FAR Flowdowns and Requirements: Do You Understand What You’re Getting Into? Breakout Session # D01 Michelle M. Currier, CPCM, CFCM Professor of Contract Management Defense Acquisition University Jim Kirlin, CPCM, CFCM Senior Subcontracts Manager Raytheon Company Date: March 13, 2015 Time: 9:30am – 10:45am

FAR Flow Downs and Requirements: Do You Understand What You’re Getting Into?

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Agenda • • • • • • • • • • • • • • •

The Rising Importance of the Subcontract Professional Flow Down of Terms and Conditions Definition of a Flow Down Prime and Subcontractor Perspectives Sets of Clauses Flow Down Wording Typical Prescriptions Defining Subcontractor and Subcontract Clauses Not Required to be Flowed Down Christian Doctrine Negotiating Flow Downs Commercial Item Flow Downs Ethics and Compliance Flow Downs Resources for Determining Flow Downs Questions

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The Rising Importance of the Subcontract Professional Subcontract Managers Must be Aware of the Unique Federal Prime Contract Requirements • Under a U.S. government prime contract, subcontract management is a hybrid between the company’s own commercial subcontracting requirements and those of the federal government. • Subcontract managers must be proficient not only in the purchasing and sourcing aspects of supply chain management, but also in the unique requirements imposed by the federal prime contract. • These unique requirements implement the government’s acquisition laws, regulations, and policies. 4

Flow Down of Terms and Conditions •

Like price and contract type, terms and conditions are a risk-sharing mechanism: – –

•

Price agreement alone does not define the business arrangement. The price must be associated with agreement on the terms and conditions.

The government is not a party to the prime/subcontractor relationship: – –

However, the government requires the flow down of terms and conditions to comply with law. The prime contractor flows down the mandatory terms and conditions to comply with its obligations under the prime contract.

•

Subcontracts under a government prime contract are a hybrid of industry commercial clauses and FAR clauses, which implement federal acquisition law and regulations.

•

The primary governing body of law in the subcontracting environment is commercial contract law (not the FAR or federal law). This generally takes the form of stateenacted versions of the Uniform Commercial Code (UCC).

See Joseph L. Cavinato, Anna E. Flynn, and Ralph G. Kaufmann; The Supply Management Handbook, seventh ed. (New York: McGraw-Hill, 2006): 552. See also Contract Management Body of Knowledge (CMBOK), fourth ed. (Ashburn, VA: NCMA, 2013): 18–24.

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Definition of a Flow Down • A flow down can be described as transferring and translation of requirements from a prime contract into a subcontract in support of the prime contract. • The prime contractor’s contract manager provides the terms and conditions to the subcontract manager. • The contract manager usually highlights changes to the key terms and conditions from the company proposed terms versus the final negotiated terms. The result is that the subcontract manager will have the latest prime contract terms and conditions and, hence, can assess the impact of previous terms and conditions flowed to the subcontractor in the proposal phase. 6

Prime’s Perspective • The prime’s tendency is to flow down as much as possible as a risk management strategy. • This is out of concern for being compliant to the prime contract’s requirements. In many cases, the prime does not see much latitude for negotiation. • However, if overdone, this strategy can be costly in terms of time to negotiate and to add unnecessary requirements. Instead of forcing subcontractors to take exceptions, a better strategy is for the prime to ask the subcontractor to identify the terms and conditions that are increasing the proposed price.

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Subcontractor’s Perspective • The subcontractor’s first concern is to understand what the prime wants to flow down. • This requires the subcontractor to understand enough about the prime contract to determine if a flow down applies. • The subcontractor should review the proposed clauses in the request for proposal and identify and relay any concerns or exceptions to the prime as early as possible. • It is best to offer a rationale and alternatives so that the prime will understand the impact of the proposed flow down and ways to possibly accomplish the same result at less cost.

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Sets of Clauses •

• • • •

Companies typically use sets of clauses tailored to known variations in the procurement types. This enables the development of flow downs appropriate to the subcontract. The company uses the sets as a standalone or in combination with other sets. This approach avoids the disadvantages of a “one size fits all” approach in which each procurement action would require the contract manager to tailor clauses. By using a “building block” approach, the subcontract manager can assemble the needed sets for a wide variety of subcontracts.

