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Timestamp: 2019-04-18 18:51:40+00:00

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Postscript II: Termination For Convenience Of Far Part 12 Commercial Item Contracts - Seidman & Associates, P.C.
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Two recent decisions of the Armed Services Board of Contract Appeals take another look at the commercial item termination for convenience provision in paragraph (l) of the “Contract Terms and Conditions-Commercial Items” clause in Federal Acquisition Regulation 52.212-4 and FAR 12.403(d). The first, SWR, Inc., ASBCA 56708, 15-1 BCA ¶ 35832, 2014 WL 7084933, concerns the applicability of the ASBCA decision Red River Holdings, LLC, ASBCA 56316, 09-2 BCA ¶ 34304, 2009 WL 3838891, rev’d on other grounds and remanded, Red River Holdings, LLC, v. U.S., 802 F. Supp. 2d 648 (D.MD 2011), in a subsequent nonmaritime ASBCA appeal despite having been overturned by the U.S. District Court for Maryland in a maritime case. The Red RiverASBCA decision held that unamortized initial costs were not recoverable under prong 2 of the commercial item formula for recovery as reasonable charges resulting from termination because such charges were incurred before termination. The second recent decision, TriRad Technologies, Inc., ASBCA 58855, 2015 WL 1009677 (Feb. 23, 2015), concerns recovery for work in process in a manufacturing contract under prong 1 as reasonable charges resulting from termination.
The Red River ASBCA decision was discussed in my Guest Appearance, Termination for Convenience of FAR Part 12 Contracts: Is Fair Compensation Required?, 24 N&CR ¶ 37. The U.S. District Court decision reversing the ASBCA was discussed by Ralph in aPostscript at 25 N&CR ¶ 37, as well as in my Addendum to his article.
Thus, the measure of contractor recovery for convenience terminations in commercial item contracts under this clause is the sum of (1) “a percentage of the contract price reflecting the percentage of the work performed prior to the notice of termination” and (2) “reasonable charges the Contractor can demonstrate to the satisfaction of the Government using its standard record keeping system, have resulted from the termination.” The clause provides for proof of costs using a contractor’s standard accounting system. It prohibits the Government from requiring a contractor to comply with the Cost Accounting Standards or Government contract cost principles and states it does not give the Government the right to audit the contractor’s records. Under the FAR 52.212-4(l) Alternate I clause for time-and-materials and labor-hour contracts (1) is direct labor hours prior to termination multiplied by the pertinent contract hourly rate(s) instead of the percentage of the contract price reflecting the percentage of completion.
As can be seen, while the FAR 52.212-4(l) clause requires that a contractor demonstrate charges resulted from the termination “to the satisfaction of the Government,” FAR 12.403(d)(1)(ii) requires proof that costs “directly” resulted from the termination. It does not require that proof be to the Government’s satisfaction.
In addition, FAR 12.403 permits a Contracting Officer to use the provisions applicable to the termination of traditional Government contracts in FAR Part 49 as “guidance” to the extent such provisions do not conflict with FAR Part 12 or the commercial items clause. Such provisions include the FAR 49.201 guarantee that a terminated contractor will be fairly compensated. This guarantee has been held to override any other provision that would deprive a terminated contractor of fair compensation. See Codex v. U.S., 226 Ct. Cl. 693, 23 GC ¶ 239 (1981); Kasler Electric Co., DOTCAB 1425, 84-2 BCA ¶ 17374, 1984 WL 13424, 26 GC ¶ 326.
In my Guest Appearance at 24 N&CR ¶ 37, I analyzed the language and judicial interpretation of these provisions. The Civilian Board of Contract Appeals and the ASBCA interpreted the first prong-“a percentage of contract price reflecting the work performed”-as requiring payment for completed deliverables or services at the contract price. Corners & Edges, Inc. v. Department of Health & Human Services, CBCA 762, 08-2 BCA ¶ 33961, 2008 WL 4359431; Red River Holdings, LLC, ASBCA 56316, 09-2 BCA ¶ 34304, 2009 WL 3838891, rev’d on other grounds and remanded, Red River Holdings, LLC, v. U.S., 802 F. Supp. 2d 648 (D. Md. 2011). The boards were split on the meaning of the second prong providing for recovery of reasonable charges resulting from termination.
