The Tech Startup's Guide to the Pentagon

Dear “Silicon Valley,”

The Defense Department realizes it needs to do business with you.  However they are a business partner whose process and culture is as foreign to you as any far away market.  This post attempts to outline the differences.

How Government Procurement Differs from Industry
The federal government is broken down into agencies, and each agency runs initiatives called “programs.”  Program Managers (PMs) are like business managers, and Contracting Officers (COs) are independent of them, and enact contracts with industry to effectuate each program’s mission.  

The first thing to realize is that these folks are not into making money.  The government is a public trust, husbanding the taxpayers’ money.  They are risk averse actors who are very process driven.  Congress authorizes and funds these programs annually for the public good, and the PM and CO want to protect the program and not look bad in front of politicians.

The governing regulations are the Defense Federal Acquisitions Regulation Supplement (DFARS) and the Federal Acquisition Regulation (FAR) for the rest of the government.  Remember, bid competition and favoring small/disadvantaged businesses are guiding principles of COs.  Your counsel must have good facility with the DFARS rules and exceptions,…a crafty CO can find a clause to make just about any deal work.

Types of Intellectual Property…with the Government
Imagine you are commissioned to build a sculpture or statue in which you already started work on, or made a miniature version of.  You need a foundation in the ground with concrete and rebar.  Then you need a pedestal.  Lastly you need the structure itself which has both physical property and intellectual property value.  There were artistic drawings, technical drawings, and there is the issue of whether replicas will be sold.   It is crucial to determine who paid for each step of construction and design, and what is considered a material change.  

As a tech entrepreneur, IP is probably your most valuable asset.  With the government you will be dealing with patents and copyrights, which you are probably familiar with.  Trademarks are not dealt with much here, but technical data rights and trade secrets are.  Technical data are written descriptions of technology including blueprints, drawings, test reports, and research.   It is a guide to your product configuration.  Trade secrets include information your company has that 1) is not widely known, 2) has economic value, and 3) that your company routinely takes steps to protect (with NDAs and placing in safes).  It is essential that you have experienced counsel in Intellectual Property with government procurement.

If your company has already funded, produced, and sent a product to market, you have the strongest rights with the government: a Commercial License.  

If your company paid for the development of a technology, you have very favorable Limited Rights; as in limited for the government.  The government can use that version of the technology but cannot share it.

Government Purpose Rights pertain to DoD contracts only.  They are processes and products that were jointly funded by your company and Uncle Sam, and the government, and its contractors, can use the technology for government programs and purposes.  Private contractors cannot legally use the technology for its own purposes.  This requires labeling versions of products and software, and tracing development to dollars.  The level of modification to an original invention is a major topic of dispute.  Government purpose rights last for five years,…but that is negotiable.  

Unlimited Rights occur in what are essentially work-for-hire agreements where the government entirely funds a project.  The government is free to use the technology for its own programs, and give it away to industry.  The iPhone, the Internet, Gore-Tex are all examples of government-funded technology.  As a subcontractor to a Prime Contractor in a work-for-hire situation, you need to stay on guard at the time of contract review to protect your IP.

To sum up: Pre-contract, design, build, and draw up plans for the future to the best of your ability.  While under contract, integrate your product development with your accounting system.  As for your IP rights after the contract,…hopefully your legal, accounting, and engineering teams followed the other advice in this paragraph.

The Way Forward
You need to see government procurement as a great opportunity to serve the country and make some money doing it.  Here are some pointers:

-Learn the organization of the Defense Department writ large, as well as the Military Departments and Commands.  Contracting activities are organized at a relatively low and localized level.  Research the types of Programs and the technologies behind them. 
-The real key to successful contracts is having a relationship with Program Managers and Contracting Officers and learn what capabilities will be needed in the coming years.
-Each contracting unit has a small business advocate whose job is to guide companies likes yours.  Also, the Small Business Administration has plenty of local workshops.
-To repeat, to have the strongest bundle of rights, your lead engineer, accountant, and attorney to work in concert before you go into any contract or subcontract. 

The Pentagon spends north of $100 Billion on contracts every year, and they are looking for small businesses.  This, and the companion piece, should de-mystify the process. 

