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The transferor is required to waive any claims and rights it may have against the Government, but the Government is not required to waive any rights or claims it may have against the transferor. Novation Agreement, ¶¶ (b)(1), (b) (5). In fact, the transferor must guarantee the transferee’s payment of all liabilities and performance of all obligations under the contract. Id., ¶ (b)(8). This guarantee applies not only to liabilities and obligations that exist at the time of the novation, but also to liabilities or obligations the transferee may undertake in any future modification to the government contract – whether or not the transferor receives notice of, or consents to, that modification. Id. As an alternative, the Government may accept a performance bond in lieu of a guarantee. FAR 42.1204(h)(3).
The requirement for a guarantee may have little practical significance in cases where the transferee is purchasing all of the transferor’s assets, such that the transferee has no assets left to make good on the guarantee. Where only a portion of the transferee’s assets are being transferred, on the other hand, such as in the case of selling an unincorporated division, the requirement to guarantee the transferee’s performance can expose the transferor to significant risk. In these cases, it is in the transferor’s interest to ensure that the transferee is a responsible contractor with sufficient resources and capability to perform the transferred contracts, including any foreseeable modifications. Indemnification is possible, but the Government would have little incentive to pursue a transferee with few resources unless and until the transferor’s assets have been exhausted.
The standard novation agreement also makes unallowable government contract costs exceeding those that would have been incurred by the transferor, even if the novation decreases the overall cost to the Government. Novation Agreement, ¶ (b)(7). For example, the Government could disallow cost increases resulting from a higher overhead rate, even if those costs were more than offset by a decrease in the applicable general and administrative expense (“G&A”) rate. This provision is relevant not only to valuing the transferred contracts but also to post-transfer compliance with cost accounting requirements.
The FAR further provides that any separate agreement between the transferor and the transferee regarding assumption of liabilities should be referenced specifically in the novation agreement. FAR 42.1203(e). Examples of liabilities identified in this provision include long-term incentive compensation plans, cost accounting standards non- compliances, environmental cleanup costs, and final overhead costs.
The Approval Process
Upon receipt of a novation request, the responsible contracting officer is required to notify each contract administration office and contracting office of the request, provide those offices with a list of affected contracts, and request submission of any comments or objections to the proposed transfer within 30 days after their receipt of such notification. FAR 42.1203(b)(2), (b)(3). The responsible contracting officer must then determine whether it is in the best interest of the Government to grant the novation. FAR 42.1203(c). In addition to the formal novation submission provided by the contractor, the responsible contracting officer is required to consider:
1. The comments received from the affected contract administration offices and contracting offices;
2. The transferee’s responsibility under FAR Subpart 9.1, Responsible Prospective Contractors; and
3. Any factor relating to the transferee’s performance of government contracts that could impair the transferee’s
ability to perform the contract satisfactorily.
FAR 42.1203(c). With regard to the third “catchall” category of information, responsible contracting officers often consult the Contractor Performance Assessment Reporting System (“CPARS”).
08 | What You Need to Know About Mergers and Acquisitions Involving Government Contractors and Their Suppliers Volume II — Obtaining Consent to Assign a Government Contract