Court Opinion

ID: 2652014
Source: CourtListenerOpinion
Date Created: 2014-02-03 16:14:13.796231+00
Date Added: 2024-06-11T09:10:37.837934
License: Public Domain

United States Court of Appeals
      for the Federal Circuit
                ______________________

   KELLOGG BROWN & ROOT SERVICES, INC.,
             Plaintiff-Appellant,

                           v.

                  UNITED STATES,
                  Defendant-Appellee.
                ______________________

                      2013-5030
                ______________________

    Appeal from the United States Court of Federal
Claims in No. 09-CV-0428, Judge Christine O.C. Miller.
                 ______________________

               Decided: February 3, 2014
                ______________________

    HERBERT L. FENSTER, McKenna Long & Aldridge LLP,
of Denver, Colorado, argued for plaintiff-appellant. With
him on the brief were JAMES J. GALLAGHER and PHILLIP R.
SECKMAN.

    J. REID PROUTY, Senior Trial Counsel, Commercial
Litigation Branch, Civil Division, United States Depart-
ment of Justice, of Washington, DC, argued for defendant-
appellee. With him on the brief were STUART F. DELERY,
Acting Assistant Attorney General, JEANNE E. DAVIDSON,
Director, and BRYANT G. SNEE, Deputy Director.
                  ______________________
2                     KELLOGG BROWN & ROOT SERVICES   v. US

    Before MOORE, CLEVENGER, and REYNA, Circuit Judges.
REYNA, Circuit Judge.
    Kellogg Brown & Root Services, Inc. (“KBR”) appeals
a decision by the United States Court of Federal Claims
awarding KBR recovery of $6,779,762 out of $12,529,504
in costs incurred while providing services to the United
States Army in Iraq. Kellogg Brown & Root Servs., Inc. v.
United States, 107 Fed. Cl. 16 (2012). For the reasons
below, we affirm.
                        BACKGROUND
    KBR and the Army entered into Contract No.
DAAA09-02-D-0007 (the “LOGCAP III contract”) on
December 14, 2001, in connection with the United States’
Logistics Civil Augmentation Program.         Under the
LOGCAP III contract, KBR agreed to provide logistics
support services during Operation Iraqi Freedom as
directed by the issuance of individual task orders (“TO”).
The present dispute relates to costs incurred under two
such task orders, TO 59 and TO 89, which required KBR
to provide, install, operate and maintain dining facility
services near Mosul, Iraq, at a site known as H4. TO 59
issued on August 12, 2003, and had a period of perfor-
mance from June 13, 2003, to April 30, 2005. TO 89,
which continued TO 59, commenced on April 29, 2005,
with performance beginning on May 1, 2005.            The
LOGCAP III contract is primarily a cost-plus-award-fee 1
arrangement, and both TO 59 and TO 89 also provided
that KBR would be compensated on a cost-plus-award-fee
basis.

      1 Under a cost-plus-award-fee contract, which is a
type of cost-reimbursement contract, a contractor is paid
for all allowable costs incurred in contract performance
plus an additional fee based upon the contractor’s perfor-
mance.
KELLOGG BROWN & ROOT SERVICES    v. US                    3

     KBR selected ABC International Group (“ABC”), a
subcontractor, to provide the services required under TO
59 and TO 89. Pursuant to the subcontract KBR awarded
to ABC on March 8, 2004 (the “SK 465 subcontract”), ABC
agreed to build a Kirby-style (prefabricated metal) dining
facility at the H4 site and to provide dining services for a
camp population of 2,573. The SK 465 subcontract had an
initial period of performance of March 8, 2004, through
June 12, 2004, with an optional period of performance
from June 13, 2004, through June 12, 2005.
    Although the cost for the initial period of performance
was a fixed lump sum, ABC quoted monthly prices for the
optional period according to three 1000-person numerical
ranges or “headcount bands.” Under each headcount
band, ABC listed monthly costs for dining equipment,
refrigeration units, generators, lease-to-purchase 2 of the
dining facility, labor and consumables. The total monthly
cost for the upper headcount band (3,501-4,500) was
$977,935; the total monthly cost for the middle headcount
band (2,501-3,500) was $869,735; and the total monthly
cost for the lower headcount band (1,500-2,500) was
$803,100. The middle headcount band was intended to
encompass the target population (2,573), while the upper
and lower bands were created as a pre-priced option that
would be implemented, upon approval from the Army, to
address fluctuations in the number of troops.
    In June 2004, the Army ordered KBR to stop con-
struction of the Kirby-style facility and begin construction
of a dining facility made of reinforced concrete. The Army
also increased the estimated headcount from 2,573 to
6,200+ persons. Instead of requesting bids for the new

