Category Archives: Government Contracting

FIVE ISSUES TO CONSIDER IN GOVERNMENT CONTRACTING (OR ANY CONTRACTING!)

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The appeal of Appeals of – Konecranes Nuclear Equipment & Services, LLC, ASBCA 62797, 2024 WL 2698011 (May 7, 2024) raises interesting, but important, issues that should be considered.  In this case, the government (in a supply contract) procured four portal cranes from the claimant.  After an initial test of one of the cranes failed, the government refused to accept delivery even after the issue was addressed by the claimant. The government did not accept the manner in which the claimant addressed the issue and would only accept cranes if the claimant employed “an unnecessary alternative solution [that] caused further delay and increased [claimant’s] costs.” On appeal, it was determined the government’s decision to delay delivery based on its demand for the alternative solution was not justified, i.e., constituted a breach of contract.  Below are five issues of consideration in government contracting, or, for that matter, any contracting.

Issue #1- Patently Ambiguous Specifications

The government argued that the specifications were patently ambiguous and because the claimant failed to inquire regarding the ambiguous specifications prior to performance, its interpretation of the ambiguous specifications should govern. The contractor countered that the specifications were unambiguous and it met the specifications.

“Contract interpretation begins with the language of the written agreement.” If unambiguous, the plain meaning of a contract controls. “A contract term is unambiguous if there is only one reasonable interpretation.” However, “[w]hen a contract is susceptible to more than one reasonable interpretation, it contains an ambiguity.” “‘To show an ambiguity it is not enough that the parties differ in their respective interpretations of a contract term,’ rather, both interpretations must be reasonable.”  To show a patent ambiguity, which we construe against the non-drafting party, the drafting party must show an ““obvious, gross, [or] glaring” ambiguity so substantial as to impose a “duty to inquire” before contract formation. 

Appeals of – Konecranes, supra (internal citations omitted).

Here, it was determined “there was no ambiguity, much less an obvious, gross, or sufficiently glaring ambiguity that would trigger [claimant’s] duty to inquire before contract formation.”  Id.

Issue #2 – Rejection of Work Based on Specifications

The government rejected the cranes for not complying with the specifications.

“When the Government rejects work as being not in compliance with its specifications, the Boards of Contract Appeals have held that the burden is upon the Government to demonstrate that fact.” We have explained this anomaly of the government bearing the burden for a contractor claim “as a variation of the implied warranty of specifications seen in impossibility and defective specifications cases and characterized it as the government ‘putting in issue the sufficiency of its own specifications.”’ In assessing these ““inspection and rejection cases,” we focus on whether the evidence demonstrates that a product fails “to meet contract requirements.”

Appeals of – Konecranes, supra (internal citations omitted).

Here, it was determined, “[r]egardless of which party bears the burden of proof, [claimant] proved by a preponderance of the evidence that the luffing drums [in the cranes] complied with the Contract’s specifications after changing the wire rope and should not have been found defective with the new rope.” Id.

Issue #3 – Delay

The claimant argued the government had no basis to reject delivery of a crane because it complied to the specifications after the claimant addressed the initial issue.  To this point, the claimant argued the government’s refusal to allow it to ship cranes unless it employed the unnecessary alternative solution resulted in delays.

“A contractor seeking to prove the government’s liability for a delay must establish the extent of the delay, the contractor’s harm resulting from the delay, and the causal link between the government’s wrongful acts and the delay.” As to causation, “a contractor has the burden of demonstrating that the specific delays were due to government-responsible causes, that the overall completion was delayed as a result, and that any government-cause[d] delays were not concurrent with delays within the contractor’s control.”

Appeals of – Konecranes, supra (internal citations omitted).

Here, it was determined the government’s refusal to accept delivery when the cranes met the specifications resulted in compensable delay.

Issue #4 – Implied Duty Not to Interfere

Yes, there is an implied duty of good faith and fair dealing that exists in government contracts:

In the absence of a contract provision allowing the government to unilaterally stop or delay a contractor’s performance, any government caused delay constitutes a breach of the government’s implied duty not to interfere with a contractor’s performance.The implied duty not to interfere derives from the implied duty of good faith and fair dealing, assuring that one party cannot destroy the other party’s reasonable expectations regarding the fruits of a contract. “An implied duty of good faith and fair dealing exists in government contracts and applies to the government just as it does to private parties.”

Any implied duty derives from the explicit terms of a government contract. Here, as we concluded above, the [government] unreasonably inspected [claimant’s] cranes pursuant to the inspection provisions of the Contract Terms and Conditions — Commercial Items clause and Contract’s specifications. The [government’s] unreasonable inspection and ensuing delays resulted in a breach of the implied duty not to interfere.

Appeals of – Konecranes, supra.

Issue # 5 – Christian Doctrine

This was a supply contract so it did not incorporate a provision that allowed the government to stop or suspend work where it was determined such provision did not need to be incorporated:

However, the Contract does not include a Stop-Work Order, Government Delay of Work, or Suspension of Work clause. Instead, because we cannot incorporate these clauses by operation of law in a commercial items contract, we find that the Navy breached its implied duty not to interfere by unreasonably inspecting the cranes. There can be no “constructive” suspension or stop-work order if there is no clause to base it on. It becomes a breach.

For our Board “to incorporate a clause into a contract under the Christian doctrine, it generally must find (1) that the clause is mandatory; and (2) that it expresses a significant or deeply ingrained strand of public procurement policy.” Here, the Suspension of Work, Government Delay of Work, and the Stop-Work Order clauses are not mandatory for commercial items contracts and, thus, we will not incorporate any of these clauses into the contract by operation of law.

In particular, the Contract does not incorporate a Suspension of Work, Government Delay of Work, or Stop-Work Order clause.  … Notably, the FAR implements the congressional requirement that commercial items contracts “shall, to the maximum extent practicable, include only those clauses” required by law or “consistent with customary commercial practice.” So, given the policy preference to limit the number of standard FAR contract clauses in a commercial items contract, we should not be surprised that there is no explicit suspension, delay, or stop-work provision to hang the parties’ “constructive” hat on.

Instead, we must assess whether any of these clauses is mandatory and must be incorporated by operation of law under the Christian doctrine. Only fixed-price construction or architect-engineer contracts, not commercial items contracts, require the Suspension of Work clause. The Government Delay of Work clause would permit similar suspension of work for a fixed-price supply contract. FAR However, the Government Delay of Work clause is “optional,” not required, for commercial supply contracts such as this one.

Appeals of – Konecranes, supra (internal citations omitted).

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.

