On March 18, 2020, President Trump issued an Executive Order on Prioritizing and Allocating Health and Medical Resources, which triggered the Defense Production Act (DPA) of 1950, P.L. 81-774, 50 U.S.C. §§ 4501 et seq. Today, March 24th, the Federal Emergency Management Agency (FEMA) Administrator announced that the government will be using the DPA today for the first time to counter COVID-19.
The DPA confers upon the President vast authorities to impose some control over private-sector industry to ensure the production of material that is deemed necessary for national defense. These authorities can be used across the federal government to ensure that the domestic industrial base is capable of providing materials and goods required. The authority to prioritize certain government contracts in order to ensure the timely availability of such goods and services is contained in Title I of the DPA. Title 1 of the DPA is administered by the Department of Commerce (DOC) and implemented by regulations called the Defense Priorities and Allocation System (DPAS).1
In this article we describe aspects of the DPAS that businesses should know about in order to successfully perform any rated orders that may be issued to them as a result of the President invoking the DPA. The range of contracted work affected is wider than one might expect. The DPA provides delegated agency authority to require changes to existing unrated federal contracts to make them rated under DPAS, as well as issue new contracts to government contractors, in the traditional sense, and to businesses that may not consider themselves “government contractors.” Currently, the agencies that have been delegated use of this authority are the Department of Defense (DOD), the Department of Homeland Security (DHS), the Department of Transportation (DOT), the Department of Agriculture (USDA), the Department of Energy (DOE), and the Department of Health and Human Services (HHS).2 Businesses performing work pursuant to DPAS rated contracts for these agencies should familiarize themselves with the DPAS to understand what such businesses are obligated to do.
Rated orders
The central feature of the DPAS is the use of a rated order, which can be a prime contract, a subcontract or a purchase order (hereinafter referred to as an "order" or "orders") in support of an approved program issued in accordance with the provisions of 15 C.F.R. Part 700.3 The DOC has delegated authority to the DOD to place rated orders on its contracts.
A rated order indicates that such order has been prioritized pursuant to the DPA. There are two levels of priority ratings: DX, which indicates the highest national defense urgency, and DO, which indicates that the order is critical to the national defense. All DX-rated orders have equal priority to one another and take preference over DO-rated orders. All DO-rated orders have equal priority to one another and take preference over unrated or commercial orders. A priority rating will have two components: the rating level and the symbol of the approved program.4 For example, DOC1 would indicate the critical need rating for food resources. DOC1 would have equal priority to DOA5 (critical need for weapons) but would be of lesser priority than DXC1 (highest urgency for food resources).
A rated order must contain four elements: (1) the aforementioned priority rating, (2) the required delivery date or dates (imprecise dates such as "immediately" or "as soon as possible" are not compliant), (3) an authorized written or digital signature certifying that the rated order is authorized by the DPAS and that the DPAS is being followed and (4) a certification statement such as "This is a rated order certified for national defense use, and you are required to follow all the provisions of the Defense Priorities and Allocations System regulation (15 C.F.R Part 700)."5 If these four elements are not present on an order intended to be a rated order, then the business in receipt of the order should request from the contracting officer or higher-tier government contractor a completed rated order.
Impact on contractors and the requirement to accept or reject a rated order
In general, any business that is issued a rated order must accept it regardless of other orders (rated, unrated or commercial) that the business may have. A business in receipt of a rated order must in turn issue rated orders to subcontractors and suppliers with the same priority that was assigned by the authorized government agency when ordering the products and/or services. Subcontractors are under the same obligation when ordering from their suppliers, such that the priority rating passes through the entire supply chain with respect to the items and services required to fulfill the rated order from the government. Contractors, subcontractors and suppliers are prohibited from charging higher rates or imposing different terms and conditions than charged or imposed for comparable unrated and/or commercial orders. It is important to note that rated orders take precedence over all existing commercial orders.
The need to adjust production schedules in order to meet the demands of the government's prioritization of certain orders can disrupt business as normal. Training personnel to modify operations, managing expectations of customers with unrated orders, and dedicating resources to meeting the compliance requirements set forth by the DPAS can all be expected when a business receives a rated order. These are the kinds of adjustments that must be made in order to provide for the national defense.
There are, however, instances where a business in receipt of a rated order must reject it. For example, if a business will be unable to fulfill the order by the delivery date, it must reject the rated order. Scheduling conflicts with a lower rated, or unrated, order that has already been accepted or shortage of component materials due to such accepted lower rated, or unrated, orders do not provide sufficient reasons to reject a rated order. However, if fulfilling a rated order would interfere with fulfilling a previously accepted equal or higher rated order, then the business must reject the more recent rated order. In this scenario, the business would be required to notify the contracting officer of the conflict and to accept a revised rated order with the earliest delivery date possible.
