Government Procurement in Times of Fiscal Uncertainty
Released: 2013-05-09T00:00:00

Introduction

The federal procurement process (i.e., the process whereby agencies obtain goods and services from the private sector) requires funding. Contractors are generally paid using appropriated funds, and agency personnel—who are generally also paid with appropriated funds—are responsible for entering and administering contracts on the agency's behalf. The use of appropriated funds to finance contract performance and/or administration means that federal contracts may be affected by actual or potential funding gaps or shortfalls, such as could arise from a failure to raise the debt limit, budget cuts, or sequestration, all of which have been topics of wide-spread congressional and public interest during recent years. While these occurrences are distinct in their causes and their effects upon federal procurement, as Table 1 illustrates, all prompt similar questions about what the government must or may do when confronted by a lack of funds, and how contractors could be affected by potential government actions.

This report provides an overview of the various options that the government has, pursuant to contract law or otherwise, when confronted with actual or potential funding gaps, funding shortfalls, or budget cuts. It begins by considering the legal principles underlying the government's generally broad rights not to incur new obligations (e.g., by canceling solicitations or declining to exercise options). The report then addresses the contractual and other rights that the government may exercise under existing contracts (e.g., changing certain terms of the contract or altering the performance period). Overall, these rights are comparatively well established. However, as the report concludes, the effects of the exercise of these rights upon contractors and, particularly, upon federal spending on procurement contracts are less clear and generally would depend upon the facts and circumstances of individual cases. The report does not address changes in contract policy that could also occur in response to funding shortfalls, nor does it address the effects that exercising certain of the rights noted here might have upon agency programs.

General Principles

In thinking about the government's contractual and other legal rights in this area, it helps to keep in mind the ways in which government contracts are—and are not—like other contracts. In many ways, federal procurement contracts are like other contracts between private parties, notwithstanding the fact that certain terms of these contracts are required by law. Like other contracting parties, the government generally has a duty to perform largely as specified in the contract, absent modification, excuse, or discharge of its obligations. Also like other contracts, government contracts are construed in light of the parties' intent, and the parties' intent could potentially be found to be contrary to the literal meaning of the contract. For example, a contract that purports to be a fixed-price contract (i.e., a contract whereby the contractor agrees to supply certain goods or services to the government at a predetermined price) could be found to be a cost-reimbursement contract (i.e., a contract that provides for the government to pay the contractor, at a minimum, allowable costs incurred in performing the contract up to a total cost specified in the contract) because other terms of the contract indicate that this was the parties' intent. Similarly, as with other contracts, certain implied duties, such as the duty of good faith and fair dealing, will be read into federal procurement contracts even when they are not express terms of the contract. Such duties could potentially become important where changes to existing contractual obligations, like those discussed below, are involved because one of the implied duties that contracting parties generally have is mitigating the damages they incur due to the other party's conduct. In addition, like other contracting parties, the government and/or government contractors could potentially waive certain terms of the contract, or their failure to perform could be excused.

Certain standard terms of federal procurement contracts, discussed below, do permit the government to take certain actions that could potentially give rise to liability for breach under the common law of contracts. For example, the various changes clauses—allowing the government to unilaterally change certain terms of the contract —run contrary to the general rule that modifications to a contract must be bilateral. However, to the degree that these rights arise from terms of the contract, private parties could, and sometimes do, enter contracts granting themselves such rights. Perhaps the best example of this is the clause allowing the government to terminate the contract for its convenience, which the Federal Acquisition Regulation (FAR) requires to be included in all federal procurement contracts. Termination for convenience clauses are also used in contracts between private parties to give the parties some flexibility as to the quantity of goods or services delivered under the contract, as well as limit the scope of potential liability under the contract. Such clauses are necessary, particularly in private contracts, to avoid the operation of the general rule that a buyer who informs a seller that he does not intend to purchase certain goods or services provided for in a contract has anticipatorily repudiated, or breached, the contract and is liable for damages, potentially including anticipatory profits and consequential damages. Anticipatory profits are profits that the non-breaching contractor would reasonably have realized had the contract been performed. Consequential damages are damages that, while not a direct result of the breach, are a consequence of it.

There are, however, several ways in which government contracts differ from other contracts precisely because the government is the sovereign. One way is that certain standard contract terms, such as the clause allowing the government to terminate the contract for its convenience, will be read into contracts from which they are lacking. The grounds upon which this is done, and potentially also the types of clauses that will be read in, have arguably shifted over time. The most recently articulated grounds for doing so are that (1) the clause represents a "deeply ingrained strand of public procurement policy," and (2) federal regulations can "fairly be read" as permitting the clause to be read into the contract because they require agencies to incorporate the clause in their contracts. However, courts had previously held that termination for convenience clauses, in particular, should be read into government contracts because the government should be given broad latitude to act in the "public interest. " Another way in which government contracts differ from other contracts is that, in certain cases, the government could avoid liability for conduct that would otherwise give rise to liability for breach because it acted in its sovereign capacity when it took the action. For example, in one recent case, the U.S. Court of Appeals for the Federal Circuit found that the government was not liable for damages incurred by a contractor after the government blocked the contractor's access to a construction site on a military base for 41 days following the terrorist attacks of September 11, 2001. According to the court, the government took this action in its capacity as a sovereign, and the action was not "specifically targeted at appropriating the benefits of a government contract."

