In the United States today, we are facing increasingly turbulent times economically, politically,

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1 42 Contract Management September 2012

2 Contract Management September

3 In the United States today, we are facing increasingly turbulent times economically, politically, and socially. Economically, we are encountering high unemployment, increasing national deficits, and growing global financial instability. Politically and socially we are a divided country between conservative and liberal What is clear is that our national economy is built of the strength of American smallbusinesses. What drives U.S. small business development and growth is innovation and capital. The ability to obtain capital is largely based on a company s ability to effectively communicate its strategy to sell products and/or services in a profitable manner to potential investors. In a highly competitive marketplace, companies must find innovative ways to differentiate themselves from their competitors in order to win business. The most common business differentiators include technology, quality of products, service support, responsiveness, brand-name/reputation, past performance, on-time delivery, and price. The U.S. government places great importance on the use of price-based competition in the selection and award of federal contracts, especially when they select suppliers using their preferred strategy of lowestprice technically acceptable. In this costreduction-focused government contracting environment, government contractors face intense pressure to reduce their prices to near break-even price levels in order to win highly competitive federal contracts. Thus, the management of contract changes can often mean the difference between profit and loss for many government contractors in these highly price-competitive and turbulent times. Who Initiates Contract Changes? After the award of the contract, changes may be initiated or requested by the buyer (U.S. government agency), the seller (prime contractor), or the subcontractors (suppliers). In U.S. government contracts for large complex systems, which involve products, services, hardware, and/or software, changes in contract requirements are often generated by the end-users and communicated via the government agency program management office. The government program management office then typically communicates their new requirements (e.g., accelerated delivery schedule, additional products or services, changes to performance specifications, or reduction of work) to the contracting officer who must make a determination if the proposed changes are within the scope of the contract and if there is available funding. The contracting officer then has the choice of either issuing a unilateral (signed only by the contracting officer) change order, pursuant to the Federal Acquisition Regulation (FAR) changes clause 1 44 Contract Management September 2012

4 viewpoints on nearly every major issue from the role of the U.S. government, the role of the U.S. courts, how much federal spending is appropriate, how much outsourcing is necessary, and how much federal taxes, laws, and regulations are truly value-added vs. wasteful spending. Contract Management September

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6 or negotiating a bilateral (signed by both the government and the prime contractor) supplemental agreement, which contains mutually agreed-to schedules, prices, terms, and conditions. Further, the prime contractor and/or their respective subcontractors may suggest additional products, services, software upgrades, new hardware, changes in place of delivery, changes in specifications, or other related changes in existing contract requirements. The prime contractor must determine which proposed changes to offer to the government. Contractor-requested contract changes are typically formally communicated by the prime contractor developing and submitting a written proposal to the government. Contractor-initiated contract changes are often referred to as contract change proposals, engineering change proposals, or administrative change proposals, depending on the nature and complexity of the proposal contract modification. Further, if the contractor develops a proposal for changes to a contract that will result in cost savings to the government on the current or instant contract, future contracts, and/or concurrent contracts, then the contractor may choose to prepare and submit a value engineering change proposal. Why are Contract Changes Needed? Change is inevitable in contract and project management. Project plans are living documents that reflect the planned cost, schedule, and performance objectives of a project. As the project environment changes, impacting the project s cost, schedule, and performance requirements, the project plans are revised to reflect the new project requirements. Since contracts are integral parts of projects, contracts supporting projects must also evolve to reflect these changes in project cost, schedule, and performance requirements. The basis for contract changes management specifically contract change control is the need for controlling all project-related activities. The Guide to the Project Management Body of Knowledge (PMBOK Guide) identifies integrated change control as part of the monitoring and control process group. The PMBOK Guide defines integrated change control as the process of reviewing all change requests, approving changes, and managing changes to deliverables, organizational process assets, project documents, and the project management plan. Contract changes management is essentially the application of the integrated change control concept to contracts. Just as the contract administration phase of contract management is one of the monitoring and control activities in project management, controlling contract changes is a key aspect of contract administration, reflecting the concept of integrated change control. What Types of Contract Changes are Used? As discussed, either the buyer or the seller may propose a modification to a contract at any time during the contract s period of performance. In addition, contracts frequently require changes due to various reasons during the project period, including Contract Management September

