BRIEFING PAPERS SECOND SERIES

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1 This material from BRIEFING PAPERS has bee reproduced with the permissio of the publisher, West, a Thomso busiess. Further use without the permissio of the publisher is prohibited. For additioal iformatio or to subscribe, call or visit west.thomso.com/fedpub. BRIEFING PAPERS is ow available o Westlaw. Visit westlaw.com BRIEFING PAPERS SECOND SERIES PRACTICAL TIGHT-KNIT BRIEFINGS INCLUDING ACTION GUIDELINES ON GOVERNMENT CONTRACT TOPICS MERGERS & ACQUISITIONS SPECIAL ISSUES WHEN PURCHASING GOVERNMENT CONTRACTOR ENTITIES By Ages P. Dover I the 1990s, while the commercial high techology sector was the darlig of Wall Street, traditioal Govermet cotractors were ofte overlooked by ivestors. Today, compaies servicig the federal ad state market are o loger wallflowers. Sigificat icreases i defese spedig ad the strog valuatio of compaies providig defese ad homelad security solutios have attracted both domestic ad foreig ivestors to the growig U.S. Govermet market. 1 Meawhile, compaies already i the Govermet area have bee lookig to diversify their holdigs or icrease their market share through cosolidatios. Recet statistics cofirm the mergers ad acquisitios tred as 57 trasactios i the Govermet services sector were aouced for the first half of 2004 a 39% icrease over last year. 2 The purchase ad sale of Govermet cotractor etities are likely to cotiue as federal agecies look icreasigly to supplemet their decliig employee raks with outsourced solutios. However, trasactios ivolvig Govermet cotract etities raise uique issues for both the buyer ad the seller. For example, cotracts with the U.S. Govermet caot be assiged without the coset of the Govermet Cotractig Officer. Although the Federal Acquisitio Regulatio spells out a process ovatio for obtaiig that coset, the process ca be cumbersome, ad some COs rigidly isist o followig the procedures eve whe they are ot required. Whe oe Govermet cotractor acquires Ati-Assigmet Act Novatio Of Cotracts Novatio Requiremet Novatio Process Assigmet Of Proposals Chage-Of-Name Procedure Orgaizatioal Coflicts Of Iterest Basic Rules OCI Avoidace & Mitigatio IN BRIEF Acquisitios Of Small Busiess Etities Geeral Rules 8(a) Cotractors Foreig Owership, Cotrol & Ifluece NISPOM Requiremets FOCI Factors FOCI Mitigatio Exo-Florio Process aother i a similar or related field, the acquirig etity may fid itself barred from receivig certai types of busiess due to the orgaizatioal coflict-of-iterest rules. A acquisitio ca also affect the size status of a small busiess etity, suddely makig a compay ieligible to participate i the Small Busiess Admiistratio s 8(a) or other set-aside programs. Ages P. Dover is a parter at the Washigto, D.C. office of Hoga & Hartso, LLP. She gratefully ackowledges the assistace of Hoga & Hartso associates Todd Overma ad Micul Thompso. NO JULY 2004 WEST, A THOMSON BUSINESS COPYRIGHT 2004 ALL RIGHTS RESERVED

2 Aother obstacle to acquirig or sellig a Govermet cotractor etity arises whe a foreig-owed compay seeks to purchase a compay that performs classified work for oe or more federal agecies. Uder the U.S. atioal security laws ad regulatios, foreig-owed compaies may ot hold a security clearace uless the foreig owership, cotrol, ad ifluece has bee mitigated through certai special mitigatio mechaisms. I additio, proposed foreig ivestmet i a U.S. compay may trigger a review ad potetially a blockage of the trasactio uder the Exo-Florio process. To esure that a merger or acquisitio achieves the parties desired busiess objectives, both the buyer ad seller must be aware of ad be prepared to address the uique Govermet cotractig requiremets. Thus, this BRIEFING PAPER examies the relevat statutory ad regulatory requiremets for trasactios ivolvig Govermet cotractors ad idetifies strategies to help shape trasactios to coform to those requiremets. Specifically, this PAPER discusses (1) the Ati-Assigmet Act ad the related issues regardig the ovatio of cotracts, the assigmet of proposals, ad the cotractor chage-of-ame procedure, (2) orgaizatioal coflicts of iterest, (3) acquisitios of small busiess cocers, (4) foreig owership, cotrol, ad ifluece, ad (5) the Exo-Florio review process. Ati-Assigmet Act Depedig o how the trasactio is structured, the Govermet s two ati-assigmet statutes ca slow or prevet the acquisitio of a Govermet cotractor etity. The Assigmet of Claims Act 3 addresses claims uder Govermet cotracts for work that has already bee performed. The Ati-Assigmet Act 4 is more relevat i the merger or acquisitios cotext as it pertais chiefly to those Govermet cotracts with cotiuig obligatios. 5 The Ati-Assigmet Act was eacted i respose to procuremet abuses that surfaced durig the America Civil War. Govermet cotracts were ofte awarded to middleme who either maufactured or supplied the goods beig procured but who the, to maximize their profit, cotracted with the cheapest possible supplier or maufacturer of the goods. The result was ofte poor quality, substadard merchadise. 6 I eactig the Ati-Assigmet Act, Cogress sought to esure that the Govermet would deal exclusively with the origial cotractig party, rather tha with multiple or sequetial parties. 7 Therefore, the trasfer of a Govermet cotract from the party holdig the cotract (the trasferor ) to aother party (the trasferee ) was geerally prohibited. 8 Uder the Act, []o cotract or order, or ay iterest therei, shall be trasferred by the party to whom such cotract or order is give to ay other party, ad ay such trasfer shall cause the aulmet of the cotract or order trasferred, so far as the Uited States is cocered. 