B-31707, JUNE 12, 1943, 22 COMP. GEN. 1096

B-31707: Jun 12, 1943

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CONTRACTS - COST-PLUS - EMPLOYEE BONUS PAYMENTS BONUS PAYMENTS BY A COST-PLUS-A-FIXED-FEE CONTRACTOR TO ITS EMPLOYEES WHICH WERE NOT MADE PURSUANT TO A REGULARLY ESTABLISHED INCENTIVE BONUS SYSTEM OR AN AGREEMENT BETWEEN THE CONTRACTOR AND ITS EMPLOYEES MAY NOT BE REGARDED AS A REIMBURSABLE ITEM OF COST OF PERFORMING THE CONTRACT WORK WITHIN THE MEANING OF TREASURY DECISION 5000. IN THE ABSENCE OF A SHOWING THAT SUCH PAYMENTS WERE NECESSARY TO THE PERFORMANCE OF THE CONTRACT WORK. 1943: I HAVE YOUR LETTER OF MAY 12. AS FOLLOWS: REFERENCE IS MADE TO YOUR DECISION OF FEBRUARY 3. ENCLOSED HEREWITH IS A COMMUNICATION FROM THE CONTRACTOR. WHICH REQUEST IS APPARENTLY MADE AS A RESULT OF A LETTER TO THE CONTRACTOR FROM YOU INDICATING THAT ANY FURTHER OR ADDITIONAL FACTS WOULD BE CONSIDERED BY YOUR OFFICE.

B-31707, JUNE 12, 1943, 22 COMP. GEN. 1096

CONTRACTS - COST-PLUS - EMPLOYEE BONUS PAYMENTS BONUS PAYMENTS BY A COST-PLUS-A-FIXED-FEE CONTRACTOR TO ITS EMPLOYEES WHICH WERE NOT MADE PURSUANT TO A REGULARLY ESTABLISHED INCENTIVE BONUS SYSTEM OR AN AGREEMENT BETWEEN THE CONTRACTOR AND ITS EMPLOYEES MAY NOT BE REGARDED AS A REIMBURSABLE ITEM OF COST OF PERFORMING THE CONTRACT WORK WITHIN THE MEANING OF TREASURY DECISION 5000, CONTROLLING AMOUNTS PAYABLE AS COSTS UNDER THE CONTRACT, IN THE ABSENCE OF A SHOWING THAT SUCH PAYMENTS WERE NECESSARY TO THE PERFORMANCE OF THE CONTRACT WORK.

COMPTROLLER GENERAL WARREN TO THE SECRETARY OF WAR, JUNE 12, 1943:

I HAVE YOUR LETTER OF MAY 12, 1943, AS FOLLOWS:

REFERENCE IS MADE TO YOUR DECISION OF FEBRUARY 3, 1943 (B-31707), DENYING REIMBURSEMENT TO DOUGLAS AIRCRAFT CO., COST-PLUS-A-FIXED-FEE CONTRACTOR, FOR A PORTION OF CERTAIN EMPLOYEE BONUSES DETERMINED TO BE APPLICABLE TO WORK UNDER SUCH COST-PLUS-A-FIXED-FEE CONTRACTS.

ENCLOSED HEREWITH IS A COMMUNICATION FROM THE CONTRACTOR, DATED APRIL 19, 1943, REQUESTING THAT THERE BE SUBMITTED TO YOUR OFFICE CERTAIN NEW AND ADDITIONAL FACTS IN CONNECTION WITH THE PAYMENTS IN QUESTION, WHICH REQUEST IS APPARENTLY MADE AS A RESULT OF A LETTER TO THE CONTRACTOR FROM YOU INDICATING THAT ANY FURTHER OR ADDITIONAL FACTS WOULD BE CONSIDERED BY YOUR OFFICE.

BECAUSE OF THE EFFECT OF THE DECISION ON OTHER WAR DEPARTMENT CONTRACTS, YOUR RECONSIDERATION OF THE OPINION EXPRESSED IN YOUR LETTER OF FEBRUARY 3, 1943, WILL BE APPRECIATED. IT HAS BEEN FOUND THAT PAYMENT OF BONUSES UNDER CIRCUMSTANCES SIMILAR TO THOSE IN THIS CASE CONSTITUTES A SUBSTANTIAL AID AND INCENTIVE TO INCREASE PRODUCTION; AND IT IS BELIEVED THAT, WITHIN LIMITS SUCH AS INDICATED IN THE LETTERS ABOVE REFERRED TO, THE APPROVAL OF SUCH PAYMENTS AS REIMBURSABLE COSTS UNDER COST-PLUS-A- FIXED-FEE CONTRACTS WOULD MATERIALLY ASSIST THE WAR DEPARTMENT.

ALSO ENCLOSED ARE THE VOUCHERS ORIGINALLY SUBMITTED FOR PAYMENT, TOGETHER WITH THE FILE OF CORRESPONDENCE IN CONNECTION THEREWITH. THERE IS SOME DOUBT AS TO WHETHER ALL OF THIS FILE WAS BEFORE YOU AT THE TIME OF YOUR DECISION.

INCLUDED IN THE FILE IS A MEMORANDUM, DATED JULY 10, 1942, OF THE DIRECTOR OF THE FISCAL DIVISION, ARMY SERVICE FORCES, WHICH CORRECTLY STATES THE VIEWS OF THE WAR DEPARTMENT AS TO THE REIMBURSABILITY OF THE BONUS PAYMENTS IN QUESTION. THESE VIEWS WILL NOT BE REPEATED HEREIN EXCEPT IN THE CASE OF A FEW MATTERS OF SPECIAL IMPORTANCE.

IT WILL APPEAR BOTH FROM THIS MEMORANDUM AND FROM THE ENCLOSED COMMUNICATION FROM THE CONTRACTOR, THAT THE CONTRACTOR IS NOT SEEKING THE REIMBURSEMENT OF THE ENTIRE AMOUNT OF THE BONUS PAYMENT, BUT ONLY OF APPROXIMATELY ONE-THIRD THEREOF, BEING THE PROPORTION OF THE AMOUNT OF COST-PLUS-A-FIXED-FEE CONTRACTS TO TOTAL VOLUME OF BUSINESS.

