Institute for Technology Development v. Brown

United States Court of Appeals,

Fifth Circuit.
No. 94-60432.

INSTITUTE FOR TECHNOLOGY DEVELOPMENT, Plaintiff-Appellant,

v.

Ronald H. BROWN, Secretary of Commerce, et al., Defendants-
Appellees.

Sept. 13, 1995.

Appeals from the United States District Court for the Southern
District of Mississippi.

Before VAN GRAAFEILAND,* E. GRADY JOLLY and WIENER, Circuit Judges.

E. GRADY JOLLY, Circuit Judge:

This appeal raises the somewhat technical, yet fact specific

question of whether this recipient of federal grants can claim

depreciation as an allowable substitute cost. Although somewhat

repetitious with other parts of this opinion, the recital of some

background initially will place in context the issue we consider.

The Public Works and Economic Development Act bestows on the

Secretary of Commerce the authority to make grants for economic

development upon application of any state. 42 U.S.C. § 3131(a)

(1977). Mississippi sought federal funds to create a nonprofit

organization—the Mississippi Institute for Technology Development

("ITD")—to establish university-affiliated research centers

throughout the state to conduct and to transfer scientific research

into useful commercial applications. The Mississippi Board of

Economic Development had approved a plan for the establishment of

*
Circuit Judge of the Second Circuit, sitting by
designation.

1
ITD, and the state's government, business, and academic leaders had

agreed to fund half of the capitalization of ITD. S.REP. NO. 206,

98th Cong., 1st Sess. 8 (1983). In response to Mississippi's

efforts, the United States Senate Committee on Appropriations, on

August 2, 1983, considered the proposal by Mississippi that the

federal government contribute funds toward the establishment of

ITD. S.REP. NO. 206 at 7. Thereafter, the Committee appropriated

funds to the Economic Development Administration ("EDA")—an agency

within the Department of Commerce—to conduct a feasibility study

(the "Study") of Mississippi's proposal and deferred committing

federal funds to support ITD until completion of the Study. Id.

On March 30, 1984, the independent research firm hired to conduct

the Study submitted its results to the Senate, the House of

Representatives, and EDA. The Study discussed in detail the

feasibility and potential of ITD, the positive economic

contributions that would result from ITD's creation and operation,

and the required funding of ITD. Because of the Study's optimistic

predictions, the Committee recommended that Congress appropriate a

maximum of twenty million dollars over a four-year period to EDA

for the establishment of ITD. S.REP. NO. 570, 98th Cong., 2d Sess.

9 (1984).

After Congress appropriated these funds to EDA, EDA

distributed the money to ITD in five separate grants. H.R.REP. NO.

6040, 98th Cong., 2d Sess. (1984). After EDA distributed four of

these five grants, the Office of the Inspector General conducted an

audit of the grants and recommended that certain costs improperly

2
spent under the grants be disallowed. EDA subsequently accepted

this recommendation and disallowed a portion of the costs charged

against the federal funds. Applicable regulations, however,

provided that when claimed expenses were disallowed, a grantee,

such as ITD, could substitute and claim reimbursement for other

previously unclaimed "allowable" expenses it may also have incurred

in the operation of the sponsored project. Pursuant to these

regulations, ITD sought reimbursement for some of the depreciation

expenses it had incurred, but had not initially claimed for

reimbursement under the grants. EDA rejected the claim for

reimbursement under the first four grants. ITD then appealed the

decision of EDA to the Assistant Secretary for Economic

Development, who also rejected ITD's depreciation costs, finding

reimbursement for depreciation inconsistent with the purpose and

terms of the grants. ITD next filed for review in the district

court, which affirmed the decision of the Assistant Secretary.

With regard to the fifth and final grant, EDA disallowed

various costs, which ITD appealed to the Assistant Secretary. In

the administrative appeal, however, ITD did not claim depreciation

as a substitute cost. Nevertheless, ITD attempted to raise this

claim for depreciation as an allowable substitute cost before the

district court. Here, ITD argues that because applicable

regulations recognize depreciation as an allowable substitute cost,

the district court erred in granting summary judgment in favor of

EDA with respect to all five grants. After examining the Grant

Agreements between EDA and ITD, the congressional intent underlying

3
these grants, and the provisions of the Study, we hold that the

district court erred in affirming the decision of the Assistant

Secretary regarding the first four grants. Accordingly, as to

these four grants, we reverse and remand for proceedings not

inconsistent with this opinion. Because ITD failed to exhaust its

administrative remedies on grant five, we affirm the district

court's judgment granting summary judgment in favor of EDA on this

final grant.

I

As we have noted, in 1983, Congress appropriated funds to the

Economic Development Administration ("EDA") to conduct a

feasibility study (the "Study") exploring a proposal by Mississippi

to provide federal funding for the establishment of the Mississippi

Institute for Technology Development ("ITD"). ITD would develop

capabilities for transferring scientific research from

Mississippi's universities into useful commercial applications. In

1984, as a result of the Study, Congress appropriated to EDA twenty

million dollars to be distributed to ITD through five grant awards

over a four-year period.1 At the end of this time, Congress

expected the organization to be self-supporting. Mississippi

1
From the first appropriation of seven million dollars, EDA
awarded ITD a grant for two million dollars in January 1985 and a
grant for five million dollars in September 1985. In September
1986, from the second appropriation of six million dollars, EDA
awarded ITD a grant of six million dollars. In September 1987,
from the third appropriation of four million dollars, EDA awarded
ITD slightly less than four million dollars, with the remainder
paying for the Study. Finally, in 1988, from the fourth
appropriation of three million dollars, EDA awarded ITD a grant
of three million dollars.

4
appropriated most of the additional funds to support ITD.

Before disbursement of each of the five grants, ITD was

required to submit to EDA a "Grant Request" containing a budget

proposal for spending the federal funds. EDA would respond with a

"Demonstration Grant Offer" to ITD, which reflected the extent of

and forms of its approval of the Grant Request. ITD's acceptance

of this Offer constituted a "Grant Agreement." Each Grant

Agreement incorporated by reference two documents—ITD's Grant

Request and a document setting out general "Terms and Conditions"

of the agreement. These Terms and Conditions required that the

grant "be used only for the research project approved by the [EDA]

and inconformity with the approved research budget." Additionally,

the Grant Agreements prohibited the use of federal grant funds "to

pay for capital assets or other items not treated as expenses under

accepted accounting principles." Finally, in determining the

allowability of expenses made by ITD, the Grant Agreements provided

that both ITD and EDA would adhere to certain Office of Management

and Budget Circulars, including Circular A-122.

