ComplianceFinanceOctober 24, 2019

Subcontracting provides huge government contracting opportunities

Assess the opportunities for small businesses doing business as a subcontractor for a prime contractor with the government. Being a subcontractor permits you to participate in the government contracting arena without dealing directly with the government since you'll be working for the primary contractor, and not the government directly.

OK, so maybe you tried several times to get a government contract and are not satisfied with the results. Or perhaps you don't feel quite ready to be a prime contractor and wish there were a way to ease into the government contracting business and learn gradually. Or maybe you are the type of person who finds dealing directly with government structure a bit daunting, but would still like to participate in the multi-billion dollar government market.

If you fit into any of these categories, then you are in luck because there is an excellent option: You can become a subcontractor to a prime that has a government contract. As a subcontractor, you would enter into an agreement with the prime to provide supplies and/or services that the prime needs to fulfill the requirements of its government contract. As such, your contractual agreement would be with the prime, not the government, and would provide an opportunity for you to learn the ropes from someone who is familiar with all the rules, regulations, and what is required in dealing with the government.

Read on to get a feel for the opportunity that exists for subcontractors to government primes, as well as what you need to know to succeed in your bid to be a sub, including how to lay the proper groundwork and the secrets that you need to know to tip the scales in your favor.

What are the sub-opportunities?

There is a huge market available to you as a subcontractor for a government prime. In FY 2008, for example, about 100 of the top DoD prime contractors were awarded $369 billion in contracts, of which $160.7 billion (or 37.2 percent) was awarded to small businesses. Specific civilian statistics are more difficult to identify, but they are also impressive.

Government rules regarding primes and subs have changed over the years, and current regulations are designed to assure sub-opportunities. Even so, a new practice known as contract bundling is changing the way small businesses get contracts from the government.

Prime-time players and our top picks

There are many sub-opportunities to be a subcontractor for a large prime contracting firm for the federal government.

Following is a listing of some of the big players in government contracting and their areas of interest. This data should give you some understanding of the amount of contract support that the large primes provide to the federal government. Note that this is the most current data that we had available to us at the time of publication.

Following are our picks of the 20 federal contractors out of the top 100 that we think small businesses stand the best chance of getting some work from. We eliminated foreign companies because they are not required to comply with laws protecting subcontractors. (We are not saying that they wouldn't, but it is an issue that you don't have to even think about when you subcontract with U.S. manufacturers.)

We also eliminated educational institutions when picking our top 20. While they may offer some service opportunities, they are generally looking for very specialized expertise, and opportunities are thus very limited for the general population of small businesses.

Our top 20 federal contractors
Federal Contractor Total $ Awards for 2008
Lockheed Martin Corporation $27,320,616,068
Boeing Company $20,861,418,122
Northrop Grumman Corporation $16,769,641,721
General Dynamics Corporation $11,472,032,565
Raytheon Company $10,411,293,336
L-3 Communications Holding Inc $5,039,851,151
United Technologies Corp. $4,574,841,469
General Electric Co. $2,933,412,010
Computer Sciences Corporation $2,763,028,827
ITT Corporation $1,746,012,846
Textron Inc. $1,664,145,663
Honeywell Inc. $1,543,035,227
Alliant Techsystems Inc. $1,267,797,253
Booz Allen Hamilton Inc. $1,224,531,249
The Alliance Contractor Team $999,318,445
Oshkosh Truck Corp. $947,223,894
General Motors Corp. $806,377,723
General Atomics Technology Corp. $676,008,667
McKesson Corp. $670,352,054
Aerospace Corp. $653,969,926

Government rules assure sub-opportunities

One of the government requirements that primes must meet in order to be awarded a federal contract really works to generate a significant market for small business subcontractors.

Major prime contractors and subcontractors receiving contracts valued over $500,000 ($1 million for construction) are required by federal regulations to develop plans and goals for subcontracting with small businesses, small disadvantaged businesses, women-owned small businesses, Historically Underutilized Business Zone (HUBZone) small businesses, and service-disabled veteran-owned small businesses. Under the law, if a prime contractor selected by the government fails to negotiate an acceptable subcontracting plan addressing all of these groups, it will not be awarded the contract.

