Image your small business that produces very small remote control aircraft capable of long sustained flights. You are ready to expand your business by competing for Department of Defense (DoD) contracts. You already have added one (1) contract with the DoD worth over $600,000 to your expanding company and are now ready to venture into contracting for the Department of Homeland Security and other federal agencies.
Write a six (6) page paper in which you:
1. Compare and contrast fixed-price contracts and cost-reimbursement contracts in terms of the benefits and drawbacks of each for your business.
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2. Analyze at least three (3) opportunities your small business will have compared to large businesses in general.
3. Discuss which element(s) of cost-reimbursement contracts tend to produce the biggest troubles for your small business. Provide a rationale for your choice(s).
4. Determine which form of contracting would benefit your business the most among all the forms of contracting described in Chapter 16. Support your response.
5. Choose the most significant form of contracting that would support large companies (e.g., Boeing) among all the forms of contracting described in Chapter 16. Support your response.
6. Develop a plan on how your company would justify the government to award your company the contract when the form of this contracting supports larger companies.
7. Use at least three (3) quality academic resources in this assignment. Note: Wikipedia and other Websites do not qualify as academic resources.
CHAPTER 16 INCLUDED FOR REVIEW
Other Contract Types
What’s in this chapter?
Basic ordering agreements
Contracts come in all shapes and sizes. This chapter highlights many of the other contract types you are likely to run into. Don’t be intimidated by these “other contract types.” If you look closely, you’ll notice they are all special modifications or variations of fixed-price or cost-reimbursement contracts. They are used to provide the government with greater flexibility in a number of different contracting situations.
Frequently, a buying office can specify accurately what it intends to purchase but cannot define the exact delivery dates and/or quantity that will be required. In that case, it uses indefinite-delivery contracts to procure such items.
The actual delivery of these commonly used supplies and services is made when the contracting officer places an order. One of the primary advantages of this contract type is that it permits contractors to maintain in storage depots a limited stock of the supplies that are being purchased. It also permits direct shipment by the contractor to federal agencies.
Two of the more common indefinite-delivery contracts are requirements contracts and indefinite-delivery/indefinite-quantity (ID/IQ) contracts.
This contract type typically is used for acquiring supplies or services when the government anticipates recurring requirements but cannot specify the precise quantities it will need during the specified contract period. The delivery or performance is scheduled when orders are placed with the contractor. These are also known as call contracts.
The contracting officer determines a realistic estimate of the total quantity required in the solicitation and the resulting contract. Records of previous requirements and consumption are used to develop the estimate. This estimate is not, however, a representation to the contractor that the estimated quantity will be required or ordered.
The contract also may place limits on the contractor’s obligation to deliver and the government’s obligation to order. In fact, most requirements contracts do not guarantee that a contractor will receive any orders. Stated another way, the government promises to buy all of its requirements from one vendor, but it just doesn’t know up front how much it will need of the items or services, or when it will need them, during the contract term.
Indefinite-Delivery/Indefinite-Quantity (ID/IQ) Contracts
Years ago, indefinite-delivery/indefinite-quantity (ID/IQ) contracts were most often associated with supplies as opposed to services. Concurrently, the government could award a single contract, whether for supplies or services, with one firm based on competitive procedures and then negotiate orders, for services especially, on an individual order basis, which meant each order effectively was sole source. Yet if a contracting officer wanted to be innovative and award multiple contracts to effectively compete the orders to obtain better prices, he or she could not do so because the orders were not considered subject to “full and open competition.”
Fortunately, acquisition reform resolved this dilemma. The laws were changed to permit agencies to award indefinite-delivery, indefinite-quantity contracts. These contracts provide for an indefinite quantity, within stated limits, of supplies or services to be furnished during a fixed period.
Nowadays, the government encourages buying offices to make multiple awards of this contract type when a recurring need is anticipated for similar supplies or services. In fact, contracting activities are racing to ID/IQs as a way to deal with understaffing and to expedite purchasing. ID/IQ contracts are now done for a broad range of services. Current projections indicate that almost 80 percent of the federal IT budget will go through ID/IQ contracts by 2017.
Indefinite-delivery/indefinite-quantity contracts are also known as delivery order contracts and task order contracts, depending on whether supplies or services are being ordered, respectively. A delivery order contract is used to issue orders for the delivery of products or supplies, such as furniture and equipment. Firm quantities, other than a minimum or maximum quantity, are not specified in the delivery order during the contract period.