In 1988, the Office of Inspector General of the Department of

Commerce (the "Inspector General") conducted an audit of ITD's

first four grants. This draft audit report stated that ITD claimed

approximately $4.6 million in unallowable costs in the first four

grants and that ITD failed to maintain an accounting system for

allocating indirect costs or overhead. In its response to the

Inspector General's audit report, ITD contended that a portion of

the disallowed costs in fact were allowable. Additionally, Leonard

5
R. Vernamonti, the president and chief executive officer of ITD,

met with the Inspector General auditors and argued that ITD should

be allowed to substitute depreciation and claim it as an allowable

cost for a portion of these unallowable costs. In March 1990, the

Inspector General issued its final audit report on the first four

grants and reduced the amount of disallowed costs to $1.9 million.

The Inspector General failed, however, to address whether

depreciation could serve as an allowable substitute cost. In April

1990, ITD submitted a response to the Inspector General's final

report, again claiming that depreciation should serve as an

allowable substitute cost. EDA issued a final audit determination.

EDA stated that depreciation was not an allowable cost under these

four grants. EDA further reduced, however, the amount of

unallowable costs on these grants to $1,362,142.

On November 8, 1990, ITD appealed EDA's audit determination of

the first four grants to L. Joyce Hampers, the Assistant Secretary

for Economic Development ("Assistant Secretary"). On August 16,

1991, the Assistant Secretary also denied ITD's request to

substitute depreciation for unallowable costs, explaining that

"[t]he primary and determinative factor in our decision not to

accept depreciation as an allowable substitute cost is that no one

intended that depreciation be charged against the ITD grants"2

2
The Assistant Secretary determined the parties' intent only
from an examination of the documents in the record. The
Assistant Secretary noted that these particular grants prohibited
the use of grant funds to pay for the purchase of capital assets.
Awarding depreciation costs to ITD, the Assistant Secretary
concluded, would effectively require EDA to pay for assets
already paid for by Mississippi. This view, however, is

6
because the grants were intended only to provide start-up or seed

funding to ITD. The Assistant Secretary recognized that under

Circular A-122 depreciation is generally an allowable cost, but

stated that her position was based only on the parties' intent, not

on the "allowableness issue." She reduced still further, however,

the amount due EDA on the first four grants to $1.1 million. ITD

submitted additional information to the Assistant Secretary and

requested reconsideration, but she maintained her position, stating

that depreciation was not intended to be charged to the grants. In

somewhat different words from her earlier statement noted above,

however, she added that "[t]he primary and determinative factor in

our decision not to accept depreciation as an allowable substitute

cost is that there is no provision in the grants for depreciation

to be charged as a direct cost."

On August 15, 1991, ITD submitted to EDA a final claim for

grant five, which was the last grant disbursed under the

appropriations by Congress. ITD included a category for

depreciation in this claim but indicated that this cost had been

recovered from another funding source. As a result of the

Inspector General's audit of this final grant award, EDA disallowed

certain costs claimed (depreciation was not claimed) by ITD. ITD

ultimately appealed this decision to the Assistant Secretary, but

contradicted by the Study, which proposed that federal funds be
allocated to pay for "initial office and equipment requirements"
for ITD. See infra § IV(B)(3), p. ----. Although the grants do
prohibit the purchase of these assets from federal funds,
Circular A-122 provides that compensation for the use of these
assets could be made by depreciation. Circular A-122 att. B §
C(9); see infra § IV(B)(1), pp. ---- - ----.

7
failed to request that depreciation be substituted for the

disallowed costs. In January 1993, the Assistant Secretary agreed

with EDA's audit resolution determination disallowing certain costs

claimed by ITD, but, as the issue had not been raised, the

Assistant Secretary did not discuss whether depreciation could be

substituted for these disallowed costs.

II

On July 10, 1992, ITD filed a complaint in the United States

District Court for the Southern District of Mississippi, under the

Administrative Procedures Act, 5 U.S.C. §§ 551 et seq., against

EDA, the Secretary of Commerce, and various officials at the

Department of Commerce. ITD alleged that the Assistant Secretary

erred in refusing to allow depreciation as a substitute cost in the

first four grants. After receiving the adverse decision in grant

five, ITD filed a supplemental complaint raising allegations

identical to those argued in the original complaint. After

considering the parties' motion and cross-motion for summary

judgment on both the original and supplemental complaint, the

district court granted EDA's motion with respect to both complaints

and refused to recognize depreciation as an allowable substitute

cost. The court concluded that EDA had correctly determined that

the grants were not intended to cover depreciation costs because

the grants were intended solely to provide start-up funds towards

ITD's establishment. As to the final grant, the court found that

ITD had waived its right to judicial review by failing to exhaust

its administrative remedies by raising the issue of depreciation as

8
a substitute cost before the Assistant Secretary. The court went

on to hold, however, that summary judgment on the merits in favor

of EDA was nevertheless appropriate on grant five, under the same

rationale as that given for the first four grants. ITD appeals

from this judgment in favor of EDA, dismissing ITD's case.

On appeal, ITD argues that because under the Grant Agreements

and applicable regulations depreciation is an allowable substitute

cost, the district court erred in affirming the Assistant

Secretary's decision.3

III

The sole question presented on appeal is whether in this

case, and under the terms of these particular grants, depreciation

costs may constitute an allowable substitute for those costs that

EDA disallowed.4 We start with the premise that the terms of a

grant agreement are binding on both the grantee and the grantor.

3
EDA argues that ITD has waived its right to judicial review
of grant five because of its failure to raise the issue of
substituting depreciation for disallowed costs to the Assistant
Secretary. In fact, the district court ruled that ITD waived its
right to judicial review. We affirm the district court on this
point. Because ITD failed to raise the issue of depreciation
with respect to the final grant before the Assistant Secretary,
ITD is foreclosed from raising it here. Texas v. United States,
866 F.2d 1546, 1561 (5th Cir.1989). Consequently, we will limit
our review to ITD's first four grants.
4
The issue is narrowed by delineating what is not at issue
on this appeal: ITD does not complain that the costs that EDA
disallowed should have been allowed, but argues only that it
should be allowed to substitute depreciation costs in place of
these unallowable costs; EDA does not dispute that ITD has the
right to substitute allowable costs for disallowed costs, but
only contends that depreciation in this case is not an allowable
substitute cost. Finally, in this case, we decide only that
under the terms of the grants depreciation may be an allowable
substitute cost.

