Thursday, February 11, 2016

Substantial Completion

In some contracting you have the concept of substantial completion and final completion. While it is mainly used in construction, its application could be used in other areas. Substantial completion is usually defined as the work being completed with the exception of a small punch list or snag list of work still remaining to be completed or corrected. Final completion is when all that work is complete per the terms of the agreement.

Several things may be tied to substantial completion. The first is any monies that have been retained against performance may have the amount reduced once substantial completion occurs. You may still retain some funds until there is final completion as protection to ensure the work is completed. Why would you want to structure it where a certain percentage of the retainage is released before final completion? The simple fact is retainage is holding the supplier or contractors cash. Any time you hold their cash, that costs them money in terms of either opportunity cost or their cost of borrowing that amount to finance there operations in the interim. The longer you hold their money the more of a contingency they will build into their price to cover that cost. If you can be adequately protected with the reduced amount of retainage, that should save you money. Holding onto more than you need doesn’t increase your protection, it only increases your potential price you will pay.

A second action that may be tied to substantial completion is when the control over the site changes from the contractor to the owner. Owner controlled work that is required to “fit up” the premises for its intended use may be delayed until after substantial completion for a number of reasons. The first is to avoid potential conflicts between the contractor and their subcontractor’s work on the project and the work of the owner or companies contracted by the owner to perform work on their behalf. Another reason could be to avoid labor issues. For example, when the contractor has control over the site, personnel working on the site could be restricted to only Union laborers. Once the Owner has control over the site they can allow any type of laborers to work on the site.

A third action may be to start commencement of warranties on all the work that is determined to be “substantially complete”. There could be lengthy requirements for commissioning of equipment included in the work so its clear that everything is operating as specified under full load. The warranties on that work could either be excluded from the warranty commencing on completion of substantial performance, or you could have their warranty start separately when the commissioning is accepted.

The amount of retainage you hold during the period from substantial completion until final completion is a business call. I would always recommend that you retain more than the value of the punch as incentive for the contractor to finish the work. If you reduced it to the value of the punch list the contractor could make the decision to simply walk away from the work. While you would have the retained monies to help pay for that, it becomes added work for you and is likely to take longer and cost more to have someone else do it.