Don’t Hedge Your Bets on a Fixed-Price Bid

Because a firm fixed-price contract commits a contractor to paying for overruns and unexpected performance costs, a bidder might be tempted to hedge its bets when submitting a bid for a fixed-price contract. For example, a bidder might “reserve all rights” to a future equitable adjustment if some costly, unexpected event occurs.

Doing so, however, can be fatal to winning the contract. A bidder trying to hedge its bets can end up submitting a “contingent offer” that disqualifies the bidder from winning the work. In one case, a bidder’s offer to provide professional radiology services at a government clinic was a disqualifying conditional offer because the bidder required “reimbursement for the full cost of adequate malpractice insurance coverage, whatever this cost may be, during the life of any contract awarded.” GAO concluded that the bidder had not submitted a firm, fixed-price offer.

A more subtle example of a disqualifying conditional offer involved a contract where, according to the solicitation, most of the work would be performed at the contractor’s site although some work would be done at the government site. The bidder’s offer was found to be a disqualifying conditional offer because its bid was based on more work being done at the lower-priced government site than the solicitation anticipated.

Whether a bid is firm or conditional depends on the precise wording a bidder uses. A recent GAO decision distinguished between a disqualifying “right to receive a price adjustment” vs. an allowable “right to request a price adjustment.” According to GAO, a bidder can properly reserve the right to negotiate an equitable adjustment or the right to ask the Government to consider a specific extra cost because the agency in turn could refuse any increase.

Hedging bets in any way, however, is risky. A reservation that seems proper to a bidder might be considered improper by GAO. A recent GAO decision concluding that a bidder’s “reservation” was proper involved this bidder statement: “It is assumed that as the Technical Landscape changes over time and the team requires new or additional skills, the pricing of the team can be renegotiated.” Does that statement sound more like a right to “receive” or a right to “request” an increase?

Moreover, although winning the protest at GAO was good news for the bidder, the win was costly. The bidder’s language needlessly gave a competitor an argument for a protest that the bidder then had to spend money to defend.

In the end, although reservations of rights might make a bidder feel better, they are risky and often unnecessary. Contractors always have the right to request an equitable adjustment for changes. The most prudent approach, therefore, is to avoid altogether using any language that could be construed as qualifying your bid or giving a competitor a protest argument. Hedging your bid with a conditional offer is risky business and could cost you the contract.

Terrence O'Connor is the Director of Government Contracts for Berenzweig Leonard, LLP, a business law firm in the D.C. region. Terry can be reached at toconnor@BerenzweigLaw.com.

The Best Way to Negotiate a Fair Profit on Equitable Adjustments

When the government changes a contractor’s work, the contractor is entitled to an equitable adjustment under the Changes clause for not only any increased costs but also for profit on those costs.

Negotiating a fair profit presents a problem. The typical contractor is reluctant to harm its relationship with its customer, particularly in this time of dwindling agency budgets. The result is often that the contractor agrees to profit being based on one of two low-profit approaches: the loss-leader profit percentage the contractor used to win the contract or the profit percentage a contracting officer says is typical and not controversial for the agency.

FAR, however, rejects both approaches: “Negotiation of extremely low profits, use of historical averages, or automatic application of predetermined percentages to total estimated costs do not provide proper motivation for optimum contract performance.” FAR 15.404-4(a)(3).

Case law agrees with FAR, explaining that, even though a contractor wins with loss-leader profit figures, “a contractor is not then generally bound to those markups for all and any subsequent changed work…a change is priced separately as an equitable adjustment and as such is to reflect the normal costs and markups for the work.” Flathead Contractors, LLC, v. USDA, CBCA No. 118-R, October 2, 2007.

FAR demands, instead, that profit act as “a motivator for efficient and effective contract performance” and makes profit depend generally on contractor effort and contract cost-risk.

For example, there is more “contractor effort” required for removing asbestos from a room than for painting the room. Profit then should be higher on an equitable adjustment for the asbestos removal work. There is also more “contract cost-risk” in fixed-price work than in cost-plus-fixed-fee work because the contractor is responsible for any overruns on a fixed-price contract. Profit, therefore, should be higher for fixed-price work.

Moreover, although federal law limits profit on a cost-reimbursement contract’s estimated costs, there is no federal law limiting profit on fixed-price work.

Clearly, profit is not a dirty word in FAR. The government is supposed to use profit to motivate quality contractor performance based on contractor effort and contract cost-risk. When it bases equitable adjustment profit on loss-leader percentages or agency-accepted percentages, the government does not motivate contractors nor comply with FAR.

Contractors should use the FAR profit principles in negotiating a fair profit on an equitable adjustment. These principles provide a profit rationale that the government must by law consider.  

Terrence O'Connor is the Director of Government Contracts for Berenzweig Leonard, LLP, a business law firm in the D.C. region. Terry can be reached at toconnor@berenzweiglaw.com.