A new interim federal rule that took effect earlier this month under the Federal Acquisition Regulation spells trouble for contractors who may be supplying to the federal government telecom or video surveillance equipment from Huawei Technologies Co. Ltd., ZTE Corp. and several other manufacturers based in China. 

Contractors can't provide them anymore if they would be a "substantial component, system or service, or a critical technology" as part of any system being supplied to any federal agency, not just the Defense Department.

Counsel for companies engaged in selling to federal government agencies will have to pay close attention to the new restrictions or risk losing contracts, the right to bid on contracts, or potential liability under the False Claims Act for violating the law. Some smaller companies that can't keep up with the new rule may have to consider withdrawing, national security and government contracts lawyers said.

"The rule requires contractors to track their supply chain to make sure they are not using parts from the companies that are identified," said Susan W. Ebner, a government contracting and litigation partner at Stinson in Washington, D.C.  

"Nondefense contractors are going to have to take the same steps to track and trace covered equipment, components, and services under their supply chain. Corporate counsel need to factor into their proposals the steps they need to take and the costs of initial and ongoing compliance," she said.

The rule, which took effect Aug. 13, imposes strict requirements for timely reporting of whether the contractor would use or provide the covered equipment, components, or services, and its mitigation efforts to eliminate them. It also applies very broadly to commercial off-the-shelf items purchased by the government, she said.

The rule covers video surveillance and telecommunications equipment produced by Hytera Communications Corp., Hangzhou Hikvision Digital Technology Co., or Dahua Technology Co., as well as ZTE and Huawei, and their numerous subsidiaries or affiliates, according to the rule published in the Federal Register implementing Section 889(a)(1)(A) of the John S. McCain National Defense Authorization Act for Fiscal Year 2019. 

Its purpose is the "public safety, security of Government facilities, physical security surveillance of critical infrastructure, and other national security purposes," according to the regulation. The National Defense Authorization Act is the same legislation that included the Foreign Investment Risk Review Modernization Act, or FIRRMA, which overhauled the national security review process for investments in U.S. companies.

Huawei is challenging the ban as unconstitutional in the U.S. District Court for the Eastern District of Texas, where the company's U.S. operations are headquartered. Huawei Deputy Chairman Guo Ping said in a news conference in March that the U.S. hadn't produced "any evidence" for its ban on Huawei products and equipment, according to a CNET report.

The new rule prohibits federal agencies from obtaining, renewing or extending a contract for telecom or surveillance equipment or services covered by the act unless a limited waiver or exception applies.  

It explicitly addresses products from the People's Republic of China as the "covered foreign country" and defines "covered telecommunications equipment or services" identically to the National Defense Authorization Act.

The interim rule went into effect without a public comment period because "urgent and compelling reasons exist to promulgate this interim rule without prior opportunity for public comment," according to the agencies promulgating it, but written comments are being accepted through Oct. 15, according to the document. 

Ebner said the rule doesn't talk about penalties, "but if you fail to take steps to determine if you are using or providing any of these" covered items "or if you knowingly supply [them], you may be determined to be in breach of your contract. The government can assert a claim against you to recover its damages." In addition, under the False Claims Act, a knowing or willful false certification can result in the assessment of treble damages against the contractor based on the number of "false" invoices, she said.

Groups that represent government suppliers expressed concern at the rushed implementation of the new rules, saying it creates a big disruption to the supply chain.

Tom Sisti, executive vice president and general counsel at the Coalition for Government Procurement, an advocacy group in Washington, D.C., said in a statement on Wednesday: "It's a complex rule for vendors and agencies to implement. It puts a burden on the vendors to exercise due diligence down through multiple levels of subcontractors. It's not clear what will constitute reasonable due diligence given all the contracting levels and players that will be involved. It would've been helpful to have some guidance regarding how to exercise due diligence so that an erroneous representation isn't viewed as an intentional misrepresentation."

Tracye Winfrey Howard, a partner and co-lead of the national security practice at Wiley Rein in Washington, D.C., provided the following tips for in-house counsel at companies that sell goods and services to the federal government on dealing with the new rule: 

1. Be alert for modifications to your contracts so that you know when the new requirements are incorporated by the government. 
2. Analyze the supply chain to the lowest tiers to see if prohibited products are incorporated as "there is no exception for commercially available off-the-shelf products," Howard said.
3. "Because the new FAR provisions are being implemented in part through the System for Award Management (SAM), in-house counsel should be sure that individuals filling out annual certifications under SAM are knowledgeable about the issue and have the benefit of the company's due diligence so they can accurately answer the questions," she added. 

There are still more regulations to come related to this. According to a Wiley Rein advisory, these are just the procurement-related provisions. Additional provisions in the 2019 NDAA "prohibit executive agencies from contracting with entities that use covered telecommunications equipment or services and prohibit the use of federal loan or grant funds to procure or obtain them."

Those provisions are subject to separate rulemaking and don't take effect until Aug. 13, 2020.