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8 a change in administrative requirements, such as change in paying office or funding data or any other administration issues. Contract changes could also result from significant revisions to the project plan, such as changes to the contract statement of work, the performance work statement, contract specifications, or other contractual requirements documents. A major part of contract changes management activities is focused on managing the contract changes process, which will reflect the specific type of contract change. Any change to a contract should be executed through a formal contract modification process and be documented appropriately. Using a formal contract changes process ensures proper communication and coordination with project stakeholders in planning and executing the contract change. In government contracting, changes to the contract are typically referred to as modifications, while changes to solicitations are typically referred to as amendments. The general government policy is set forth in FAR (b) as follows: Contract modifications, including changes that could be issued unilaterally, shall be priced before their execution if this can be done without adversely affecting the interest of the government. If a significant cost increase could result from a contract modification and time does not permit negotiation of a price, at least a maximum price shall be negotiated unless impractical. This policy is based on experience demonstrating that contractors original estimates of the cost of changes are frequently low, causing the equitable adjustment following a unilateral change order to be higher than anticipated by the contracting officer. When that occurs, the agency has not set aside sufficient funds to cover the changed work and may find it difficult to obtain the funds at the time the work is finally priced. This result is precluded if the parties are able to negotiate the price of a proposed change at the time it is being considered and then to issue the change as bilateral modification to the contract. The contractor is also benefitted by the issuance of fully priced changes through bilateral modifications because payments for the costs of the changed work can then be obtained as soon as permitted by the normal payment procedures in the contract. 2 There are two major impediments to the use of bilateral changes. First, the parties may not know the point at which the change will become effective. They may need to do additional work, such as design or prototype manufacture and testing, to determine the specific nature of the change, and the time required for this work may be of indeterminate length. Second, bilateral changes may cause disagreement by the parties over the price of the change. In many cases, there is very little time to estimate the cost and negotiate the price of a change. For example, on construction projects, the need for changes is frequently perceived shortly before the contractor arrives at the point in the work where the change is required. 3 Are there Clauses Permitting Only Bilateral Change Orders? In commercial contracts, where a contract requires that changes be implemented only by bilateral agreement, the government does not have the power to issue unilateral change orders. Consequently, it has been held that the boards and courts may not find communications or actions of the Government to be constructive change orders. 4 What are the FAR Requirements for Ordering Changes? There has been considerable controversy over two issues regarding the ordering of changes: 1) whether such orders are effective only if in writing, and 2) whether they are effective only if ordered on Standard Form Requirement for Written Change Order All changes clauses require that change orders be in writing. The clauses, however, do not prevent a government contractor from getting an equitable adjustment when the contracting officer verbally orders a change and promises an equitable adjustment as soon as a fair amount can be determined. 5 The construction contract changes clause in FAR recognized this rule by providing that constructive changes may occur through verbal orders. This had been the rule prior to the adoption of the clause. 6 In R/W Contracting, 7 the board found that a direct verbal order to accelerate was not binding on the government because the parties had contemplated a written order in their negotiations. The Court of Federal Claims also held that the lack of a written change order does not bar recovery when the contracting officer and the appeals board consider the contractor s claim on the merits Standard Form 30 FAR requires Standard Form 30 to be used in issuing either unilateral or bilateral Contract Management September

