Annual survey of fidelity and surety law, 1994.

• Author: May, Ronald A.
• Position: Part 1

1. PUBLIC CONSTRUCTION BONDS

   1. Miller Act Bonds

      1. Procedural Issues

         Ordinary contract issues not otherwise preempted by the Miller Act are to be resolved by applying state law, including formation of contract and allowance and amount of prejudgment interest.

         In a decision that can serve as a primer of Miller Act applications, the U.S. District Court for the District of Delaware applied good common sense in sorting out contract disputes in a Miller Act case. United States for Use of Endicott Enterprises v. Star Brite.(1)

         The plaintiff subcontracted to perform the mechanical work on a federal project to renovate airplane hangers in Dover, Delaware. When it was not paid, the plaintiff sought both principal and interest. Both were contested but were resolved by applying Delaware law because the Miller Act does not explicitly address the parameters of contract disputes and does not address prejudgment interest. It rightly deemed state law to be incorporated into the act as the applicable federal law.

         Apparently applying Delaware rules on a conflict of laws, the court also held that when evaluating issues involving application of the act, it would look to the law of the state where the contract was performed. Thus the resolution of all issues is consistent--state law supplies the route to effectuating a Miller Act remedy.

      2. Substantive Issues

         Miller Act does not impose duty on bank or bank officer to conduct personal investigation of individual sureties before issuing certificate of sufficiency attesting financial condition of personal surety--maybe.

         In the uncommon facts of Beall Plumbing Heating v. First National Bank,(2) two individuals acted as sureties on an Army Corps of Engineers project to construct a child development and religious education center. The sureties, as required, provided a list of their assets with the required certificate of sufficiency from "a bank officer, bank, judge or clerk of a court of record, a U.S. attorney, commissioner or postmaster" attesting that the sureties were responsible and qualified and that to the best of the certificater's knowledge the facts stated by the sureties were true. The defendant bank and its officer provided the certificate, and a subcontractor who was unable to recover because of the insolvency of principal and surety sued them, alleging negligence, negligent misrepresentation and fraud in connection with the issuance of the certificate because they failed to ascertain the true financial condition of the sureties.

         While your editor reads that there was evidence that the defendants did some review as to the certificate's thoroughness, the court decided as a matter of law that no duty was owed by the bank or the bank's officers to investigate the financial condition of the sureties personally. The court examined a number of cases on the point and came down with the conclusion that the requirement is so loose as to be of no value. Thus, it agreed with other courts by finding that it takes very little to satisfy the requirement. It took so little that summary judgment was granted for the bank and its officer.

   2. State and Local Bonds

      Surety on public project not liable to subcontractor's employee under Wisconsin law for penal aspects of prevailing wage statute, as its provisions are applicable only to wage earner's direct employer.

      Employees of a subcontractor who were not paid the prevailing wage sued the prime contractor and its surety for the wage deficiency, double damages and attorney's fees. The plaintiff prevailed in the trial court on all three contentions, but only for the deficiency on appeal.

      The Wisconsin Supreme Court in Strong v. C.I.R. Inc.,(3) found that both policy and general rules work to insulate a non-offending person from a penalty, such as double damages and attorney's fees. In reasoning consistent with insulating a surety from a penalty, the court did not extend liability beyond the direct offending employer, the subcontractor.

      Failure to comply strictly with notice requirements of payment bond statute may not be fatal to claim.

      In Bastianelli v. National Union Fire Insurance Co.,(3) the plaintiff, who provided trucking and hauling services to a subcontractor on a project in Middlesex County, Massachusetts, sought recovery for $1,955 from the general contractor's surety under the payment bond statute. The plaintiff had sent invoices for his work along with his daily time slips. The surety declined to pay on the basis that the plaintiff had not complied with the notice requirement of the statute because the invoices did not reasonably put it on notice that the plaintiff was seeking recovery of monies.

