Accommodating Change in Public Sector Contracts

January 25, 2011

In the December 2010/January 2011 edition of Computers & Law (Vol 21, Issue 5), John Yates argued convincingly that the public sector (and the lawyers and consultants they engage) need a better approach to procurement given the coalition government’s policies towards contracting and cost-savings.  John’s points were very well made, but there are further procurement law ramifications to the current spending cuts in the way that public bodies are seeking to achieve savings through making changes to existing contracts. This is an area of increasing legal activity as buyers and sellers look to deal with complex balances of risk and benefit. 

Whilst formal, big ticket procurements are infrequent and occasional within any given organisation, the accommodation of change is an ongoing concern for technical, contract management and service delivery teams. Change control processes are written into most long-term contracts to formally recognise at the outset that the contract will need to vary over its lifetime as technology and best practice develop. Change (or what some buyers and sellers optimistically label innovation) is part of the service – it is part and parcel of business as usual. However, we have seen a recent increase in public bodies looking to make more fundamental, strategic changes to their contracts. This has been spurred partly by constraints on budgets and partly by the Cabinet Office’s moratorium on new ICT procurements. The types of strategic changes being pursued include: 

·       Contract extension – a lack of internal resources is tempting many departments and agencies to look to extend the term of their existing contracts and therefore delay the point where they need to conduct a new procurement (no doubt actively encouraged by suppliers willing to cut deals to extend their revenue streams).

·       Contract expansion – authorities who have stable, mature IT services are trying to share these with other public bodies to benefit from reduced charges offered by suppliers keen to win new customers.

·       Additional services – the few public bodies who are currently looking to add to their portfolio of services are more often looking to avoid running fresh procurements and instead add these new services into their existing contracts with suppliers.

·       Price and/or scope reductions – the most common forms of change we are seeing are those that look to trade scope and price reductions, eg by loosening service levels or removing services now considered ‘nice-to-haves’. 

Applicable Law 

Accommodating changes to existing contracts has always presented at least a theoretical procurement law risk (although challenges in the UK have been very rare). Where the nature and scope of the original obligations under a contract are varied in a material sense, those changes may amount to the award of a new contract which should be procured in accordance with the Public Contracts Regulations 2006 (SI 2006/05). This principle emerges from the general EU Treaty principles of transparency and equal treatment – companies bidding for public sector work should understand at the procurement stage what they are bidding for. If the services change fundamentally part way through the contract term, how can an authority be sure that its supplier remains the best company for the job when its original evaluation was not for those adjusted services? 

The leading ECJ case of Pressetext Nachrichtenagentur v Republik Osterrich (C-454/06) stated that amendments to a contract constitute a new award when they are materially different in character from the original contract and therefore demonstrate an intention by the parties to re-negotiate the essential terms of the contract. There is no complete list of what constitutes a material change – this depends largely on the market context and types of services – but Pressetext did give three example situations of material amendments. These were: 

1.    conditions which, had they been part of the initial award procedure, would have allowed other tenders to be admitted or accepted;

2.    conditions which extend the scope of the contract considerably to encompass services not initially covered; and

3.    conditions which change the economic balance of the contract in a manner which was not provided for in the initial contract. 

In reality, these examples aren’t terribly enlightening. How can a public body tell if it might have attracted new or different bids? What is a ‘considerable’ expansion of scope? What constitutes a change to the economic balance of the contract? Answering these questions requires consideration of the context of the contract and an understanding of the attitudes of competing suppliers. In short, this is not just a strict legal question but a legal question that requires an in-depth understanding of the relevant market place. This is especially true of complex ICT contracts. In The Law of Public and Utilities Procurement (2nd Edition, 2005), Professor Sue Arrowsmith argued reasonably that certain conditions should be taken into account that could justify a change or series of changes. These included changes that were: 

·       unilateral and unforeseen but made in accordance with specific change mechanisms in the current contract;

·       in line with the reasonable expectations of industry; or

·       in contracts that were by their nature intended to be innovative, long-term and complex and where comprehensive advance planning is difficult. 

The theme of these conditions, which I still consider to be compelling, is that no one has been disadvantaged because the public body is acting in accordance with expectations it set during the original procurement. Public sector ICT contracts have generally been long-term, complex and innovative and IT suppliers have understood this and expected that both their and their competitors’ contracts will be amended and developed over their lifetimes. Everyone expects there to be changes agreed. 

