Federal Appellate Decision Finds Federal Government Breached Water Supply Contracts with California Water Agencies

Stockton East Water District v. United States, United States Court of Appeals for the Federal Circuit, Case No. 2007-5142 (September 30, 2009)

The federal government’s failure to meet its contractual obligation to supply water to drought-stricken California water agencies, while continuing to meet other demands for water, especially for the protection of fish and wildlife, was recently found to be a breach of contract. Stockton East Water District v. United States makes clear that water agencies can pursue the federal government for monetary damages caused by the government’s failure to supply water absent substantial proof that such failure is excused.

Stockton East Water District and Central San Joaquin Water Conservation District entered into water supply contracts with the Bureau of Reclamation in 1983, in part to satisfy conditions imposed on Reclamation by the California State Water Resources Control Board for the operation of the newly-constructed New Melones Dam. The contracts obligated Reclamation to supply minimum volumes of water annually to the districts, up to 155,000 acre-feet. The districts spent many millions of dollars to construct water delivery systems in anticipation of future deliveries under the contracts. In 1992, before the districts demanded any water from Reclamation, Congress enacted the Central Valley Project Improvement Act. The CVPIA required that Reclamation dedicate substantial volumes of water for the protection of fish and wildlife and for habitat restoration. In 1993, the districts began making annual demands for water. Reclamation failed to meet those demands in every year from 1993 to 2004, and failed even to meet the stated contract minimums, contending that it was required to use New Melones water to satisfy CVPIA requirements to protect fish and wildlife and to meet water quality standards.

The districts sued Reclamation in 1993, asserting that their vested water rights had been impaired because of the restrictions of the CVPIA, in violation of the Fifth Amendment takings clause. They later amended their complaint to add a breach of contract claim against Reclamation. The case finally reached trial in 2006. The trial court found that Reclamation breached the water supply contracts in every year from 1993 to 2004 but excused that breach under the contracts’ “shortage” provision, which allowed Reclamation to deliver less than the stated contractual minimums when water supplies were insufficient to meet them. The trial court’s decision was based, in part, on the “clash of management objectives and priorities” and an “inherent conflict” between the districts’ contractual right to water and Reclamation’s environmental obligations under the CVPIA. The trial court also rejected Reclamation’s sovereign acts defense and dismissed the districts’ takings claims.

As preface to its appellate review of the trial court’s decision, the Federal Circuit Court of Appeals touched on the long history of California water rights and the creation of the Central Valley Project, of which the New Melones Dam forms part. The court explained that the 1992 CVPIA created a significant change in priorities by the federal government, reducing the prior emphasis on consumptive uses in favor of protection of non-consumptive uses – fish, wildlife, and habitat restoration. These changing priorities, mandated by federal agencies other than Reclamation, caused Reclamation to make operational decisions regarding water allocation that led to the reduction in available supply to the districts.

Against this background, the Federal Circuit reversed the trial court’s decision and found that Reclamation’s breach of the water supply contracts was not excused by the shortage defense. First, the court gave the defense a narrow reading, holding that it should apply only in the specified circumstances set forth in the contracts. The court added that Reclamation’s position on the defense would potentially render the contracts illusory and could subject the government to a claim of unfair dealing and fraud by changing the rules after inducing a party to spend millions of dollars in reliance on a contract. And with respect to changes in state law, the court found that Reclamation had failed to prove that such changes were the true cause of its failure to supply the required water volumes.

Second, the court found that, with the exception of two of the relevant years, Reclamation failed to prove that it was entitled to the benefit of the shortage provision. That provision was limited to conditions of drought or other conditions that were “beyond the control of the United States.” Federal changes in law or policy, even outside the realm of Reclamation, were within the control of the United States and thus not excused. Even changes in state law would not protect Reclamation according to the court. In reaching this conclusion, the court distinguished Ninth Circuit authority in O’Neill v. United States, 50 F.3d 677 (9th Cir. 1995), pointing out that O’Neill involved a much broader shortage provision that excused shortages based on “errors in operation, drought, or any other causes” and was not limited to causes beyond the control of the United States.

Third, the court rejected Reclamation’s sovereign acts defense. Citing United States v. Winstar Corp., 518 U.S. 839 (1996), the court rejected Reclamation’s contention that implementation of the CVPIA constituted a public and general act sufficient to entitle it to the defense as against the districts. Moreover, Reclamation could not satisfy the second element of the sovereign acts defense when it failed to prove that such implementation rendered its contract performance impossible.

The court also vacated the dismissal of the districts’ takings claims, at least with respect to the two years in which the districts’ breach of contract claims failed. While a plaintiff cannot recover twice for a single harm on alternative theories of liability, it should be permitted to pursue alternative theories when its primary theory fails. Thus, the districts should have been permitted to pursue takings claims for the two years in which its contract claims failed.

Stockton East provides important support for California water agencies seeking to enforce contractual water rights. While future cases will turn on the specific language of the relevant water rights contracts and the circumstances that lead to diminished water supply, Stockton East demonstrates that the federal government will be put to the test of proving that its operational decisions are justified, and that failure to supply water may be a breach of contract.


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