Prospective Obligations

The government's rights are broadest where prospective contracts, or prospective obligations (i.e., definite commitments to spend appropriated funds) under existing contracts, are concerned. The Supreme Court has held that, "[l]ike private individuals and businesses, the Government enjoys the unrestricted power to produce its own supplies, to determine those with whom it will deal, and to fix the terms and conditions upon which it will make needed purchases." This generally means that the government may cancel a solicitation, decline to exercise an option under a contract, and not allot additional funding to cost-reimbursement contracts, even if the contractor has expended costs in preparing a bid or offer in response to the solicitation, or otherwise relied upon the expectation that the government would exercise the option, or allot additional funding. The contractor's ability to recover when the government opts not to incur new obligations is generally limited, although it is broader when the government does not allot additional funds to incrementally funded cost-reimbursement contracts than in other cases.

The Anti-Deficiency Act generally bars agencies from incurring new obligations during funding gaps by prohibiting the obligation of funds in excess or advance of appropriations. Agencies would generally not be similarly barred from incurring new obligations when the debt limit is not increased, or spending is cut, but they may voluntarily limit such obligations in order to reduce spending.

Canceling a Solicitation

Even if the government has already issued a solicitation (i.e., a request for interested persons to submit bids or offers to the government ), it generally has broad discretion to cancel the solicitation at any stage in the procurement process prior to award of the contract. The Federal Acquisition Regulation (FAR) expressly authorizes cancellation of solicitations in certain circumstances, although these circumstances differ depending upon the method of source selection (i.e., sealed bidding, negotiated procurement ) and the timing of cancellation, in the case of procurements conducted using sealed bidding. Pursuant to the FAR, agencies arguably have the broadest discretion in canceling solicitations in negotiated procurements, where cancellation will generally be upheld so long as there was a "reasonable basis" for it. However, even in the case of cancellations after bid opening in sealed-bidding procurements, where agencies have the least discretion, they arguably retain considerable discretion. While a "cogent and compelling reason" is required for cancellation after bid opening, judicial and other tribunals have found that the determination of whether a sufficiently compelling reason for cancellation exists is "primarily within the discretion of the administrative agency and will not be disturbed absent proof that the decision was clearly arbitrary, capricious, or not supported by substantial evidence." In practice, this means that agencies will generally prevail so long as they can articulate reasonable, supportable grounds for the cancellation. Such grounds can include changes in agency mission or operations, lack of funds, or deciding to perform the work in-house, any or all of which could occur in response to funding shortfalls or budget cuts. In contrast, a showing of bad faith or fraud on the part of the agency (e.g., canceling a solicitation to avoid an award to a specific offeror ) could result in a cancellation determination being found unreasonable and, thus, improper.

When cancellation is found to have been improper, the contractor could potentially recover its bid preparation and proposal costs (although not its protest costs). However, proving that cancellation was pretextual, in particular, can be difficult because public officials are presumed to act in good faith, and "[p]laintiffs must do more than assert what amounts to mere naked charges of arbitrary and capricious action." The fact that contractors may have incurred costs in responding to the solicitation does not, in itself, entitle them to any recovery in the event that the solicitation is canceled.

Declining to Exercise an Option46

An option is a "unilateral right in a contract by which, for a specified time, the Government may elect to purchase additional supplies or services called for by the contract, or may elect to extend the term of the contract." The FAR generally authorizes agencies to incorporate options in contracts whenever it is "in the Government's interest" to do so, and it provides several option clauses that could be used in agency contracts. While these clauses differ depending upon the nature of the option being exercised (e.g., to increase quantity, extend services, or extend the term of the contract), they all provide that the government may, by exercising the option within certain time frames prescribed in the contract, increase the quantity of goods or services purchased under the terms specified in the contract.

Because the decision to exercise an option rests solely with the government, the contractor is not entitled to recover any lost profits if the government decides not to exercise an option. This is true regardless of whether (1) the government decides to perform the work in-house; (2) the contractor's bid was based on the assumption that all of the maximum option quantity would be ordered; or (3) the government allegedly gave notice of its intent to exercise the option. One board of contract appeals (i.e., an administrative tribunal established to hear disputes between contractors and the government ) has suggested that a contractor might be entitled to some recovery if it can show that the government's decision not to exercise the option was made in bad faith, but few, if any, contractors appear to have prevailed in challenging the government's declining to exercise an option under this theory.