Other Considerations 

I want to make two further important notes at this stage. Firstly, public bodies need to be watchful of the accumulated spend under their contracts. Their original OJEU Notice will have included a maximum spend figure and so authorities need to be careful that changes do not take their total spend above this figure. This is because, as mentioned above, materiality of change is a very difficult concept to prove one way or another. A maximum spend number is clear and has been published – establishing it has been exceeded is easy to do and difficult to raise a defence against. Any would-be challenger would have a strong case to set aside any contract spend above the published maximum and trigger a competitive procurement. 

Secondly, reg 14 of the 2006 Regulations allows a contracting authority to use the negotiated procedure with a single bidder and without following the full competitive process if one of a given set of reasons applies (eg where additional work has become necessary due to unforeseen circumstances and where such work cannot be carried out separately from the original contract for technical or economic reasons without major inconvenience to the contracting authority). It is not sufficient to argue that it is technically easier and/or cheaper for an existing supplier to carry out a new piece of work. The contracting authority must demonstrate that it cannot be carried out by anyone else without causing major inconvenience. 

Increasing Problems? 

In the past there has been limited challenge or complaint (either publicly or privately) in relation to the change processes operated by contracting authorities. However, in the current race to cut costs, public bodies need to remember that the procurement rules are intended to defend against market distortion (the achievement of value for money by the public sector is very much a happy side effect of well-run procurement). That is to say, it is no defence to a breach of procurement law to say that it would have cost the contracting authority more time and money to run a proper procurement.  

A number of factors are increasing the risk that changes to existing contracts will attract more attention from aggrieved competitors:

·       As stated earlier, the scale of changes public bodies are currently seeking to introduce is increasing from a business as usual to a strategic level. There is more money at stake in relation to each change and the changes being proposed are more fundamental.

·       The implementation of the EU Remedies Directive through the Public Contracts (Amendment) Regulations 2009 has increased the likelihood of a challenger achieving a meaningful outcome if the challenge was successful in court through the amendment to the contract being set aside. This is especially valuable to a challenger where the amendment extends the term of the contract or expands its user base. Assuming the service is essential (and public bodies aren’t currently spending much on things that aren’t essential), the public body is likely to be forced into running a procurement process (or running a mini-competition under an existing framework to which the challenger might be a party).

·       The 2009 Regulations also introduced the possibility of a ‘dissuasive fine’ being imposed on public bodies which breached procurement rules. Public bodies don’t have the finances to take risks that could lead to significant fines so would-be challengers are increasingly happy to issue informal warnings to public bodies – threatening a challenge to get the public body to consider its services, even if it would not in fact spend money on a formal challenge procedure.

·       The increasing tendency to extend contracts and use pan-government frameworks has left suppliers with a smaller pipeline of new opportunities. With their jobs under threat, individuals within suppliers are keen to see public bodies start buying again. The process of re-negotiating with Cabinet Office has been a painful experience for many suppliers and their senior managers. There have been cost savings achieved and the Cabinet Office was correct to take a tougher, more co-ordinated line with suppliers but this has undermined any goodwill or feeling of partnership between suppliers and the public sector. This makes suppliers more likely to complain if they feel aggrieved in future.

·       There are an increasing number of new market entrants (eg cloud computing providers, Indian or Chinese vendors, SMEs) who feel there are significant barriers to entry to the public sector market. The increasing tendency to extend contracts, share services and use (abuse?) frameworks is provocative to those outside of the market who would be keen to participate in it. There is a fear that the process of re-negotiations with existing suppliers has given them an opportunity to lock up the market place for a further number of years. These new market entrants will be watching the government to see how it keeps its promises to open up the public procurement process.

·       Underpinning all of the above is the government’s transparency agenda. The changes public bodies are looking to make will increasingly be visible to would-be challengers, the media and the wider public. No doubt they will use this information to turn a spotlight on indiscretions through the threat of challenge or publicity.  

Practical Implications 

None of this means that public bodies should stop looking to improve their current contracts, identify saving, eliminate waste or eradicate non-essential services. As John Yates identified in his article, too few of the public sector’s contracts are designed to offer best value and the procurement processes and contracts have driven all sorts of inefficient and wasteful behaviour. However, public bodies need to recognise that a fair and open market place is in their long-term interests so any major change should be subjected to a risk-benefit analysis, looking in turn at each of the four elements set out in Figure 1 – (i) Is the change consistent with the scope of the original OJEU Notice? (ii) Are there mechanisms within the contract that anticipate a change of this type? (iii) Are the amendments material changes to the essential terms of the contract? and (iv) What is the likelihood of someone challenging (based on the likely outcome of a challenge and the remedies that might result)? 