WHEN A REQUEST FOR EQUITABLE ADJUSTMENT SHOULD BE TREATED AS A CLAIM UNDER THE CONTRACT DISPUTES ACT

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In federal contracting, contractors are sometimes torn about submitting a request for equitable adjustment (known as an “REA” under 48 C.F.R. 252.243-7002) or submitting a formal claim under the Contract Disputes Act (41 U.S.C. s. 7103), the latter requiring a final decision by the contracting officer and starts the clock with respect to interest and preserving rights.  It is also sometimes not easy for the contracting officer receiving an REA to determine whether the REA is actually a claim under the Contract Disputes Act requiring more immediate action. This recent take by the United States Court of Appeals for the Federal Circuit hits the nail on the head:

We recognize that contracting officers will sometimes face the difficult challenge of determining whether a request for equitable adjustment is also a claim. Contractors must choose between submitting a claim—which starts the interest clock but requires the contracting officer to issue a final decision within 60 days—and submitting a mere request for equitable adjustment—which does not start the interest clock but gives the contractor more time to negotiate a settlement and possibly avoid hefty legal fees.  The overlap between these two types of documents might create room for gamesmanship. For example, a contractor could submit a document that is a claim—starting the interest clock—but appears to be a mere request for equitable adjustment—causing the contracting officer to not issue a final decision within the 60-day deadline and allowing interest to accrue for months or years. But the government has tools to address this challenge: The contracting officer can communicate to the contractor that she is going to treat the document as a claim and issue a final decision within 60 days. Or the government can explicitly require the contractor to propose settlement terms and attempt to settle disputes before submitting a claim to the contracting officer for a final decision.

Zafer Construction Company v. U.S., 2022 WL 2793596, *5 (Fed.Cir. 2022).

Zafer Construction Company involved a design-build contractor on a federal project that submitted an REA for delays and changes caused by the government. Notably, both REAs and formal claims under the Contract Disputes Act (that are more than $100,000) require contractor certifications; however, the certification of a formal claim is a more robust certification than a certification of an REA.  In Zafer, the design-build contractor certified its claim with the more robust certification per the Contract Disputes Act (41 U.S.C. s. 7103).

After many years of the contractor trying to negotiate a resolution to its REA, it asked the government to convert the REA to a formal claim.  The contracting officer determined the formal claim was time-barred because much of it occurred more than six years before the contractor made its request to convert the REA into a claim.

The contractor sued the government in the Court of Federal Claims. Unfortunately, the Court of Federal Claims found that the claim was time-barred.  Even though the contractor submitted an REA, an REA is not a formal claim under the Contract Disputes Act.  The contractor appealed to the United States Court of Appeals for the Federal Circuit.

A claim in federal contracting is no different than a claim in private contracting: “a written demand or written assertion by one of the contracting parties seeking, as a matter of right, the payment of money in a sum certain, the adjustment or interpretation of contract terms, or other relief arising under or relating to this contract.” Zafer, supra, at *1 quoting 48 C.F.R. 42-233-1(c).

Under the Contract Disputes Act, claims of more than $100,000 must include a specific “good faith” certification. See 41 U.S.C. s. 7103.  Also, “a contractor must show that ‘what the contractor desires by its submissions is a final decision’ from the contracting officer determining whether the contractor is entitled to the claimed amount.” Zafer, supra, at *2 (citation omitted).  The contractor’s request for a final decision can be explicit or implicit.  Id.  In other words, no magic words necessarily need to be used and “a request for equitable adjustment can constitute a claim.”  Id.

The contractor argued its initial REA satisfied the requirements of a formal claim under the Contract Disputes Act because “the document at length discusses [contractor’s] request for money owed, showing that [contractor] intended for the contracting officer to make a decision regarding entitlement.”  Zafer, supra, at *2.  The government disagreed stating the contractor clearly intended to only negotiate its REA and not receive a final decision.

The United States Court of Appeals, however, found that the contractor’s subjective intent is of no moment.  “The determination focuses on whether, objectively, the document’s content and the context surrounding the document’s submission put the contracting officer on notice that the document is a claim requesting a final decision.” Zafer, supra, at *2.  Through this objective approach in reviewing the REA submission, the United States Court of Appeals held it implicitly requested a final decision and, therefore, satisfied the formal claim requirements under the Contract Disputes Act.

If you are a federal contractor, it is important to understand the difference between submitting an REA and submitting a formal claim to ensure your rights are preserved moving forward.

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.

 

SUBCONTRACTOR PASS-THROUGH CLAIMS AND THE CONTRACT DISPUTES ACT

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A prime contractor submitting a subcontractor’s pass-through claim MUST still comply with the certification requirements in the Contract Disputes Act.  And, the prime contractor cannot sponsor a pass-through claim unless it remains liable to the subcontractor for the claim, a doctrine known as the Severin doctrine based on the decision Severin v. U.S., 99 Ct.Cl. 435 (Ct.Cl. 1943).  These are important concepts for a prime contractor and subcontractor to understand and appreciate on federal projects.

 

Certification of Pass-Through Claims

 

For claims of more that $100,000  (including subcontractor pass-through claims) submitted to the federal government, the contractor must certify:

(A) the claim is made in good faith;

(B) the supporting data are accurate and complete to the best of the contractor’s knowledge and belief;

(C) the amount requested accurately reflects the contract adjustment for which the contractor believes the Federal Government is liable; and

(D) the certifier is authorized to certify the claim on behalf of the contractor.

40 U.S.C. s. 7103(b).

 

The certification of the claim is defective if it does not include these four elements (set forth in (A) through (D) above).

 

However, if the certification is defective, this can be cured prior to final judgment by a court or a final decision by a federal agency. See M.K. Ferguson Co. v. U.S., 2016 WL 1551650 (Fed.Cl. April 14, 2016).   On the other hand, a failure to certify (versus a defective certification) cannot be cured meaning the contractor has not submitted a proper claim under the Contract Disputes Act. Id.

 

Severin Doctrine

 

According to the Severin doctrine, “a prime contractor may not sponsor a pass-through claim unless it remains liable to its subcontractor on the underlying claim.” M.K. Ferguson, supra, at *13. If the federal government is relying on the Severin doctrine:

(1) the burden is on the government to prove that the prime contractor is no longer liable to its subcontractor on the pass-through claim; and

(2) the Severin doctrine generally requires an ‘iron-bound release or contract provision immunizing the prime contractor completely from any liability to the sub.

Id. at *14 quoting E.R. Mitchell Constr. Co. v. Danzig, 175 F.3d 1369, 1370-71 (Fed.Cir. 1999)

 

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.

