LESSONS LEARNED FROM KENWOOD TOWNE PLACE

           The community wonders how so many contractors could get burned so badly on a project that seemed so promising. Kenwood Towne Place started as a high profile mixed use commercial development with retail space, an 8 story office tower, and a 2500 space public parking garage at one of the most prestigious real estate locations in the Mid-West.  The garage was partially funded by TIF bonds issued by the Cincinnati Port Authority and was dubbed an "economic development project."  What ensued was an economic disaster resulting in non-payment to dozens of contractors of over $40 million. Many of the contractors not paid were small minority contractors lured into the project by the Port Authority's Economic Inclusion Plan.

            Assumptions were made on the part of contractors that turned out not to be true.  The first false assumption, relating to the "public" parking garage, was that a public project would be backed by a payment bond. The Port Authority did not require the prime contractor Bear Creek Construction to post a payment bond and disclaimed any responsibility for the decision.  The Court dismissed claims against the Port for failing to require a payment bond. The Port appointed Kenwood Towne Place, LLC as its agent and Bear Creek Construction as its sub-agent to carry out the garage construction, yet the Court dismissed agency claims against the Port. The Port learned that change order costs were being incurred and the project was going over budget, but did not demand proof from the developer that it had funding to cover these additional costs.

            The lesson to be learned from this experience is to verify the existence of the payment bond on a public project.  This can be done by obtaining the Notice of Commencement for the project and preferably obtaining an actual copy of the bond.  Not only should the existence of the bond be verified, but also its amount and the name of the surety issuing the bond.  Sometimes bogus bonds are issued or the surety could be of questionable financial condition.  The second lesson is to hold public officials accountable.  The members of the Port Authority Board are appointed by Cincinnati and Hamilton County officials.  Those public officials should ensure that payment bonds are required to guarantee payment to contractors on public projects (of any type).  The reality is that if the Port Authority had demanded that Bear Creek Construction provide a payment bond, this tragedy never would have happened, since Bear Creek could not get a bond and the project never would have gotten off the ground.

            The project as a whole was highly leveraged and underfunded.  The developers put in minimal cash capitalization, then drew most of it out when funds became available from the TIF bonds. The project was more than $10 million over budget before the site and concrete work were complete, yet there was only a couple million contingency built into the entire project.  As millions more of increased costs piled up, representatives of Bear Creek and KTP gave numerous assurances to contractors that they would be paid.  The contractors believed it, and continued working. They continued working even though sums owed to individual contractors increased into the millions and became increasingly delinquent.  Why would contractors believe these assurances and continue working?

            Some believed these assurances because they had confidence in the Bear Creek Director of Construction who gave payment assurances.  They had become acquainted with him through his prior employment with a large, well-known, and reputable real estate development group.  Unfortunately, turns out he was a felon who had been convicted of making false statements in connection with a federally funded project.  Currently, he remains a subject of interest of a U.S. grand jury considering criminal charges in connection with Kenwood Towne Place.  Bear Creek / KTP's CFO has already been indicted.  Contractors also believed the assurances, because they thought such a high profile project in such a great location must have the necessary backing and funding.  Contractors also had confidence in the assurances, because they knew the developer group included a well-known, successful and wealthy business man, as well as a former Hamilton County Commissioner. Yet, at the end of the day, the money was not there.

            The lesson to be learned is to verify that sufficient project funding exists to pay for the work.  While contractors are not bankers or developers, there is much they can do to verify that funds are available to pay for their work.  The first step is to obtain written verification that a bank loan or other funding exists.  Verify the funding amount, and determine how much is budgeted for your work.  The KTP budget showed that sufficient funds were not budgeted to pay for multiple trades from the beginning.  Not only do contractors know the amount of their contracts, but also, they probably know the approximate percentage amount of the total project budget that should be allocated for certain line items / scopes of work.  If major trade contractors had the opportunity to review the KTP budget, they would have seen irregularities that would have sent off alarms.

            Provisions can be included in the construction contract that entitle the contractor or subcontractor to obtain verification of project funding.  ConsensusDOCs 200, Article 4.2 contains such a provision.  A customized contract provision can specify exactly who the contractor or subcontractor is entitled to communicate with to verify funding (e.g. the lender bank) and what information the contractor is entitled to obtain.  By statute in Ohio, contractors and subcontractors are entitled to send notice to the lender that they are working on the project and have lien rights.  A copy of the Notice of Furnishing can routinely be sent to the lender.  Some may feel this approach is impracticable, since it will alienate customers by being perceived as interference in their financial relations.  While there may be some truth to this, a contractor is better off running the risk of offending someone than betting the farm on a ship that is under water.

            The old adage of "show me the money" is as true as ever.  At the front end of the project, "show me where the money is coming from and how much there is."  As the project proceeds, do not let progress payments become unreasonably delinquent based on assurances that may be false.  Verify that funding is still sufficient and available to keep cash flow coming.  It is the lifeblood of any company. 

            There are lessons relating to contract rights and their enforcement.  While having favorable contract terms is important, a good contract will not save a contractor or subcontractor from a Kenwood style debacle.  The construction contracts were with Bear Creek Construction, an insolvent entity.  Claims have been made that Bear Creek Construction and Kenwood Towne Place, LLC are alter egos of each other, but KTP is also insolvent.  Nor could subcontractors rely on mechanic's liens for recovery.  The Court determined that on the main parcel of property, the bank had a mortgage that  had priority over the mechanic's liens.  Some lien claimant's appealed this decision, and parts of the appeal are still pending.

             Recovery in the case requires resorting to other more extreme remedies such as those scheduled for a jury trial commencing January 7, 2013 when the subcontractor group represented by the author will pursue multiple claims against Bear Creek, Kenwood Towne Place, and several individuals affiliated with these parties.  The lesson is that although litigation is not a desirable way to collect a receivable and seldom results in the creditor being made whole (especially when fees and expenses of litigation are factored in), in the Kenwood litigation, only through the cooperative effort of 15 subcontractors working together and sharing expenses have they been able to prosecute their claims this far.

            The final lesson is trust your instincts.  Experienced contractors get a gut feeling when something does not seem right.  If it doesn't feel right, it probably isn't.