Novating a contract that involves a federal government contract can be painless so long as buyers and sellers of businesses understand how the process works. All should be aware that the contracting officer does not have to approve every novation of contract transactions.
- Avoid the costly mistake of assuming that the government must approve all novations.
- If done improperly, contractors can be found in breach of contract terms and can even face suspension or debarment.
Assignment of contract decisions when there are a purchase and sale agreement involving a company that has existing government contracts should be met with caution.
When novating a government contract, although the FAR 42.1204 assignment or novation clause allows the buying and selling parties to execute an assignment and 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.
- Companies should always keep the agency involved from the beginning of the process to the end.
41 USC 6305 – Prohibition on transfer of contract and certain allowable assignments
No Guaranteed Approval of an Assignment or Novation Agreement Under FAR 42.1204 Novation Clause
Under the federal contract novation clause, when there are business sales that involve government contracts, the purchase and sale agreement suggests that the contracts would be transferred to the buyer either through a business asset purchase agreement sale or stock sale.
However, the reality is that although FAR 42.1204 novation clause 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 assignment or novation agreement.
- If the government declines to novate a contract, the original contractor is still responsible for performance. FAR 42.1204 (c) novation clause.
- 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.
Novating a Contract – Potential SBA Size Standard Violations
When assessing the rules for novating a contract, the SBA found in one case that since there was no approved assignment of the contract through an approved government novation agreement, the two businesses were deemed affiliated 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.
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 with the newly organized concern rule.
FAR 42.1204 Novation Clause
Business Asset Purchase Agreement and Assignment of Contract Issues: Simply executing a business asset purchase agreement and a signed novation agreement or contract when buying or selling a business is not the end of the legal analysis. The contracting officer must approve the assignment and novation agreement. Your contract novation letter should address critical issues that answer the contracting officer’s concerns about the risk of performance. Have an experienced attorney to assist at this level.
In one case, SBA OHA ignored the argument that when novating a contract, 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 FAR 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 business sales 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 the assignment or novation of government contracts, buying and selling a business that includes an assignment and novation agreement or assignment of contract issues under FAR 42.1204 FAR novation clause, call Watson & Associates’ government contract lawyers for immediate help. Call 1-866-601-5518. FREE INITIAL CONSULTATION.