Member Article

The Federal Circuit, in an opinion written by Judge Rader and joined by Judges Lourie and Prost, has determined that a termination of a contract for the government’s convenience does not terminate obligations to perform warranty and software upgrade services under the contract. The Court of Federal Claims, in a well-reasoned opinion by Judge Miller, had determined otherwise.

Should contract interpretation be guided by policy grounded
in legislative history or by a FAR provision not elected by the parties?

The facts in International Data Products Corp. v. United States, Nos. 2006-5083, 2006-5094, 2007 WL 1827842 (Fed. Cir. Jun. 27, 2007), are not complex. On May 5, 1997, the Air Force awarded an indefinite-delivery, indefinite-quantity contract (“the Desktop V contract”) to provide computer systems, computer and warranty services, and software products and upgrades to International Data Products (“IDP”). IDP was a small minority-owned business and participated in the Small Business Administration’s (“SBA”) 8(a) program.

The contract consisted of one base year with four one-year options and required the Air Force to place a minimum quantity of $100,000 in orders during the base year. The contract set the maximum orders at $729,010,929 and estimated the quantities needed to be $100 million. The contract required IDP to provide not only products but also bundled support services. IDP’s proposal included a three-year warranty. That warranty proposal was incorporated into the final contract.

After the parties entered the contract, Dunn Computer Corporation, a non-8(a) company purchased IDP. This acquisition, pursuant to § 637(a)(21)(A) of the Small Business Administration Act, required the Air Force to terminate IDP’s contract for convenience for failure to qualify under section 8(a). At the time of the sale, the Air Force had purchased $35 million of equipment from IDP. After the SBA denied the Air Force’s request for a waiver, the Air Force terminated the contract. In the termination letter, the Air Force stated that the termination did not affect warranty services and software upgrades. After termination, the Air Force continued to demand, and IDP (under threats of default and debarment) continued to provide, warranty services, until IDP determined that the warranty costs were threatening its survival and that of its parent company. IDP then ceased all performance.

After the contracting officer denied IDP’s request for a decision that the Air Force was not entitled to warranty services and software upgrades, IDP filed suit seeking a declaratory judgment. When the contracting officer denied IDP’s claim for termination costs, IDP filed a second suit seeking those costs. The suits were consolidated, and both parties filed for summary judgment.

The Court of Federal Claims determined that IDP was not required to provide warranty and upgrade services. It relied upon the mandate in the Small Business Administration Act that required the Air Force to terminate the contract and upon the Act’s legislative history. The court observed, “On its face the statute does not allow for a partial termination of the contract, and in fact, the CO stated that the contract was ‘completely terminated.’” International Data Products Corp. v. United States, 64 Fed. Cl. 642, 650 (2005). The court looked to the Business Opportunity Development Reform Act of 1988 (“Reform Act”), Pub. L. No. 100-656, 102 Stat. 3853, which added the termination for convenience provision to the Small Business Act, and determined that the “clear intention of the Reform Act was to prevent non-disadvantaged businesses from performing 8(a) contracts.”1 Id. The court concluded, “That goal is achieved only if the termination requires the contractor to cease all performance under the contract, including warranty and upgrade work.” Id. (emphasis in original)

The Federal Circuit disagreed. The Court emphasized that the contract (a terminated one, we point out) included a warranty clause that covered parts and labor for a minimum of three to five years and provided a two-year warranty on software upgrades. According to the Court, these services were included in the price of the product and thus were “already paid for.” International Data Products Corp., 2007 WL 1827842, at *3. Further, the Court noted, the Federal Acquisition Regulation provides for contract termination without terminating the contractor’s responsibility to honor its warranties. See 48 C.F.R. (“FAR”) § 49.603-1(b)(7). However, this regulation governs the terms that may be agreed upon by the parties to a termination for convenience “at the time a settlement agreement is negotiated.” Id. That was not the situation in this case. Regardless, when considering the question of whether the policy behind the Reform Act trumps a federal procurement regulation (with questionable application), the Federal Circuit answers that question, “No,” albeit without discussing the legislative history of the Act.

Both the Court of Federal Claims and the Federal Circuit agreed that IDP was not entitled to termination costs because the contract provided that in no event could the sum of the termination amounts payable and the amounts paid for items delivered under the contract exceed the total contract price. While the parties disputed what constituted the total contract price, the Court of Federal Claims decided that it was the minimum value of services the government was obligated to procure ($100,000) plus the value of the services it ordered in excess of the minimum (to total $35 million). Therefore, no amount remained to be paid for termination costs. 64 Fed. Cl. at 647. The Federal Circuit likewise found no basis for recovery of termination costs. 2007 WL 1827842, at *6.

If you have any questions on the foregoing, please contact:

Paul Searles
Haynes and Boone, LLP
901 Main Street, Suite 3100
Dallas, Texas 75202
Telephone: 214.651.5197
Facsimile: 214.200.0705
[email protected]

Sharon Freytag
Haynes and Boone, LLP
901 Main Street, Suite 3100
Dallas, Texas 75202
Telephone: 214.651.5586
Facsimile: 214.200.0450
[email protected]

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1 Perhaps one could argue that the legislature was not concerned with imposing the obligations, rather than the benefits, of a contract upon a non-8(a) business. In reversing the Court of Federal Claims, the Federal Circuit does not make this distinction, however; indeed, the Federal Circuit does not address the legislative history of the Reform Act.

 

Footnotes: 1 Perhaps one could argue that the legislature was not concerned with imposing the obligations, rather than the benefits, of a contract upon a non-8(a) business. In reversing the Court of Federal Claims, the Federal Circuit does not make this distinction, however; indeed, the Federal Circuit does not address the legislative history of the Reform Act.