Annual survey of fidelity and surety law - 2005: this compilation of recent cases covers public and private construction bonds, financial institution bonds, and sureties' remedies.

• Author: Brownstein, Bettina E.
• Position: Part 1

1. PUBLIC CONSTRUCTION BONDS

   1. State and Local Bonds--Procedural

      Subcontractor failed to comply with surety's default notice provisions of surety bond under Massachusetts law, discharging surety from liability.

      IN Seaboard Surety Co. v. Town of Greenfield, (1) defendant-appellant Town of Greenfield ("Greenfield") appealed a Massachusetts district court's decision that granted summary judgment in favor of plaintiff-appellee, Seaboard Surety, Co. ("Seaboard"). The district court's decision discharged Seaboard from liability on a performance bond because Greenfield had failed to comply with the bond's default provisions under Massachusetts law. The First Circuit, in a 2-1 decision, affirmed.

      In June of 1998, Greenfield contracted with Interstate Construction Co. to renovate its middle school. As required under Massachusetts law, Interstate provided a performance bond that it obtained from Seaboard. In compliance with the terms of the bond, Greenfield notified Interstate and Seaboard twice that it was considering defaulting Interstate. In August of 2000, Greenfield sent Interstate notice of default and termination and filed suit in state court. The same day, Greenfield notified Seaboard of the termination and agreed to pay the balance of the contract funds to Seaboard or to a replacement contractor, as required by the bond.

      In response to Greenfield's notice, Seaboard asked for a reasonable time to investigate and requested documentation of the default.

      Greenfield hired a consultant for advice regarding the emergency work necessary in the interim. (During the surety' s investigation, Greenfield notified the surety of moisture problems involving the sub floor that Greenfield agreed required immediate attention.) Greenfield sent additional documents and asked Seaboard to do the emergency work and complete the contract. Seaboard agreed to a proposal to perform the emergency work in return for a $207,000 payment by Greenfield, with the caveat that it was not an offer to perform under the bond because Seaboard was still investigating the validity of Interstate's termination.

      Greenfield notified Seaboard in writing that the emergency work needed to begin by December 1, 2000, and that estimated costs for the emergency repairs and for completion of the contract were $5.6 million, an amount that was $3.8 million more than the remaining contract funds. Seaboard responded that it was ready and willing to perform the work and requested further documentation regarding the necessary emergency repairs. Greenfield sent the documents, but objected to being required to pay the entire cost of the emergency remediation; it offered to split the cost under a reservation of rights; however, the town expressed concern over Seaboard' s management team and ability to complete the work in a timely manner. Negotiations over the terms of a takeover contract ensued. Greenfield would not agree to Seaboard's construction manager and elected to proceed with its own construction arrangements without the surety's involvement.

      Seaboard then filed a motion for summary judgment seeking a discharge of its obligation under the bond on the grounds that Greenfield had materially breached the bond by hiring its own contractor. Greenfield filed a cross-claim for breach on the grounds that the surety had failed to promptly take action as required by subsection four of the bond. After discovery, the parties filed cross-motions for summary judgment.

      The district court granted Seaboard summary judgment and denied Greenfield. The court rejected an anticipatory breach defense for Greenfield as disallowed under Massachusetts law. The court found that Greenfield was in material breach because it had not properly notified the surety under subsection five of the bond when it ceased its dealings with Seaboard and hired another company. Greenfield appealed this ruling.

      On appeal, the First Circuit first analyzed the principles governing summary judgment under F.R.C.P. 56(e) with attention to what constitutes a "genuine" issue as to any material fact. It concluded that "genuine" means "material." It then reviewed de novo the district court's decision.

      The First Circuit began its examination of the facts by noting that the parties were in agreement that the town had complied with the bond's notice requirements for Interstate's default. However, the parties' disputed whether Greenfield had complied with subsection five, which mandated notice of Seaboard's default, before terminating it. The district court's opinion rested on Greenfield's failure to observe the subsection's notice provisions, which discharged Seaboard from any obligation under the bond. The First Circuit agreed with the district court's conclusion that compliance with subsection five was dispositive of both parties' claims and proceeded to examine whether the record created a triable issue of facts as to whether Greenfield had given Seaboard necessary notice. In considering the issue, the First Circuit also noted the importance of subsection five in that it gives a surety fifteen days to cure any alleged breach prior to default, thus minimizing its economic exposure.

