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Dan Rosenberg is a construction attorney at the Much Shelist law firm, where he supports clients in construction, design, real estate and insurance. Prior to that, Rosenberg was the general counsel of Chicago-based construction company McHugh Enterprises. The opinions are the author’s own.
In a previous piece, I focused on the red flags of when a homeowner may be in financial trouble. But money issues affect multiple stakeholders, including contractors of all kinds. In some sectors, I have continued to see increasing signs of financial stress for contractors and especially trade contractors.
High interest rates and a slowdown in work in certain sectors appear to be particular causes of the strain.
Dan Rosenberg
Permission granted by Much Shelist
But before an entity fails completely, there are usually signs. Below is a list of signs that prime and trade contractors may be in trouble: red or yellow flags that should cause concern or at least raise the awareness of other partners. These become increasingly worrisome, of course, when there are more than one appearing in a project.
Signs a contractor might be in danger
When general contractors, trade contractors, or suppliers find themselves in financial difficulty, the indicators are often similar to those of troubled owners, such as media headlines, slowing payments, and significant personal changes. Additional red flags include:
Labor disturbances. If a contractor’s workforce suddenly doesn’t show up for the job, and it’s not the result of some other project dispute, that’s a bad sign. A major red flag is if the on-site labor is not paid for by a contractor. It’s also bad if a commercial contractor’s crew size drops unexpectedly.
Unplanned withdrawal of equipment. If a commercial contractor starts removing their equipment for unexplained or unplanned reasons, this should be cause for concern.
Sudden decrease in the quality of work. If the quality of a commercial contractor’s work suddenly declines for unexplained reasons, this could be a sign of distress. Similarly, a stoppage in deliveries may mean that the contractor does not pay its suppliers or that the contractor only pays essential suppliers.
links A major concern is if subcontractors or lower-tier suppliers start filing liens for non-payment. A related lien or lien involving a dispute between two parties may not be a concern, but when there are multiple or unrelated liens, this is a bad sign.
Union notification or warnings. In union markets, work is compensated in two ways: wages paid directly to employees and contribution to benefits (pension, health insurance, etc.) paid by the employer to multi-employer union funds. Distressed contractors often treat union funds as “lenders of last resort.”
If the employer does not pay union funds, the fund has a legal obligation to pursue payment, including awarding the project. Notices of unpaid benefit contributions are never a good sign. It’s worth noting that most unions will notify a general contractor whether or not a commercial contractor, for example, has made the required payments.
Account debtor default letters. In many cases, lenders that provide lines of credit to a contractor are secured by the contractor’s accounts receivable. When a borrower defaults on their loans, these lenders can issue letters demanding that all loans be paid directly to the lender. These letters, sometimes known as “UCC Account Debtor Letters,” are usually a sign that a company is in significant financial trouble.
what to do
If you see signs that a party you are working with may be in financial difficulty, in addition to contacting capable legal counsel, there are steps you can take to put yourself in the best position to minimize the financial damage that could affect your business Here are some key considerations businesses can take to protect themselves.
Understand the right to terminate and when to terminate. If a general contractor isn’t performing, try to understand why, but ultimately, if the general contractor isn’t performing, termination may be the only option. The construction contract governs whether the general contractor (or trade contractor) can be terminated and, if so, what requirements must be met before termination.
Also, it can be tactically useful to terminate before the general contractor (or trade contractor) files for bankruptcy, because once one party files for bankruptcy, whether you can terminate the construction contract will require court authorization.
Understand the right to supplement. If the general contractor or trade contractor suddenly can’t keep up with your schedule or can’t get certain equipment or materials they owe, the owner or general contractor may need to supplement the problematic trade contractor. Again, the rights surrounding this addition are governed by the current contract.
Understand the right to direct payment. Pooling or direct payments to those below a struggling general contractor or commercial contractor are important. The right to make these payments can help you keep your job. Again, this right is governed by the contract between the parties.
Consider notice and claims to insurance companies for breach of bonds or subcontractors. Most experienced general contractors have risk management protections in place to protect against the failure of a commercial contractor. The most common forms of protection are trade contractors’ obligations or subcontractors’ default insurance.
If a commercial contractor is in trouble, these bonds or insurance provide important protection. It is important to promptly notify the guarantor or insurer and take the necessary measures to preserve the claim.
As 2024 continues, keep an eye out for contractors or projects that are faltering and use these tips to protect yourself if it happens.
Many Shelist directors Scott R. Fradin and Robert Glantz contributed to this story.
