The US Department of Defense issued a memorandum this month refining its guidance on inflation-related economic price adjustments for contractors with existing firm-fixed-price contracts. The updated guidance provides new hope for some contractors that continue to be ravaged by inflated-related cost increases.
The Department of Defense’s (DoD) refined guidance endorses two new paths for government contractors whose firm-fixed-price contracts were negotiated before this year’s inflation began. DoD explains that a “mutual agreement” may be possible for acute impacts on small businesses and other suppliers. It also explains that for extraordinary circumstances, certain defense contractors may seek an upward price adjustment using Public Law 85-804 and that “the Department will consider contractor requests to employ this authority,” subject to available funding.
DoD’s willingness to consider mutual agreements and revive a little-used Public Law is significant. By signaling support for price adjustments and accommodations to contracts most affected by recent inflation, the DoD’s memorandum represents a significant departure from DoD’s previous hardline approach.
INITIAL GUIDANCE
On May 25, 2022, DoD issued a memorandum titled “Guidance on Inflation and Economic Price Adjustments” regarding inflation-based requests for price adjustments from contractors with a firm-fixed-price contract. The purpose of the memorandum was to help contracting officers “understand whether it is appropriate to recognize cost increase[s] due to inflation under existing contracts.”
DoD emphasized that for firm-fixed-price contracts, contractors generally bear the risk of cost increases—including for cost increases due to inflation. Indeed, the guidance directed contracting officers to “not agree” to contractor requests for equitable adjustment submitted pursuant to an economic price adjustment clause in response to changed economic conditions.
UPDATED GUIDANCE
On September 9, 2022, DoD issued refined guidance, “Managing the Effects of Inflation with Existing Contracts.” In this memorandum, DoD explained that based on “feedback” from DoD’s acquisition executives about inflation-related affects and contractors’ ability to perform under existing firm-fixed-price contracts, it was providing additional guidance to contracting officers “about the range of approaches available to them.”
The updated guidance reaffirms DoD’s earlier reluctance to grant price adjustments to contractors performing under firm-fixed-price contracts. However, this time DoD noted that for contractors performing under firm-fixed-price contracts that were priced and negotiated before the onset of current economic conditions, there may be some circumstances where accommodations or price adjustments could be appropriate.
Specifically, DoD advised contracting officers that under some circumstances, it may be appropriate to grant an accommodation “by mutual agreement of the contracting parties, perhaps to address acute impacts on small business and other suppliers.” Those accommodations may include schedule changes or other adjustments to contractual obligations.
For contractors seeking price adjustments, DoD explained that in extraordinary circumstances, the Secretary of Defense and of the Army, Navy, and Air Force each has the authority under Public Law 85-804 to afford extraordinary contractual relief. The updated guidance further explains that “[w]hile the law and regulation have established stringent criteria, the Department will consider contractor requests to employ this authority” subject to the availability of funds. Consistent with the updated guidance, contracting officers are directed to forward such requests to Defense Pricing and Contracting within 10 business days of receiving them from contractors.
PUBLIC LAW 85-804
Under 50 USCA § 1431 (i.e., Public Law 85-804), “[t]he President may authorize any department or agency of the Government which exercises functions in connection with the national defense … to enter into contracts or into amendments or modifications of contracts … without regard to other provisions of law relating to the making, performance, amendment, or modification of contracts, whenever he deems that such action would facilitate the national defense.” [1] Pursuant to Executive Order 10789, the DoD is one such agency with this authority.
DoD is thus authorized to “modify or amend or settle claims under contracts” and such “[a]mendments or modifications of contracts may be with or without consideration and may be utilized to accomplish the same things as any original contract could have accomplished hereunder, irrespective of the time or circumstances of the making, or the form, of the contract amended or modified, or of the amending or modifying contract, and irrespective of rights which may have accrued under the contract or the amendments or modifications thereof.” [2]
FAR Subpart 50.1 supplies the procedure for contractors seeking to marshal Public Law 85-804. A defense contractor could use Public Law 85-804 if they face “an actual or threatened loss” affecting its ability to perform and “whose continued performance on any defense contract or whose continued operation as a source of supply is found to be essential to the national defense.” In such circumstances, “the contract may be amended without consideration, but only to the extent necessary to avoid such impairment to the contractor’s productive ability.” [3]
TAKEAWAYS
Existing contractors with firm-fixed-price contracts, particularly small businesses and those whose activities are essential to the national defense, should reevaluate whether a request for equitable adjustments is appropriate in light of the updated guidance. The specific facts and circumstances of a particular contractor will dictate whether invoking Public Law 85-804 through a request for equitable adjustment or even a certified claim could make sense.
DoD’s earlier guidance still remains the standard, so contractors currently negotiating contracts should continue to take steps to help prevent substantial inflationary costs from cutting into their cost of performance. A strong way for contractors to protect themselves is by including economic price adjustment clauses in their firm-fixed-price contracts, to the extent permissible by the FAR.
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