It is easy to see why this requirement alone generates a significant and on-going subcontracting opportunity market. It is also easy to see why primes are always looking for "good" small business subcontractors. They need you in order to be able to do business with the government.

Note that if a prime has a federal contract that requires it to develop a subcontracting plan and goals, only small disadvantaged [i.e., small disadvantaged owned and 8(a)] and HUBZone businesses that are officially certified at the federal level can be counted toward meeting plan and goal requirements. Currently, federal certification is not required for small businesses, women-owned small businesses, or veteran- or disabled veteran-owned small businesses; self-declaration is sufficient.

Since certification is required before a prime can count a small disadvantaged or HUBZone subcontractor toward meeting its subcontracting plan requirements, it is to your benefit to have your certification available when you meet with the prime contractor or other company representative for the first time. Being able to prove that you are officially certified could actually tip the scales in your favor over another sub that might still be in the process.

Another reason primes need good subcontractors is that most prime contracts are so big that the primes cannot do everything in-house, and they have needs that only small businesses can fulfill. Because of the size of the contracts, the economic situation, and the fact that one company is buying out another company that's buying out another company, and so on and so on, many of the big primes can't manufacture the end product like they used to. Instead, they just get the parts from other sources and then become the assembler for the product. All the manufacturing expertise that was originally in the company that did all the work is often dissipated, so it now has to farm that out to subcontractors.

So, if you can make a prime's life easier by helping it do its job well and fulfill on its government contract efficiently, on time, and with quality products/services, you have a great chance of creating a long, rewarding relationship.

Primes depend on subs

The following are examples of how much primes depend on subs:

  • AlliedSignal, consistently among the top prime contractors, depends on materials and components from 7,500 to 10,000 suppliers who accounted for 60 percent of its defense contract costs at one time.
  • Sixty percent of the dollar value of Pratt & Whitney's military aircraft engines goes to suppliers.
  • To build the inertial guidance system for the MX missile, Northrop relied on more than 500 subcontractors to make 19,000 parts.
  • At Lockheed/Fort Worth, subcontracts consumed 75 percent of the cost of making the F-16 aircraft.

Bundling increases sub-opportunities

Another factor that has increased subcontracting opportunities, while at the same time decreasing prime contracting opportunities, for small businesses is the recent (and controversial) trend by federal agencies of combining or bundling small contracts for different activities or requirements into large contract packages.

The government maintains that combining several smaller projects under one large umbrella contract is more efficient than managing several smaller contracts, allowing it to leverage its purchasing power to its advantage and to reduce its operating costs.

However, the umbrella contracts are too large for small and mid-size companies to realistically handle and often require project management capability that they usually don't have. The upshot is that thousands of small businesses have lost federal contracts in recent years because government agencies bundled contracts into large packages that were awarded to big businesses.

But there is a silver lining in all of this: Many big companies that get these awards are managers, not doers, and therefore must find capable subcontractors to help get the work done.

There is another boon to prospective small business subs. Under new SBA guidelines, if a bundled contract is seen as a necessity by the buying agency, the agency must establish a significant evaluation factor that will allow, to the maximum extent possible, subcontracting by small businesses. Part of this may include evaluating the prime contractor's past efforts in providing small firms with the chance to subcontract.

Effects of bundling. The Small Business Reauthorization Act of 1997 stated that federal agencies are allowed to bundle contracts only to achieve "measurably substantial benefits" in terms of cost, shorter acquisition cycles, or better terms and conditions, among other benefits. Congress and the SBA, which have been tracking the increased use of this trend, have been concerned that if left unchecked the trend could lead to a decrease in prime federal contracting with small and mid-size businesses, which, according to 1998 statistics, averages about $40 billion per year of the $180 billion total.

Recently, the SBA has issued new rules that prohibit government buying agencies from combining contracts unless it is necessary and they can document "measurably substantial benefits" from doing so. In a move that may enable small businesses to compete for big umbrella contracts that, to date, only big companies could handle, the SBA also has established guidelines for small businesses that want to create joint ventures to go after bundled contracts. Under the former rules, small businesses banding together were sometimes disqualified because the resulting new employee count or combined revenues would exceed SBA's definition of a small business. However, the new SBA guidelines provide that, if the firms are small before they enter the arrangement, a joint venture won't change that status.