The CBCA in Corners & Edges held that unamortized initial costs are recoverable under the second prong as reasonable charges resulting from termination, while the ASBCA in Red River Holdings, LLC held they are not. The ASBCA reasoned that since initial costs were incurred prior to termination, they did not result from the termination and are not recoverable under the second prong as a charge resulting from termination. The ASBCA rejected the contractor’s contention that payment of unamortized initial costs was necessary for fair compensation as required by FAR 49.201 in traditional Government contracts.
My Guest Appearance at 24 N&CR ¶ 37 argues that Red River was wrongly decided by the ASBCA. The FAR 52.212-4(l) clause provides for recovery of charges rather thancosts resulting from termination. Although initial costs did not result from a termination, it is reasonable to charge for such costs if unamortized after the termination. The board’s interpretation is also contrary to the regulatory history of the provision at issue and the “fair compensation principle” requiring the Government to fairly compensate a terminated contractor.
Since Red River was a maritime case, it was appealed to the U.S. District Court in Maryland rather than to the U.S. Court of Appeals for the Federal Circuit. In Red River Holdings, LLC, v. U.S., 802 F. Supp. 2d 648 (D. Md. 2011), the district court took a step in the right direction by reversing the ASBCA decision and holding (1) initial cost are recoverable under prong 2 as reasonable charges resulting from termination, and (2) the “fair compensation” principle applies to FAR Part 12 commercial item contracts.
In SWR, Inc., the Army, using FAR Part 12 procedures for the acquisition of commercial items, awarded SWR a fixed-price requirements contract for storing motor vehicles. A competitor filed a Government Accountability Office protest staying performance and the Army took corrective action by terminating the contract for convenience. Prior to termination, the contractor incurred site preparation, personnel, travel, and other costs in preparation for performance. Relying upon the ASBCA’s opinion in Red River, the Army denied virtually all costs using a “heads I win, tails you lose” approach. According to the Army, such costs were not allowable under prong 1 based on physical completion because termination occurred prior to performance or under prong 2 as resulting from termination because the costs were incurred prior to termination.
Neither our decision in Red River initially construing FAR 52.212-4(1), the convenience termination clause for commercial item contracts, nor the decision on appeal in Red River of the district court which sets forth a differing interpretation of that clause, constitutes precedent that is “binding” in this appeal. The relevant part of our Red River decision was reversed during appellate review and thereby effectively vacated. Red River, 802 F. Supp. 2d at 648. . . . [W]hile the district court’s decision in Red River was binding on this Board under the law of the case doctrine for further proceedings in the Red River appeal, it does not constitute legal precedent “binding” on the panel in this appeal.
The first prong of the sentence providing for payment to the contractor of “a percentage of the contract price reflecting the percentage of work performed” prior to the termination notice, by its plain language, specifies a means for compensating the contractor for the work it has done before termination. The second prong of the sentence providing for payment to the contractor of “reasonable charges” the contractor can “demonstrate” “have resulted from the termination,” when read in conjunction with the first prong of the sentence relating to recovery for work completed, refers to the recovery of those charges incurred that “do not relate to work completed” but should be reimbursed to fairly compensate the contractor whose contract has been terminated.