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Typical Sets of Clauses Set

Description

General

     

Commercial—FAR Part 12

 

FAR

 

Defense FAR Supplement (DFARS)

 

Agency Supplement

 

International

 

Program-Specific



Basic for all purchases. Fixed price. Commercial goods and services. No government flow downs. Used as the “foundation.” Standalone or used in combination. Used when the prime contract falls under FAR Part 12, “Acquisition of Commercial Items.” Added to general set. Flow downs required by the FAR. Added to general set. Flow downs required by the DFARS. Added to general set. Flow downs required by a specific federal agency FAR supplement. Added to general set. For international subcontracts. Can be designed to be added to the general set or can be a standalone set for either direct commercial sale subcontract (no U.S. government) and/or subcontract under a government prime contract (e.g., foreign military sale). Flow downs specific to one program, typically a large government program in which there are many flow downs unique to the prime contract.

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Topic-Specific Sets •

The company may also have standard sets based on the topics.

•

These sets usually provide implementing details such as systems requirements, forms, formats, and instructions. There is no limit to these sets.

•

A few of the more popular topics include: – – – – – –

Quality Property Insurance Payment Packaging and marking Transportation and shipping

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Custom Terms and Conditions • There are many instruments that do not lend themselves to standard or topic sets of terms and conditions. • Typical custom arrangements include: – – – – –

Intellectual property and licenses, Agreements, Memoranda of understanding, Memoranda of agreement, and/or Letters of intent.

• The content of these arrangements depend on the customs of the market and the buyer. • These arrangements usually require legal advice because of their unique nature.

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Facilitating Clauses • The body of the subcontract will typically have facilitating or enabling clauses that provide information specific to the subcontract. • Because of their nature, they are not usually contentious. • Typical examples include: – Order of precedence for the subcontract sections and clauses, – Designation of representatives for the subcontract and for change notification, – Invoicing address, – Where to send data, – Delivery addresses, – Government agency contact information and addresses, and/or – Notices and warnings.

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Flow Down of T&Cs Method

Description

Pros

Cons

Substitute Wording

Substitutes the wording “buyer/prime/contractor” for references to the “government.”

Works well for the large majority of clauses. Saves the administrative work and expense of changing myriad clauses.

Does not work well for some clauses such as “Intellectual Property,” “Termination,” “Protests,” “Disputes,” “Access to Records,” or “Inspection.”

Actual Wording

Shows clauses in full text Ease of reading and without reference to reduction in ambiguities. federal clauses.

Time and expense to establish and maintain currency of the clauses.

Hybrid

Uses the substitute Administratively efficient and avoids contentious wording method, but substitutions. clarifies where this method is not followed and provides clausespecific wording for these differences.

Does not mean the wording is acceptable to the subcontractor.

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Use of “Current Version” • •

Some primes state that the “current version” of the federal clauses at the time of subcontract award will be used in the subcontract. The advantage is that this method does not require the updating of the clause dates in the sets of terms and conditions.

•

However, the disadvantage is that parties may not know that the clauses changed before the subcontract award.

•

A solution to this problem is to agree on the currency of the clauses stated in the prime contract or as of the negotiated date of the prime contract (anticipating there is a time delay between negotiations and award).

•

Both parties should be aware of the usage of the “current version” language.

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How a Clause is Required to be Flowed Down • Clauses are generally flowed down in one of three ways: – By reference. – By using the full text of the clauses. – By applying the “substantially as follows” or “substantially the same as” basis.

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Fill-in Information and Dates •

Before flowing down the clauses, the prime should review the fill-in information and the dates in the clauses because this information may require altering in order to provide for the execution of the subcontract.

•

For example, if the prime’s termination settlement proposal is due to the government within one year of contract termination, then the prime will need to require the subcontractor’s termination settlement proposal before that (e.g. six months) to allow time for the prime to evaluate and include the subcontractor’s proposal in its proposal.

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Typical Prescriptions Prescription

Examples

Dollar Value

      

All subcontracts regardless of dollar value. Over the micro-purchase threshold, as defined in FAR 2.101. Over the simplified acquisition threshold, as defined in FAR 2.101. Small business plan requirements/thresholds. Cost Accounting Standards requirements/thresholds. Cost or pricing data requirements/thresholds. Business ethics and compliance requirements/thresholds.

