What are government's rights when a vendor defaults?

A contractor's representative raised the following topic: We have a fixed-price services contract with a federal agency that is not going as well as it might. What can the government do if we do not complete the contract? What are the government's rights when a contractor defaults?

In general, when a contractor fails to perform in accordance with its contract, the contracting officer may terminate the contract for default unless the contractor's failure is the result of causes beyond its control. (See, generally, Federal Acquisition Regulation 49.4, Termination for Default.)

In lieu of a termination for default, the government may permit the contractor or its surety to continue performance of the contract under a revised delivery schedule. Alternatively, the government may allow the contractor to continue performance by means of a subcontract or other business arrangement with an acceptable third party, provided the rights of the government are adequately preserved. Furthermore, if the requirement for the goods or services no longer exists, and the contractor will not be liable for damages, the government may execute a no-cost settlement with the contractor. (See FAR 49.202-4.) Ultimately, the government has considerable discretion in choosing how to proceed in a particular case.

Every fixed-price government contract for supplies or services will include a standard provision addressing the government's rights upon the contractor's default. [See FAR 52.249-8, Default (Fixed-Price Supply and Service).] Paragraph (b) of the default clause provides that upon default, the government may acquire replacement services or supplies, and the defaulting contractor "will be liable to the government for any excess costs for those supplies or services." In most cases, the government will rely on this right to recover "excess reprocurement costs."

However, as stated further in Paragraph (h) of the default clause, "The rights and remedies of the government in this clause are in addition to any other rights and remedies provided by law or under this contract." Thus, in appropriate cases, the government may pursue the same sorts of common-law remedies available to any other person damaged by another's breach of a contract.

To recover excess reprocurement costs, the government must show that the reprocured items are the same as or similar to those involved in the termination. (See, for example, Sequal Inc., ASBCA No. 30838, 88-1 BCA : 20,382, in which it was ruled that there is no requirement that the items acquired in the repurchase contract be identical to those called for in the terminated contract.) Furthermore, the government must show that the costs claimed actually were incurred. (Barrett Refining Corp., ASBCA No. 36590, 91-1 BCA : 23,566, in which it was ruled that covering for lost work by increasing orders from other contractors is reasonable.)

The government also must show that it acted reasonably to minimize the excess costs resulting from the default. (Daubert Chemical Co., ASBCA No. 46752, 94-2 BCA : 26,741, in which it was ruled that the government acted reasonably by reprocuring promptly.)

In addition to excess reprocurement costs, the government will be entitled to repayment from the contractor of any progress or advance payments attributable to the undelivered work. (See, for example, International Foods Retort Co., ASBCA No. 34954, 92-2 BCA : 24,994, in which it was ruled that the government is entitled to repayment of unliquidated progress payments allocable to the properly terminated portion of a contract.) If the contract includes a liquidated-damages clause for late performance, the government may be permitted to recover liquidated damages and excess reprocurement costs. (See, for example, Al Bosgraaf&Sons Inc., ASBCA No. 45526, 94-2 BCA : 26,913, in which it was ruled that liquidated damages may run until the work is completed by the replacement contractor.)

Furthermore, the government may recover common-law damages in lieu of or in addition to excess reprocurement costs. (See, for example, Hideca Trading Inc., ASBCA No. 24161, 87-3 BCA : 20,040, in which it was ruled that the government's right to recover damages for a contractor's breach is not dependent on its completion of a reprocurement.) These damages may include a calculation of the excess cost of completing the work in compliance with the contract even when the work is not in fact completed by the government. (See, for example, M.C.&D. Capital Corp., ASBCA No. 40159, 91-3 BCA : 24,084, in which it was ruled that the government may assert a claim for breach of contract based on the projected cost of replacing nonconforming work.)

The government's recovery may include reasonable administrative costs, including costs associated with having to undertake a reprocurement effort. (See, for example, Birken Manufacturing Co., ASBCA No. 32590, 90-2 BCA : 22,845.)

The General Accounting Office has established detailed guidelines on how an agency must handle money recovered from a defaulting contractor. In general, when an agency incurs additional expenses as a result of a contractor's performance problems, the agency may retain for its own use any amounts that are recovered from the original contractor prior to incurring the additional expense. The agency also may retain for its own use amounts recovered after the additional expenses have been incurred so long as the appropriations from which the work was funded are still available to the agency for obligation. If, however, the applicable appropriations have expired when the funds are recovered, the agency must deposit the recovered funds into the Treasury's miscellaneous receipts account. (See, generally, GAO, Law of Federal Appropriations at pages 6-115.)

In a sufficiently egregious case of willful nonperformance, the government may even suspend or debar a contractor from receiving future contracts. [See FAR 9.406-2(b)(1)(A).]

Clearly, a termination for default is something to be avoided. If a contractor is unable to perform in accordance with its contract, it should attempt to renegotiate the terms of the contract with the government as early as possible. Simply walking away from the contract without completing it is almost never a reasonable alternative.

-- Peckinpaugh is a member of the government contracts section of the law firm Winston&Strawn, Washington, D.C. This column addresses legal topics that arise in government acquisition and management of ADP resources. Readers are encouraged to submit topics by e-mail to carl@carl.com. This column discusses legal topics of general interest and is not intended to provide legal advice. Should you have a specific question or legal problem, consult an attorney.