Aronie: The profit margin

As if the vendors who have General Services Administration schedule contracts don’t have enough to worry about, here’s a new one for you. Apparently, GSA’s inspector general has decided that companies selling services to the federal government should be limited to 10 percent profit on their schedule rates.

Put aside for the moment the inescapable question of why the IG is setting GSA pricing policy and focus instead on the purported basis for this new unwritten rule.

According to several auditors, the profit cap is required by Federal Acquisition Regulation 15.404-4. For those of you who have more of a life than I do, FAR 15.404-4 governs how the government negotiates profits on cost-reimbursement contracts.

But the rules of the GSA schedule program explicitly proclaim that FAR Part 15 doesn’t apply to multiple-award schedule contracts, you say? I raised that point with my auditor friends, too. It didn’t get me anywhere.

Wait a minute, you say. Even if FAR Part 15 were applicable to the schedule program — which it isn’t — doesn’t the 10 percent profit rule in FAR 15.404-4 govern only cost-reimbursement contracts, a contract type expressly forbidden under the GSA schedules program? Right again. But alas, to no avail.

According to the IG, when a schedule contractor supports the reasonableness of its proposed schedule rates through the use of a cost buildup, as many contractors do when they lack sufficiently comparable non-GSA sales, the contractor effectively brings itself under the umbrella of FAR Part 15.

Whoa, Nelly! Since when did that become the rule? The manner in which a company demonstrates the reasonableness of its pricing to GSA during negotiations has nothing to do with the fundamental nature of the underlying contract.

Indeed, it is legally impossible to turn a GSA schedule contract into a cost-reimbursement contract. Orders under GSA schedule contracts must be based on fixed-price or time-and-materials pricing. Commercial items contracts, such as the GSA schedule, cannot be cost-reimbursement contracts.

If those pesky legal details weren’t enough to demonstrate the folly of the IG’s view of profit, a strong fairness argument can also be made. If a contractor were selling products instead of services, the IG never would question the profit. The contractor could be making 100 percent profit on its products, and the IG would still deem its prices fair and reasonable, depending on the company’s comparable nonschedule sales.

So why should companies selling services through the GSA schedule be treated any differently? They hold the same contract, operate in the same environment, take the same risks and are subject to the same audit oversight as their product-oriented peers.

The answer is that they should not be treated differently.

But in the end, even if an argument could be made that commercial items service contractors should have their profit capped at 10 percent, it seems to me that this is an argument to be made by those smart people in GSA’s policy office after obtaining public comment, not by the IG in a smoke-filled back room.

Aronie is a partner in the government contracts group of Sheppard Mullin Richter and Hampton in Washington, D.C., and co-author of “Multiple Award Schedule Contracting.” He can be reached at jaronie@sheppardmullin.com or (202) 218-0039.