9
United States v. Marion County Sch. Dist., 625 F.2d 607, 609 (5th

Cir.1980), cert. denied, 451 U.S. 910, 101 S.Ct. 1980, 68 L.Ed.2d

298 (1981). Although grant agreements have this contractual

aspect, the Supreme Court has further explained that, "[u]nlike

normal contractual undertakings, federal grant programs originate

in and remain governed by statutory provisions expressing the

judgment of Congress concerning desirable public policy." Bennett

v. Kentucky Dep't. of Educ., 470 U.S. 656, 669, 105 S.Ct. 1544,

1552, 84 L.Ed.2d 590 (1985). Accordingly, to determine whether

depreciation was intended by the parties to be an allowable cost

under these grants, we must examine the actual, binding Grant

Agreements between ITD and EDA, including the incorporated

documents—the Terms and Conditions, the Grant Requests, and

Circular A-122—the legislative history underlying the grants, and

the Study ordered by Congress prior to awarding these funds. This

examination leads us to the unmistakable conclusion that Circular

A-122's general recognition of depreciation as an allowable

indirect cost forms a basic part of the agreement between EDA and

ITD, and its terms and provisions are uncontradicted by other

record evidence. We will now proceed to demonstrate how we reach

our conclusion.

IV

A

Because this is a case on appeal from the district court's

grant of summary judgment, we review the record de novo. Calpetco

1981 v. Marshall Exploration, Inc., 989 F.2d 1408, 1412 (5th

10
Cir.1993). Under Rule 56(c) of the Federal Rules of Civil

Procedure, we examine evidence presented to determine that there is

"no genuine issue as to any material fact and that the moving party

is entitled to judgment as a matter of law." FED.R.CIV.P. 56(c).

Consequently, we are not required to defer to the district court's

factual findings.

"It is well established that an agency's action must be

upheld, if at all, on the basis articulated by the agency itself."

Motor Vehicle Mfrs. Assoc. v. State Farm Mut. Auto. Ins. Co., 463

U.S. 29, 50, 103 S.Ct. 2856, 2870, 77 L.Ed.2d 443 (1983).

Moreover, we base our review of an administrative action "on the

full administrative record that was before the [administrative

officer] ... at the time he made his decision." Milena Ship

Management Co. v. Newcomb, 995 F.2d 620, 624 (5th Cir.1993), cert.

denied, --- U.S. ----, 114 S.Ct. 877, 127 L.Ed.2d 74 (1994). As a

general rule, we uphold an agency's factual findings if they are

supported by substantial evidence. Hawkins v. Agricultural

Marketing Serv., 10 F.3d 1125, 1128 (5th Cir.1993). Here, however,

no testimonial evidence was taken and no issues purely of fact were

determined by the agency. In short, we are not reviewing the

factual findings of the agency, nor are we reviewing an

interpretation of the agency's own regulations with respect to

which it has some expertise. Consequently, in this case we owe no

deference to the agency's determination. Pennzoil Co. v. Federal

Energy Regulatory Comm'n., 789 F.2d 1128, 1135 (5th Cir.1986).

Unlike factual findings, we review questions of law freely and are

11
under no obligation to defer to the agency's legal conclusions.

Pennzoil, 789 F.2d at 1135 (citing Coca-Cola Co. v. Atchison,

Topeka and Santa Fe Ry. Co., 608 F.2d 213, 218 (5th Cir.1979). As

our analysis involves the interpretation of regulations of a

different agency, congressional policy, and contractual

agreements—all of which involve issues of law—our review is

effectively de novo. See Snug Harbor, Ltd. v. Zurich Ins., 968

F.2d 538, 541 (5th Cir.1992) (finding question of ordinary contract

interpretation generally reviewed de novo ).

B

There are a few predicate principles that we need to keep in

mind as we consider whether depreciation is an allowable cost under

the grants before us:

"The total cost of an award is the sum of the allowable direct

and allocable indirect costs less any applicable credits," not to

exceed the total appropriated funds.5 Office of Management and

Budget, Cost Principles for Nonprofit Organizations, Circular No.

A-122 att. A § A(1), (CCH) ¶ 18,810.10 (July 8, 1980) [hereinafter

OMB Circular No. A-122]. Thus, costs under grants, such as the one

to ITD, are treated as two broad types—direct and indirect. 2

UNITED STATES GENERAL ACCOUNTING OFFICE, PRINCIPLES OF FEDERAL APPROPRIATIONS LAW

10-75 (2d ed.1992). A direct cost is one that can be "identified

specifically with a particular final cost objective: i.e., a

5
We interpret this statement to mean that a grantee can
charge both allowable direct and allocable indirect costs against
the grant until he recovers the total amount of appropriated
funds.

12
particular award, project, service, or other direct activity of an

organization." OMB Circular No. A-122 att. A § B(1). "Indirect

costs are those that have been incurred for common or joint

objectives and cannot be readily identified with a particular final

cost objective." Id. at § C(1). Depreciation is a typical example

of an indirect cost that is generally allowable. Id. at § C(2).

"A grantee may generally substitute other allowable costs for costs

which have been disallowed, subject to any applicable cost ceiling.

If additional funds become available as the result of a cost

disallowance, those funds should be used to pay any "excess'

allowable costs which could not be paid previously because of the

ceiling." PRINCIPLES OF FEDERAL APPROPRIATIONS LAW, supra, at 10-75.

Generally, a cost is allowable under a grant if it meets the grant

purposes. Id. at 10-74. Consequently, a cost that is not for

"grant purposes or is contrary to a condition of the grant is not

an allowable cost and may not be properly charged against the

grant." Id.

We now turn to examine the Grant Agreements, along with its

incorporated documents, between the parties, the congressional

intent in appropriating the funds, and the findings of the Study to

determine whether depreciation is an allowable substitute cost

under the grants.