There are also some circumstances when a business has the option, but not the obligation, to reject a rated order. These circumstances have in common a lack of necessity or practicality of the rated order. For example, if a business does not supply the item or perform the service being ordered, rejection is optional. Similarly, if the business issuing an order with a lower-tier supplier already makes the item or performs the service being ordered, the lower-tier supplier may reject the order. This discretion to reject a rated order only applies when the entity that issued the order is not the U.S. government. If the business placing a rated order with a lower-tier supplier is unwilling or unable to meet the lower-tier supplier's regularly established terms of sale or payment, the lower-tier supplier would be able to reject a rated order.
A business must generally accept or reject a rated order in writing within 15 days of receipt of a DO-rated order and within 10 days of receipt of a DX-rated order.6
Compliance and noncompliance
If a business has accepted a rated order and subsequently finds that the order cannot be fulfilled in the time prescribed, it must immediately notify the contracting officer, or higher-tier customer, of the delay and the reasons for the delay and advise them of the new shipment or performance date. If a business's customer objects to such rescheduling, then the customer should seek the special priorities assistance provided under 15 C.F.R. Part 700, Subpart H. In the event of other conflicts of, or other difficulties experienced in, rated order fulfilment (e.g., if a business cannot locate a supplier for an item needed to fulfill a rated order, or to ensure that rated orders receive preferential treatment by lower-tier suppliers), that business can similarly avail itself of the special priorities assistance service.
The government may audit or investigate businesses to detect problems implementing the DPAS. This includes conducting inspections of a business's books and records and interviewing the business’s employees. Willful violation of the DPA carries a maximum penalty of a $10,000 fine, a one-year prison sentence, or both.7
Complying with the DPAS involves incurring competition risk in the sense that delays may result in fulfilling commercial customers' orders as a result of the receipt of a rated order from a government agency. These delays in delivery to customers might impact the likelihood of future orders from such commercial customers. However, businesses may be excused from consequential damages under existing nonrated and commercial orders if performance of a rated order results in increased costs or breaches under other nonrated or commercial orders, because the DPAS protects the businesses against liability for damages or penalties resulting directly or indirectly from complying with the DPAS.8
An increase in direct costs to fulfill the rated order itself can be recovered in some situations. Such recovery is not available under the DPAS, but rather under the changes clause in the contract under which the rated order was issued. If the rated order changes the requirements of the contract under which the order is placed, then recovery is allowed.9 However, an increase in direct costs related to the underlying national emergency itself is not recoverable. For example, costs would be recovered if a rated order increases the number of COVID-19 testing kits required under the contract, but not if the outbreak of COVID-19 among the businesses' employees drives up costs to produce the kits.
Conclusion
Businesses that provide the goods and services vital to addressing the COVID-19 pandemic need to be prepared for rated orders from the government and from government contractors due to the invocation of the DPA. The U.S. government depends heavily on its partnerships with the private sector to ensure the national defense, and to an even greater extent in times of national emergencies. In this particular emergency, the importance of prompt action is especially crucial.
Reed Smith continues to closely monitor the impacts of, and legal hurdles posed by, the outbreak of COVID-19. Our government contracts team is prepared to counsel all businesses in the supply chain that may be affected by the COVID-19 pandemic on an expedited basis in order to help navigate these rapidly evolving challenges.
Our Reed Smith Coronavirus team includes multidisciplinary lawyers from Asia, EME and the United States who stand ready to advise you on the issues above or others you many face related to COVID-19.
For more information on the legal and business implications of COVID-19, visit the Reed Smith Coronavirus (COVID-19) Resource Center or contact us at COVID-19@reedsmith.com.
- Executive Order 13603 establishes DOC control of the program. 15 C.F.R. Part 700 provides rules for the DPAS program. DOD 4400.1-M provides guidance for DOD components and activities.
- These delegations are found in Executive Orders, such as the one recently issued by the President, and in Federal Acquisition Regulation (FAR) Subpart 11.6.
- 15 C.F.R. § 700.8.
- 15 C.F.R. § 700.11.
- 15 C.F.R. § 700.12.
- 15 C.F.R. § 700.13.
- 15 C.F.R. § 700.74.
- 15 C.F.R. § 700.90. See also Eastern Air Lines, Inc. v. McDonnell Douglas Corp., 532 F.2d 957 (5th Cir. 1976), in which the DPA's exoneration provision was held to apply despite the fact that rather than place a rated order in this case the government had only informally prioritized military aircraft over civilian aircraft in its procurement policy known as “jawboning” due to concerns by the aviation industry that loss of civilian aircraft's DO rating would impede the industry's access to raw materials that were becoming increasingly scarce.
- See FAR Subpart 43.2 for regulations related to change orders and FAR Part 31 for regulations relating to cost principles.
Client Alert 2020-146