 

 

FEDERAL GOVERNMENT TERMINATING FOR DEFAULT “SEPARABLE” CONTRACT

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If a contractor is terminated for default on a federal project (really, any project), the objective for the contractor is to convert that termination for default into a termination for convenience so that the contractor can get paid for work performed and associated profit on that work through the date of the termination. For more information on termination for defaults and convenience, check out this article and this article.

 

The Armed Service Board of Contract Appeals (ASBCA) decision, Nelson, Inc., ASBCA No. 57201, 2015 WL 959241 (ASBCA 2015), provides an example of the government terminating a prime contractor for default where the prime contractor argued the termination was improper.  The prime contract called for the construction of stone dikes at four sites along the Mississippi River.  Each site had separate pricing, separate notices to proceed, and separate performance periods and durations for the construction of the stone dikes. After the prime contractor had started to perform at two of the four sites, the government terminated the prime contractor for default based on the prime contractor’s failure to timely perform in accordance with the schedules for those sites. 

 

The prime contract included the F.A.R. 52.249.10 clause (set forth in full at the bottom of this posting) relating to termination for defaults.   Applicable here, F.A.R. 52.249-10(a) and (c) provide:

 

(a) If the Contractor refuses or fails to prosecute the work or any separable part, with the diligence that will insure its completion within the time specified in this contract including any extension, or fails to complete the work within this time, the Government may, by written notice to the Contractor, terminate the right to proceed with the work (or the separable part of the work) that has been delayed. In this event, the Government may take over the work and complete it by contract or otherwise, and may take possession of and use any materials, appliances, and plant on the work site necessary for completing the work. The Contractor and its sureties shall be liable for any damage to the Government resulting from the Contractor’s refusal or failure to complete the work within the specified time, whether or not the Contractor’s right to proceed with the work is terminated. This liability includes any increased costs incurred by the Government in completing the work.

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(c) If, after termination of the Contractor’s right to proceed, it is determined that the Contractor was not in default, or that the delay was excusable, the rights and obligations of the parties will be the same as if the termination had been issued for the convenience of the Government.

 

This case focused on the language “separable part” in F.A.R. 52.249-10(a) to determine whether the government properly terminated the prime contractor from ALL four of the sites along the Mississippi River when the termination focused on the prime contractor’s delay at only two of those sites. 

 
“The government has the burden of proving that the termination for default was justified.”  Nelson, Inc., supra, citing Libson Contractors, Inc. v. U.S., 828 F.2d 759, 764 (Fed. Cir. 1987).   When a contract is separable, or divisible, “and a contractor is delinquent only as to a separable part of the contract work, it is improper for the contracting officer to terminate for default the entire contract.”  Nelson, Inc., supra, citing Overhead Electric Co., ASBCA No. 25656, 1985 WL 16703 (1985). 

 

The ASBCA found that the four sites were separable because each site had separate performance periods, notices to proceed, and pricing.  The commencement of the prime contractor’s work at one of the sites was not dependent on or related to its completion of work at another site. (To support the divisibility of the work, the ASCBA stated: “Work at each of the locations did not involve sequential or incremental and interdependent progression of construction, e.g., of one building or levee at one contiguous site.” Nelson, Inc., supra.)   Therefore, the ASBCA found that terminating the prime contractor for default from all four of the sites was improper since the prime contractor’s work was separable (and the government based the termination on delay of two of the four separable sites).

 

Importantly, even when a prime contractor challenges a termination for default claiming it should be converted to a termination for convenience, the prime contractor needs to comply with the Contract Disputes Act.  In other words, the prime contractor needs to submit its termination for convenience costs / claim. For more information on this important issue, check out this article. 

 

 

F.A.R. 52.249-10 Default (Fixed-Price Construction)

(a) If the Contractor refuses or fails to prosecute the work or any separable part, with the diligence that will insure its completion within the time specified in this contract including any extension, or fails to complete the work within this time, the Government may, by written notice to the Contractor, terminate the right to proceed with the work (or the separable part of the work) that has been delayed. In this event, the Government may take over the work and complete it by contract or otherwise, and may take possession of and use any materials, appliances, and plant on the work site necessary for completing the work. The Contractor and its sureties shall be liable for any damage to the Government resulting from the Contractor’s refusal or failure to complete the work within the specified time, whether or not the Contractor’s right to proceed with the work is terminated. This liability includes any increased costs incurred by the Government in completing the work.

(b) The Contractor’s right to proceed shall not be terminated nor the Contractor charged with damages under this clause, if—

(1) The delay in completing the work arises from unforeseeable causes beyond the control and without the fault or negligence of the Contractor. Examples of such causes include (i) acts of God or of the public enemy, (ii) acts of the Government in either its sovereign or contractual capacity, (iii) acts of another Contractor in the performance of a contract with the Government, (iv) fires, (v) floods, (vi) epidemics, (vii) quarantine restrictions, (viii) strikes, (ix) freight embargoes, (x) unusually severe weather, or (xi) delays of subcontractors or suppliers at any tier arising from unforeseeable causes beyond the control and without the fault or negligence of both the Contractor and the subcontractors or suppliers; and

(2) The Contractor, within 10 days from the beginning of any delay (unless extended by the Contracting Officer), notifies the Contracting Officer in writing of the causes of delay. The Contracting Officer shall ascertain the facts and the extent of delay. If, in the judgment of the Contracting Officer, the findings of fact warrant such action, the time for completing the work shall be extended. The findings of the Contracting Officer shall be final and conclusive on the parties, but subject to appeal under the Disputes clause.

(c) If, after termination of the Contractor’s right to proceed, it is determined that the Contractor was not in default, or that the delay was excusable, the rights and obligations of the parties will be the same as if the termination had been issued for the convenience of the Government.

(d) The rights and remedies of the Government in this clause are in addition to any other rights and remedies provided by law or under this contract.

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.

 

 

LIQUIDATING AGREEMENTS OR PASS-THROUGH AGREEMENTS

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A liquidating agreement is probably a more popular agreement between a general contractor and subcontractor when it comes to federal construction projects, but it is a type of agreement that can universally apply.   This is the type of agreement that memorializes a subcontractor’s pass-through claim to the owner where the subcontractor’s claim is pursued in the name of the general contractor or by the general contractor.   Because liquidating agreements pertain to a general contractor passing-through a subcontractor’s claim to the owner, they are oftentimes called pass-through agreements.

 

“Generally, a liquidating agreement or pass-through agreement grants the general contractor a release of its liability to the subcontractor after the general contractor prosecutes the subcontractor’s pass-through claims against the owner and conveys any recovery to the subcontractor.”  Rad and D’Aprile Inc. v. Arnell Const. Corp., 2015 WL 3619210, *6 (N.Y. 2015).  Specifically, a liquidating agreement between a general contractor and a subcontractor is designed to limit (or liquidate) the general contractor’s liability to the subcontractor to the amount the general contractor recovers from the owner.  See id.

