Before you kick the can, have the proper footwear
Recently, Chinese authorities convicted six men of intentional homicide in connection with a scheme to kill a real estate developer. Why six men? Five of the six were subcontracted as hitmen to do the job. Individual #1 put out the initial hit for an estimated $280,000. Individual #2 agreed, but then subcontracted the hit out to Individual #3 for an estimated $140,000. Individual #3 subsequently sought out Individual #4 with a payment of $70,000. And on and on, until Individual #6 (very much on a steep discount) decided to inform the target about the intended crime.
What is it worth to you?
Putting aside the comedy value, the one truth to be stated here is “you get what you pay for”. The assumption is that each person in the chain was “worth” the payment they were promised to do the job; not that the job “cost” a specific amount. The difference between “worth” and “cost” is “profit”. At a basic level, subcontracting is paying someone else to do something you either: a) can do but choose not to do; or b) cannot do but have convinced someone interested that you can get done. In either case, the goal is to make a profit while “doing” as little as possible. Without proper protection, the contractor is at the mercy of the person subcontracted to. If the subcontractor is reputable, competent and reliable, subcontracting may be a more efficient use of resources-i.e., higher profit. If the subcontractor is none of those things, subcontracting may be inconvenient at best, or a legal and economic headache at worst.
Any subcontractor relationship involves two contracts – one contract that details the work to be done, and an ‘other’ contract that states who will do the work. A contract can be a simple writing or verbal agreement, or it can be a multi-page legal document.
To manage their risks, businesses routinely use written agreements to transfer the risk of loss to the person who does the actual work. This is done via specific language known as an indemnity or indemnification clause, with which all sub-vendors should be familiar. This language protects the contractor in the event someone the contractor did not anticipate performs acts (or fails to perform acts which they are contractually obligated to perform) which result in loss.
A simplified indemnity clause may state: ABC, LLC (subcontractor) shall be solely responsible for the supervision, performance, and successful completion of any Work requested by XYZ, LLC (contractor) under the terms of this agreement. ABC agrees to reimburse, indemnify, and hold harmless XYZ from any and all claims, damages, liability, and loss arising from ABC’s failure to perform any Work contemplated by this agreement in a timely, professional, and workmanlike manner.
What does this mean?
XYZ wants to protect itself from loss related to work that might be done by known persons or unknown future persons. The clause above seeks to require ABC pay/reimburse XYZ any amounts deemed necessary should loss result, regardless of who was responsible. This may include amounts paid to XYZ’s (expensive) lawyers to enforce the contract terms, as well as amounts paid by XYZ to locate and pay necessary individuals to complete the original work. Should you consider similar protection when you subcontract out, especially if you are already a sub? Yes!
When a sub-vendor subcontracts a work order, that ‘other’ contract determines whether the risk of loss has been transferred to the ‘doer’. It is an excellent business practice to always make sure this is done is in writing; an oral contract is highly unlikely to accomplish this. If your contract with a sub does not transfer this risk, payment responsibility for any loss will likely fall to you.
Poor or incomplete work performed for you by your sub can result in significant out-of-pocket costs to you. Can this situation be avoided? Not always, but there are ways to protect yourself.
What can I do?
Avoid oral contracts–put it in writing – Use a standard, written subcontractor agreement which clearly states:
- the scope and timing of the job to be performed (including any required qualitative measures for completeness);
- the compensation for the job to be performed;
- the responsibilities of both contractual parties related to job performance; and
- the legal consequences to be borne by the subcontractor should any loss result from the subcontractor’s performance (or non-performance) – damages, indemnification, or other “risk transfer” terms
This standard agreement should be drafted and/or reviewed by an attorney competent in drafting service contracts. If you contract through an oral agreement you are not transferring the risk.
Limit the ability of subcontractors to further subcontract – A good risk management technique (if permissible in your state) is to include terms in your standard written agreement that limit the ability of the subcontractor to subcontract to other parties. If your subcontractor can subcontract, and they in turn can further subcontract, completely unknown individuals may expose you to unforeseen risks. When that happens, you have no real way to vet, account for, or manage those risks effectively – all while you remain economically responsible for the quality of the work.
Know who you are subcontracting to – Service providers who are inexpensive but not competent or reputable – those that do not follow work orders, or do not follow MFS company procedures and guidelines when completing a work order – may leave you holding the bag. Based on what that subcontractor does or fails to do, the cost to you could be significant. Alternatively, a competent, reputable service provider may charge more, but the additional cost makes sense long-term. Paying a little extra is worth it because better, more reliable service now typically means fewer service failure headaches later. When a service failure occurs, you often have little control over how much of a headache it is, especially if your sub does not have the proper insurance policy or coverage.
To avoid this situation:
- Look for subcontractors who are licensed and bonded
- Look for subcontractors who have error and omissions (E&O) insurance, as opposed to a general liability policy which may not cover their MFS work
- Conduct a background check using an industry standard program (Aspen or similar service)
- Ask specific questions about their relevant business experience, and compliance with laws, codes and/or professional standards
- Ask for details on how specifically they intend to complete the job
- If possible – avoid classifieds such as Craigslist
- Ask yourself – would I let this person work in my home/apartment?
- Ask colleagues you trust to recommend a subcontractor they work with and trust
- Cross-check any questions you ask the subcontractor to see if the answers are consistent
- Check to see if your subcontractor has an online presence – it may reveal information that can shed light on the level of service you can expect to receive.
The key takeaway is to understand with whom you enter a legally enforceable contractual relationship, and to make sure that individual or business bears the risk associated with their performance. By effectively documenting the relationship and using sound business practices, potentially costly problems can be prevented. No single risk management technique can fully guarantee you will dodge every problem out there. However, a thorough use of investigation, diligence, and careful documentation can go a long way toward helping you avoid a significant loss caused by someone else’s failure.
Courtesy of The Hanover Insurance Group
Brunswick Companies is an independent insurance agency representing only A Rated carriers. We value our carriers’ investments in research and proudly share their market insights. This article reprinted with permission from The Hanover Insurance Group.
This material is provided for informational purposes only and does not provide any coverage or guarantee loss prevention. The Hanover Insurance Company and its affiliates and subsidiaries (“The Hanover”) specifically disclaim any warranty or representation that acceptance of any recommendations contained herein will make any premises, or operation safe or in compliance with any law or regulation. By providing this information to you, The Hanover does not assume (and specifically disclaims) any duty, undertaking or responsibility to you. The decision to accept or implement any recommendation(s) or advice contained in this material must be made by you.
LC 2020-062 (02/2020)