Eichleay Formula Loophole Could Cost Government Contractors Hundreds of Thousands

According to construction claims expert, Glen Eaton, a formula that has long been the standard for calculating costs incurred by contractors due to government delays has a major loophole that could end up costing government contractors hundreds of thousands of dollars.

"When the government decides to put a contracted construction project on hold, contractors continue to incur expenses while they wait," said Eaton.  "Home office overhead costs which should be allocated against the income of the suspended contract do not all stop; they go un-reimbursed from the moment work is halted."

When such a delay occurs, the standard procedure is for the contractor and the government to come to an amiable agreement – a contract price adjustment – based on the additional overhead expenses that the delay causes.  Legal precedent has established a formula for calculating the amount due a contractor for home office overhead during such a delay, namely, the Eichleay Formula.

"The problem," said Eaton, "is that the Eichleay formula calculates overhead expenses as a ratio of the delayed contract's billings to the billings of the entire business.  Billings, of course, consist predominantly of direct field construction activities, i.e., field costs; the resulting contractor invoices to the owner to secure his monthly "draws".  In some cases, the government will order the suspension of a project that has just been awarded – before any field expenses have accrued."

Under this circumstance, the Eichleay formula will produce a result of zero.  Thus the contractor finds himself in the unhappy position of continuing, without offsetting income, to fund the suspended contract's portion of his homeoffice expense, and is bound legally and financially to the government's delayed contract. Generally, the period of suspension is uncertian; the contractor has no idea when it will end. He must be prepared to re-mobilize and begin work almost at a moment's notice.  Moreover, with the contractor's assets and credit line bound up in sub-contracts, surety bond obligations, and equipment lease committments, many times no other work can be undertaken.

"So, even though the government owner may "assume" that no costs are accruing because no equipment or labor is being expended on the contract, the contractor is unable to pursue other work and is accruing home office expenses every day," said Eaton.

The question becomes: "Why haven't the courts addressed this serious loophole"?  The answer, according to Eaton, a consultant and former government contractor with over 40 years experience, is that the current system is flawed. It is too difficult and expensive to navigate, often contradictory, and seems at times to have no regard for its own various legal precedent. 

"This coupled with contractors' limited ability to continue fighting legal battles that are ultimately costing them more than they stand to gain from a victory has led to a number of unresolved cases that were either settled out of court or simply disappeared with the contractor cutting his losses," said Eaton.

Eaton believes that the Eichleay formula contradiction deserves more attention from the construction industry, legal experts, and government contracting officers. To help begin a dialog on the subject, Eaton is encouraging comments and debate about his white paper on the Eichleay formula loophole.

Get Involved in the Conversation

The following links lead to blog posts containing the various sections of the white paper. To read the paper, visit the blog post. You may also download the Eichleay Loophole White Paper as a PDF.

• Eichleay - Eichleay And The Recovery of Unabsorbed Home Office Overhead