      Greenfield contended that the two letters sent on November 15, 2000 constituted notice. The court discussed the standard for sufficient notice and found that Massachusetts law's standard of sufficient notice was not meaningfully distinct from that applied by the district court. (2) The First Circuit examined the letters in detail and agreed with the district court that none of the letters contained clear, direct, and unequivocal language sufficient to invoke the surety's obligations to give notice of Seaboard's default.

      Subcontractor failed to provide required notice under state's Little Miller Act that requires recitation of amount allegedly due.

      In Younge Mechanical Inc. v. Max Foote Construction Co. and Fidelity and Deposit Co. of Maryland, (3) the Court of Appeals of Mississippi affirmed a lower court's decision which denied the claim of a subcontractor (Younge Mechanical Inc.) against a general contractor (Max Foote Construction Co.) ("Max Foote") and the surety (Fidelity & Deposit Co. of Maryland) ("F&D") for payment of $13,325 for work it had performed on a public project. The court based its decision on its finding that the subcontractor had not provided the notice required by the state's Little Miller Act. (4)

      In February of 2000, Max Foote entered into a contract with the City of Clinton for the construction of sewer improvements. As required by law, Max Foote furnished a performance and payment bond from F&D. Max Foote then subcontracted with AAIM Construction and Renovation, Inc. to provide labor, material, and equipment to construct a portion of the project. AAIM in turn subcontracted with Younge Mechanical for the plumbing and HVAC portions of AAIM's subcontract with Max Foote.

      Younge's last day or work on the project was June 28, 2001. AAIM failed to make a final payment of $13,325, despite having received payment from Max Foote. In September, 2001, Younge Mechanical's president wrote a letter to the bonding agent for Max Foote advising it that Younge Mechanical had tried to obtain payment from AAIM, but despite the fact that AAIM had been paid, it had not, in turn, paid Younge Mechanical. Younge Mechanical sought reimbursement from Max Foote or the surety. F&D acknowledged the claim and requested additional information concerning the amount claimed. Younge Mechanical reasserted its demand for payment and filed suit.

      Max Foote and F&D filed a motion for summary judgment, alleging that Younge Mechanical had not met the statutory notice requirement of Mississippi statute 31-5-51(3), which required written notice to the contractor stating with substantial accuracy the amount claimed. Younge Mechanical contended that its September letter constituted sufficient notice. While noting that the statute's notice provision should be construed liberally and stating that this was a case of first impression in Mississippi, the court disagreed, finding the letter had not recited the amount due and thus did not constitute sufficient statutory notice. This deficiency was not cured by a telephone conversation after the 90-day limit or by joint checks before the work was completed.

   2. State and Local Bonds--Substantive

      Surety entitled to reimbursement from city which failed in its obligation as a stakeholder to surety's security.

      In Penn National v. City of Pine Bluffs the Eighth Circuit applied federal equitable subrogation principles to overturn the decision of a federal judge in a matter for which there was no state law precedent. The principles at issue involved equitable subrogation, suretyship, and municipal immunity under Arkansas law.

      After severe ice storms hit Pine Bluff, Arkansas in the winter of 2000, the City, using a FEMA grant, hired David Mitchell Construction to clean up debris. The contract included a ten percent retainage provision, and Mitchell was obligated to pay subcontractors within ten days of any progress payment from the City. Penn National, as surety for Mitchell, issued a $3.5 million performance and payment bond, as required by Arkansas law.

      Mitchell and the City of Pine Bluff argued over pricing and eligibility for FEMA reimbursement, and Mitchell was terminated March 26, 2001. Penn National discovered the termination on June 5, 2001, when the City advised Penn National of the action and noted that it had received $2.8 million in unpaid subcontractor claims. Penn National wrote the City on June 15, 2001, warning it not to release any contract funds without Penn National's written consent and asserting its potential subrogation rights.

      Despite receipt of the letter, a few days later, Pine Bluff approved a settlement and release with Mitchell and its creditors of approximately $2 million--with Mitchell receiving approximately one-half of this amount. Penn National then sued the City and its creditors in...