Thursday, October 27, 2011

Limitation of Costs and Limitation of Funds - Part IV

Today we finish up our series on Limitation of Costs and Limitation of Funds clauses found in cost-reimbursable contracts. These clauses are more than perfunctory. Contractors that take them lightly or fail to consider them at all are at risk for incurring costs that will not be reimbursed. As we will illustrate in a moment, the courts typically side with the Government in disputes involving the application of these clauses.

The Government is not obligated to reimburse a contractor for any cost in excess of the costs and/or funds allocated to a contract. Nor is the contractor obligated to continue performance or incur any costs in excess of the estimated contract costs and/or funds allocated. The purpose of the Limitation of Costs/Funds clauses are designed to give the Government advance notice of potential cost overruns. Boards of contract appeals as well as the Court of Claims have ruled in numerous cases that an inadequate accounting or management information system is not a valid excuse for not providing the notice required by the clause.

For example, in Datatex Inc., the contractor asserted that it was unaware when contract costs exceeded 75 percent of total estimated costs because actual overhead rates could not be determined until after contract completion and Government audit. No notice was give to the Government until settlement of final overhead rates (10 months after contract completion), at which time the contractor requested a contract modification to fund the contract overrun. The contractor's request was rejected. In concluding that the contractor should have been able to foresee that its costs would exceed the contract ceiling, the ASBCA (Armed Services Board of Contract Appeals) stated that a contractor is obligated to maintain an accounting and financial reporting system adequate to apprise the contractor of a possible overrun before the overrun occurs.

A similar case involved SAI Comsystems who claimed that the Government's failure to make a timely audit excused the contractor's lack of notice and thus obligated the Government to provide additional funding. The Board did not agree, noting that a contractor has a responsibility to maintain reasonable records, in order to be able to ascertain when costs will approach the contract ceiling and to be able to cease performance in an orderly manner prior to reaching that level.

Although these clauses explicitly relieve the Government from any obligation to reimburse costs incurred in excess of the estimated (or funded) cost, that does not mean that such overruns are never paid. The contracting officer has discretionary authority to do so. In cases where the overrun is clearly a result of unforeseen circumstances or the Government has a great need for the "product", contracting officers can sometimes be prevailed upon to add additional funding to the contract. However, this should be considered a "long shot" insofar as seeking funding. In a case involving Research Applications, Inc., the board stated that "it was not the circumstances but appellant's own choice that produced the cost overrun as well as the lack of information on which a proper notice could have been based".

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