The Mid-90s Commercial Item Reforms: Turning Back the Clock?

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[authors: Michael R. Golden and Heather Kilgore Weiner]

Reproduced with permission from Federal Contracts Report, 98 FCR 210, 08/14/2012. Copyright  2012 by The Bureau of National Affairs, Inc. (800.372.1033) http://www.bna.com.

The mid-90s were a watershed for the federal procurement system. The Federal Acquisition Streamlining Act of 1994 (FASA)1 and the Clinger-Cohen Act2 provided an array of procurement reforms that authorized new purchasing vehicles and enhanced old ones, such as the Federal Supply Schedule. One significant achievement was the promotion of commercial buying that resulted from a statutory preference for the acquisition of commercial items and the government’s use of new flexible, streamlined procedures to purchase commercial supplies and services to achieve efficiencies and price savings.3

In recent years, however, there has been an effort aimed at modifying the commercial buying reforms of the mid-90s. This article looks at two of these initiatives: (1) the effort to revise or otherwise limit the definition of commercial items, which would limit the coverage of commercial item buying and arguably its utility, and (2) the decision to allow expiration of the authority to issue solicitations for purchase of items in excess of the simplified acquisition threshold.

This article reviews the history of the commercial item reforms initiated in the mid-90s and the procedural advantages of buying commercial items, including the authority to use Federal Acquisition Regulation part 13.5 simplified acquisition procedures for commercial item buys that exceed $150,000 up to $6.5 million. This article then considers the efforts of the Department of Defense (DOD) and others to redress concerns that the commercial item definition itself is too broad, which results in the inclusion within the definition of items that are not truly commercial, which may impact the government’s ability to obtain the best value for these buys. Finally, this article addresses efforts to renew the expired FAR part 13.5 authority to utilize simplified acquisition procedures for the purchase of commercial items in excess of the simplified acquisition threshold up to a certain amount. Ultimately, the continuing debate concerning commercial item buying primarily is focused on ensuring that the commercial item definition limits government purchases and the use of simplified procedures to truly commercial items that have track records in the commercial marketplace with a pricing history.

Statutory History. FASA established a preference for the acquisition of commercial items "to the maximum extent practicable."4 Goods or services that meet this threshold definition for commercial items are exempted from certain statutory and regulatory acquisition provisions.5 In particular, they are exempted from cost accounting standards and certified cost or pricing data requirements.6 Of relevance here, the Clinger-Cohen Act established another benefit for items falling within the definition of commercial item – it allowed for simplified procedures for the acquisition of commercial items with a purchase of $5 million or less, also known as the "Test program for Certain Commercial Items."7

Streamlined Procedures Authorized. In general, the streamlined procedures for commercial items, which are implemented in FAR 12.601, allow further streamlined evaluation of offers for commercial items, including those based on Part 13.106, applicable to small purchases.8 Ordinarily, this means limiting the evaluation to the technical capability of the item offered to meet the agency’s need, price and past performance. A technical evaluation then would normally include review of product literature, product samples and warranty provisions.9 In addition, the agency could use a streamlined solicitation process reducing the time required to solicit and award contracts. The procedure calls for combining the required synopsis and the issuance of the solicitation into a single document, which shortens the response time to the solicitation.10 In addition, the Test Program for certain commercial items permitted the use of all of the simplified procedures associated with FAR part 13 small purchases for acquisitions of commercial items greater than the simplified acquisition threshold ($150,000) but not exceeding $6.5 million.11

As stated in FAR 13.002, simplified acquisition procedures generally are designed to, among other things, reduce administrative costs and promote efficiency and economy in contracting. Although these procedures require competition to the maximum extent practicable, they allow a speedier synopsis process, oral and written quotation procedures, and less burdensome documentation requirements.12 This authority to issue solicitations for purchases of commercial items in excess of the simplified acquisition threshold initially was limited by Congress to a period of three years.13 Congress then extended this authority seven times, most recently by section 816 of the National Defense Authorization Act of 2010.14 However, that most recent extension expired on January 1, 2012, when the authority was not further extended by Congress. The threshold "ticket" to using these simplified procedures is that the item must be a "commercial item."

