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Pricing- Fair and Reasonableness

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Below is a scenario- just soliciting opinions here. Question:

You have a prime IDIQ contract to Company XYZ. (T&M). (Established LCATs and Pricing)

They have a Task Order doing some services scope of work

They have a need to onboard small businesses to meet their subcontracting goal over the next 24 months.

You want to add a small business. Their rates for all LCATs are BELOW your contract pricing.

Can you claim their prices are fair and reasonable since they are below the competed contract LCAT price levels?

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Frank,

I think Vern's answer was a bit misleading. You can "claim" or "assert" anything you want. But the fact of the matter is that in the scenario you have described, there is no support for the assertion.

In your scenario, Company XYZ is the prime and "they" want to add a small business subcontractor to meet the contractual commitments with respect to the small business plan. You would have Company XYZ compare the proposed prices of its subcontractor to its own prime contract prices to establish price reasonableness? Really? Is that how it works? I would suggest not.

It is the prime contractor that needs to establish price reasonableness for its subcontractors. There is no role for the USG contracting officer in that effort, except to review the package and consent to the award, or not. In this case, I hope consent will not be given, because the prime has done a half-assed job (at best).

Look at it this way. The small business may have proposed LCAT rates that are half of the prime's rates. But we don't know what the actual cost is to the small business. Rates that are 50% of the prime's LCAT rates may still give the small business a 100% profit rate. You don't know what the profit is and the prime isn't looking. The subcontractor's LCAT rates could be 50% of the prime's rates and still leave plenty of room to kick-back thousands of dollars to the prime in order to get the award without going through competition.

Did the prime submit a Sole/Single Source Justification? What did it say?

All the above leads me to this question: Does Company XYZ have an Approved Purchasing System? If so, how did they pull-off that feat?

Finally, if I've misinterpreted the scenario and the small business is not the prime's subcontractor, but instead another prime agency contractor, then it is up to the Government to establish price reasonableness ... but the resulting award will not count toward Company XYZ's socioeconomic goals.

Hope this helps.

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help:

What I wrote wasn't a bit misleading. If frank misleads himself that’s his fault. I answered the question that he asked and I answered it accurately.

Now, you wrote:

The small business may have proposed LCAT rates that are half of the prime's rates. But we don't know what the actual cost is to the small business. Rates that are 50% of the prime's LCAT rates may still give the small business a 100% profit rate. You don't know what the profit is and the prime isn't looking. The subcontractor's LCAT rates could be 50% of the prime's rates and still leave plenty of room to kick-back thousands of dollars to the prime in order to get the award without going through competition.

That thinking is contrary to a fundamental principle of government contract pricing, which is that determinations of price reasonableness should be based on price comparisons whenever possible. See FAR 15.402(a)(2).

Why should the prime and the sub have to show the CO that the sub’s rates are somehow commensurate with the sub's costs? I know of no rule that says fairness and reasonableness is necessarily a function of cost commensurateness. That’s a reasonable assertion when buying fighter aircraft and aircraft carriers, but not when buying labor that is bought in a competitive market. And we know in this case that the labor is bought in a competitive market, because frank said in his last paragraph that the rates in the prime contract are at "competed LCAT price levels.”

Let’s suppose that there is no requirement in this case for certified cost or pricing data. According to FAR 15.404-1(a)(1), cost analysis should not be used to evaluate the proposed rates unless they cannot be determined to be reasonable through price analysis alone. What kind of workers can we be talking about that the prime (and the CO) cannot determine the reasonableness of proposed labor rates through price analysis alone?

Thus, the key question is how the sub's proposed rates compare to rates established in a competitive market. We know that price reasonableness can be determined on the basis of comparisons with historical prices. So if we presume that:

(1) the CO determined that the rates in the prime contract for the same labor categories doing the same kind of work are fair and reasonable;

(2) the CO’s determination was made not too long ago and under similar market and contract conditions as those that prevail today; and

(3) the proposed sub's rates are lower than the prime’s rates,

then would that not be a reasonable basis for concluding that the sub’s rates are fair and reasonable?

Do you think that such an argument (which, admittedly, frank did not present to us) would be “half-assed”?

