OMB Directs Agencies to Apply Small Business "Rule of Two" to Task & Delivery Orders

In a memorandum issued on January 25, the Office of Management and Budget has ordered executive agencies to apply the FAR's small business "rule of two" to task and delivery orders competed under multiple-award contracts. It's a change that, when enacted, could--and probably should--mean billions more in federal prime contracting dollars for small businesses.

Let's take a look at the existing state of the law and how the OMB directive will impact it.

What is the Small Business "Rule of Two"?

First things first--what exactly is the small business "rule of two" anyway?

The rule of two is the federal government's primary mechanism for ensuring that small businesses receive a significant percentage of federal contracting dollars. Codified in FAR 19.502-2, the rule of two requires government Contracting Officers to set aside contracting opportunities exclusively for small businesses when certain conditions are met.

First, with respect to opportunities with an anticipated dollar value above the micro-purchase threshold but below the simplified acquisition threshold (both of which are defined in FAR 2.101), the rule of two requires, in relevant part:

Each acquisition of supplies or services that has an anticipated dollar value above the micro-purchase threshold, but not over the simplified acquisition threshold, shall be set aside for small business unless the contracting officer determines there is not a reasonable expectation of obtaining offers from two or more responsible small business concerns that are competitive in terms of fair market prices, quality, and delivery.

For acquisitions above the simplified acquisition threshold, a slightly looser--but still powerful--small business preference applies:

The contracting officer shall set aside any acquisition over the simplified acquisition threshold for small business participation when there is a reasonable expectation that- (1) Offers will be obtained from at least two responsible small business concerns; and (2) Award will be made at fair market prices.

The rule of two, then, requires that many government contracting opportunities be set aside exclusively for small businesses. These requirements are taken seriously: the GAO has sustained bid protests when agencies unreasonably failed to set aside acquisitions.

Does the Rule of Two Currently Apply to Task and Delivery Orders?

The GAO has held that agencies "may," but need not, apply the rule of two when competing orders under multiple-award contracts.

It wasn't always that way. Back in 2008, the GAO issued its decision in Delex Systems, Inc., B-400403 (Oct. 8, 2008). In Delex Systems, the GAO held that the rule of two applied to task and delivery order competitions among multiple-award contract holders. As a result, the GAO determined, a procuring agency “is required to limit the competition for [task or delivery orders] if it concludes that it has a reasonable expectation of receiving offers from at least two responsible small business concerns, and concludes that award can be made at a fair market price.” The SBA supported the GAO’s ruling in Delex Systems, and the decision was widely viewed as an important victory for small businesses.

But the victory didn't last long.

In 2010, Congress passed the Small Business Jobs Act. One section of the Small Business Jobs Act specified that regulations were to be adopted to “establish guidance under which Federal agencies may, at their discretion” set aside task or delivery orders under multiple-award contracts. In 2011, the FAR was amended to conform with the Small Business Jobs Act, and the FAR Council adopted the same terminology used in the statute. Following the amendment, FAR 19.502-4 states that “contracting officers may, at their discretion” set aside orders under multiple-award contracts. Similar language appears in FAR 16.505.

Unsurprisingly, in light of the common understanding of the word "discretion," the GAO reversed course. In Edmond Scientific Company, B-410179, B-410179.2 (Nov. 12, 2014), the GAO expressly stated that the holding in Delex Systems is no longer good law.

“In our view,” the GAO wrote, “the holding in Delex has been superseded by the passage of the section 1331 of the Small Business Jobs Act . . ..” The GAO continued, “[w]e view this statutory grant of discretion as not requiring the Rule of Two, except when a multiple award contract, or a solicitation for a task order, expressly anticipates the use of the Rule.”

That's where things stand today.

In a related matter, small businesses achieved a victory in 2021, when the Court of Federal Claims ruled that agencies must apply the rule of two before making the decision to use a multiple-award vehicle. The Court's ruling, while significant, did not affect what happens after the decision to use a multiple-award vehicle is made. Under current law, the small business rule of two is optional at the ordering stage.