SECTION 26.9 (I) OF TD 5000, REFERRED TO IN YOUR DECISION, WOULD SEEM MERELY TO REQUIRE THAT THE SERVICES RENDERED, RATHER THAN THE PAYMENT OF THE BONUSES, BE NECESSARY TO THE CONTRACT WORK AND THAT THE AGGREGATE COMPENSATION FOR SUCH SERVICES BE REASONABLE. ANY OTHER INTERPRETATION WOULD SEEM INCONSISTENT WITH THE FACT THAT SUCH PAYMENTS HAVE LONG BEEN CONSIDERED PROPER EXPENSES FOR INCOME TAXES AND ARE SPECIFICALLY AUTHORIZED IN THE RENEGOTIATION STATUTE, AS WELL AS INCONSISTENT WITH THE APPROVAL OF BONUS PAYMENTS IN OTHER CASES (COMP. GEN. DECISION B-27412, JULY 9 (29), 1942). IT IS CLEAR THAT, IN CASE OF THE DOUGLAS BONUS, THE WORK PERFORMED WAS NECESSARY TO THE CONTRACT WORK, I.E., PRODUCTION OF AIRPLANES, AND THAT THE AMOUNT OF THE AGGREGATE COMPENSATION WOULD APPEAR REASONABLE IN VIEW OF THE FACTS SET FORTH IN THE CONTRACTOR'S COMMUNICATION.

SECTION 26.9 (I) OF TD 5000 REFERS TO A "REGULARLY ESTABLISHED INCENTIVE BONUS SYSTEM" AS ONLY ONE EXAMPLE OF A TYPE OF BONUS PAYMENT THAT MAY BE ALLOWED AS A PART OF THE COST OF PERFORMING THE CONTRACT. SUCH A REFERENCE WOULD NOT APPEAR TO EXCLUDE, DIRECTLY OR BY IMPLICATION, THE POSSIBILITY OF REIMBURSEMENT FOR ALL OTHER TYPES OF BONUSES. U.S. V. BARNES, 220 U.S. 513, 519.

THE FILE NOW SHOWS THAT THE FIXED FEE OF THE CONTRACTOR WILL NOT BE INCREASED BY ALLOWING THE BONUS PAYMENTS AS ITEMS OF COST. THE CONTRACTOR'S FEE IS FIXED BY THE CONTRACT, AND THE "* * * FIXED FEE AT 6 PERCENT LESS 10 PERCENT," REFERRED TO IN YOUR OPINION, REPRESENTS THE ADMINISTRATIVE PROCEDURE FOLLOWED IN MAKING PAYMENTS WHEREBY EACH REIMBURSEMENT OF COST WAS ACCOMPANIED WITH A PROPORTIONATE PAYMENT OF THE AGREED FIXED FEE LESS A 10 PERCENT "HOLD-BACK.'

YOUR FURTHER CONSIDERATION OF THE QUESTION INVOLVED IN THE LIGHT OF THE ADDITIONAL INFORMATION HEREWITH SUBMITTED WILL BE APPRECIATED. IT IS REQUESTED THAT WHEN YOUR DECISION HAS BEEN RENDERED THE ENTIRE FILE BE RETURNED TO THIS OFFICE.

THE VOUCHERS FORWARDED WITH YOUR LETTER COVER PROPOSED PAYMENTS TO THE DOUGLAS AIRCRAFT COMPANY, INC., OF THE SUMS OF $124,810.48, $91,527.68 AND $61,018.47, ALLEGED TO BE DUE UNDER COST-PLUS-A-FIXED FEE CONTRACTS W535 AC-15847, W535 AC-15948, AND W535 AC-20291, DATED SEPTEMBER 9 AND 28, 1940, AND AUGUST 28, 1941, RESPECTIVELY. THE AMOUNTS REPRESENT REIMBURSEMENT OF THE PROPORTIONATE SHARE--- STATED TO BE ALLOCABLE TO THE INSTANT CONTRACTS--- OF AN ADDITIONAL COMPENSATION BONUS WHICH WAS PAID BY THE CONTRACTOR TO ITS EMPLOYEES, PLUS THE PROPORTIONATE AMOUNT OF THE CONTRACTOR'S FIXED FEE. CERTAIN FACTS RELATIVE TO THE PROPOSED PAYMENTS ARE SET FORTH IN DETAIL IN DECISION OF FEBRUARY 3, 1943, TO COLONEL L. L. GOCKER, FINANCE DEPARTMENT, U.S. ARMY, IN WHICH IT WAS HELD THAT THE AMOUNTS COVERED BY THE INSTANT VOUCHERS DID NOT CONSTITUTE REIMBURSABLE ITEMS OF COST UNDER THE TERMS OF THE CONTRACTS INVOLVED. BRIEFLY, IT APPEARS THAT THE ADDITIONAL COMPENSATION PAYMENTS WERE MADE PURSUANT TO A RESOLUTION OF THE BOARD OF DIRECTORS OF THE CORPORATION, ADOPTED ON NOVEMBER 19, 1941, WHICH PROVIDED THAT THERE SHOULD BE PAID TO EVERY EMPLOYEE ON ITS PAY ROLL AS OF SAID DATE, EXCEPT THOSE ON THE CORPORATION PRESIDENT'S PAY ROLL, ONE WEEK'S PAY--- NOT TO EXCEED $50 TO ANY ONE PERSON--- IN RECOGNITION OF THE LOYAL AND EFFICIENT SERVICE OF EACH EMPLOYEE IN HELPING THE COMPANY MEET AND ACCELERATE THE NATIONAL DEFENSE PROGRAM. IT APPEARS FURTHER THAT THE TOTAL AMOUNT OF THE ADDITIONAL COMPENSATION THUS PAID TO THE EMPLOYEES BY THE CONTRACTOR IS REPORTED TO BE $1,159,847.90, AND THAT, OF SUCH AMOUNT, THERE HAVE BEEN CHARGED TO THE GOVERNMENT, AS ALLOCABLE TO THE THREE AFORESAID MENTIONED COST-PLUS-A- FIXED-FEE CONTRACTS, THE SUMS OF $118,416.02, $86,838.41, AND $57,892.28, OR A TOTAL OF $263,146.71.

