Contractors will remain in limbo during debates over automatic Defense cuts

OMB has said no automatic cuts are necessary immediately. Items contracted by the Pentagon include Humvees. Stephen Morton/AP

"Fasten your seat belts," a panelist told Defense Department contractors ahead of likely sparring between lawmakers and the White House over the details of automatic budget cuts slated to hit the Pentagon in January 2013.

"Defense contractors are hostages in the showdown between the president and Congress over funding decisions on taxing and spending." John Cooney, a partner at Venable LLP law form and a former Office of Management and Budget general counsel, told a panel convened Tuesday by the Professional Services Council, a contractors trade group.

Despite the failure last fall of a group of lawmakers dubbed the super committee to agree on $1.2 trillion in savings, the Congressional Budget Office and the Office of Management and Budget have determined that no automatic cuts -- called sequestration under the 2011 Budget Control Act -- are necessary immediately.

But barring legislative intervention, spending related to national security, which in addition to the Pentagon includes the Homeland Security and Veterans Affairs departments and intelligence agencies, could face across-the-board cuts on Jan. 3, 2013.

Robert Keith, former senior specialist at the Congressional Research Service, said in a review of the budget procedures that Defense would be hit with a cut of 9.3 percent in 2013 if the president exercises his discretion to exempt military personnel, or 7.5 percent if he does not exempt them. From 2014-2014, that would translate to cuts of about $55 billion a year, Keith said.

"There have been such cuts in the past, but not of this magnitude," he said.

In reviewing the legal procedures used in a sequestration, Cooney noted the practice has been invoked only once, following passage of the 1985 Balanced Budget and Emergency Deficit Control Act, known as the Gramm-Rudman-Hollings budget act. Back then, contractors "got a free ride," he said, whereas this year the Obama administration negotiated to put many more contractors' interest on the table. "The only silver lining from Gramm-Rudman," he said, "was that both Congress and the executive branch figured out that the cuts and revenues generated the intellectual capital for the 1986 reform of the tax code."

If the sequestration kicks in next January, the details will not be known until there is an analysis from CBO, then a report from OMB and then an order to agencies from the president, the panelists noted. The cuts, technically called "impoundments" and "apportionments," would be legally binding for every agency, with violators subject to criminal penalties.

"But the president can put his thumb on the scale," Cooney said, meaning he has some discretion in favoring some programs within line items, though he may chose not to exercise it for fear of alienating Congress. "It's highly controversial within agencies. The contracting officers will be told of the cuts' impact relatively late in the process."

Agencies also will have some discretion, Cooney said, in weighing personnel cuts against contract expenditures, for example. Their least attractive option would be to terminate contracts; their most feasible options would be to lower the cap on existing cost reimbursement contracts by telling contractors, in effect, "Use your best efforts but don't exceed $Y dollars," he said. Though prior-year contracts would be exempt, there would likely be few new contracts, and agencies would rely more on indefinite delivery-indefinite quantity contracts.

Contractors were encouraged to be proactive and "engage their customers" by staying in touch with contracting officers despite the limits on what they will know about future cuts.

Alan Chvotkin, PSC's executive vice president and counsel, said agencies likely will reduce mandatory contracting commitments, maximize discretionary commitments and defer contract award decisions. That means adjusting acquisition strategies for new awards based on available funds, he said, and looking at "long-term agency mission flexibility."

He predicted greater use of General Services Administration schedules for products and services, and he counseled contractors to review their past performance records in federal databases.