Client Alert

The procurement policy of the Democratic Congress, now supported by a Democratic administration, appears to be to make things even easier for contractors that traditionally don’t do business with the federal government, while "closing loopholes" and clamping down on enforcement for all other contractors. The bad news is that most government contractors now have a mandatory obligation to disclose to an agency Office of the Inspector General ("OIG") certain violations of which the organization has "credible evidence." The good news is that government contractors that provide Commercially Available Off-the-Shelf ("COTS") items are now exempt from the domestic components test of the Buy American Act. This article summarizes these two developments.

MANDATORY DISCLOSURE
Effective December 12, 2008, a new version of FAR 52.203-13, the Contractor Code of Business Ethics and Conduct clause, must be incorporated in contracts valued over $5 million that will have over 120 days of performance. The new clause will impose on federal government contractors the mandatory disclosure requirement. The specific requirement of the clause is:

The Contractor shall timely disclose, in writing, to the agency Office of Inspector General (OIG), with a copy to the Contracting Officer, whenever, in connection with the award, performance, or closeout of this contract or any subcontract thereunder, the Contractor has credible evidence that a principal, employee, agent, or subcontractor of the Contractor has committed--(A) A violation of Federal criminal law involving fraud, conflict of interest, bribery, or gratuity violations found in Title 18 of the United States Code; or (B) A violation of the civil False Claims Act (31 U.S.C. 3729-3733).

FAR 52.203-13(b)(3)(i).
There are no exceptions for this mandatory disclosure requirement for small businesses, commercial item contractors, or contracts performed entirely outside the United States. Prime contractors are obligated to flow this clause down in subcontracts valued over $5 million and over 120 days of performance, but when the names of the parties are changed in the subcontract clause, it should still state that disclosures by subcontractors should be made directly to the Government, not to the prime contractor. This disclosure obligation survives for three years after final payment is made on a contract.

The preamble accompanying the final rule attempts to allay contractors’ fears by emphasizing that internal investigations to determine whether a reportable violation has occurred are encouraged, saying that is the reason the relatively high "credible evidence" standard was selected (compared to the "reasonable grounds to believe" in the proposed rule). While cooperation is a factor listed for consideration of sanctions, the clause also says that government contractors are not obligated to waive the attorney-client privilege. In addition, the clause does limit the violations requiring disclosure to those within the knowledge of the contractor’s principals. "Principal" is defined as "an officer, director, owner, partner, or a person having primary management or supervisory responsibilities within a business entity (e.g., general manager; plant manager; head of a subsidiary, division, or business segment; and similar positions."

Small businesses and commercial item contractors remain exempt from the requirement to have business ethics awareness and compliance programs and internal controls. As a practical matter, however, in order to be able to make the required disclosures these exempt organization will still need to set up training, compliance programs, and internal controls. For covered contractors, the requirements have tightened up. The most troubling new requirement is that the contractor make "[r]easonable efforts not to include an individual as a principal, whom due diligence would have exposed as having engaged in conduct that is in conflict with the Contractor’s code of business ethics and conduct." This indicates that even in privately held companies and non-profit organizations, it will be prudent to have background investigations performed on principals.

Separately, the FAR provisions regarding suspension and debarment at FAR 9.406-9.407 have been modified such that failure to disclose these violations -- as well as failure to disclose "significant overpayments" by the Government -- will constitute grounds for suspension and/or debarment.

While the FAR has never imposed new contract clauses on existing contracts without modification, the preamble to the mandatory disclosure final rule indicates that the mandatory disclosure requirement is in effect for all applicable contractors, since it states that contractors should now determine whether disclosures should be made on contracts for which final payment was made within the last three years. The hook is that the new suspension and debarment FAR provision is currently effective, making failure to disclose a basis for suspension or debarment, while the FAR contract clause will be incorporated into new contracts or be added by modification over time. This seems to put the enforcement cart before the notification horse, but government officials have confirmed in discussions with industry that this was their intent.

COTS EXEMPTIONS
The FAR has addressed acquisition of commercial items for over ten years. In that time, however, there has been no special treatment for the COTS subset of commercial items. A new definition for COTS will shortly be included in the FAR:

Commercially available off-the-shelf (COTS) item
(1) Means any item of supply (including construction material) that is --
(i) A commercial item (as defined in paragraph (1) of the definition in this section);
(ii) Sold in substantial quantities in the commercial marketplace; and
(iii) Offered to the Government, under a contract or subcontract at any tier, without modification, in the same form in which it is sold in the commercial marketplace; and
(2) Does not include bulk cargo, as defined in section 3 of the Shipping Act of 1984 (46 U.S.C. App. 1702), such as agricultural products and petroleum products.

FAR 2.101.
There are three main differences between the definition for COTS and the FAR definition of commercial items generally: (i) only supplies can be considered COTS, not services; (ii) any modification to supplies sold to the public disqualifies supplies from COTS treatment; and (iii) the supplies must be offered today.

This rule finalizes some aspects of a rule proposed five long years ago. That proposed rule identified 20 laws to be considered for waiver for COTS contracts. This final rule determines that two will be waived, 10 will not be waived, and the FAR Council found that the other eight were either inapplicable or were already modified sufficiently for all commercial item procurements.

Effective February 17, 2009, COTS products are not subject to the Buy American Act’s test that requires that domestic components comprise 50% of the cost of the components of an end product. The domestic manufacturing requirement remains. This means that a government contractor can satisfy the Buy American Act for COTS products if all the components are imported, but the manufacture of the end item must take place in the United States.

Also effective February 17 2009, COTS products will not be subject to the Estimate of Percentage of Recovered Material Act as implemented in FAR 52.223-4, Recovered Material Certification and FAR 52.223-9, Estimate of Percentage of Recovered Material Content.

LAST WORD
President Obama has put new regulatory actions on hold while his administration determines which proposed rules are consistent or inconsistent with its policies. Programs such as E-Verify and the Women-Owned Small Business are in a holding pattern. Now is the time to catch up with the flurry of requirements that have been imposed over the last year.

• Ensure you have a Code of Business Conduct and Ethics, training, compliance programs, and internal controls appropriate to the nature of your organization.
• Investigate and document the investigation into any potential violations of ethics crimes, overpayments, or potential false claims under the False Claims Act.
• Determine if the supplies your organization provides under government contracts or subcontracts qualify as COTS products.
• Review your CCR and ORCA submissions to ensure they are accurate.

Government Contracts Team
Womble Carlyle’s Government Contracts team is prepared to assist you in navigating all the challenges of government contracting – from the initial competition to the final close-out of the contract. Our attorneys are uniquely equipped to assist government contractors with the regulatory hurdles faced when selling goods, technologies and services abroad. Our government contracts practice is nationwide in scope, and our attorneys have represented clients in all sectors – defense and aerospace, technology and services, computer and electronics, banking and financial services, universities and non-profits, pharmaceuticals and bio-tech, real estate and construction.