President Trump is back in the Oval Office, and it’s likely he will put the full weight of the federal government behind plans to place heavy tariffs on foreign goods. The arguments around politics and whether it represents sound economic policy continue. However, the metal building industry will likely deal with the undeniable impact of the tariffs through higher and more volatile steel prices in the short run, regardless of all opinions otherwise.
This necessitates developing strategies to deal with those higher prices. Some of the simpler approaches for defraying increased material prices–for example, stockpiling–won’t be options for cost-related reasons. Other solutions, such as significant
mark-ups in anticipation of potential increases in steel costs, might make you less competitive on price. One “contingency” strategy to help manage the problem would include a cost escalation clause in the contract.
Cost escalation clauses work exactly as described. The contract contains language that triggers a price increase if certain conditions occur. The customer is then financially responsible for all or a portion of the increased cost, lowering the tariff’s impact on the manufacturer, erector, or contractor.
There are several benefits to cost escalation clauses. Solutions can be more creative because they are discussed before the problem constrains some strategies. The bidding party can also quote a number based on current market conditions without fretting about subsequent increases consuming its profit. Lastly, these clauses can allow parties to shift or share costs. An example may help demonstrate this point. If a contractor or erector agrees to purchase and erect a metal building with a project cost of $1 million at the time of bid, the price is determined using a specific cost for the steel. Knowing the projected profit margin for the project is 5 percent, the contractor includes a price escalation clause in the agreement, allowing for a proportional increase in the contract price if a cost increase reaches 2.5 percent of the overall project cost due to a tariff.
The contractor gets to bid on the project using current competitive market rates. The customer is alerted in advance (assuming they read the contract) that there is a possibility of a significant cost increase because of swings in steel prices. This prevents surprises impacting everything from financing to alternates and change orders. By willingly sharing the increase in cost, trust is ultimately built, and no one “loses their shirt.”
A word of caution: proper wording in price escalation clauses can be tricky. Companies should consult with legal counsel to properly wordsmith before including them in contracts. Many of the challenges center on how the original deal is structured. The wording and how the escalation will be triggered and accounted for differ between a lump sum contract and a guaranteed maximum price contract. Labeling the triggering event and describing how the cost increase will be calculated can also present challenges. Among other things, notice requirements and proper documentation are also necessary, and in an environment where the price swings are exceptionally dramatic, a multi-level approach may be required.
Ultimately, this tool can mitigate—note it doesn’t say solve—potential challenges caused by steel tariffs. But manufacturers, contractors, and erectors informed on current affairs will be best positioned to use it. It’s not a one-size-fits-all solution, so be prepared to adjust from project to project based on current market conditions when choosing this tool.
Josh Quinter is a commercial litigation attorney with a focus on construction law. He is also a member of the board of directors and a department chair at his law firm, Offit Kurman. Active in several construction trade and business organizations, Quinter is past president of the Mid-Atlantic Chapter of the Metal Building Contractors & Erectors Association (MBCEA), serves on the MBCEA national board, and is the organization’s general counsel. He can be reached at jquinter@offitkurman.com.