9 By voidig, upo attempted trasfer, both the assigmet of performace ad the uderlyig Govermet cotract, the Act is desiged to esure that the etity awarded a Govermet cotract would actually perform it with its ow resources. While the Act appears to prohibit categorically ay trasfer BRIEFING PAPERS (ISSN ) is published mothly except Jauary (two issues) ad copyrighted 2004 Valerie L. Gross, Editor Periodicals postage paid at St. Paul, MN Published by West, a Thomso busiess / th Street, NW / Washigto, DC Customer Service: (800) Postmaster: Sed address chages to Briefig Papers / PO Box / St. Paul, MN BRIEFING PAPERS West, a Thomso busiess, has created this publicatio to provide you with accurate ad authoritative iformatio cocerig the subject matter covered. However, this publicatio was ot ecessarily prepared by persos licesed to practice law i a particular jurisdictio. West is ot egaged i rederig legal or other professioal advice, ad this publicatio is ot a substitute for the advice of a attorey. If you require legal or other expert advice, you should seek the services of a competet attorey or other professioal. BRIEFING PAPERS is a registered trademark used herei uder licese. All rights reserved. Reproductio, storage i a retrieval system, or trasmissio of this publicatio or ay portio of it i ay form or by ay meas, electroic, mechaical, photocopyig, xerography, facsimile, recordig, or otherwise, without the writte permissio of West is prohibited, except that the publisher grats permissio to reproduce portios of this publicatio (ot the etire issue) provided that a $2.50 per page per copy fee is paid directly to Copyright Clearace Ceter (CCC), 222 Rosewood Drive, Davers, MA (978) Fee Code: ( )/97/$0+$

3 of a Govermet cotract from the origial awardee to aother party, courts ad boards of cotract appeals have cosistetly held that the Act is ot violated where the Govermet cosets to the trasfer or where the trasfer occurs by operatio of law. 10 The Ati-Assigmet Act is iteded for the protectio ad beefit of the Govermet. Therefore, courts have reasoed, the Govermet should be able to waive its protectios uder the Act if it deems that such a waiver furthers its iterests. 11 That waiver may be give implicitly by Govermet kowledge, asset, ad actio cosistet with the terms of the assigmet 12 or explicitly by a ovatio agreemet, as discussed below. The judicially created by operatio of law exceptio to the Ati-Assigmet Act geerally exempts assigmets to statutory receivers ad assigees i bakruptcy, as well as those trasfers that result from mergers. 13 The by operatio of law exceptio is premised o the assumptio that such trasfers do ot cotravee the Act s purpose of esurig that the etity awarded a Govermet cotract actually performs it because the same etity is geerally still performig the cotract after a bakruptcy or merger. Ideed, the courts ad boards of cotract appeals have limited the categorical exemptio, holdig that a statutory merger will oly be deemed a trasfer that does ot require govermetal coset if the merger will have little or o effect o the persoel, maagemet, ad resources egaged i performig those cotracts. Whe cosiderig whether a give cotract trasfer occurred by operatio of law, courts look to whether the Govermet cotiues to deal with the party with which it first cotracted (i.e., the same employees, maagemet, ad other resources), ad whether it cotiues to receive the beefits for which it cotracted. 14 Novatio Of Cotracts Novatio Requiremet If a cotract trasfer is of a type that does ot fall uder the operatio of law exemptio, it will be prohibited uless the Govermet cosets, either implicitly by ratificatio or waiver 15 or explicitly by the executio of a ovatio agreemet, the process by which the Govermet formally grats its coset to cotract trasfer. 16 Cosistet with the judicial exceptio for trasfers by operatio of law, the FAR specifically idicates that o ovatio agreemet is ecessary whe a chage i owership is the result of a sale of stock that causes o legal chage i the cotractor ad the cotractor remais i cotrol of the relevat assets ad cotiues to perform the cotract. 17 Noetheless, some COs still seek to obtai writte assuraces from the trasferor i a merger relatig to the trasferee s performace of the Govermet cotracts after the merger. Furthermore, although the case law supports the coclusio that a ovatio process is ot ecessary i the cotext of statutory mergers, there remais some risk that a CO may require parties to a statutory merger to udergo a formal ovatio process to address ay particular cocers the CO may have. Failure to obtai ovatio may bar future claims agaist the Govermet regardless of whether rights to claims have ostesibly trasferred with the acquisitio of assets from the cotractor. 18 This is especially true whe the trasactio ivolves the sale of oly a portio of the assets or persoel ivolved i the Govermet cotract 19 as opposed to the trasfer of the etire etity resposible for the cotract. 20 It should be bore i mid, however, that failure to obtai a required ovatio does ot ecessarily foreclose a remedy. As metioed above, the Govermet may waive the ovatio requiremet through kowledge, asset, ad affirmative actio cosistet with the terms of the assigmet. 21 Nevertheless, securig the Govermet s explicit coset through ovatio remais the surest way of protectig your cotract rights after the assigmet of a Govermet cotract. Novatio Process Uder the FAR, the Govermet may recogize a successor i iterest to a Govermet cotract whe there is a trasfer of all of the 3

4 cotractor s assets or the etire portio of the assets ivolved i performig the cotract. 22 The process used for recogizig a successor i iterest is to eter ito a three-party ovatio agreemet betwee the Govermet, the trasferor, ad the trasferee. Uder the agreemet, the Govermet recogizes the trasferee as the successor to the trasferor, but the trasferor remais liable as guarator of the trasferee s performace. 23 Most Govermet cotract ovatios are etered ito after the trasfer has bee completed ad, i some cases, COs take may moths or a year to process a ovatio request. I the iterim betwee the closig ad the executio of ay ecessary ovatio agreemet, it is advisable for the trasferee to eter ito a subcotract uder which it is give the authority to perform the cotract i the trasferor s ame ad receive paymets pedig approval of the ovatio agreemet. Of course, ay subcotract must coform to the provisios of the prime cotract. Whe required to eter ito a ovatio agreemet, you must otify the Admiistrative CO admiisterig the largest usettled balace about the pedig acquisitio 24 ad provide that ACO with documetatio as specified i the FAR. 25 The regulatios require the cotractor to provide certai basic iformatio to the Govermet before executig the ovatio agreemet: (a) documets describig the trasactio (e.g., asset purchase agreemet), (b) a list of all affected cotracts, icludig the approximate remaiig balace o each cotract, (c) evidece of the trasferee s capability to perform, ad (d) ay other relevat iformatio requested by the CO. 26 I additio, the regulatios require the cotractor to provide the followig