9 change orders. Prior to the issuance of the FAR, the Federal Procurement Regulations were silent on whether use of the form was mandatory. What Major Challenges do Contracting Officers fi Encounter Regarding Contract Changes? Contracting officers encounter a wide variety of challenges regarding understanding, planning, negotiating, awarding, and administering contract changes. For example, contracting officers are sometimes the last to know that the user community, represented by the government s program management office, desires to make one or more changes to the contract. As a result of poor internal government communications and a lack of advance procurement planning, the contracting officers are sometimes essentially forced into issuing undefinitized contract actions, usually via a unilateral change order pursuant to the authority of the FAR changes clause. These unilateral change orders must later be followed up by a formal proposal by the contractor, negotiations, and bilateral execution of a supplemental agreement, which definitizes the previously issued undefinitized contract actions. In addition, during turbulent economic times such as these, there is increased pressure to reduce federal spending, which may lead to federal budget reductions forcing the descope of products, systems, and/or services. If the government is forced to reallocate funds, then contracting officers may be required to cancel some deliverables and/or terminate a contract in whole or in part. Further, a relatively common challenge that contracting officers encounter regarding contract changes are unauthorized commitments by government employees. When a government employee provides guidance or direction to a government contractor, which the contractor construes as a contract change, then the government employee is acting beyond his or her authority, creating a potential financial liability that the government may not have authorized and in which funding to pay for the delivery or execution of the additional products or services is not available. Probably the two most common challenges facing contracting officers are far too much workload verses available time and a shortage of properly trained resources to accomplish the work in the most professional, cost-effective, and timely manner. What Major Challenges do Government Prime Contractors Encounter Regarding Contract Changes? Government prime contractors encounter a wide range of challenges understanding, planning, pricing, negotiating, and implementing contract changes. For example, as a result of the government s frequently changing funding and contract requirements, government contractors often find it difficult to keep pace planning, pricing, and implementing unilateral change orders directed from the government. Contracting officers fi encounter a wide variety of challenges regarding understanding, planning, negotiating, awarding, and administering contract changes. In addition, government contractors typically face challenges planning and executing the cost, schedules, and performance impacts caused by government-directed contract changes, especially when the changes are enacted on a short-notice/urgent basis. Further, prime contractors often have challenges managing their subcontractors in responding, performing, and delivering products, systems, and services to the prime contractor in a timely and cost-effective manner. Sometimes as a result of government-directed contract changes, whether unilateral or bilateral, the prime contractor and one or more of its subcontractors may get into contract-related disputes regarding disagreement concerning the terms and conditions of the contract changes. While contract changes do represent positive opportunities for government contractors to sell and provide more products, services, and/or systems to the government, if the contract changes are not proactively managed in a disciplined project manner, it is possible for the contractor to make little or no profit and in some cases lose money and damage their performance record and reputation with the government. Clearly, government prime contractors need to costeffectively and efficiently manage government-directed contract changes, as well as any contract changes they may suggest to the government, as it is in the best interest of all of the parties concerned to ensure successful performance results. What Major Challenges do Subcontractors Encounter Regarding Contract Changes? Subcontractors encounter a wide range of business challenges regarding the authorization, planning, pricing, negotiating, and implementation of subcontract changes, including the following: Lack of a changes clause in the contract with the prime contractor, thus making the subcontractor unable to respond to unilateral changes; Poor communications with the prime contractor; Lack of contract/subcontract changes management process; Inadequate ability to manage the cost, schedule, and performance aspects of contract/subcontract changes; 50 Contract Management September 2012

10 Insufficient available and trained resources to cost-effectively plan, price, negotiate, and implement contract/ subcontract changes; Poor business behavior/actions by the prime contractor, blaming subcontractors for their performance and management problems; Shortage of available and affordable financing for businesses, especially for small businesses; Late payment and/or repeated failures to make timely payments by prime contractor to subcontractor(s); Unauthorized commitments by prime contractor employees to the subcontractor(s); Poor performance by subcontractors vendors/suppliers; and Failure to meet contract/subcontract performance obligations by the prime contractor. Summary In this article, we have provided a brief summary of some of the key topics regarding managing contract changes on government contracts and subcontracts during turbulent times. In the following articles in this three-part series, we shall discuss the topics and issues that have been raised here in far more detail, including the need for government contractors to establish a proactive and disciplined contract change management process. CM About the Authors GREGORY A. GARRETT, CPCM, Fellow, C.P.M., PMP, currently serves as president and CEO of Garrett Consulting Services. He is an international educator, best-selling author, respected business consultant, and highly decorated former military officer for the U.S. Air Force. He has received numerous national and international business awards for his writing, teaching, consulting, and leadership. CHRISTOPHER J. GARRETT, ESQ., is a recent graduate of the School of Law, University of South Carolina. He is a former intern for the U.S. Office of Federal Procurement Policy in the Executive Office of the President. He graduated with honors from The College of William and Mary with a bachelor s in business administration. Send comments about this article to cm@ncmahq.org. Endnotes 1. FAR See Gregory A. Garrett, World Class Contracting, fourth ed. (Chicago: CCH, 2007). 3. See Ralph Nash and John Cibnic, Administration of Government Contracts, third ed. (Chicago: The George Washington University and CCH, 2004). 4. See, e.g., Len Co & Assocs. v. United States, 181 Ct. Cl 29, 385 F 2d 438 (1967); Boise Cascade Corp., AGBCA , 78-1 BCA 12,957; and Zip-O-Log Mills, Comp. Gen. Dec. B , 78-2 CPD 178, where the comptroller general suggested that the agency use a standard unilateral changes clause in order to facilitate the agency s ability to settle claims during performance. 5. See, e.g., W.H. Armstrong & Co. v. United States, 98 Ct. Cl. 519 (1943). The appeals boards generally follow Armstrong in situations where the only government defense is the lack of a written change order. 6. See Holt Hauling & Warehousing Sys., Inc. ASBCA 19136, 76-2 BCA 12, ASBCA 17239, 73-2 BCA 10, See ibid. Contract Management September