Commercial Item Definition. The definition15 of commercial item in FAR 2.101 provides the following:

(1) Any item, other than real property, that is of a type customarily used by the general public or by nongovernmental entities for purposes other than governmental purposes, and—

(i) Has been sold, leased, or licensed to the general public, or

(ii) Has been offered for sale, lease, or license to the general public

The ‘‘of a type’’ language is further explained for commercial services as follows:

(6) Services of a type offered and sold competitively in substantial quantities in the commercial marketplace based on established catalog or market prices for specific tasks performed or specific outcomes to be achieved and under standard commercial terms and conditions. This does not include services that are sold based on hourly rates without an established catalog or market price for a specific service performed or a specific outcome to be achieved. For purposes of these services –

(i) Catalog price means a price included in a catalog, price list, schedule, or other form that is regularly maintained by the manufacturer or vendor, is either published or otherwise available for inspection by customers, and states prices at which sales are currently, or were last, made to a significant number of buyers constituting the general public, and

ii) Market prices means current prices that are established in the course of ordinary trade between buyers and sellers free to bargain and that can be substantiated through competition or from sources independent of the offerors.16

The Effort to Revise the Commercial Item Definition. As early as 1999, GAO expressed concerns that DOD contracting officers were not conducting proper price analyses of purchases of commercial items to determine whether the price was fair and reasonable.17 In the majority of the contracts analyzed, the contracting officer simply accepted the offered price without any negotiations. GAO’s review showed that, in many instances, the price analyses of these commercial item buys was too limited to establish that the prices agreed to were fair and reasonable.18 Although not clearly articulated at the time, the implication of this finding was that the FAR definition of commercial item was too broad and that the "of the type" language in the definition resulted in the purchase of items that were not "offered and sold competitively, in substantial quantities, in the commercial marketplace." Any item "of the type" would not necessarily have the market history to provide a basis for a proper price analysis. These items need only be "offered for sale" to the general public – it is not necessary that they actually be sold.

2006 DOD IG Report Finds Waivers and Loopholes, Questions ‘Of a Type’ as Being too Broad. In 2006, the Department of Defense Inspector General (DOD IG) issued a "Report on Commercial Contracting for the Acquisition of Defense Systems."19 This audit reviewed 86 contract actions on 42 DOD contracts for commercial items issued during fiscal years 2003 and 2004.20 The value of these contract actions was approximately $4 billion, and each contract was awarded for $15 million or more.21

The results of the review were eye-opening: in 35 out of 42 of the commercial contracts reviewed (83 percent) the DOD IG found that contracting officials did not adequately justify the commercial nature of the contracts.22 In these contract actions, DOD had "relinquished the benefits of buying truly commercial products" and waived the protections of the Truth in Negotiations Act, which would have provided "better visibility to establish fair and reasonable prices."23 One of the IG’s specific findings was that contracting officials "used loopholes in the broad commercial item definition to justify acquiring defense systems and subsystems without determining that a commercial market exists."24

The report also identified specific instances where the contracting officers justified commercial item purchases because the items they were acquiring — V-22 Osprey aircraft engines and versions of a multi-purpose wheeled vehicle — were "of a type" (or similar to) a commercial item customarily used by the general public.25 In these instances, the contracting officers did not justify the similarity claimed. Regardless, the contracting officers used commercial item procedures for the contract actions, thus avoiding the requirements for cost and pricing data.26 In addition, the DOD IG found that the Air Force issued a modification to a contract for logistical support and training services for the C-130J aircraft because the C-130J had been acquired as a commercial item which itself was a flawed determination.27 In short, the DOD IG concluded that the commercial item definition was too broad and allowed contracting officials to award contracts for defense systems and subsystems that had no commercial market and no meaningful pricing history. Among the recommendations for solving this problem was to tighten the commercial item definition, a recommendation with which DOD itself, at that time, did not concur.28

2006 GAO Report Similarly Considers Whether ‘Commercial Item’ Definition is Too Broad. Also in 2006, GAO issued a report29 entitled "Contract Management: DOD Vulnerabilities to Contracting Fraud, Waste, and Abuse," which identified that "DOD sometimes uses commercial item procedures to procure items that are misclassified and therefore not subject to the forces of a competitive marketplace."30 GAO noted that DOD’s misclassification of items as commercial or designating an item as being a commercial item when it is not readily available in the commercial market, seriously affected DOD’s ability to assess the reasonableness of the contractor’s price and obtain best value.31 GAO characterized this situation as a "vulnerability" requiring attention.32

Acquisition Advisory Panel Weighs In. In January 2007, the Acquisition Advisory Panel (AAP), which was charged with reviewing the use of governmentwide commercial practices in acquiring services, among other things, issued its final report.33 The report reaffirmed the DOD IG and GAO findings that the commercial item definition was too broad.

