The district court granted summary judgment to the government on the issue of whether Sikorsky’s agreement with a subcontractor amounted to an illegal cost-plus-a-percentage-of-cost contract. Under the agreement, the subcontractor ordered spare parts for Sikorsky’s use, and added a 32 percent markup to its invoices. In short, the court found that the subcontractor directly ordered parts without providing a quote for Sikorsky’s approval, and regularly increased its invoiced cost when its vendor pricing increased between quote and delivery. Because there were no previously agreed-upon prices and because Sikorsky had no opportunity to reject an order, the court found the arrangement prohibited. The defendants argued in their own motion for summary judgment that the government was judicially estopped from arguing the position that purchase-order prices reflect “costs” for purposes of identifying a cost-plus-a-percentage-of-cost system of contacting. However, the court found that the case cited by the defendants alleged fraud on the government in a request for equitable adjustment, not an illegal contract arrangement. Because there was no connection between the cases, the court denied the motion.
The United States and Sikorsky Aircraft Corporation filed cross-motions for summary judgment in a complaint alleging that Sikorsky and its subsidiaries, Sikorsky Support Services Inc. and Derco Aerospace Inc., violated the FCA in connection with a contract with the Navy. The central issue underlying its claims is whether SSSI and Derco entered into a subcontract that provided for payment on an illegal cost-plus-a-percentage-of-cost basis.
The Contract
SSSI’s contract with the Navy provided that any parts SSSI obtained in the course of performing its maintenance services had to be billed to the government on a cost-reimbursable basis, meaning that SSSI could not add its own profit to the parts it obtained. The contract did not prohibit SSSI’s subcontractors from making a profit on the sale of parts, but did prohibit SSSI from entering into a subcontract in which SSSI agreed to pay the subcontractor on a cost-plus-a-percentage-of-cost basis.
Upon commencing performance, SSSI started procuring the necessary parts through Derco, using Derco’s software to track and order the parts that SSSI needed. The on-site personnel who ordered the parts were employed by SSSI, but the defendants conceded that the buyers were functionally agents of Derco. The defendants explained that they originally intended to have Derco directly employ the buyers, but union contracts and other obstacles made it impractical to formally designate the buyers as Derco employees. Therefore, SSSI employed them, but ultimately Derco was financially responsible for the buyers and managed their operational functions.
For several months, SSSI and Derco had no written agreement under the contract, but later entered into an Inter-Entity Work Authorization, which they made retroactive. The government described the IWA as a subcontract, but the defendants called it a basic ordering agreement that memorialized the terms under which Derco would provide contractor logistics support to SSSI under the contract.
The IWA did not identify how Derco would be compensated for providing parts and other forms of logistics support. A section entitled “Price & Delivery” did not identify specific prices or explain how SSSI and Derco would agree to prices or other compensation during performance. The only clause in the IWA relating to price provided that the IWA was for the purchasing of firm-fixed price aircraft components, but did not identify any firm-fixed prices or incorporate by reference a price list containing firm-fixed prices.
The defendants explained that there was no reasonable way at the outset to develop such a list, as neither the Navy nor its prior maintenance contractor provided Derco with a list of parts needed to support the contract, nor a usable purchasing history. Instead they agreed Derco would develop its fixed prices to SSSI by applying a markup to its vendor’s quoted price. However, this was not documented in writing. When a buyer entered the vendor’s quoted price into the purchasing system, the software automatically added a 32 percent markup. According to the defendants, the resulting price on the customer order line was Derco’s fixed sales price to SSSI for the part. However, there was no evidence in the record showing that Derco transmitted this price information to SSSI so that SSSI could agree to the price before Derco ordered the part from the vendor.
The defendants conceded that the price on Derco’s invoice did not always match the price on the purchase order. Derco explained that sometimes the price would change between order and delivery due to parts availability, raw material costs, and/or scope of work modification. They estimated that prices varied on approximately 20 percent of all part sales over the course of the relationship.
Dispute Over the Calculation of Price
The parties disputed how Derco calculated its prices to SSSI for purchases in which the purchase-order price differed from the invoice price. The defendants maintained that Derco generally set its prices based on the purchase-order price, which they describe as Derco’s “estimated costs,” even when the invoice price was different than the purchase-order price. However, Derco adopted a policy of investigating transactions in which IFS reflected that the final invoice price varied from the initial purchase-order price by more than $25. In those circumstances, Derco’s accounts payable department worked with buyers to identify the reason for the price differences and, in some cases, to adjust the net billings.
