At times, a prime contractor can effectively be the middle man between the government and a subcontractor. The FAR directs that the prime contractor should always provide value to the overall procurement; however, many prime contractors require the assistance of subcontractors to fulfill this contract requirement. The recent CBCA case VSE Corporation v. Department of Justice spotlights that, even in fixed-price contracting, the prime contractor may or may not have bid with locked in subcontract rates.  If the government accepts the prime contractor’s offer and the subcontractor raises their rates, the prime contractor is liable for the additional costs, not the government.  In VSE, this led to fireworks for the prime contractor, literally.

VSE provided storage services to the Bureau of Alcohol, Tobacco, Firearms and Explosives (ATF) to store seized property. The initial contract was a cost-reimbursement contract for which VSE was paid on a per pound basis.  ATF stored seized fireworks with VSE at a facility owned by VSE’s subcontractor Heritage Disposal & Storage and Heritage charged VSE $0.10 per pound to store the fireworks. Subsequently, the government asked VSE to reconfigure the fireworks for safety reasons. Despite VSE’s contract with Heritage, Heritage increased its storage billing rate from $0.10 per pound to $0.195 per pound based on the reconfiguration.

The government then issued a new solicitation for nationwide seized property to include fireworks. Rather than a cost-reimbursement contract, this contract was fixed-price. VSE submitted a bid where it identified the fireworks and proposed a base year price of $1.95 per square foot. However, this price would not be sufficient to cover the expenses for the fireworks storage as Heritage had been charging VSE approximately $170,000 per month to store the fireworks while the government had only been paying VSE approximately $77,000 per month for storage.  

Unfortunately for VSE, by the time it submitted its bid, its subcontract with Heritage had expired. VSE and Heritage remained unable to come to an agreement that covered the costs in VSE’s bid.  VSE did not include in its bid any costs to transfer the fireworks during the transition/phase-in period. Thus, when VSE submitted its bid, the Board reasoned VSE knew or should have known that its rates were insufficient to cover the costs of storage but that VSE made no provisions to change the situation.

VSE won the contract and shortly thereafter began to complain that it was not being sufficiently compensated for the fireworks. The difference between the prime contract and what VSE paid Heritage ranged from $25,000 to $100,000 per month. In 2015, VSE submitted a claim to the contracting officer requesting a contract price adjustment for the fireworks storage. The contracting officer denied VSE’s claim.  Importantly, in February 2015, Heritage sued VSE for in court for breach of contract for non-payment of storage costs. The court ultimately entered a judgment against VSE holding that it had breached its contract with Heritage.

The Board found, based on the factual findings in the Heritage court dispute, that VSE had knowingly bid below its costs for the storage of the fireworks and made no provision to transfer the fireworks to a lower cost facility, which it would have been entitled to do. The Board ultimately held “[i]t was not ATF’s contractual obligation to expend additional monies of its own to save VSE from a bad bargain that VSE had created for itself.”

This case demonstrates inherent risks in the sub-prime-owner/government relationship. While private owners may have the flexibility to assist prime contractors in resolving disputes with subcontractors, the government does not have any flexibility.  Contractors need to evaluate the risk of subcontractor costs. If they anticipate subcontractor costs going up, they need to calculate that risk in their bid and price accordingly.  Knowing the rules of the game, prime contractors need to take steps to protect themselves or they may end up eating the additional costs at the end of the contract.

Image Courtesy of Flickr (licensed) by Merritt Boyd