Even if the subcontract is to be awarded on a sole source basis -- which frank did not say -- and even if the prime does not have an approved purchasing system, why should that argument not be convincing? Why should the prime do a cost analysis and determine that the sub’s proposed rates are commensurate with the sub’s costs? Why should the CO be concerned with the possibility of kickbacks in this case more than in any other?

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Below is a scenario- just soliciting opinions here. Question:

You have a prime IDIQ contract to Company XYZ. (T&M). (Established LCATs and Pricing)

They have a Task Order doing some services scope of work

They have a need to onboard small businesses to meet their subcontracting goal over the next 24 months.

You want to add a small business. Their rates for all LCATs are BELOW your contract pricing.

Can you claim their prices are fair and reasonable since they are below the competed contract LCAT price levels?

you said "You want to add a small business. " Who is "you"? The Government? Is the government going to pay for the sub's work under separate, new T&M rates or under the competitively established labor categories? Are you changing from prime contractor performed work prices to subcontractor performed pricing that wasn't originally identified per provision 52.216-29 ( b ), for example ?

If so, then I think that Frank is negotiating a contract change. I would think that Frank should look much further than a simple comparison that shows the prices are lower than if the prime was to perform the work. I tend to agree with H2H.

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Vern,

Yes and no. Comparisons are nice but in this case the prime was NOT comparing the subcontractor's LCAT rates to the market as a whole; it was comparing the subcontractor's prices to its own negotiated prime contract prices. That's a half-assed approach because if it were a valid approach, no prime would ever have competitions for potential subcontract awards.

You also made an assumption that the award was less than that the TINA threshold. I made an assumption that a 24 month period of performance would tend to generate a price in excess of that threshold. We are both making assumptions without information -- and I like my assumption better than yours. (Naturally!)

The sole source basis comment flowed out of Frank's post, which implied that the only reason for making the award was to satisfy small business plan goals. Thus, it seems entirely reasonable to assume that the prime picked out a potential subcontractor in the right socioeconomic category, and once that company was chosen, moved to make an award. The assumption was further supported by the comment that the only price comparison was between the subcontractor and the prime -- i.e., there was no competition and no price analysis between companies competing independently.

I don't know. Maybe I'm reading too much into a simple question. But something smells fishy to me about this contract action--and I responded accordingly.

H2H

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This seems odd. This is a T&M contract. Let's say the established rate in the contract for LCAT 1 is $100 per hour. The contractor will receive $100 per hour of work done by that LCAT employee, regardless of whether it is a prime contractor or a subcontractor employee.

A proposed subcontractor proposes a rate of $90 per hour, which is lower than the rate established in the contract. The prime contractor accepts the rate as reasonable because it is lower than the contract-established rate and awards the subcontract. The subcontractor employee does the work in that LCAT. The Government pays the prime contractor $100 per hour, and the prime contractor pays the subcontractor $90 per hour. The prime contractor pockets the $10 difference for its pass-through and oversight work. Everyone is happy.

But is someone saying that the $90 per hour might be too high, and might be unreasonable? So what? Let's say the prime contractor negotiates the subcontractor down to $75 per hour. Then, the subcontractor employee does the work in that LCAT. The Government pays the prime contractor $100 per hour, and the prime contractor pays the subcontractor $75 per hour. The prime contractor pockets the $25 difference for its pass-through and oversight work. Is everyone is happy? Did the prime contractor's negotiation of the subcontractor rate from $90 to $75 save the Government any money? No! The prime contractor was enriched, but that's the only result.

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Though Vern is probably right from a by-the-book perspective, I would proceed in alignment with Here_2_Help's advice. If LCAT rates are agreed-to and on contract, those rates are considered fair and reasonable only within the scenario that supports them. If it can be shown that the lower rate is for the same caliber of labor and that there will be no additional hours required due to the lower-cost employee, then I'd say there's a to be made for stating the lower rate as "fair and reasonable." Realize, however, if you can lay that story out, then you've actually conducted a price analysis and this whole conversation goes away.

With regard to an approved purchasing system, Here_2_Help again makes a good point. Even if you're negotiated at the Prime, if you have an approved system, you have to make a determination of fair and reasonable. Doesn't have to align with TINA at that point, but the work has to be done.

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If I remember the T&M payment clause correctly, the government will pay for subcontracted work at either the rate set in the prime contract for the subcontractor or the actual cost paid to the subcontractor.