documetatio: (1) a autheticated copy of the istrumet effectig the trasfer of assets, (2) a certified copy of each resolutio of the corporate parties boards of directors authorizig the trasfer of assets, (3) a certified copy of the miutes of each corporate party s stockholder meetig ecessary to approve the trasfer of assets, (4) if a corporatio was formed to receive the assets ivolved i performig the Govermet cotract, a autheticated copy of the trasferee s certificate ad articles of icorporatio, (5) the opiio of legal cousel for the trasferor ad trasferee statig that the trasfer was properly effected uder applicable law, (6) balace sheets of the trasferor ad trasferee as of the dates immediately before ad after the trasfer of assets, audited by idepedet accoutats, (7) evidece that ay security clearace requiremets have bee met, ad (8) the coset of all sureties o all cotracts if bods are required, or a statemet from the trasferor that oe are required. 27 Importatly, the regulatios grat Govermet COs the discretio to waive some of the documetatio requiremets. 28 Assigmet Of Proposals A issue closely related to the ovatio of Govermet cotracts is the effect of a merger or acquisitio o outstadig bids ad proposals. This issue ofte arises i the cotext of bid protests or resposibility determiatios whe a offeror chages owership after its proposal has bee submitted but before cotract award. Although the Ati-Assigmet Act does ot apply to Govermet cotract bids ad proposals, the Geeral Accoutig Office (recetly reamed the Govermet Accoutability Office 29 ) has relied upo court decisios that iterpret the Act to hold that assigmets of bids ad proposals are ot precluded whe made by operatio of law ad o harm results to the Govermet. 30 Specifically, the trasfer of rights ad obligatios arisig out of a bid or proposal is permissible where the trasfer is to a legal etity which is the complete successor i iterest to the bidder or offeror [whether] by virtue of merger, corporate reorgaizatio, the sale of a etire busiess or the sale of [the] etire portio of a busiess embraced by the bid or proposal. 31 The key requiremet is that the origial offeror remais itact with access to the same resources ad with a itetio to hoor its prior commitmets. 32 Although the trasfer of outstadig bids ad proposals is ot precluded by the Ati- 4

5 Assigmet Act or GAO case law, special steps may oetheless eed to be take. The FAR requires that before awardig a cotract, the CO must determie whether the offeror submittig the proposal is a resposible offeror, with adequate fiacial resources ad a satisfactory record of itegrity ad busiess ethics. 33 To avoid ay cofusio as to the idetity of the offeror whose fiacial resources are beig evaluated, it may be prudet to otify the Procurig CO of the trasfer of the pedig bid or proposal. Before otifyig the PCO, the trasferee should determie o a case-by-case basis whether the trasfer could egatively impact the evaluatio of the outstadig bid or proposal. The trasfer could, for example, affect the agecy s evaluatio of the proposal i areas such as past performace. Notifyig the PCO of the trasfer would help esure that the resposibility determiatio, as well as the award determiatio, cocers the proper legal etity, ad thereby possibly prevet potetial bid protests by competitors if the trasferee should get the award. 34 Takig these steps to otify the PCO ad reaffirm commitmets will best eable the trasferee to succeed to the iterests of the trasferor i ay bids ad proposals that are pedig at the time of the trasfer. Chage-Of-Name Procedure Eve whe o ovatio is required, such as whe there is a stock purchase or merger trasactio, if the ame of the Govermet cotractig etity is expected to chage, you must prepare ad submit to the Govermet several documets i support of a applicatio for recogitio of the ame chage. 35 I particular, the Chage-of-Name Agreemet package must iclude (1) three siged copies of a Chage-of-Name Agreemet, (2) a autheticated copy of the documet effectig the ame chage, (3) a legal opiio statig that the chage of ame was properly effected uder applicable law, ad (4) a list of all affected cotracts, showig the CO for each. 36 It is prudet to cotact the Govermet early i coectio with the preparatio of the Chage-of-Name-Agreemet package. Raisig the chage-of-ame issue with the ACO may prompt a request to udertake the ovatio process eve whe o ovatio is legally required. Early cosultatios may afford a opportuity to explai to the ACO why the ovatio requiremets should ot be triggered by the proposed statutory merger. Similar to the otificatio process for ovatios, cotractors must otify the ACO admiisterig the largest usettled balace about the pedig merger ad ame chage. 37 The otice should iform the ACO of the plaed merger, the structure of the merger, ad the cotracts affected by the merger. I additio, the otice should iform the ACO that you will be forwardig the chage-of-ame package described above. The process to approve the chage i ame may require aywhere from a few weeks to a few moths. Oce approved by the ACO, each cotract should be modified to reflect the chage i ame. Orgaizatioal Coflicts Of Iterest Wall Street s recet attractio to Govermet cotract compaies has also ecouraged traditioal defese cotractors to expad through acquisitio of other defese cotractors. For istace, i the summer of 2003, Geeral Dyamics Corp. acquired Veridia Corp. i a $1.5 billio trasactio. 38 The trasactio was desiged to sigificatly stregthe Geeral Dyamics Iformatio Systems ad Techology Group by capitalizig o Veridia s expertise i providig solutios i commad ad cotrol, itelligece, surveillace, ad recoaissace services. Other larger trasactios have ivolved combiatios of more or less equals, such as Northrop Grumma s purchase of TRW, Ic. i December This acquisitio vaulted Northrop Grumma to the status of oe of the atio s largest defese cotractors, with over $25 billio i aual sales ad early 120,000 employees. 39 Mergers ad acquisitios i which both the buyer ad seller are Govermet cotractor 5