Subcontract Type

   

Fixed-price. Cost reimbursement. Time and materials. Labor hour.

Commercial

 Subcontracts for commercial items (FAR Part 12).

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Defining Subcontract and Subcontractor •

The FAR does not include a definition of subcontract or subcontractor in Part 2, “Definitions of Words and Terms.”

•

Instead, it first defines contract in Part 2, as follows: A mutually binding legal relationship obligating the seller to furnish the supplies or services (including construction) and the buyer to pay for them. It includes all types of commitments that obligate the government to an expenditure of appropriated funds and that, except as otherwise authorized, are in writing. In addition to bilateral instruments, contracts include (but are not limited to) awards and notices of awards; job orders or task letters issued under basic ordering agreements; letter contracts; orders, such as purchase orders, under which the contract becomes effective by written acceptance or performance; and bilateral contract modifications. Contracts do not include grants and cooperative agreements covered by 31 U.S.C. 6301, et seq.

•

The first sentence makes it clear that a “subcontract” is a “contract” in terms of the FAR. – Therefore, in terms of the FAR, the term subcontract is inclusive and broad. – This presentation uses this definition for simplicity.

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Varying Definitions of Subcontract and Subcontractor •

While it does not provide a specific definition of subcontract or subcontractor in Part 2, the FAR does provide definitions of these two terms that vary by the part of the FAR where they appear.

•

The definitions are helpful in reading that specific part.

•

Sometimes it is difficult to distinguish the significance of the variations in the definitions among the parts.

•

Varying definitions of subcontract and subcontractor are shown in the book to alert the reader to the differences that may arise when applying definitions to the specific FAR parts.

•

Consult with your legal department for advice on the significance of the differences.

•

These definitions are provided to alert the reader, but this presentation adopts the general convention that a “subcontract” is a “contract” as defined in FAR Part 2.

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Examples of Variations •

As Used in FAR 3.502, “Subcontractor Kickbacks”: – “Subcontract” means a contract or contractual action entered into by a prime contractor or subcontractor for the purpose of obtaining supplies, materials, equipment, or services of any kind under a prime contract. – “Subcontractor” 1) means any person, other than the prime contractor, who offers to furnish or furnishes any supplies, materials, equipment, or services of any kind under a prime contract or a subcontract entered into in connection with such prime contract; and 2) includes any person who offers to furnish or furnishes general supplies to the prime contractor or a higher-tier subcontractor.

•

As Defined in FAR 3.10, “Contractor Code of Business Ethics and Conduct”: – “Subcontract” means any contract entered into by a subcontractor to furnish supplies or services for performance of a prime contract or a subcontract. – “Subcontractor” means any supplier, distributor, vendor, or firm that furnished supplies or services to or for a prime contractor or another subcontractor

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Examples of Variations • As Used in FAR Part 12, “Acquisition of Commercial Items”: – “Subcontract”…includes, but is not limited to, a transfer of commercial items between divisions, subsidiaries, or affiliates of a contractor or subcontractor. • As Used in FAR 15.4, “Contract Pricing”: – “Subcontract” (except as used in 15.407-2) [dealing with make or buy programs] also includes a transfer of commercial items between divisions, subsidiaries, or affiliates of a contractor or a subcontractor (10 U.S.C. 2306a(h)(2) and 41 U.S.C. 254b(h)(2)). 22

Clauses Not Required to be Flowed Down Clauses Not Required to be Flowed Down •

The following prime clauses are not required to be flowed down: – Changes – Stop work – Termination

•

While these clauses are not required to be flowed down, the prime should have clauses in the subcontract to ensure it complies with these clauses as they relate to subcontracting.

•

For example, when the prime receives a stop work order, it must, in turn, stop the work of its subcontractors.

•

See Chapters 19 and 29 of the Subcontract Management From A to Z book for a further discussion.

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Christian Doctrine •

The Christian Doctrine (based on the court case G.L. Christian & Assoc. v. United States, 31 F.2d at 424,247) is a principle stating that if a contract clause is required either by a statute, regulation, or executive order, the required clause is automatically incorporated by operation of law into an existing contract.

•

Can the Christian Doctrine be used to incorporate such clauses into subcontracts? – – – –

The fact that the government is not a party to the subcontract would suggest the answer is “no.” However, this is an evolving area. The “four corners” of the subcontract may not contain all the clauses. Legal advice should be sought.