THE QUESTION FOR CONSIDERATION IS WHETHER, UNDER THE TERMS OF CONTRACTS INVOLVED, THE GOVERNMENT IS OBLIGATED TO REIMBURSE THE CONTRACTOR FOR THE AMOUNT OF THE EXTRA COMPENSATION STATED TO BE ALLOCABLE THERETO.

THE PAYMENT PROVISIONS OF THE THREE CONTRACTS--- WHILE DIFFERING IN SLIGHT DETAIL--- ARE SIMILAR IN ALL MATERIAL RESPECTS. ARTICLE 3 OF CONTRACTS NO. W535AC-15847 AND W535 AC-15948, SUPRA, PROVIDES IN PART, AS FOLLOWS:

(B) FOR PURPOSES OF DETERMINING THE AMOUNT PAYABLE UNDER THIS CONTRACT, ALLOWABLE ITEMS OF COST WILL BE DETERMINED BY THE CONTRACTING OFFICER IN ACCORDANCE WITH REGULATIONS PROMULGATED BY THE TREASURY DEPARTMENT IN T.D. 5000 AND APPROVED BY THE SECRETARY OF WAR, AUGUST 2, 1940; EXCEPT THAT THE FOLLOWING ITEMS SHALL, INSOFAR AS NOT PROHIBITED BY LAW, BE ALLOWED:

(7) REASONABLE COMPENSATION FOR SERVICES OF EMPLOYEES PROVIDED THAT THE AGGREGATE COMPENSATION PAID TO EACH INDIVIDUAL SHALL BE FOR SERVICES ACTUALLY RENDERED INCIDENT TO, AND NECESSARY FOR, THE PERFORMANCE OF THIS CONTRACT AND SHALL BE REASONABLE, AND REASONABLE VACATION AND SICK LEAVE PAYMENTS MADE TO EMPLOYEES.

ARTICLE 3 OF CONTRACT NO. W535 AC-20291, DATED AUGUST 28, 1941, CONTAINS, AMONG OTHERS, THE FOLLOWING PROVISION FOR REIMBURSEMENT OF THE CONTRACTOR'S EXPENDITURES:

(B) FOR PURPOSES OF DETERMINING THE AMOUNTS PAYABLE TO THE CONTRACTOR UNDER THIS CONTRACT, ALLOWABLE ITEMS OF COST WILL BE DETERMINED BY THE CONTRACTING OFFICER IN ACCORDANCE WITH REGULATIONS FOR THE DETERMINATION OF THE COST OF PERFORMING A CONTRACT AS PROMULGATED BY THE TREASURY DEPARTMENT IN SECTION 26.9 OF CHAPTER I OF TITLE 26 OF CODE OF FEDERAL REGULATIONS, AS CONTAINED IN T.D. 5000 AND APPROVED BY THE SECRETARY OF WAR, AUGUST 2, 1940, * * *

SECTION 26.9 (I) OF T.D. 5000, REFERRED TO IN THE CONTRACTS INVOLVED, PROVIDES AS FOLLOWS:

UNREASONABLE COMPENSATION.--- THE SALARIES AND COMPENSATION FOR SERVICES WHICH ARE TREATED AS A PART OF THE COST OF PERFORMING A CONTRACT OR SUBCONTRACT INCLUDE REASONABLE PAYMENTS FOR SALARIES, BONUSES, OR OTHER COMPENSATION FOR SERVICES. AS A GENERAL RULE, BONUSES PAID TO EMPLOYEES (AND NOT TO OFFICERS) IN PURSUANCE OF A REGULARLY ESTABLISHED INCENTIVE BONUS SYSTEM MAY BE ALLOWED AS A PART OF THE COST OF PERFORMING A CONTRACT OR SUBCONTRACT.

THE TEST OF ALLOWABILITY IS WHETHER THE AGGREGATE COMPENSATION PAID TO EACH INDIVIDUAL IS FOR SERVICES ACTUALLY RENDERED INCIDENT TO, AND NECESSARY FOR, THE PERFORMANCE OF THE CONTRACT OR SUBCONTRACT, AND IS REASONABLE. EXCESSIVE OR UNREASONABLE PAYMENTS WHETHER IN CASH, STOCK OR OTHER PROPERTY OSTENSIBLY AS COMPENSATION FOR SERVICES SHALL NOT BE INCLUDED IN THE COST OF PERFORMING A CONTRACT OR SUBCONTRACT.

THUS, IT APPEARS THAT THE CONTRACTS DO NOT CONTAIN ANY PROVISION STIPULATING EXPRESSLY AND SPECIFICALLY THAT EXTRA COMPENSATION PAYMENTS TO EMPLOYEES--- SUCH AS ARE HERE INVOLVED--- SHALL CONSTITUTE REIMBURSABLE ITEMS OF COSTS. IN THE DECISION OF FEBRUARY 3, 1943, SUPRA, IT WAS HELD THAT PAYMENT OF THE VOUCHERS WAS NOT AUTHORIZED FOR THE REASON THAT, SINCE THE ADDITIONAL WAGE PAYMENTS HERE INVOLVED WERE NOT MADE PURSUANT TO A REGULAR ESTABLISHED INCENTIVE BONUS SYSTEM OF THE CONTRACTOR, THERE WAS NO OBLIGATION ON THE UNITED STATES, UNDER THE TERMS OF THE CONTRACTS INVOLVED, TO REIMBURSE THE CONTRACTOR FOR THE AMOUNT THEREOF IN THE ABSENCE OF A SHOWING THAT THE PAYMENT OF SUCH ADDITIONAL COMPENSATION WAS NECESSARY TO THE PERFORMANCE OF THE CONTRACT WORK.