The defendants contend that they have identified 333 parts transactions involving a purchase-price variance of more than $25 that were not adjusted, including 162 transactions in which Derco lost money on its sales to SSSI. The defendants argued that these transactions proved that Derco was not adding its 32 percent markup to the invoice prices, but to the price listed on Derco’s purchase orders, and that any changes made at the time of invoicing were for legitimate reasons, not to ensure that Derco always recovered its actual costs plus 32 percent.
In contrast, the government alleged that Derco routinely adjusted its billings to SSSI to account for purchase-price variances over $25. According to the government, if a variance reflected an increase in Derco’s costs of greater than $25 and Derco determined that the invoice was correct, Derco adjusted its incurred costs for the part in its general ledger to reflect the amount of the variance, added a 32 percent markup to the PPV, and then invoiced SSSI for the additional amount. Similarly, if a variance reflected a decrease in Derco’s costs by more than $25 and Derco determined the invoice was correct, it adjusted its incurred costs and then credited SSSI for the variance, plus 32 percent of that amount. Therefore, the government alleged that Derco added its markup to the vendor’s invoice price rather than to the vendor’s quoted price as listed on Derco’s purchase order.
After the Defense Contract Management Agency questioned Derco’s pricing, SSSI and Derco agreed to end the practice of allowing Derco to add a markup to its vendors’ quoted prices, and instead agreed that Derco would provide parts to SSSI at cost and then charge a flat monthly fee for its services.
The Government’s Motion for Summary Judgment
In its motion for summary judgment, the government sought the court’s opinion on whether the agreement between SSSI and Derco for Derco to sell parts to SSSI at a 32 percent markup amounted to a prohibited cost-plus-a-percentage-of-cost system of contracting. In their motion, the defendants argued that, based on a position the United States took in UMC Electronics Co. v. United States, the government is now judicially estopped from claiming that the pricing agreement between SSSI and Derco amounted to a cost-plus-a-percentage-of-cost system of contracting.
The court sided with the government, noting that the defendants acknowledged that at the commencement of the subcontract, Derco was unable to calculate firm-fixed prices because it did not have sufficient information about the parts that SSSI would need. Therefore, the parties agreed that Derco would develop its fixed prices to SSSI by applying a markup, consisting of its estimated indirect costs and a reasonable profit, to its vendor’s quoted price on a “purchase-by-purchase basis.” The defendants maintained that this process established a fixed price to SSI, but the court concluded that did not transform the contract itself into firm fixed price within the meaning of federal acquisition law, because the defendants did not negotiate a fixed price at the time of contract formation. Instead, they agreed on a method for calculating future prices
The defendants argued that “the time of contracting” was not when they negotiated the IWA but when they agreed on a fixed price for each transaction. However, the court found no evidence that the elements of contract formation—offer, acceptance, and consideration—were met on a purchase by purchase basis. Instead, they agreed to the markup terms at the beginning of the relationship. The court also found no evidence that each individual sale of parts resulted in a separate contract between SSSI and Derco. The buyers who selected parts were Derco employees and there was no evidence SSSI had the opportunity to accept or reject pricing before Derco placed orders for parts. According to the evidence, the first time SSSI learned of the price for a part was when it received Derco’s invoice. Ultimately, because the contract did not provide for a predetermined, fixed price for Derco’s services, the court found it was not a firm-fixed-price contract.
Next, the court concluded that the arrangement resulted in a cost-plus-a-percentage-of-cost system of contracting. The court reasoned that the allowance for a 32 percent markup gave Derco an incentive to choose the vendor that quoted the highest price for parts, which is exactly the scenario the government intended to stop when it prohibited the use of cost-plus-a-percentage-of-cost contracting.
Using the criteria outlined in Urban Data Systems, the court first found no dispute that Derco’s payments were based on a predetermined percentage rate. The court also found that the subcontractor’s entitlement was uncertain at the time of contracting, as the parties did not agree on predetermined prices. Instead of obtaining vendor price quotes when preparing its proposal, Derco obtained pricing during performance. The court also found that payments increased commensurate with increased performance costs, and that the arrangement created an incentive for Derco to select higher cost parts, in order to increase the amount of markup.
