Court Decision Suggests Small Business Innovation Research Awardees Should File Pre-Award Protests To Enforce Phase III Preference Rights

Congress established the Small Business Innovation Research (“SBIR”) program to encourage small businesses to develop technologies for federal agencies that have the potential for commercialization.  The SBIR program has three phases. Under Phase I, small businesses are invited to submit proposals to conduct research on certain topics. Firms that received Phase I awards may submit proposals for further development work on the topic in Phase II. The agency may award Phase III agreements “for work that derives from, extends, or completes efforts made under prior funding agreements under the SBIR program.” 15 U.S.C. § 638(e)(4)(C). Agencies are required by statute to award Phase III work to “the greatest extent practicable” to the firm that initially developed the technology under a prior SBIR funding agreement, including through the use of sole source awards. 15 U.S.C. § 638(r)(4).

In Lite Machines Corp. v. United States, the Court of Federal Claims recently dismissed a claim brought by an SBIR awardee against the Air Force for an alleged breach of the Phase III preference requirement. While this decision may foreclose claims for “breach” of the Phase III preference requirement, SBIR awardees have other means available to enforce this strong statutory preference. Specifically, SBIR awardees can file a bid protest to challenge an agency’s decision to award Phase III work to another entity. They also may encourage the Small Business Administration (“SBA”) to “appeal” the decision on their behalf. Lite Machines underscores the need for SBIR awardees to act quickly – prior to the award of Phase III work to another entity – to preserve their Phase III preference rights.

Lite Machines v. United States

Between 2008 and 2013, the Air Force awarded Lite Machines a series of SBIR contracts to develop the Tiger Moth Small Unmanned Aerial System (“SUAS”). According to Lite Machines, in 2016 the Air Force seized Lite Machines’ technical data generated during the SBIR contracts to establish new requirements for a similar SUAS that favored Lite Machines’ competitors, including AeroVironments. Lite Machine alleged that the Air Force subsequently awarded $134 million in contracts to AeroVironments to develop its SUAS, in breach of the Phase III preference requirement. Lite Machine claimed $28 million in damages for “economic losses including lost profits.”

The Court granted the Air Force’s motion to dismiss Lite Machines’ complaint in its entirety. The Court rejected the contractor’s argument that the Phase III preference requirement was incorporated into Lite Machines’ SBIR contracts by operation of law. Under the Christian doctrine, a court may insert a mandatory clause required by law into a government contract if it expresses a “significant or deeply engrained strand of public procurement policy.” The Court in Lite Machines declined to read the Phase III preference requirement into the contract because the Air Force retained some discretion under the statute to award Phase III work to an entity other than Lite Machines. Moreover, the Court held that the Christian doctrine did not apply because the statutory requirement is not framed as a contract clause, but rather as a pre-award preference. The Court’s decision reinforces an earlier Federal Circuit decision, Night Vision Corp. v. United States, 469 F.3d 1369, 1373 (Fed. Cir. 2006), which held that an earlier version of the Phase III preference provision did not create a binding contractual requirement.

Although Lite Machines did not have a viable breach of contract claim, the Court observed that Lite Machines “was not without remedies.” The Court noted that Lite Machines could have filed a bid protest to challenge the Air Force’s decision to award Phase III contracts to AeroVironments. See Toyon Research Corp., B-409765, Aug. 5, 2014, 2014 CPD ¶235. The Court further recognized that the SBA could have appealed the Air Force’s decision to award Phase III work to AeroVironments pursuant to Section 4(c)(7)(v) of the SBIR/STTR Policy Directive.

The Takeaway

As the Small Business Administration (“SBA”) recently explained, the Phase III preference requirement “addresses the concern that, at times, agencies have failed to use this authority, bypassed the small business that created the technology, and pursued the Phase III work with another business rather than actively supporting and encouraging the commercialization or further development of [SBIR] technology by the innovative small business that developed the technology.” 84 Fed. Reg. 12794, 12802 (Apr. 2, 2019). The SBA’s observation suggests that SBIR awardees do not always receive Phase III awards “to the greatest extent practicable” as required by law. Lite Machines indicates that SBIR awardees should use the pre-award bid protest and/or the SBA appeal process, as opposed to post-award contract claims, to enforce their Phase III preference rights whenever they learn that an agency intends to award Phase III work to another entity.