As identified by the AAP, the most critical element of this definition is that a service must be "offered and sold competitively, in substantial quantities, in the commercial marketplace."34 For the government, the underlying thinking was that when commercial services are sold in substantial quantities, commercial market forces determine both price and the nature of the services offered and a price analysis can be readily supported.

However, the AAP concluded that the broadness of the "of a type" language permitted goods and services not sold in substantial quantities in the commercial marketplace to be classified as "commercial" and acquired using the streamlined procedures of the FAR. The AAP expressed its concern that this could put the government at a significant disadvantage with respect to pricing when there is limited or no competition.

Based on its review of the legislative history concerning the promotion of commercial item buying, the AAP believed it was clear that Congress had always intended that pricing for commercial items and services be based on either competition or market prices. It cited the conference report accompanying the National Defense Authorization Act for Fiscal Year 1996, which added "market prices" to the FASA definition of commercial item applicable to services, and provided that market prices are current prices that are established in the course of ordinary trade between buyers and sellers free to bargain and that can be substantiated from sources independent of the offeror.35

The panel further reported that only:

Commercial items and commercial services that meet the various statutory and regulatory definitions can and should be acquired under the streamlined procedures of FAR Part 12 whenever appropriate. It is the operation of commercial market forces that makes FAR Part 12 work. Extending the streamlined commercial procedures of FAR Part 12 to items and services that are not commercial under the statutory and regulatory definitions (with the changes recommended by the Panel), and therefore not subject to commercial market forces, disadvantages the government in pricing, limits competition, reduces transparency, and creates the opportunity for abuse. When commercial market forces do not exist, the Panel believes that the more traditional methods of procurement should be used.36

Ultimately, the AAP found that the FAR’s definition of commercial services was too broad. The AAP recommended that the standalone definition of commercial services in FAR 2.101 be amended to delete the "of a type" language to ensure that only those services sold in substantial quantities in the commercial marketplace be viewed as "commercial." The AAP stated that other services should be acquired under traditional contracting methods such as under FAR part 15.37

DOD Addresses Pricing Vulnerabilities. After GAO, DOD IG and the AAP weighed in on the actual and potential risks in commercial buying in terms of achieving fair and reasonable prices, DOD responded by issuing updated guidance aimed at ensuring that DOD contracting officers performed the appropriate determination of fair and reasonable prices in commercial item buys.38 However, this initiative did not address directly the definition issue specifically identified by the AAP and the DOD IG: that the current statutory definition of commercial items was too broad to allow only truly commercial items to be identified for purchase.

The 2007 National Defense Authorization Act directed that DOD recommend changes to the law to eliminate vulnerabilities that increased the risk of fraud, waste and abuse at DOD.39 The Act established a Panel on Contracting Integrity consisting of senior leaders representing a cross-section of the DOD. The panel’s report to Congress found that commercial item acquisitions governmentwide continued to be vulnerable to pricing deficiencies because fair and reasonable pricing could not always be established due to lack of competition and the lack of a requirement for cost and pricing data. The panel essentially reconfirmed the findings of the GAO, the DOD IG and AAP that the commercial item definition is too broad and continues to pose contracting risks.

The panel concluded that the situation could not be fully addressed unless the statutory definition of "commercial item" was amended and clarified to eliminate the phrases "of a type" and "offered for sale." It recommended a legislative fix. It also proposed developing minimum documentation requirements for commercial item determinations by contracting officers. This year, DOD has moved forward on both these recommendations with mixed results.