Not Allotting Additional Funds to Cost-Reimbursement Contracts

Cost-reimbursement contracts are contracts that provide for the government to pay the contractor, at minimum, any allowable, reasonable, and allocable costs incurred in performing the contract, up to a total cost specified in the contract. While the government is generally obligated to pay the contractor's costs up to the total specified in the contract, absent modification or termination of the contract, limitation of cost/limitation of funds clauses included in cost-reimbursement contracts expressly provide that the government is generally not obligated to pay costs in excess of this amount, although the contractor is not obligated to continue performance unless the government provides additional funds. Specifically, these clauses state that

Except as required by other provisions of this contract, specifically citing and stated to be an exception to this clause—

(1) The Government is not obligated to reimburse the Contractor for costs incurred in excess of (i) the estimated cost specified in the [contract] or, (ii) if this is a cost-sharing contract, the estimated cost to the Government specified in the [contract]; and

(2) The Contractor is not obligated to continue performance under this contract … or otherwise incur costs in excess of the estimated cost specified in the Schedule, until the Contracting Officer (i) notifies the Contractor in writing that the estimated cost has been increased and (ii) provides a revised estimated total cost of performing this contract.

The contractor is generally not entitled to have additional funds allotted to the contract unless it could not reasonably have known that its costs had exceeded the amount established in the contract. This is true even if the contractor and the agency anticipated increasing the amount of funds allotted, or the contractor's incurred costs exceed those originally anticipated. However, a contractor under an incrementally funded cost-reimbursement contract, subject to the limitation of funds clause, could potentially recover termination costs, discussed below, pursuant to the contract, if additional funds are not allotted. Termination is also possible with fully funded cost-reimbursement contracts. However, the limitation of cost clause distinguishes between termination and additional funds not being allotted to the contract, and provides for the equitable distribution of "all property produced or purchased under the contract" as the recovery in either case.

Existing Obligations under Contract

The existence of a contract between two parties (including the government) generally serves to constrain their options in so far as they are obligated to perform and/or pay as called for in the contract, absent modifications to the contract or special circumstances. While this general rule would seem to suggest that the government's options to reduce procurement spending are significantly more circumscribed with existing obligations under contracts than with prospective obligations, the government has broad contractual and inherent rights that give it some flexibility in responding to funding gaps, funding shortfalls, and budget cuts (e.g., by reducing the scope of the contract when there are budget cuts, or delaying performance in anticipation of a potential funding gap). In some cases, these rights reflect the type of contract used. For example, because indefinite-quantity contracts obligate the government to purchase only a minimum quantity of goods or services from the contractor, while allowing it to purchase more, the government could generally forgo purchases in excess of the minimum without incurring liability to the contractor. In other cases, the contract expressly or impliedly includes terms allowing the government to (1) change the scope of the contract, including the quantity of goods or services purchased under it, (2) delay or accelerate performance of a contract, or (3) terminate a contract, all without incurring liability for breach.

Limiting Orders Under Indefinite-Quantity Contracts65

Certain federal procurement contracts are known as indefinite-quantity contracts because they obligate the government to obtain an "indefinite quantity, within stated limits, of supplies or services [from the contractor] during a fixed period." Such contracts must provide for a minimum quantity of orders, which the contractor is assured of receiving, and they may provide for a maximum quantity of orders, orders in excess of which the contractor is generally not obligated to fulfill. However, contractors are not entitled to any orders in excess of the minimum quantity, even if the parties contemplated that the contract would result in additional orders, or the contractor incurs costs due to the lack of orders. This inherent flexibility as to quantity built into indefinite-quantity contracts could make such contracts promising vehicles for responding to funding shortfalls and budget cuts, in particular.

Provided that the contractor has obtained the minimum quantity of orders required under the contract, the agency would generally face no liability for failure to place additional orders with the contractor, per se, although it could be found to have violated the Federal Acquisition Streamlining Act (FASA) if the contract is a multiple-award contract, and the agency continues placing awards under the contract without giving the contractor a "fair opportunity to be considered" for such orders. A multiple-award contract is one awarded by a federal agency to multiple vendors, each of whom is eligible to receive orders under the contract or blanket purchase agreements placed against it. As amended, FASA generally requires agencies to provide contractors with a "fair opportunity to be considered" when they issue task or delivery orders valued in excess of $3,000, and specifies what constitutes a "fair opportunity to be considered" for orders valued in excess of $5.5 million. Thus, an agency arguably could not cease considering one specific vendor under a multiple award contract in the placement of orders on the grounds that it needs to cut spending, and has already ordered the minimum quantity from the vendor. Rather, the agency would need to partially terminate the contract.

Changes in Scope

Unlike indefinite-quantity contracts, other contracts generally obligate the federal government to purchase a fixed quantity of goods or services from the contractor (e.g., so many computers, so many hours of labor). Such contracts also specify the nature of the products or services to be provided (e.g., wedges composed of molded acrylonitrile butadiene styrene and light blue in color), as well as various other aspects of performance (e.g., time, place, and method of delivery). The general rule is that, absent special circumstances, parties are bound by the terms of their contracts, and one party cannot unilaterally decide that it will purchase fewer goods or services than were contracted for, or otherwise reduce the scope of the contract. Instead, the parties must bilaterally modify the contract. Such bilateral modifications have historically been the government's preferred method of modifying the terms of its contracts. However, changes clauses, discussed below, generally included in government contracts would permit the government to make certain unilateral modifications to a contract, either by reducing or increasing its scope.

