Shutdown could spell trouble for contractors

Contracts not related to exempt activities or funded through annual appropriations could be halted.

Federal contractors operating at agencies throughout the government and at private sector locations across the nation will bear a heavy burden if the government shuts down on Friday night.

A shutdown would prevent contractors from being paid for most services. They would be unable to renew expiring awards, or even enter the federal facilities where they had been working.

As of Friday morning, however, agencies could not provide details on the number and types of contracts that would be halted during a shutdown.

Energy Department spokeswoman Stephanie Mueller said, "Even if much of the government is shut down, we expect to continue performance of contracts and financial assistance instruments for a limited time."

The Defense Department, the largest procurer of goods and services in the government, did not immediately provide data on contracts that will be affected during a shutdown. But in a message to Pentagon personnel on Thursday, Deputy Secretary of Defense William J. Lynn III said, "Generally, contractors performing work on contracts funded prior to a shutdown, whether supporting excepted activities or not, may continue working and will be paid out of the obligated funds, subject to further direction from the contracting officer."

Defense contractor personnel are expected to report to work on Monday, April 11, to be briefed on their status, Lynn said.

For their part, many federal contractors declined to comment on their shutdown preparations, or if their particular contracts had been halted yet.

According to a survey conducted by the Small and Emerging Contractors Advisory Forum, an industry association representing more than 400 small and midsize firms, a government shutdown would have minimal effect, at least in the short run. Fifty-five percent of respondents reported they would operate as usual during a shutdown while 38 percent suggested they would ask employees to use personal leave during that period.

Meanwhile, 14 percent of respondents said they would send employees to training with time and costs paid by the company and 5 percent said they would be forced to dock pay across-the-board for all employees, the survey found.

A shutdown's impact on contractors likely would depend on its length -- a few days versus several weeks--and the size and diversity of the company, according to John Cooney, who served as deputy general counsel for litigation and regulatory affairs at the Office of Management and Budget during the Reagan administration.

Most large and midsize companies likely would be insulated from the effects of a short-term shutdown because they have existing revenue and liquidity to rely on, Cooney said. But small firms with only one contract might not be able to maintain their entire staff and overhead during a potential shutdown, he said. "This could put real pressure on their finances," said Cooney, now a regulatory and constitutional attorney at Venable LLP.

While some small businesses could find themselves in difficult financial straits if they cannot receive payment from the government, the world's largest federal contractor is fully prepared for a shutdown.

"Our facilities will remain open," Lockheed Martin Chairman and Chief Executive Officer Bob Stevens said in a memo to staffers on Thursday. "We will continue to pay you. Your benefits will remain in force. We currently have no plans to furlough anyone."

In the event of a shutdown, goods and services funded through annual appropriations cannot be purchased, unless they are in support of excepted activities -- including the safety of human life, or the protection of federal property -- or are funded through sources other than annual funding.

For example, an agency could continue to obligate funds if:

  • The money is not limited to a single year (weapons systems contracts typically contain multiyear funding);
  • Statutes expressly permit obligations;
  • Spending is necessary to perform specific essential duties, such as issuing Social Security checks;
  • Money is needed to terminate operations in an orderly way.

In these instances, a contractor, much like excepted federal employees, will be paid only after an appropriations bill has passed, according to a memo Office of Management and Budget Director Jacob "Jack" Lew issued on Thursday.

Companies with fixed-price awards generally are safe as these contracts often are paid in advance, allowing a company to continue providing the service. Programs with revolving funds that do not rely on congressional appropriations -- such as the General Services Administration's Public Buildings Service -- likewise would be exempt from a shutdown.

"Contracting personnel should consult with program and legal personnel before making a final decision not to exercise an option, when this could expose the government to financial liability, or other damages," GSA wrote in a directive issued on Friday.

But companies relying on cost-plus and time-and-materials contracts, in which funding is provided incrementally, could begin receiving notices immediately from agencies that there has been a "lapse in funding" and work on the contract should be halted immediately.

Cost-type contracts generally include a "limitations of funds" clause that would serve as a de facto stop on most work. Time-and-materials contracts, which are based on incurred costs, also would not be funded. While indefinite delivery-indefinite quantity contracts would remain valid, no new orders could be placed.

The government legally does not have to provide firms with any advanced notice if it plans to halt a contract due to a lack of funds, said Alan Chvotkin, vice president and counsel of the Professional Services Council, a contractor trade association. While formal documentation eventually will be required, the initial notification that a contract is being halted can be informal; a phone call from a contracting officer will suffice, Chvotkin said.

This process is inherently different from the more formal issuance of a stop-work order, or terminating a contract "for convenience," he said.

Vendors, meanwhile, would be expected to cease work immediately on their contracts when notified by an agency. Activities associated with shutting down contracts likely would be billable to the government, according to industry and agency officials.

"The government may provide the contractor with additional specific instructions on how to proceed to shutting down operations," Chvotkin said. "It is understandable that the contractor will incur expenses in shutting down operations and those reasonable and allocable expenses are compensable through a claim that the contractor is required to file."

In their respective shutdown guidance issued on Friday, several agencies noted the government is legally obliged to pay costs incurred with shutting down contracts and grants.

In some circumstances, previously funded contracts conceivably could continue without any federal procurement staff to oversee the work. The OMB memo noted, "During a funding lapse, the performance by contracting officers, contracting officer technical representatives, contract administration personnel, and grants management specialists of routine oversight, inspection, accounting, administration, payment processing, and other contracting or grant management activity would generally not continue."

But the absence of the procurement staff does not necessarily mean the contract would grind to a halt. "If the continued supervision or support, during the lapse period, is not critical to the contractor's or grantee's continued performance during that period, then the contractor or grantee may continue to proceed with its work," Lew wrote.