DOD proposed a statutory change to the commercial item definition to be included in the current National Defense Authorization bill for 2013. This proposal would: (1) eliminate items "of a type" from the existing statutory prescription; (2) eliminate items or services merely offered for sale, lease, or license (but not yet sold, leased, or licensed) to the general public from the existing statutory definition; and (3) adjust the threshold that requires prior sale of "substantial" quantities to one that allows prior sale of "like" quantities.40

As the proposal submitted to Congress states, the first two changes are intended to preclude any further abuse in the overly broad application of the statutory definition. The third change would recognize that a sale in the commercial market is sufficient for purposes of determining fair and reasonable prices if the magnitude of such sale is comparable, or "like," the quantity to be purchased by DOD or other federal agency. As further explained by DOD, the current statute is focused on the "nature of the goods and services currently being sold in the competitive commercial marketplace, not the individual vendors selling (or the end users acquiring) those goods and services." It is the "nature" of the items or services, not the end user of such items or services, which should be considered in the determination of whether or not an item or service is considered to be "commercial." The removal of "of a type" and "offered for sale" would not restrict new vendors from qualifying their goods and services as commercial items. Additionally, DOD explained that "next generation" items might meet this criteria where new or additional functionality or value is available in the commercial market place.

DOD stated that the overall purpose of the proposed amendments is to obtain revised FAR definitions that reflect purchasing of only commercial goods and services and to ensure that commercial goods and services are acquired by the government only at fair and reasonable prices consistent with comparable sales actually observed in the competitive market.

The proposal was met with resistance by industry41 and has yet been included in the House and/or Senate versions of the NDAA bill for 2013.

However, while the proposal to amend the commercial item definition faces stiff industry opposition, the DOD panel’s recommendation to "beef up" documentation requirements for commercial item determinations was implemented by DOD in a revision to the Defense Federal Acquisition Regulation Supplement (DFARS) at 212.102 on March 12, 2012. DOD issued a final rule which, as relevant here, requires a higher-level approval for commercial item determinations for acquisitions exceeding $1 million when the determination is based on "of a type" or "offered for sale" language in the definition of commercial item.42 DOD’s expectation is that this higher-level review will serve as a check on the over-reliance or misuse of the "of a type" language and "offered for sale" language to buy items for which the commerciality of the item may be an issue and there is no adequate way to make a fair and reasonable price determination under commercial item procedures.43

Request for Authority Under Far Part 13.5. While the effort to contain the overuse of the commercial item definitions continues, DOD also is asking Congress to add to the 2013 NDAA bill, a provision which would make permanent the FAR subpart 13.5 test program authority to issue solicitations for purchase of commercial items in excess of the simplified acquisition threshold pursuant to the special simplified procedures which expired on January 1, 2012. While perhaps this request may seem inconsistent with the concerns about possible vulnerabilities because of the perceived misuse of the commercial item authority, the government also appears to recognize that purchase of commercial items using simplified procedures, if used properly, is beneficial to the system.

While it appeared that the authority was allowed to lapse because agencies were not using these procedures extensively, in a letter on January 4, 2012, the DOD Director of Defense Procurement and Acquisition Policy sought the opinions of DOD activities on whether to reinstate the test program. He pointed out that the Federal Procurement Data System information for fiscal year 2010 indicated 6,921 actions under this authority totaling $1.9 billion (or 0.53 percent of all FY 10 purchases) and for FY 2011, 7,180 actions under this authority worth $2.1 billion (or .56 percent of all FY 11 purchases). He also requested data and anecdotal information on the importance and benefits of the program.44

The response led to the request to Congress for permanent authority. At this time, the authority is included in the House version of the NDAA for 2013, which has passed the House and has been sent to the Senate for action.

As stated in the DOD analysis supporting its request, DOD believes this authority, which provides flexibility to streamline acquisition processes for certain commercial items, allows contracting activities to better utilize their limited resources and provides an essential tool for acquisitions in support of contingency contracting operations in both Outside the Continental United States and Continental United States. DOD further pointed out that the ability to use this authority has been critical in support of Afghan operations, as it enables faster delivery of much-needed supplies and equipment to the Warfighter and the authority is extremely beneficial in responding to domestic crises such as Katrina, Midwest flooding and recent tornadoes.