While reductions in scope might be the most likely response to funding shortfalls or spending cuts, in particular, the government could also potentially increase the scope of certain contracts in order to compensate for reductions under other contracts, or for other reasons. The contractual basis for the government's right to make such changes is generally the same so long as the changes are within the scope of the contract. However, because major reductions are treated differently from other changes to the nature of the work, reductions and increases are discussed separately below. In either case, the government may need to compensate the contractor for the changed work, although the basis for and extent of such compensation could vary.

Reductions in Scope

Federal procurement contracts generally include changes clauses, which would permit the government to make certain reductions in the scope of the contract (e.g., purchase fewer goods or services than contracted for). Different versions of the changes clause are used in different types (e.g., fixed price ) and kinds (e.g. construction) of contracts. However, all variants of the changes clause provide that "[t]he Contracting Officer may, at any time, by written order, … make changes within the general scope of this contract" to certain terms of the contract, such as

the contract specifications, the method or manner of performing the work, any government-furnished property or services to be used in performing the contract, the method of shipping or packing, the place of delivery, the time of performance, for services, and the place of performance, for services.

In some cases, the changes clause applies only to changes to specifically enumerated terms of the contract, while in other cases, it is drafted so as to apply to terms of the same general type as those enumerated. However, "specifications" are included in every case, and this term has been construed broadly to encompass changes in quantity, as well as in certain other aspects of the work to be performed (e.g., product features). Changes are "within the general scope of the contract" when the parties should have "fairly and reasonably" contemplated them at the time when they entered the contract. Reductions that would not have been fairly and reasonably contemplated by the parties are generally treated not as changes, but as partial terminations for convenience, as discussed below.

In determining whether particular reductions in scope would have been fairly and reasonably contemplated by the parties at the time of contracting, the focus is largely upon the magnitude of the work deleted as compared to the total work. For example, deletion of a requirement that the contractor remove brick veneer from two walls of a building was found to be within the scope of the contract where the deletion involved only 400 square feet of the 1,600 square feet of bricks whose removal and replacement the parties had contracted for. The same was true of the deletion of 47 of the 48 hours of instructional services that a contractor was to provide as part of a contract for extensive repairs and improvements to a federal facility. In contrast, deletion of more than 73% of unit-priced electrical and telephone outlets from a contract for mechanical, electrical, and plumbing work at a federal facility was found to be beyond the scope of the changes clause, as was deletion of approximately 50% of the work on a contract for cleaning, inspecting, and coating the roofs of family housing units. As these examples suggest, while there is no "bright-line test" for determining when a change is within the scope of the contract, the greater the magnitude of the change, in comparison to the total work called for, the more likely it is that the change will be found to be beyond the scope of the contract. Likewise, deletions that go to the "heart" of the contractual bargain are more likely to be found to be beyond the contract's scope than are deletions of work that was arguably peripheral.

When reductions are within the scope of the changes clause, the government may be entitled to a downward adjustment in the contract price. All variants of the changes clause expressly contemplate such equitable adjustments by providing that

[i]f any such change causes an increase or decrease in the cost of, or the time required for, performance of any part of the work under this contract, whether or not changed by the order, the Contracting Officer shall make an equitable adjustment in the contract price, the delivery schedule, or both, and shall modify the contract.

Pursuant to this clause, the amount of any downward adjustment is measured by the net cost savings to the contractor. If the contractor saved costs because of the deletion, the deleted work is priced at the amount it would have cost the contractor to perform the deleted work. However, if the contractor realized no cost savings from the change, there will be no price reduction, and if the deleted work increased the contractor's costs, the contractor could be entitled to an upward equitable adjustment, as discussed below. This is true even if the contract price included greater costs than were necessary for performance of the changed work, since the purpose of an equitable adjustment is to maintain the basic profit or loss position of the parties before the change occurred. The fact that reductions in scope could potentially result in no reduction to the overall contract price (e.g., by increasing the costs of the work that is not terminated) could potentially complicate the government's efforts to respond to funding shortfalls by reductions under the changes clause. Because reductions in quantity or other aspects of the contract's scope would not necessarily result in reductions in overall contract price on all contracts, the government would arguably need to ascertain the effects of particular reductions upon contractors' costs under individual contracts.

Increases in Scope103

While reductions in scope may be the most likely response to funding shortfalls and budget cuts, increases in quantity could also be possible under certain contracts. The various changes clauses, discussed above, would generally accommodate such increases in scope, including quantity, so long as the work done in compliance with the change is "essentially the same work as the parties bargained for." In determining whether the work, as changed, is essentially the same work that the parties bargained for, the focus is primarily upon the nature of the work, and not the magnitude of the change (or the number of change orders). For example, changes requiring the contractor to use different and, in some cases, more expensive materials in building a hospital were found to be within the scope of a contract to construct a hospital because the completed hospital:

was in the same location, looked the same, had the same number of rooms and floors and the same facilities as the one shown on the original plans and specifications. Apart from the substitution of materials, it differed not at all from the building that had been contemplated when the contract was awarded.

