GAO Reports on How Contracting Officers Select NAICS Codes

A newly released Government Accountability Office report provides a rare peek behind the curtain of how contracting officers assign North American Industry Classification System codes.

Contracting officers are required by 13 C.F.R. § 121.402(b) to designate the NAICS code that “best describes” the work to be performed. It sounds simple enough, but the report reveals that it can be tricky.

The contracting officers interviewed by GAO as part of its December 2017 Report to the Committee on Small Business, House of Representatives said as much, telling GAO that assigning a NAICS can be challenging, especially “when one or more codes could apply to a contract.”

“Best describes” is a lofty principle, but in practice, nothing tells the contracting officer how he or she is supposed to go about determining what NAICS code best describes the work. There are hundreds of codes with wildly different corresponding size standards. Making sense of them all is surely no easy task—especially since none of the agencies studied provide NAICS-specific training.

The selection of one code over another can have a massive impact on any procurement. The NAICS code determines whether a business is “small” for the purposes of that procurement. In terms of dollars, size standards vary in annual revenue from $750,000 to $38.5 million. Employee count size standards vary from 100 to 1,500. Thus, that one decision can dramatically affect the contours of the competition.

The report, given to Congress in December, was the result of interviews with contracting officers and small business specialists from the Departments of the Army, the Navy, Homeland Security, and Health and Human Services. But, somewhat disappointingly, GAO’s sample size appears to be extremely small. GAO only interviewed one contracting officer per agency.

Nevertheless, all four contracting officers told similar tales. The steps they generally take are 1) review the statement of work/performance work statement to get an idea of the type of work being done to assign a preliminary code; 2) conduct/review market research; and 3) seek input from the small business specialist.

Reviewing the work, according to those interviewed, includes checking to see what code the work was previously solicited under, if applicable, and whether similar work has been previously procured by the agency.

Although all four of the contracting officers said that the market research contributes to the decision, GAO found evidence of market research in only two of the four contracts reviewed.

Meanwhile, the mechanism for seeking the input of the small business specialist is simply filing out a form. The small business specialist reviews the form prior to the contracting officer issuing the solicitation.

Not to oversimplify a complicated process, but it sounds like the contracting officers generally pick a code after reviewing the work and as long as they do not get any push back, go with that.

The obvious drawback to this system is that it is heavily dependent on the contracting officer’s personal judgement. As one contracting officer told GAO, “assigning the NAICS code is subjective and two different contracting officers could review the same contract and find different codes to be appropriate.”

GAO, in fact, found evidence that this happens. For example, GAO wrote that an order for “a new closed circuit TV (CCTV) System” went out under NAICS code 541330 (Engineering Services), with a corresponding size standard of $15 million. But an order for “installation of intrusion detection and closed circuit video surveillance” went out under code 541512 (Computer Systems Design Services) with a corresponding size standard of $27.5 million. Thus, although the work was very similar, much larger businesses were eligible to compete for the latter procurement.

GAO also noted the challenge associated with IDIQ contracts, because “the statements of work may cover more than one code.” The SBA attempted to give contracting officers more freedom on that front by issuing a rule in 2013 that allowed the assignment of more than one NAICS code to multiple-award contracts. But, according to the GAO findings, contracting officers do not take advantage of the flexibility, in part because there is not a practical mechanism that would allow them to do so. The contract writing systems which feed into the Federal Procurement Data System-Next Generation (FPDS-NG) only allow for one NAICS code per contract.

The study also gave industry groups and firms the chance to opine. Unsurprisingly, they “expressed concern that some contracting officers assign NAICS codes because they want specific size standards, not because they are the most appropriate codes[.]” Both HHS and SBA pushed back against that idea. The SBA argued that the “results of NAICS code appeals as an indication that the practice of assigning NAICS codes based on the size standard was not widespread.”

But, as we recently pointed out, the relative sparsity of sustained NAICS appeals found in this report does not necessarily mean that a good portion of appeals filed are not successful. Furthermore, the standard on appeal is not whether there is a better NAICS code to describe the work, but whether the code picked was in “clear error of fact or law,” which means that the SBA Office of Hearings and Appeals’ job on appeal is not to determine if the selected code “best describes” the work, just if the selected code was obviously wrong.

Unfortunately, the small sample size means that no hard conclusions can be drawn. However, the report highlights the importance of NAICS codes in small business acquisitions, and suggests that policymakers would be wise to undertake further study to determine if the process of assigning NAICS codes can be improved.