   2     The total cost of building the dining facility was
calculated based upon a 12-month lease-to-purchase
arrangement pursuant to which ownership of the dining
facility would pass to the Government after 12 months.
4                     KELLOGG BROWN & ROOT SERVICES    v. US

work, KBR decided to keep ABC as the subcontractor for
the H4 site due to the urgency of the Army’s request and
to avoid incremental costs associated with switching
subcontractors. Accordingly, KBR directed ABC to pre-
pare a proposal for a reinforced concrete dining facility
with capacity for 6,200+ troops.
    ABC submitted its proposal on June 27, 2004, again
providing prices in three headcount bands. As relevant
here, the new total monthly cost for the middle headcount
band (5,501-6,500) totaled $2,706,600, roughly triple the
monthly cost initially quoted for the original middle
headcount band (2,501-3,500). In a follow up to its pro-
posal, ABC attributed the increased costs to the need to
provide additional labor and equipment to serve a larger
population and to the “drastic increase in the cost of labor
and a severe shortage of available staff who are willing to
work in Iraq.” 3
     Jamal Nasery, Subcontract Administrator Team
Leader, reviewed ABC’s proposal and prepared a Price
Negotiation Memorandum justifying the increased prices.
The parties acknowledge that the Price Negotiation
Memorandum was analytically flawed because Mr.
Nasery calculated an erroneous benchmark against which
to measure the reasonableness of ABC’s proposal. Specif-
ically, Mr. Nasery took the originally competed rates from
the SK 465 subcontract and doubled both the monthly
cost (from $869,735 to $1,739,470) and the cost per person
(from $248.50 to $496.99). This error had the effect of
quadrupling the estimated cost that served as the bench-
mark to compare against ABC’s proposal. Mr. Nasery
thus concluded that ABC’s proposed pricing was reasona-
ble when compared to the original SK 465 prices.

    3  The Army prohibited KBR from employing Iraqi
nationals to work in dining facilities in Iraq.
KELLOGG BROWN & ROOT SERVICES    v. US                     5

    KBR’s management reviewed and approved Change
Order 1, embodying ABC’s proposal, pursuant to KBR’s
“greensheet-approval process.” Specifically, Thomas R.
Donley, DFAC Procurement, Material, and Property
Manager for Iraq and Kuwait, and his supervisor Tom
Quigley, reviewed Mr. Nasery’s actions regarding Change
Order 1, including the Price Negotiation Memorandum.
They concluded that the increased expenditure was
sufficiently justified and approved Change Order 1, which
was executed on July 17, 2004. Mr. Donley later testified
that Mr. Nasery’s price justification “lacked lots of details
that in hindsight should have been included and they
weren’t there.” Change Order 1 was made effective June
13, 2004—the beginning of the option period—and KBR
retroactively applied the new cost to billings starting on
that date. On June 12, 2005, performance of the subcon-
tract ended and title to the reinforced concrete dining
facility passed to the Army.
    In 2007, the Defense Contract Auditing Agency
(“DCAA”) suspended payment of certain costs paid by
KBR to ABC pursuant to Change Order 1. KBR provided
to DCAA the original price justification and also prepared
a new price justification for the concrete dining facility.
Based on the cost of building similar facilities in Jordan
and Iraq, the new price justification estimated a total cost
of $6,781,224 for the dining facility, thus concluding that
the price paid pursuant to Change Order 1 ($6,792,000)
was “fair and reasonable.” Despite the price justifications
submitted by KBR, DCAA still disapproved reimburse-
ment of $12,529,504 KBR paid to ABC for equipment, the
dining facility, labor and consumables. 4
    On July 20, 2009, KBR filed suit in the Court of Fed-
eral Claims seeking recovery of the $12,529,504 in costs

