Jittery Times for Government Contractors

For all the talk about an improving outlook for the defense industry after a six-year downturn, much anxiety still hangs in the air.

The Pentagon has proposed a budget for 2017 that cuts procurement spending by $7 billion, and contractors will have to wait and see what, if anything, Congress does to beef up that account. In the long term, there are high expectations for new Pentagon investments in technology and changes in its procurement process to step up innovation. And contractors are mapping their competitive positions in hopes of capitalizing on the anticipated new opportunities.

Alas the environment today is quite tense. Things are especially tough for small and medium sized businesses that are finding it more difficult to compete against the larger, more established players.

It has generally been the case in the defense sector that the top-10 prime contractors dominate big-ticket programs, small businesses are guaranteed a share of the work, and mid-size firms move up and down the food chain according to the demand.

The rules of the road are changing, and companies are adapting, either by merging or acquiring competitors, selling off unprofitable businesses or diversifying into civilian markets.

For smaller firms that operate with lower margins for error, the business climate is worrisome, executives and lawmakers assert. Slices of the defense market where upstarts and small businesses have enjoyed success — cybersecurity, information services, data mining — are becoming central elements of the Pentagon’s investment strategy. That means everyone, including major defense contractors and Silicon Valley firms, is gunning for the work.

The competition is fierce, says Dolly Oberoi, CEO of C2 Technologies, a federal contractor. “The big boys want to do everything. They got so desperate they started competing with us in our little pond.” And the regulatory environment doesn’t help, she adds. Government programs that were designed to balance the contracting market and protect small businesses are actually making it worse, Oberoi says during a recent industry conference. A big gripe is the system used by the Small Business Administration to categorize companies by size. This is frustrating, she says, because companies like hers sometimes are disqualified from bids for being too large even though they are substantially smaller than many of their competitors.

“The SBA inhibits growth or kills companies,” she says. “Either you have to start acquiring or get acquired.”

A case in point is the General Services Administration’s contracting vehicle known as OASIS, for “one acquisition solution for integrated services.” This consolidated approach to buying services is favored by many agencies, accounting for nearly a billion dollars in professional services spending last year, with the Air Force as the leading user at $233 million in orders, according to Bloomberg Government.

These contracting methods are hailed for making procurement more efficient but they can be devastating to vendors that don’t fit within the size parameters set by agencies even if their products and services suit the government’s requirement. A contracting vehicle like OASIS favors very large and very small businesses, Oberoi says. She blames the administration for creating a dog-eat-dog atmosphere that doesn’t allow for businesses to grow and encourages corporate consolidation.

The Defense Department has made more targeted moves to increase its share of contracts awarded to small businesses, but the defense sector can be fickle. Small firms have pivoted to homeland security and cyber during the military downturn. “Large companies have money but it’s harder for them to be agile and cost effective in an LPTA environment,” says Oberoi. The government’s shift to LPTA contracts, or low price technically acceptable, has upended the industry. “You have to be smarter rather than bigger.”

Small business owners and entrepreneurs have been vocal about their struggles in the federal contracting world and Congress over the years has passed copious volumes of legislation aimed at easing these concerns. This legislative season is no different. The Republican chairman and the ranking Democrat of the House Small Business Committee, Rep. Steve Chabot of Ohio and Rep. Nydia M. Velázquez of New York are sponsoring a new bipartisan bill called “Defending America’s Small Contractors Act of 2016.”

Both are pressing their case to have the bill inserted in the Fiscal Year 2017 National Defense Authorization Act. This is a Pentagon contracting issue that affects national security, Chabot tells the House Armed Services Committee. “When the Defense Department has fewer offers there is less competition, costs go up and choices are limited. Unfortunately, we continue to see that the number of companies competing for federal contracts is declining,” he adds. “Within the last three years we’ve lost over 25 percent of the small firms registered to do business with the federal government.”

In the defense sector, the rich are getting richer in part by keeping new competitors out, Chabot notes. The number of small business contracts fell 47 percent from 2011, but the size of the average individual small business contract action has more than doubled.

“It’s getting harder for small businesses not easier,” says Velázquez. “Over the years we have seen the value of small businesses’ contracts go up, enabling agencies to meet their goals, but at the same time the number of contractors has dwindled.”

The House Small Business Committee recently marked up the Defending America’s Small Business Contractors Act. One of the provisions would create a voluntary pilot program to provide small businesses with performance ratings based on their previously completed work.

“One challenge facing many small businesses competing for larger federal contracting opportunities is that it is difficult for them to gain recognition for their past first-tier work as subcontractors,” says Rep. Richard Hanna, R-N.Y.

Topics: Business Trends, Doing Business with the Government, Defense Contracting