6 etities particularly service cotractors raise additioal uique issues. Whe the buyer ad seller operate i related busiess areas, especially advisory ad assistace services, the acquisitio of oe etity by aother could create orgaizatioal coflicts of iterest (OCIs) that jeopardize existig ad future Govermet cotract work. Therefore, to pla for ad guard agaist a uexpected loss of busiess or future busiess opportuities, reviewig OCIs potetially resultig from a acquisitio is a importat step i regulatory due diligece. Basic Rules Uder FAR Part 9.5, a OCI may result whe factors create a actual or potetial coflict of iterest o a istat cotract, or whe the ature of the work to be performed o the istat cotract creates a actual or potetial coflict of iterest o a future acquisitio. 40 COs are charged with idetifyig ad evaluatig potetial OCIs as early i the acquisitio process as possible. Oce a OCI is idetified, the CO must avoid, eutralize, or mitigate sigificat potetial coflicts before cotract award. 41 I executig this resposibility, COs are guided by two uderlyig priciples: (1) prevetig the existece of coflictig roles that might bias a cotractor s judgmet, ad (2) prevetig ufair competitive advatage. 42 To protect agaist OCI cocers, the regulatios specifically limit the award of some cotracts to cotractors providig specific services. For istace, a cotractor providig systems egieerig ad techical directio caot be awarded a cotract to supply the system or ay of its major compoets. 43 Similarly, if a cotractor prepares ad furishes cotract specificatios, that cotractor is geerally ot allowed to furish these items, as a prime cotractor or as a subcotractor. 44 FAR also provides examples of ie differet situatios i which questios regardig OCIs might arise. 45 OCI Avoidace & Mitigatio As the regulatios suggest, FAR 9.5 was ot drafted with the specific purpose of directig COs to cotiuously review cotracts for potetial OCI cocers particularly i the cotext of mergers ad acquisitios. Noetheless, the force ad effect of the regulatios remai throughout the life of a awarded cotract, ad ay mitigatio approach adopted at cotract award must be sufficiet to guard agaist ay actual or potetial OCI issues that may arise i the evet of a subsequet chage of owership or orgaizatioal structure. Therefore, a careful review of potetial OCI cocers is a importat ad ecessary cosideratio of ay merger or acquisitio ivolvig Govermet cotractors. First, the trasactio could result i a situatio where the resultig etity could be disqualified from certai competitios. Secod, the merger could create OCIs that force the acquirer to reliquish some of its or the target s existig cotracts to avoid or mitigate OCI cocers. To guard agaist these uiteded cosequeces of a otherwise attractive acquisitio, the compaies must be forward-thikig ad suggest strategies to the CO for avoidig or mitigatig ay potetial OCI cocers. The iitial step i a OCI due diligece review is for the compaies ivolved i the merger or acquisitio to idetify those sectors of their busiesses where OCI issues are likely to develop. For example, if the target specializes i advisory ad assistace services, the acquirer should review whether it is curretly supplyig products coected to those services. Similarly, if the target is providig systems egieerig ad techical assistace services for certai products, the acquirer should evaluate what effect the provisio of these services will have o its future busiess opportuities. Oce a actual or potetial OCI issue is idetified o a particular cotract, the ower of the cotract either the target or the acquirer should determie whether existig mitigatio plas, if ay, are sufficiet to hadle the potetial OCI. The parties must also determie whether the ower of the cotract is prepared to take the ecessary steps to avoid or mitigate the resultig OCI issue. For i- 6

7 stace, a mitigatio pla ca provide for firewalls separatig the coflicted sectors of the merged etity. A more drastic approach for avoidig a potetial OCI is for the acquirer to divest that portio of the target s busiess that creates the OCI cocers. The maagemet of this process durig the period of time betwee the aoucemet ad close of the trasactio is extremely importat. Uder applicable atitrust rules, both parties eed to maage their existig cotracts idepedetly. 46 However, to the extet that a aouced trasactio has the potetial to create OCI issues, cotractors eed to commuicate with their respective COs ad be prepared to implemet mitigatio plas immediately upo closig. Acquisitios Of Small Busiess Etities Special issues also arise whe a large busiess acquires a small busiess cocer that is receivig cotracts uder various Small Busiess Admiistratio programs. I particular, buyers must pay careful attetio to the rules ad regulatios surroudig the acquisitio of small disadvataged busiesses that are recipiets of set-aside cotract s uder the SBA s 8(a) program. 47 Geeral Rules Geerally, a busiess that qualifies as a small busiess cocer may be eligible to receive preferetial treatmet i coectio with certai Govermet cotracts or grats. The term small busiess cocer meas a cocer, icludig its affiliates, that is idepedetly owed ad operated, ot domiat i the field of operatio i which it is biddig o Govermet cotracts, ad is qualified as a small busiess uder the SBA s size stadards. 48 Importatly, the SBA determies the size status of a firm, icludig its affiliates, as of the date the firm submits to the procurig agecy, as part of its iitial proposal, a writte self-certificatio that the firm is small. 49 Thus, there is o requiremet that a agecy termiate a cotract where a small busiess cocer becomes large after the self-certificatio. 50 I additio, the GAO has idicated that the Govermet may exercise a optio to exted the term of a small busiess set-aside cotract otwithstadig the fact that the cotract is o loger held by a small busiess. I a case i which a protester argued that the Army improperly exercised a optio to exted a small busiess set-aside cotract that had bee ovated by the small busiess cocer to a large busiess, the GAO held as follows: 51 We kow of o regulatory or statutory requiremet that a small busiess offeror must retai throughout cotract performace its small busiess status after it has legitimately selfcertified that it is small, ad the award was proper whe made. Nothig i the regulatios requires a re-determiatio of size status durig performace of the cotract. The iitial size status certificatio cotrols. Because there exists o regulatory requiremet that a CO must take ito accout socioecoomic programs, icludig the small busiess set-aside program, before exercisig a cotract optio, the GAO rejected the protester s argumet. 8(a) Cotractors The geeral rules described above are differet if the cotract is performed by a small disadvataged busiess cocer participatig i the SBA s 8(a) program ad the cotract was set aside for award to 8(a) cotractors. Techically, 8(a) cotracts are subcotracts to the SBA, which acts as the prime cotractor to the actual buyer agecy. 52 I geeral, 8(a) cotracts must be performed by the compay that obtaied the origial 8(a) cotract award. 53 The SBA s affiliatio rules require that the acquired compay be cosidered together with the cotrollig paret compay for purposes of determiig both size status ad owership by qualifyig miority persos, eve if the busiess were to cotiue i existece as a subsidiary. 54 Additioal rules ad procedures come ito play whe a 8(a) cotractor (or its assets) is sold to a o-8(a) compay. Importatly, a 8(a) cotract, whether i the base or a optio year, must be termiated for the cove- 7