Similarly, "extensive" changes to the details of a building, requiring over 50% additional performance time, were found to be within the scope of the contract because the resultant building was not substantially different from that contracted for. In contrast, a change requiring the contractor to provide a worldwide telecommunications system was found to be outside the scope of a contract to provide a telecommunications system in the Washington, DC, area. A change requiring the contractor to redesign part of a building was similarly found to be outside the scope of a contract calling for construction work. Increases in scope that fundamentally change the nature of what the parties contracted for, as in the latter two cases, are known as cardinal changes and constitute breaches of contract.

Much as the government may be entitled to a reduction in price when work is deleted, the contractor may be entitled to additional compensation when work is added. The basis for such compensation, however, depends upon whether the changes were within or beyond the scope of the changes clause. Where the work is within the scope of the changes clause, the contractor could potentially be entitled to an equitable adjustment if the change caused an increase in the cost of performing any part of the work under the contract. An equitable adjustment is a fair adjustment intended to cover the contractor's costs, as well as profit on the work performed. The amount of recovery is based upon the "difference between what it would have reasonably cost to perform the work as originally required and what it reasonably cost to perform the work as changed." If there was no increase in cost, then the contractor is not entitled to an upward adjustment, although it may be entitled to additional time to perform, as discussed below. If there is an increase in cost, the contractor could be entitled to an upward adjustment, although there are two potentially significant limitations upon the amount recoverable. First, the contractor is only entitled to those costs that a reasonable contractor in the contractor's situation would have incurred. It cannot simply assert that these were the costs it incurred, and therefore is entitled to, unless it can be established that it behaved reasonably—given its situation—in incurring these costs. Further, costs must generally be allowable (i.e., permissible) under the Cost Accounting Standards (CAS) in order to be recoverable. The CAS are a series of accounting standards originally issued by the Cost Accounting Standards Board to promote "uniformity and consistency" in "estimating, accumulating, and reporting costs in connection with the pricing, administration, and settlement" of certain federal contracts and subcontracts. The CAS generally only apply to cost-reimbursement contracts (i.e., contracts that provide for the government to pay the contractor, at a minimum, allowable costs incurred in performing the contract up to a total cost specified in the contract). However, the FAR requires that "applicable subparts" of the FAR pertaining to the CAS be used in pricing fixed-price contracts, subcontracts, and modifications to contracts "whenever … a fixed-price contract clause requires the determination or negotiation of costs."

When the changes are cardinal changes and the contractor does not accept the changes, the contractor could potentially recover damages for breach. In theory, this could mean (1) expectancy damages , or damages designed to give the injured party the benefit of the bargain; (2) reliance damages , or damages designed to compensate injured parties for their damages in performing the contract, or in anticipation of performance; or (3) restitutionary damages , or damages based on the amount of benefit conferred by the non-breaching party upon the breaching party. In practice, parties and courts generally do not explicitly identify claims for damages as belonging to one of these three types, at least not when addressing cardinal changes to government contracts, and contractors' actual recovery often resembles that under an equitable adjustment or termination settlement. For example, in one case where the government, among other things, doubled the length of the levee that the contractor was to construct, the court found that the contractor was entitled to recover damages in an amount equivalent to the costs of performing certain work required by the changes. In another case, the court found that the contractor was entitled to recover "damages as if the contract had been terminated for the government's convenience" where the government improperly terminated a contractor for default after it refused to perform as required by an order that constituted a cardinal change. However, in other cases, courts have awarded, or recognized an entitlement to, damages more like those typically awarded in breach of contract suits. Such awards have included anticipatory profits; "monetary damages not to exceed the cost of the contract;" and (3) direct losses due to the change, coupled with anticipated profits and overhead. The possibility that the contractor could recover anticipatory profits in the event of a cardinal change suggests that the government would need to exercise some caution in determining which contracts to add work to, or otherwise modify, in response to spending cuts or other budgetary issues. Contracts with arguably broader scopes might be the preferred vehicles for any such changes because there would be less likelihood that these changes would be beyond the contract's scope, and contractors are only entitled to an equitable adjustment when the changes are within the contract's scope. While contractors receiving equitable adjustments are entitled to profit, it is profit only on the work performed; it does not include anticipatory profit. Consequential damages are also excluded from equitable adjustments, but have seldom been recovered in suits against the government for breach in any case.

It should also be noted that certain contracts include terms that could obligate the contractor to perform even if the government breaches the contract by a cardinal change or otherwise. Such contracts include a variant of the disputes clause which provides that

[t]he Contractor shall proceed diligently with performance of this contract, pending final resolution of any request for relief, claim, appeal, or action arising under or relating to the contract , and comply with any decision of the Contracting Officer.

This clause avoids the operation of the general rule that the non-breaching party need not continue performance when the other party breaches the contract. However, contractors whose contracts are modified by changes within the scope of the contract must generally continue performance pending a formal change order, in the case of constructive changes (i.e., changes that are not ordered pursuant to the procedures established in the contract), or agreement upon the amount of any equitable adjustment. Failure to do so could result in their being terminated for default, as discussed below, or subjected to other sanctions under the contract (e.g., liquidated damages, excess costs of reprocurement).

