The right to profit when changes increase a contractor’s cost is well established.  The purpose of an equitable price adjustment under the Changes clause is to “keep the contractor whole when the government modifies a contract.”  An essential element for this “wholeness” is allowance of a fair and reasonable profit.

The government often attempts to thwart the established principle of profit on additional cost in three ways:

1.  Profit on changed work should be limited to the profit rate in the original bid.  While the courts do consider the original profit rate, cases have generally provided for higher profit rates on contract changes than those originally proposed (Ryan-Walsh gave 10% when the original was 5%; Keco Indus. provided 5% when the original bid was no profit).

Factors found to justify higher rates than those found in the original agreement include: (a) changed work imposes greater risk and difficulty on the contractor than the original bargain (Ryan Walsh vs. US) (b) when changed work has increased the complexity and difficulty of performance (Franklin W. Peters & Assocs. justified a higher fee when design changes occurred) and (c) when a constructive change to an option resulted from an improper exercise of the option (Safeguard Maintenance Corp.).  Conversely, when a contractor has already incurred the costs for the additional work, a lower profit rate than originally bargained has been found to be justified because the associated risk is less than with future work.

2.  When the contract is in a loss position, zero profit is appropriate.  The courts have ruled that while it is appropriate to hold a contractor to the risks it assumed for the originally contracted work, it is not proper to hold the contractor to the same risk when performing additional work and undertaking additional risk it had no reason to anticipate Stewart & Stevenson Service, Inc., Accord, Litton Systems).

On the other hand, when the government seeks a price adjustment for a deductive change (e.g. lower scope of work), the government will seek recovery from both overhead and profit.  If the deducted work would have been performed at a loss, the courts have refused the government’s demand for profit for to do so would unfairly pyramid the contractor’s losses by deducting profit that would have never been earned.

3.  Profit should not be applied to overhead and G&A costs.  Unless profit is expressly excluded by contract provisions, the courts have generally ruled that profit is to be applied to not only direct costs but indirect costs as well.

Also, though profit on contract breaches was disallowed in a few older cases, modern cases have ruled that profit should be allowed.

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