What Government Breach Permits a Contractor to Cease Performance?

By Dick Lieberman, Consultant and Retired Attorney

Government contracts, although unique because of their special rules, are still subject to many of the same principles that are part of general contract law. One of those general rules is that a material breach of a contract by one party fully justifies the other party in stopping work or in the case of a Government contract, a material breach by the Government fully justifies a decision by the contractor to stop work. But the important question is, what is a “material” breach by the government? A recent case involving the Department of Veterans Affairs (“VA”) goes directly to the heart of the matter. Kiewit-Turner, a Joint Venture v. Dept of Veterans Affairs, CBCA 3450, Dec. 9, 2014. This blog further discusses possible material breaches when the government does not pay proper contractor invoices.

KIEWIT-TURNER (“KT”)

In Kiewit-Turner, the civilian board was asked to issue a “declaratory judgment”on whether or not the contractor was entitled to stop work. A declaratory judgment is a “binding adjudication of rights and status of litigants even though no consequential relief is awarded.” Blacks Law Dict. (5th Ed. 1979). The Board was asked to address three questions:

(1) Did a contract modification known as SA-7 obligate the VA to provide a design of a medical center campus in Aurora, CO that could be built for $582,840,000?

(2) Did the VA materially breach the contract when it failed to provide a design that could be built for that dollar amount?

(3) If such a breach occurred, is the contractor entitled to stop work? The Board answered “yes” to all three questions.

When KT was brought into the project, a Joint Venture Team separate from KT, consisting of several architects, had been awarded a contract to design the buildings. VA established a construction cost target, known as the “Estimated Construction Cost at Award” (“ECCA”) at $582,840,000. By the time KT had submitted its proposal, the VA had been advised by KT and an independent company that the cost of construction would be more than $677 million. The VA and KT attempted to reduce the price, and agreed to work with KT to do so. Modification SA-7 was agreed to in November 2011 by both parties, and it stated that “The VA shall ensure the Architect Engineering Team [the Joint Venture Team] will produce a design that meets their Estimated Construction Cost at Award with use of alternate and other methods as a safety net.

During 2012 and 2013, the VA acknowledged that the ECCA was $199 million above the ECCA agreed to. However, the VA asserted that the ECCA in SA-7 was not a “material provision, and it didn’t have to reduce the project to that amount. The Board held that VA had breached the clearly stated requirement of SA-7 by not causing the design to be adjusted so its cost was less than the ECCA. The board looked to the Restatement to determine whether a breach is material, which says:

In determining whether a failure to render or to offer performance is material, the following circumstances are significant:

(a) The extent to which the injured party will be deprived of the benefit which he reasonably expected.

(b) The extent to which the injured party can be adequately compensated for the part of that benefit of which he will be deprived.

(c) The extent to which the party failing to perform or to offer to perform will suffer forfeiture.

(d) The likelihood that the party failing to perform or to offer to perform will cure his failure, taking account of all the circumstances including any reasonable assurances.

(e) The extent to which the behavior of the party failing to perform or to offer to perform comports with standards of good faith and fair dealing.

Restatement (Second) of Contracts, § 241 (1981); see also Hansen Bancorp, Inc. v. United States, 367 F.3d 1297, 1311–1312 (Fed.Cir.2004). The Board concluded that VA’s breach of its contract with KT, by failing to provide a design which could be constructed for the ECCA, was of vital importance, as it went to the essence of the agreement. The breach was material under each of the 5 Restatement standards.

Finally, the Board noted that “[u]pon material breach of a contract, the non-breaching party has the right to discontinue performance of the contract.” Stone Forest Industries, Inc. v. United States, 973 F. 2d 1548, 1550-1551(Fed. Cir. 1992), citing Restatment (Second) of Contracts § 241 cmts a & b. The choice of remedy is up to the non-breaching party. The Government asserted that if the contractor continued performance without protest, notwithstanding the Government’s breach, then the obligations of both parties remained in force and only a claim for damages could be entertained, citing Northern Helex v. U.S., 455 F 2d 546 (Ct. Cl. 1972). However, the Board noted that in this case, KT proceeded on construction under strenuous protest, and asked the VA to suspend performance. The Board found that KT, as a matter of law, had a right to stop performance.

GOVERNMENT FAILURE TO PAY INVOICES

Contractors are rightfully upset if invoices or progress payments are not paid by the Government. The Government’s continued failure to pay the invoices may represent a material breach by the Government, fully justifying a decision to stop work. [I]t is a condition of each party’s remaining duties to render performances to be exchanged under an exchange of promises that there be no uncured material failure by the other party to render any such performance due at an earlier time. Restatement (Second) of Contracts § 237 (1981). A contractor is under no duty to continue to render required performance where the government has materially breached the contract. Dry Roof Corp., ASBCA No. 29,061, 86-2 BCA ¶18,972. A mere delay in paying a contractor is not a material breach, but total failure to pay over many months is. Northern Helex Co. v. United States, 197 Ct. Cl. 118 (1972).

When is failure to pay an invoice a government breach? When the financial incapacity of a contractor to perform is caused by the acts or omissions of the government, any contractor default would be excused and the contract would be deemed to have been terminated for the convenience of the government, however, the burden is on the contractor to establish that the payments were erroneously withheld and that the withholding of such payments was the primary or controlling cause of the contractor's default. TGC Contracting Corp. v. United States, 736 F.2d 1512, 1515 (Fed. Cir. 1984). So the contractor has to make a strong showing that any failure to pay was erroneous and such a failure to pay was a primary or controlling cause of the contractor’s default or ceasing of performance. R.C. Hudson & Associates, Inc., ASBCA No. 20711, 76-2 B.C.A. (CCH) ¶ 12201 (Oct. 26, 1976). See also Sterling Millwrights, Inc. v. United States, 26 Cl. Ct. 49, 90-91 (1992)

TIPS:

(1) If you continue to perform your contract when you believe the government has breached it, file letters with the contracting officer stating your strong objections to the breach, and your strong protest to continuation of performance. Make it well known that you believe the Government has breached and you do not believe you have the obligation to continue but you may continue anyway and seek breach damages. (2) If the government has breached and you cannot financially continue, you should so advise the government, and then appeal any resulting default termination, basing your appeal on the government breach.

Copyright 2015 Dick Lieberman, Permission Granted to the Maryland PTAC. This article does not provide legal advice as to any particular transaction.