FEDERAL GOVERNMENT TERMINATING FOR DEFAULT “SEPARABLE” CONTRACT

UnknownIf a contractor is terminated for default on a federal project (really, any project), the objective for the contractor is to convert that termination for default into a termination for convenience so that the contractor can get paid for work performed and associated profit on that work through the date of the termination. For more information on termination for defaults and convenience, check out this article and this article.

 

The Armed Service Board of Contract Appeals (ASBCA) decision, Nelson, Inc., ASBCA No. 57201, 2015 WL 959241 (ASBCA 2015), provides an example of the government terminating a prime contractor for default where the prime contractor argued the termination was improper.  The prime contract called for the construction of stone dikes at four sites along the Mississippi River.  Each site had separate pricing, separate notices to proceed, and separate performance periods and durations for the construction of the stone dikes. After the prime contractor had started to perform at two of the four sites, the government terminated the prime contractor for default based on the prime contractor’s failure to timely perform in accordance with the schedules for those sites. 

 

The prime contract included the F.A.R. 52.249.10 clause (set forth in full at the bottom of this posting) relating to termination for defaults.   Applicable here, F.A.R. 52.249-10(a) and (c) provide:

 

(a) If the Contractor refuses or fails to prosecute the work or any separable part, with the diligence that will insure its completion within the time specified in this contract including any extension, or fails to complete the work within this time, the Government may, by written notice to the Contractor, terminate the right to proceed with the work (or the separable part of the work) that has been delayed. In this event, the Government may take over the work and complete it by contract or otherwise, and may take possession of and use any materials, appliances, and plant on the work site necessary for completing the work. The Contractor and its sureties shall be liable for any damage to the Government resulting from the Contractor’s refusal or failure to complete the work within the specified time, whether or not the Contractor’s right to proceed with the work is terminated. This liability includes any increased costs incurred by the Government in completing the work.

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(c) If, after termination of the Contractor’s right to proceed, it is determined that the Contractor was not in default, or that the delay was excusable, the rights and obligations of the parties will be the same as if the termination had been issued for the convenience of the Government.

 

This case focused on the language “separable part” in F.A.R. 52.249-10(a) to determine whether the government properly terminated the prime contractor from ALL four of the sites along the Mississippi River when the termination focused on the prime contractor’s delay at only two of those sites. 

 
The government has the burden of proving that the termination for default was justified.”  Nelson, Inc., supra, citing Libson Contractors, Inc. v. U.S., 828 F.2d 759, 764 (Fed. Cir. 1987).   When a contract is separable, or divisible, “and a contractor is delinquent only as to a separable part of the contract work, it is improper for the contracting officer to terminate for default the entire contract.”  Nelson, Inc., supra, citing Overhead Electric Co., ASBCA No. 25656, 1985 WL 16703 (1985). 

 

The ASBCA found that the four sites were separable because each site had separate performance periods, notices to proceed, and pricing.  The commencement of the prime contractor’s work at one of the sites was not dependent on or related to its completion of work at another site. (To support the divisibility of the work, the ASCBA stated: “Work at each of the locations did not involve sequential or incremental and interdependent progression of construction, e.g., of one building or levee at one contiguous site.” Nelson, Inc., supra.)   Therefore, the ASBCA found that terminating the prime contractor for default from all four of the sites was improper since the prime contractor’s work was separable (and the government based the termination on delay of two of the four separable sites).

 

Importantly, even when a prime contractor challenges a termination for default claiming it should be converted to a termination for convenience, the prime contractor needs to comply with the Contract Disputes Act.  In other words, the prime contractor needs to submit its termination for convenience costs / claim. For more information on this important issue, check out this article

 

 

F.A.R. 52.249-10 Default (Fixed-Price Construction)

(a) If the Contractor refuses or fails to prosecute the work or any separable part, with the diligence that will insure its completion within the time specified in this contract including any extension, or fails to complete the work within this time, the Government may, by written notice to the Contractor, terminate the right to proceed with the work (or the separable part of the work) that has been delayed. In this event, the Government may take over the work and complete it by contract or otherwise, and may take possession of and use any materials, appliances, and plant on the work site necessary for completing the work. The Contractor and its sureties shall be liable for any damage to the Government resulting from the Contractor’s refusal or failure to complete the work within the specified time, whether or not the Contractor’s right to proceed with the work is terminated. This liability includes any increased costs incurred by the Government in completing the work.

