Fixed-price contracts and cost-reimbursement contracts are two types of agreements that can be drawn up between a service or goods provider and their customer. A fixed-price contract, as its name implies, is a contract with a set price for the work. Normally, no adjustments to the price are allowed unless highly specific provisions provided for within the agreement are met. A primary benefit to a fixed-price contract to a small business is that there is a comparatively minimal administrative burden in execution of such a contract and budgeting is concrete, although there may be significant upfront time required to prepare the bid. Additionally, agreeing to such a contract may increase the chances of a small business capturing business from the government, as fixed-price contracts have been traditionally favored by such organizations in an effort to control costs. A further advantage may be the possibility of charging a larger fee than the work would actually cost, thus increasing the amount of profit seen by the company. The primary disadvantage to such contracts is that the risk of cost-overrun lies squarely with the small business provider. With cutting edge technologies, such as the remote control aircraft capable of long sustained flights in the scenario’s small business, this risk is significant and could be fatal to the company if there are no resources to absorb the additional costs that could unexpectedly prove to be needed to complete the project.
Cost-reimbursement contracts, in contrast, involve submission by the goods provider of their allowable and reasonable cost during the life of the contract for reimbursement, in accordance with the terms of the contract. These types of contracts tend to be favored for projects where there are unforeseeable amounts or kinds of work, arguably not the situation in the present scenario. However, because of the risk share for cost over-runs between the business and the government, this type of contract has a significant benefit to a small business that has a small asset pool of only one completed contract, as in the present case. In particular, the business is guaranteed coverage of its actual costs plus an agreed upon profit for the new agreement. There is significant flexibility to increase prices should that be necessary, which is a very real possibility in unproven technology. One disadvantage of this process is the need to interact on a consistent basis with the government in order to constantly devise the means of overcoming problems. This could be a problematic amount of administrative burden to a small business (Bajari & Tadelis, 1999; Eremenko, 2007).
There are a significant number of opportunities for small businesses within the government contracting system that could be accessed. One such program is the Small Business Innovation Research Program (SBIR) in the Department of Homeland Security (DHS), specifically the program within the Science and Technology (S & T) directorate. The S & T Directorate has two solicitations per year for particular topics relevant to various organizations. For example, the very small remote control aircraft could be useful to the Borders and Maritime Security Division. The program begins with a Phase I award and can be extended into a Phase II stage that has larger award caps. A follow-on phase is also possible after Phase II. Thus, this program could be useful for funding over a long time frame should the project prove successful (United States Department of Homeland Security, 2013a).
A further possible opportunity for small business is a small business Vendor Outreach Session. This is a series of pre-arranged 15-minute appointments with specialists within the DHS that allows a small business to pitch their capacities and learn of possible contracts available. The appointments are scheduled electronically and are conducted in person in the Homeland Security Acquisition Institute in Washington, D.C. (United States Department of Homeland Security, 2013b). This program could provide solid face-to-face time with those interested in our product’s usefulness to providing for domestic security. A third possible opportunity available only to small businesses is the 8(a) Program, provided by Section 8(a) of the Small Business Act. The United States Small Business Administration administers this program. This is an extremely long-term program, divided into two phases over nine years. Beyond the key ability of 8(a) companies to receive sole-source contracts, 8(a) firms can team up as joint ventures or participate in a Mentor-Protégé program that pairs more experienced companies with new companies, such as the business of the scenario (United States Small Business Administration, 2013). However, this program has been criticized in the past for its lack of focus on obtaining contracts (University of Illinois Academy for Entrepreneurial Leadership, 2000). This program is a really significant commitment, but if the contracts made available within the program can provide the funds needed for the company to grow, participation may be worthwhile.
The biggest trouble for the small business when obtaining cost-reimbursement contracts is meeting the accounting system requirements necessary to support this method of contracting. This means we have to build out an accounting department in a much more robust manner than a small technology company usually carries. Such build out carries with it significant cost in both skilled and experienced personnel and in system support, such as a decent accounting information technology (IT) package. However, the result of being able to do such contracting could bring enormous benefits into the company in the form of contract types not previously available, so it may be worthwhile using the proceeds from our one contract to support this change in the company.
If the company is willing to invest in the accounting and personnel infrastructure necessary to support its administration and it can convince the governmental agency to engage in this type of contract, the type most advantageous to the small business would be cost-reimbursement award fee contracts. This is because it would provide very low risk to the company for cost over-runs plus provide a possibility of getting an award based on the evaluation of the small business’ work based on quality, timeliness, ingenuity, and cost-effective management. To be most effective and provide certainty to the business, the negotiated fee part of the contract should not be zero but a fee amount that is a good profit for our work. However, this type of contract does put a large burden on the company for continued interaction with the government and the need to prove that the award is deserved, which does distract from the company’s key goal of developing the very small remote control aircraft capable of long sustained flights.
The most significant form of contracting that would support large companies is a cost-reimbursement contract with a fixed fee (negotiated at a high level based on previous abilities to meet or exceed the governmental requirements). One particular aspect of this contract that can be achieved by big businesses is building in the provision that the contract is multi-year. This means that the governmental requirements will continue on for several years even without the need to re-enter the highly burdensome and potentially fee-reducing negotiation process. Having a multi-year contract provides significant amount of stability for the big business as it can count on the proceeds for the foreseeable future. However, gaining such contracts, which require much less documentation of performance and therefore flexibility in how the contract is executed, requires real negotiation power with the government.
A key part of getting the government to consider the small business of the scenario for a contract is to focus on the unique research and development qualities of the company. The company is working on a very focused area, the development of very small remote control aircraft, and there are likely very few companies working on developing that type of product. The company can leverage its uniqueness in the contracting process. A further aspect of the company’s work that is likely important to the government is the ability of the airplane to do long sustained flights. This allows the operator of the small aircraft to be physically far removed from the area being traveled to by the small aircraft, a characteristic that greatly enhances the utility of this product, particularly for security purposes. By focusing on these unique characteristics, it may be possible to achieve contract characteristics that would normally be unavailable to a small company.
A second part of the plan would be to focus on the agile business characteristics of a small business. For example, the small size of the company would allow the customization of solutions for the government needs as a smaller company is less motivated to have to also use the research and development money for mass market appeal. Furthermore, the company would be able to provide cost-effective prototypes quickly and at competitive prices as the remote aircraft goes through development reiterations. These two characteristics would not generally be possible with a larger company. By focusing on the unique qualities of the company, such as the relatively unique area of focus and the inherent flexible characteristics of a smaller business, it may be possible to obtain the desired contract provisions, even when those provisions traditionally favor those with strong contracting power, such as large business.
References
Bajari, P. & Tadelis, S. (1999). Procurement contracts: Fixed Price vs. Cost Plus.
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http://dx.doi.org/10.2139/ssrn.156470
Eremenko, P. (2007). A conceptual framework for choice of form for acquisition contracts. Retrieved from
http://dx.doi.org/10.2139/ssrn.999147
United States Department of Homeland Security. (2013a). Science and technology directorate small business innovation research. Dhs.gov. Retrieved from
https://www.dhs.gov/st-sbir
United States Department of Homeland Security. (2013b). Small business vendor outreach sessions. Dhs.gov. Retrieved from
http://www.dhs.gov/small-business-vendor-outreach-sessions
United States Small Business Administration. (2013). About the 8(a) business development program. Sba.gov. Retrieved from
http://www.sba.gov/content/8a-business-development-0
http://ssrn.com/abstract=1513161
