Could the Other Party to Your Contract Disappear Without Your Knowledge and Consent?

Construction contracts are plagued by uncertainties.  Labor, much less skilled labor, is often hard to find.  Certain materials, especially nowadays, can be in short supply.  Prices for both labor and materials fluctuate all over the place.  And of course, weather is always a factor.  It might seem the only certainties are the written terms of your contract and the identity of the parties bound thereby. But even that is not always the case.

Construction contracts, like any other property right, can be sold or “assigned” to unknown third-parties.  In such cases, the party to whom the contract is assigned, or ”assignee”, essentially “stands in the shoes” of the party who assigned the contract, or “assignor”.  For example, parties can assign their rights to receive payments under a contract.  Alternatively, parties can assign their obligations to perform work under a contract.  Parties can even assign all their rights and obligations under a contract.  In this latter case, the party with whom you contracted essentially disappears by replaceng themselves with an unknown third-party.  Unless your contract expressly prohibits assignment, restricts the conditions under which it can be assigned, or the assignment materially changes the obligations of the non-assigning party, or “obligor”,  you could end up not knowing the other party to your contract.

In the construction industry, there are many circumstances under which owners, contractors, or even subcontractors  may seek to “assign” their contract to a third party.  Affluent owners may seek to assign their entire general contract to an affiliated “single purpose entity” to limit financial exposure.  “Construction lenders” may demand a conditional assignment of the entire general contract as a condition precedent to financing the owner's construction loan.  Or owners, may no longer have need for a project and seek to transfer the entire general contract to an entity who has such a need.  When owners of construction projects “assign” general contracts, they generally assign the entire contract as opposed to just certain duties or obligations.

In contrast, when contractors or subcontractors “assign” contracts, they often assign some or all of their contracts to a third-party. Contractors and subcontractors seeking to sell their businesses to a third-party, generally seek to assign the entire contract.  “Construction sureties” may require a conditional assignment of the entire contract as a condition precedent to issuing payment and performance bonds.  And when faced with financial struggles, contractors and subcontractors may “assign” the right to receive some or all payments to third-party “factor” who then advances funds to the “assignor” similar to a “pay day” loan.

Confusion sometimes arises as to the distinction between “assignment” and “subcontracting”. “Assignment” transfers contract rights or obligations from the “assignor” to the “assignee” and thereby releases the “assignee”.  In contrast, contractors who subcontract work to a subcontractor simply “delegate” the responsibility to perform certain obligations under the contract to a subcontractor, but remain fully responsible for the “delegated duties” to the owner under the general contract.

Neither the “assignor” nor the “assignee” are required to give notice of the assignment unless required by the contract.  However, unless and until the “obligor” receives notice of the assignment, the “assignee” has no rights to enforce the contract against the “obligor”.  Recently, an owner client received notice of assignment from a factor that payments under the contract had been assigned. Being unfamiliar with both “assignments” and “factoring” the owner continued to issue payments directly to the contractor, resulting in the owner “paying the entire contract sum twice”, once to the contractor and a second time to the factor.  Hence it is critical for owners, contractors, and subcontractors to understand “assignments” and to whom duties and obligations under their construction contracts are owed.

The takeaways are simple.  If possible, prohibit the assignment of the construction contracts you enter.  Alternatively, require written notice and consent as a condition precedent to assignment.  If neither of those options are available, then make certain to pay attention if you are given a notice of “assignment”,