An addendum from Paxton’s Federal Contract Law Lead Don Holmes:

No one says that dealing with the federal government is easy. Yet large and small contractors continue to do so for various reasons. Over the years they have adopted procedures for dealing with the federal government that may provide better protection for their proprietary data, products and information.  For example:

-- Many contractors will not deal directly with the government. They believe that if they are several contract links away from the government they have better protection against all sorts of government demands, including appropriation of proprietary rights. It is not unusual to see a highly proprietary company selling as a sub-subcontractor, to a sub, who sells to a prime, who may in turn sell to a reseller. As a practical matter this may help protect proprietary rights --as a long-term legal strategy it probably doesn't work.

-- The federal government will undertake a pre-determination of any contractor's legal rights in proprietary information, before a contractor sells anything to the federal government.  The government can sign a written agreement setting out the contractor's proprietary rights.  But, what happens if there is a disagreement later after the proprietary information is disclosed?  This could result in potentially years of litigation at a board of contract appeals or at the US Court of Federal Claims.  Pre-determination is a marginal solution.

--Virtually no subcontractor who has proprietary information or products will disclose that to prime contractors.  They fear that the prime will become one of their competitors and use the proprietary information, notwithstanding contract clauses that say it will not.  It is possible to disclose directly to the federal government, and avoid the prime contractor completely.  But again, you are simply relying upon a contract clause.

-- The government can and will reverse engineer virtually any proprietary product. It has a legal right to do so. It will most often not agree to a no reverse engineering clause as occurs in commercial contracts. The government spends millions of dollars each year on reengineering contractors who tear apart and test products that are proprietary.   They do this to come up with performance data, and in some cases drawings, that can be utilized in re-procurements -- thereby avoiding completely a contractor's proprietary rights claims.

--The Defense Production Act lurks in the background of all agreements -- public and private -- protecting proprietary rights. Given a national security need, the government can expropriate anything of a proprietary nature from a contractor, including forcing him to build the unit and sell it to the government. The only saving point is that the government must pay the contractor its actual costs of production plus a fair profit.

The bottom line is the government has needs that it wants to satisfy. The contractor needs to protect its proprietary data and products.  The contractor needs to do that in a thoughtful and considered way based upon what has gone on in the past, as summarized above.

The contents of this blog and web site are for informational purposes only and do not constitute legal advice. Use of and access to this blog and web site do not create an attorney-client relationship between the user and Paxton Law Group. The opinions expressed on this blog are the opinions of the individual author and may not reflect the opinions of the firm.

The Pentagon's Guide to Silicon Valley

This was an old post on the defunct website of the law firm I used to work for.

The Defense Department realizes that its procurement system cannot supply it with the best technology in the future.  Its Better Buying Power 3.0 initiative, Defense Innovation Initiative, and its Advanced Capability and Deterrent Panel are all attempts to correct this situation.  This post, and its companion post attempts to bridge the cultural gap.

The Difference Between Silicon Valley and the Defense Industry

Here is a real estate analogy to contrast a typical Northern Virginia defense firm with a Northern California technology startup.  One is like a “slum lord”, and the other is like a “house flipper.”  The owner of an old apartment building in an impoverished neighborhood is looking for renters with governmental “Section 8” housing vouchers, and barely keeps the building up to code.  In other words this land lord’s business model focused on government revenue streams and performing upkeep for government inspectors.  The investor-rehabber has a completely different type of business.  In a hot market like San Francisco, not having a tenant raises your property value significantly.  The investor-rehabber would gladly forgo rental income and spend ten times that amount on rehabbing the house to get a big return on investment.  Furthermore, the market is global, to include Chinese, Russian, and Middle Eastern millionaires looking to park their money.  In short, this businessperson wants equity, and is less concerned with property management.  

The DoD is used to firms whose business model revolves around its acquisition and appropriation process.  Thus, Program Managers and Contracting Officers are used to having tremendous leverage in negotiating with these companies.  Some companies use the government to fund their research and products; others have developed smaller products, processes, and services to help the government or prime contractors to the government.  Over time, the focus of these companies tends to become the chase for the next contract option, or to service the newest version of a weapons system.  The focus is less on innovation, and while intellectual property is important, ultimately, survival is about inking contracts with the government.  

Silicon Valley (a metonym for the Bay Area’s tech industry) is a completely different animal.  For many entrepreneurs, and almost all investors, the “exit” is the North Star.  The focus of the company is one piece of technology, and the aim is to raise the value of the company so it will be acquired.  The investor-rehabber paradigm compared to the Northern Virginia’s low-income landlord paradigm in the example above. 

