Government Contracts

Terminations for Convenience or by Default

Claims or only settlement proposals?
Making the contracting officer render a decision before conversion to a termination for convenience.

by James L. McGovern, CPA/CFF, CVA, Fellow

History shows us that the federal government has always had the power to terminate the contracts it enters into. However, over the years there have been many questions concerning the remedies to which a contractor is entitled and the proper vehicle for recovery when the government chooses to terminate for its convenience. The law in this area has evolved over the years and recently there have been a number of important legal decisions that may impact the manner in which contractors choose to handle their termination cases.government

CLAIMS OR ONLY SETTLEMENT PROPOSALS?

When a contract is terminated for convenience, the contractor is required by the language of the termination clause to prepare a settlement proposal and to submit it to the contracting officer (CO). In turn, the CO is supposed to negotiate and attempt to reach a fair and reasonable settlement.1 Thus, typically a termination settlement proposal (TSP) is just that – a settlement "proposal." However, there may be instances where a TSP becomes a "claim" under the Contract Disputes Acts (CDA). Whether a TSP qualifies as a CDA claim is important because it determines whether a contractor can seek court or appeals board jurisdiction and whether interest accrues.

Exactly what constitutes a valid CDA claim has been the matter of much discussion over the past few years. The CDA itself does not define the term and, therefore, it has been left up to the courts and various boards of appeal to decide what is or is not a claim. In a 1991 decision the U.S. Court of Appeals for the Federal Circuit ruled in Dawco Constr., Inc. v. United States that a claim must "arise from a request for payment that is in dispute." The court in Dawco explained its reasoning as follows:

Clearly, the FAR mandates that, inter alia, a claim must seek payment of a sum certain as to which a dispute exists at the time of submission. Similarly, the contract's disputes clause, containing the standard language mandated by the Defense Acquisition Regulations states that a "request for payment that is not in dispute when submitted is not a claim for purposes of the Act" The language is not ambiguous and means what it says: A contractor and the government contracting agency must already be in dispute over the amount requested. Unilateral cost proposals or correspondence suggesting disagreement during negotiations, while they may ultimately lead to dispute, do not, for purposes of the Act, satisfy the clear requirement that the request be in dispute."(Emphasis added.)2

Consequently, for a number of years, the standard was that there had to be a pre-existing dispute as to amount before any demand for payment could be considered a CDA claim. Practically speaking, this meant that before a contractor could seek court jurisdiction regarding a TSP, request for equitable adjustment, or any other request for payment, the contractor had to show that a dispute already existed when the request was submitted. Otherwise, the contractor had to later convert its request into a claim sometime after a dispute became apparent by effectively resubmitting it as a claim.

Five years later, in a rather startling change of thinking, the Federal Circuit reversed its decision in Dawco with its en banc decision in Reflectone, Inc. v. U.S. In Reflectone, the court ruled that only "routine requests" for payment must be in dispute before they qualify as a CDA claim. This time around the court based its ruling on the definition of a claim found in Federal Acquisition Regulation (FAR) 33.201. Specifically, the court found that:

The FAR defines "Claim" as (1) a written demand or written assertion by one of the contracting parties seeking, as a matter of right, the payment of money in sum certain, the adjustment or interpretation of contract terms, or other relief arising under or relating to the contract… (2) A voucher, invoice, or other routine request for payment that is not in dispute when submitted is not a claim. (3) The submission may be converted to a claim, by written notice to the contracting officer as provided in 33.206(a), if it is disputed either as to liability or amount or is not acted upon in a reasonable time.3

The court in Reflectone concluded that sentence (1) of FAR 33.201 sets forth the only three requirements of a nonroutine claim for money. In other words, a nonroutine request for payment need be only (1) a written demand, (2) seeking, as a matter of right, (3) the payment of money in a sum certain. The FAR definition did not require that the entitlement to the amount asserted in the demand or the amount itself already be in dispute when the document is submitted. The court did also point out, however, that not every nonroutine request constitutes a claim under the FAR.

Even after the Reflectone decision, there remained some question as to whether a TSP qualified as a CDA claim. The government's position was that a TSP was a routine submission and, therefore, did not qualify as a claim under the standard set forth in Reflectone. Furthermore, even if a TSP was nonroutine, the court in Reflectone did say that not every non-routine request for payment constitutes a claim. A little more than a year after its ruling in Reflectone, the Federal Circuit addressed this issue in its decision in Ellett Const. Co. v. U.S. In the Ellett decision, the court noted that:

… it is difficult to conceive of a less routine demand for payment than one which is submitted when the government terminates a contract for its convenience. Such a demand, which occurs only in a fraction of government contracts, is certainly less routine than a request for equitable adjustment.