A task order contract, on the other hand, is used for services performed during the contract period, such as repairs and maintenance. Scientific, engineering, and technical assistance services also are commonly acquired under task order contracts.
ID/IQ contracts can be made for up to a five-year period, and orders thereunder can run for up to five years, so these contracts can become ten-year contracts. Delivery or performance is scheduled when the orders are placed with the contractor.
Rules are in place to ensure that contractors are given a “fair opportunity” to compete or be considered for most orders, although some may be set aside for various small business concerns. Each federal agency designates an ombudsman, who reviews contractor complaints and helps ensure that all contractors are considered for orders consistent with the contract. The ombudsman must be a senior agency official who is independent of the contracting officer and may be the agency’s competition advocate.
The Small Business Jobs Act of 2010 officially authorizes federal agencies to set aside or reserve task or delivery order contracts for small businesses. FAR 16.5 was amended to acknowledge that set-asides may be used in connection with the placement of orders under multiple-award contracts, notwithstanding the requirement to provide each contract holder a fair opportunity to be considered.
This interim rule therefore gives agencies another tool to increase opportunities for small businesses to complete in the federal marketplace.
Time-and-materials (T&M) contracts (see facing page) tend to be used for specialized or high-tech services, such as engineering and accounting. Basically, a T&M contract combines the features of a cost-reimbursement contract and a fixed-price contract. T&M contracts are typically used when estimating the costs or extent of the work is almost impossible at the time of contract award.
Direct labor is provided at specified fixed hourly rates that include wages, O/H expenses, G&A expenses, and profit. This combined direct labor rate is referred to as a loaded labor rate or a fully burdened labor rate. The contractor provides materials, at cost, including, if appropriate, material-handling costs.
Because T&M contracts give contractors an incentive to increase costs to increase profit, they are closely monitored by government officials. All T&M contract have a ceiling price that the contractor may not exceed, except at its own risk.
Example T&M Contract
Let’s assume Bill Jobs, a senior systems engineer, receives a T&M contract to provide technical assistance to the Department of the Navy. Bill’s annual salary is $83,200; therefore, he has the following base hourly rate:
Annual wage: $83,200/2,080 hours = $40.00
(52 weeks × 40 hours/week = 2,080 hours*)
*The government often requires the contractor to use a figure much lower than 2,080 hours/year to break out holidays, vacation, and sick leave. The remaining hours are referred to as productive hours. Productive hours are often figured at 1,920 hours/year.
*This balance represents the “fully burdened” or “fully loaded” labor rate.
Bill’s next step is to determine his total billing. If this job took 200 hours to complete and required the purchase of a high-tech scanner, the total bill would be calculated as follows:
*The scanner was billed at actual cost.
A labor-hour contract is simply a variation of the T&M contract. The only difference is that the contractor does not supply materials.
If there is a national emergency, such as an earthquake or a hurricane (like Katrina), the government issues letter contracts to contractors to help provide immediate relief. A letter contract (or a letter-of-intent contract) is a written preliminary contractual instrument that authorizes a contractor to begin manufacturing products or performing services immediately. Depending on the circumstances, the letter contract should be as complete and definite as possible.
For its convenience, the government issues letter contracts without a firm contract price, but they do contain standard contract clauses and a limitation on the government’s liability. Each letter contract must contain a negotiated definitization schedule that includes:
Dates for submission of the contractor’s price proposal, required cost or pricing data, and, if required, subcontracting plans
Start date for negotiations
Agreement between the government and the contractor on the date by which definitization is expected to be completed.
Definitization means the agreement on, or determination of, contract terms, specifications, and price, which converts the letter contract into a definitive/standard contract.
The target date for definitization should be within 180 days of the date the letter contract is issued or before completion of 40 percent of the work, whichever occurs first. The contracting officer may, in extreme cases and according to agency procedures, authorize an additional period. Contractors are reimbursed for only 80 percent of expenditures and receive no fee while under a letter contract, which gives them a great incentive to get the contract definitized.
If, after exhausting all reasonable efforts, the parties fail to reach an agreement on price and fee, the contracting officer may unilaterally establish a reasonable price and fee. The contractor may appeal this determination in accordance with the disputes clause (see Chapter 17). Because of the uncertainties involved with letter contracts, they may be used only after the contracting officer determines in writing that no other contract is suitable and the determination is approved at a higher level.