This interpretation of the second prong. . . is supported by the language of related termination for convenience clauses. See Vazquez-Claudio [v. Shinseki], 713 F.3d  at 115 [(Fed. Cir. 2013)] (regulation language must be read in the context of related regulatory sections). FAR 52.212-4(1) has been referred to by some commentators as a “short form” termination clause because it sets forth a concise process or means by which a contractor whose contract has been terminated receives compensation. See, e.g., Ralph C. Nash & Paul J. Seidman,Postscript: Termination for Convenience of FAR Part 12 Commercial Item Contracts, Vol. 25, No. 8, NASH & CIBINIC REPORT 37 (2011). The FAR instruction (FAR 49.502(c)) for another termination clause commonly referred to as “short form” (FAR 52.249-4) also uses the term “charges” with no definition of that word. This Board, and others, have construed the word “charges” with respect to that short form convenience termination clause as referring to: start-up costs; unrecovered running expense; preventive maintenance; settlement charges; and other charges that are normally paid pursuant to a long form termination for convenience clause to fairly compensate a contractor. Carrier Corp., [GSBCA 8516,] 90-1 BCA ¶ 22,409 at 112,557; Am. Maint. and Mgmt. Servs., [ASBCA 19556,] 76-2 BCA ¶ 11,960 at 57,341; Trans-Student Lines, [ASBCA 20230,] 75-1 BCA ¶ 11,343, at 54,027; American Packers, [ASBCA 14275,] 71-1 BCA ¶ 8846 at 41,128. Both the Court of Claims and Federal Circuit have held that a reasonable and consistent government interpretation is to be given great weight. Santa Fe Engineers, Inc. v. United States, 801 F.2d 379, 381 (Fed. Cir. 1986); Honeywell, Inc. v. United States, 661 F.2d 182, 186 (Ct. Cl. 1981).
Relying on our decision in Red River, 09-2 BCA ¶ 34,304, which was reversed, the Army maintains that. . . SWR cannot recover the charges because they arose “in advance of the termination date” and, as a matter of law, “cannot be said to logically result” from the “later” contract termination. As discussed at length above, after extensive review of FAR 52.212-4(1), the case law concerning convenience terminations, and the statutory and regulatory framework for such terminations, we have concluded that our initial interpretation of the second prong of the third sentence of FAR 52.212-4(1) set forth in the Red Riverdecision, which was effectively vacated by the district court’s reversal and is not now binding on us, was incorrect. We construe the third sentence of FAR 52.212-4(1) as simply setting forth a more simple, straightforward method or process for ascertaining fair compensation for a commercial items contract terminated for the government’s convenience. Nothing in the language of FAR 52.212-4(1), or its authorizing statute, [the Federal Acquisition Streamlining Act], directs or suggests any deviation from the long-established rule of providing just or fair compensation to contractors who have had their contracts curtailed by the government under a convenience termination provision. The second prong of the third sentence, when read in the context of related clauses, refers to the recovery of unavoidable, reasonable charges incurred other than those relating to contract work completed (which was addressed under the first prong) that should be paid to fairly or justly compensate a contractor whose contract has been terminated.
In sum, this is one of those unique cases commentators have postulated in support of their criticism of the Red River district court’s characterization of the second prong of FAR 52.212-4(1) as simply a “safety valve.” See Nash & Seidman,Postscript: Termination for Convenience of FAR Part 12 Commercial Item Contracts, Vol. 25, No.8, NASH & CIBINIC REPORT ¶ 37 (unfair compensation may result from unnecessary language indicating recovery for reasonable charges resulting from termination under second prong is limited and not subject to an award of profit), (citing Red River, 802 F. Supp. 2d at 662, n.18). In the appeal before us, there can be no recovery under the first prong of FAR 52.212-4(1) because the Army terminated the contract for convenience before work was performed under that contract. The contractor therefore is limited by the plain language of the convenience termination clause to recovery under the second prong of the third sentence of FAR 52.212-4(1), which here will be the basis for the just or fair compensation that the contractor is entitled to receive.
The second prong, when read in conjunction with the first prong. . . relating to recovery for work completed, refers to the recovery of those charges incurred that “do not relate to work completed” but to work terminated and not performed that should be reimbursed to fairly compensate the commercial items contractor whose contract has been terminated. Indirect costs of G&A or home office overhead can be such a charge.
The board found that SWR proved an 11.8% G&A rate using QuickBooks, its standard recordkeeping system and was entitled to recover G&A expense on all costs “except with respect to settlement charges and profit.” SWR did not claim G&A expense on either settlement expense or profit. The board’s statement that G&A expense is not allowable on settlement expense and profit is dictum.
