Articles Written by Charles Vander Kooi

Tackling change orders & pricing details in contracts

When you write contracts, be smart in how you include pricing and how you approach change orders.

By Charles Vander Kooi

One of the most important parts of a contracting business is the contract itself and the changes that occur to that contract as the job progresses. How well you write up contracts and deal with contract changes can have a huge impact on your company's financial viability.

There are many different forms of contracts available in our industry. However, it's my opinion that one of the best is the AIA Contract available through the American Institute of Architects website. You can also choose to have an attorney review your existing contract form or help you create one.

It should be noted that there are generally 4 important parts to a construction contract:

The first part includes the legal names and addresses of the parties who are entering into the contract. This should also include the legal address of the project if it is different than the owner's address.
The second part of a good contract addresses the work that's going to be done and the exact agreed-upon price for that work. This section should either list, in detail, all the items that are included in the price or refer to a set of plans and specifications that detail the work to be accomplished.
The third part of a good contract addresses the fact that changes will be made and the method by which those changes will be handled from a price standpoint. People may plan, but plans change.
The fourth, and last important issue in a contract, is the method of payment. If a deposit is required, the amount should be stipulated. If the owner is to be billed on a regular basis, the timeframes of that billing and when payment is due should be stated. If payment is not received under those terms, the contractor has a contractual reason and responsibility to cease work until that condition is met by the owner.

Most issues center on part 2 - pricing details, and part 3 - change orders, so we'll discuss those in more detail below.

Pricing – too much information?

You must be very clear in outlining the work to be done. Many a contractor has gotten into legal trouble with a client for not being specific enough here. But there is a question as to how detailed a contract should be in showing all the different breakdowns of prices in the proposal and/or contract.

It's generally believed that the less you detail your pricing, the better off you will be in the long run. The reasons for that are several: The more you tell people about the breakdown of prices, the more ammunition you give someone to use against you in the long run. Also, when too many unit prices are given at the time of a bid, the owner has an opportunity to go shopping.

The best contract and/or proposal is one that doesn't give too much detail on the breakdown of the price. It shows one price for the work, or it is broken down into phases such as landscape, irrigation, hardscape, or it is broken down into front yard and back yard work.

This type of breakdown gives the owner enough information to make their decision. However, you should have a general feel for what can be done to reduce the price and the amount of those reductions so that you are able to negotiate the final price when meeting with the owner.

Unit pricing arguments

My pricing approach often engenders argument from both contractors and owners who are used to or prefer unit prices. I respond by pointing out that no other contractors except landscape contractors supply this level of price breakdown.

No one buys a new house and is told how much the sinks, doors, drywall and front steps cost. They buy a house based on the price of that house and very little of the breakdown of that price is offered by the builder. When a car is purchased, no one asks how much the front fender, carburetor or back seat costs. They buy the car at the final negotiated price, period. Why should landscape contracts be any different?

Change order methods

It's a fact of life. No matter how well or clearly the plans are made, and no matter how much everyone agrees with that plan before work starts, changes will be made to those plans. The best way to deal with changes is to establish a method by which change orders will be handled.

Change order method 1. – One way is to stipulate that change orders will be priced before work is done and that no work will be done until this price is agreed upon by both parties. If this is done, a time limit for approval should be established so that the job is not shut down for an extended period of time while the price is being settled.

The downside of this approach is that owners can become very defensive about the price. Most owners don't trust contractors and the distrust grows when a negotiated price for a change order is being discussed.

Change order method 2. – Another method that can reduce this stressful problem is to write the prices to be used for change orders into the original contract. You can do this by identifying pricing that will apply to change orders such as:

A percentage to be added to the cost of materials.
An hourly figure for labor including the cost of the truck.
A price per hour for the use of equipment like Bobcats, trenchers, etc.
An amount to be added to changes in a subcontract.

When changes occur, the material, labor, equipment and subcontractor costs are kept track of and these agreed-upon percentages or prices are applied to the extra work. Often times the owner will want to know, and should be supplied, a rough price for the change order. However, along with that price, you should include a statement that the price is a rough estimate and the final billing will reflect the actual costs and time spent.

Beware the change order

Change orders are a risky part of the contracting business. At no time should you enter into a contract believing that if you lower your price on the original bid, you will make it up on the change orders. Owners and architects are very skeptical of change orders. Consequently, who is to say you will get a change order or will get it at the needed price?

Today, most lawsuits between contractors and owners revolve around change orders. Many times, contractors under-price change orders. Or, if they price them properly, the owner is unwilling to pay those change order costs.

Many change orders require the contractor to be aware of 2 things:

First, you need to be certain that you visualize all the costs involved in the change. Usually, changes cost more than the original work because they inhibit the natural flow of the work as it was originally planned.

Also, changes may require you to change other items that are not obviously connected to the change but that will cost you money. Before the price is given, you must really work out in your mind, the effect that the change will make to the job.
Second, you should never, repeat, never do a change order at an owner's request until you have a signed agreement that the owner acknowledges the change and the resulting difference in price. Many a contractor has lost money and never collected for change orders because this was not done.

Owners may give a verbal consent to the change and the price increase. But, when it comes time to pay the bill, they seem to have a convenient loss of memory about their approval. Paying for these kinds of change orders often becomes something that the owner feels is a negotiable item before making final payment.

Just as the contract details the work to be accomplished, a good change order should be very detailed about the changes to be made. These details should be accompanied by drawings or sketches of the change and those drawings or sketches should also be signed.

A good contract with change orders that are properly-signed and documented will give you a much better chance of making money and being paid upon the completion of a project.