(b) The Contractor’s right to proceed shall not be terminated nor the Contractor charged with damages under this clause, if—

(1) The delay in completing the work arises from unforeseeable causes beyond the control and without the fault or negligence of the Contractor. Examples of such causes include (i) acts of God or of the public enemy, (ii) acts of the Government in either its sovereign or contractual capacity, (iii) acts of another Contractor in the performance of a contract with the Government, (iv) fires, (v) floods, (vi) epidemics, (vii) quarantine restrictions, (viii) strikes, (ix) freight embargoes, (x) unusually severe weather, or (xi) delays of subcontractors or suppliers at any tier arising from unforeseeable causes beyond the control and without the fault or negligence of both the Contractor and the subcontractors or suppliers; and

(2) The Contractor, within 10 days from the beginning of any delay (unless extended by the Contracting Officer), notifies the Contracting Officer in writing of the causes of delay. The Contracting Officer shall ascertain the facts and the extent of delay. If, in the judgment of the Contracting Officer, the findings of fact warrant such action, the time for completing the work shall be extended. The findings of the Contracting Officer shall be final and conclusive on the parties, but subject to appeal under the Disputes clause.

(c) If, after termination of the Contractor’s right to proceed, it is determined that the Contractor was not in default, or that the delay was excusable, the rights and obligations of the parties will be the same as if the termination had been issued for the convenience of the Government.

(d) 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.

 

 

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.

 

 

GOVERNMENT CONTRACTS AND TERMINATION FOR DEFAULTS: SURETY TAKEOVER AGREEMENTS, TENDER AGREEMENTS, ETC.

163On federal government construction projects, the prime contractor provides the government with a performance bond (pursuant to the Miller Act) guarantying the prime contractor’s performance under the prime contract.   Under normal course and in accordance with the Federal Acquisition Regulations (“FAR”), the performance bond is triggered when the government terminates the prime contractor for default and then looks to the performance bond surety to remedy the default by completing the defaulting prime contractor’s contractual obligations.  (See FAR 49.402-3 regarding the government’s procedure to terminate the prime contractor for default and put the contractor and surety on notice.) 

 

Subpart 49.4 of FAR deals with termination for defaults.  Prime contractors as well as sureties should familiarze themselves with this subpart especially if they received notification from the contracting officer of the possibility of a terminatin for default or the notices seem to indicate that the terminatiion for default is imminent.

 

Let’s presume the contracting officer moves forward and terminates the prime contractor for default or the termination is imminent.  Now what?   Clearly, the contracting officer will be looking to the prime contractor’s performance bond surety to remedy the default.    Below are considertaions that will be explored and are the reasons why prime contractors and sureties in this situation should absolutely ensure they are consulting with counsel.

 

A. Takeover Agreements

 

One common option under FAR  49.404 that can be implemented is a surety-takeover agreement with the government (see below).  This is when the surety takes over the contractual obligations of the prime contract.  Typically, the surety will enter into a takeover agreement with the government that outlines the obligations of the takeover and will enter into a separate contract with the completion contractor the surety engages to complete its defaulting prime contractor’s scope of work.  While FAR ideally prefers a tripartite takeover agreement with the government, surety, and defaulted prime contractor, this generally does not happen with a prime contractor that challenges the termination for default and looks to convert the termination into one for convenience

 

49.404  Surety-takeover agreements.

(a) The procedures in this section apply primarily, but not solely, to fixed-price construction contracts terminated for default.