According to a study released by Congress, the number of federal contracts fell 50 percent from 4.4 million at its peak to 2.3 million in 2005. This bundling issue is making it harder for small businesses to compete. More and more, communities and states are banding companies together regionally to bid on larger contracts (flexible networks). This is one solution to bundling, but it's not going to fix the problem of larger contracts becoming unreachable to small businesses.

Advantages of subcontracting

As a subcontractor, your agreement to provide supplies and/or services would be with the prime; you would have no contractual relationship with the government. Therefore, you have another entity—-the prime, in this case—between you and the government.

This can work to your advantage since dealing with a prime is generally more straightforward, less complicated, and less burdensome than dealing directly with the government. Administrative requirements are reduced. In addition, government rules offer more protection to subs when it's time to be paid because the subs are required to get their money before the prime does.

Although the primes are looking for good suppliers, the key operative word is "good." You are not going to get a contract just because you're small, minority, woman-owned, or some other defined category. You still have to supply them with good quality products on time and at a competitive price.

Less administrative burden. In general, there is less administrative burden for a subcontractor because many of the administrative requirements imposed by the government are borne by the prime. Some burdens might pass through or "flow down" to subcontractors, but there are relatively few. Also, the dollar value of a subcontract is often below the dollar threshold that must be reached before many of the government requirements kick in.

Have a problem while working on the job? If your contract is directly with the government, you would have to follow a certain prescribed procedure and chain of command, as would the government, for submitting your problem and getting it resolved.

If your contract is with a prime, you could probably get your problem resolved with a phone call. There will be structure in dealing with a prime, but it is not as rigid as the government structure. In addition, there is another advantage—payment protection.

More protection. Traditionally, small businesses have dreamed of doing business with one of the "Big 3" automakers. Associated with doing subcontracting work for any big player is the perception that you are part of a small, but "elite" group of small businesses that will always have work and will end up making lots and lots of money.

However, perception is not reality, and there are some definite disadvantages that you could experience in working for the Big 3 (or for any other big commercial company, for that matter) that you won't experience in working for a government prime. Some subcontractors to big players have found themselves dependent on these companies for 50 to 90 percent of their work and, because of that, having to work on slimmer and slimmer margins when "requested" to do so. It's easy to see why these small companies probably end up feeling more "stuck" than "elite."

Why won't you experience this same thing working for a government prime? Because just as the government is required, by law, to pay its contractors within 30 days after receiving a proper invoice, so are government primes required, by contract, to pay their subcontractors.

In fact, contractors do not get paid until they have shown proof that they have paid their subcontractors. This is called "flow down"—where the government requires specific prime contract requirements to flow down to subcontractors and be incorporated into their subcontracts.

However, there is a downside of "flow down." For example, if right now you are thinking, "Great! If I have no contractual relationship with the government, I won't have to deal with all that government paperwork and all those rules and requirements," you'd better think again. If the contract is complex, you could actually be required to put up with some of the same paperwork, rules, and obligations as the prime under a "flow down" clause in your subcontract.

Flow-down clauses are especially common in government and construction subcontracts. The government, recognizing the need to assure that important federal policies are followed throughout performance sometimes will require specific prime contract requirements to flow down to subcontractors and be incorporated into their subcontracts.

The usual flow-down clause will incorporate, by reference, parts of the prime contract into the subcontract. Such clauses bind the subcontractor to the prime to the same extent that the prime is bound to the government. In effect, the prime contractor's duties and obligations "flow down" to the subcontractor. What was that about no paperwork?

However, if you have a problem with a prime contractor that involves a flow-down clause in the prime contract concerning subcontractors, such as paying for work performed or some technical issue, the government could possibly decide to step in on your side and help you fix it. (This depends on the nature and severity of the problem. There is no guarantee that the government will do anything.) However, if your problem does not involve a government flow-down requirement concerning subcontractors, you are on your own; the government will not help you.

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