…Once the government terminates for convenience, the procedures used to determine a contractor's recovery could be perceived as routine, in the sense that the same ones are followed each time. However, that does not make them routine in the overall scheme of the contract and the parties' expectations.4

Thus, the court clearly ruled that a TSP is a non-routine request for payment. The court then turned to the question of when, as a nonroutine submission, does a TSP qualify as a CDA claim. The court found that besides meeting the FAR definition of a claim, the CDA also requires that all claims be submitted to a CO for a decision. Specifically, the court in Ellett noted that:

When a contractor submits a termination settlement proposal, it is for the purpose of negotiation, not for a contracting officer's decision. A settlement proposal is just that: a proposal. See 48 C.F.R 49.001… Indeed it is a settlement proposal that Ellett contractually agreed to submit in the event of a convenience termination. The parties agreed they would try to reach a mutually agreeable settlement If they were unable to do so, however, it was agreed consonant with the FAR's requirements, that the contracting officer would issue a final decision … which Ellett could appeal… Consequently, while Ellett's termination settlement proposal met the FAR's definition of a claim, at the time of submission it was not a claim because it was not submitted to the contracting officer for a decision. Once negotiations reached an impasse, the proposal, by the terms of the FAR and the contract, was submitted for decision; it became a claim. In other words, in accordance with the contract's prescribed method of compensating Ellett for a convenience termination, a request that the contracting officer issue a decision in the event the parties were unable to agree upon a settlement was implicit in Ellett's proposal.5

Thus, the current standard according to the Federal Circuit is that a TSP ripens into a CDA claim when negotiations reach an impasse. At that point the CO is obligated to render a decision, which the contractor has the right to appeal. If the CO refuses to issue a decision, the contractor can conclude that the TSP has been deemed denied.

MAKING THE CO RENDER A DECISION BEFORE CONVERSION TO A T FOR C

When a default termination is ruled to be improper, absent bad faith on the government's part, the remedy is to convert it to a termination for convenience (T for C). Thus, a contractor appealing a default termination must decide when is the best time to prepare and submit its T for C settlement proposal. Should a contractor wait until a decision has been rendered converting the default to a T for C or should the contractor submit its settlement proposal as soon as possible after the contract has been terminated?

Although there are a number of practical considerations to this issue, until recently a major consideration has been whether the CO can or will issue a final decision on such a TSP. As discussed earlier, a TSP must be submitted to the CO for a decision and negotiations must reach an impasse before qualifying as a CDA claim. Historically, the government has argued that it was not proper for a CO to consider a T for C settlement proposal while a default termination was being appealed: The government has asserted that a contractor's request for a T for C recovery in its challenge to a default termination addresses the same claim as the contractor's later claim for termination settlement costs.

The Department of Justice (DOJ) has argued that the CO, therefore, cannot issue a final decision on the TSP because the DOJ has exclusive authority over the claim, which is being litigated as part of the challenge to the default termination. Recent decisions by both the Court of Federal Claims and the Armed Services Board of Contract Appeals (ASBCA) have now made it clear that COs can and should consider and decide on TSP's even if a default is being challenged.

Heretofore, it has been the government's position that a CO can only issue a final decision on a TSP after the default has been overturned. Of course, the drawback to this methodology for the contractor is that it substantially delays the point al which the contractor's TSP ripens into a claim. Thus, the contractor would lose interest that would have accrued during the time the default was being litigated. Given the time it often takes to overturn a default, the amount of lost interest could be significant.

In its decision in McDonnell Douglas Corp. v. U.S., the Court of Federal Claims ruled that when a contract is terminated for default and a contractor submits a T for C cost proposal, the proposal is transformed into a claim under the CDA that is ripe for consideration by the CO.

In reaching this ruling the court reasoned that:

A default termination fundamentally conflicts with a contractors claim that it is entitled to TFC costs ... Ellett requires an impasse before a contractor may perfect a claim for submission. Plaintiffs' demand for termination for convenience relief from the contracting officer who terminated the contract for default demonstrates an impasse.6

Similarly, in the Appeal of Balimoy Manufacturing Company of Venice, Inc.7 the ASBCA ruled that a TSP submitted during the pendency of an appeal from a default termination was a claim submitted for a decision by the CO and interest ran from the date the CO received the claim certification.

It is important to note that in both the McDonnell Douglas case and the Balimoy case the contractors' TSPs were submitted before the default terminations were overturned. This fact was fundamental to the conclusion that the TSPs were claims upon submission. The fact that the defaults were still pending led the court and the board in these cases to conclude that an immediate impasse existed.

