Purpose: To reiterate long-standing guidelines with respect to extending contracts through the exercise of contract options.

Background: From time to time, procurement agencies enter into contracts that contain provisions permitting the parties to extend (or renew) the contracts past the initial term based on “mutual agreement” of the parties, or on terms to be negotiated at a later date (or both).  In 1984, the Procurement Advisor issued a memorandum that instructed agencies that such provisions are not true contract options and are improper.  That memorandum was accompanied by a memorandum of law distributed by the State Law Department to all general counsel, outlining the legal basis for the Procurement Advisor’s instructions.  Because this issue recurs, it is appropriate to restate the principles set forth in those memoranda.

The Maryland Court of Appeals has specifically addressed this issue.  The court held that when the procurement law requires competitive sealed bids (or proposals), provisions that permit “extension by mutual consent of the parties” or that “require negotiation and agreement” are “inoperable” and an evasion of competitive bidding requirements.  The only type of option that the State may exercise in lieu of a new procurement – is one where “no negotiation [is] involved because the State alone holds the power to extend the contract” and the terms for the option period are set forth in the original bid (or proposal). City of Baltimore v. Bio-Gro Systems, 300 Md. 248, 477 A.2d 783 (1984), discussed in Survey of Developments in Maryland Law, 45 Md. L. Rev. 532, 587-88 (1986) and in Penpac, Inc. v. Morris County Municipal Utilities Authority, 690 A.2d 1094 (N.J. Super. 1997).  (In the recent New Jersey case, the court confirmed this principle even when the government and the contractor agreed to prices lower than those contained in the original contract.)

Guidelines:

1. A valid contract option is one where “the State alone holds the power” to exercise the option and the option price is fixed in, or is objectively ascertainable under the terms of the original contract.  This principle applies to options to extend the period of performance, as well as to other types of options such as extra quantities, add/deduct alternates, etc.
2. Bid or proposal solicitations containing options to extend, and the contracts themselves, must include the following:
   1. Statement that State has the unilateral right to exercise any option(s). 
   2. Time frame for the initial period of performance (initial term). 
   3. Number of and time periods covered by option periods. 
   4. Pricing:
      1. Prices for both the initial term and the option periods (or option quantities) must be set forth in the original bid/offer; or 
      2. If option period prices are not fixed at the time of the bid/offer, objective criteria for adjusting the initial prices when the State exercises the option (e.g., consumer price index, wholesale price index, appropriate published industry index) must be set forth in the bid/offer and contract. 
3. The exercise of a contract option must be approved and awarded before the initial term, or any previously-awarded option term, expires.  A contract which has expired and is closed out may not be reinstated through modification, or the exercise of options.