IT IS STATED IN YOUR LETTER OF MAY 12, SUPRA, AND IN THE MEMORANDUM OF JULY 10, 1942, OF THE DIRECTOR OF THE FISCAL DIVISION, ARMY SERVICE FORCES, REFERRED TO THEREIN, TO BE THE VIEW OF YOUR DEPARTMENT THAT, UNDER THE TERMS OF SECTION 26.9 (I) OF T.D. 5000, SUPRA, ALL THAT IS NECESSARY IN ORDER TO ENTITLE A CONTRACTOR TO REIMBURSEMENT FOR A BONUS PAYMENT, IS A SHOWING THAT THE SERVICES FOR WHICH THE BONUS WAS PAID ACTUALLY WERE RENDERED IN CONNECTION WITH THE CONTRACT WORK AND THAT THE AGGREGATE AMOUNT OF COMPENSATION RECEIVED BY THE EMPLOYEES IS REASONABLE.

HOWEVER, IT IS TO BE NOTED THAT SAID SECTION 26.9 (I) OF T.D. 5000 DOES NOT PROVIDE AFFIRMATIVELY THAT A BONUS PAYMENT TO EMPLOYEES SUCH AS IS HERE INVOLVED, IPSO FACTO, SHALL CONSTITUTE AN ALLOWABLE ITEM OF COST UNDER THE CONTRACTS. RATHER, SAID SECTION 26.9 (I) MERELY SETS FORTH A TEST FOR THE DETERMINATION OF WHAT SHALL CONSTITUTE REASONABLE COMPENSATION AND, IN THIS REGARD, IT SIMPLY STATES THAT REASONABLE COMPENSATION OR SALARIES TO EMPLOYEES MAY INCLUDE BONUSES; OR, STATED CONVERSELY, THAT THE INCLUSION OF A BONUS IN THE SALARY OR COMPENSATION PAID TO AN EMPLOYEE DOES NOT MEAN THAT THE AMOUNT OF SAID SALARY OR COMPENSATION IS UNREASONABLE. HENCE, IT IS SEEN THAT SECTION 26.9 (I) OF T.D. 5000 CONSTITUTES ONLY ONE TEST IN DETERMINING THE QUESTION AS TO WHETHER A PARTICULAR BONUS PAYMENT IS A PROPER ITEM OF COST FOR REIMBURSEMENT TO A CONTRACTOR.

HOWEVER, THIS TYPE OF EXPENDITURE, AS WELL AS ALL OTHER ITEMS SET FORTH IN DETAIL IN SECTION 26.9 OF T.D. 5000, ARE SUBJECT TO THE GENERAL TESTS OR CRITERIA CONTAINED IN SUBSECTIONS (A) AND (B) OF SAID SECTION 26.9. THESE SUBSECTIONS ARE AS FOLLOWS:

COST OF PERFORMING A CONTRACT OR SUBCONTRACT.--- (A) GENERAL RULE.- - THE COST OF PERFORMING A PARTICULAR CONTRACT OR SUBCONTRACT SHALL BE THE SUM OF (1) THE DIRECT COSTS, INCLUDING THEREIN EXPENDITURES FOR MATERIALS, DIRECT LABOR AND DIRECT EXPENSES, INCURRED BY THE CONTRACTING PARTY IN PERFORMING THE CONTRACT OR SUBCONTRACT; AND (2) THE PROPER PROPORTION OF ANY INDIRECT COSTS (INCLUDING THEREIN A REASONABLE PROPORTION OF MANAGEMENT EXPENSES) INCIDENT TO AND NECESSARY FOR THE PERFORMANCE OF THE CONTRACT OR SUBCONTRACT.

(B) ELEMENTS OF COST.--- NO DEFINITIONS OF THE ELEMENTS OF COST MAY BE STATED WHICH ARE OF INVARIABLE APPLICATION TO ALL CONTRACTORS AND SUBCONTRACTORS. * * * CONSIDERATION THEREOF REVEALS THAT ONE OF THE GENERAL CRITERIA OR TESTS TO BE APPLIED IN DETERMINING WHETHER AN EXPENDITURE CONSTITUTES A PROPER ITEM OF COST IS: WAS SUCH AN EXPENDITURE NECESSARY TO THE PERFORMANCE OF THE CONTRACT WORK? THE COST OF PERFORMING A CONTRACT IS DEFINED THEREIN AS SUM OF DIRECT LABOR AND MATERIAL COSTS AND OTHER DIRECT EXPENSES--- THE NECESSITY FOR WHICH IS APPARENT AND IMPLICIT--- PLUS THE PROPER PROPORTION OF ANY INDIRECT COSTS "INCIDENT TO AND NECESSARY FOR THE PERFORMANCE OF THE CONTRACT OR SUBCONTRACT.' ALSO, IT IS SEEN FROM SUBSECTION (B) THAT THE DEFINITIONS FOR THE DETERMINATIONS OF COST SET FORTH IN DETAIL IN SAID SECTION 26.9 MERELY ARE GENERAL AND ARE NOT FOR INVARIABLE APPLICATION. HENCE, UNDER THE GENERAL TERMS OF SECTION 26.9 OF T.D. 5000, IN ORDER FOR AN EXPENDITURE BY A CONTRACTOR TO BE CONSIDERED AS A PROPER ITEM OF COST, IT MUST BE SHOWN, AS A CONDITION PRECEDENT, THAT SUCH EXPENDITURE WAS NECESSARY FOR THE PERFORMANCE OF THE CONTRACT WORK. SUCH A RULE IS PARTICULARLY APPLICABLE WHERE, AS HERE, THE DEFINITION OF THE COSTS OF PERFORMING A CONTRACT SET FORTH IN T.D. 5000 IS BEING USED TO MEASURE THE GOVERNMENT'S LIABILITY TO REIMBURSE A COST PLUS- A-FIXED-FEE CONTRACTOR RATHER THAN AS A MEASURE OF A CONTRACTOR'S COST FOR THE COMPUTATION OF EXCESSIVE PROFITS--- FOR WHICH PURPOSE T.D. 5000 IS PRIMARILY INTENDED. ALSO, IN THIS CONNECTION, IT MAY BE STATED THAT SUCH A CRITERION IS IN ACCORDANCE WITH THE TEST OF REIMBURSABILITY CONTAINED IN THE PROVISIONS OF VARIOUS STANDARD FORMS OF COST-PLUS-A-FIXED-FEE CONTRACTS APPROVED FOR USE BY YOUR DEPARTMENT. IT HAS BEEN NOTED THAT, UNDER SAID STANDARD FORMS OF CONTRACTS, IN EVERY INSTANCE IN WHICH THE NECESSITY OF A SPECIFIED TYPE OF EXPENDITURE TO PERFORMANCE OF THE CONTRACT WORK IS NOT APPARENT, THE CONTRACT FORMS PROVIDE THAT THE CONTRACTOR SHALL BE REIMBURSED ONLY WHEN SUCH EXPENDITURE IS NECESSARY OR REQUIRED. SEE F.F. FORM NO. 1 APPROVED BY THE UNDER SECRETARY OF WAR JUNE 19, 1941 ( REVISED), AND W.D. CONTRACT FORM NO. 3, APPROVED AS TO FORM BY DIRECTION OF THE UNDER SECRETARY OF WAR MAY 13, 1942. FURTHERMORE, IN DETERMINING WHETHER A PARTICULAR EXPENDITURE IS PROPER FOR REIMBURSEMENT, THE DECISIONS OF THIS OFFICE HAVE ADOPTED, AS ONE OF THE TESTS, THE RULE THAT THE NECESSITY OF THE EXPENDITURE TO PERFORMANCE OF THE CONTRACT WORK MUST BE SHOWN. SEE 21 COMP. GEN. 466; 22 COMP. GEN. 183, ID. 349.

