B-239712, Jan 23, 1991

B-239712: Jan 23, 1991

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MISCELLANEOUS TOPICS - Environment/Energy/Natural - Resources - Environmental protection - Contractors - Cost allocation DIGEST: Advance agreement between contractor and government that environmental cleanup costs will be treated as ordinary and necessary business overhead costs in the year paid is not improper under the Federal Acquisition Regulation (FAR). Are payable only if they are allowable under FAR cost principles and procedures. You ask that we review the legal basis under which the Air Force is reimbursing Boeing. We have determined that the Air Force and Boeing have entered into a "forward pricing agreement" to provide that environmental cleanup costs would be treated as ordinary and necessary business overhead costs to the extent that they are allowable under FAR cost principles.

B-239712, Jan 23, 1991

MISCELLANEOUS TOPICS - Environment/Energy/Natural - Resources - Environmental protection - Contractors - Cost allocation DIGEST: Advance agreement between contractor and government that environmental cleanup costs will be treated as ordinary and necessary business overhead costs in the year paid is not improper under the Federal Acquisition Regulation (FAR). Specific costs claimed, however, are payable only if they are allowable under FAR cost principles and procedures.

Honorable John Conyers, Jr.

Chairman, Legislation andNational Security Subcommittee

Committee on Government Operations

House of Representatives:

This responds to your May 3, 1990, letter asking us to investigate a reported Air Force plan to reimburse the Boeing Corporation for certain environmental cleanup costs in the Seattle area. Specifically, you ask that we review the legal basis under which the Air Force is reimbursing Boeing, and the Federal Acquisition Regulation's (FAR) limitations, if any, on reimbursement.

We have determined that the Air Force and Boeing have entered into a "forward pricing agreement" to provide that environmental cleanup costs would be treated as ordinary and necessary business overhead costs to the extent that they are allowable under FAR cost principles. A more detailed response to your request follows.

You also have asked us to determine the current extent of taxpayer liability for such cleanup expenses government-wide. We discussed this matter with your office and it was agreed that for the present we would provide you with the results of work we had underway to try to determine the Department of Defense's estimated costs for environmental cleanup of contaminated sites as of the time we received your request.

Background

The Boeing cleanups involve hazardous waste at two locations in the State of Washington at which Boeing operates government-owned facilities. These sites-- the Western Processing site located near Kent, and the Queen City Farms site in Maple Valley-- must now be cleaned up under consent decrees involving Boeing and the Environmental Protection Agency (EPA). The clean -up costs for these two sites are estimated to be about $70 million.

Under the consent decrees, Boeing agreed to be responsible for the bulk of the cleanup costs. When its insurance companies refused reimbursement, the firm sued the insurers. We understand that the jury found that Boeing did not knowingly contaminate the two sites in the 1950's and 1960's, but that it knew during the 1970's that the toxic material it disposed of at the sites presented an environmental threat. (Boeing Co. v. Aetna Casualty Surety Co., D.C.W.D.Wash., No. C86-352WD, verdict rendered September 21, 1990.) Boeing reportedly believes that the insurance coverage available to it under the recent verdict will adequately cover its cleanup obligations, but attorneys representing the insurers are said to be considering an appeal.

During the course of litigation, newspaper articles appeared reporting conflicting statements by Air Force personnel regarding the existence of an "agreement" under which the Air Force would reimburse Boeing for up to $27 million of the cost required to clean up two hazardous waste dumps.

The Agreement

There is no formal agreement under which the Air Force is expressly obligated to reimburse Boeing $27 million for the cleanup costs at the two locations. However, our review of internal Air Force documents, and discussions with Air Force personnel, show that in April 1988 Boeing submitted a Cost Accounting Practices Disclosure Statement for the Air Force's approval. That Disclosure Statement proposed that environmental cleanup expenses, exclusive of fines or penalties and expenses covered by insurance, would be treated by the contractor as "ordinary and necessary business overhead costs in the year paid." The Statement also discussed allocation bases for the cleanup costs, and listed the cost accounting standards Boeing believed applicable to the expenses. The Air Force contracting officer accepted Boeing's disclosure statement on May 18, 1988, for forward pricing purposes.

