The numbers are jaw-dropping. Steel mill prices have increased nearly 25% over the past 3 months.  Softwood lumber prices have increased nearly 100% over the past 12 months.  Manufacturers and suppliers have started increasing inventories of raw materials to moderate future price shocks, further constraining supply and increasing prices.

Whether the increases in construction materials are due to disruptions in the supply chain arising from the COVID-19 pandemic, the blockage of the Suez Canal, or old-fashioned price gauging, performing a fixed price contract when material prices surge can lead to huge losses that can financially devastate a company.  What options exist to accommodate these increases?  We have previously written about price escalation clauses, also known as escalator clauses.  But very few contracts contain such provisions.  Could the doctrine of impossibility of performance excuse performance in an environment of pandemic pricing for materials?

The few courts around the United Stated that have considered whether increases in the price of materials can make contractual performance impossible or impractical have looked at several factors.  For instance, was the increase in cost a result of government action?  Was the reason for the increase foreseeable?  And was the additional cost extreme and unreasonable?

Two cases with very different results are illustrative of the challenges of arguing that price increases, alone, should excuse contractual performance. In Moyer v. City of Little Falls, a contractor entered into an agreement with the City to dump refuse in a nearby landfill for an annual fee of $97,000.  At the time, the local landfill—one of two that serviced that part of New York—charged $1.50 per cubic yard for dumping refuse.  A little over one year into the contract, the State closed that landfill.  The only other landfill, realizing its newfound monopoly power, increased its rates from $2.50 to $10.00 per cubic yard over a 4-month period.  The contractor sought to excuse performance of his contractual duties to the City due to the dramatic increase in waste disposal prices.

The Moyer court excused the contractor’s performance under the doctrine of impossibility. Citing to the Uniform Commercial Code, the Court noted that increased cost alone will not excuse performance unless the increase is due to some unforeseen contingency which alters the essential nature of the performance.  While the State of New York enforcing environmental laws and potentially closing one of the two landfills might have been foreseeable, the 666% increase in dumping fees at the only remaining landfill was “excessive” and not foreseen by the parties at the time the contract was entered into.

In contrast, in Louisiana Power & Light Co. v. Allegheny Ludlum Indus., Inc., a steel manufacturer contracted with a utility company, LPL, to supply condenser tubing for a nuclear power plant.  The supplier refused to perform after the price for low carbon ferrochrome increased 185% and electrolytic nickel rose 24%.  The supplier argued that the price increases made performance impossible.  The Court disagreed.

The LPL court noted that loss of profit, alone, is insufficient to show impossibility of performance.  Instead, the evidence must show that performance would result in losses that were especially severe and unreasonable.  What evidence did Allegheny provide?  It showed that the cost of performing under the contract increased 38% since the contract was signed and it would have lost $428,500 on the contract.  Although the entire company would still have turned a profit, the profit would have been halved due to the losses associated with the LPL contract.  In refusing the excuse Allegheny’s performance, the Court soberly reminded everyone who enters into a contract that “the realities of commercial life” are that sometimes a seller has to absorb financial losses when performing the contract.

How do these cases apply to the current market of significant inflation of construction materials?  Under the right but very limited circumstances, courts might excuse performance for impossibility resulting from increased prices when the price increases were unforeseen, a result of government action, and severe and unreasonable.

In reviewing your contractual obligations and whether legal excuses may justify not performing them, it is always prudent to consult with an attorney. The attorneys in our Austin and Dallas office are available to answer any questions you may have. You may contact us at info@gstexlaw.com.

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