 

 “Liquidation agreements have three basic elements: (1) the imposition of liability upon the general contractor for the subcontractor’s increased costs, thereby providing the general contractor with a basis for legal action against the owner; (2) a liquidation of liability in the amount of the general contractor’s recovery against the owner; and, (3) a provision that provides for the pass-through of that recovery to the subcontractor.” Rad and D’Aprile, supra (citation omitted). 

 

The benefit of a liquidating agreement or pass-through agreement is that it limits the general contractor’s liability to the extent the general contractor receives payment from the owner for the subcontractor’s claim. There are considerations that need to be ironed out when entering into a liquidating agreement or pass-through agreement including, without limitation:

1)   Attorney’s fees – if the subcontractor pursues the pass-through claim in the name of the general contractor, the subcontractor will bear all of the attorney’s fees.  Conversely, if the general contractor pursues the claim, it will likely want the subcontractor to share in attorney’s fees on a pro rata basis of the subcontractor’s recovery, if any, to be reduced by incurred fees.

2)    Cooperation  – if the subcontractor pursues the pass-through claim in the name of the general contractor, the subcontractor may need certain cooperation from the general contractor.  If, however, the general contractor pursues such claim, it will want the cooperation of the subcontractor so that the subcontractor is actively involved in proving the pass-through claim.

3)    Settlement – if the general contractor pursues the pas-through claim, it will want complete authority to settle the claim without input from the subcontractor. This means that the subcontractor’s claim would be paid based on a pro rata portion of that settlement.

4)    Role of General Contractor – the agreement should clarify how far the general contractor is willing to pursue the subcontractor’s claim.  In other words, is simply passing-through the claim to the owner good enough such that the parties are bound by the owner’s determination of the claim.  Or, does the general contractor need to continue to pursue the claim through litigation, arbitration, or through a Board of Contract Appeals?  This needs to be ironed out.

5)    Release  – the general contractor will want a complete release from the subcontractor such that the general contractor’s (and its payment bond surety’s) only liability to the subcontractor is the amount recovered from the owner relative to the subcontractor’s pass-through claim.

 

Liquidating agreements or pass-through agreements are an efficient vehicle in certain circumstances to resolve disputes between a general contractor and subcontractor where the parties jointly focus on the recovery from the owner.  With that said, the parties should work with counsel to ensure the liquidating agreement accurately reflects their interests moving forward with the pass-through claim.

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.

 

RELEASES ON FEDERAL PROJECTS — MAYBE THE RELEASE IS NOT A FINAL RELEASE

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Executing partial releases and a final release in consideration of payment are routine on construction projects.  Counsel will correctly tell you not to sign a release if you don’t intend to release all of your claims through the date of the release.  Counsel will also tell you to be sure to exempt those claims from a release that you do not intend on releasing.  The reason for this is that if you sign a release and then seek damages or costs pre-dating the release, the party you gave the release too will waive it in front of your face and say “tough luck; you released these claims and costs!” 

 

However, the opinion in H.J. Lyness Construction, Inc. v.  U.S., 120 Fed.cl. 1 (Fed.Cl. 2015) gives those contractors (or subcontractors), particularly federal government contractors, that sign a release and do not exempt certain claims or costs from the release some hope that not all is lost.  In this case, the federal government terminated a contractor for convenience.  After the termination for convenience, the contractor submitted a release and was paid in consideration for that release.  The contractor did not exempt or carve out any claims or costs from that release even though the release allowed the contractor to do so.    In other words, the release did not carve out any termination for convenience settlement costs that the contractor would be entitled to.  Notwithstanding, the government and contractor continued to discuss termination for convenience settlement costs and when an agreement could not be reached, the contractor filed suit.

 

The government moved for summary judgment that the contractor released the government for termination for convenience settlement costs because the contractor executed the unambiguous release after the termination for convenience.  The contractor countered that the release did not apply to termination for convenience settlement costs and, to show this, the government continued to entertain discussions regarding these costs after it received the release the government is arguing under.  Furthermore, the contractor argued that it timely and properly submitted its settlement costs in accordance with F.A.R. 52.249-2(e) that provides:

 

(e) After termination, the Contractor shall submit a final termination settlement proposal to the Contracting Officer in the form and with the certification prescribed by the Contracting Officer. The Contractor shall submit the proposal promptly, but no later than 1 year from the effective date of termination, unless extended in writing by the Contracting Officer upon written request of the Contractor within this 1–year period. However, if the Contracting Officer determines that the facts justify it, a termination settlement proposal may be received and acted on after 1 year or any extension. If the Contractor fails to submit the proposal within the time allowed, the Contracting Officer may determine, on the basis of information available, the amount, if any, due the Contractor because of the termination and shall pay the amount determined.

 

Based on these facts and circumstances, the contractor took the position that the  government never intended the release the contractor furnished post-termination for convenience to operate as a final release and release of its termination for convenience costs.  The Court of Federal Claims sided with the contractor:

 

The Court finds that through the affidavit provided by Mr. Lyness [contractor’s representative], the parties’ actions and course of conduct in this case creates a genuine issue of material fact regarding whether the release constituted a full and final release of claims given in exchange for a final payment, or was simply a routine payment application form that was used with respect to all applications for partial payments requested by HJL [contractor].

H.J. Lyness Construction, supra.

 

Now, why is this case helpful?  Because it goes directly to the argument on federal projects that even if a contractor executed an unambiguous release and does not exempt or carve out any claims, there may be an argument that the conduct of the parties reflects that the parties did not intend the release to operate as a final release of all claims.  In H.J. Lyness the argument was that the release was not intended to bar termination for convenience settlement costs even though the release was executed months after the termination for convenience.

 

Regardless of the holding in H.J. Lyness, it is important for contractors to read what they sign and be cognizant of those claims and costs they do not want to release.  This includes executing a release without properly exempting termination for convenience settlement costs if the contractor does not intend its release to be a final release of all claims.

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.

 

GOVERNMENT CONTRACTING AND TREATING EXTENDED FIELD OVERHEAD AS A DIRECT OR INDIRECT COST

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Prime contractors working on federal government projects, or any project for that matter, have job site or field overhead / general conditions.  Incurring extended field office overhead on a federal government project happens and, in many instances, is due to differing site conditions or another impact  (e.g., design issue, change order work, etc.) caused by the government.  There are also times the government acknowledges the time impact and agrees to pay the prime contractor extended field office overhead. 

 

How is the prime contractor supposed to compute its extended field office overhead?