There is no basis for not allowing a contractor to recover G&A expense on settlement expense. Indirect costs on settlement expense are allowable under traditional Government contract under FAR 31.205-42(g)(iii) with a reduced indirect rate for normally indirect personnel charged directly. Not allowing a contractor to recover G&A expense on settlement expense deprives a contractor of fair compensation for the reasons stated by the board in rejecting the Army’s contention that G&A expenses are not allowable on FAR Part 12 contracts for the acquisition of commercial items.
It does not make sense to allow G&A expense on profit. G&A is applied to costs. Profit is a fee rather than a cost.
• Normally indirect costs charged directly. The Army argued that the contractor was attempting to recover costs twice by removing them from G&A expense and charging them directly. The board held that there was no double recovery because the costs charged directly were removed from the G&A expense pool reducing the G&A rate.
After a termination for convenience a contractor is often left in a position where normal treatment of its indirect costs will not result in fair compensation. Under such circumstances, indirect costs may be charged as direct costs under the “fair compensation” principle. Agrinautics, ASBCA 21512, 79-2 BCA ¶ 14149, 1980 WL 120474, 22 GC ¶ 200. When charging what would otherwise be indirect costs as direct costs a contractor must avoid double counting by removing the costs from indirect cost pools. See generally Seidman & Seidman, Maximizing Termination for Convenience Settlements/Edition II-Part I, BRIEFING PAPERS No. 08-03, at 7 (Feb. 2008), as well as Seidman & Seidman, Maximizing Termination for Convenience Settlements/Edition II-Part II, BRIEFING PAPERS No. 08-5 (Apr. 2008).
SWR can be used to rebut auditor contentions that when a cost is removed from an indirect cost pool and charged directly, similar costs must also be removed in calculating the applicable indirect rate. SWR firmly establishes that only the costs removed from indirect cost pools and charged directly need be removed from the indirect cost pool.
“Standard commercial practice” is set forth in the [Uniform Commercial Code], which has been adopted in 49 states. UCC § 2-708(2) states that “the measure of damages [for cancellation by the buyer includes]. . . the profit (including reasonable overhead) which the seller would have made from full performance by the buyer.” Both costs unavoidably continuing after termination and profit on all costs incurred are recoverable under UCC § 2-708(2).
Standard commercial practice as reflected in UCC § 2-708(2) is for payment of anticipatory profit-the profit (including reasonable overhead) which the seller would have made from full performance by the buyer.” (Emphasis added.) A terminated contractor is not entitled to anticipatory profit under a traditional Government contract, FAR 49.202.
In Commercial Item Terms and Conditions: Neither Fish Nor Fowl, 10 N&CR ¶ 61, Professor Cibinic criticized the inclusion of a termination for convenience clause in FAR Part 12 commercial item contracts as inconsistent with standard commercial practice. However, if anticipatory profits are recoverable under the commercial items formula, there would be no inconsistency.
The court concludes that a contractor is not entitled to profit under the second prong because it may be able to recover some profit under the first prong. The first prong entitles a contractor to the percentage of contract price reflecting the percentage of completion.
The court justifies its position based on its characterization of the second prong as a “safety valve.” This is the court’s characterization. It has no basis in statute, legislative history, regulation, rulemaking history, or logic.
Prong two is not a mere “safety valve.” Rather, it is the primary source of the net recovery to a terminated contractor. All that prong one does is restate the right to be paid for completed work at the contract price. It is irrelevant to the termination because the contractor is entitled to such amount under the paragraph (i) “Payment” term of the FAR 52.212-4 “Terms and Conditions-Commercial Items” clause irrespective of whether the contract is terminated for convenience.
• Proof of Costs. The second prong for recovery in the FAR 52.212-4(l) provides for recovery of “reasonable charges the Contractor can demonstrate to the satisfaction of the Government using its standard record keeping system, have resulted from the termination” (emphasis added). FAR 12.403(d) does not require that proof be to the Government’s satisfaction or that a contractor prove its costs using its standard recordkeeping system.