The OMB's Rule of Two Directive

That brings us to the OMB's January 25 directive. The directive comes in a memorandum titled "Increasing Small Business Participation on Multiple Award Contracts," which contains several initiatives to "promote a diverse federal supplier base and advance contract stewardship when using multiple-award contracts."

The memorandum starts by setting forth a general policy of increasing small business participation under multiple-award contracts:

It is important to maintain and strengthen the Nation’s small business industrial base, tap into the agility and innovation that is more readily available with small firms, and continue to realize the benefits of using multiple-award contracts. Competitive small businesses that are able to participate on multiple-award contracts may find it easier to compete for work under the reduced administrative burden and simpler evaluation procedures used to support order competitions rather than pursuing competitions on the open market. In addition, a number of multiple-award contracts have been set aside exclusively for small business contract holders and many of these firms have grown to become large businesses, increasing competition in unrestricted multiple-award contracts and further building the economic strength of the country.

With respect to the Rule of Two, the memorandum directs Contracting Officers to "[a]pply the rule of two to contract orders, with limited exception":

Except for orders citing an exception to competition (FAR § 16.505(b)(2), exceptions to fair opportunity, or agency procedures that reflect an appropriate exception), agencies should set aside orders over the micro-purchase threshold (MPT) for small business contract holders when the contracting officer determines there is a reasonable expectation of obtaining offers from two or more small business contract holders under the multiple-award contract that are competitive in terms of market prices, quality, and delivery.

In a footnote, the memorandum also states that the directive does not apply to the GSA Schedule.

The memorandum says that if an agency does not use an order-level set-aside, the Contracting Officer should "document the basis for the determination [not to use a set-aside] in accordance with agency procedures and:

explain in the documentation 1) how both small-business market research (including research of small businesses not on the multiple-award contract under which the order would be placed) and mission considerations (e.g., desired terms and conditions, performance periods, past performance of potential sources) informed the agency’s basis for choosing the multiple-award contract to fulfill its needs; and 2) what market research the agency conducted within the past 18 months, which could include research that was conducted when establishing the multiple-award contract or deciding to use another agency’s multiple-award contract on a repetitive basis[.]

The Contracting Officer must also "provide a copy of the documentation to the small business specialist for any order over the MPT and ensure the specialist has a reasonable opportunity to respond."

In short, then, with limited exceptions, the OMB directive tells agencies to stop treating the rule of two as optional when it comes to task and delivery order competitions. Unless an exception applies, the rule of two should be applied at the ordering level.

When Will This Change Be Implemented?

For small businesses, this change can't come soon enough. The issuance of the memorandum, however, doesn't mean that the rule of two applies to orders immediately.

The memorandum says that "SBA and the agency members of the FAR Council have each begun developing proposed regulatory amendments to address these actions." That's good news, but even a proposed amendment in development can take a long time to make it onto the books.

With this in mind, the memorandum states that "[i]n advance of any finalization of such regulatory amendments . . . [the Office of Federal Procurement Policy] encourages early agency adoption" of the revised policy on the rule of two, as well as the other actions called for by the memorandum. Such "early agency adoption" would likely take the form of FAR class deviations issued pursuant to FAR 1.4. Additionally, the SBA, FAR Council or both could issue an interim rule to make the directive effective pending adoption of a final rule.

A Few Final Thoughts

The application of the rule of two to task and delivery orders has been a subject of debate for years. As agencies increasingly rely upon multiple-award contracts to fulfill their needs, it has become increasingly important for policymakers to ensure that small businesses don't get left by the wayside.

The OMB's memorandum, when enacted, will be a major step toward increasing small business participation on multiple-award contracts and will almost certainly lead to billions more in federal contracting awards for small businesses. I'll be keeping my eyes peeled for the next steps in this process.

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Boring but important disclaimer: The information in this article is not, nor is it intended to be, legal advice. You should consult an attorney for individual advice regarding your own situation.