Before Rich *fn1 , Clevenger, and Rader, Circuit Judges.
The opinion of the court was delivered by: Rader, Circuit Judge.
Appealed from: Armed Services Board of Contract Appeals
The Air Force awarded a contract to VHC Inc. *fn2 for development and supply of power sources for the airborne AIM-9 missile launcher. When the Air Force terminated a portion of the contract for convenience, VHC requested an equitable adjustment for unamortized labor learning costs on the unterminated portion of the contract. The Air Force denied the request. On appeal, the Armed Services Board of Contract Appeals (the ASBCA or Board) upheld the Air Force's decision. Because the Board erred in applying a per se rule that unlevel pricing precludes recovery of unamortized labor learning costs, this court reverses and remands.
The Air Force awarded the contract in dispute on October 3, 1986. The basic contract called for VHC to deliver 1673 power supplies at a firm fixed price of $4,052,840. This quantity included 12 first article power supplies and a production quantity of 1661 power supplies. In addition, the contract gave the Air Force two options to order additional power supplies. Options I and II each called for additional lots of 1673 power supplies at firm fixed prices of $3,049,879 and $3,061,590, respectively. Under Federal Acquisition Regulation (FAR) 52.249-2, the Air Force could terminate, for convenience, all or part of the order.
The Air Force first exercised Option I on May 12, 1989, and subsequently exercised Option II on March 20, 1990. However, on September 4, 1990, the Air Force terminated for convenience all work associated with Option II. At the time of termination, VHC had not produced any of the 1673 Option II units.
By letter dated December 7, 1993, VHC requested an equitable adjustment in the unterminated portion of the contract. *fn3 Specifically, based on a learning curve analysis, VHC sought to recover its unamortized labor learning costs incurred in producing the unterminated production units. VHC asserted that its production efficiency had increased (i.e., it had experienced positive labor learning) during production of the first 3334 units and, consequently, that its cost of producing a unit had decreased over time. Therefore, VHC reasoned, had the Air Force not terminated the contract prior to production of the Option II units, its labor learning would have reduced the average unit cost over the entire contract. VHC therefore requested the equitable adjustment to compensate for the increased labor costs on the unterminated units that it would have recovered through production and sale of the Option II units.
In a final decision dated June 30, 1994, the contracting officer for the Air Force denied VHC's claim for an equitable adjustment. VHC appealed to the Board. The Board concluded that VHC was not entitled to an equitable adjustment on the unterminated portion of the contract. Because VHC's pricing was not level over the entire contract, the Board reasoned that VHC could not have expected to recover its unamortized labor learning costs of early production through decreased labor costs later in production. To reach this Conclusion, the Board relied on Bermite Division of Tasker Industries, ASBCA No. 18280, 77-1 BCA ¶ 12,349, 59,764:
"[I]t is not only relevant but indeed crucial to the concept of amortization over all contract quantities that one fixed unit price is to be paid for all quantities. In the absence of one fixed unit price, and in the presence of various unit prices for individual units or groups of units to be produced, there is no longer any expectation that costs of early production will be recovered from the unit price to be paid for all quantities including later and less costly production. Rather, there would be the expectation that the prices paid for various individual units were designed to compensate the contractor for costs of producing those units."
Accordingly, the Board held that VHC could not recover labor learning costs because the contract required different fixed prices for each of the three stages.
The Contract Disputes Act, 41 U.S.C. § 609(b) (1994), sets forth the standard of review for this case. This court reviews questions of law in appeals from the ASBCA de novo, see 41 U.S.C. § 609(b), but accepts the Board's findings of fact unless "fraudulent, or arbitrary, or capricious, or so grossly erroneous as to necessarily imply bad faith, or . . . not supported by substantial evidence." Id.
The power supply contract contains FAR clause 52.249-2, "Termination for Convenience of the Government (Fixed-Price) (APR 1984)." Subparagraph (k) of the clause states: "If the termination is partial, the Contractor may file a proposal with the Contracting Officer for an equitable adjustment of the price(s) of the continued portion of the contract." An equitable adjustment makes a contractor whole after the Government modifies a contract. See Bruce Construction Corp. v. United States, 324 F.2d 516, 518 (Ct. Cl. 1963). Thus, FAR 52.249(k) aims to place the contractor in the position that it would have enjoyed, with respect to the unterminated portion of the contract only, had the termination not occurred. See id.
The Board has long recognized unamortized labor learning costs as a legitimate form of recovery after a partial termination for convenience. See Hunter Mfg. Co., ASBCA No. 48,693, 97-1 BCA ¶ 28,824; Sierracin/Sylmar, ASBCA Nos. 27,531, 30,380, 85-1 BCA ¶ 17,875; Dunbar Kapple, Inc., ASBCA No. 3631, 57-2 BCA ¶ 1448. Proof of unamortized labor learning costs is based on a learning curve which shows that, for certain products, the direct labor hours to produce a unit declines as more units are produced. See Celesco Indus., Inc., ASBCA No. 21,928, 81-2 BCA ¶ 15,260. In other words, as production proceeds, labor productivity increases and the higher costs of producing products early in the contract may be recovered through the sale of later produced, lower cost products (i.e., amortization). See Dunbar Kapple, 57-2 BCA at ¶ ...