Conclusion. The history of the commercial item buying reform since the mid-90s establishes the government’s continued discomfort with the breadth of the commercial item definition and the risk it poses to the government’s ability to obtain best value and to determine fair and reasonable pricing based on a commercial item that may not truly be a commercial item and lacks a market and sales pricing history. The government supporters of changing the commercial item definition clearly fear that the government is paying more than necessary for products because these acquisitions avoid traditional competitive procedures. Certainly, this is supported by the DOD IG, GAO, AAP, and DOD reports.

DOD, which has taken the lead on this issue, is pushing for legislative change that would limit the definition of commercial item to ensure that the government acquires commercial items with a history in the marketplace. This appears to be consistent with the intent of Congress in promoting the government’s purchase of commercial items and the use of the statutory exemptions associated with its commercial item purchases. Buying engines and logistical support and training efforts for military aircraft as commercial items certainly raise legitimate questions concerning the appropriate coverage of the "commercial item" definition, especially where modifications to the items for military use detracts from the value of any sales and market pricing history in performing a price analysis.

At the same time, it is clear that Congress has resisted proposals to revise the commercial item definition. Congress does not appear anxious to make changes that would set back the policy of acquiring commercial items to the maximum extent possible to pre-FASA days where many products were purchased based on military and government unique specifications at high prices. Further, as DOD has stated in support of it request to make permanent the test program authorizing streamlined commercial item purchasing procedures previously available, commercial item buying procedures have been useful in expediting equipment to the warfighter, as well as in responding to domestic crisis.

DOD’s recent DFARS revision, which requires higher-level scrutiny of the contracting officer’s commercial item determination, would appear to be a solid and useful step in ensuring that only true commercial items are purchased using commercial item procedures. This determination should focus on whether the commercial item has a price history in the marketplace that will support a meaningful price analysis. This initiative should be made governmentwide. In addition, Congress should address the issue of whether or not the commercial item definition is too broad as well as the pricing vulnerabilities identified by the various panels. In any such review, Congress needs to hear from industry concerning these issues. Industry should be prepared to address with empirical evidence concerns that the commercial item coverage is too broad to allow for meaningful price determinations. Contractors must make the case that the prices they are charging for commercial items are fair and reasonable. However, currently, the question of whether the government is paying too much for certain items identified as "commercial items" remains an open one. Given the government’s budget concerns, it is certain that DOD, which appears to have taken the lead on this issue, will continue to take steps to ensure it is obtaining best value in its commercial buys.

Endnotes

1 Pub. L. No. 103-355, 108 Stat. 3243 (1994) (codified in Titles 10 and 41 of the U.S. Code).

2 Pub. L. No. 104-106, 110 Stat. 642 (1996).

3 See 10 U.S.C. § 2304(a)(1)(A); 41 U.S.C. § 253(a)(1)(A)(1994); Report of the Acquisition Advisory Panel to the Office of Federal Procurement Policy and the U.S. Congress (Jan. 2007) (hereinafter AAP Report), pp. 39, 45-46, 55, available at https://www.acquisition.gov/comp/aap/24102_GSA.pdf.

4 10 U.S.C. § 2377(a)(2) (1994); 41 U.S.C. § 264b(a)(2)(1994). The definition of commercial items is found in the Office of Federal Procurement Policy (OFPP) Act, 41 U.S.C. § 403(12(A)-(H) (1994), and then this definition was implemented by Federal Acquisition Regulation (FAR) 2.101.

5 Report of the Acquisition Advisory Panel to the Office of Federal Procurement Policy and the United States Congress (Jan. 2007) (hereinafter AAP Report), p.44, available at https://www.acquisition.gov/comp/aap/24102_GSA.pdf.

6 FAR 12.503 and 15.403-1(b)(3).

7 Pub. L. No. 104-106 § 4202, 110 Stat. 186, 652. The Act also amended the definition of "commercial items" to include established "market prices" within the provision governing standalone services. Id. § 4204, 110 Stat. at 655-56. This amendment adopted the language already adopted in the FAR definition that implemented FASA. 60 Fed. Reg. 48,231, 48,235 (Sept. 18, 1995); see also AAP Report, p. 56. Through statutorily mandated inflation increases, the threshold reached 6.5 million dollars before the authority expired.