    4   DCAA did not question the amounts paid for re-
frigerators and generators.
6                    KELLOGG BROWN & ROOT SERVICES   v. US

disapproved for reimbursement. Following trial, the
Court of Federal Claims held that KBR did not meet its
burden to show that the costs it incurred were reasonable.
The court found that KBR failed to demonstrate “that it
employed sound business practices and acted as a reason-
ably prudent business person in accepting ABC’s proposed
prices for [Change Order 1].” 107 Fed. Cl. at 41. None-
theless, relying on KBR’s 2007 price justification and
testimony by the Government’s expert, the court deter-
mined that KBR was entitled to recover the portion of the
disputed costs relating to construction of the concrete
dining facility, which the parties stipulated totaled
$6,779,762. Id. at 45.
    KBR timely appealed to this Court. We have jurisdic-
tion under 28 U.S.C. § 1295(a)(3).
                       DISCUSSION
    Cost reasonableness is a question of fact. Kellogg
Brown & Root Servs., Inc. v. United States, 728 F.3d 1348,
1360 (Fed. Cir. 2013) (“KBR I”) (citing Gen. Dynamics
Corp. v. United States, 410 F.2d 404, 409 (Ct. Cl. 1969)).
We review factual findings of the Court of Federal Claims
for clear error. Vermont Yankee Nuclear Power Corp. v.
Entergy Nuclear Vermont Yankee, LLC, 683 F.3d 1330,
1338 (Fed. Cir. 2012).
     The parties agree that the costs KBR seeks to recover
are allowable if KBR meets its burden of showing that the
costs are reasonable. According to the Federal Acquisi-
tion Regulation (“FAR”), a cost is reasonable “if, in its
nature and amount, it does not exceed that which would
be incurred by a prudent person in the conduct of compet-
itive business.” FAR § 31.201-3(a). As our previous
decision dealing with the LOGCAP III contract explained,
“[t]he standard for assessing reasonableness is flexible,
allowing the Court of Federal Claims to consider many
fact-intensive and context-specific factors.” KBR I, 728
KELLOGG BROWN & ROOT SERVICES   v. US                    7

F.3d at 1360 (citing FAR § 31.201-3).       These factors
include:
   (1) Whether it is the type of cost generally recog-
   nized as ordinary and necessary for the conduct of
   the contractor’s business or the contract perfor-
   mance;
   (2) Generally accepted sound business practices,
   arm’s-length bargaining, and Federal and State
   laws and regulations;
   (3) The contractor’s responsibilities to the Gov-
   ernment, other customers, the owners of the busi-
   ness, employees, and the public at large; and
   (4) Any significant deviations from the contrac-
   tor’s established practices.
FAR § 31.201-3(b).
    KBR agrees that it is bound by the reasonableness
standard of FAR § 31.201-3, but argues that the standard
incorporates a “broad range of reasonableness” with
respect to cost-reimbursement contracts. Specifically,
according to KBR, all costs associated with performance of
a cost-reimbursement contract are reasonable unless they
arise out of willful misconduct, gross negligence, or gross
disregard of contractual obligations. KBR’s argument,
however, was directly rejected in KBR I, where this Court
explained that “[a]lthough evidence of willful misconduct,
gross negligence, or arbitrary conduct could well provide a
basis for a contracting officer or court to disallow costs
under the [FAR § 31.201-3], such evidence is not re-
quired.” 728 F.3d at 1359.
    KBR acknowledges this precedent, but argues that
our decision in KBR I did not address whether or not the
reasonableness standard for cost-reimbursement con-
tracts encompasses costs incurred as a result of negligent
mistakes. KBR points to several FAR clauses incorpo-
8                    KELLOGG BROWN & ROOT SERVICES   v. US