(b) Since the surety is liable for damages resulting from the contractor’s default, the surety has certain rights and interests in the completion of the contract work and application of any undisbursed funds. Therefore, the contracting officer must consider carefully the surety’s proposals for completing the contract. The contracting officer must take action on the basis of the Government’s interest, including the possible effect upon the Government’s rights against the surety.

(c) The contracting officer should permit surety offers to complete the contract, unless the contracting officer believes that the persons or firms proposed by the surety to complete the work are not competent and qualified or the proposal is not in the best interest of the Government.

(d) There may be conflicting demands for the defaulting contractor’s assets, including unpaid prior earnings (retained percentages and unpaid progress estimates). Therefore, the surety may include a “takeover” agreement in its proposal, fixing the surety’s rights to payment from those funds. The contracting officer may (but not before the effective date of termination) enter into a written agreement with the surety. The contracting officer should consider using a tripartite agreement among the Government, the surety, and the defaulting contractor to resolve the defaulting contractor’s residual rights, including assertions to unpaid prior earnings.

(e) Any takeover agreement must require the surety to complete the contract and the Government to pay the surety’s costs and expenses up to the balance of the contract price unpaid at the time of default, subject to the following conditions:

(1) Any unpaid earnings of the defaulting contractor, including retained percentages and progress estimates for work accomplished before termination, must be subject to debts due the Government by the contractor, except to the extent that the unpaid earnings may be used to pay the completing surety its actual costs and expenses incurred in the completion of the work, but not including its payments and obligations under the payment bond given in connection with the contract.

(2) The surety is bound by contract terms governing liquidated damages for delays in completion of the work, unless the delays are excusable under the contract.

(3) If the contract proceeds have been assigned to a financing institution, the surety must not be paid from unpaid earnings, unless the assignee provides written consent.

(4) The contracting officer must not pay the surety more than the amount it expended completing the work and discharging its liabilities under the defaulting contractor’s payment bond. Payments to the surety to reimburse it for discharging its liabilities under the payment bond of the defaulting contractor must be only on authority of—

(i) Mutual agreement among the Government, the defaulting contractor, and the surety;

(ii) Determination of the Comptroller General as to payee and amount; or

(iii) Order of a court of competent jurisdiction.

 

B.  Tender Agreements

 

Another option the surety can implement is by tendering a completion contractor to the government for the government to complete the work.  Oftentimes the surety will obtain pricing to complete the defaulting prime contractor’s scope of work.  The surety will then tender a completion contractor to the government so that the government can hire this contractor directly.  The surety will also tender the difference between the balance of the defaulted prime contractor’s contract amount and the completion contractor’s contract amount to complete the work.  (For example, if the balance of the defaulted prime contract is Twenty Million but it will cost a completion contractor Twenty Five Million to complete the defaulted prime contractor’s scope of work, the surety will tender the additional Five Million.)  A tender agreement is generally entered into between the surety and the government and outlines the parameters of the tender including monetary responsibilities of the surety. 

 

C.  Government Completion (if surety does not takeover or tender)

 

FAR 49.405 gives the government authority to engage a completion contractor if the surety does not arrange for the completion of the defaulted prime contractor’s scope of work (see below).  If the government moves forward with this option, it will certainly look to the surety for all costs it incurs associated with the prime contractor’s default and any delay associated with bringing a completion contractor on board.

 

49.405  Completion by another contractor.

If the surety does not arrange for completion of the contract, the contracting officer normally will arrange for completion of the work by awarding a new contract based on the same plans and specifications. The new contract may be the result of sealed bidding or any other appropriate contracting method or procedure. The contracting officer shall exercise reasonable diligence to obtain the lowest price available for completion.