Now, if the prime contract stipulates a competitively established hourly labor rate of $100/hour for Engineer Category 1, and if the prime wants to award a subcontract for Engineering Category 1 labor at a proposed rate of $80/hour, and if the circumstances under which the prime contract rate was determined to be fair and reasonable still prevail, then I as a contracting officer would be very much inclined to conclude that the proposed subcontract rate is fair and reasonable. If the proposed subcontract rate was the result of competition, I would be satisfied and it would be a done deal. If awarded as a result of a sole source competition, I might ask for other market labor rate data, but I sure as heck would not ask for subcontractor cost data. I really would not care at all what the sub's costs were. As I said before, I'd be using price analysis to establish the fairness and reasonableness of commercially available labor hours. I don't smell any fish and I would not ask the price to perform a cost analysis. That's the kind of bulls--- that industry complains about, and justly so.

I don't have anything else to say.

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Frank hasn't explained what they are doing except to hint that the subcontractor would be performing work for which there currently are competitively established hourly rates in the contract. Frank is making comparisons between the prime's hourly rate and this proposed sub's hourly rates. If the government will pay the established contractual hourly rates per 52.232-7, does the government have to evaluate the proposed subcontractor rates for fairness and reasonableness? I would think that Frank should be primarily focusing on the qualifications of the newly selected subcontractor staff to ensure that they meet the contractually required qualifications for the work to be performed.

"52.232-7 -- Payments Under Time-and-Materials and Labor-Hour Contracts (Aug 2012)

The Government will pay the Contractor as follows upon the submission of vouchers approved by the Contracting Officer or the authorized representative:

(a) Hourly rate.

(1) Hourly rate means the rate(s) prescribed in the contract for payment for labor that meets the labor category qualifications of a labor category specified in the contract that are

(i) Performed by the Contractor;

(ii) Performed by the Subcontractors; or

(iii) Transferred between divisions, subsidiaries, or affiliated of the Contractor under a common control.

(2) The amounts shall be computed by multiplying the appropriate hourly rates prescribed in the Schedule by the number of direct labor hours performed..."

Edit::

This doesn't mean that there cant be separate rates in the contract for prime and for subcontracted work. Solicitation Provision 52.216-29 – Time-and-Materials/Labor-Hour Proposal Requirements—Non-Commercial Item Acquisition With Adequate Price Competition, contemplates that there should (will?) be separate, established rates for work that will be performed by subcontractors. I'm not an expert at time amd materials contracting, so I don't know how it works for hourly rates for services that either or both the prime and sub(s) will perform.

The T&M payments clause at 52.232-7 appears to provide for actual cost paid to a subcontractor only for "incidental services for which there is not a labor category specified in the contract".

Frank, is it the government's intention to establish separate hourly rate(s) for this proposed subcontractor?

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I think that it is up to the prime -- and not the government -- to establish why the proposed subcontractor's labor rates are fair and reasonable. There are a number of ways to do that. I don't think that comparing the proposed subcontractor's labor rates to the labor rates that the prime negotiated with the government is one of those ways.

If the prime could establish price reasonableness by simply comparing subcontractor prices to its own prices, then no prime would ever hold another competition between possible subcontractors because why would it need to? Just pick a sub and then compare its price to your own price. If lower, then voila! the price is fair and reasonable. In point of fact, the prime is NOT competing independently against its own subcontractor, so price analysis is less than fully meaningful.

In my view, the government's role here is to review the means by which the prime contractor established subcontractor price reasonableness, and to determine whether it accepts the prime's methodology, or not. The government should not seek to independently establish price reasonableness, because it is not awarding the work -- the prime is. Thus, the prime has the responsibility for establishing price reasonableness, and not the government.

That's how I see it.

H2H

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If the prime could establish price reasonableness by simply comparing subcontractor prices to its own prices, then no prime would ever hold another competition between possible subcontractors because why would it need to? Just pick a sub and then compare its price to your own price. If lower, then voila! the price is fair and reasonable. In point of fact, the prime is NOT competing independently against its own subcontractor, so price analysis is less than fully meaningful.

That's not a good argument.