8 iece of the Govermet if the 8(a) cocer to which it was awarded trasfers owership or cotrol of the firm, uless the Admiistrator of the SBA waives the termiatio requiremet. 55 The same waiver requiremet applies i a asset sale, which requires a ovatio to assig cotract performace to the acquirig etity. The 8(a) cotractor must otify the SBA immediately upo eterig a agreemet (either oral or i writig) to trasfer all or part of its stock or other owership iterest to ay other party. 56 (This requiremet is iartfully worded i that it refers to the 8(a) cocer eterig a agreemet to sell, whereas, at least i the case of a stock trasactio, it is the shareholders of the cocer who trasfer the owership iterest. However, the otice must be give whether it is the cocer itself or third-party owers who are trasferrig iterests, ad whether it is a asset or stock deal.) The cotractig agecy also must be otified. 57 This otice requiremet geerally is triggered by eterig ito a purchase agreemet ad ot upo sigig of a obidig statemet of itet. To cotiue performace of a 8(a) cotract after a trasfer of owership or cotrol by a o-8(a) cocer, a timely waiver must be obtaied from the SBA. As oted above, if such waiver is ot obtaied, the CO must termiate the cotract for the coveiece of the Govermet. 58 The cotractor must request a waiver from the SBA before actual reliquishmet of owership or cotrol, i.e., the closig. 59 I doig so, the 8(a) cotractor must specify the grouds o which it requests the waiver ad demostrate that such grouds are met. 60 Occasioally, closig or fializig of the acquisitio is made cotiget upo obtaiig the waiver. I this regard, potetial deal egotiatios should cosider whether waiver rejectio is a groud for a price adjustmet at closig. If the parties close while waivers are still pedig, it may be appropriate to have a cotiget deferred payout of part of the price based o cotract reveues. To obtai a waiver, the SBA requires a certificatio from the head of the cotractig agecy or aother authorized agecy official that termiatio of the cotract would severely impair attaimet of the agecy s program objectives or missios. 61 Upo otice of the trasfer, the CO must take actio immediately to preserve the optio of waivig the termiatio requiremet. 62 I this regard, if the CO determies that trasfer of the cotract from the curret 8(a) cotractor to aother firm would impair attaimet of the agecy s program objectives, the CO must otify the SBA i writig ad idicate that the agecy is requestig a waiver. 63 The CO shall either cofirm or withdraw the request withi 15 days or such loger period as agreed to by the agecy ad the SBA. 64 As a practical matter, if cotract performace is well uderway at the time of the acquisitio, a agecy geerally will fid it easier ad less disruptive to cotiue the cotract tha to termiate ad coduct a ew procuremet. The SBA suggests that waiver requests be made as early as possible ad otes that requests submitted before a defiitive purchase agreemet is siged will be processed. I ay evet, the cotract will ot be termiated before the CO has had a opportuity to opie to the SBA o the waiver request, sice oly the CO ca termiate the cotract. Should a waiver request be deied, the 8(a) cotractor may appeal the decisio to the SBA Office of Hearigs ad Appeals uder the procedures set forth at 13 C.F.R. Part A cotractor wishig to appeal must file its petitio withi 45 days of the date of service of the deial by the SBA Admiistrator. 66 Foreig Owership, Cotrol & Ifluece Special issues arise whe a foreig etity acquires a iterest i a U.S. compay that performs Govermet cotract work requirig access to classified iformatio. Access to classified iformatio requires a security clearace, for which oly U.S. citizes are eli- 8

9 gible. Thus, a o-u.s. corporate citize or a compay that is uder foreig owership, cotrol, or ifluece (FOCI) is ot eligible to receive a security clearace. 67 NISPOM Requiremets Executive Order established the Natioal Idustrial Security Program, which is admiistered by the Defese Security Service (DSS), ad authorized the establishmet of policies ad procedures cocerig access to classified iformatio. 68 Key regulatios implemetig the program iclude Departmet of Defese Regulatio M, kow as the Natioal Idustrial Security Program Operatig Maual (NISPOM). 69 To have access to classified iformatio, a cotractor must have a valid facility security clearace grated by the appropriate cogizat security agecy admiisterig the classified cotract at issue, such as the DSS or the Departmet of Eergy. As a geeral rule, if a compay is structured as a sigle corporatio with multiple facilities, the NISPOM requires the corporate headquarters to be cleared at a level equal to the highest security classificatio of ay cotract performed by ay facility withi the corporatio. 70 Importatly, facility clearaces are grated oly to cotractors orgaized uder U.S. law ad located i the Uited States. 71 I additio, the cotractor must ot be subject to FOCI. 72 Thus, a U.S. cotractor s ability to retai its security clearace may be adversely affected if all or a portio of the cotractor s owership is acquired by a foreig etity. As a iitial poit, the NISPOM requires cotractors curretly holdig security clearaces to report to the Govermet several types of chaged coditios, icludig ay chage of owership. 73 Likewise, cotractors must iform the Govermet whe they eter ito discussios that may result i either a merger, acquisitio, or takeover ivolvig a foreig perso. 