Here are six others differences: 

1. Defense programs move more slowly than Valley product development. 
2. The DC-NoVa area has law firms, consulting firms, and a workforce with a lot of knowledge about governmental regulations and funding processes.  That represents  cultural and professional anathema in California. (What the accompanying blog post hopes to elucidate) 
3. As difficult as it is for an innovative technology firm to convert part of its company to servicing the government, it is nearly impossible for a government contractor to internally convert its culture, and change its processes to market new technology products commercially. 
4. In Silicon Valley, a failed company is just part of R&D in a large economic ecosystem.  In the Washington area, a failed Program is a political disaster.  If the federal government wants to be a proverbial lion in the tech food chain with Googles and Apples (no food pun intended), the Department and its 535 overseers on the Hill will need a transformational change in outlook.   
5. Silicon Valley firms are vigilant about protecting intellectual property and assets, so they are more likely to be vertically integrated.  Or simply buy smaller firms that add capabilities.  This makes subcontracting a problem given the government’s socio-economic policy goals. 
6. Nationality is a big issue with defense contractors.  The large immigrant population of Silicon Valley is a large problem to be navigated for national security work. 

Major Issues to be Worked Through 

The Defense Department needs Silicon Valley’s genius to maintain it’s global dominance.    In the Nov-Dec 2014 Issue of Foreign Affairs, former Deputy Defense Secretary William Lynn describes the history of the defense industry and the need to tap into America’s technology industry.  The Valley is the world’s bleeding edge of technological research, we are lucky to have this ecosystem within our borders.  However, here is a summary of issues, many more complicated than the DoD is used to, in dealing with the Valley:   

Big Picture Innovation

Does it mean supporting and incentivizing companies to have the very best conception of something?  Or spurring a business environment that has a dozen companies with a solution nearly as good as the very best one?  Departmental policy decisions, as well as negotiating tactics of individual contracting officers will determine the quality of products coming from American companies. 

Small Picture Innovation

Realize that the trend in high technology is the “Lean” approach to doing business.  This means a very iterative product development process guided by consumer feedback along the way.  Once the product is developed, then a young company can model its business.  Furthermore, program managers, acquisition officials, and their legislative overseers will have to design a system where the culture of failure is politically acceptable. 

Bid Competition

Traditionally, competition meant better products at lower prices.  However, market research in technology is very difficult.  There are numerous software and hardware projects being developed in secret in garages all over the United States.  By contrast, we know every airplane factory, and those of our adversaries.  Furthermore, the collective imagination of technology innovators far outstrips the ability of a Program Manager generating requirements for a solicitation.  The DoD would do well to ingratiate itself with incubators, venture capital firms, and law firms that are most connected to the newest products in development.  

Small Business

The U.S. Government has a strong bi-partisan agenda to support small businesses through contracting regulations.  The Small Business Administration usually classifies businesses as “small” based on revenues.  This does not include venture capital.  So a company like Facebook or Instagram (which Facebook bought) can go for years without making any money, still get pumped full of venture capital, have a large valuation and still be a small business.  In fact, with such little revenues, the SBA might not have even considered them viable businesses, even though they made revolutionary products with potential governmental value.  

As already mentioned, most technology firms are not set up to farm out subcontracting business, like Lockheed or Boeing.  Ironically, some of that problem is obsolesced by the reality that many “small” businesses have created great products, and are capable of servicing the military in ways that could enhance our forces. 

Pushing Public R&D into the marketplace 

It is well documented that almost all of the technology in the iPhone is based on research commissioned by the American Defense Department.  Much of that research was through the government’s own labs and research organizations.  Thus, there wasn’t the issue of private entities not wanting to share technology for the benefit of the economy.  In fact, a negative side effect of the decades long trend of privatizing historically governmental functions is that modern companies see the government less and less as a public trust, and thus do not feel safe lending them their intellectual property. 

The Way Forward 

Solutions will have to be found. The key for the government is to understand that the company cares most about it’s valuation, and that valuation is based on its technology remaining proprietary.  The onus is thus for skilled contracting officers to use clauses in the FAR that give innovative companies the peace of mind that their core intellectual property will remain viable in the future.  The government will have a lot less leverage in the Valley.

The contents of this blog and web site are for informational purposes only and do not constitute legal advice. Use of and access to this blog and web site do not create an attorney-client relationship between the user and Paxton Law Group. The opinions expressed on this blog are the opinions of the individual author and may not reflect the opinions of the firm.