Office problems

Use of Eichleay formula clearly defined by courts

Blog Entry July 06, 2012

Larry Caudle is a principal in Kraftson Caudle LLC, a law firm in McLean, Va., specializing in heavy-highway and transportation construction.

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The use of the Eichleay formula is a near-universally accepted means of quantifying a contractor’s unabsorbed home office costs associated with owner-caused delays.

Redondo Constr. Corp. v. Puerto Rico Highway and Transp. Auth., 2012 WL 1649704 (C.A.1 [Puerto Rico]) involved a bankrupt contractor’s claims on three separate contracts with the Puerto Rico Highway and Transportation Authority. The contractor submitted claims seeking the direct costs of performing the changed work. To quantify its additional home office overhead damages, the contractor employed the Eichleay formula and applied the daily overhead rate derived from the formula to the entire period by which each project was extended.

The case was first tried before the bankruptcy court, which concluded, among other things, that the physical conditions at the construction sites differed materially from those described by the authority in the contract documents and that some specifications and design elements were flawed. The court thus awarded the contractor approximately $12 million and, in an intermediate appeal, the U.S. District Court for the District of Puerto Rico affirmed the award.   

On appeal to the First Circuit, the authority argued that the bankruptcy court erroneously calculated the contractor’s extended overhead damages. The First Circuit acknowledged that extended overhead damages are to compensate a contractor for unabsorbed home office expenses that accrue during an owner-caused delay.

Such damages, the court noted, “are straightforward: when completion of a project is delayed, the contractor continues to incur home office costs during the delay period, and extended overhead damages offset those costs when the delay is caused by the owner.”

Next, the court observed that there are at least two methods of calculating extended overhead damages: (1) as a percentage added to direct costs when the delay results from necessary but unanticipated work; and (2) by use of the Eichleay formula when the delay is not associated with additional work and/or added direct costs.  

The First Circuit held that the bankruptcy court “mixed apples and oranges . . . [by applying] . . . Eichleay across the board even though it found that at least some of the project delays were attributable to extra work for which the [contractor] was compensated.” It further noted that for delays associated with added work, extended overhead should have been awarded as a percentage of the direct costs incurred performing such work, and Eichleay should apply to those delays not involving additional or changed work. The First Circuit thus reversed the ruling and remanded the case back to the bankruptcy court for recalculation of the home office overhead portion of the award.

The First Circuit drew a bright line of demarcation between pure delays and extension of a project due to changed work. For the former, Eichleay is an appropriate method to quantify home office overhead damages, and for the latter, the percentage of direct costs is preferred.

Depending upon the precise language of the contract, a contractor may not be foreclosed from seeking the difference between overhead costs recovered from a change order markup and actual additional overhead costs incurred. This could be quantified by simply deducting from the damages derived in Eichleay the amount recovered from the overhead markup. If, on the other hand, the contract language clearly limits recovery for overhead to specified markups, a contractor should seek to segregate the additional time required to perform the extra work (to which the markup will apply) from delays associated with engineering and decision making by the owner as well as change order processing (to which Eichleay will apply). R&B

Overlay Init