Figure 1 – Analysing the risks in amending contracts 

Figure 1

So, looking at the four categories of strategic change we identified at the outset, what are the key considerations in each case? It is worth bearing in mind, that most public bodies are seeking to implement a cocktail of these changes (eg negotiate a reduction in cost and service by offering an extension or improving attractiveness of a shared service to other bodies by adding additional services). 




Contract Extension

·   An authority wishes to extend an existing contract for 2 years rather than run a costly and time consuming procurement exercise

·   Its supplier may be willing to offer a price discount or additional services in order to secure an extension

·  Does the OJEU Notice fix a maximum contract term?

·  Does the contract include the right to extend?

·  If yes, will the value of the extension exceed any maximum spend ceiling in the OJEU Notice?

·  If no, will the value of the extension exceed thresholds for procurement?

·  Are there other suppliers likely to bid for a new contract?

·  Will the 2 years be used to eliminate any barriers to transition to a new supplier or adopt a cheaper delivery model to support greater competition at re-procurement (ie is there any motivation that is pro-competition to justify a short-term compromise)?

Contract Expansion

·   An authority has a good service being provided which it would like to share with other contracting authorities

·   Its supplier may be willing to offer a price discount based on additional volumes

· Do the OJEU Notice and contract allow for additional customers or pan-government use?

· Will the maximum OJEU value be exceeded by adding new customer spend?

· Who bears the procurement law risk – the original customer or each new customer?

· Does the expansion require changes to the payment, service or contract models – all of which would indicate a fundamental change?

· Are suppliers to other authorities losing out through the consolidation of demand? Is this likely to force them to consider challenging?

Additional Services

·   A supplier has identified a business need and developed an innovative new service it can provide to the Authority

·   The customer is keen on the service but would probably not go to the trouble of running a procurement for it

· Does the contract include a change control process? The more mechanistic or procedural the better – the more scope the process leaves for negotiation, the more at risk it is of successful challenge.

· Does any reg 14 exemption apply?

· Will the cost of the additional service exceed thresholds for procurement and/or exceed any maximum spend ceiling in the OJEU Notice?

· If the amended contract was set aside, would other suppliers see any benefit? If not, it is less likely to lead to challenge.

Reduction of Scope and Price

·   An authority is looking to reduce costs by scaling back services or take advantage of a shared service

·   Its supplier may be willing to offer a price discount as a result of recent pan-government supplier re-negotiations

· Would other suppliers who were originally excluded or de-selected in the original procurement have been able to provide the scaled-back service (eg if the authority removes data centre provision or applications development from its requirements)?

· Does the contract include gainshare mechanisms or a scaling mechanism that might suggest down-scaling was envisaged from the outset? Public bodies are increasingly procuring catalogues of services with transparent pricing for different elements of service

· Likely to be a more common problem going forward as public bodies come to terms with their greatly reduced budgets. If central government mandates changes to contracts for departments or agencies, who is responsible for picking up the bill if that change is challenged?


An issue for suppliers as well as customers 

As we have seen, the 2009 Regulations mean that improperly procured contracts (including changes to existing contracts) can be shortened or set aside. In complex ICT environments, however, this is not as simple as just returning goods and/or payments. If a supplier has invested capital in changing a service that is then set aside, who bears the costs? A good example would be a vendor who scales up its data centre infrastructure to accommodate new customers as part of a shared service arrangement under a contract expansion. If the decision to provide the infrastructure as a pan-government service was successfully challenged, would the supplier be entitled to seek reimbursement of its wasted costs? If there is a risk of procurement law challenge, will the supplier be able to account for any increased revenue under the amended contract? 

Does a public body owe its suppliers a duty of care that it will have run a compliant procurement? Or should suppliers be paying much closer attention to procurement law risk in any change where they are being asked to make significant investment? Savvy suppliers will be asking public sector customers for collateral agreements indemnifying them against such procurement law risks but public bodies cannot afford to give them. Will the Cabinet Office or Treasury be able to underwrite any new appetite for risk-taking in procurement law models to encourage public bodies and suppliers to invest in long-term changes? Suffice to say, you can expect the accommodation of significant contract changes within procurement law regulations to be a growing interest area as public bodies try to respond to the scale of budget reductions that are being imposed upon them.

Barry Jennings is a senior associate in Bird & Bird’s commercial department He specialises in ICT matters, major public sector projects and cloud computing: