lost due to the unexpected increase in the price of diesel fuel in view of the overall market situation, because it was not considered a case of force majeure.
Since the contract is the law between the parties, the courts very rarely revise contracts when force majeure or unforeseen circumstances arise with very few exceptions.[12]
Yet, if the language is either general in nature, vague or ambiguous which is subject to interpretation the courts will be in the forced position to interpret the contract either in favour of the debtor or creditor.
- During the COVID-19 pandemic
During the Covid-19 pandemic, construction material prices dramatically increased to the point that it no longer becomes profitable or viable to continue construction of fixed price contracts.
It is for these very reasons that contractors started to include addendums or modifications to their fixed price contracts to include percentage (%) increase of prices based on construction materials such as wood.
Subsequently, the contractors requested buyers to sign new addendums to the contract that included prices increases between 5% to 35% due to the increases of material costs.
Many buyers decided to cancel the contract as they could no longer afford the price increases.
Others decided to re-negotiate the price increase concluding that the price increase was too large or lacked supporting documents to justify the increase in price.
It remains to be seen how the courts will interpret fixed price contracts and whether such an increase in pricing is considered valid based on force majeure or based on the modification of the contract.
- Post-COVID-19 pandemic
The courts might need to determine post-COVID-19 pandemic the outcome of a justifiable increase in fixed price contracts.
The real questions become:
- How will the courts determine a justifiable increase in prices if the language of the contract is vague and ambiguous?
- On what analysis can an increase be justified and how much does each parameter influence the final bill when building a home?
- Can a 5% price increase be justified when half of the home was built before the pandemic and the other half was built during the pandemic?
- Why should the buyer suffer the increase in price if the price was fixed?
Many of these lingering questions have yet to be adjudicated before the courts to enlighten us on whether the force majeure unforeseen circumstances of the pandemic would favor contractors or the buyers in a fixed price contract when the terms and conditions of the increase in price is vague and ambiguous and subject to interpretation.
There are other purely legal questions that linger:
- Could the courts broaden the extremely limited scope of the doctrine of unforeseen circumstances or force majeure to include the pandemic as a reason to renegotiate a contract?
- Will a claim based on force majeuredue to the pandemic be successful?
In most cases, I am led to believe that the fixed price contract would be interpreted in favour of the person who contracted the obligation and against the person who stipulated it[13] and will be subject to the rule of good faith.
The outcome of each case is unique and it defined by the facts and circumstances of the matter at hand.
For these reasons, the judge will decide the probative value of the credibility of witnesses and preponderance of evidence based on the facts presented before him or her.
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[1] Jacques DESLAURIERS, Vente, louage, contrat d’entreprise ou de service, 2e éd., Montréal, Wilson & Lafleur, 2013, par. 2131.
[2] Coffrage Yvon Constant inc. c. Coffrage Idéal (1995) inc., (C.Q., 2000-09-21), SOQUIJ AZ-50078747.
[3] Article 2109, CcQ-1991 – Code civil du Québec.
[4] Id.
[5] Préc., note 1, par. 2132.
[6] Id.
[7] Vincent KARIM, Les Obligations, vol. 1, 4e éd., Montréal, Wilson & Lafleur, 2015, par. 3226
[8] Id.
[9] Société de cogeneration de St-Félicien, société en commandite/St-Félicien Cogeneration Limited Partnership c. Industries Falmec Inc., 2005 QCCA 441, par. 28, 56, 99.
[10] https://www.apchq.com/actualites/prix-des-materiaux-de-construction-clauses-contractuelles
[11] Transport Rosemont inc. c. Montréal (Ville de), 2008 QCCS 5507.
[12] Churchill Falls (Labrador) Corporation Ltd. c. Hydro-Québec, 2018 CSC 46.
[13] Article 1432, CcQ-1991 – Code civil du Québec.
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