(1)

Each Grant Agreement between EDA and ITD set forth the amount

of each grant and defined the purpose of the award. ITD was

awarded a grant "for the purpose of assisting and enabling [ITD] to

13
conduct a demonstration project involving [ITD] operations and

additional staffing, planning, and implementation." As we have

earlier noted, this brief and vaguely stated purpose found in each

of the approximately one and one-half page Grant Agreements must be

understood in the light of ITD's statement of its purpose: to

stimulate technical and economic development in Mississippi by

transferring research from its universities into commercial

applications. The bare Grant Agreements themselves, however, did

not explicitly or implicitly denote depreciation as an allowable or

disallowable cost.

Each Grant Agreement incorporated by reference two

documents—ITD's Grant Request and a document setting out general

"Terms and Conditions" of the agreement. The Grant Request set out

a budget, projecting anticipated operational expenses for each of

ITD's existing divisions and anticipated start-up expenses for new

divisions of ITD. The Grant Requests made no reference to

depreciation. The Terms and Conditions stated that "[t]he grant

can be used only for the research project approved by [EDA] and in

conformity with the approved research budget." The Terms and

Conditions also prohibited the use of federal grant funds "to pay

for capital assets or other items not treated as expenses under

accepted accounting principles." The Terms and Conditions

document, however, does not address the recovery of depreciation

expenses.

Most importantly, the Grant Agreements specifically

incorporated Office of Management and Budget Circular A-122, which

14
provided that both ITD and EDA were bound to follow the principles

of Circular A-122 in determining the allowability of ITD's

expenses. To be allowable, Circular A-122 provides that the costs

must "[b]e reasonable for the performance of the award and be

allocable thereto under these principles" and "conform to any

limitations or exclusions set forth ... in the award." OMB

Circular No. A-122 att. A § A(1), (2)(a). To determine whether a

cost is "reasonable," Circular A-122 directs EDA to consider

"[w]hether the cost is of a type generally recognized as ordinary

and necessary for the operation of the organization or the

performance of the award." Id. at § A(3)(a). Circular A-122

explicitly identifies depreciation as a typical example of an

allowable indirect cost. Id. at § C(2). Finally, Circular A-122

provides that when determining the allowability of a particular

cost, "[c]ompensation for the use of buildings, other capital

improvements and equipment on hand may be made through use

allowances or depreciation." Circular No. A-122 att. B § C(9).

In short, although the Grant Agreements, Grant Requests, and

Terms and Conditions do not specifically refer to depreciation as

an allowable cost under these grants, Circular A-122 clearly

recognizes depreciation as an allowable cost and approves

depreciation as a method for compensating for use of an asset.

(2)

We next turn to discuss the congressional intent behind the

appropriation of these grant funds. After receiving favorable

feedback from the Study that it had commissioned, Congress

15
appropriated money "toward establishment of the Institute." S.REP.

NO. 570, 98th Cong., 2d Sess. 9 (1984). In its report recommending

funding, the Senate Appropriations Committee explained that it

expected to provide no more than twenty million dollars over a

four-year period for a "demonstration project" that would

coordinate several research centers in Mississippi "to contract for

research and development work that should lead to technology

transfer benefits for State and regional industries." S.REP.NO.

570. The Senate explained that ITD should be self-supporting by

the end of the four-year period. Id. In the next two

appropriation bills, Congress approved grants "consistent" with its

original appropriation. S.REP. NO. 150, 99th Cong., 1st Sess. 7

(1985); S.REP. NO. 425, 99th Cong., 2d Sess. 9 (1986). In the

following appropriation, Congress expressly stipulated that no

grant funds could be used for a specific category of

costs—"attorneys' or consultants' fees in connection with securing

grants and contracts" from EDA. H.R.J.Res. 395, 100th Cong., 1st

Sess., 101 Stat. 1329-2 (1987).

In sum, neither the appropriation laws nor the corresponding

legislative histories address specifically whether ITD's grants

could be used to cover depreciation.

(3)

As we have noted, before Congress funded this proposal and

before EDA and ITD executed the Grant Agreements, Congress approved

funds for EDA to conduct the Study, which examined the

appropriateness of federal funding. The Study defined ITD's

16
funding requirements as "start-up funds, ongoing support funds,

project development funds, outside investment funds, and funds for

technology assistance." The Study proposed that federal funds be

allocated to pay for "a portion of the start-up funds over a

five-year period," while state money would pay for "start-up funds

and ongoing support." The Study defined "start-up funds" as the

money needed "to pay for the services of the key staff who must be

recruited for ITD central and the individual centers, initial

office and equipment requirements for both, and expenses incurred

in initial efforts to establish ITD and its center as potential

recipients of government and industry R & D grants." (emphasis

added). The Study provided no discussion or recommendation,

however, on the payment of depreciation expenses.

V

Having reviewed the relevant evidence and legal principles

relating to the issue before us, we now come to our analysis.

First we note that the efforts that ITD has made in its attempt to

claim all appropriated funds appears to be congruous with and

according to the regulations. When costs are disallowed, as was

the case here, and appropriated funds have not been exhausted, the

grantee is permitted under the regulations to substitute a cost

that it had not claimed for that disallowed cost. The substitute

cost, of course, must be one that is allowable under the

regulations. Thus, because unexhausted funds remain in the ITD

appropriations, ITD had a right under the regulations to claim a

17
substitute cost.6 Accordingly, it claimed its costs of

depreciation. The only question before us, therefore, is whether

depreciation may be such an allowable substitute cost.

Ruling on this question, the Assistant Secretary acknowledged

that depreciation is an allowable cost generally under Circular A-

122, but she said that her decision denying depreciation was based

on the parties' intent. Furthermore, when the Assistant Secretary

ruled on ITD's motion for reconsideration, she said "[t]he primary

and determinative factor in our decision not to accept depreciation

as an allowable substitute cost is that there is no provision in

the grants for depreciation to be charged as a direct cost." The

only way we can read this cryptic reasoning is as the district

court did: support for her position that the parties did not

intend to charge depreciation against the grants because initially

it was not claimed as a cost.7 The only evidence from which the

intent of the parties can be gleaned, however, is from the Grant

Agreements, Grant Requests, Terms and Conditions, Circular A-122,

from the legislative history underlying the appropriations, and

6
We reiterate that substitute costs on a particular grant
are only allowable up to the total amount of that grant. The
Assistant Secretary pointed out in her opinion to response to
ITD's motion for reconsideration that costs equal to the entire
award for the fourth grant were accepted and thus no substitute
costs would be allowed. This consideration, of course, would be
relevant in the district court's determination of the amount ITD
will be allowed to claim for depreciation as a substitute cost.
7
It seems to us that such an observation disregards the very
nature of a substitute cost. One would hardly expect to find a
provision for a substitute cost in the initial grant papers; it
is only after a cost reflected in the grant papers has been
disallowed that a claim for a substitute cost arises.