  

D. Procedures Government Can Utilize Instead of Termination for Default

 

FAR 49.402-4 identifies certain procedures that the government can utilize instead of terminating the prime contractor for default, although these procedures are generally implemented after the prime contractor and surety are on notice of an impending termination for default (see below).   The government is probably not going to move forward with these procedures unless its rights are reserved against the prime contractor and performance bond for any resultant damages (see FAR 49.406 below) associated with defaults asserted by the government against the prime contractor (e.g., liquidated damages for delays,  correction of deficient work, etc.).  If these procedures are considered and utilized, there is a good chance the procedure was suggested by the prime contractor and surety as a protocol to best mitigate potential damages asserted by the government.   (By way of example, one option a surety can present is to agree to fund the prime contractor through completion in order to keep the project moving forward with the contractor most familiar with the scope of work.)

 

49.402-4  Procedure in lieu of termination for default.

The following courses of action, among others, are available to the contracting officer in lieu of termination for default when in the Government’s interest:

(a) Permit the contractor, the surety, or the guarantor, to continue performance of the contract under a revised delivery schedule.

(b) Permit the contractor to continue performance of the contract by means of a subcontract or other business arrangement with an acceptable third party, provided the rights of the Government are adequately preserved.

(c) If the requirement for the supplies and services in the contract no longer exists, and the contractor is not liable to the Government for damages as provided in 49.402-7, execute a no-cost termination settlement agreement using the formats in 49.603-6 and 49.603-7 as a guide.

 

49.406  Liquidation of liability.

(1) The contract provides that the contractor and the surety are liable to the Government for resultant damages. The contracting officer shall use all retained percentages of progress payments previously made to the contractor and any progress payments due for work completed before the termination to liquidate the contractor’s and the surety’s liability to the Government. If the retained and unpaid amounts are insufficient, the contracting officer shall take steps to recover the additional sum from the contractor and the surety.

 

E. Preservation of Surety’s Rights

 

When a surety takesover the completion of the work, tenders a completion contractor, or even funds the original prime contractor through completion, the surety will do so while preserving its rights.  In other words,  a surety will want to best preserve rights to pursue potential claims against the government while contemporaneously mitigating its exposure under the performance bond through the takeover, tender, or funding of the completion work.  See, e.g., Transamerica, Ins. v. U.S.,  31 Fed.Cl. 532 (1994) (finding surety can pursue equitable subrogation claim against government for funds held by government when surety tendered and paid completion contractor); see also In re Appeal of Fireman’s Fund Ins. Co., ASBCA No. 50657, 2000 WL 246620 (2000) (“When a terminated contractor assigns such [pre-takeover / tender] claims to the surety to which assignment the contracting officer consents, or incorporates such an assignment in novation or takeover [or tender] agreement executed by the contracting officer, the surety has standing to prosecute such claims before the Board.”); In re Hackney Group, ASBCA No. 51453, 2000 WL 655950 (2000) (surety’s argument that it has standing to assert defaulted prime contractor’s pre-takeover claims against government based on surety’s indemnity agreement with  prime contractor failed since government was not a party to indemnity agreement and never consented to prime contractor’s assignment of pre-takeover claims to surety).

 

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.

 

 

 

CONVERTING THE DREADFUL TERMINATION FOR DEFAULT INTO A TERMINATION FOR CONVENIENCE

images-1Contractors, whether prime contractors or subcontractors, terminated for default (also known as termination for cause) want to convert that termination for default into a termination for convenience.   The termination for default ultimately means the contractor materially breached the contract and would be liable for any cost overrun associated with completing their contractual scope of work.  On the other hand, if the termination for default is converted into a termination for convenience, the contractor would be entitled to get paid for the work performed through the termination along with reasonable profit on the work performed and, depending on the contract, reasonable anticipatory profit on the work NOT performed.  A huge difference and the fundamental reason contractors terminated for default should aim to convert that termination for default into a termination for convenience!