MOREOVER, IT DOES NOT APPEAR THAT SUCH VIEW IS INCONSISTENT WITH THE FACT THAT REASONABLE AMOUNTS REPRESENTING BONUS PAYMENTS BY A CONTRACTOR TO EMPLOYEES ARE ALLOWED AS PROPER EXPENSES FOR INCOME TAX PURPOSES AND, ALSO, IN THE RENEGOTIATION OF CONTRACTS FOR THE PURPOSE OF ELIMINATING EXCESSIVE PROFITS. THERE IS AN OBVIOUS DIFFERENCE BETWEEN THE QUESTION AS TO WHETHER THE AMOUNT OF A BONUS PAYMENT CONSTITUTES AN ORDINARY AND REASONABLE BUSINESS EXPENSE FOR THE PURPOSE OF COMPUTING A CONTRACTOR'S INCOME TAX OR EXECUTIVE PROFITS, AND THE QUESTION AS TO WHETHER THE AMOUNT OF A BONUS PAYMENT IS REIMBURSABLE BY THE GOVERNMENT AS AN ITEM OF COST UNDER A COST-PLUS-A-FIXED-FEE CONTRACT. IN THE LATTER CASE, THE EXTENT OF THE GOVERNMENT'S OBLIGATION TO REIMBURSE A COST-PLUS-A-FIXED-FEE CONTRACTOR FOR EXPENDITURES MUST BE GOVERNED SOLELY BY THE TERMS OF THE CONTRACT BETWEEN THE PARTIES AND, AS HAS BEEN POINTED OUT ABOVE, THE TERMS OF SECTION 26.9 OF T.D. 5000 CLEARLY CONTEMPLATE THAT, IN ORDER FOR AN EXPENDITURE TO BE REIMBURSABLE, IT MUST BE NECESSARY TO THE PERFORMANCE OF THE CONTRACT WORK.

ALSO, THE FACTS PERTAINING TO THE BONUS PAYMENT REFERRED TO IN YOUR LETTER OF MAY 12--- CONSISTING OF GRATUITY PAYMENTS TO EMPLOYEES ENTERING THE MILITARY SERVICE--- REIMBURSEMENT FOR WHICH WAS AUTHORIZED IN MY DECISION OF JULY 29, 1942, B-27412 (22 COMP. GEN. 82), ARE ENTIRELY DIFFERENT FROM THOSE RELATING TO THE EXTRA COMPENSATION PAYMENTS HERE INVOLVED. IT APPEARS THAT, IN THE FORMER CASE, THE CONTRACT PROVIDED FOR REIMBURSING THE CONTRACTOR FOR "* * * WAGES AND EXTRA COMPENSATION TO EMPLOYEES CHARGES UNDER AND A PROPORTIONATE SHARE OF THE COST OF ALL WELFARE AND OTHER EMPLOYEES RELATIONS PLANS MAINTAINED BY THE CONTRACTOR * * * ANY DISCONTINUANCE WAGES * * *," AND THAT THE GRATUITY PAYMENT FOR WHICH REIMBURSEMENT WAS AUTHORIZED HAD BEEN MADE PURSUANT TO A GENERAL POLICY ADOPTED BY THE CONTRACTOR.

APPLYING THE TEST OF NECESSITY TO THE EXPENDITURE HERE INVOLVED, IT IS SEEN THAT, WHILE THE EMPLOYEES TO WHOM THE EXTRA COMPENSATION WAS PAID INCLUDED THOSE DIRECTLY ENGAGED IN THE PERFORMANCE OF WORK UNDER THE COST- PLUS-A-FIXED-FEE CONTRACTS, THERE WAS NO APPARENT OR IMPLIED NECESSITY FOR THE CONTRACTOR'S MAKING THE PAYMENT OF THE ADDITIONAL COMPENSATION. OTHER WORDS, SUCH EXTRA COMPENSATION DOES NOT APPEAR TO HAVE BEEN PAID PURSUANT TO ANY AGREEMENT BETWEEN THE CONTRACTOR AND THE EMPLOYEES, NOR WAS IT PAID PURSUANT TO ANY REGULARLY ESTABLISHED INCENTIVE BONUS SYSTEM OF THE CONTRACTOR. HENCE, THERE IS NOTHING IN THE PAYMENT OF THE BONUS ITSELF WHICH INDICATES THAT IT WAS IN ANY WAY NECESSARY TO THE PERFORMANCE OF THE CONTRACT WORK.