 

Federal Acquisition Regulation (F.A.R.) 31.105(d)(3) provides:

 

Costs incurred at the job site incident to performing the work, such as the cost of superintendence, timekeeping and clerical work, engineering, utility costs, supplies, material handling, restoration and cleanup, etc. [e.g. field office costs], are allowable as direct or indirect costs, provided the accounting practice used is in accordance with the contractor’s established and consistently followed cost accounting practices for all work.

 

Stated differently, F.A.R. allows the prime contractor to treat its field office overhead  as a direct cost or an indirect cost provided the prime contractor does so consistently throughout the project.  However, the prime contractor cannot change its methodology midstream because it learns it can better maximize its extended field office overhead damages by switching methodologies to compute its extended field overhead.

 

What is a direct cost versus an indirect cost? 

 

A direct cost is a cost that is identified specifically with a contract whereas an indirect cost is not identified specifically with a single contract, but identified with two or more contracts.

 

F.A.R. 2.101 defines both direct costs and indirect costs as follows:

 

Direct cost means any cost that is identified specifically with a particular final cost objective [e.g., contract]. Direct costs are not limited to items that are incorporated in the end product as material or labor. Costs identified specifically with a contract are direct costs of that contract. All costs identified specifically with other final cost objectives of the contractor are direct costs of those cost objectives.” See also F.A.R. 31.202.

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Indirect cost means any cost not directly identified with a single final cost objective [e.g., contract], but identified with two or more final cost objectives or with at least one intermediate cost objective.

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Indirect cost rate means the percentage or dollar factor that expresses the ratio of indirect expense incurred in a given period to direct labor cost, manufacturing cost, or another appropriate base for the same period (see also “final indirect cost rate”).” See also F.A.R. 31.203.

 

When field office overhead is treated as a direct cost, it is computed on a per diem or daily rate (e.g., $10,000 per day for each day of delay). 

 

When field office overhead is treated as an indirect cost, it is computed based on a percentage markup (e.g., adding an overhead markup of 10% on the work). 

 

The key is that the prime contractor typically has to live or die with the methodology it chooses. 

An example of this “live or die” approach can be found in the Armed Services Board of Contract Appeals decision in Appeal of—Watts Constructors, LLC, 2015 WL 566315, ASBCA NO. 59602 (January 26, 2015).  Here, the government hired the prime contractor to relocate a sewer lift station at a Marine Corps base.  During construction, the prime contractor encountered a differing site condition. The government did not dispute the differing site condition and instructed the prime contractor to await a contract modification (change order) before proceeding with the additional work.  The prime contractor submitted a cost proposal to the government for the additional work.  The proposal included a percentage markup for overhead as the contractor had also done under a previous cost proposal for additional work. Thus, the contractor had treated its field overhead as an indirect cost.

 

However, the government did not immediately issue the contract modification (change order) to the prime contractor authorizing the contractor to proceed with the additional work due to the differing site condition.  For this reason, the prime contractor wanted to recover its extended field office overhead as a direct cost (as it would give the prime contractor an additional approximate $40,000 and cover its costs due to the government’s delay in issuing the contract modification).  The prime contractor’s position was that when it submitted its original proposal for the changed work with the overhead percentage markup it was not anticipating a time impact, but now that it realized a time impact caused by the government, it should be entitled to its direct costs associated with the impact.  The government, however, denied this request because by the contractor tacking an overhead markup percentage to its proposals it had treated its field office overhead as an indirect cost, not a direct cost. Thus, the prime contractor couldn’t switch its methodology during the course of the project. 

 

The prime contractor submitted a claim pursuant to the Contract Disputes Act; the contracting officer issued a final decision denying the claim.  The prime contractor then appealed the contracting officer’s final decision to the Armed Services Board of Contract Appeals.  The Armed Services Board of Contract Appeals agreed with the government concluding, “[W]e conclude the fact that the contract performance period was extended and that the use of the percentage mark-up might not fully compensate appellant [prime contractor] for all field office overhead costs incurred does not, per se, entitle appellant to change its distribution base.”

 

The underpinning issue regarding field office overhead and whether to apply an overhead percentage markup to modifications (change orders) that do not result in a time impact and a daily rate to modifications that do result in a time impact was the exact issue the Armed Services Board of Contract Appeals dealt with in Appeals of M.A. Mortenson Co., 1998 WL 151792, ASBCA No. 40750 (March 30, 1998). In this matter, the prime contractor tacked an overhead percentage markup for field office overhead for changes that did not result in a time impact and then tacked on a daily rate for changes that did result in a time impact.  Hence, for changes that did not delay the job, the contractor treated its field office overhead as an indirect cost and for changes that did delay the job, the contractor treated its field office overhead as a direct cost. 

The government did not challenge the contractor’s daily rate for changes that impacted time, rather, it challenged the overhead percentage the contractor applied on changes that did not actually impact the completion of the project (since the field office was not actually extended by these changes).  The Armed Services Board of Contract Appeals agreed with the government concluding the prime contractor “cannot recover the claimed job site overhead percentage markup in these appeals because, under the facts of these cases, such a markup is inconsistent with appellant’s [prime contractor] per diem distribution base for charging job site overhead on changes that extended the contract period.”

 

Prime contractors working on federal construction projects need to be wary of how to treat changes and if they apply an overhead percentage markup on their changes it could later impact their application of a daily rate for extended field office overhead and vice versa.   Sometimes, the overhead markup benefits the contractor because it is getting a markup for overhead when the job is not otherwise delayed.  However, if the job is delayed, the government may try to deny the extended overhead based on a daily rate methodology that better compensates the contractor for its actual costs since the contractor previously treated such overhead as an indirect cost.

 

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.

 

 

 

CONFLICT BETWEEN A SUBCONTRACTOR’S MILLER ACT PAYMENT BOND CLAIM AND A PRIME CONTRACTOR’S CONTRACT DISPUTES ACT CLAIM

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The recent opinion in U.S. f/u/b/o Marenalley Construction, LLC v. Zurich American Insurance Co., 2015 WL 1137053 (E.D.Pa. 2015) is a great example as to what could happen when a prime contractor submits a Contract Disputes Act claim to the federal government that includes subcontractor amounts and then a subcontractor simultaneously pursues the same amounts from the prime contractor’s Miller Act payment bond surety. The question becomes should the subcontractor’s lawsuit against the Miller Act payment surety be dismissed or stayed pending the outcome of the resolution of the prime contractor’s Contract Disputes Act claim.  The ruling in this case held that the subcontractor’s Miller Act claim could proceed, and would not be dismissed or stayed, pending the outcome of the prime contractor’s Contract Disputes Act claim.  This was a great ruling for the subcontractor and obviously puts the prime contractor in an uncomfortable position, to say the least, since it becomes hard to dispute a subcontractor’s claim when the merits of that claim have been packaged (or passed through) to the federal government in a certified Contract Disputes Act claim.

