California Court of Appeals Says, “We Like Eich(leay)!”

Time is money.

And nowhere can than be best observed than on a construction project.

Project delays can mean lost profits for owners, liquidated damages for general contractors, and increased material, labor, field overhead, and home office overhead costs for general contractors and subcontractors alike.

Pricing the impact of delays, however, can be thorny. Particularly, for home office overhead.

Think about it.

Your construction company incurs certain costs to support the work that it does such as lease and mortgage payments for your corporate office, non-project-specific insurance costs, telephone, office equipment, and utility costs, and salaries for home office staff, which are not directly chargeable to a specific project. Typically, these “home office overhead” costs are apportioned among your company’s projects.

But what happens if there’s a delay on a project?

Your home office staff, who will still demand a paycheck, will sit idle (at least in theory) during the delay, your telephone, office equipment and utility usage for the project will be spread over a longer period of time, the proportionate share of risk to your non-project specific insurance costs will increase, and the lease and mortgage payments you are incurring for your corporate office will be indirectly used to finance close out of the project.

But how do you price those costs?

The Eichleay Formula

Enter the Eichleay formula. First utilized in 1960 in a case before the Armed Services Board of Contract Appeals, Eichleay Corporation, ASBCA No. 5183, 60-2 BCA 2688 (1960), the Eichleay formula is a method of apportioning home office overhead costs to a project that has been delayed or extended. For those of you who are math inclined (I’m talking to you, engineers) the Eichleay formula is as follows:

Step 1 – Calculate Overhead Allocable to Delayed Contract

Multiply the ratio of company billings from the delayed contract to the total billings of the company during the contract period times the total overhead costs incurred by the company during the contract period:

(Total company billings from delayed contract/Total company billings) x Total overhead of company = Overhead allocable to delayed contract

Step 2 – Calculate Daily Contract Overhead Rate

Divide the overhead allocable to the delayed contract by the contract period:

Overhead allocable to delayed contract/contract period (including delay) = Daily contract overhead rate

Step 3 – Calculate Unabsorbed Home Office Overhead

Multiply the daily contract overhead rate times the number of days of delay:

Daily overhead rate x Number of days of delay = Damages for unabsorbed home office overhead

While the Eichleay formula is not without its critics, for federal litigation involving delay claims on public works projects, as one Federal Circuit Court has held, “the Eichleay formula is the only means for calculating recovery for unabsorbed home office overhead” (emphasis in original). However, in California, while trial courts and “unpublished” Appellate Court decisions have cited and utilized the Eichleay formula, no “published” Appellate Court decision has yet approved of the use of the Eichleay formula. That is, until now.

The JMR Construction Case

JMR Construction Corporation v. Environmental Assessment and Remediation Management, Inc., California Court of Appeals for the Sixth District, Case No. H039055 (December 30, 2015), involved a federal public works project located in Monterey, California. Specifically, the project involved the construction of a dental clinic at the Presidio of Monterey.

The project owner, the U.S. Army Corps of Engineers (“Corps”), hired general contractor, JMR Construction Corporation (“JMR”), who in turn hired various subcontractors, including Environmental Assessment and Remediation Management, Inc. (“EAR”). EAR was an electrical and plumbing subcontractor.

At trial, JMR contended that EAR was responsible for 142 days of delay on the project as a result of:

• EAR’s failure to deliver an air compressor approved by the Corps;
• Problems with an undersized water heater, mixing valves controlling hot and cold water, and improper operation of the fire and alarm and life safety system installed by EAR;
• EAR’s delayed installation of gas lines, timely procurement of lobby wall sconces, deficient submittals, and lack of adequate supervision and manpower.

In addition to field overhead delay damages, JMR sought home office overhead damages utilizing the Eichleay formula. Following trial the trial court later awarded JMR damages of $315,631, of which, $60,693 was for unabsorbed home office overhead. EAR appealed.

On appeal, EAR argued that the trial court erred in awarding damages based on the Eichleay formula because: (1) no “published” California Appellate Court decision had approved the use of the Eichleay formula to calculate alleged unabsorbed home office overhead damages; and (2) while there was legal authority for using the Eichleay formula for government-caused delay, there was no legal authority for using the Eichleay formula for alleged subcontractor-caused delay, as was the case here.

While acknowledging that “there are no reported California appellate decisions approving the use of the Eichleay formula,” held the Court of Appeals, “[w]e do not infer from the absence of California authority that the Eichleay formula is unavailable as proof of delay damages in this state” (emphasis in original). Likewise, held the Court, “[t]hat the circumstances of this case are different from those in which Eichleay damages are typically discussed in reported decisions – i.e., the general contractor seeking delay damages from a subcontractor, rather than from a governmental agency/owner – does not preclude use of the formula” (emphasis in original”).

Conclusion

So there you have it. The first “published” California Court of Appeals decision approving use of the Eichleay formula. But as with all “firsts,” there are a number of open questions:

1. While brought in California state court, JMR still involved a “federal” public works project, so left to be seen is whether other courts will expand JMR to apply to state and local public works projects and even private projects.
2. As acknowledged by the Court of Appeals, the Eichleay formula was applied in a non-traditional manner, by a general contractor against a subcontractor, rather than the more traditional claim by a general contractor against the federal government. Yet to be seen is how flexible other California courts will apply the Eichleay formula – to claims by subcontractors against general contractors, claims by subcontractors against other subcontractors, etc.?