FURTHERMORE, CAREFUL CONSIDERATION HAS BEEN GIVEN TO THE VARIOUS MATTERS SET FORTH BY THE CONTRACTOR IN ITS LETTER OF APRIL 19, 1943, BUT I FIND NOTHING THEREIN WHICH ESTABLISHES ANY NECESSITY FOR THE PAYMENT OF THE EXTRA COMPENSATION, SO AS TO AUTHORIZE THE REIMBURSEMENT OF ANY PORTION THEREOF BY THE GOVERNMENT. THE VARIOUS REASONS CITED BY THE CONTRACTOR IN SAID LETTER FOR THE PAYMENT OF THE ADDITIONAL COMPENSATION HAVE BEEN SUMMARIZED AS BEING THAT SUCH PAYMENT WAS CONSISTENT WITH THE CUSTOM AND PRACTICE OF OTHER COMPANIES IN THE INDUSTRY AS WELL AS THAT OF THE CONTRACTOR; THAT THE PAYMENT WAS A REWARD FOR PAST SERVICES AND A SPUR FOR THE FUTURE, AND THAT SAID PAYMENT WAS NECESSARY TO RETAIN EMPLOYEES AND TO CONTINUE SATISFACTORY PRODUCTION. WITH RESPECT TO THE FIRST OF THESE REASONS, IT IS STATED IN SAID LETTER, AS FOLLOWS:

4. COLONEL GOCKER'S LETTER CORRECTLY STATES THAT THE RECORD DOES NOT DISCLOSE THAT CONTRACTOR HAD PREVIOUSLY ESTABLISHED THE PRACTICE OF MAKING BONUS PAYMENTS TO EMPLOYEES OF THE IDENTICAL TYPE OR AMOUNT HERE INVOLVED. VARIOUS BONUSES HAD BEEN PAID EMPLOYEES IN THE PAST, HOWEVER, SUCH AS BONUSES OF ONE DAY'S PAY AT CHRISTMAS (BEGINNING IN 1940) AND ONE DAY'S PAY FOR EACH OF NEW YEAR'S DAY AND FOURTH OF JULY (BEGINNING IN 1941) AND VACATION AND SICK LEAVE WITH PAY (TO SALARIED EMPLOYEES SINCE THE INCEPTION OF THE COMPANY AND TO HOURLY-PAID EMPLOYEES BEGINNING IN 1940). IN NOVEMBER 1938, A LUMP-SUM PAYMENT WAS MADE TO EMPLOYEES. THE AMOUNT OF THE PAYMENT REPRESENTED A PAY INCREASE RETROACTIVE FROM OCTOBER 6 TO NOVEMBER 1, BUT THIS PAYMENT WAS GENERALLY REGARDED BY THE EMPLOYEE AS A BONUS. THUS THE INSTANT ACTION BY THE CONTRACTOR WAS NOT WITHOUT PRECEDENT IN CONTRACTOR'S OWN OPERATIONS. FURTHERMORE, PAYMENTS OF ADDITIONAL COMPENSATION SIMILAR IN NATURE TO THAT MADE BY CONTRACTOR IN 1941 HAD BEEN MADE BY NORTH AMERICAN AVIATION, INC., IN JUNE AND DECEMBER 1940 AND BY LOCKHEED AIRCRAFT CORPORATION IN DECEMBER 1940, THE PREVIOUS YEAR. THE AMOUNTS PAID BY NORTH AMERICAN AVIATION, INC. IN 1940 AND FOR PREVIOUS YEARS WERE AS FOLLOWS:

1937 AND 1938: ONE WEEK'S PAY IN DECEMBER PLUS $5 FOR EACH YEAR'S

SERVICE.

1939: ONE WEEK'S PAY IN JUNE; THREE WEEKS' PAY IN DECEMBER, PLUS

ADDITIONAL AMOUNTS FOR SERVICE PERIOD.

1940: ONE WEEK'S PAY IN JUNE; TWO WEEKS' PAY IN DECEMBER, PLUS

ADDITIONAL AMOUNTS FOR SERVICE PERIOD. THE LOCKHEED PAYMENT IN 1940 WAS APPROXIMATELY ONE WEEK'S BASE PAY (THE ACTUAL COMPUTATION WAS RATHER COMPLICATED) FOR EMPLOYEES EARNING UP TO $200 PER MONTH. THE CONTRACTOR'S PAYMENT IN 1941 WAS ONE WEEK'S PAY BUT NOT TO EXCEED $50.

THESE COMPANIES, AS WELL AS CONTRACTOR, HAVE PRINCIPAL PLANTS SITUATED IN THE LOS ANGELES METROPOLITAN AREA. IN VIEW OF SUCH PAYMENTS MADE BY OTHER COMPANIES, CONSIDERABLE DISSATISFACTION HAD BEEN EXPRESSED BY CONTRACTOR'S EMPLOYEES BECAUSE SIMILAR PAYMENTS WERE NOT PREVIOUSLY MADE BY CONTRACTOR. CONTRACTOR FELT THAT A REPETITION OF SUCH DISSATISFACTION WOULD BE HARMFUL TO EMPLOYEE MORALE. CONTRACTOR'S FISCAL YEAR ENDED NOVEMBER 30, AND IT WAS THEREFORE NECESSARY TO REACH A DECISION ON THE MATTER IN NOVEMBER EVEN THOUGH ACTUAL PAYMENT WAS TO BE MADE IN DECEMBER. HOWEVER, CONTRACTOR WAS UNABLE TO ASCERTAIN IN NOVEMBER WHETHER OR NOT OTHER COMPANIES WOULD MAKE SIMILAR PAYMENTS IN DECEMBER, AND WAS FORCED TO ASSUME PAYMENTS SIMILAR TO THOSE PREVIOUSLY MADE WOULD BE REPEATED BY OTHER COMPANIES.