In this case, both the prime contractor and subcontractor agreed that the United States Department of Veterans Affairs (VA) caused additional work that increased the cost of the work.  As a result, the prime contractor submitted a Contract Disputes Act claim to the VA that included claims and amounts from subcontractors.  While the prime contractor’s claim was pending with the VA, a subcontractor sued the prime contractor’s Miller Act payment bond surety. This was a subcontractor that also had its claims and amounts packaged (or passed through) to the VA in the prime contractor’s Contract Disputes Act claim.

The prime contractor argued that the subcontractor’s Miller Act payment bond claim should be dismissed or stayed pending the resolution of the Contract Disputes Act claim.  In particular, the prime contractor argued that because the subcontract incorporated a dispute resolution clause (that incorporated the requirements of the Contract Disputes Act), the subcontractor was required to exhaust this administrative process before proceeding with a Miller Act payment bond claim.

Dismissal of  Miller Act Payment Bond Claim?

The ruling to deny the prime contractor and surety’s motion to dismiss the Miller Act payment bond claim was an easy decision.  To begin with, a Miller Act payment bond claim needs to be instituted within a year from the subcontractor’s last furnishing so if the court dismissed the claim it would potentially be depriving the subcontractor of its rights under the law without any certainty as to if the subcontractor re-filed the lawsuit it would be within the statute of limitations or the statute of limitations would otherwise be tolled.  And, pursuant to the Miller Act, a subcontractor cannot contractually agree to waive its Miller Act rights before the subcontractor performed any work.  A waiver of Miller Act payment bond rights is only enforceable if the waiver is: 1) in writing, 2) signed by the party waiving its payment bond rights, and 3) “executed after the person whose right is waived has furnished labor or material for use in the performance of the contract.”  See 40 U.S.C. s. 3133.

Stay of Miller Act Payment Bond Claim?

The real determination was whether the subcontractor’s Miller Act payment bond lawsuit should be stayed until the completion of the prime contractor’s dispute resolution with the VA. The court held No!:

 

“The Miller Act entitles Marenalley [subcontractor] to bring suit ninety days after the completion of its work…not when and if Nason [prime contractor] recovers from the VA. Conditioning Marenalley’s right to recover from the [Miller Act] Payment Bond on the completion of Nason’s CDA [Contract Disputes Act] process would be inconsistent with the terms of the Miller Act.

***

Nason and Zurich [surety] protest that they will be prejudiced in the absence of a stay due to the costs of dual litigation and the risk of inconsistent decisions.  The Court is not overly troubled by these arguments.  Ordinarily the fact that a prime contractor has a claim for the same amount pending under the disputes clause of the [incorporated] prime contract, does not affect Miller Act cases.

***

The CDA process will determine the VA’s liability to Nason.  The VA, however, has no jurisdiction over the amount that Nason must pay Marenalley and no interest in how that amount is determined. Thus, a stay would subject Marenalley to a substantial, indefinite delay as Nason’s claim passes through the administrative process and court review, only to be left at the end of that process to begin again here to litigate its rights against Nason.”

 

Marenalley, supra, at *6 (internal citations and quotations omitted).

How Does a Prime Contractor Account for this Risk?

So, based on this ruling, how does a prime contractor account for this business risk? And, this is a business risk because there may be value to a subcontractor to pursue the Miller Act payment bond claim rather than wait an indefinite period of time for the Contract Disputes Act process to resolve itself and then hope that the prime contractor pays the subcontractor the portion of the subcontractor’s claim that was passed through to the federal government.

 

Well, there is authority that would entitle the prime contractor to a stay of a subcontractor’s Miller Act payment bond lawsuit.  But, this authority is predicated on language in the subcontract that any action filed by the subcontractor will be stayed pending the exhaustion of administrative remedies.

 

For example, in U.S. f/u/b/o Trans Coastal Roofing Co. v. David Boland, Inc., 922 F.Supp. 597, 598 (S.D.Fla. 1996), the subcontract contained the following language:

 

“[s]ubcontractor shall first pursue and fully exhaust [the procedures set forth in the standard disputes clause of the primary contract] before commencing any other action against Contractor for any claims it may have arising out of its performance of the Work herein.”

***

“[Contractor shall] prosecute all claims submitted by Subcontractor under the contractual remedial procedure of the Prime Contract on behalf of and to the extent required by the Subcontractor.”

***

 “[Subcontractor] agree[d] to stay an action or claim against [the prime contractor’s Miller Act bond] pending the complete and final resolution of the Prime Contract’s contractual remedial procedure.”

 

Because the subcontractor failed to exhaust its administrative remedies, the court dismissed the subcontractor’s Miller Act payment bond claim.  Importantly, this case was decided before there were amendments to the Miller Act that now prevents a subcontractor from waiving a Miller Act payment bond claim prior to performing work.  Thus, if this case were decided today, the court likely would have stayed the Miller Act payment bond claim instead of dismissing it unless, of course, it was clear that the statute of limitations for pursuing a Miller Act payment bond claim would be tolled pending the exhaustion of the administrative remedies.

 

Similarly, in U.S. v. Dick/Morganti, 2007 WL 3231717 (N.D.Cal. 2007), the prime contractor and surety moved to stay a subcontractor’s payment bond claim based on the following subcontract language:

 

“If the Owner [GSA] and the Contractor [Dick/Morganti], pursuant to the General Contract or by agreement, submit any dispute, controversy, or claim between them to arbitration or some other dispute resolution procedure specified in the General Contract and such a matter involves or relates to a dispute, controversy, or claim between the Contractor and the Subcontractor, Subcontractor agrees …to stay any action filed by the Subcontractor until the dispute resolution and appeals process between the Contractor and the Owner is exhausted.”

 

The prime contractor argued it “intended” to submit a claim to the federal government [GSA] that will include the subcontractor’s amounts and, as such, the provision should operate to stay the subcontractor’s Miller Act payment bond claim.  The court agreed provided that the prime contractor did actually submit the claim.

 

Thus, a prime contractor should absolutely incorporate language in a subcontract consistent with the language in these decisions that reflects that any action filed by the subcontractor, including an action against the prime contractor’s Miller Act payment bond surety, will be stayed pending the complete resolution of any dispute resolution between the prime contractor and federal government that involves or includes the claims and amounts sought by the subcontractor. 