rated by reference into the LOGCAP III contract that
require the Government to pay for various costs even
when caused by the contractor’s negligence. For example,
FAR § 52.228-7 requires the Government to reimburse the
contractor for certain liabilities to third persons not
covered by insurance that arise out of the performance of
the contract, “whether or not caused by the negligence of
the Contractor,” as long as the liabilities do not result
from the contractor’s willful misconduct or lack of good
faith. See FAR § 52.228-7(c)(2), (e)(3).
    We agree with KBR that, although the KBR I panel
determined that the Court of Federal Claims “applied the
correct standard articulated by FAR § 31.201-3,” the
decision did not elaborate further on the reasonableness
standard for cost-reimbursement contracts except to reject
the view that it encompasses every cost incurred unless
resulting from gross misconduct, gross negligence or
arbitrary conduct. In other words, our KBR I decision
declined to adopt the line proposed by KBR but did not
resolve where to draw the line or otherwise address how
the cost-reimbursement nature of a contract may affect
the reasonableness inquiry.
    We need not, however, draw the line today. We rec-
ognize that cost-reimbursement contracts are intended to
shift to the Government the risk of unexpected perfor-
mance costs in situations when “[u]ncertainties involved
in contract performance do not permit costs to be estimat-
ed with sufficient accuracy to use any type of fixed-price
contract.” See FAR § 16.301-2(a)(2). But we need not
address to what extent, if any, cost reasonableness under
cost-reimbursement contracts may include costs arising
out of negligent mistakes, because KBR was grossly
negligent as determined by the Court of Federal Claims.
107 Fed. Cl. at 41, n.19 (“KBR’s management acted with
gross disregard for the reasonableness of the proposed
prices”). Hence, KBR does not satisfy the standard it
advances. Not only was Mr. Nasery’s Memorandum
KELLOGG BROWN & ROOT SERVICES   v. US                    9

seriously flawed, KBR’s management was aware of the
inadequacies of the Memorandum and still approved
Change Order 1 without questioning the higher costs.
The only explanation asserted by ABC at the time—the
need for more equipment and a violence-induced increase
in labor costs—is conclusory and devoid of any detail
connecting the new headcount and building specifications
to the quoted amounts. Although there might not have
been any need to obtain further details regarding ABC’s
underlying cost data if the proposed costs had been within
a reasonable range, the fact that Change Order 1 tripled
the price for roughly double the troops should have
prompted KBR to balk, or at least request an explanation
of how ABC arrived at its proposal. Under these facts, we
see no clear error in the determination by the Court of
Federal Claims that KBR failed to show “that it employed
sound business practices and acted as a reasonably pru-
dent business person in accepting ABC’s proposed prices
for [Change Order 1].” 107 Fed. Cl. at 41.
     KBR also argues that the Court of Federal Claims
failed to consider the circumstances in which the decision
to incur the Change Order 1 costs was made. According
to KBR, its management acted reasonably in view of the
urgency of the situation and the war zone environment in
which KBR was operating. But the Court of Federal
Claims did recognize that “the violence in Iraq [is] a
circumstance bearing on the reasonableness of the agreed-
upon prices.” 107 Fed. Cl. at 40. The court also acknowl-
edged that some price increase was warranted “due to the
admitted fast-track order to provide greater capacity.” Id.
at 42. While the circumstances surrounding negotiations
are certainly relevant, KBR still had the burden to show
that a prudent businessperson would have accepted
ABC’s prices under those circumstances. The record here
is simply devoid of a contemporary justification support-
ing a reasonableness finding with respect to the costs
adopted in Change Order 1. We agree with the Court of
10                     KELLOGG BROWN & ROOT SERVICES   v. US

Federal Claims that, in view of the disproportionate
increase in costs, a prudent business person would have
attempted to engage in arm’s-length negotiations with
ABC and would not have accepted ABC’s proposal “at face
value.” Id. Accordingly, the finding that KBR failed to
act reasonably in approving the costs in Change Order 1
is not clearly erroneous.
     KBR finally argues that what is ordinary and reason-
able are concepts that simply do not apply to the battle-
field because costs are likely to be extraordinary and
arm’s length bargaining is impracticable. KBR cites no
support and we find no reason to ignore the FAR stand-
ards when a contract is being performed in a war zone.
By definition, the reasonableness standard is flexible and
affords the contractor discretion based on the circum-
stances surrounding performance. The reasonableness of
a contractor’s business judgment must be examined under
the circumstances that existed at the time the cost was
incurred, but such business judgment must still be exer-
cised in a rational manner, even in wartime. In this case,
the Court of Federal Claims properly considered the
circumstances surrounding approval of Change Order 1,
but determined that they were insufficient to justify the
acceptance of unreasonable prices. We see no basis to
disturb this determination.
                        CONCLUSION
     Because the Court of Federal Claims did not clearly
err in its findings, we affirm its determination that KBR
failed to meet its burden to show that the costs it seeks to
recover are reasonable.
                        AFFIRMED
                           COSTS
     Each party shall bear its own costs.