Advice for DOT on Unprecedented Material Cost Increases and Shortages

AGC of America reports that the Federal Highway Administration (FHWA) issued guidance to all of its state Division Administrators on recommended steps for helping state DOTs deal with the unprecedented increase in the cost of various construction materials and availability of other products. The entire guidance is reproduced below to assist you in dealing with your state DOT on federally-assisted contracts.

(From FHWA)
To all Division Administrators:

We have received a number of inquiries regarding issues associated with the recent unprecedented price increases for various construction materials including asphalt cement polymer-modified asphalt cement and steel. In addition to the price increases we understand that there may be localized shortages of polymer modified asphalt cement in various regions of the US.

Please consider the following information in working with your State DOT in addressing these price / potential supply shortage issues.

Polymer Modified Asphalt Cement / Asphalt Cement Supply Issues:

There are several issues that are causing the current shortage in certain polymer additives:

• Styrene-butadiene-styrene (SBS) polymers are currently in a tight global supply due to unplanned cracker outages and raw material allocations of Butadiene. There have been reports of spot shortages of both SBS polymer-modified asphalt and SBS polymer emulsions. We are not currently aware of reported shortages of SBR latex modifiers but SBR is a butadiene-based product.
• Global demand has gone up dramatically for SBS polymers and asphalt cement. In particular the demand for raw materials is especially high in China and India
• With the significant rise in the cost of crude oil many refiners have switched to lighter crude sources to produce more diesel and fuel oil products which have a better cost yield. This has caused a shortage of the base stock to produce C4 which is the basis for butadiene in SBS.
• Due to the high costs winter stockpiling of binder is down.
• There have been some short term problems at a Shell Chemical cat cracker that makes C4 for Butadiene.
• Industry sources say that either naphtha or propane can be used as a feedstock for ethylene production. With the current market rates propane has been the favored feedstock; however it produces about 40% less butadiene than naphtha. As long as the price differential remains in favor of propane SBS shortages may remain
• Given the significant global demand for certain polymers some industry sources indicate that SBS suppliers placed their customers on allocation leading to spot shortages in the market. Some believe that the availability of SBS will ease beginning in September / October 2008.
• We are aware of at least one state which has experienced shortages of PG76-22 binder. This State DOT is considering a switch to PG64-22 for new projects and issuing change orders for certain awarded contracts where the contractor is not able to obtain PG76-22. (Note: FHWA recommends that care needs to be taken in reducing the binder grade. In some cases a higher grade of binder was used as an insurance when the price/availability of modified binder was not an issue. However there are some cases where the modified binder is called for due to traffic and temperature conditions. We should not arbitrarily reduce the binder in those conditions. There are other polymers which can be used to modify asphalt. These include ethylene ter-polymer (generic name for the brand name Elvaloy) EVA and crumb rubber. These other products should be evaluated before a blanket reduction of binder grade to non-polymer is considered.)

To date supplies of asphalt cement have been more reliable than polymer modified asphalt cement but some industry sources believe that spot shortages may develop later this year.

Other Related Supply Issues
The July 24 2008 edition of the Wall Street Journal indicated that SemGroup LP a major supplier of asphalt cement and modified asphalt cement filed for Chapter 11 bankruptcy protection after citing financial losses of at least $2.4 billion in the crude-oil futures market. SEM Materials July 21 2008 letter notifies its customers that it may not be able to meet its commitments and apologizes for problems associated with their plans to allocate remaining inventories. SEM Materials is not a producer of asphalt but does process it to produce emulsions and polymer modified asphalt. The financial status of SEMGroup should not affect the overall asphalt binder availability.

Fabricated Structural Steel and Reinforcing Steel
To date the rise in steel prices has outpaced even the sharp increase of early 2004. Issues related to the increased steel prices include:

• Continued strong global demand for steel products
• Increased global demand for scrap material ; US exports of scrap have tripled since 2000
• Rebar and steel fabricators may have difficulty providing fixed cost bids especially for longer-term contracts and
• The US Defense Departments Defense Priority Allocation System may induce temporary market allocation constraints as steel order priorities are shifted to meet the Defense Departments needs.

Contracting Considerations for Existing and Future Contracts
On a case-by-case basis FHWA Division Offices should work with their State DOTs to determine if a reported material shortage is related to a circumstance that is beyond the control of the contractor and if there is a basis for a time extension in accordance with the contract requirements. In documenting these situations the contracting agency should verify that:

• The contractor had a written commitment to supply the specified asphalt cement or emulsion in a manner that corresponds to the contract time
• Written statements are available from the original supplier that they are no longer capable of supplying the specified grade and quantity required to meet the contract time and
• Documentation indicates that the contractor is unable to supply material from all practical sources.

In such cases the contracting agency may consider:

• Non-compensable time extensions or other contract extensions to postpone non-critical paving work until such time that the material is no longer in short supply
• Switching binder types to a material that meets design criteria and is readily available (see the above cautionary note). Consideration should be given to equitable adjustments to compensate the contracting agency for differences in binder performance.
• As a last resort contact termination and deferral of the work to another year.
• Some states are considering alternate pavement type bidding as a method to generate additional competition. While FHWAs non-regulatory policy is based on an engineering and economic analysis for the pavement type selection process we recognize that there may be situations where this analysis does not show a clear cut choice between two or more alternatives having equivalent designs. Our SEP-14 evaluation program is available for states that want to evaluate the use of a life-cycle-cost adjustment factor in determining the successful bidder.

Price Adjustment Clauses
The FHWA encourages the appropriate use of price adjustment clauses on future contracts. Current issues regarding price adjustment clauses follow:

• The AASHTO Subcommittee on Constructions Fall 2007 Survey summarizes the use of contract price adjustment clauses being used by the states for asphalt cement fuel steel and portland cement (http://www.fhwa.dot.gov/programadmin/contracts/2007aashto.cfm).
• FHWA will not participate in retroactive adjustments on contracts that were awarded without adjustment clauses. Based on a legal opinion during the 2004 steel escalation period we have no legal basis for participating in such costs.
• The December 10 1980 Technical Advisory titled: Development and Use of Price Adjustment Contract Provisions is still a good reference: (http://www.fhwa.dot.gov/programadmin/contracts/ta50803.cfm).
• Some states are using opt-in clauses that provide the successful bidder with the option of using a price adjustment clause at /or before contract execution. Since all bidders have the same option this is consistent with competitive bidding principles.
• Adjustments clauses should use an index which reflects highway material price increases but is not susceptible to manipulation. Invoice-based adjustments are not appropriate as documentation may be problematic and there is little basis for competition in the selection of material sources.
• With the sharp increase in price for certain materials contracting agencies should consider the need to use short term indices in determining their payment formulas. New Mexico DOT is considering changing its monthly payment index to include an average of the reported weekly selling prices as published by Poten and Partners Inc.