Change Happens

One constant on most construction projects is change. Most construction contracts contain a specific clause (or clauses) discussing procedures and requirements that the project participants should follow in order to address these changes. Changes clauses are found in standard industry construction contracts, private construction contracts, and in the regulations and contract clauses governing federal government contracting. Relying on these contract provisions, the parties can more effectively manage and administer changes to the construction project, and their corresponding cost and time impacts.

The FAR Changes Clause

The Federal Acquisition Regulation (“FAR”) addresses the process for administering changes to federal government contracts. The standard Changes clause for construction contracts, found at FAR 52.243-4 sets forth instances where the contracting officer may authorize a change; sets out requirements for the contractor to give notice of a change if a contracting officer’s instruction or directive modifies the underlying contract requirements; and, establishes time limits by which the contractor generally must exercise its right to recover additional compensation and/or time.

The Changes clause also permits an equitable adjustment to the contract price and/or time for performance. Here, FAR 52.243-4(d) states, in pertinent part, that:  

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

The dollar amount of an equitable adjustment caused by a particular change is often subject to negotiation between the contractor and the government. In most cases, the contractor and the contracting officer ultimately agree on the amount of the equitable adjustment. In some cases, however, the parties may not be able to successfully negotiate the amount of the adjustment.

When negotiations fail, an important issue for the prudent federal government contractor to understand is the extent to which the contractor can recover not only the cost of performing the additional work, but also any overhead, outside consulting, or legal fees incurred in connection with preparing the request for equitable adjustment and attempting to negotiate a final resolution of such change before it becomes a formal claim. A recent opinion by the United States Court of Appeals for the Federal Circuit confirms that such costs, when properly and timely presented, are recoverable by the government contractor.

Case Overview: Tip Top Construction, Inc. v. Donahoe

In 2007 the Postal Service awarded Tip Top Construction, Inc. (“Tip Top”) a contract permitting award of multiple Postal Service construction projects on a work order basis. Although the Postal Service contract did not incorporate the FAR, it contained a Changes clause virtually identical to the standard FAR Changes clause.

In 2009, the Postal Service issued Tip Top a work order to replace air conditioning systems at the main post office in Christiansted, Virgin Islands.

In connection with this work order, Tip Top submitted its proposed scope of work, indicating that it planned on installing a specific type of air conditioners. The Postal Service’s construction manager approved the contractor’s submittal for these units. The approved air conditioning unit condensers required use of a compatible refrigerant.

Tip Top sent a subsequent submittal to the Postal Service identifying the type of compatible refrigerant it planned to use. The Postal Service’s construction manager initially did not object to the proposed refrigerant, but then told Tip Top that it had to use a different type of refrigerant -- one that was not compatible with the previously approved condensers.

Tip Top then notified the Postal Service’s construction manager that use of the different refrigerant would require a change to the previously approved air conditioning equipment. Tip Top also furnished the Postal Service with an estimate of additional costs to install this substitute equipment and asked the Postal Service for instructions on how to proceed. The Postal Service instructed Tip Top to submit a proposal to furnish and install the substitute equipment.

In preparing its proposal, Tip Top retained a consultant to work with its mechanical subcontractor and the condenser manufacturer to develop a proposed scope of work to install the substitute equipment. Tip Top then submitted, and the government approved, this proposed scope of work. Shortly thereafter, Tip Top submitted a proposal for “additional costs” to change the condensers. After receiving this proposal, the contracting officer verbally authorized Tip Top to proceed with this work “for a price to be determined later but not to exceed” the amount stated in Tip Top’s proposal.

For several months Tip Top and the Postal Service actively engaged in negotiations regarding Tip Top’s request for equitable adjustment (REA) to the contract price. The key issue in these negotiations was whether Tip Top could recover indirect costs it incurred preparing its proposal to perform the changed work, and whether it could recover certain consulting and legal fees incurred for preparing and submitting its proposal to the government. These negotiations were unsuccessful.

Shortly after the parties reached an impasse in these negotiations, Tip Top submitted a claim to the government. This claim included indirect and outside consulting and legal fees incurred by Tip Top through the time that the negotiations on the REA ceased. In issuing a final decision, the contracting officer partially granted Tip Top’s REA – allowing its additional costs to install the substitute equipment, but denying Tip Top’s requests for its proposal preparation and REA negotiation costs. Tip Top appealed the contracting officer’s final decision to the Postal Service Board of Contract Appeals (“PSBCA” or “board”).

The PSBCA partially granted Tip Top’s appeal finding that Tip Top was entitled to recover its proposal preparation costs incurred before the Postal Service verbally authorized Tip Top to proceed with the additional work. The board, however, disallowed most of Tip Top’s claim consisting of its consulting fees, overhead costs, and legal fees incurred from the time the Postal Service verbally authorized Tip Top to proceed with the additional work until the negotiations reached an impasse. The board reasoned that these costs “had nothing to do with performance of the changed work or genuine contract administration and were solely directed at trying to convince the contracting officer to accept Tip Top’s figure for the change and maximizing Tip Top’s monetary recovery.” Tip Top appealed this decision to the Court of Appeals for the Federal Circuit in Tip Top Construction, Inc. v. Donahoe, 695 F.3d 1276 (Fed. Cir. 2012) (“Tip Top”).

The Federal Circuit ruled that the board had erred in addressing the issue of when a cost should be classified as a contract administration cost, and when it should be classified as a cost incidental to the prosecution of a claim. Relying on an earlier decision interpreting the FAR Changes clause, the court held that, to determine whether contract administration costs incurred when negotiating a change order are recoverable, the appropriate inquiry is whether such costs were incurred “for the genuine purpose of materially furthering the negotiation process.” In Tip Top, the court found that the board should not have excluded these claimed costs just because they related solely to negotiations over price. The court reasoned, “[s]imply because the negotiations related to the price of the change does not serve to remove the associated costs from the realm of negotiation and genuine administration costs. Consideration of price is a legitimate part of the change order process.” On this basis, the court reversed the board’s partial denial of Tip Top’s appeal and instructed the board to grant Tip Top’s appeal in its entirety, thus allowing recovery of all of Tip Top’s costs (legal and consulting fees) incurred in negotiating the change order price up to the time the negotiations stopped.

Practical Considerations

Prudent government contractors should under stand that the FAR Changes clause permits recovery of certain indirect costs and fees incurred in administering and even negotiating changes to the work. In negotiations over corresponding price adjustments, the government will likely try to exclude such costs, particularly where they relate solely to negotiation efforts. Ultimately, because the price of the changed work is an essential element, the government contractor should be entitled to recover these costs as part of an equitable adjustment to the contract as long as it can show that such costs were reasonable and were “genuinely incurred” for the purpose of furthering contract price negotiations. This would be true even if the negotiations are unsuccessful.