Sorting through domestic preference requirements applicable to government contracts is no simple task. Different agencies like the DOD, FTA, FAA, FHWA, have their own rules applicable to certain programs. Exceptions from those rules can differ when a small business is making the offer. And the rules are subject to change. With the Court of Appeals for the Federal Circuit’s (“Federal Circuit”) decision in Acetris Health LLC v. United States (Fed. Cir. 2/10/2020), the situation is now a little more complicated. The same product may be “U.S. made” for government contracts purposes but considered foreign origin for customs and international trade purposes which triggers US customs duties and tariffs.
Before diving into this case, it is important to cover a few key definitions in the Buy American Act and the Trade Agreements Act of 1979 (“TAA”). Under the Buy American Act FAR clause for supplies (FAR 52.225-1), a contractor is required to deliver only “domestic end products” except to the extent it identified foreign end products in its Buy American Certificate accompanying its bid or proposal. A “domestic end product” is defined as an item manufactured in the U.S. where the cost of its components mined, produced or manufactured in the U.S. exceed 50% of the cost of all of its components. However, if the end product is a commercially available-off-the-shelf (“COTS”) item, the component test is waived. That means the only requirement for COTS items is that they be manufactured in the U.S. regardless of the source of the components.
The TAA operates as a waiver of the Buy American Act to allow the government to purchase products produced in certain countries with which the U.S. has friendly trade relations. The FAR clauses implementing the TAA (FAR 52.225-5 and 52.225-6) apply to solicitations and contracts valued at $182,000 or more. Under these clauses, a contractor can offer “U.S.-made or designed country end products” without regard to Buy American restrictions. A “U.S.-made” end product is defined in FAR 52.225-5 as “an article that is mined, produced, or manufactured in the United States or that is substantially transformed in the U.S. into a new and different article of commerce with a name, character, or use distinct from that of the article or articles from which it was transformed.”
Keen readers will notice the term “U.S.-made end products” under the TAA is slightly different than a “domestic end product” under the Buy American Act. Both contemplate manufacturing in the U.S., but the TAA does not have the Buy American Act’s component test. Additionally, the TAA introduces the concept of “substantial transformation.” These differences are at the heart of the Acetris decision. U.S. Customs and Border Protection (“CBP”) has often been the source of precedent and guidance on country of origin determinations for purposes of BAA and TAA compliance. CBP has generally held that if a drug’s active pharmaceutical ingredient (“API”) originates from a non-designated country (e.g., India or China), then the added steps of combining that API with other non-API ingredients and packaging it in another country does not affect a substantial transformation to alter the country of origin of the API. Further, CBP has held the long-standing opinion that bulk API that is further processed into finished dosage form domestically does not qualify as substantially transformed in the United States and is thus, not a U.S.-made end product.
The issue in Acetris involved the U.S. Department of Veterans Affairs’ (“VA”) purchases of a generic hepatitis B drug called Entecavir. Acetris Health LLC (“Acetris”), a generic pharmaceutical distributor, held several government contracts, including contracts with the VA, for Entecavir. The API in Acetris’ drug was produced in India (not a TAA-compliant country), but the drug’s API and non-API ingredients were measured, weighed, mixed and compounded in the U.S.
The VA requested that Acetris certify its Entecavir as TAA compliant, which it did. VA next requested Acetris obtain rulings from CBP on the country of origin of Entecavir. CBP determined that Acetris’ drug was a product of India because that was where its API was produced and, despite the processing undertaken in the United States, no substantial transformation of the API occurred in the United States. Similarly, CBP found that Acetris’ drug was not manufactured in the U.S. because part of the manufacturing process—creating the API—occurred in India. Acetris challenged the CBP determination at the Court of International Trade (“CIT”), however, the CIT stayed the case pending the outcome of Acetris’ protest discussed below.
Meanwhile, under threat of default termination, Acetris agreed with the VA to a no-cost cancellation of its existing Entecavir contract. The VA then issued a new solicitation for Entecavir. In a showing of great chutzpah, Acetris positioned itself to compete for the new VA contract. Through a series of pre-proposal questions, Acetris asked the VA to confirm it would rely on the CBP determination that Entecavir was not TAA compliant. The VA obliged. Acetris protested the VA’s decision to exclude its Entecavir at the U.S. Court of Federal Claims (“COFC”). The COFC agreed with Acetris and found Entecavir complied with the TAA because it was substantially transformed in the U.S. The COFC held that the VA erred in relying on CBP’s determination to exclude Acetris’ product.
The government appealed the COFC’s decision to the Federal Circuit, which affirmed. The Federal Circuit held that the VA erred in relying on CBP’s determination but had to make its own finding of the product’s country of origin consistent with TAA requirements. The court rejected the government’s argument that the Entecavir pills were a product of India because, by the government’s admission, at least part of the process of making the pills—the final product—occurred in the U.S. and not in India. Acetris had shown Entecavir was manufactured in the U.S. because its components are measured, weighed, mixed and compounded into pill-form in the U.S. The court noted the definition of a “U.S.-made end product” under FAR 52.225-5 did not include a restriction on the origin of components of an end product. Further, the court held a “product need not be wholly manufactured or substantially transformed in the United States to be a ‘U.S.-made end product.’” Therefore, the VA (and CBP) erroneously considered the origin of Entecavir’s active ingredient as conclusive in making their country of origin determinations.
What this means for you
Some contracting officers have outsourced country of origin determinations to CBP, which has required contractors to incur added expense in order to obtain decisions from CBP to substantiate TAA compliance. The Acetris decision provides some welcome guidance to the government contracts community regarding the meaning of the terms “manufacture” and “substantial transformation” as used in the Buy American Act and TAA FAR clauses. There is a surprising lack of court and GAO decisions wrestling with these concepts. Specifically, the Federal Circuit found in Acetris that the procuring agency is “responsible for determining whether an offered product qualifies as U.S.-made end product,” not CBP.
Of course, Acetris’ journey may not be over. The previously-stayed CIT litigation involving Entecavir could resume, which could reinforce differing determinations on the countries of origin for this drug in the government contracts world and the international trade world. The government could petition for cert with the Supreme Court. In the meantime, government contractors should continue to follow our common-sense guidance when dealing with domestic preference rules:
- Understand the source of the requirement
- Do your diligence to determine if a product complies
- When necessary, seek waivers early—before submitting a proposal or bid
Stay up to date—these rules change frequently