Alterations in Performance Period

Alterations in the performance period (i.e., postponing performance or requiring performance more quickly than is required or permitted under the contract) is also possible in response to funding shortfalls and budget cuts. Because partial or complete performance of the contract's requirements by the contractor is often a precondition to payment, altering the time frame for performance could, in some cases, help the government control when funds are paid out. This could be helpful in the event that the debt limit were not increased, for example. Similarly, delaying or accelerating performance that would otherwise be scheduled to begin during a possible funding gap could also help avoid damages potentially incurred by any delays in accessing government facilities or property that a shutdown might cause.

On their face, such alterations in performance period might seem to fall within the scope of the changes clause, discussed above, because the performance schedule is part of the specifications, and specifications are included in all variants of the changes clause. Some alterations in performance period are, in fact, so treated, although generally only if the delay or acceleration is linked to a change in the work performed. Otherwise, "pure delays" are handled under a number of other, more specific, clauses which could permit the contractor to recover certain costs arising from the delay and/or additional time to perform, free from sanctions for late performance.

Postponing Performance

There are three standard contract clauses addressing the compensability of government-caused delays in contractor performance that could potentially appear in government contracts. These clauses differ in the types of contracts in which they are used and in their specific provisions as to the recoverability of particular costs. One of these clauses—the suspension of work clause—applies only to construction contracts, and authorizes the contracting officer to order the contractor to suspend, delay, or interrupt "all or any part of the work of this contract for the period of time that the Contracting Officer determines appropriate for the convenience of the Government." The clause further provides that the contractor is entitled to an adjustment for any increase in the cost of performing the contract if performance of "all or any part of the work" is suspended, delayed, or interrupted for an "unreasonable period of time" by (1) an act of the contracting officer in the administration of this contract, or (2) the contracting officer's failure to act within the time specified in this contract (or within a reasonable time, if a time is not specified in the contract). Adjustments pursuant to this clause generally cover costs incurred due to the suspension, although the contractor has a duty to mitigate its damages. Allowance for profit, however, is expressly excluded from adjustments pursuant to the suspension of work clause. The clause also does not make any provision for the contractor to receive an adjustment in schedule as a result of the government-ordered delays, which means that contractors would generally need to seek such an extension under one of the "excusable delay" provisions, discussed below. In addition, the clause expressly provides that it does not apply to any suspensions, delays or interruptions for which an equitable adjustment is "provided for or excluded under any other term or condition of the contract."

When contracts other than construction contracts are involved, two different clauses could apply, depending upon whether the delay is ordered (i.e., made pursuant to the notice procedures required under the contract) or constructive (i.e., not made pursuant to such procedures). The stop-work order clause permits the contracting officer "stop all, or any part, of the work called for by this contract for a period of 90 days after the order is delivered to the Contractor, and for any further period to which the parties may agree." This clause applies only to ordered delays, in part because it requires that any such "order[s] shall be specifically identified as … stop-work order[s] issued under this clause." The delay need not be "unreasonable," as with the suspension of work clause. After 90 days (or any extension of time agreed to by the parties), the stop-work order shall be canceled, or the work covered by the order shall be terminated for default or convenience, as discussed below. If the work is resumed, the contractor is entitled to an equitable adjustment in contract price and/or delivery schedule to cover the costs allocable to the work covered by the order during the period of work stoppage. Equitable adjustments include allowance for profit, unlike adjustments under the suspension of work clause. Also unlike the suspension of work clause, the stop-work order clause does not expressly exclude delays for which equitable or other adjustments are provided or excluded under other terms of the contract.

The government delay of work clause, in contrast, applies to constructive delays under contracts for goods and services (other than construction). It provides that, if the performance of "all or any part of the work of this contract" is delayed or interrupted due to (1) an act of the contracting officer that is not expressly or impliedly authorized by the contract, or (2) the failure of the contracting officer to act with the time specified by the contract (or within a reasonable time, if no time is specified), the contractor is entitled to an "adjustment" to the contract price, the delivery or performance date, and/or "any other contractual term or condition affected by the delay or interruption." Because this is an "adjustment," and not an "equitable adjustment," no allowance is made for profit. The clause also expressly provides that it does not apply to any delays "for which an adjustment is provided or excluded under any other term or condition of this contract."

Depending upon the circumstances, these three clauses could potentially allow contractors to recover certain costs associated with government-caused delays, such as might result from funding gaps or shortfalls. However, the use of such clauses is optional in certain contracts, unlike with the variants of the changes clauses, discussed above, which are generally required. While one board of contract appeals (i.e., an administrative tribunal established to hear disputes between contractors and the government ) has found that, in the absence of a clause giving government the right to order a suspension of work, the government has the inherent right to do so, the general rule appears to be that in the absence of a contract clause dealing with the suspension of work, the contractor is generally not entitled to compensation for delays unless they are the fault of the government. When the delay is compensable, the contractor can generally recover those costs that resulted from the lack of productivity during the period of delay, including the costs of performing otherwise unnecessary work, altering the sequence of its operations, using inefficient methods of performance, working in later time periods, etc. However, it is important to note that the contractor is required, whether as an express or implied term of the contract, to mitigate its damages in the event of delay. This means that the contractor may need to seek alternate work, give workers other things to do, etc., in order to recover its costs. If it fails to do so, the amount of its recovery could be reduced. In addition, the government could potentially avoid liability for certain costs because it acted in its sovereign capacity. For example, in Contractors Northwest, Inc. , the Department of Agriculture Board of Contract Appeals denied the contractor's claim for damages allegedly resulting from a 39-day suspension of work due to a fire on the grounds that the government acted in a sovereign capacity when it suspended work. While the government may be unlikely to act in a sovereign capacity when it orders a delay due to budget issues, it is possible that budget issues could prompt changes in government programs or operations that could constructively delay work, in which case the "sovereign acts doctrine" could potentially be relevant.

