By Daniel M. Eggleston, Esq. and S. Addison Day, Esq.
Lee/Shoemaker PLLC

Consequential damages can expose design professionals to “bet the company” claims. While reducing risk from direct damages–those that flow naturally from an error or omission–is often the primary focus for design professionals when negotiating agreements, prudent design professionals should also restrict the recovery of damages for the “ripple effects” of errors or omissions, otherwise known as consequential damages. If not limited, the wake of consequential damages can rock a design professional’s boat or, even worse, sink their ship.

What are Consequential Damages?

Unlike direct damages, consequential damages are damages which may, or may not, occur as a result of damage. To illustrate the difference between direct and consequential damages, the cost to correct a conflict between the civil sanitary line and the plumbing sanitary line connection is a direct damage and a natural outcome of the error, while the owner’s lost profit from the project as a result of the error is a consequential damage.  Other common examples of consequential damages include loss of financing, reputational harm, and business interruption losses.

As it relates to the design professional services, consequential damages claims often arise when an error or omission allegedly impacts the critical path of a project schedule. While the types of consequential damages that may be asserted against a design professional often depend on the type of project, as a general matter, consequential damages arise from the intervention of “special circumstances” not ordinarily predictable by the parties. Although standards vary by jurisdiction, courts in Virginia, Maryland, and the District of Columbia generally require proof that the special circumstances were reasonably foreseeable to the parties at the time of contracting to be recoverable.

Consequential damages are often described as “firm-killer” or “bet the company” damages, and for good reason. They are unpredictable, legally subjective, and potentially limitless. For example, the direct cost of correcting the hypothetical conflict described above may be less than $100,000; however, the consequential damages that might be claimed by an owner could exceed several million dollars. While a design professional may understand the scope of the project itself, delay costs and collateral losses that “ripple out” from a claim can escalate quickly.

While it may be difficult to prove that consequential damages were reasonably foreseeable and/or to prove the amount of those consequential damages, the cost of defending against such claims can be significant. Using the hypothetical conflict identified above, the presence of a claim for consequential damages likely requires that both parties engage a delay expert to determine the impact the issue had on the project schedule and an accounting expert to determine the impact the issue had on the owner’s profits. This, in turn, expands the scope of discovery required to be conducted by the parties’ lawyers and the number of issues requiring legal briefing to the court. In other words, a claim for consequential damages can drive the cost of a claim – and impede the parties’ ability to resolve a claim.

Strategies for Avoiding or Reducing Exposure to Consequential Damages

Reducing exposure to consequential damages begins with understanding the seriousness of the risk. When negotiating a contract, design professionals should carefully evaluate a project’s potential exposure to consequential damages and weigh this risk against the benefits of the engagement.

An effective way to reduce exposure to consequential damages is through a well-drafted waiver of consequential damages. A waiver should clearly define which categories of damages qualify as consequential damages, since, in many disputes, a heavily litigated issue is not whether a waiver exists, but whether the damages at issue fall within the waiver’s scope. The 2017 AIA documents used by design professionals today include a waiver of consequential damages provision; however, they do not expressly define which categories of damages are included in the waiver. By contrast, the AIA A201-2017 document used on many projects does expressly defines which categories of damages are included in the waiver. The prudent design professional should not rely on the standard waiver of consequential damages waiver included in the owner-architect documents promulgated by the AIA, but should work with counsel to define the specific categories of damages covered by the waiver.

An effective waiver should be mutual and balanced, providing both parties with greater predictability and reducing uncertainty in the event of a dispute. While professional liability insurance policies typically apply to consequential damages, the magnitude of the damages may exceed policy limits, or they may be significantly eroded by defense costs.

Conclusion

Consequential damages pose a substantial but, in many cases, avoidable risk for design professionals. Managing this risk requires an appreciation of what types of damages constitute consequential damages and careful contract drafting. When pursuing an opportunity, the prudent design professional will leverage the tools at their disposal to calm the waters and bring their risk profile within acceptable limits.

Daniel M. Eggleston and S. Addison Day are lawyers at Lee/Shoemaker PLLC, a law firm devoted to the representation of design professionals in DC, Maryland, and Virginia. The content of this article was prepared to educate related to potential risks but is not intended to be a substitute for professional legal advice.