74 The NISPOM defies a foreig perso as [a]y foreig iterest ad ay U.S. perso effectively owed or cotrolled by a foreig iterest. 75 FOCI Factors The NISPOM idicates that a U.S. compay is cosidered to be uder FOCI i the followig circumstaces: 76 [W]heever a foreig iterest has the power, direct or idirect, whether or ot exercised, ad whether or ot exercisable through the owership of the U.S. compay s securities, by cotractual arragemets or other meas, to direct or decide matters affectig the maagemet ad operatio of that compay i a maer which may result i uauthorized access to classified iformatio or may affect adversely the performace of classified cotracts. The NISPOM defies foreig iterest as follows: 77 Ay foreig govermet, agecy of a foreig govermet or represetative of a foreig govermet; ay form of busiess eterprise or legal etity orgaized, chartered or icorporated uder the laws ay coutry other tha the U.S. or its possessios ad trust territories, ad ay perso who is ot a citize or atioal of the Uited States. Whe cosiderig whether a cotractor is uder FOCI, the cogizat security agecy will cosider several differet factors i the aggregate: 78 (a) Foreig itelligece threat. (b) Risk of uauthorized techology trasfer. (c) Type ad sesitivity of the iformatio requirig protectio. (d) Nature ad extet of FOCI, icludig whether a foreig perso occupies a cotrollig or domiat maagemet positio, ad source of FOCI, icludig idetificatio of immediate, itermediate, ad ultimate paret orgaizatio. (e) Record of compliace with pertiet U.S. law, regulatios, ad cotracts. (f) Nature of bilateral ad multilateral security ad iformatio exchage agreemets that may pertai. I additio to cosideratio of these factors, a compay applyig for a facility clearace must provide the cogizat security 9

10 agecy with the followig iformatio that will be cosidered ad reviewed i the aggregate: 79 (1) Owership or beeficial owership, direct or idirect, of 5% or more of the applicat compay s votig securities by a foreig perso. (2) Owership or beeficial owership, direct or idirect, of 25% or more of ay class of the applicat compay s ovotig securities by a foreig perso. (3) Maagemet positios, such as directors, officers, or executive persoel of the applicat compay held by o-u.s. citizes. (4) Foreig perso power, direct or idirect, to cotrol the electio, appoitmet, or teure of directors, officers, or executive persoel of the applicat compay ad the power to cotrol other decisios or activities of the applicat compay. (5) Cotracts, agreemets, uderstadigs, or arragemets betwee the applicat compay ad a foreig perso. (6) Details of loa arragemets betwee the applicat compay ad a foreig perso if the applicat compay s (the borrower s) overall debt to equity ratio is 40:60 or greater; ad details of ay sigificat portio of the applicat compay s fiacial obligatios that are subject to the ability of a foreig perso to demad repaymet. (7) Total reveues or et icome i excess of 5% from a sigle foreig perso or i excess of 30% from foreig persos i the aggregate. (8) 10% or more of ay class of the applicat s votig securities held i omiee shares, i street ames, or i some other method that does ot disclose the beeficial ower of equitable title. (9) Iterlockig directors with foreig persos ad ay officer or maagemet of the applicat compay who is also employed by a foreig perso. (10) Ay other factor that idicates or demostrates a capability o the part of foreig persos to cotrol or ifluece the operatios or maagemet of the applicat compay. (11) Owership of 10% or more of ay foreig iterest. FOCI Mitigatio A foreig-owed compay that acquires a cleared U.S. compay may take steps to mitigate the FOCI cocers ad thereby maitai the compay s security clearace. First, if the foreig perso at issue does ot ow sufficiet votig stock to elect board members ad is ot otherwise etitled to board represetatio, a simple resolutio by the U.S. compay s board will geerally prove adequate to resolve the situatio. The resolutio must (a) idetify the foreig shareholder ad describe the umber ad type of the foreig owed shares, (b) ackowledge the eed to comply with the idustrial security program ad export cotrol laws, (c) certify that the foreig shareholder will ot require, will ot have, ad ca be precluded from gaiig uauthorized access to classified ad export cotrolled materials, (d) state that the foreig perso will ot be permitted to hold positios that that may eable the foreig perso to ifluece cotracts ivolvig classified iformatio, ad (e) agree to provide a aual certificatio ackowledgig the resolutio s cotiued effectiveess. 80 Other optios to mitigate FOCI iclude implemetig Votig Trust or Proxy Agreemets whereby the votig rights of foreig shareholders are vested i three trustees or proxy holders who are U.S. citizes ad have bee cleared by the U.S. Govermet. The trustees or proxy holders must be disiterested idividuals with o prior ivolvemet with the U.S. compay, corporate affiliates, or the foreig perso ad must be made directors of the applicat compay. 81 The Votig Trust or Proxy Agreemet approach is the most striget mitigatio approach i that it requires 10

11 the foreig ower to reliquish day-to-day cotrol of the cleared U.S. etity. The third ad most commoly utilized optio is to implemet a Special Security Agreemet (SSA) or Security Cotrol Agreemet that (1) imposes substatial idustrial security ad export cotrol measures withi the U.S. compay s polices ad procedures, (2) ecessitates cosiderable ivolvemet of seior maagemet ad board members, ad (3) creates a Govermet Security Committee to moitor the above-refereced policies ad procedures. 82 A key elemet of the SSA is the appoitmet of up to three outside directors to the cleared compay s board of directors. The outside directors must be U.S. citizes who are approved by the cogizat security agecy ad eligible to receive a security clearace. 83 This type of arragemet preserves the foreig perso s right to board represetatio ad a say i compay maagemet, yet protects agaist uauthorized access to classified iformatio. 84 However, a compay uder a SSA, ulike a compay uder a Votig Trust or Proxy Agreemet, is still cosidered foreig owed. A compay uder a SSA is authorized to have access to secret iformatio; however, to receive a cotract at the Top Secret level or above, the CO must make a socalled atioal iterest determiatio to justify the award. 