 

Under the Federal Acquisition Regulations, contractors terminated for convenience may recover reasonable profit on work performed, but NOT profit for work not performed.  (See F.A.R. s. 52.249-2 and 49.202)

 

But, under the standard AIA A201 General Conditions, if an owner terminates a general contractor for convenience, “the Contractor shall be entitled to receive payment for Work executed, and costs incurred by reason of such termination, along with reasonable overhead and profit on the Work not executed.”  (See AIA A201, para. 14.4.3)

 

Yet, under the ConsensusDocs 200, “If the Owner terminates this Agreement for Convenience, the Constructor shall be paid: (a) for the Work performed to date including Overhead and profit; and (b) for all demobilization costs and costs incurred as a result of the termination but not including Overhead or profit on Work not performed.” (See Consensus Docs, 200, para. 11.4.2)

 

As reflected above, a contractual provision will dictate the costs recoverable when there is a termination for convenience.  The AIA A201 General Conditions is favorable to a contractor by providing for reasonable overhead and profit on the work not executed.  Whether reasonable  profit on work not performed is recoverable, the objective should always be converting that termination for default into one for convenience so that at least the contractor can recover for work performed and profit on the work performed along with other associated termination costs that the contract may provide.

 

When a party is terminated for default, the key issues that will arise will typically be: (a) whether the termination for default was proper, i.e., whether the terminating party procedurally complied with the termination for default provision in the contract, (b) whether the cause or default was material and rose to the level of constituting a default termination, and (c) converting the termination for default into a termination for convenience and the recoverable costs pursuant to the termination for convenience provision in the contract.  Again, a termination for default will likely mean that the terminated party owes the terminating party money associated with the overrun for completing their scope of work.  A termination for convenience, on the other hand, will likely mean that the terminated party is owed money for work it performed irrespective of any overrun experienced by the terminating party.

 

 

imagesA recent ruling in U.S.A. f/u/b/o Ragghianti Foundations III, LLC v. Peter R. Brown Construction, Inc., 2014 WL 4791999 (M.D.Fla. 2014), illustrates a dispute between a prime contractor and a subcontractor on a federal project after the prime contractor default terminated the subcontractor.   The prime contractor hired a subcontractor to construct the foundation, slab on grade, and site concrete.  As the subcontractor was pouring the slab on grade concrete, it was determined that there were deficiencies in the concrete.  The prime contractor sent the subcontractor notice under the subcontract regarding the deficiencies and that the subcontractor needed to provide an action plan prior to future concrete placement. Although the subcontractor responded with a plan including when it was going to demolish the defective portion of the slab, it failed to live up to its own recovery schedule.  Accordingly, the prime contractor terminated the subcontractor for default and incurred costs well in excess of the subcontractor’s original subcontract amount to complete the subcontractor’s scope of work.  The subcontractor filed suit against the prime contractor and its Miller Act surety and the prime contractor counter-claimed against the subcontractor.

 

 

There were numerous interesting issues raised in this case.  This article will only touch upon a couple of the legal issues. The first issue was whether the prime contractor properly terminated the subcontractor for default pursuant to the subcontract; if not, the termination should be deemed a termination for convenience.  The Court found that the termination was procedurally proper, but declined to determine whether the termination was wrongful, perhaps because the Court determined that once the termination for default was properly implemented pursuant to the subcontract there was no reason to delve into any further analysis.  In other words, once the prime contractor procedurally, properly terminated the subcontractor for default pursuant to the subcontract, it appeared irrelevant whether the cause forming the basis of the default was material.   This implication is certainly beneficial for the prime contractor and it is uncertain why the Court did not entertain the argument as to whether the procedurally proper termination was wrongful.   This determination would seem important because if the termination was wrongful, the terminating contractor would be responsible for its own cost overrun in addition to the costs incurred by the terminated subcontractor.  Although, in this case, by the Court finding that the termination for default was procedurally proper, the Court seemed to recognize that there was cause supporting the implementation of the termination for default; otherwise, the termination for default would not have been procedurally proper.

 

The next issue discussed in this case pertained to recoverable delay-type damages under the Miller Act.  The Court expressed:

 

A Miller Act plaintiff is entitled to recover under the bond the out-of-pocket labor and expenses attributable to delays. 