8 FAR 12.603.

9 Id.

10 FAR 12.603.

11 FAR 13.5 (2012)

12 FAR 13.104, 105 and 106.

13 Pub. L. No. 104-106 § 4202, 110 Stat. 186, 652.

14 National Defense Authorization Act, 2010, Pub. L. No. 111-84; 123 Stat. 2408

15 The statutory definition of standalone "commercial services" in 41 U.S.C. § 403(12)(F) is: "Services offered and sold competitively, in substantial quantities, in the commercial marketplace based on established catalog or market prices for specific tasks performed or specific outcomes to be achieved and under standard commercial terms and conditions." However, the definition of a "commercial item" in subsection (12)(A) of the same statutory section, refers to any item that is "of a type" customarily used by the general public (with additional requirements). Thus, Congress omitted the phrase "of a type" from the statutory definition of standalone "commercial services."

16 FAR 2.101 (emphasis added).

17 U.S. General Accounting Office, Contract Management: DOD Pricing of Commercial Items Needs, Report to Congressional Requesters, GAO/NSIAD-99-90 (June 1999) (hereinafter 1999 GAO Report), p. 2, available at http://www.gao.gov/archive/1999/ns99090.pdf.

18 Id.

19 DOD, Office of Inspector General, Commercial Contracting for the Acquisition of Defense Systems, D-2006-115 (Sept. 29, 2006) (DOD IG Report), available at http://www.dodig.mil/audit/reports/FY06/06-115.pdf.

20 Id. at 4.

21 Id.

22 Id. at 4-5.

23 Id. at 3-4.

24 DOD IG Report at 8.

25 Id. at 7.

26 Id.

27 Id. at 13.

28 DOD IG Report at 15.

29 U.S. Government Accountability Office, Contract Management: DOD Vulnerabilities to Contracting Fraud, Waste, and Abuse, GAO-06-838R (July 7, 2006) (hereinafter 2006 GAO Report), available at http://www.gao.gov/new.items/d06838r.pdf.

30 Id. at 11.

31 Id. at 11.

32 Id. at 11, 16.

33 Report of the Acquisition Advisory Panel to the Office of Federal Procurement Policy and the U.S. Congress (Jan. 2007) (AAP Report) (available at https://www.acquisition.gov/comp/aap/24102_GSA.pdf).

34 Id. at 44.

35 Id. at 54-55.

36 Id. at 96-97.

37 Id. at 99.

38 Director, Defense Procurement and Acquisition Policy (DPAP), subject: "Determining Fair and Reasonable Contract Prices – Revised Procedures, Guidance and Instruction (PGI)."

39 John Warner National Defense Authorization Act for Fiscal Year 2007, Public Law 109-364, § 813.

40 Department of Defense, "SEC.806 Revision to Definition of Term ‘Commercial Item’ for Purposes of Federal Procurement Statutes Providing Procedures for Procurement of Commercial Items," (hereinafter SEC.806 Revision to Definition of Term ‘Commercial Item’).

41 Jared Serbu, House Drops Request to Change Definition of Commercial Products, FEDERAL NEWS RADIO (May 14, 2012, 3:53 PM ET), http://www.federalnewsradio.com/?nid=394&sid=2863745.

42 Defense Federal Acquisition Regulation Supplement: Commercial Determination Approval (DFARS Case 2011-D041), 77 Fed. Reg. 11480, 114881 (Mar. 12, 2012).

43 Dep’t of Defense, Panel on Contracting Integrity, 2009 Report to Congress, pp. 20-1. This measure appears to have been an interim measure to address contracting vulnerabilities reflected in the prior audit and panel studies, pending the hoped for statutory revision of the commercial item definition.

44 Memorandum from Richard Ginman, Director, Defense Procurement and Acquisition Policy, to DOD Activities, Subject: Termination of the Authority for Use of the Simplified Acquisition Procedures for Certain Commercial Items (Jan. 4, 2012), available at http://www.acq.osd.mil/dpap/policy/policyvault/USA007339-11-DPAP.pdf.

 

 

Published In: Administrative Agency Updates, General Business Updates, Government Contracting Updates, Mergers & Acquisitions Updates

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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