18
from the Study. Our earlier review of each of these documents

determined that there is no evidence that depreciation was not

intended to be an allowable substitute cost under these grants.

Yet, Circular A-122 clearly recognizes depreciation as an

allowable cost and, as part of the contract between the parties, is

binding on EDA and ITD in the absence of a contrary expression. To

be sure, Circular A-122 is the only record evidence addressing

depreciation. Because Circular A-122 is part of the contract

between the parties and because we find no evidence of the parties'

intent that would justify disregarding its clear statement, we hold

that depreciation may be an allowable substitute cost under these

grants.

Accordingly, we REVERSE the judgment of the district court as

to the first four grants and REMAND for further proceedings not

inconsistent with our opinion. As to grant five, we AFFIRM the

district court because ITD waived its right to judicial review by

failing to raise the issue of depreciation before the Assistant

Secretary. For the foregoing reasons, the judgment of the district

court is

AFFIRMED in part and REVERSED and REMANDED in part.8

8
It is rather clear that the majority and the dissent have a
fundamentally different concept of the issue presented in this
case. The majority views the question as whether depreciation is
an allowable substitute cost under these grants. The dissent,
however, concludes that because ITD failed to claim depreciation
originally in its Grant Requests, ITD cannot now claim
depreciation as an allowable cost, substitute or otherwise.

The majority opinion does not stand for the proposition
that any and all depreciation costs submitted by ITD are
automatically allowable substitute costs. We hold only that

19
 VAN GRAAFEILAND, Circuit Judge, concurring in part and
dissenting in part:

I agree with my learned colleagues that the district court did

not err in dismissing the claim of the Institute for Technology

Development ("ITD") under Grant V and concur in their affirmance of

that dismissal. As to the remainder of my colleagues' holding, I

respectfully dissent. A statement of the reasons for my dissent

requires some reiteration of, and elaboration on, the facts

contained in the majority opinion.

When, in 1983, the ITD asked Congress to furnish a portion of

ITD's "start-up funds", the Economic Development Administration

("EDA") entered into an agreement with Arthur D. Little, Inc. to

conduct a study of the feasibility of the proposed institution.

Following a recommendation that federal participation in the

program was warranted "on a demonstration basis," Congress

appropriated $7 million for EDA to use in this manner.

Thereafter, ITD submitted a 38-page "Task Force Report

Blueprint for Action Initial Corporate Strategy" and a funding

request for $2 million. The report contained a projected first

year budget entitled "Initial Budget Authorization/Projected First-

depreciation may be an allowable substitute cost under these
grants and that the parties did not intend otherwise.
Whether individual claims of depreciation are allowable
substitute costs is another question. On remand, the burden
will plainly rest on ITD to prove that it is entitled to
each claim of depreciation it asserts. It is thus clear
that the district court will be free to examine to what
extent depreciation may be allowed as a substitute cost on
the various claims of ITD. In this connection, the district
court, of course, may fully consider whether adequate
records support ITD's claimed depreciation costs.

20
Year Proposals." No item for depreciation was contained in this

budget or anywhere else in the Task Force Report, and nowhere was

there any mention of "indirect costs", which arguably might have

been said to include depreciation.

In response to this request, the EDA made a $2 million

"DEMONSTRATION GRANT OFFER", which reads in pertinent part as

follows:

The Economic Development Administration, in accordance
with the objectives of section 301(f) of the Public Works and
Economic Development Act of 1965, as amended, (hereinafter
called "the Act") hereby offers to

The Institute for Technology Development Jackson, Mississippi

(hereinafter called "the Grantee") grant assistance, subject
to the terms, conditions, and limitations as set forth herein
and in the attached General Terms and Conditions. This award
is for the purpose of assisting and enabling the Grantee to
conduct a demonstration project to perform initial Institute
staffing, planning, and implementation, which project is
deemed useful and pertinent to the long range accomplishment
of the objectives of the Act.

The Grantee's proposal, "Task Force Report Blueprint for
Action: Initial Corporate Strategy," of October 2, 1984 is
hereby incorporated as part of this Grant Offer. To the
extent that the proposal conflicts with this Grant Offer
and/or applicable sections of the General Terms and Conditions
of the demonstration grant, the Grant Offer and the General
Terms and Conditions shall prevail.

I quote this pertinent portion in full because it is typical

of the conditions and restrictions in each of the Grants that

followed. In each of the Grants, the terms of ITD's proposal are

incorporated in the Grant Offer except when the proposal's terms

conflict with the Grant Offer or the applicable General Terms and

Conditions, in which case the Grant Offer and General Terms and

Conditions control the relations between the parties.

21
 The following clauses in the General Terms and Conditions are

therefore of controlling importance in each of the several Grants

that were made:

The grant or cooperative agreement assistance hereby made
available can be used only for the research project approved
by the Economic Development Administration (EDA) and in
conformity with the approved research budget.

. . . . .

The Awardee shall keep such records as will fully disclose the
amount and disposition of the total budgeted funds, the
purpose or undertaking for which such funds were used....

On August 2, 1985, ITD submitted a Grant request for "$5M of

federal "seed funds.' " This contained proposed budgets for the

several ITD divisions, and nowhere was any mention made of

depreciation or indirect costs. On September 30, 1985, the parties

executed a second "DEMONSTRATION GRANT OFFER." The "maximum

amount" was $5 million, which was to be available for a period of

one year. Once again, the relationship between the terms of the

proposal, the Grant Offer and the General Terms and

Conditions—i.e., the controlling effect of the Grant Offer and

General Terms and Conditions—was stated specifically.

On February 10, 1987, ITD, as it was required to do, submitted

a fund expenditure report covering the two above-described Grant

Offers. The report mentions neither depreciation nor indirect

costs. For purposes of illustration only, I attach as an exhibit

a portion of the report covering the disposition of the $2 million

Grant. See Appendix.

