January 1, 2013

Constructing a clear contract

Take care in negotiating indemnification and insurance provisions in a contract.


A recent decision of the Ontario Court of Appeal touches on a number of issues relating to the insurance and indemnification/hold harmless provisions that typically show up in construction and maintenance contracts. A review of the case might help contractors, subcontractors, and designers understand that the wording and impact of these clauses are important and need to be considered in assessing the risks undertaken in entering into any type of construction or maintenance contract.

In Papapetrou v. 1054422 Ontario Limited, [2012] ONCA 506 (CanLII), a contractor was retained to perform winter maintenance services. A woman who slipped and fell sued both the contractor and the owner of the property. In doing so, she made allegations that the owner had independently failed in its duty to properly maintain the premises, beyond what the contractor had been hired to do.

The contract included an insurance provision that required the contractor to have the owner named as an additional insured. The contractor, however, failed to arrange for that coverage. The contract also had an indemnification/hold harmless clause, which provided, in part, that the contractor would indemnify and save harmless the owner against claims “based upon, incidental to, or arising out of the performance or non-performance of the contract by the Contractor.”

Relying on the contractor’s breach of its obligation to provide insurance coverage, and on the contractor’s obligations under the indemnification clause, the owner moved before the Court for: a) an order that the contractor provide the owner with a defence of the slip and fall claim, at the contractor’s expense and with the contractor’s lawyer; and, b) an order that the contractor fully indemnify the owner from any award of damages made against the owner, following the trial.

The motions judge granted the requests but the Ontario Court of Appeal overturned the decision in several respects. First, the Appeals Court determined there was no basis, under the contract or in law, for requiring the contractor to defend the owner in the action, at its own cost and with its own lawyer. Rather, the Court held that the contractor’s failure to have the owner named as an additional insured was a breach of contract, and that the owner’s remedy was in damages for breach of contract. Accordingly, the Court held that the owner would have to hire its own lawyer, defend its own claim and then recover the cost of doing so from the contractor. The Court did make it clear that the contractor would only be responsible to reimburse the owner for its costs of defending those portions of the claim that the contractor’s insurance company would have covered, had the owner been named as an additional insured.

The Ontario Court of Appeal also held that it was premature for the motions judge to order the contractor to indemnify the owner from and against any award of damages made against the owner. The Court noted that the plaintiff’s allegations against the owner included those that had nothing to do with the contract and held that it would be premature to assume the contractor would have to indemnify the owner, by virtue of the indemnity clauses, for everything the owner might be liable for.

Do insurance homework
There are a number of lessons to be learned from this case. First, contractors should ensure that they meet the insurance requirements of the contracts they enter into. If they do not, they face significant exposure in the event something occurs that should have been, but was not, covered by the insurance. Having the contractual insurance requirements in place can be a lot cheaper than going it alone in the event a problem arises and there is no coverage. On the other hand, if you can’t obtain the insurance required, the requirements should be removed from the contract.

Second, the case illustrates how a slightly vague or ambiguous indemnification clause can lead to confusion and problems. In this circumstance, the motions judge was certain that the indemnity clause would cover all claims against the owner, even if the owner were solely at fault. Although the Court of Appeal corrected this, confusion (and legal fees) could have been avoided with a clearer clause. In my view, indemnity clauses should be limited to a clear statement that the contractor will indemnify against claims that arise due to the contractor’s negligence or breach of contract, unless the contractor agrees (preferably for a hefty fee) to become the owner’s insurer for claims the contractor is not responsible for.

Address issues during negotiations
Care accordingly needs to be taken in reviewing contractual insurance provisions and indemnity clauses at the negotiation stage of contract. In both cases, the requirements can be either vague and ambiguous or overreaching and oppressive. Consider the following example of a negotiation we were recently involved with. The proposed indemnification clause called for indemnification against “any claims which arise out of, directly or indirectly, any operations, work or activities in any way involving or connected to the agreement.”  This, of course, could conceivably include just about anything. The clause further took the unusual step of requiring the contractor to indemnify for all claims for “economic or consequential damage,” which are almost impossible to insure against. (Indemnifying for economic or consequential loss means that if the owner is sued for someone’s lost revenue with respect to something covered by the indemnity, the contractor would have to pay those claims.)

More troubling, the proposed clause expressly required the contractor to indemnify the owner against the owner’s own gross negligence or malice (even where the owner solely caused the damage) and gave the owner the right to appoint its own lawyer and decide when and if it should settle the claim — all on the contractor’s dime. Such requirements, of course, go well beyond what most contractors should reasonably be expected to be responsible for.

The insurance clauses in the proposed contract took a similar approach. They were based on standard form documents and included requirements that had nothing to do with the work in question and that the contractor could not possibly provide. In addition, and not surprisingly, the “additional insured” provisions expressly required the contractor to insure the owner for the owner’s sole or gross negligence.

In this case, we were able to negotiate indemnification provisions that were clear and made sense. We were also (in conjunction with the contractor’s insurance broker) able to negotiate reasonable insurance requirements, and ensure those requirements would be met by the contract. In the end, the owner was more than happy to amend the contract so it was clear and fair to both sides. In that regard, the negotiation was not at all unusual; owners are very often willing to do this. The lesson to be learned is this: If care isn’t taken to address these issues in the negotiation stage, the impact of being stuck with either bad or ambiguous indemnification clauses, or insurance requirements you can’t meet, can be severe.

One final note: If you enjoy this column, check out my blog at www.kennaley-construction-law.com where I hope to offer brief construction law-related articles and case summaries on a regular basis.  Recent articles include a case summary on residential litigation gone wrong, and the application of the Environmental Protection Act in the construction context. You can also find me on LinkedIn; feel free to e-mail a connect request.
Robert Kennaley has a background in construction and now practices construction law in Toronto and Simcoe, Ontario. He speaks and writes regularly on construction law issues. Rob can be reached for comment at 416-368-2522, at kennaley@mclauchlin.ca, or on LinkedIn. This material is for information purposes and is not intended to provide legal advice in relation to any particular fact situation. Readers who have concerns about any particular circumstance are encouraged to seek independent legal advice in that regard.