The Air Force estimates that Boeing will price a total of approximately $27 million into eligible government contracts to recover a share of the cleanup costs from the government. Air Force officials believe that Boeing already has recovered approximately $12.8 million of those costs through government contracts priced from 1984 through 1989. Also, the agreement provides that if Boeing recovers from its insurers or other sources for costs it has priced into contracts, the recovery will be credited to the government.

The Air Force/Boeing agreement does not in itself establish that particular environmental cleanup costs will be reimbursable under the firm's contracts with the government, but that they may be reimbursable under overhead principles. The FAR requires that the treatment of costs under advance agreements be consistent with cost principles; a fundamental principle is that any specific costs are payable only if they are "allowable." See FAR Sec. 31.109. There is, at present, no specific provision in the FAR governing the allowability of costs incurred by a government contractor in complying with various laws and regulations for protection or cleanup of the environment. Nevertheless, as a general matter a cost is allowable if it meets the criteria for each of the factors set out in FAR Sec. 31.201-2: (1) reasonableness, (2) allocability, (3) compliance with cost accounting standards, (4) compliance with contract terms, and (5) meet any other specific FAR limitations.

The Air Force is still considering whether any of Boeing's Seattle area cleanup costs are specifically limited by the FAR, and whether claimed costs are reasonable. (There evidently is no concern about the other three elements of cost allowability.)

The FAR specifically limits the allowability of certain selected costs. FAR Sec. 31.205. Particularly relevant to the allowability of environmental cleanup costs are the FAR provisions relating to fines and penalties. The FAR provides that costs of fines and penalties resulting from violations of, or failure of the contractor to comply with, federal, state, or local laws and regulations are unallowable, except when incurred as a result of contract compliance or written instructions from the contracting officer. FAR Sec. 31.205-15. According to a Boeing official, the consent decree requiring cleanup of one of the sites specifically states that the payment "is not a penalty or monetary sanction." The government's Corporate Administrative Contracting Officer nevertheless has notified Boeing that the Air Force will consider the standards on fines and penalties before agreeing to pay Boeing's environmental cleanup costs.

As stated above, the Air Force also is considering the reasonableness of the costs in issue with respect to their allowability under the FAR. cost is reasonable if, in its nature and amount, it does not exceed that which would be incurred by a prudent person in conducting a competitive business. FAR Sec. 31.201-3. A variety of considerations and circumstances govern determinations of reasonableness. In addition to whether the cost is of the type generally recognized as ordinary and necessary for the conduct of the contractor's business, the considerations include federal and state laws and regulations, and the contractor's responsibilities to the government and the public at large. FAR Sec. 31.201-3(b).

According to the Air Force, it generally views cleanup costs under the Comprehensive Environmental Response, Compensation, and Liability Act (CERCLA) as reasonable where the contractor's financial responsibility under the Act arises without evidence of fault on the contractor's part. Boeing's underlying liability for cleanup at both dump sites arises from consent orders issued on the basis of underlying CERCLA actions and, according to Air Force officials, neither consent order contains any discussion of culpability.

The Air Force further advises that in May 1987 Boeing proposed an advance agreement that all cleanup costs were reasonable, but that the contracting officer rejected the proposal on the basis that not all non insured costs were ordinary and necessary expenses, and that the reasonableness of particular costs necessarily has to be determined on a case-by-case basis. The Air Force says that determinations of the reasonableness of costs claimed by Boeing will include consideration of information developed in the private litigation along with all the other facts and circumstances surrounding the cleanups.

Unless you publicly announce its contents earlier, we will make no further distribution of this letter for 30 days.