There are many reasons to conduct a competition, and the Competition in Subcontracting clause, 52.244-6, is one of them. What about work quality? Besides, you can know what price you think would be fair and reasonable before you get an offer for that price, and competition might yield an even better price. Even if you know in advance what price you thinks would be fair and reasonable, you still must negotiate and establish that price and reach other agreements, and competition is the mandated way to do that.

Arguing that there is no need to conduct a competition just because one already knows what price would be fair and reasonable is not sound reasoning.

If the Government thinks that the prime's rate for certain kinds of labor is fair and reasonable, why would it think that a lower subcontractor rate for the kind of labor is not?

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Vern's post is sound if it's true that the concept of a fair and reasonable price is rooted in the price that a prudent businessperson would pay under market conditions.

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"If the Government thinks that the prime's rate for certain kinds of labor is fair and reasonable, why would it think that a lower subcontractor rate for the kind of labor is not?"

Vern, you keep talking about the Government and I keep talking about the Prime Contractor. I suspect we're talking past each other.

From a prime contractor's point of view, competitions are to be avoided whenever possible, because they take too long and cost too much, and (generally) schedules and budgets aren't that generous to begin with. I know one contractor where they created a Sole/Single Source Justification Center of Excellence to make sure they could justify as few competitions as they could. Competitions are that despised.

Competitions are avoided wherever possible not because the prime already knows what price is fair and reasonable; far too often the prime already knows the subcontractor who is going to win before the competition is held.

Sometimes the known subcontractor is selected for quality or to fill a known technical gap. Sometimes the subcontractor is pre-selected because the prime knows the COR likes to do business with that particular company. And sometimes the subcontractor is pre-selected because it's a company owned by the PM's brother-in-law (or the COR's brother-in-law). You don't know what the real story is because the SSJ looks okay and the price was found to be fair & reasonable by comparison to .... something. In this case, by comparison to category labor rates negotiated sometime in the past between the prime and the government, using different direct labor rates, different overhead rates and different quantities of hours.

H2H

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help:

I'm talking about the government because this was the question in frank's opening post:

Can you [the prime] claim their [the sub's] prices are fair and reasonable since they are below the competed contract LCAT price levels?

Claim (assert) to whom? Clearly, frank is concerned about the government's assessment of the subcontract rates and its willingness to pay them. So I've been writing about frank's question and his need to persuade the government that the rates that the prime wants to accept from the sub are fair and reasonable.

You are dead wrong to say that the government has no role in assessing the fairness and reasonableness of the sub's rates. If the prime needs to convince the CO that those rates are fair and reasonable, then the prime must determine and make a case that the rates are fair and reasonable. The CO will have to assent to them if the sub's rates are to be inserted into the contract or will have to determine them to be allowable costs if the prime is to be reimbursed for them. So the CO must determine for the government whether the government should pay those subcontractor rates. The contractor cannot determine and declare. It must determine and persuade. This thread has been in response to frank's need to persuade. What's a good argument for fairness and reasonableness? When there is market competition, the CO should assess the fairness and reasonableness of the rates in the context of the market, not delving into or telling the contractor to delve into the subcontractor's costs. And that's an argument a contractor can and should make.

I don't know that what you say about the way primes think about competition in subcontracting is true. But even if it is true, if the prime is concerned about the government's reaction to the prospective subcontract rates, the prime will have to get competition or explain why it didn't.

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"If the prime needs to convince the CO that those rates are fair and reasonable, then the prime must determine and make a case that the rates are fair and reasonable. The CO will have to assent to them if the sub's rates are to be inserted into the contract or will have to determine them to be allowable costs if the prime is to be reimbursed for them."

I agree with everything in the sentences quoted above and I believe I've posted that same thing at least twice on this thread. As I posted in #15 (above), we seem to be talking past each other. Sorry about that.

H2H

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help:

Okay, we've settled that.

Now... I'm the prime contractor and you're the CO. I have chosen a prospective subcontractor based on an informal comparison of its past performance and experience with the past performance and experience of two other firms. I'm asking for your consent to the subcontract, and we're talking about the "loaded" labor rates. I say:

"The prospective sub has offered rates that are lower than the ones that I proposed in the competition for the prime contract, and that you accepted, for the same type and quality of labor, offered under the same market conditions, for the same kind of work. For those reasons and based on price analysis, I think the sub's proposed rates are fair and reasonable. I presume that they are competitive with the rates offered by the other competitors for the prime contract, although I have not seen those rates."