On August 21, 1986, ITD requested an additional Grant of over

$6 million, and on September 30, 1986, a "DEMONSTRATION GRANT

22
OFFER" in the amount of $6 million was executed by the parties. A

fourth "DEMONSTRATION GRANT OFFER" in the sum of $3,900,273 was

executed on September 30, 1987. Both the 1986 and 1987 awards

incorporated the above-quoted provisions making the terms of the

Grant Offer and General Terms and Conditions paramount.

It is clear and undisputed that none of the Grant proposals or

agreements mentioned or included depreciation as a reimbursable

expense. Moreover, evidence in the record demonstrates clearly

that the parties did not intend that depreciation be included as

such. EDA's position was stated by L. Joyce Hampers, Assistant

Secretary for Economic Development, as follows:

The primary and determinative factor in our decision not
to accept depreciation as an allowable substitute cost is that
no one intended that depreciation be charged against the ITD
grants.

ITD's failure to request in its Grant proposals that it be

reimbursed for depreciation or indirect costs and its failure to

treat any of the funds it received as such reimbursement,

demonstrate that Ms. Hampers correctly stated its intent. The

General Terms and Conditions provide that "[t]he Awardee shall keep

such records as will fully disclose the amount and disposition of

the total budgeted funds [and] the purpose or undertaking for which

such funds were used." Moreover, both Office of Management and

Budget ("OMB") Circular No. A-110 and the General Terms and

Conditions, which were made a part of each award, provide for

Periodical Progress and Budget Reports. These reports required the

disclosure of each budgeted item and the amount spent on each.

Finally, OMB uses a form entitled "Financial Status Report" which

23
contains a separate bracket for "Indirect Expense", in which the

grantee is directed by OMB to "enter total amount of indirect costs

charged during the report." None of ITD's reports contained a

claim for depreciation as a budgeted item, an expenditure, or an

"Indirect Expense." Indeed, ITD did not even maintain a cost

accounting system which would provide for the allocation of

indirect costs such as depreciation. It was not until October

1989, after the Office of Inspector General had completed its draft

audit report finding improper charges of millions of dollars in

unallowable costs, that ITD first suggested the possibility of

substituting depreciation for the costs found unallowable in the

audit.

All of the above facts are undisputed. Indeed, it was on that

basis that both sides moved for summary judgment in the district

court. In parting company from my colleagues, I am disturbed at

the outset by their disregard or actual rejection of these

undisputed facts, a practice which we are not permitted to adopt.

My colleagues say, for example, that they "find no evidence of the

parties' intent", supra, at ----, and that "[t]he Assistant

Secretary determined the parties' intent only from an examination

of the documents in the record." Supra, at ---- n. 2. If we are

guided to our conclusion by a review of the facts indicative of

intent, I suggest that the above-described undisputed evidence of

the conduct of the parties, particularly the conduct of ITD itself,

establishes overwhelmingly that ITD did not ask for or expect to

receive payment for depreciation. In all of the exchanges between

24
the parties over a period of four years, the word "depreciation" is

not mentioned once. However, while I am convinced that my

colleagues mishandled established facts, my problem with the

majority opinion is more broad-reaching in its scope than the

majority's de novo review of evidence submitted to an

administrative body.

In Ford Motor Credit Co. v. Milhollin, 444 U.S. 555, 568, 100

S.Ct. 790, 798, 63 L.Ed.2d 22 (1980), which involved the Federal

Reserve Board's interpretation of the Truth in Lending Act, 15

U.S.C. § 1601 et seq., Justice Brennan, writing for the Court,

wisely stated that "a court that tries to chart a true course to

the Act's purpose embarks upon a voyage without a compass when it

disregards the agency's views." This, in brief, states an

admonition that has guided our country's highest court for many

years. See, e.g.:

Environmental Protection Agency v. National Crushed Stone
Ass'n, 449 U.S. 64, 83 [101 S.Ct. 295, 307, 66 L.Ed.2d 268]
(1980):

It is by now a commonplace that "when faced with a
problem of statutory construction, this Court shows great
deference to the interpretation given the statute by the
officers or agency charged with its administration."
Udall v. Tallman, 380 U.S. 1, 16 [85 S.Ct. 792, 801, 13
L.Ed.2d 616] (1965). [footnote omitted];

Blanding v. DuBose, 454 U.S. 393, 401 [102 S.Ct. 715, 719, 70
L.Ed.2d 576] (1982) (per curiam):

Finally, we have frequently stated that courts
should grant deference to the interpretation given
statutes and regulations by the officials charged with
their administration. [citations omitted];

Howe v. Smith, 452 U.S. 473, 485 [101 S.Ct. 2468, 2476, 69
L.Ed.2d 171] (1981):

25
 Because the Attorney General, and through him the
Bureau of Prisons, are charged with the administration of
§ 5003, their view of the meaning of the statute is
entitled to considerable deference. [citations omitted];

Udall v. Tallman, 380 U.S. 1, 16, 85 S.Ct. 792, 801, 13
L.Ed.2d 616 (1965):

When faced with a problem of statutory construction,
this Court shows great deference to the interpretation
given the statute by the officers or agency charged with
its administration.... When the construction of an
administrative regulation rather than a statute is in
issue, deference is even more clearly in order.

Adherence to the practice described in the above cases is

particularly important where there is an ambiguity in the statute

or regulation at issue. See:

Stinson v. United States, [--- U.S. ----, ----] 113 S.Ct.
1913, 1918 [123 L.Ed.2d 598] (1993):

Under Chevron U.S.A. Inc. v. Natural Resources Defense
Council, Inc., 467 U.S. 837 [104 S.Ct. 2778, 81 L.Ed.2d
694] (1984), if a statute is unambiguous the statute
governs; if, however, Congress' silence or ambiguity has
"left a gap for the agency to fill," courts must defer to
the agency's interpretation so long as it is "a
permissible construction of the statute." Id. at 842-843
[104 S.Ct. 2781-82];

Federal Election Comm'n v. Democratic Senatorial Campaign
Comm., 454 U.S. 27, 39 [102 S.Ct. 38, 46, 70 L.Ed.2d 23]
(1981):