      The Massachusetts Court of Appeals court disagreed, finding that the statute did not prescribe the form of the required notice. All that was required was for the claimant to "state with substantial accuracy the amount claimed and the name of the party for whom the work was performed." Concluding that the invoice and daily slips fulfilled this requirement, the court ruled that the plaintiff could recover from the surety under its bond, along with reasonable attorney's fees.

      In view of the small amount of money involved, the court considered but declined to impose sanctions on the surety's attorney after the attorney assured the court that the matter was of great importance to the construction bar.

      Unlike with Miller Act, third-tier subcontractor may be able to recover under California public work bond statute, if general contract is paper-fronting another.

      Like some public work bond statutes, the California statute defines the term "subcontractor" with a definition that is broad and contains no limitation as to tier. Unlike other jurisdictions, however, the California Court of Appeal did not believe such a claimant to be too remote to recover. Thus, a third-tier subcontractor who was not paid was entitled to recover under the prime's payment bond.

      In Union Asphalt Inc. v. Planet Insurance Co.(5) a subdivision developer entered into a contract with a construction company, which in turn subcontracted 100 percent of the work to another company, which in turn subcontracted with the plaintiff for a portion of the work and for materials. The owner stopped paying. The surety resisted payment under the bond, contending that coverage was limited to first-tier suppliers and second-tier subcontractors.

      The court seemed puzzled by this interpretation and allowed recovery. Given that the first tier was a 100 percent sub of the general, it is not surprising that the California court thought the legislature would not intend such a result. To the court saw the choice between two statutory constructions, "one leading to mischief or absurdity and the other to a result consistent with justice and common sense," was self-evident.

2. PRIVATE CONSTRUCTION BONDS

   1. Liability of Surety

      Surety bound by award against principal when surety was not in arbitration but probably could have intervened.

      In this appeal of a confirmed arbitration award, Sheffield Assembly of God Church Inc. v. American Insurance Co.,(6) a performance bond obligee filed an application to confirm an arbitration award against the principal and a motion for partial summary judgment to make the arbitration award of $475,000 binding on American, as surety. American was not named as a party to the arbitration proceedings.

      After a hearing on the motion, the trial court entered judgment confirming the arbitration award and granted partial summary judgment against American. American appealed, asserting that it was not a party to, did not participate in and did not have authority to participate in the owner-obligee's arbitration against the architect-contractor principal.

      The Missouri Court of Appeals saw these arguments as only half the story. Noting that judicial review of arbitration awards is limited, it affirmed the judgment confirming the arbitration award and granting summary judgment against American as surety for the architect-contractor.

      The court held that (1) American failed to produce any evidence indicating bias and failed to show the arbitration panel exceeded its authority by the amount awarded, (2) a bond that incorporates by reference a construction contract with an arbitration clause binds the surety to any damage award entered against the principal, (3) under Missouri law, a surety's liability is coextensive with the liability of its principal, and (4) American judicially admitted it is bound by the arbitration proceeding by having the action against it stayed pending the outcome of the arbitration proceeding.

      The court stated that a surety cannot sit back and use the arbitration process of the construction contract as a shield to a lawsuit against it, adopting the arbitration award if favorable and rejecting it if unfavorable.

      Arbitration award to owner against principal is binding on surety but surety may raise personal defenses in defending separate claim by owner against surety in remaining suit.

      In Rashid v. Schenck Construction Co.(7) arbitrators found in favor of the owner-obligee against a defaulted performance bond principal in the amount of $763,730. After judgement was entered on the arbitration award against the principal, the owner-obligee unsuccessfully sought to enforce the arbitration award against the surety.

      The West Virginia Supreme Court of Appeals reversed, holding that an arbitration award has collateral estoppel effect and is binding on the surety.

      During the arbitration proceedings, the owner-obligee had commenced an action against the surety in the federal court. In response, the surety moved to stay the action pending the decision of the arbitration. In rejecting earlier case law that an arbitration award against a principal is not enforceable against a surety who did not agree to arbitrate the dispute, the court relied on contemporary law to support its ruling that an agreement to arbitrate, where it is part of a general contract, is...