Last month, I wrote about basic considerations for processing change orders. Now, it’s time to dig into the details. Let’s start from the beginning.

The contract

During the bidding process, plan how you are going to process a change order. This is the time to review the change-order provisions in the proposed contract. I recommend you have a lawyer who specializes in construction law review every proposed contract. Most contracts are designed to shift risk from the general contractor to the subcontractor, so spend time with the sections defining what costs you are allowed to recover in your change-order pricing.

There are two sources of subcontract forms: those sponsored by industry associations and the proprietary forms developed by general contractors. The two most-often-used association sponsors are the American Institute of Architects (AIA) and the Associated General Contractors (AGC). As you can imagine, each favors its own members. As for independently developed subcontract forms, there may be as many different contracts as there are general contractors. However, many of them use language borrowed from other sources.

The categories

Most contracts delineate which costs and markups are allowed for change orders. There are three categories of change order costs: direct costs, including labor, material, equipment and other costs directly related to the change order; indirect costs, including overhead expenses and profit; and the costs of other impacts, such as lost labor productivity, delay costs and the cost of filing claims. Unsurprisingly, most of the available contracts do not allow for all of the costs you may experience due to a change order 
being issued.

Of the three categories, you might think direct costs are the easiest to recover, but this is not always the case. Using the AIA A201 2007 contract as a guide, material, equipment, rental and transportation costs are allowed. However, small tool costs are not allowed. Storage, handling, inspection, testing, temporary facilities and waste cleanup costs are not mentioned. 

Labor costs can also be a problem. The AIA contract allows for wages, burden and on-site supervision, such as a general foreman. It does not identify office supervision, room and board, or travel costs.

The material

Let’s look more closely at material costs. When I was a junior estimator working for a small electrical contractor, our standard procedure was to use Trade Service Publication’s Column 3 in our change orders. This was the wholesale price every EC could pay for material. Any discounts we obtained were kept for the company. Now, many contracts require the subcontractor to include all of their discounts in their material pricing, including cash discounts earned for paying the material provider’s bill on time. Some contracts require copies of invoices to prove your material pricing is at the lowest possible level.

Another material cost to consider is restocking and cancellation charges. I have often had to fight for reimbursement of these costs. It does not make sense to me that owners do not think they are liable for the costs related to retuning or canceling material, when they are the ones making the changes.

The labor

Now for a closer look at labor costs. Every contractor I have ever worked for had the same standards for applying labor units to estimates. They used a “competitive” set of labor units for bidding new work. They also had a set of labor units for work that took more time; including change orders. Change orders are disruptive and most often cause a loss of productivity. This is another area where contracts try to limit the costs a subcontractor can recover in a change order. One of the most common phrases I see in a contract requires the use of a published labor guide, which often contains only competitive labor units not meant for change orders.

Some contracts go as far as defining what costs can be included in your labor rate. A customer called me about a contract he had signed that did not allow for some of the burden and fringe costs that are part of a standard union labor rate. His company was losing money for every hour of work he performed on a change order.

I hope I have made it clear how important it is to have contracts reviewed by a construction lawyer, solely because of change-order language. Next month, we will discuss overhead, profit, impact factors and consequential costs.

Editor's note: Continue on to part 3 here.