Hence, in determining whether the Commission's
action was "contrary to law," the task for the Court of
Appeals was not to interpret the statute as it thought
best but rather the narrower inquiry into whether the
Commission's construction was "sufficiently reasonable"
to be accepted by a reviewing court. Train v. Natural
Resources Defense Council, 421 U.S. 60, 75 [95 S.Ct.
1470, 1479, 43 L.Ed.2d 731] (1975); Zenith Radio Corp.
v. United States, 437 U.S. 443, 450 [98 S.Ct. 2441, 2445,
57 L.Ed.2d 337] (1978). To satisfy this standard it is
not necessary for a court to find that the agency's
construction was the only reasonable one or even the
reading the court would have reached if the question
initially had arisen in a judicial proceeding. Ibid.;
Udall v. Tallman, 380 U.S., at 16 [85 S.Ct. at 801];

26
 Unemployment Compensation Comm'n v. Aragon, 329 U.S. 143,
153 [67 S.Ct. 245, 250, 91 L.Ed. 136] (1946).;

Unemployment Compensation Comm'n of Alaska v. Aragon, 329 U.S.
143, 153-54 [67 S.Ct. 245, 250, 91 L.Ed. 136] (1946):

The "reviewing court's function is limited." All that is
needed to support the Commission's interpretation is that
it has "warrant in the record" and a "reasonable basis in
law." Labor Board v. Hearst Publications, Inc., [322
U.S. 111, 131, 64 S.Ct. 851, 860, 88 L.Ed. 1170 (1944) ];
Rochester Telephone Corp. v. United States, 307 U.S. 125
[59 S.Ct. 754, 83 L.Ed. 1147] (1939).

Although this Court has not been the most enthusiastic

adherent to the above-stated principles, it would be a mistake to

say that we disregard them. The Supreme Court's seminal decision

in Udall v. Tallman, supra, has been cited by this Court on a host

of occasions. See Vol. 1.6 Shepard's United States Citations at

497 (7th ed. 1994). Thus, in First Gibraltar Bank, FSB v. Morales,

19 F.3d 1032, 1036 (5th Cir.), cert. denied, --- U.S. ----, 115

S.Ct. 204, 130 L.Ed.2d 134 (1994), opinion vacated and superseded

on other grounds, 42 F.3d 895 (5th Cir.1995), we said:

We are required to give deference to an executive
agency's interpretation of a statute or regulation that the
agency is responsible for administering. Of course, if the
intent of Congress is clear, that intent will trump any agency
interpretation to the contrary. If Congress did not directly
address the precise question at issue, however, we must defer
to the agency's interpretation of that statute as expressed in
its regulations unless those regulations are arbitrary,
capricious, or manifestly contrary to the statute. Deference
is even more clearly in order when an agency construction of
its own regulations is involved; the agency construction is
controlling unless it is plainly erroneous or inconsistent
with the regulation. [citations omitted]

See also:

Hawkins v. Agricultural Mktg. Serv., 10 F.3d 1125, 1129 (5th
Cir.1993):

Legal issues, however, are " "for the courts to

27
 resolve, although even in considering such issues the
courts are to give some deference to the [agency's]
informed judgment.' " Faour [v. United States Dep't of
Agric., 985 F.2d 217, 219 (5th Cir.1993) ] (quoting
Federal Trade Comm'n [v. Indiana Fed'n of Dentists, 476
U.S. 447, 454, 106 S.Ct. 2009, 2015, 90 L.Ed.2d 445
(1986) ] ).;

Texas Mun. Power Agency v. Administrator of the United States
Envtl. Protection Agency, 836 F.2d 1482, 1488 (5th Cir.1988):

We are required to defer to any reasonable EPA
construction of its enabling statutes. When resolving an
apparent conflict among EPA regulations, even greater
deference is in order. As the Supreme Court stated in
Udall v. Tallman:

When the construction of an administrative
regulation rather than a statute is in issue,
deference is even more clearly in order.... "[T]he
ultimate criterion is the administrative
interpretation, which becomes controlling weight
unless it is plainly erroneous or inconsistent with
the regulation." [footnote citations omitted];

Coca-Cola Co. v. Atchison, Topeka, and Santa Fe Ry. Co. 608
F.2d 213, 222 (5th Cir.1979):

Nevertheless, even where the issue is one of pure law,
such as interpretation of contracts, tariffs, regulations
and statutes, room still is present for deference to the
views of administrative agencies, particularly where the
understanding of the problem is enhanced by the agency's
expert understanding of the industry. [citations
omitted]

United States v. Articles of Drug, 625 F.2d 665, 675 (5th
Cir.1980):

Of course, when there is more than one reasonable
interpretation, the court is bound to follow that of the
agency. [footnote citations omitted]

In contrast to all of the above-cited authority, my colleagues

state that "[a]s [their] analysis involves the interpretation of

regulations, congressional policy, and contractual agreements—all

of which involve issues of law—[their] review is de novo " and that

they "owe no deference to the agency's determination." Supra, at

28
----. In support of this holding, they cite Pennzoil Co. v.

Federal Energy Regulatory Comm'n, 789 F.2d 1128 (5th Cir.1986) and

Snug Harbor, Ltd. v. Zurich Ins., 968 F.2d 538 (5th Cir.1992),

neither of which stands for the proposition they endorse. Pennzoil

involved an agency interpretation of a contract between two private

parties, and Snug Harbor did not involve an agency at all. This

case, by contrast, involves an agency's action with respect to a

grant program that it was charged by Congress to administer, and

that agency's interpretation of grant terms and regulations with

which it was thoroughly familiar.

In short, although I do not contend that the EDA's

interpretation of its Grants is binding on this Court, I believe

that when my colleagues undertook to conduct a completely de novo

interpretation of these documents, they erred. I might be willing

to overlook this error if my colleagues were correct in their

"unmistakable conclusion that Circular A-122's general recognition

of depreciation as an allowable indirect cost forms a basic part of

the agreement between EDA and ITD." Supra, at ----. However, this

"unmistakable conclusion" is wrong.

The principles enunciated in Circular A-122 are directed to be

used "by all Federal agencies in determining the costs of work

performed by nonprofit organizations under grants, cooperative

agreements, costs reimbursement contracts, and other contracts in

which costs are used in pricing, administration, or settlement."