 

And a subcontractor, even if this language is included in the subcontract, should still move forward and timely file any Miller Act payment bond lawsuit.

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.

 

GOVERNMENT CONTRACTS AND TERMINATION FOR DEFAULTS: SURETY TAKEOVER AGREEMENTS, TENDER AGREEMENTS, ETC.

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On federal government construction projects, the prime contractor provides the government with a performance bond (pursuant to the Miller Act) guarantying the prime contractor’s performance under the prime contract.   Under normal course and in accordance with the Federal Acquisition Regulations (“FAR”), the performance bond is triggered when the government terminates the prime contractor for default and then looks to the performance bond surety to remedy the default by completing the defaulting prime contractor’s contractual obligations.  (See FAR 49.402-3 regarding the government’s procedure to terminate the prime contractor for default and put the contractor and surety on notice.) 

 

Subpart 49.4 of FAR deals with termination for defaults.  Prime contractors as well as sureties should familiarze themselves with this subpart especially if they received notification from the contracting officer of the possibility of a terminatin for default or the notices seem to indicate that the terminatiion for default is imminent.

 

Let’s presume the contracting officer moves forward and terminates the prime contractor for default or the termination is imminent.  Now what?   Clearly, the contracting officer will be looking to the prime contractor’s performance bond surety to remedy the default.    Below are considertaions that will be explored and are the reasons why prime contractors and sureties in this situation should absolutely ensure they are consulting with counsel.

 

A. Takeover Agreements

 

One common option under FAR  49.404 that can be implemented is a surety-takeover agreement with the government (see below).  This is when the surety takes over the contractual obligations of the prime contract.  Typically, the surety will enter into a takeover agreement with the government that outlines the obligations of the takeover and will enter into a separate contract with the completion contractor the surety engages to complete its defaulting prime contractor’s scope of work.  While FAR ideally prefers a tripartite takeover agreement with the government, surety, and defaulted prime contractor, this generally does not happen with a prime contractor that challenges the termination for default and looks to convert the termination into one for convenience. 

 

49.404  Surety-takeover agreements.

(a) The procedures in this section apply primarily, but not solely, to fixed-price construction contracts terminated for default.

(b) Since the surety is liable for damages resulting from the contractor’s default, the surety has certain rights and interests in the completion of the contract work and application of any undisbursed funds. Therefore, the contracting officer must consider carefully the surety’s proposals for completing the contract. The contracting officer must take action on the basis of the Government’s interest, including the possible effect upon the Government’s rights against the surety.

(c) The contracting officer should permit surety offers to complete the contract, unless the contracting officer believes that the persons or firms proposed by the surety to complete the work are not competent and qualified or the proposal is not in the best interest of the Government.

(d) There may be conflicting demands for the defaulting contractor’s assets, including unpaid prior earnings (retained percentages and unpaid progress estimates). Therefore, the surety may include a “takeover” agreement in its proposal, fixing the surety’s rights to payment from those funds. The contracting officer may (but not before the effective date of termination) enter into a written agreement with the surety. The contracting officer should consider using a tripartite agreement among the Government, the surety, and the defaulting contractor to resolve the defaulting contractor’s residual rights, including assertions to unpaid prior earnings.

(e) Any takeover agreement must require the surety to complete the contract and the Government to pay the surety’s costs and expenses up to the balance of the contract price unpaid at the time of default, subject to the following conditions:

(1) Any unpaid earnings of the defaulting contractor, including retained percentages and progress estimates for work accomplished before termination, must be subject to debts due the Government by the contractor, except to the extent that the unpaid earnings may be used to pay the completing surety its actual costs and expenses incurred in the completion of the work, but not including its payments and obligations under the payment bond given in connection with the contract.

(2) The surety is bound by contract terms governing liquidated damages for delays in completion of the work, unless the delays are excusable under the contract.

(3) If the contract proceeds have been assigned to a financing institution, the surety must not be paid from unpaid earnings, unless the assignee provides written consent.

(4) The contracting officer must not pay the surety more than the amount it expended completing the work and discharging its liabilities under the defaulting contractor’s payment bond. Payments to the surety to reimburse it for discharging its liabilities under the payment bond of the defaulting contractor must be only on authority of—

(i) Mutual agreement among the Government, the defaulting contractor, and the surety;

(ii) Determination of the Comptroller General as to payee and amount; or

(iii) Order of a court of competent jurisdiction.

 

B.  Tender Agreements

 

Another option the surety can implement is by tendering a completion contractor to the government for the government to complete the work.  Oftentimes the surety will obtain pricing to complete the defaulting prime contractor’s scope of work.  The surety will then tender a completion contractor to the government so that the government can hire this contractor directly.  The surety will also tender the difference between the balance of the defaulted prime contractor’s contract amount and the completion contractor’s contract amount to complete the work.  (For example, if the balance of the defaulted prime contract is Twenty Million but it will cost a completion contractor Twenty Five Million to complete the defaulted prime contractor’s scope of work, the surety will tender the additional Five Million.)  A tender agreement is generally entered into between the surety and the government and outlines the parameters of the tender including monetary responsibilities of the surety. 

 

C.  Government Completion (if surety does not takeover or tender)

 

FAR 49.405 gives the government authority to engage a completion contractor if the surety does not arrange for the completion of the defaulted prime contractor’s scope of work (see below).  If the government moves forward with this option, it will certainly look to the surety for all costs it incurs associated with the prime contractor’s default and any delay associated with bringing a completion contractor on board.

 

49.405  Completion by another contractor.

If the surety does not arrange for completion of the contract, the contracting officer normally will arrange for completion of the work by awarding a new contract based on the same plans and specifications. The new contract may be the result of sealed bidding or any other appropriate contracting method or procedure. The contracting officer shall exercise reasonable diligence to obtain the lowest price available for completion.

  

D. Procedures Government Can Utilize Instead of Termination for Default

 

FAR 49.402-4 identifies certain procedures that the government can utilize instead of terminating the prime contractor for default, although these procedures are generally implemented after the prime contractor and surety are on notice of an impending termination for default (see below).   The government is probably not going to move forward with these procedures unless its rights are reserved against the prime contractor and performance bond for any resultant damages (see FAR 49.406 below) associated with defaults asserted by the government against the prime contractor (e.g., liquidated damages for delays,  correction of deficient work, etc.).  If these procedures are considered and utilized, there is a good chance the procedure was suggested by the prime contractor and surety as a protocol to best mitigate potential damages asserted by the government.   (By way of example, one option a surety can present is to agree to fund the prime contractor through completion in order to keep the project moving forward with the contractor most familiar with the scope of work.)

 

49.402-4  Procedure in lieu of termination for default.