What do you say, CO?

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Vern,

But that's not the conversation Frank is having. Here's the conversation Frank is having with his prime contractor:

"We found a subcontractor who fits in the right socioeconomic category to help us both make our small business plan goals. We carved out some of the work we were going to perform so that we could make an award to this subcontractor. The subcontractor may or may not be qualifed -- we didn't look too hard at that aspect -- but we know the subcontractor is in the right category so that will solve our problem. As for pricing, we made sure the subcontractor's rates were lower than ours. So you (Frank) are getting a deal! You will see a cost savings because some of the work we were going to perform will be performed by this subcontractor at lower rates. Honestly, we didn't look at whether we could find other subcontractors who could do the work even cheaper, because that wasn't the point of the exercise. The point of the exercise was to find a subcontractor in the right socioeconomic category and give them some work so that we can claim we made our small business commitments. We found that subcontractor and we want to make a sole-source award.

"So please approve this award and we can all claim victory when the SADBU looks at our program!"

That's the conversation I think Frank is really having.

What should Frank say?

H2H

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H2H, what difference does it make if there are lower priced options for the prime? That is not the issue. The issue is whether the subcontract prices are fair and reasonable, not whether they are the lowest available. From what we have seen, I see no reason to believe that they are not fair and reasonable.

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H2H, when you asked what Frank "should" say, were you really expecting the "should" answer or what many government contract administrators "would" probably say, assuming that this is a change to the contract to add new contract labor prices on a sole source basis under you scenario, with a prospective sub with unknown capabilities?

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Retreadfed --

Your position seems to me that the prime contractor has adequately supported its determination that the subcontractor labor rates are fair and reasonable by comparison to its own labor rates. If so, we disagree. But that's okay.

Joel --

I was echoing Vern's question. Vern wanted me to play CO in a hypothetical scenario, and I recast the scenario to be more accurate (in my view). I'm happy to receive Retreadfed's response, or any response from anybody who cares.

I decline to play the role of CO. I'm better suited to play the role of OIG reviewer. In that role, I don't like what I see in front of me. But opinions vary; I get that.

H2H

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H2H:

Given Frank's scenario where the government has determined the prime's rate fair and reasonable, can you explain or point to a similar scenario were the new subcontractor's, lower,rate could be determined unfair and unreasonable?

I guess I've never really considered what you may be saying. It just seemed straight forward...we often compare prices to other prices previously determined fair and reasonable pursuant to the FAR.

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H2H, in your post 22, you did not answer my question as to what difference does it make if there are other potential subcontractors who could do the work cheaper than the proposed sub? Why do we care? What requires a prime to get the cheapest sub available?

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Jamaal,

I posted this story before (I forget where) and it's a true story. Some details are changed to protect me from lawsuits.

There was a long-time DoD contractor who supplied a widget to a particular military service. That service used source-controlled drawings to buid its MDAP-type stuff. So every time a big thingee was authorized to be built the service went to the same source: the contractor. The contractor responded the same way to every RFQ/RFP it received: last time we sold you this widget, you bought x amount and paid $y amount per each. That amount was determined to be fair and reasonable -- see contract no. 12345. It's been a year (or 2 or 3 years) since your last acquisition, and during that period the CPI went up p%. So all we are asking for is that same rate as escalated by p%. It was fair and reasonable last time, so you should find it to be fair and reasonable this time.

And indeed, the contractor had no trouble whatsoever selling its sole sourced widgets via comparison to the prior acquisition, which had determined to be sold at a fair and reasonable price. And then that sale became the basis for the next sale, and so on and so forth for literally decades.

But nobody ever asked the contractor about its costs, because why should they? Why should they care because if the price was previously found to be fair and reasonable, it was easy to see this current price was also fair and reasonable.

But if anybody had ever asked, the contractor would have told them that they completely changed production methods over the past decade or two, and in fact had outsourced the work to a foreign country for the cheap labor. (FYI, the foreign country was not a problem; the contractor was compliant with applicable regulations in that regard.) But after making all the changes, it cost that contractor about 30% of what it used to cost to make that widget.

PROFIT!!

So that's why I'm sensitive to this topic.

H2H

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