OMB could not have intended to mandate that depreciation be treated

as an allowable cost in every one of the varied situations in which

29
costs might be used in pricing, in administration, or in

settlement. Circular A-122 takes this diversity into account when

it provides that "[b]ecause of the diverse characteristics and

accounting practices of nonprofit organizations, it is not possible

to specify the types of cost which may be classified as indirect

cost in all situation[s]." The Circular then elaborates:

However, typical examples of indirect cost for many nonprofit
organizations may include depreciation or use allowances on
buildings and equipment, the costs of operating and
maintaining facilities, and general administration and general
expenses, such as the salaries and expenses of executive
officers, personnel administration, and accounting.

A fair reading of this clause is that the word "may" in reference

to the conduct of "many nonprofit organizations" is used in its

ordinary sense as a word of authorization, not of command. See

Farmers and Merchants Bank of Monroe v. Federal Reserve Bank of

Richmond, Virginia, 262 U.S. 649, 662-63, 43 S.Ct. 651, 656, 67

L.Ed. 1157 (1923); United States v. Lexington Mill & Elevator Co.,

232 U.S. 399, 411, 34 S.Ct. 337, 340-41, 58 L.Ed. 658 (1914). As

one treatise explains:

OMB Circulars do not determine whether [indirect] costs are
reimbursable by the federal government. OMB has systems for
calculating the amount of indirect costs if they are
reimbursable. An essential prerequisite to the use of OMB's
systems is the provision in grant agreements for the payment
of indirect costs....

1 Richard B. Cappalli, Federal Grants & Cooperative Agreements §

4.53, at 282 (1991 Cum.Supp.) (emphasis in original).

Circular A-122 specifically provides that for costs to be

allowable under an award they must be "reasonable for the

performance of the award," must "[c]onform to any limitations or

30
exclusions ... in the award as to types or amount of cost items,"

and must be "adequately documented." Each of the four Grants at

issue herein specifically provides that the "Grant Offer and the

General Terms and Conditions shall prevail," and the General Terms

and Conditions that accompany each Grant Offer provide that "[t]he

grant or cooperative agreement assistance hereby made available can

be used only for the research project approved by the Economic

Development Administration (EDA) and in conformity with the

approved research budget." (emphasis supplied) As discussed above,

none of the budgets submitted by ITD, let alone any approved by the

EDA, provides for the reimbursement of indirect costs or

depreciation.

If there is any ambiguity in the foregoing provisions, and I

submit there is none, the ambiguity was resolved by EDA's

administrative rulings, to which this Court should give

consideration.

In 1989 and 1990, the Office of Inspector General of the

United States Department of Commerce conducted two audits of ITD.

The following brief excerpts from the final audit report furnish an

enlightening backdrop for our review:

Our audit revealed significant, serious deficiencies in ITD's
financial management system and procurement practices, which
resulted in substantial waste and abuse of funds provided by
the federal government and the $3.7 million of improper
claims. Moreover, it is quite clear that responsible officers
and employees of ITD were fully aware that ITD's accounting
methods and fiscal practices did not conform to federal
financial standards, but made no effort to remedy the
situation until we commenced our audit. Indeed, Institute
officials simply chose to ignore certain federal requirements,
such as Office of Management and Budget (OMB) circulars.

31
 . . . . .

During the course of our audit, it also became readily
apparent that ITD's procurement practices violated federal
standards, resulting in the improper and wasteful use of more
than a million dollars in federal funds.

Specifically, since 1985 ITD has purchased [$]1.1 million
worth of goods and services through unjustified sole source
contracts, in complete and purposeful disregard of federal
requirements that mandate the maximum practicable competition
in connection with procurements. The Institute consistently
failed to execute adequate written contracts or agreements,
which resulted in a serious lack of control over contractor
performance and costs. ITD has also engaged in procurement
practices which created, at the very least, the appearance of
conflicts of interest and has countenanced employee activities
in apparent violation of procurement conduct codes....

ITD officials agree that by not having an overhead cost
allocation system they were not complying with the federal
standards in OMB Circular A-110....

Findings such as the foregoing encourage me in my belief that

we should not reward the misconduct above described by a benevolent

interpretation of the facts and the law at issue herein. In sum,

regardless of whether we give some consideration to the EDA's

holdings, as I believe we should, or whether we embark on a

completely de novo review, I believe that the judgment of the

district court should be affirmed. I so vote.1

1
At the risk of initiating a ping-pong exchange of
footnotes, I feel compelled to respond to footnote 8 of the
majority opinion, particularly the portion thereof that
erroneously describes the basis for my dissent, viz., "because
ITD failed to claim depreciation in its Grant requests" it cannot
claim it now. I do in fact state that the undisputed evidence of
ITD's conduct "establishes overwhelmingly that ITD did not ask
for or expect to receive payment for depreciation," supra, at ---
-. However, that statement is primarily in response to my
colleagues' statement that they could find no evidence of the
parties' intent. See Schultz v. Metropolitan Life Ins. Co., 872
F.2d 676, 679 (5th Cir.1989). It is not the be-all and end-all
of the dissenting opinion. A more accurate statement of the
dissent's position is that it is predicated upon the

32
 APPENDIX

INSTITUTE FOR TECHNOLOGY DEVELOPMENT

ANALYSIS OF EXPENDITURES FOR

$2 MILLION DEMONSTRATION FEDERAL GRANT

DESCRIPTION AMOUNT

Salaries & Allowances $ 429,347.40
Consulting 552,976.42
Contractual 217,483.95
Insurance 44,917.92
Taxes 32,004.11
Retirement 26,409.00
Relocation Costs 40,495.88
Professional Development 5,321.28
Printing & Duplication 20,201.02
Postage & Express Mail 7,067.10
Telephone 27,399.99
Utilities 21.44
Rent 8,727.47
Equipment Rental 6,797.39
Repairs & Maintenance 11,298.94
Legal & Accounting 58,175.33
Other Professional Fees 133,725.33
Trustee Fees 2,713.50
Dues & Subscriptions 7,128.32
Supplies 93,973.64
Travel 273,814.57
___________

unchallengeable fact that Grant assistance was available to ITD
only if it conformed to an "approved research budget," and none
of the budgets incorporated in the Grant agreements at issue
herein contained any reference whatsoever to depreciation. In
other words, the claims now being made for depreciation were not
"otherwise allowable" under the Grant agreements, as required by
Comptroller General Report B-208871.2, entitled "Substitution."

33
Total $2,000,000.00
___________
___________

34