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[A] damage claim against a surety that does not flow directly and immediately from actual performance [of its agreement] is barred by the Miller Act….A subcontractor cannot recover on a Miller Act payment bond for the cost of labor and materials provided after the termination of work under a government construction project, and cannot recover profits on out-of-pocket expenditures attributable to delay.

Ragghianti Foundations, supra, at *18, 19 (internal quotations and citations omitted).

 

What does this mean?  This means that a subcontractor is not entitled to recover against a Miller Act surety:  (a) anticipated lost profits on work not performed, (b) delay-related costs that do not flow directly and immediately from actual performance under the subcontract, (c) profit on delay-related costs, and (d) costs incurred after the termination of the work.  These are all categories of damages that are applicable to a terminated subcontractor that it will NOT be able to recover against a Miller Act surety.  This is important because if a subcontractor is looking to capitalize on its damages for converting a termination for default into one of convenience, it may want to sue the terminating contractor so that it is not leaving any damages on the table by only suing the Miller Act surety.

 

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.

 

 

TERMINATION FOR CONVENIENCE PROVISIONS ARE ENFORCEABLE UNDER FLORIDA LAW

TermLast year I discussed the enforceability of termination for convenience provisions in the case of Vila & Son Landscaping Corp. v. Posen Construction, Inc., 99 So.3d 563 (Fla. 2d DCA 2012).    In that case, the contactor terminated its subcontractor for convenience because it found another subcontractor at better pricing. The Second District Court of Appeals found that there was no wrongful termination and the termination for convenience provision in the subcontract was enforceable.

 

Recently, in a non-construction contract setting, the Fourth District Court of Appeals in Handi-Van, Inc. v. Broward County, Florida, 38 Fla. L. Weekly D1350b (4th DCA 2013), discussed the enforceability of termination for convenience provisions which are “contractual provisions which ‘permit one party to terminate a contract, even in the absence of fault or breach by the other party, without suffering the usual financial consequences of breach of contract.’” Id. quoting Harris Corp. v. Giesting & Assocs, Inc., 297 F.3d 1270, 1270 (11th Cir. 2002). The Fourth District maintained in a lengthy discussion that termination for convenience provisions are enforceable under Florida contract law. In that case, the party challenging the termination tried to argue that there was not sufficient consideration for the termination for convenience provision (and, thus, it was not enforceable); however, the court seemed to quickly dismiss this argument by finding that because the provision required 90 days written notice prior to the termination for convenience, this notice constituted sufficient consideration to uphold the enforceability of the provision.

 
Parties that challenge termination for convenience provisions in Florida often rely on federal procurement / government contracting cases because there is a “bad faith” exception, i.e., a federal agency cannot terminate a contract for convenience in bad faith. See TigerSwan, Inc. v. U.S., 110 Fed.Cl. 336, 345 (2013). This is no different than the parties in Hani-Van or Vila & Son Landscaping that tried to challenge the termination for convenience provisions in their respective agreements. However, this bad faith exception has really been pushed to the bottom of the barrel in Florida contract law because courts are not in the business of rewriting contractual provisions in order to relieve a party from a provision contraced for and agreed to.

 

 

Termination for convenience provisions are important provisions for owners, contractors, and even subcontractors that utilize sub-subcontractors. The key is for the provision to be clear and it is good practice to include that the party can exercise the termination for convenience provision by giving the other side notice (whether it is 7 days, 10 days, etc.) to remove any argument whatsoever that there was not sufficient consideration for the provision.

 

For more information on termination for convenience provisions, please see: http://www.floridaconstructionlegalupdates.com/the-enforceability-of-termination-for-convenience-provisions/

 

 

Please contact David Adelstein at dadelstein@gmail.com or (954) 361-4720 if you have questions or would like more information regarding this article. You can follow David Adelstein on Twitter @DavidAdelstein1.