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Public-Private Partnerships: Conflicting Interests Between Design-Builder and Designer

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Authored by attorney Michael L. Sterling

Federal, state, and local governments are turning to the private sector to meet construction and infrastructure demands. Currently, one of the most widely used options is the Public-Private Partnership (“PPP”). On the design side, a PPP project will involve at least three parties – the Concessionaire, Design-Builder and Designer (although the same entity my play multiple roles). This article focuses on issues that may arise between the Design-Builder and the Designer on PPP projects.

Conflicting Interests Surface Shortly After Parties Execute Contracts
In a typical sequence of contract execution between these parties, the first document is a Letter of Intent (“LOI”), Memorandum of Understanding (“MOU”) or Teaming Agreement (“TA”) for pre-proposal work executed between the Concessionaire and the Design-Builder. This first document usually outlines the scope of work, compensation, confidentiality and exclusivity provisions. Next, the Design-Builder and Designer execute a similar agreement for pre-proposal work and preliminary design necessary to estimate the project.

Once the Concessionaire is awarded the project, the Designer begins the preliminary design, the Design-Builder begins estimating costs, and the Concessionaire obtains financing commitments. At this point, conflicting interests begin to surface. The Design-Builder wants to pin down the Designer on a fixed design cost so that it can prepare an accurate estimate. However, the Design-Builder will usually need to negotiate the subcontract with the Designer before the Design-Build contract is final. Similarly, the Concessionaire wants to arrive at a fixed price for the Design-Build contract so that the Concessionaire will know the design and construction costs before it negotiates an agreement with the Owner.

Specific Issues that May Arise between Design-Builder and Designer:

  • Incorporation by Reference
    The Design-Builder will usually want to incorporate the Design-Build agreement and any other upstream contracts into the Design Subcontract in order to ensure no gap in the Designer’s obligations to the Design-Builder and the Design-Builder’s obligations to the Concessionaire. However, many of these documents will not be final. To protect itself, the Designer will typically try to incorporate only those documents that it has been provided an opportunity to review prior to execution of the Design Subcontract. However, not only might the other documents not be final, they may also include very complicated financing agreements that require in-depth review to ascertain the effect on project risk. Designers will also want to ensure that the Design Subcontract takes precedence over any documents incorporated by reference in the event of any inconsistency or ambiguity.
  • Designer’s Compensation
    A Design-Builder typically wants the Designer to absorb the proposal phase design costs, while the Designer wants to be paid an amount equal to its direct labor multiplied by its normal overhead multiplier (e.g., direct labor x 2.8). One solution may be to recoup some costs from the Owner or Design-Builder in the form of a stipend or a “success bonus.” The Designer might request a stipend from the Owner, if the bid is unsuccessful, to pay for any deduction from the Designer’s normal compensation. If the stipend is insufficient, the Design-Builder may be asked to make up the difference. If the proposal is successful, the Designer may request that deductions from normal compensation be offset by a “success bonus.” The Design-Builder will want to minimize any “success bonus” under the belief that the Designer’s “bonus” consists of receiving a large contract.
  • Adherence to the Design Schedule
    The Design-Builder will want the Designer to promise to meet the design schedule “as it may be modified or revised in the future.” The Design-Builder will also want the Designer to bear the cost of design for a fixed fee, including costs necessary to maintain the design schedule in the face of delays caused by the Owner or Concessionaire. The Design-Builder may also seek a commitment from the Designer to rework the design to fit within the construction budget for no extra compensation.The Designer, on the other hand, will only want to agree to revisions to the schedule that are mutually acceptable, and the Designer will seek compensation for having to hire supplemental design team members to maintain the schedule. The Designer may agree to redesign any parts of the final design found to be in error; but, the Designer will not usually agree to create a design that meets the Design-Builder’s budget unless the Designer reviews and approves the estimate. However, the Design-Builder may not want to share its confidential estimate with the Designer. Importantly, the Designer will need to be wary of any Guaranteed Completion Dates.
  • Standard of Care as Applied to the Preliminary Design
    Another issue for negotiation is the “standard of care.” The Design-Builder will typically seek a commitment from the Designer that the preliminary design, used to estimate the costs of construction of the project, will not vary materially from the final design. The Design-Builder will also want agreement that deviations not compensated by the Owner or Concessionaire will be a breach of the standard of care. The Designer will want to disclaim any liability for the preliminary design because it does not constitute a “final design.” Thus, the Designer is typically only willing to accept liability for errors in the final, sealed design.
  • Intellectual Property Rights in the Design
    The Design-Builder will want to own the design, and it will want to prevent the Designer from using innovative aspects of the design on other projects. The Designer will seek ownership interests in the design, or in the alternative, an unlimited license to use the design and any innovative features or techniques developed during the design of the project without restriction by the Design-Builder.
  • Third-Party Beneficiaries of the Design Subcontract
    The Concessionaire will usually try to force the Design-Builder to name the Concessionaire as third-party beneficiary of the Design Subcontract. In doing so, the Concessionaire may then be able to recover from the Designer for errors and omissions in the event of a Design-Builder default or insolvency even in jurisdictions with strict privity of contract and economic loss rules. The Designer will be opposed to such a provision because the addition of third-party beneficiaries widens the Designer’s field of potential claimants.

Conclusion
PPP projects require clients to make important decisions based on incomplete information. Attorneys advising clients with respect to design contracts on PPP projects will have to carefully consider the different risks associated with such projects, and the need to carefully review complex flow down provisions often originating from incomplete project financing and other agreements.

These articles are meant to bring awareness to these topics and are not intended to be used as legal advice.

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