The defendants argued that Derco’s vendors’ quoted prices were not binding, and that therefore Derco bore the risk that its actual costs, as reflected on the vendor invoices, would be higher than the vendor quoted prices to which it added its markup. However, the court concluded that Derco’s price to SSSI would always be highest when Derco selected the vendor that quoted the highest price. Further, the court noted that the evidence showed little variance between the quoted and invoiced prices. Because Derco received the quotes at roughly the same time that it ordered the parts, the quotes were highly unlikely to change significantly before the vendor shipped them.
The court explained that the definition of “actual performance costs” was irrelevant, as the term does not appear in the statutory text, which simply states that “[t]he cost-plus-a-percentage-of-cost system of contracting may not be used.” The term “actual performance costs” was introduced into the cost-plus-a-percentage-of-cost context by a judicial opinion that incorporated an opinion of the Comptroller General. Thus, whether or not the vendor-quoted prices are “actual performance costs” from a strict accounting perspective, the court concluded that adding a predetermined percentage rate to those prices resulted in a prohibited cost-plus-a-percentage-of-cost system of contracting.
The court also compared this scenario to another arrangement between SSSI, Derco, and the Navy for high-dollar parts sales. Under that arrangement, the Navy issues an RFP to SSSI and receives a quoted price in response. While Derco’s 32 percent markup is added to that price, the markup is added before the parts are ordered and the Navy is given the chance to review and then accept or reject the order. Once the Navy accepts one of these orders, it forms a firm fixed-price contract. In contrast to the scenario at the heart of this dispute, the court found this entirely appropriate, because Derco could not modify its price to the Navy once the order was accepted, even if its costs increased.
The defendants noted that it would not have been cost effective to separately preapprove pricing for low-dollar items. However, the court found this argument validated the fact that SSSI and Derco entered into a single contract governing all such parts sales rather than nearly 150,000 freestanding contracts for the sale of individual parts at fixed prices. Notably, the court explained that the illegal cost-plus-a-percentage-of-cost arrangement to which SSSI and Derco agreed was not the only alternative to negotiating tens of thousands of individual contracts. For example, they could have, at the outset of their subcontract, entered into the legal cost-plus-flat-monthly-fee arrangement that they eventually entered into after DCMA questioned Derco’s markup.
The court therefore granted the government’s motion for summary judgment on the issue of whether SSSI and Derco entered into a cost-plus-a-percentage-of-cost system of contracting.
The Defendants Motion on Judicial Estoppel
Next, the court considered the defendants’ cross-motion for summary judgment. The defendants argued that judicial estoppel prevents the government from arguing that Derco’s contract with SSSI resulted in a cost-plus-a-percentage-of-cost system of contracting. According to the defendants, the government is judicially estopped by the position it advanced and succeeded upon in UMC Electronics Co. v. United States, from now advancing the position that purchase-order prices reflect “costs” for purposes of identifying a cost-plus-a-percentage-of-cost system of contacting.
However, the court found this argument unavailing, as UMC Electronics was not a case involving an alleged cost-plus-a-percentage-of-cost system of contracting or any similar legal claim. That case involved a contractor’s request for equitable adjustment due to government-caused delay. The issue in that case was whether the contractor, in its claim, misrepresented the amount of additional costs it had actually incurred in performing the contract as of the time the claim was submitted. The evidence showed that the contractor’s claim included costs for items that it planned to use in performance, but never actually ordered or paid for.
The UMC court accepted the government’s argument that “actual costs” for a delay claim are the contractor’s invoiced costs, rather than prospective costs. In their motion, the defendants argued that the government’s position in UMC results in judicial estoppel because the government’s prior position that UMC’s purchase-order prices were not its “actual costs” conflicts with its current position that Derco’s purchase-order prices were its actual costs. However, the court fount the cases significantly different, as one case alleged the contractor entered into an illegal contracting agreement and the other alleged fraud. In this case, the government did not allege that Derco did not actually occur the claimed costs, but rather that the type of contract arrangement was not allowed. The court therefore concluded that the government’s distinction between purchase order prices and invoice price in UMC was helpful to the defendants here and denied their motion for summary judgment.
