This is the first case that squarely addresses the issue of whether work implicitly required by a contract qualifies as IR&D. In the mid-1990s, Newport News Shipbuilding (NNS), a long time government ship building contractor, decided to re-enter the market for construction of commercial oil tankers. It envisioned the creation of two "class" design of tankers, one for the international and one for the domestic market in which the two standard class designs would be modified to suit the requirements of its individual commercial customers. It created two IR&D accounts for the work associated with the two classes and later, when it concluded it could not sell such tankers and abandoned the market, it created a third IR&D account to collect costs that were related to finishing the design work so the design could be preserved in the corporate memory and either be transferred or sold. In 1994 it entered into a contract with a foreign buyer to design and construct four tankers for international use and in 1995, it entered a letter of intent to construct five tankers for domestic use. After receiving opinions from its in-house counsel and Arthur Anderson, it continued to charge its design efforts to the IR&D accounts and charged the contracts only the costs of modifying the "class" design to meet its customers’ requirements.

The total IR&D cost at issue was $74 million. The government not only disallowed these IR&D costs from its incurred cost proposal claims but The Department of Justice brought a False Claims Act case against NNS in 2003 alleging it charged the tanker design costs to IR&D when it knew such costs were "required in the performance of a contract" and therefore could not properly be characterized as IR&D costs.

The Court acknowledged that the meaning of "required in the performance of a contract" has been a subject of much controversy and it stated there were three potential interpretations of that language. First, the phrase could be read narrowly, such that only those efforts "explicitly called for in the contract" would be subject to exclusion under the cost principle. Second, the phrase could be read more broadly, to exclude "everything implicitly necessary to carry out" the contract. Finally, the phrase could be read as not focusing on whether the contract requirement was explicit or implicit but rather whether the effort was required by more than one contract. That is, if the effort was required by more than one contract, it could not be said to be required by "a" contract and therefore the cost would be an allowable IR&D expense.

After noting no case law squarely addressed the issue the Court adopted the second interpretation which had the effect of imposing the greatest restriction on IR&D cost allowability. The Court said the costs of efforts "required in the performance of a contract" must be read to include efforts which are not explicitly stated in the contract but are nonetheless necessary to perform the contract and thus implicitly required by it. The Court continued, saying the practical effect of its interpretation is the "required in the performance of a contract" exclusion is to create a temporal dividing line between IR&D and direct work that must be billed to a contract at the point the contract requiring the effort is signed. Prior to such a contract the research and design effort is independent and is eligible to be charged to IR&D provided the effort meets the definition of IR&D. Once a contract is signed, the research and design efforts that are explicitly or implicitly required in the performance of that contract are no longer IR&D. Thus, once a contact is signed the performance of which requires, explicitly or implicitly, a certain effort then that effort may thereafter no longer be charged as IR&D even if it also stands to benefit other existing contracts, potential future contracts or class design.

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