BASIC ORDERING AGREEMENTS
A basic ordering agreement (BOA) is not a contract; it is a written instrument of understanding, negotiated between the government and a contractor. BOAs allow the government to expedite the procurement of products or services when specific items, quantities, and prices are unknown at the time of the agreement. If the government purchases a high-resolution printer, for example, it may establish a BOA for future toner purchases.
BOAs typically are used when past experience or future plans indicate the need for a contractor’s particular products or services during the forthcoming year. They may be issued with fixed-price or cost-reimbursement contracts, but the contracting officer must still use competitive solicitations whenever possible. The BOA also lists the buying offices that are authorized to place orders under the agreement.
At a minimum, a BOA must contain:
Terms and clauses applying to future contracts (orders) that might be awarded to the contractor
Description of products or services
Methods for pricing, issuing, and delivering future orders.
Each BOA specifies the point at which an order becomes a binding contract. The agreement, for example, may state that the issuance of an order gives rise to an immediate contract.
Performance-based contracting methods attempt to base the total amount paid to a contractor on the level of performance quality achieved and contract standards met. In other words, they are intended to motivate the contractor to perform at its best. A performance-based contract should:
Describe the work in terms of what is to be the required output, rather than how the work is to be accomplished
Use measurable performance standards, such as terms of quality, timeliness, and quantity
Specify procedures for reductions of fee or for reductions to the price of a fixed-price contract when services are not performed or do not meet contract requirements
Include performance incentives (where appropriate).
Contracting activities should also develop quality assurance surveillance plans when acquiring services. These plans should recognize the responsibility of the contractor to carry out its quality control obligations, and they should contain measurable inspection and acceptance criteria.
The contract type most likely to motivate the contractor to perform at an optimal level should be chosen. Fixed-price contracts are generally appropriate for services that can be objectively defined and for which the risk of performance is manageable.
In 1972 the Commission on Government Procurement recommended that Congress authorize all federal agencies to enter into multiyear contracts that are based on clearly specified requirements. A multiyear contract is for the purchase of products and services for more than one year, but not more than five years. This recommendation was based on the commission’s findings that the use of multiyear contracts would result in significant savings to the government because they enable contractors to offer better overall prices while maintaining a steady workload.
Congress was reluctant to approve multiyear contracts because it has no authority to approve programs that future Congresses must fund. It was also reluctant to approve contracting arrangements that are difficult to change in subsequent years. Congress did, however, recognize that one- or two-year planning and funding horizons are generally too short for many of the government’s larger procurements.
The FAR encourages the use of multiyear contracts to achieve:
Lower costs and reduced administrative burdens
Continuity of production and thus avoidance of annual start-up costs
Stabilization of the contractor workforce
A broader competitive base, resulting from greater opportunity for participation by firms that might not otherwise be willing or able to compete for lesser quantities—particularly for contracts involving high start-up costs
Greater incentive for contractors to improve productivity through investment in capital facilities, equipment, and advanced technology.
Federal agencies that propose to use multiyear contracts must seek advance approval during the budget process.
If the government awards the contract on a multiyear basis, it obligates only the contract funds for the first-year requirement, with succeeding years’ requirements funded annually. If the funds do not become available to support the succeeding years’ requirements, the federal agency must cancel the contract, including the total requirements of all remaining program years.
Because of this cancellation risk, a multiyear contract often contains a contract provision that allows for reimbursement of unrecovered nonrecurring costs. These costs might include special tooling and test equipment; preproduction engineering; and costs incurred for the assembly, training, and transportation of a specialized workforce.
For each program year subject to cancellation, the contracting officer establishes a cancellation ceiling price by estimating the nonrecurring costs. The cancellation ceiling price is reduced each program year in direct proportion to the remaining requirements subject to cancellation.
The big issue here is that Congress doesn’t want to be committed to outyears (years in which funding for a requirement isn’t available). (Remember Congress funds most everything on an annual basis.) Also, it doesn’t care to have current-year appropriations set aside to pay outyear cancellation charges, which is why there are limits on the amount of cancellation charges that multiyear contracts can specify.