THE FACT THAT THE CONTRACTOR OCCASIONALLY MAY HAVE GRANTED ONE EXTRA DAY'S PAY TO EMPLOYEES, OBVIOUSLY, DOES NOT ESTABLISH THAT THE PAYMENT OF A BONUS, SUCH AS IS HERE INVOLVED, WAS A PART OF ITS STANDARD PRACTICE NOR DOES IT ESTABLISH THAT THE BONUS PAYMENT IN QUESTION WAS MADE PURSUANT TO AN ESTABLISHED INCENTIVE BONUS SYSTEM. FURTHERMORE, THE FACT THAT THE CONTRACTOR MAY HAVE DEEMED IT ADVISABLE TO GIVE ITS EMPLOYEES THE ADDITIONAL ONE WEEK'S PAY HERE INVOLVED BECAUSE OTHER MANUFACTURERS OF AIRPLANES IN THE VICINITY HAD DONE SO IN PREVIOUS YEARS WITH RESULTANT DISSATISFACTION AMONG ITS EMPLOYEES BECAUSE OF THEIR FAILURE TO RECEIVE SUCH AN ADDITIONAL PAYMENT, AND THAT IT BELIEVED THAT A CONTINUED FAILURE TO PAY A BONUS MIGHT PROVE DETRIMENTAL TO THE MORALE OF ITS EMPLOYEES, CANNOT BE ACCEPTED AS ESTABLISHING ANY NECESSITY FOR SUCH PAYMENT IN CONNECTION WITH THE PERFORMANCE OF THE INSTANT CONTRACTS SO AS TO IMPOSE ON THE GOVERNMENT ANY LIABILITY TO REIMBURSE THE CONTRACTOR THEREFOR. IS APPARENT FROM THE CONTRACTOR'S OWN STATEMENT THAT ANY DISSATISFACTION WHICH MAY HAVE EXISTED AMONG ITS EMPLOYEES WAS DUE SOLELY TO THE CONTRACTOR'S FAILURE TO HAVE PAID, IN PREVIOUS YEARS, BONUSES SUCH AS HAD BEEN PAID BY OTHER AIRPLANE MANUFACTURERS IN THE VICINITY; AND, OBVIOUSLY, SUCH FACT HAD NO DIRECT RELATION TO THE PERFORMANCE OF THE PARTICULAR COST PLUS CONTRACTS HERE INVOLVED. RATHER, THE ABOVE QUOTED EXPLANATION OF THE CONTRACTOR SHOWS CLEARLY THAT THE INSTANT BONUS PAYMENT WAS INTENDED PRIMARILY TO SERVE THE CONTRACTOR'S OWN INTERESTS, AND THAT ANY BENEFITS WHICH MAY HAVE RESULTED TO THE UNITED STATES FROM SUCH PAYMENT WERE INCIDENTAL. IN THIS CONNECTION, IT HAS BEEN NOTED THAT ALL STATEMENTS MADE BY THE CONTRACTOR AT THE TIME OF THE BONUS PAYMENT INDICATE THAT SAID PAYMENT WAS REPRESENTED AS HAVING BEEN MADE SOLELY THROUGH THE BENEVOLENCE OF THE CONTRACTOR. THUS, NEITHER THE RESOLUTION OF THE BOARD OF DIRECTORS NOR THE EXECUTIVE BULLETIN ISSUED TO THE EMPLOYEES OF THE COMPANY, ANNOUNCING THE PAYMENT OF THE BONUS, CONTAINED ANY MENTION OF THE FACT THAT THE UNITED STATES WAS TO BEAR THE COST OF APPROXIMATELY ONE-THIRD OF THE TOTAL AMOUNT OF THE PAYMENTS MADE. IN OTHER WORDS, AT THE TIME OF THE BONUS PAYMENT THE GOVERNMENT APPEARS TO HAVE BEEN GIVEN NO CREDIT WHATEVER FOR THE ADDITIONAL COMPENSATION RECEIVED BY THE EMPLOYEES.

MOREOVER, IT MAY BE SAID THAT THE FIXED FEE PAID TO THE CONTRACTOR BY THE GOVERNMENT MUST BE PRESUMED TO CONTEMPLATE THE ASSUMPTION OF SOME RESPONSIBILITY AND DUTY BY THE CONTRACTOR; AND CERTAINLY ANY EXPENSES INCURRED BY A CONTRACTOR IN THE MAINTENANCE OF PROPER MORALE AND SPIRIT AMONG ITS EMPLOYEES--- PARTICULARLY WHERE ANY LACK OF MORALE OR SPIRIT IS ATTRIBUTABLE IN PART, AT LEAST, TO A PREVIOUS PRACTICE OF THE CONTRACTOR-- - MUST BE PRESUMED TO BE CHARGEABLE TO THE FIXED FEE.

IN SUPPORT OF THE ALLEGATION BY THE CONTRACTOR THAT THE BONUS PAYMENT WAS NECESSARY IN ORDER TO RETAIN EMPLOYEES AND TO CONTINUE SATISFACTORY PRODUCTION, IT IS STATED IN THE CONTRACTOR'S LETTER OF APRIL 19, AS FOLLOWS:

IN VIEW OF THE RAPIDLY EXPANDING NATIONAL DEFENSE (LATER WAR) PROGRAM, THE CONTRACTOR DEEMED IT NECESSARY TO OFFER EMPLOYEES THIS COMPENSATION, NOT ONLY AS A REWARD FOR PAST ACHIEVEMENT BUT AS A SPUR FOR THE FUTURE. EMPLOYEE TURNOVER AT THIS TIME WAS REACHING ALARMING PROPORTIONS, AND MANY EMPLOYEES WERE BEING LOST TO OTHER COMPANIES AND INDUSTRIES. THE SOUTHERN CALIFORNIA SHIPBUILDERS HAD ESTABLISHED A WAGE SCALE SUBSTANTIALLY HIGHER THAN THAT ESTABLISHED BY THE AIRCRAFT COMPANIES, AND LITERALLY THOUSANDS OF EMPLOYEES WERE AT THIS TIME LEAVING CONTRACTOR'S EMPLOY TO OBTAIN JOBS IN THE SHIPYARDS. THE AVERAGE HOURLY EARNINGS (INCLUDING OVERTIME) FOR NOVEMBER 1941, OF EMPLOYEES OF LOS ANGELES AREA PRODUCERS OF AIRCRAFT AND PARTS WERE 90.5 CENTS; THOSE OF CONTRACTOR'S EMPLOYEES WERE 88.9 CENTS; THOSE OF EMPLOYEES OF THE LOS ANGELES AREA SHIPBUILDING INDUSTRY WERE $1.243. ( DATA FROM CALIFORNIA LABOR STATISTICS BULLETIN.) THUS THE WAGE DIFFERENTIAL WAS APPROXIMATELY 40 PERCENT IN FAVOR OF SHIPBUILDING.

THE ABOVE FACTORS FURTHER JUSTIFIED THE PAYMENT OF SUCH ADDITIONAL COMPENSATION.

HOWEVER, IT MAY BE STATED THAT, IF THE CONTRACTOR WAS LOSING EMPLOYEES BECAUSE OF HIGHER WAGES BEING PAID BY OTHER INDUSTRIES IN THE VICINITY, THE MATTER WAS FOR TAKING UP WITH THE WAR DEPARTMENT OR OTHER PROPER AGENCIES OF THE GOVERNMENT FOR THE PURPOSE OF HAVING SUCH CONDITIONS REMEDIED, AND, OBVIOUSLY, THERE WAS NO AUTHORITY IN THE CONTRACTOR TO UNDERTAKE TO REMEDY SUCH CONDITION BY GRANTING ITS EMPLOYEES AN ADDITIONAL COMPENSATION PAYMENT AND THEN ATTEMPTING TO IMPOSE A PART OF SUCH EXPENSE ON THE UNITED STATES AS AN ITEM OF COST UNDER THE CONTRACTS HERE INVOLVED. FURTHERMORE, IT IS TO BE NOTED THAT CONTRACTS NOS. W535 AC- 15948 AND W535 AC-15847, SUPRA, PROVIDE IN ARTICLE 3, PARAGRAPH (B) (2) THAT THE CONTRACTOR SHALL BE REIMBURSED FOR---

ANY REASONABLE COSTS ARISING BY REASON OF OR IN CONNECTION WITH LABOR SHORTAGE OR LABOR DISPUTES, PROVIDED THAT PRIOR TO INCURRING SUCH COSTS, THE CONTRACTOR NOTIFIES THE CONTRACTING OFFICER OF THE NECESSITY THEREFOR AND THE CONTRACTING OFFICER DETERMINES AND ADVISES THE CONTRACTOR THAT SUCH COST SHOULD BE INCURRED. * * * HENCE, AS TO THESE TWO CONTRACTS, A SPECIFIC PROCEDURE WAS PROVIDED FOR THE CONTRACTOR TO FOLLOW IN THE EVENT IT WAS FACED WITH A LABOR SHORTAGE, AND SAID PROVISION SPECIFICALLY REQUIRED THE ADVANCE APPROVAL OF THE CONTRACTING OFFICER BEFORE THE CONTRACTOR WAS AUTHORIZED TO INCUR ANY COSTS IN CONNECTION WITH LABOR SHORTAGES. WHILE THE CONTRACTOR ALLEGES IN ITS LETTER OF APRIL 19, THAT A REPRESENTATIVE OF THE ARMY AIR FORCES STATIONED AT ITS SANTA MONICA PLANT STATED THAT THE ADDITIONAL PAYMENT APPEARED TO HIM TO BE ADVISABLE, THERE IS NO EVIDENCE OF RECORD SHOWING THAT THE CONTRACTOR, PRIOR TO THE PAYMENT OF THE ADDITIONAL WAGES, NOTIFIED THE CONTRACTING OFFICER OF THE NECESSITY THEREFOR IN ORDER TO PREVENT A LABOR SHORTAGE, AND THAT ADVANCE APPROVAL OF THE CONTRACTING OFFICER WAS OBTAINED, AS REQUIRED BY THE ABOVE-QUOTED CONTRACT PROVISION.

THERE HAS BEEN NOTED THE STATEMENT IN YOUR LETTER OF MAY 12, SUPRA, THAT APPROVAL OF BONUS PAYMENTS AS REIMBURSABLE ITEMS OF COST UNDER COST-PLUS-A -FIXED-FEE CONTRACTS WOULD CONSTITUTE A SUBSTANTIAL AID AND INCENTIVE TO PRODUCTION AND WOULD MATERIALLY ASSIST YOUR DEPARTMENT. HOWEVER, AS YOU ARE AWARE, THIS OFFICE MAY AUTHORIZE THE REIMBURSEMENT OF A PARTICULAR ITEM OF COST ONLY WHERE THE TERMS OF THE PERTINENT CONTRACT MAY BE SAID TO CONTEMPLATE THE REIMBURSEMENT OF SUCH AN EXPENDITURE BY THE GOVERNMENT; AND, FOR THE FOREGOING REASONS, I AM UNABLE TO FIND ANY BASIS IN THE PROVISIONS OF THE INSTANT CONTRACTS FROM WHICH IT MAY BE SAID THAT THE OBLIGATION OF REIMBURSING THE CONTRACTOR FOR THE INSTANT BONUS PAYMENTS WAS UNDERTAKEN BY THE GOVERNMENT. ACCORDINGLY, I AM CONSTRAINED TO HOLD THAT PAYMENT ON THE INSTANT VOUCHERS IS NOT AUTHORIZED.