However, even in situations where the contractor is not entitled to compensation for a government-caused delay, it could potentially be entitled to additional time to perform its obligations under the contract. Federal procurement contracts can include a number of "excusable delay" provisions that allow the contractor to avoid the potentially severe consequences for late performance provided for in the contract (e.g., termination for default) when their performance is delayed due to certain causes specified in the contract. "[A]cts of the Government in either its sovereign or contractual capacity" are invariably among the causes listed. While such clauses may have limited applicability in the case of delays ordered for budgetary reasons, they could potentially come into play if contractors' performance is constructively delayed due to budget-related changes in government operations, for example.

Acceleration of Performance

While postponing performance is one possible response to funding shortfalls and budget cuts, another possible response is accelerating or speeding up performance, so as to complete it before a possible funding gap occurs, for example. Actual acceleration occurs when an agency expressly requires a contractor to complete some or all of the work sooner than required under the contract. Constructive acceleration , in contrast, occurs when an agency effectively requires a contractor to speed up work to meet the current contract schedule in the face of excusable delays. Acceleration is generally treated as a change under the changes clause. Some changes clauses address this explicitly. In other cases, courts and boards of contract appeals have found that the performance schedule is part of the contract's specifications, which are included in all variants of changes clause. The contractor could potentially also recover under the suspension of work clause if costs were incurred in mitigation of a government-caused delay, but the work was not changed.

Termination and Cancellation of the Contract

In addition to changing or delaying performance under the contract, the government could also terminate or cancel the contract in response to funding shortfalls or budget cuts. Terminations can be of two types—based on the contractor's default, or for the government's convenience—depending upon the circumstances, and some commentators have suggested that the government may be more assertive in exercising its right to terminate on both grounds in light of sequestration. Government contracts grant the government the right to terminate its contracts for either default or convenience, but the government has also been found to have an inherent right to terminate contracts for its convenience, regardless of whether the contract provides for this right. But for these contractual and/or inherent rights, the government could potentially be found liable for breach, even if the termination were based on the contractor's default (i.e., breach). While the common law of contracts does permit a party to cease performance when the other party anticipatorily repudiates or materially breaches the contract, that party does so at the risk of being incorrect as to whether repudiation or a material breach occurred. However, the government avoids the operation of this principle by providing, as a term of its contracts, that any termination for default found to be improper will be converted into a termination for convenience. Recovery in the event of a termination for convenience is generally less than that for breach. Termination differs from cancellation primarily in that cancellation occurs between years on a multi-year contract, whereas termination can occur at any time on multi-year or other contracts.

Terminations for Default

A termination for default occurs when the government exercises its contractual right to terminate a contract, in whole or in part, due to the contractor's failure to perform its obligations. It does not automatically occur when the contractor is in default; rather, the contracting officer must affirmatively determine that the contract should be terminated for default, and that it is in the government's interest to do so. For a fixed-price contract, the FAR lists factors that the contracting officer must consider, including the contractor's specific failure and any excuses for it, as well as the urgency of the need for the supplies or services and the time it would take to get them from someone else. If a termination for default is found to be improper for any reason, it will generally be treated as a constructive termination for convenience, which would allow the contractor to recover under the termination for convenience clause, as discussed below.

When the termination for default is proper, the contractor is generally entitled to some recovery, although the basis and amount of the potential recovery differ depending upon the type of the contract. For example, the standard default clauses for fixed-price contracts generally provide that the amount the contractor may recover is the contract price for completed supplies or work, as well as certain other costs (e.g., for materials and protection or preservation of property). The clauses generally allow the government to charge the contractor with the excess costs of any reprocurement, or to recover common law damages. In contrast, the standard default clause for a cost-reimbursement contract permits the contractor to recover allowable costs plus any fee. The allowed fee will generally be proportionate to the portion of the contract that was actually completed. Furthermore, in the event of a partial termination, the standard clause requires the contracting officer and contractor to agree to any equitable adjustment for the fee for the continued (i.e., non-terminated) part of the contract.

Terminations for Convenience

Under the standard termination for convenience clauses, the government has the unilateral right to terminate contracts when it is in its interest to do so. The government has broad discretion to terminate a contract for convenience, although it may not do so in bad faith or abuse of discretion. As with terminations for default, the contractor is generally entitled to some recovery, although the basis and extent of recovery differ depending upon the type of contract, as discussed below. As a rule, however, contractors recover more in the event of terminations for convenience than in terminations for default.