The following courses of action, among others, are available to the contracting officer in lieu of termination for default when in the Government’s interest:

(a) Permit the contractor, the surety, or the guarantor, to continue performance of the contract under a revised delivery schedule.

(b) Permit the contractor to continue performance of the contract by means of a subcontract or other business arrangement with an acceptable third party, provided the rights of the Government are adequately preserved.

(c) If the requirement for the supplies and services in the contract no longer exists, and the contractor is not liable to the Government for damages as provided in 49.402-7, execute a no-cost termination settlement agreement using the formats in 49.603-6 and 49.603-7 as a guide.

 

49.406  Liquidation of liability.

(1) The contract provides that the contractor and the surety are liable to the Government for resultant damages. The contracting officer shall use all retained percentages of progress payments previously made to the contractor and any progress payments due for work completed before the termination to liquidate the contractor’s and the surety’s liability to the Government. If the retained and unpaid amounts are insufficient, the contracting officer shall take steps to recover the additional sum from the contractor and the surety.

 

E. Preservation of Surety’s Rights

 

When a surety takesover the completion of the work, tenders a completion contractor, or even funds the original prime contractor through completion, the surety will do so while preserving its rights.  In other words,  a surety will want to best preserve rights to pursue potential claims against the government while contemporaneously mitigating its exposure under the performance bond through the takeover, tender, or funding of the completion work.  See, e.g., Transamerica, Ins. v. U.S.,  31 Fed.Cl. 532 (1994) (finding surety can pursue equitable subrogation claim against government for funds held by government when surety tendered and paid completion contractor); see also In re Appeal of Fireman’s Fund Ins. Co., ASBCA No. 50657, 2000 WL 246620 (2000) (“When a terminated contractor assigns such [pre-takeover / tender] claims to the surety to which assignment the contracting officer consents, or incorporates such an assignment in novation or takeover [or tender] agreement executed by the contracting officer, the surety has standing to prosecute such claims before the Board.”); In re Hackney Group, ASBCA No. 51453, 2000 WL 655950 (2000) (surety’s argument that it has standing to assert defaulted prime contractor’s pre-takeover claims against government based on surety’s indemnity agreement with  prime contractor failed since government was not a party to indemnity agreement and never consented to prime contractor’s assignment of pre-takeover claims to surety).

 

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.

 

 

SUING FEDERAL GOVERNMENT ON A CONTRACT CLAIM; EQUITABLE SUBROGATION CLAIM BY LIABILITY INSURER AGAINST GOVERNMENT NOT ALLOWED

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Equitable subrogation is a doctrine that liability insurers rely on when paying a claim on behalf of an insured.  Under this doctrine, the insurer equitably subrogates—steps in the shoes—to the rights of the insured and sues as an equitable subrogee of the insured in order to seek reimbursement for the claim it paid.

 

What if the liability insurer tried to pursue an equitable subrogation claim against the federal government?  In other words, what if the insurer paid out insurance proceeds on behalf of its insured-prime contractor and then tried to recoup the insurance proceeds from the federal government as an equitable subrogee of the prime contractor?  The United States Court of Federal Claims in Fidelity and Guaranty Insurance Underwriters v. U.S., 2014 WL 6491835 (Fed.Cl. 2014) explained that a liability insurer CANNOT sue the federal government as an equitable subrogee of the prime contractor in order to recoup insurance proceeds paid out on a claim.

 

In this case, the government hired a prime contractor to abate asbestos at a post office.  The prime contractor was having difficulty obtaining CGL liability insurance to specifically cover asbestos removal for a reasonable premium and the government, through the contracting officer, agreed to execute an addendum to the prime contract that required the government to save harmless and indemnify the contractor from personal injury claims attributable to the asbestos removal work.

 

More than ten years later, a former government employee sued the prime contractor claiming he contracted cancer from his exposure to asbestos while it was being removed and abated at the project.  The prime contractor demanded that the government defend and indemnify it for this claim; however, the government refused.  The prime contractor then tendered the claim to its CGL liability insurer and its insurer settled the claim.  After the settlement, the prime contractor once again demanded that the government reimburse it by honoring the indemnification language in the addendum; again, the government refused.

 

The prime contractor’s liability insurer then filed suit against the federal government as the equitable subrogee of the prime contractor in order to recoup the insurance proceeds it paid to the former government employee.  The thrust of the claim was that the government breached the indemnification provision.  The government moved to dismiss the lawsuit contending that the Court of Federal Claims does not have subject matter jurisdiction to entertain the lawsuit because the liability insurer is not in privity with the government and, therefore, cannot sue the government.  The Court of Federal Claims agreed and dismissed the lawsuit.  Why? Because a plaintiff suing the federal government on a contract claim must be in privity of contract with the federal government with limited exceptions to this rule:

 

“The Federal Circuit has recognized limited exceptions to the requirement that parties seeking relief for breach of contract against the government under the Tucker Act must be in privity of contract with the United States. These limited exceptions include (1) actions against the United States by an intended third-party beneficiary; (2) pass-through suits by a subcontractor where the prime contractor is liable to the subcontractor for the subcontractor’s damages; and (3) actions by a Miller Act surety for funds that the government improperly disbursed to a prime contractor [after the surety financed completion of a defaulted subcontractor]. As the court of appeals has observed, the common thread that unites these exceptions is that the party standing outside of privity by contractual obligation stands in the shoes of a party within privity.“

Fidelity and Guaranty Insurance Underwriters, supra(internal quotations and citations omitted).

 

Since none of the limited exceptions applied to allow a liability insurer to sue the government as an equitable subrogee of its insured-prime contractor, the Court of Federal Claims lacked subject matter jurisdiction.

 

This ruling does not prevent the prime contractor from suing the government directly for breaching the indemnification provision; it simply prevents the liability insurer from suing as an equitable subrogee of the prime contractor. Even though the insurer paid the claim, perhaps it can enter into an agreement with the prime contractor whereby the prime contractor sues the government directly for breach of contract.

 

 

The case demonstrates the limited exceptions available to a claimant on a construction project that wants to pursue a claim directly against the government when the claimant is not the prime contractor hired by the government.  While prime contractors can sue the government for breach of contract, subcontractors, in particular, that want to pursue a claim against the government can only do so as a pass-through claim, meaning they are suing in the name of the prime contractor and will require the cooperation of the prime contractor.

 

Also, as an aside, the indemnification provision from the government and the prime contractor required the government to save harmless and indemnify the prime contractor.  I always like to include the word “defend” in an indemnification provision so it is crystal clear that the indemnitor’s indemnification obligations extend to its contractual obligation to defend the indemnitees for any claim.

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.