85 Havig to obtai a atioal iterest determiatio for certai classified cotracts could put a compay at a competitive disadvatage if other U.S. compaies are available to perform the work. The fial optio is a limited facility clearace that if certai criteria are met allows a foreig-owed compay to obtai some access to classified iformatio. 86 Exo-Florio Process The Exo-Florio Amedmet to the Defese Productio Act of 1950 authorizes the Presidet to susped or prohibit a proposed foreig acquisitio of a U.S. etity if the Presidet believes that the foreig perso might take actio that would threate atioal security. 87 The Presidet is authorized to seek divestmet i the case of a completed acquisitio of cotrol. However, this authority termiates if the trasactio is examied pursuat to established procedures ad a decisio is made ot to take actio. 88 The Committee o Foreig Ivestmet i the Uited States (CFIUS) is the iter-agecy committee resposible for reviewig trasactios subject to the Exo-Florio Amedmet. CFIUS is chaired by the Secretary of Treasury ad composed of represetatives from the Departmets of State, Defese, Commerce, ad Justice, the Office of Maagemet ad Budget, the U.S. Trade Represetative, the Office of Natioal Security Affairs, the Office of Ecoomic Policy, the Coucil of Ecoomic Advisers, ad the Office of Sciece ad Techology Policy. 89 Reviews of foreig ivestmet trasactios are ot madatory. They may be iitiated either by a member of the Committee or volutarily by parties to the trasactio. 90 Parties to a trasactio are ot required to file with CFIUS at ay particular time, i.e., before or after the trasactios closes. However, as oted above, the Presidet retais his authority to block a trasactio util such time that the review is completed ad o actio is take. 91 Uder the applicable regulatios, a volutary otice must describe, amog other thigs, the ature of the trasactio, the assets of the U.S. perso beig acquired, the busiess activities of the parties, iformatio cocerig cotracts relatig to products ad services relevat to U.S. defese eeds, ad the foreig perso s plas with respect to the U.S. perso. 92 All iformatio provided is treated cofidetially ad is ot made public except i the case of a admiistrative actio or judicial proceedig. 93 CFIUS has 30 days to coduct a prelimiary review. At the ed of that period, it must decide whether to termiate the proceedigs or iitiate a i-depth ivestigatio. 94 If a ivestigatio is iitiated, it must be completed withi 45 days. 95 A report o the ivestigatio must be submitted to the 11

12 Presidet, who decides whether to exercise his authority to block or uwid a trasactio withi 15 days of the completio of the ivestigatio. 96 The Presidet s determiatio of a threat to atioal security is ot subject to judicial review. 97 Importatly, oce a trasactio is cleared, the Presidet caot later seek to exercise his blockig or divestmet authority. 98 As a practical matter, the Exo-Florio process ties closely to the FOCI mitigatio process uder the NISPOM. Therefore, to avoid the ivestigatioal stage of the Exo-Florio process, you should take steps to develop ad propose a FOCI mitigatio pla that is acceptable to the cogizat security agecy. Because of the short timeframes for the review, it is prudet to have the FOCI mitigatio pla i place at the time the volutary otice is submitted uder the Exo-Florio regulatios. I some cases, parties to a trasactio have chose to withdraw their volutary otice uder Exo-Florio ad adjust the terms of the deal if CFIUS or the cogizat security agecy raises ay atioal security cocers. The Presidet has reportedly oly exercised his divestiture authority oce sice the Exo- Florio Amedmet passed i I that case, the Chia Natioal Aero-Techology Import ad Export Corporatio (CATIC) acquired MAMCO Maufacturig, Ic., a Seattle, Washigto compay that fabricated metal parts for aircraft. The trasactio closed before the completio of the Exo-Florio proceedig. At the coclusio of the proceedig, the Presidet cocluded that CATIC might take actio that threateed the atioal security ad ordered CATIC to divest its iterest i MAMCO. 99 I most other cases, CFIUS or the Presidet has foud o atioal security threat or, as described above, the threat has bee elimiated by actio take by the parties to the trasactio. As oted above, there is o legal requiremet that a foreig compay otify CFIUS of ay plaed acquisitio. The risk i ot filig, however, is that a foreig ivestor will remai vulerable to a review of the trasactio idefiitely. 100 Neither the statute or the regulatios defie the term atioal security ad i fact, both are purposefully ambiguous so as ot to curtail the Presidet s broad decisiomakig authority. 101 The preamble to the regulatios otes that Cogress iteded the term to be iterpreted broadly ad without limitatio to a particular idustry. 102 Because of this lack of limitatio, the focus of Exo-Florio proceedigs has gravitated to iclude idustries ad issues that were ot specifically cotemplated whe the statute was eacted. For example, i the early 1990s, acquisitios i the telecommuicatios sector cleared the Exo-Florio process without the impositio of ay special requiremets. However, just a few years later, the Exo-Florio proceedigs relatig to such acquisitios placed emphasis o law eforcemet issues as well as traditioal atioal defese issues. As a result, some trasactios i the commuicatios sector have oly received Exo-Florio clearace after the parties have etered ito formal agreemets that addressed issues such as the cotiued ability of law eforcemet agecies to coduct lawful electroic surveillace. These Guidelies are iteded to assist you i uderstadig ad addressig the special issues that arise whe mergers ad acquisitios ivolve Govermet cotractors. They are ot, however, a substitute for professioal represetatio i ay particular situatio. 1. Remember that the Ati-Assigmet Act will ot bar the trasfer of a Govermet cotract from the origial awardee to aother party as GUIDELINES log as the Govermet cosets to the trasfer, either implicitly by ratificatio or waiver or explicitly through a ovatio agreemet, or where the cotract trasfers occur by operatio of law. 2. Be aware that applicatio of the by operatio of law exceptio to the Ati- Assigmet Act, which geerally exempts assigmets of cotracts to statutory receivers 12