Accordingly, to recover fabric structure cost here, SWR must at a minimum show “using its standard record keeping system” that it actually incurred such cost. We agree with the Army that SWR has not made that showing here.
While SWR appears to suggest we are free to accept the testimony of [SWR’s vice president] that a $6 million purchase of fabric structures occurred here between SWR and [a subcontractor] and simply make such a finding, SWR’s suggestion contravenes the express language of the convenience termination clause of its contract. Under the clause, a contractor is entitled to payment of charges it can “demonstrate to the satisfaction of the Government using its standard record keeping system,” not any charges asserted under oath by a company official.
The majority opinion states that even if the board could consider SWR’s vice president’s testimony as proof it would come to the same result because his testimony was not credible.
Judge Melnick’s opinion concurring in part and dissenting in part criticizes the majority opinion for limiting proof of costs by a contractor’s standard recordkeeping system. Judge Melnick stated such a limitation on proof is unfair and an improper interpretation when the FAR 52.212-4 clause is read in the context of FAR 12.403(d).
• A Well-Reasoned Opinion With Questionable Dictum. The SWR majority opinion by Judge Hartman is an excellent primer on the evolution of terminations for convenience and the acquisition of commercial items under FAR Part 12. It is well reasoned. I agree with its conclusions with the exception of its gratuitous statements that G&A expense is not allowable on settlement expense and anticipatory profits are not recoverable. Such statements on matters not at issue in the case are dictum that is not binding precedent. It is unclear what effect the ASBCA and other tribunals will give to these gratuitous statements in future cases.
TriRad concerned an Air Force contract for commercial flight simulators. The contractor delivered one flight simulator that the Air Force rejected. The Air Force terminated the contract for cause based on two failed inspections but subsequently converted the termination for cause to a termination for convenience. TriRad submitted a termination settlement proposal claiming partially completed simulators as initial costs under prong 1 based on percentage of completion. TriRad claimed storage costs and settlement expense under prong 2 as reasonable charges resulting from termination.
We conclude that the only reasonable interpretation of “a percentage of the contract price reflecting the percentage of the work performed prior to the notice of termination” is that it applies to all work performed including partially completed items on the production line at the time of termination. This interpretation establishes a simple mathematical calculation to arrive at compensation that does not require cost data required by Part 49. This is consistent with the language of FAR 52.212-4(1) and the stated intent behind Part 12. . . .
The methodology for calculating the percentage of the contract price due the contractor is straightforward, for each unit: (1) determine the percentage of completion at termination, and (2) multiply the percentage of completion times the contract price for that unit. Cost and payroll data is not required to prove percentage of completion as [Contracting Officer] Pritchett demanded. . . . The resulting amount will increase the percentage of the price that represents profit, G&A and start-up costs relating to the work performed.
The board determined physical completion based on expert testimony at trial but excluded startup costs claimed by TriRad under prong 1 from its calculation.
• Proof of Reasonable Charges Resulting From Termination. The Air Force contended that TriRad could not recover costs claimed under prong 2 as reasonable charges resulting from termination because it did not prove such costs “to the government’s satisfaction” as required for recovery. TriRad claimed storage costs and settlement expense under prong 2. The board disallowed some storage costs because TriRad did not mitigate expenses but allowed the recovery of all claimed settlement expense. The board allowed TriRad to recover under prong 2 the startup costs held not recoverable based on physical completion under prong 1.
Under prior cases, the percentage of completion was interpreted as requiring payment for completed deliverables at the contract price. These cases are unlikeTriRad because there were no partially completed deliverables. As I discussed in 24 N&CR ¶ 37, recovery based on such an interpretation under a commercial item contract is a rough equivalent of that for a traditional Government contract. In each case, the contractor receives payment for completed work at the contract price plus costs resulting from termination.
TriRad departs from this approach. Part of a contractor’s price is profit. Recovery of the percentage of contract price for partially complete items will in some cases result in recovery of what would be anticipatory profit if the cost of performance were claimed under prong 2.
Westlaw. © 2015 Thomson Reuters. No Claim to Orig. U.S. Govt. Works.

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