I cannot find anything specific in the PMS Procedures Manual (CCR-145-1)
http://www.rotc.usaac.army.mil/command/reserve_docs/RC Website/CCR 145-1.doc regarding a 3 Yr. AD -> 3.5 Year Schoalrship upgrade, but the principles are laid out in section 8-6 for a 2 Yr. AD upgrade.
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CCR-145-1
Reserve Officers' Training Corps ARMY ROTC Scholarship Policy, Administrative, and Procedural Instructions
Original Document Date: 09/09/01
Revision Date: 02/20/04
8-6. Two-Year Advanced Designee Requirements
e. Headquarters, Cadet Command is the only authority for upgrading 2-year ADs to 3-year scholarships. This is to prevent inequities across the nation and allow cross-leveling of funds between Brigades to offer additional scholarships. Brigade Commanders have authority to do so on a case-by-case basis.
(1) Each school should establish an OML containing both new 3-year applicants and previously awarded 2ADs so that ALL can be considered for a 3-year scholarship from the bde adjustment pool. The brigade provides funds, if available, for a 3-year scholarship and the PMS decides whether to give it to the new applicant or previous 2AD based on his assessment of the cadets quality and other factors. This will eliminate any unfairness due to making a 3-year offer to a lower quality student who applied after the start of the school year versus a higher quality SAL offered a 2AD the previous spring solely because all 3-year allocations were filled.
(2) If there are no additional applicants pending offers from the brigade then there must be justification to selectively upgrade a 2AD.
For instance if there’s a top quality SAL 2AD applicant whose commitment to ROTC is wavering, and upgrading to a 3-year offer would seal the deal, then brigade can provide funds to upgrade to 3-year. Otherwise, if a student is already committed to a 2AD offer and the ROTC program, the money should be used elsewhere. The brigade should fund all other 2 and 3-year applicants pending offers before considering selective 2AD upgrades.
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That bold/italicized section seems to indicate that upgrades are reserved for the "squeeky wheel", and total yield, rather than just merit.