Assignment of contract decisions when there is a purchase and sale agreement involving a company that has existing government contracts should be met with caution.
Although FAR 42.12 allows the buying and selling parties to execute a novation agreement due to an asset purchase or stock sale, companies should still assess legal issues related to violation of SBA small business size standards.
41 USC 6305 – Prohibition on transfer of contract and certain allowable assignments
General Prohibition on Transfer of Contracts.—
No Guaranteed Approval of Novation Agreement FAR 42.1204
When buyers and sellers of a business that have government contracts, the purchase and sale agreement suggests that the contracts would be transferred to the buy either through a business asset purchase agreement sale or stock sale.
However, the reality is that although FAR 42.1204 allows for a novation agreement, the contracting officer is not obligated to approve it.
A federal government contracting agency , only when it determines it to be in its interest, may accept a third party as the successor in interest when the third party’s interest in the contract arises out of the transfer of all of the contractor’s assets or the entire portion of the contractor’s assets involved in performing the contract. FAR 42.1204 (a).
- The contracting officer is not forced to approve the novation agreement.
- If the government declines to novate a contract, the original contractor is still responsible for performance. FAR 42.1204 (c).
- If the assignment of contract is not recognized by the contracting officer, and the original contractor does not perform, the original contractor can be terminated for default.
Potential SBA Size Standard Violations: The SBA found in one case that since there was no approved assignment of contract through an approved government contract novation agreement, the two businesses were deemed affiliate through the identity of interest rule.
On appeal, OHA found that since there was no formal contract novation, that the seller was still responsible for the contract performance, both companies were in the same line of business.
Therefore, they were affiliated. In that case, the SBA also found that there was no clear fracture between the buyer and seller. The two businesses were therefore also affiliated through the newly organized concern rule.
FAR 42.12 Business Asset Purchase Agreement and Assignment of Contract Issues: Simply executing a business asset purchase agreement and a signed novation contract when buying or selling a business is not the end of the legal analysis. The contracting officer must approve the assignment of contract through the novation agreement. Your contract novation letter should address critical issues that answers the contracting officer’s concerns about risk of performance. Have an experienced attorney to assist at this level.
In one case, SBA OHA ignored the argument that its purchase and sale contract with the buyer had the legal effect of divesting the seller of any control over the current contracts. In that case, there was no formally approved novation agreement. A Government contract may not be automatically transferred to a third party. See 41 USC 15.
Legal Issues Regarding Assignment of Contract and Novations: There are several legal issues that arise during the purchase and sale of a business when government contracts are involved. Common issues that occur with the novation clause in contract terms include: (1) whether the seller is simply trying to sell the contract with no real assets, (2) how to structure the asset purchase agreement and whether wait for contracting officer novation approval first, and (3) to what degree does the contracting officer have to approve the novation. The first step is to be proactive in the early stages of the asset purchase or stock sale process.
Having the right contract clauses in the sales agreement is critical in the event that the contracting officer does not approve the contract novation. Other issues with novating a contract include the buyer maintaining its small business status in the event of recertification or option year decisions.
For additional questions about buying and selling a business that includes a novation agreement or assignment of contract issues, call Watson & Associates’ government contract lawyers for immediate help. Call 1-866-601-5518. FREE INITIAL CONSULTATION.