Suppose a contracting officer in the General Services Administration awarded a multiyear contract to Lock ‘N’ Chase, Inc., to install a new security system in its Washington, D.C., office. The contract is for three years, and the estimated cancellation ceiling price is 10 percent of the total multiyear contract price.
Total multiyear contract price
Cancellation ceiling price
The cancellation ceiling price is then reduced by the contracting officer over the three-year contract period.
Cancellation ceiling price
Year 1: 30% × $500,000
Year 2: 30% × $500,000
Year 3: 40% × $500,000
The contracting officer also establishes cancellation dates for each program year’s requirements.
Although multiyear-basis contract requirements are budgeted and financed for only the first program year, the government solicits prices for both the current-year program requirement alone and the total multiyear requirements. By obtaining dual proposals, the contracting officer is better able to establish the total job requirements and the contracting period. A 10 percent savings in favor of multiyear contracting has typically been used as an evaluation benchmark.
Either sealed bidding or negotiated procedures may be used when soliciting for multiyear contracts. Multiyear contracts typically result in a fixed-price contract; they may not result in a cost-reimbursement contract.
Let’s assume iComputer Center was awarded a contract with options to provide computer training services to the Department of Commerce. The contract has a one-year base period and four option periods.
An option gives the government a unilateral right to purchase additional products or services called for by the contract. Contracts containing options are not the same as multiyear contracts, which require the government to purchase the entire multiyear procurement (unless the requirement is canceled or the funds are made unavailable). To exercise an option, a contracting officer must determine that funds are available and the need for the option exists.
The presence of an option is no guarantee that the government will exercise the option and purchase additional items. The contracting officer considers price and other related factors when determining whether to exercise the option. If a new solicitation fails to produce a better price or more advantageous offer than that provided by the option, the government generally exercises an option.
The solicitation states the basis on which the options will be evaluated. To exercise an option, the contracting officer must provide a written notice to the contractor within the period specified in the contract. The contract is then modified to incorporate the option, citing the appropriate contract clause as the authority.
When soliciting for contracts containing options, the contracting officer may use sealed bidding or negotiated procedures.
While life-cycle costing is not exactly a contract type per se, it is a method sometimes used in source selection as a part of cost analysis. It is also used for making program management choices and decisions.
Suppose the Department of Homeland Security is acquiring a satellite dish, the life of which is determined to be four years. Because satellite dishes tend to have high support costs, the contracting officer seeks information on costs that apply to the:
Outright purchase of the satellite dish
Total leased price/costs
Total leased price/costs with an option to purchase.
Now let’s assume that Satellites “R” Us submits the following prices/cost estimates to the government:
Total purchase price: $500,000
Estimated maintenance costs (by year):
Leased price/costs (by year):
2016 ($10,000 per month)
2017 ($12,000 per month)
2018 ($14,000 per month)
2019 ($16,000 per month)
The government has the option of purchasing the satellite dish for $375,000 at the beginning of 2018.
This satellite dish will also incur the following operating costs:
$3,000 ($250 a month)
$12,000 ($1,000 a month)
Example, the contracting officer would purchase the satellite dish outright because that option offers the lowest overall cost to the government.
Life-cycle costing (LCC) is the estimation and analysis of the total cost of acquiring, developing, operating, supporting, and (if applicable) disposing of an item or system being acquired. Both direct and indirect costs make up the total LCC of the system. LCC enhances the decision-making process in system acquisitions and is used as a management tool throughout the process.
The government is concerned about a system’s LCC because of the rapidly increasing cost of supporting the system once it is placed into operation. In fact, for many system acquisitions, the cost of operating and supporting the system over its useful life is greater than the acquisition cost. The LCC program is designed to reduce these operating and support costs by analyzing design alternatives.
When a federal agency determines that LCC could be an important aspect of a particular program, it decides on the degree and method of implementation. The solicitation states the requirements as they relate to the proposal and source-selection process.
An LCC model comprises one or more systematically arranged mathematical calculations that formulate a cost methodology to arrive at reliable cost estimates. The General Services Administration makes its LCC program, called BARS, available to agencies at no charge and to vendors for a nominal cost.
Various commercial packages also are in widespread government and commercial use.
Selection of a contract type should not be based on either the government’s or the contractor’s individual biases. Rather, the selection should be based on an objective analysis of all factors involved and of the contract type that fits the particular procurement.