13 ad assigees i bakruptcy, as well as trasfers that result from mergers, depeds o whether the Govermet cotiues to deal with the party with which it first cotracted (i.e., the same employees, maagemet, ad other resources) ad whether the oly chage is a chage i owership of the compay s stock. 3. Bear i mid that obtaiig the Govermet s explicit coset through a ovatio agreemet remais the surest way of protectig your cotract rights if the trasactio does ot come withi oe of the established exceptios. To request a ovatio agreemet i which the Govermet recogizes the successor i iterest to Govermet cotracts, otify the Admiistrative CO admiisterig the largest usettled cotract balace about the pedig acquisitio ad provide that ACO with all of the documetatio specified i the FAR. 4. To avoid ay cofusio regardig the idetity of the offeror beig evaluated, otify the Procurig CO of the trasfer of ay pedig bid or proposal to aother legal etity due to a merger or acquisitio. 5. Eve whe o ovatio is required i a stock purchase or merger trasactio, if the ame of the Govermet cotractor etity is expected to chage, otify the ACO admiisterig the largest usettled cotract balace about the pedig trasactio ad ame chage ad submit a complete Chageof-Name Agreemet package. Early cosultatio with the ACO will allow you to explai to the ACO why a ovatio agreemet is ot required. 6. Make certai that your due diligece review of a proposed merger or acquisitio icludes careful cosideratio of ay potetial orgaizatioal coflicts of iterests that could disqualify the resultig etity from certai types of Govermet busiess. Cosider ad suggest to the CO strategies for avoidig or mitigatig OCI cocers, ragig from erectig firewalls to separate coflicted sectors of a merged etity to havig the acquirer divest the portio of the acquisitio target s busiess that creates the OCI cocers. 7. Keep i mid that a SBA 8(a) program cotract must be termiated by the CO for the coveiece of the Govermet if the 8(a) cocer to which it was awarded trasfers owership or cotrol of the firm to a o- 8(a) etity, uless the Admiistrator of the SBA waives the termiatio requiremet. A 8(a) cotractor may appeal the deial of a waiver to the SBA Office of Hearigs ad Appeals. 8. Recogize that a U.S. cotractor s ability to retai its security clearace may be adversely affected if all or a portio of the cotractor s owership is acquired by a foreig etity ad the cotactor is cosidered to be uder foreig owership, cotrol, ad ifluece. 9. To maitai a valid security clearace, the foreig compay must take steps to mitigate FOCI cocers. The possible mitigatio steps deped o the amout of cotrol the foreig etity will have over the U.S. compay. If the foreig etity will ot ow sufficiet votig stock to elect board members ad is ot otherwise etitled to board represetatio, a simple resolutio by the U.S. compay s board will geerally prove adequate to resolve the FOCI cocer. Whe the foreig etity has greater cotrol, other optios iclude establishig a Votig Trust or Proxy Agreemet whereby the foreig ower reliquishes day-to-day cotrol of the cleared U.S. etity or implemetig a Special Security Agreemet or Security Cotrol Agreemet that preserves the foreig perso s right to board represetatio ad a say i compay maagemet, yet protects agaist uauthorized access to classified iformatio. 10. Be aware that a proposed foreig ivestmet i a U.S. compay may trigger a review of the trasactio by the Committee o Foreig Ivestmet i the Uited States ad potetially its blockage by the Presidet uder the Exo-Florio process. Cosider filig a volutary otice uder Exo-Florio with a proposed mitigatio pla ad be prepared to adjust the terms of the deal if CFIUS or the cogizat security agecy raises ay atioal security cocers. 13

14 H REFERENCES H 1/ McCarthy, Post-9/11 Mergers Brought Problems, Wash. Post., Aug. 23, 2004, at E1, available at 2004 WL / Stack, Update: Govermet Services M&A, Aerospace, Defese, Govermet Strategic Overview 6 ( Houliha Lokey Howard & Zuki, 2d Quarter 2004). 3/ 31 U.S.C. 3727(b). 4/ 41 U.S.C / See White, To Dace With the Oe You Came With: Federal Govermet Regulatio of Assigmets of Cotractual Performace, 29 Pub. Cot. L.J. 601, , (Summer 2000). 6/ See id. at / See Johso Cotrols World Servs., Ic. v. Uited States, 44 Fed. Cl. 334, 343 (1999); see also Keydata Corp. v. Uited States, 504 F.2d 1115 (Ct. Cl. 1974), 16 GC / 41 U.S.C / 41 U.S.C. 15(a). 10/ See Johso Cotrols, 44 Fed. Cl. at 342; Keydata Corp., 504 F.2d 1115 (tracig history of Ati-Assigmet Act ad discussig developmet of operatio of law exceptio); see also Thompso v. Comm r, 205 F.2d 73 (3d Cir. 1953) (extedig to 41 U.S.C. 15 a operatio of law exceptio that previously had oly bee applied to the iterpretatio of 31 U.S.C. 3727). 11/ Mochamp Corp. v. Uited States, 19 Cl. Ct. 797, 801 (1990); America Nat l Bak & Trust Co. v. Uited States, 23 Cl. Ct. 542, 546 (1991); Johso Cotrols, 44 Fed. Cl. at / Tuftco Corp. v. Uited States, 222 Ct. Cl. 277, 287 (1980), 22 GC / See Seaboard Air Lie Ry. v. Uited States, 256 U.S. 655, 657 (1921) (holdig that mergers fall withi the 31 U.S.C operatio of law exceptio). 14/ See Johso Cotrols, 44 Fed. Cl. at 344; Uited It l Ivestigative Servs. v. Uited States, 26 Cl. Ct. 892 (1992); Omega Evtl. Ic., SBCA No , 99-1 BCA 30,253, 41 GC 174; Pettiboe Corp., ASBCA No , 91-2 BCA 23,952; Isotopes, Ic., ASBCA et al., 74-1 BCA 10,371 (recogizig the right of a successor cotractor i a merger to brig a claim uder the Cotract Disputes Act). 15/ America Nat l Bak, 23 Cl. Ct. at / Uited It l, 26 Cl. Ct. at 898; See also Rodgers Costr., Ic., IBCA No. 2777, 92-1 BCA 24,503 (the by operatio of law exceptio dispeses with ay legal ecessity for the Govermet to coset by ovatio or otherwise); Maco Liquidatig Corp./Itercotietal Mfg. Co., Ic., ASBCA No et al., 74-1 BCA 10,470, at 49, / FAR (b). 18/ Westighouse Elec. Co. v. Uited States, 56 Fed.Cl. 564, 569 (Ct. Cl. 2003), 45 GC / Id. at / Omega Evtl. Ic., ASBCA No , 99-1 BCA 30,253, 41 GC / Riviera Fi. of Texas, Ic. v. Uited States, 58 Fed.Cl. 528, 530 (2003), 45 GC / FAR (a). 23/ See FAR / See FAR , / FAR (e). 26/ FAR (e). 27/ FAR (f). 28/ FAR (g). 29/ See Pub. L. No , 8, 118 Stat. 811 (July 7, 2004). 30/ See McNeil Tech., Ic., Comp. Ge. Dec. B , 94-1 CPD 40; see also J.I. Case Co., Comp. Ge. Dec. B , 90-2 CPD 108, 32 GC 303 (agecy properly awarded cotract to successor i iterest where the origial bidder, a wholly-owed subsidiary of the paret-successor, merged with the paret compay after bid opeig). 31/ Surise It l Group, Comp. Ge. Dec. B , 96-1 CPD 64 ; J.I. Case Co., Comp. Ge. Dec. B , 90-2 CPD 108, 32 GC