Contract Management Body of Knowledge (CMBOK), fourth ed. (Ashburn, VA: NCMA, 2013): 147.

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Most Negotiated Clauses • It is not unusual for the same issues to be the most contentious as they carry high risk. • The International Association for Contract and Commercial Management (IACCM) conducts an annual survey of the top terms negotiated. • The next slide summarizes the top 10 terms for the years 2008–2012. • It reflects the consistency in the high-risk areas of liability, indemnification, changes, scope, damages, and intellectual property.

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Most Negotiated Clauses - Ranking Rank Term

2011

2010

2009

2008

1

Limitation of liability

1

1

1

1

2

Indemnification

2

2

2

2

3

Price/charge/price changes

3

3

3

3

4

Scope and goals

16

12

14

-

5

Liquidated damages

6

9

9

11

6

Payment

5

6

8

8

7

Data protection/security

15

5

5

10

8

Intellectual property

4

4

4

4

9

Service level and warranties

11

7

6

7

10

Warranty

12

10

11

13

2012 Rank

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Negotiations and Resolution of Concerns • As noted earlier, terms and conditions are a risksharing mechanism. • It is natural for each party to want to assume the least risk. • However, the parties should understand the impacts to costs for their risk positions. • Patient and careful exchanges of views and concerns may be required to reach understandings that can lead to balanced agreements. 27

Flow Down of Commercial Prime Contract Clauses For other than commercial items

For commercial items

FAR clause for prime contract

52.244-6, “Subcontracts for Commercial Items”

52.215-5, “Contract Terms and Conditions Required to Implement Statutes or Executive Orders—Commercial Items”

Flow down to subcontracts

The prime must include the terms of this clause, including the requirement to further flow down the clause, in subcontracts awarded under the prime contract.

(Extract from 52.2125-5) (e)(1) Notwithstanding the requirements of the clauses in paragraphs (a), (b), (c), and (d) of this clause, the contractor is not required to flow down any FAR clause, other than those in this paragraph (e)(1) in a subcontract for commercial items. Unless otherwise indicated below, the extent of the flow down shall be as required by the clause—[nine clauses follow with the contracting officer able to check/indicate whether another six alternate clauses are also applicable or not]. (2) While not required, the contractor may include in its subcontracts for commercial items a minimal number of additional clauses necessary to satisfy its contractual obligations.

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Flow Down of Ethics Requirements Applicability to Prime Contracts Subcontract Kickbacks 52.203-7

Unreasonable Restrictions on Subcontractor Sales 52.203-6

Display of Hotline Poster(s) 52.203-14

Below Simplified Acquisition Threshold

No

No

Yes

Above Simplified Threshold

Yes

Yes

Yes

Commercial Item Flow Down Requirements

No

Alternate I of clause

No

Include substance in subcontracts over $150,000.

Include substance in subcontracts exceeding simplified acquisition threshold.

Include substance in subcontracts exceeding $5 million except when the subcontract is for a commercial item or is performed entirely outside the United States.

FAR Clause

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Flow Down of Contractor Code of Business Ethics and Conduct Contractor Code of Business Ethics and Conduct

Disclosure Regarding Certain Violations

Less than $5 million and 120 days

Applicability

“Must”

“Should”

Flow Down

“Must”

“Should”

FAR Clause

None (See 3.1003)

None (See 3.1002)

Greater than $5 million and 120 days

Yes

Business Ethics Awareness And Compliance Program (BEACP)

Internal Control System (ICS)

Applies to contracts greater than $5 million and 120 days. Does not apply to small business and commercial items.

Include the substance in subcontracts over $5 million and 120 days. 52.203-13

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Resources for Determining Flow Downs • Legal Counsel (company or outside). • The National Defense Industrial Association (NDIA): – The NDIA has available for purchase the publication Study of the Applicability of FAR Clauses to Subcontracts Under Prime Defense and NASA Contracts, which includes flow downs for the DFARS and for the NASA FAR Supplement (NFS). • See Appendix of the Subcontract Management From A to Z book. 31

Contact Information • Michelle Courier – Defense Acquisition University – [email protected]

• Jim Kirlin – Raytheon Company – [email protected]

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Thank You!

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Questions

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