Evaluating Contracts

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Other Contract Types

What’s in this chapter? Indefinite-delivery contracts Time-and-materials contracts Labor-hour contracts Letter contracts Basic ordering agreements Performance-based contracting Multiyear contracts Options Life-cycle costing

ontracts 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 modi cations or variations of xed-price or cost-reimbursement contracts. They are used to provide the

C o p y r i g h t 2 0 1 2 . B e r r e t t - K o e h l e r P u b l i s h e r s .

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government with greater flexibility in a number of different contracting situations.

INDEFINITE-DELIVERY CONTRACTS

Frequently, a buying o ce can specify accurately what it intends to purchase but cannot de ne 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 o cer 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 inde nite-delivery contracts are requirements contracts and indefinite-delivery/indefinite-quantity (ID/IQ) contracts.

Requirements 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 speci ed contract period. The delivery or performance is scheduled when orders are placed with the contractor. These are also known as call contracts.

The contracting o cer 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, inde nite-delivery/inde nite-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 rm based on competitive procedures and then negotiate orders, for services especially, on an individual order basis, which meant each order e ectively was sole source. Yet if a EBSCOhost - printed on 3/3/2021 11:20 PM via STRAYER UNIVERSITY. All use subject to https://www.ebsco.com/terms-of-use

contracting o cer wanted to be innovative and award multiple contracts to e ectively 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 inde nite-delivery, inde nite-quantity contracts. These contracts provide for an inde nite quantity, within stated limits, of supplies or services to be furnished during a fixed period.

Nowadays, the government encourages buying o ces 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 understa ng 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.

Inde nite-delivery/inde nite-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 speci ed 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. Scienti c, engineering, and technical assistance services also are commonly acquired under task order contracts.

ID/IQ contracts can be made for up to a ve-year period, and orders thereunder can run for up to ve 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 o cial who is independent of the contracting officer and may be the agency’s competition advocate.

The Small Business Jobs Act of 2010 o cially 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 EBSCOhost - printed on 3/3/2021 11:20 PM via STRAYER UNIVERSITY. All use subject to https://www.ebsco.com/terms-of-use

small businesses to complete in the federal marketplace.

TIME-AND-MATERIALS CONTRACTS

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 xed-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 speci ed xed hourly rates that include wages, O/H expenses, G&A expenses, and pro t. 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 pro t, they are closely monitored by government o cials. 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 gure 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:

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*The scanner was billed at actual cost.

LABOR-HOUR CONTRACTS

A labor-hour contract is simply a variation of the T&M contract. The only di erence is that the contractor does not supply materials.

LETTER CONTRACTS

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 rm contract price, but they do contain standard contract clauses and a limitation on the government’s liability. Each letter contract must contain a negotiated de nitization 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, speci cations, and price, which converts the letter contract into a de nitive/standard contract.

The target date for de nitization should be within 180 days of the date the letter contract is issued or before completion of 40 percent of the work, whichever occurs rst. The contracting o cer may, in extreme cases and according to agency procedures, EBSCOhost - printed on 3/3/2021 11:20 PM via STRAYER UNIVERSITY. All use subject to https://www.ebsco.com/terms-of-use

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 o cer 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 o cer 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 speci c 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 xed-price or cost-reimbursement contracts, but the contracting o cer 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 speci es 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

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: EBSCOhost - printed on 3/3/2021 11:20 PM via STRAYER UNIVERSITY. All use subject to https://www.ebsco.com/terms-of-use

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 xed-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.

MULTIYEAR CONTRACTS

In 1972 the Commission on Government Procurement recommended that Congress authorize all federal agencies to enter into multiyear contracts that are based on clearly speci ed requirements. A multiyear contract is for the purchase of products and services for more than one year, but not more than ve years. This recommendation was based on the commission’s ndings that the use of multiyear contracts would result in signi cant savings to the government because they enable contractors to o er 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 di cult 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

rms 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.

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Federal agencies that propose to use multiyear contracts must seek advance approval during the budget process.

Multiyear-Basis Contracts If the government awards the contract on a multiyear basis, it obligates only the contract funds for the rst-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 o cer 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 o cer 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., o ce. 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 $5,000,000

×10%

Cancellation ceiling price $500,000

The cancellation ceiling price is then reduced by the contracting o cer over the three- year contract period.

Cancellation ceiling price $500,000

Year 1: 30% × $500,000 ($150,000)

$350,000

Year 2: 30% × $500,000 ($150,000) EBSCOhost - printed on 3/3/2021 11:20 PM via STRAYER UNIVERSITY. All use subject to https://www.ebsco.com/terms-of-use

$200,000

Year 3: 40% × $500,000 ($200,000)

0

The contracting o cer also establishes cancellation dates for each program year’s requirements.

Although multiyear-basis contract requirements are budgeted and nanced for only the rst 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 o cer 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 xed-price contract; they may not result in a cost-reimbursement contract.

OPTIONS

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 o cer 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 EBSCOhost - printed on 3/3/2021 11:20 PM via STRAYER UNIVERSITY. All use subject to https://www.ebsco.com/terms-of-use

and purchase additional items. The contracting o cer 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 o er 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 o cer must provide a written notice to the contractor within the period speci ed in the contract. The contract is then modi ed to incorporate the option, citing the appropriate contract clause as the authority.

When soliciting for contracts containing options, the contracting o cer may use sealed bidding or negotiated procedures.

LIFE-CYCLE COSTING

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):

2016 $15,000

2017 $18,000

2018 $21,000

2019 $24,000

Leased price/costs (by year):

2016 ($10,000 per month) $120,000

2017 ($12,000 per month) $144,000

2018 ($14,000 per month) $168,000

2019 ($16,000 per month) $192,000 EBSCOhost - printed on 3/3/2021 11:20 PM via STRAYER UNIVERSITY. All use subject to https://www.ebsco.com/terms-of-use

Purchase option: 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:

Electricity: $3,000 ($250 a month)

Rent: $12,000 ($1,000 a month)

The next step is to calculate the total cost of each purchase option:

1. Outright purchase of the satellite dish:

2. Leased price/costs of the satellite dish:

3. Total cost when the purchase option is exercised:

In this example, the contracting o cer 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 EBSCOhost - printed on 3/3/2021 11:20 PM via STRAYER UNIVERSITY. All use subject to https://www.ebsco.com/terms-of-use

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.

To get more detailed information on LCC, contact:

National Technical Information Service (NTIS) Technology Administration

U.S. Department of Commerce (800) 553-6847 www.ntis.gov

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 ts the particular procurement.

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