Under the standard long-form termination for convenience clause for fixed price contracts, the contractor is entitled to recover its allowable costs, as well as a reasonable profit. The FAR provides that standard cost principles are to be used when determining the allowability of settlement costs, subject to the general principle that the purpose of a termination settlement is to "fairly compensate" the contractor (i.e., the principles will not be strictly applied). In the event of a partial termination, the standard clause provides that the contractor may file a claim for an equitable adjustment of the prices under the contract's continued portions (i.e., "reprice" the non-terminated part of the contract), out of recognition that a partial termination could increase the costs to the contractor of performing the remaining parts of the contract. The standard clause does not allow the contractor to recover anticipatory profits. Furthermore, a contractor is generally not allowed to recover any profit if the contract would have been performed at a loss. Rather, the government may adjust the termination settlement to account for the loss, thus reducing the contractor's recovery.

Similarly, the standard termination clauses for cost-reimbursement contracts generally provide that the contractor may recover allowable costs plus a fee, if any. In the event of a partial termination, the termination contracting officer is required to "limit the settlement to an adjustment of the fee, if any, and with the concurrence of the contracting office, to a reduction in the estimated cost."

Cancellation of Multi-Year Contracts

While the prototypical federal contract is for one year (potentially extended to five years through the exercise of options ), certain contracts are multi-year contracts in that their term extends for more than one year without the government having to establish and exercise an option for each program year after the first. Because authority to contract is distinct from the availability of appropriations, and appropriations are generally annual, multi-year contracts contain clauses that generally authorize the government to cancel the contract if "funds are not available for contract performance for any subsequent program year," or if the contracting officer "fails to notify the Contractor that funds are available for performance of the succeeding program year requirement." The government generally has broad discretion as to the use of any available funds. However, multi-year contracts are viewed as "single, indivisible entities," and the government could be found to have partially terminated the contract for convenience, as discussed above, if it awards a new contract for goods or services similar to those provided for in a multi-year contract that was canceled for lack of funds. The rationale for this is that the "contract binds the Government to purchase the entire multi-year procurement quantity and to fund successive Program Years. This obligation is mandatory unless there is an appropriate and justified cancellation or the bona fide unavailability of funds."

When the government does properly exercise its right to cancel a multi-year contract, the contractor is generally paid a "cancellation charge." This charge covers:

(1) costs (i) incurred by the Contractor and/or subcontractor, (ii) reasonably necessary for performance of the contract, and (iii) that would have been amortized over the entire multiyear contract period but, because of the cancellation, are not so amortized, and

(2) a reasonable profit or fee on the costs.

This charge generally cannot exceed the "cancellation ceiling" specified in the contract. The cancellation ceiling represents the maximum amount that the contractor may recover (although the contractor will not necessarily recover this amount). The ceiling is lowered each year to exclude amounts allocable to items included in the prior year's program requirements.

Concluding Observations

The contractual and other rights that the government could exercise in modifying procurement spending in light of funding gaps, funding shortfalls, or budget cuts are arguably well-established. Determining what the exercise of these rights might mean for federal contractors and, particularly, federal spending on procurement contracts is, in contrast, less clear for multiple reasons. First, individual contracts could contain specific terms that are contrary to the standard terms discussed here, and that would generally be found to prevail over the standard terms. For example, while the suspension of work clause, discussed above, would generally not allow contractors to recover costs resulting from the impact of a government-caused delay upon the vendor's other contracts, some contracts have expressly allowed for such costs. Second, there is incredible variation in the types, terms, and performance of individual contracts, and in how particular government actions might affect the contractors' costs and/or schedule. Two contractors performing apparently identical functions for an agency could potentially be doing so under fundamentally different contracts, and the same agency action (e.g., reductions in scope, issuance of a stop-work order) could have profoundly different effects upon them depending upon how they planned to perform, where they are in the course of performance, and other aspects of their business operations (e.g., availability and desirability of other work). Relatedly, the government often has multiple ways, pursuant to its contracts, to get to the same outcome (e.g., a reduction in the quantity of goods or services to be supplied under the contract). Depending upon the circumstances, it could potentially be more beneficial to treat such a reduction as a partial termination for convenience or as a change, and the government has some discretion in determining how to proceed, provided the change is "minor." Finally, government contracts are subject to interpretation by various courts and boards of contract appeals, which have had differing opinions on various questions, such as whether contingent costs may be recovered as part of an adjustment.

In short, individual contractors could be more or less affected by individual government actions in this area, depending upon the terms of their contract, the course of performance, the nature of the government action, and the tribunal hearing their case, among other things. The government's spending upon procurement contracts could similarly be more or less affected, depending upon how it exercises its rights. For example, reductions in scope effectuated pursuant to the changes clause might or might not lead to savings, depending upon the effects that the reductions have upon contractor costs. If reductions could be targeted to contracts where contractors' costs would decrease due to the reduction, the government could potentially realize savings through reductions. If, however, the reductions were not so targeted, the government might save nothing, or even incur higher costs on particular work.