Price Escalation Clause
Third Party Procurement
Frequently Asked Questions
Q = Question; A = Answer
Q. We used the price redetermination clause in the Federal Acquisition Regulation (FAR) as the basis for a price redetermination clause in our contract. Is the intent of the price redetermination clause to allow for periodic adjustments to the total costs for each contract task or is the intent of the price redetermination clause to allow for periodic adjustments to the billing rates of the Contractor's personnel? Last year we entered into a cost plus fixed fee, FTA funded personal services contract (using A&E procurement method). We included a price redetermination clause that allows for price redetermination at the end of contract year 2 and in each subsequent contract year.
A. The price redetermination clause you used appears to be the one from FAR 52.216-5, which was designed for fixed price contracts having "unit prices" for itemized supplies or services and a total contract price. However, the CPFF contract you have would appear to have no "unit prices" for services as such, so it is not possible to say how the clause should be applied to your contract. It appears you have various tasks being performed over several years on a cost-reimbursement basis, not fixed price, and therefore you cannot classify the labor billing rates or the overhead rates as "unit prices" unless the contract said they were to be considered "unit prices" for purposes of the redetermination clause.
However, it is clear from the clause and the FAR instructions for its use that it was never intended to apply to elements of cost on a CPFF contract, for which the contractor is supposed to be reimbursed for actual and reasonable costs as determined from FAR Part 31 cost principles and subject to audit of the final costs. You can negotiate ceiling rates for labor and overhead on a CPFF contract, which means the contractor, will be reimbursed for actual costs up to the ceilings but any costs beyond the ceiling rates must be absorbed by the contractor. The contract terms and conditions need to be very clear about these agreements since they confer a great deal of risk on the contractor and any ambiguity will be interpreted by the courts against the owner who drafted the contract. Also, if the parties have agreed that the contract converts to a firm fixed price contract once the limit of costs have been incurred, the contract needs to be exceedingly clear on this point since the contractor is assuming an unlimited upside performance risk. Your contract appears to limit the contractor's flexibility as to how it can spend the money (per the line item budgets) but there is no transfer of performance risk to the contractor. (Revised: July, 2010)
Q. What is the official definition and purpose of price escalation provisions applied to negotiated billing rates?
A. The FTA Best Practices Procurement Manual (BPPM) Section 126.96.36.199. - Fixed Price Contracts, provides a good explanation of when price escalation clauses may be necessary in fixed price contracts, including those for services where the billing rates have been fixed for a number of years. The BPPM guidance is quoted, in part, below and should answer your questions.
Fixed Price Contracts With Economic Price Adjustment - Fixed-price contracts may provide for price adjustments (upward or downward) when specified contingencies occur. These contracts are typically used when there is serious doubt about the stability of selected costs or prices over an extended period of contract performance. For example, a five-year fixed-price contract may present an unusually high cost risk to a contractor for certain commodity prices or labor costs, and the parties may agree to use an economic price adjustment clause. Price adjustments may be based on published indices, actual cost experiences of the contractor for certain materials or labor, or increases or decreases in published prices for specific items. The contract will define the circumstances under which the economic price adjustment will be made and the means whereby it will be calculated. Using economic price adjustment clauses is an excellent way to deal with high-risk situations and avoid having to price the initial contract on the basis of contingencies that may never occur. This technique may also be necessary to get contractors to accept fixed-price contracts that have a lengthy performance period.
You may want to refer to the Federal Acquisition Regulations (FAR), Subpart 16.203 - Fixed-price contracts with economic price adjustment, and the related contract clause language in FAR 52.216-2,3,4. These FAR provisions and contract clauses are not required to be followed by FTA grantees but they may prove helpful in structuring contract language for specific contingencies. The FAR may be accessed online at http://www.acquisition.gov/far/.
(Posted: December, 2011)