Navigating novations in government contract acquisitions

Government contractors frequently seek to expand their business and customer base by acquiring other government contractors, specific business lines, or even individual government contracts. The Anti-Assignment Act, however, prohibits the transfer of government contracts from a government contractor to another party. Despite this restriction, the Federal Acquisition Regulation (FAR) allows the government, when in the government’s interest, to recognize a new contractor as a successor under a government contract when the new party acquires all, or a substantial portion, of the original contractor’s assets related to the contract. This process, known as “novation,” enables the transfer of government contracts with government approval. Below are key considerations for contractors interested in acquiring government contracts through novation.

• When is novation required? The FAR requires novation when a government contract and its related assets are transferred to a third party, resulting in a change in the entity performing under the government contract. As a result, if a buyer acquires the equity of a government contractor and the performing contractor remains unchanged, novation is not necessary.
• Overview of the novation process: The novation process begins after a transaction has closed and the buyer has acquired the assets related to the government contract. The buyer and seller then submit a novation package to the contracting officer, who reviews the information to decide whether to approve the novation. A single novation package for all transferred government contracts is submitted to a specific contracting officer, who conducts the novation analysis for all of the contracts. However, some contracting officers may choose to process novation applications only for the contracts they directly oversee, so the buyer and seller may need to submit additional novation packages on other government contracts to additional contracting officers.
• Novation approval and government discretion: The contracting officer has broad discretion to approve or deny a novation, based on the government’s best interests. Because of this discretion, it is important to maintain a positive relationship with the contracting officer and involve the contracting officer early in the process, which can help build confidence in the new contractor’s suitability and allow for prompt resolution of any questions or concerns. Approval of a novation and execution of the novation agreement can take several months.
• Structuring for novation transactions: Given the potential length and uncertainty of the novation process, the buyer may negotiate a tiered payment structure, holding back a portion of the purchase price until the contracting officer approves the novation. Additionally, the buyer and seller often negotiate interim arrangements, such as a subcontract or transition services agreement, to permit the buyer to perform under the government contract while the novation is pending.
• Required documentation for novation: The FAR requires each party to submit specific documentation related to the transaction, including bills of sale and purchase agreements, balance sheets, legal opinions from counsel, and corporate resolutions approving the transaction. Additionally, the parties must submit a novation agreement, which is in a standard form included in the FAR, for execution on approval of the novation.
• Demonstrating capability to perform: The buyer must demonstrate to the contracting officer that it is capable of performing under the government contracts. To satisfy this requirement, the FAR requires the buyer to submit evidence of its capability to perform, which can include a capabilities statement and documentation of relevant past performance, especially if the buyer has experience with similar contracts or work.

Novation is a critical process for transferring government contracts in asset acquisitions. By understanding the requirements, maintaining open communication with contracting officers, and preparing thorough documentation, contractors can help ensure a smooth transition and continued contract performance.

McDonald Hopkins M&A attorney Francis Massaro is available to answer questions regarding novations and other issues in mergers & acquisitions in the government contracts space.