In cases where a TSP is not submitted until after a default is overturned, an immediate impasse may not exist. Therefore, the TSP may not immediately qualify as a CDA claim. In such cases, contractors would be wise to revisit the standards set forth by the Federal Circuit in Ellett.8 As discussed earlier; the Ellett standard effectively requires that there be failed negotiations before a TSP qualifies as a CDA claim. Failed negotiations could be manifested in negotiations reaching an impasse or the CO issuing a unilateral final decision.

Accordingly, if a contractor wants its TSP to qualify as a CDA claim, it should do a number of things. First the contractor should promptly meet with the CO designated to administer the T for C and attempt to establish agreed upon procedures for negotiating a settlement and resolving disputed issues. These procedures should be documented. Next, the contractor should regularly document the progress of negotiations and identify any specific open issues. Finally, if the government fails to adhere to the agreed upon procedures or fails to make substantive progress within a reasonable time, the contractor should submit a written demand for a final decision along with a CDA certification if the claim exceeds $100,000.

IMPROPER T FOR C

It is a well-recognized principle of government contracting that a CO may terminate a contract for convenience whenever he/she determines it is in the government's best interest. Over the years, the government's decisions to terminate for convenience have rarely been deemed to be improper by the courts and boards of appeal. In fact, it has historically been held that in order for a termination to be deemed improper, a contractor would have to prove that the government acted in bad faith. This was usually equated with showing a specific intent to injure the contractor.

In 1982 the predecessor to the current U.S. Court of Appeals for the Federal Circuit offered what at the time appeared to be a different test for gauging the sufficiency of a T for C in its decision in Torncello v. U. S.910

In Torncello, the Navy had contracted with Torncello despite knowing it could receive the same services at a lower price from another contractor. The Navy then began satisfying its requirements from that cheaper source and Torncello sued for breach of contract The ASBCA found that the Navy had constructively terminated the contract for convenience and, therefore, Torncello was not entitled to breach damages such as anticipatory profits. However, the Court of Claims held that the Navy could not invoke a convenience termination unless some change in circumstances between the time of award and the time of termination justified the action. This appeared to be a much broader test than the "bad faith" test employed up to this point.

After the Torncello decision, trial courts and boards of appeal sometimes vacillated between applying the longstanding ''bad faith" test and the broader "change in circumstance" test. As time went on, however, the tide moved back toward the "bad faith" standard, and in its 1996 decision in Krygosgi Construction Co., Inc. v. U.S.,11 the Federal Circuit clearly reestablished the ''bad faith" test as the standard.

In Krygosgi, the court reasoned that the broader Torncello test was inconsistent with the subsequently enacted Competition in Contracting Act. Furthermore, it concluded that Torncello applies only when the government enters a contract with no intention of fulfilling its promises.

Thus, contractors are once again left with the burden of proving that the government acted in bad faith. While certainly not impossible, it should be known that this is a very heavy burden and one that is rarely met. The presumption is that COs act conscientiously in the discharge of their duties. Proving otherwise requires nearly irrefragable proof.

One such case where the ''bad faith" test was met recently is in Travel Centre v. General Services Administration. In this case, the GSBCA held that GSA breached Travel Centre's contract to provide travel services when it improperly terminated the contract for convenience. The board reasoned that:

Use of the termination for convenience clause was improper because, during the procurement process, GSA had withheld from offerors crucial information which showed that the estimates of potential business provided in the solicitation—estimates upon which offerors were directed to base their proposals—were vastly overstated. Due to GSA's bad faith actions, the contract was doomed to failure from the beginning.12

A key factor in the Travel Centre case was the fact that the government knew before award that the estimates it instructed bidders to base their bids on were defective. In other cases, where the government did not know until after award that information it had provided was defective, it was determined that there was no bad faith on the government's behalf.

Thus, if a contractor suspects it has been misled by information provided by the government before award, it may make sense to investigate whether the government knew the information was bad before making the award.

ENDNOTES

1. FAR Part 49. (return to cited text)
2. 930 F.2d 872, 878 (Fed. Cir. 1991). (return to cited text)
3. 60 F.3d 1572 (Fed. Cir. 1995). (return to cited text)
4. 93 F.3d 1537 (Fed. Cir.1996). (return to cited text)
5. Id. (return to cited text)
6. 37 Fed. CI. 285 (1997). (return to cited text)
7. ASBCA 49730,96-2. (return to cited text)
8. Note 4, supra. (return to cited text)
9. CP&A Report, April 1998, Federal Publications, Inc. (return to cited text)
10. 681 F.2d 756 (Ct CI. 1982). (return to cited text)
11. 94 F.3d 1537 (Fed. Cir. 1996). (return to cited text)
12. General Services Board of Contract Appeals 14057,98-1.(return to cited text)

This article originally appeared in the April 1999 edition of Contract Management magazine