Roy developed a boutique project - a small building, a few units, his audience Israelis looking for a beach apartment. He did everything “right” in his own eyes: he closed a fixed price with the buyers, so that they could plan without surprises. And he closed a lump-sum contract with the contractor, an all-inclusive closed price for the entire project, regardless of quantity of material or hours of work. Both sides knew exactly what they were paying and being paid. It sounded responsible. It sounded orderly.
Roy came to me on a recommendation. Another developer, who had worked with me on a previous project, told him: “Call Ilan, he'll be able to tell you what your legal situation is.” Roy had not been my client before. His agreements, both with the buyers and with the contractor, he drafted and signed without my seeing them, without my accompanying the deal. He came to me only when the problem was already on the table.
“Ilan, the contractor says he's leaving the site if I don't pay an increase. And I can't roll it over to the buyers. I'm stuck.”
I knew the tone. It's not the tone of someone complaining. It's the tone of someone who has already done the math, and discovered it doesn't add up.
The problem started in a place Roy hadn't thought to look: there was no link between the two contracts.
The contractor agreement was lump-sum, true. But “lump-sum” doesn't mean immune. When prices of steel, concrete and aluminum climbed steeply, not 3%, not 5%, but a rise that turned the original offer into a losing one, the contractor simply announced: “I'm not continuing on these terms.” Not a ploy. Not an empty threat. Contractors who hold a site in the middle of a project, and see they are losing money on every cubic meter of concrete they pour, reach a point where they simply leave. Then the project stops, and that costs the developer far more than the increase they asked for.
Roy understood he had to pay. The question was, from where.
Because on the other side, facing the buyers, the price was also closed. Roy couldn't turn to them and say “the price is rising, because the contractor has new costs.” It wasn't written in the contract. They paid a fixed price, and that was the agreement.
This is the point I explain to developers again and again, and it doesn't matter which country they build in: in most cases, even where an official construction input index exists, it is not customary to link the price to it toward the final buyer. The buyer buys at a closed price, and that is exactly what makes him a good customer - he knows what he is paying. But it means that the entire risk of raw material price increases stays with the developer. Not part of it. All of it.
And when the contractor agreement is also not built correctly, without an agreed adjustment mechanism, without a clear ceiling for what counts as an “extraordinary change” justifying an increase, the developer is left with no layer of protection on either side at once. He buys at a closed price on one side, and sells at a closed price on the other, and in the middle sits the most volatile economic risk in the construction industry.
I sat with Roy over the two contracts. In the contractor agreement there was not even a clause that defines what an “extraordinary increase” is that justifies a renegotiation, there was only a “total price” with not a word on what happens if the market changes. It isn't a bad contract from a legal standpoint. It's a contract that didn't think about this scenario at all.
The negotiation with the contractor was hard, but not impossible. Roy finally paid an increase, part of what the contractor demanded, not all. He paid it out of his own pocket, out of the project's profitability, because he had no other way. The project continued. But the margin he had at the start of the road disappeared.
A point I want to make clear, because developers who also work in Israel tend to confuse the markets: in Israel, unlike what happened to Roy in his contractor agreement, the Sale (Apartments) Law limits and regulates linkage to the construction input index; the entire consideration cannot be linked, and part of it is exempt from linkage altogether. It is a built-in mechanism that divides the risk between the parties, and does not leave all of it on one. In some of the markets where Israeli developers operate abroad, a parallel mechanism simply doesn't exist, or is not customarily applied, and that changes the project's risk balance from end to end.
If you are developers building abroad: before you close a fixed price with the buyers, check what happens in your contractor agreement if the price of a raw material rises significantly. You need a mechanism that speaks between the two contracts, not necessarily full linkage, but at least an orderly definition of what counts as an extraordinary change, and who absorbs it. Without that, you don't know how exposed you are - until someone calls you and says he's leaving the site.
Stories are based on real situations, with identifying details changed. Not legal advice.
Translated from the Hebrew original. עברית