DCAA Audits Approaches to Preparation and Current Cost and Pricing Issues

1. Rubino & McGeehin Consulting Group, Inc. DCAA AuditsApproaches to Preparation and Current Cost and Pricing Issues Presented by the Boston Chapter of NCMA May 16, 2007 Boston, MA

2. Rubino & McGeehin Consulting Group, Inc. Introduction Panel Members: Patrick McGeehin, Rubino & McGeehin (discussion facilitator) Donald Bates, DCAA Brian Trueira, DCAA John Gay, DCAA Andy Habina, DRC

3. Rubino & McGeehin Consulting Group, Inc. Discussion Topics An overview of DCAA audits T&M Contracting Cost and Pricing Issues Defective Pricing and TINA Financial Capability Reviews Tips for Managing DCAA Audits

4. Rubino & McGeehin Consulting Group, Inc.

5. Rubino & McGeehin Consulting Group, Inc. DCAA DCAA Mission Who we are and our Staff DCAA General information DCAA’s Commitment to the Customer DCAA’s local Boston Area Offices Pricing & Procurement Assistance Contacting DCAA

6. Rubino & McGeehin Consulting Group, Inc. DCAA Mission DCAA Charter - DoD Directive 5105.36 Mission – Defense Contract Audit Agency (DCAA) shall: Perform all necessary contract audit for the Department of Defense and provide accounting and financial advisory services regarding contracts and subcontracts to all Department of Defense components responsible for procurement and contract administration. These services will be provided in connection with negotiation, administration and settlement of contracts and subcontracts. Provide contract audit service to other Government Agencies, as appropriate. Over 35 civilian (non-DoD) agencies received 566,500 hours of contract audit and financial advisory services from DCAA in FY 2005. This represents 12% of DCAA’s $435 million budget. Since we are a Defense agency, this work is done on a reimbursable basis.Over 35 civilian (non-DoD) agencies received 566,500 hours of contract audit and financial advisory services from DCAA in FY 2005. This represents 12% of DCAA’s $435 million budget. Since we are a Defense agency, this work is done on a reimbursable basis.

7. Rubino & McGeehin Consulting Group, Inc. DCAA Who We Are Offices throughout the US and abroad Provide audit and financial advisory services to DoD and other Government Agencies THE Audit Agency for Government Contract Audits

8. Rubino & McGeehin Consulting Group, Inc. DCAA Our Staff Approximately 4000 employees 99% College Graduates 25% with Advanced degrees 36% CPAs Trained in Contract Auditing, FAR , CAS and Government Contracting

9. Rubino & McGeehin Consulting Group, Inc. DCAA General Information Audit Services: Preaward Contract Audits – Price Proposals, Preaward Surveys, Internal Control System Audits – 10 Accounting & Management Systems Post Award – Financial Capability, Inc. Cost, Claims, TINA Compliance, CAS Compliance Other – IPT support, Negotiation Assistance, Rate Verifications, etc. FLA Services: On-site Financial Advise & Liaison Services – Interpret accounting data and audit reports; coordinate audit requests; recommend appropriate DCAA services; assist in evaluation of cost data; negotiation assistance; participate in SSEBs, liaison between commands and DCAA, elevate customer concerns.

10. Rubino & McGeehin Consulting Group, Inc. DCAA Commitment to the Customer Dedicated to High Quality, Timely Audit Services. Informative and Useful Audit Reports. Before and After Audit Support. Ensuring Value for Each Program Dollar.

11. Rubino & McGeehin Consulting Group, Inc. DCAA Local Northeast Regional Office – Lowell Northern New England Branch – Lexington, mainly North and NW of Boston Raytheon Corporate Raytheon Northeast Systems Boston Branch Office: Gr. Boston, South of Boston, RI Bay States Office : GD, BAE, GE, Gr. Lowell and NH

12. Rubino & McGeehin Consulting Group, Inc. DCAA Pricing/Procurement Assistance Information on Contractor Audits of Forward Pricing Rates – Labor, Indirect Accounting System Survey Financial Capability Telephone Rate Check & Requests Entire Proposal Audits Parts of a Proposal

13. Rubino & McGeehin Consulting Group, Inc. How to Contact Us www.dcaa.mil Call us Email us

14. Rubino & McGeehin Consulting Group, Inc. Discussion

15. Rubino & McGeehin Consulting Group, Inc. GSA Schedule Issues Original intent of GSA schedules was for the government to combine its purchasing power to achieve lower costs for commercial items such as printers, copiers, paper, cleaning supplies, etc. GSA moved aggressively into procuring services for agencies who benefited by shorter procurement cycle times, i.e., .no need for audit if rates are “commercial” rates competitively awarded by GSA

16. Rubino & McGeehin Consulting Group, Inc. GSA Schedule Issues There are numerous Schedules contractors can propose to be on (examples) IT Schedule 70 PES MOBIS LOGWORLD Different schedules for different services Proposed rates are “commercial rates” GSA Schedule contracts are for “commercial” products and services

17. Rubino & McGeehin Consulting Group, Inc. GSA Schedule Issues Proposed labor rates include all indirect costs, IFF and profit Pre award audit of rates, if any, is done by GSA Rates should generally be based on prices charged for products or services to non-government entities

18. Rubino & McGeehin Consulting Group, Inc. GSA Schedule Issues Agencies can award IDIQ contracts based on GSA schedule rates which are referred to as Blanket Purchase Agreements (BPA) Rates for labor categories are generally listed in the BPA Individual task orders or delivery orders are then negotiated based on the BPA rates but contractors often discount these rates on a task order by task order basis when there is competition for the task order

19. Rubino & McGeehin Consulting Group, Inc. GSA Schedule Issues Recent issues raised by DCAA with respect to Subcontractors Basic payment clause stated subcontractors are to be billed at cost yet most BPAs require contractors to bill all labor hours at the rates listed in the order. New rules to be discussed resolve this but only on a “go forward” basis. Basic concern is whether contractors are earning excessive profits on subcontractors

20. Rubino & McGeehin Consulting Group, Inc. GSA Schedule Issues Companies bill at the rates agreed to for all labor hours with travel and ODC billed at cost. Labor hours being captured by labor category is key requirement for contractors as is the need to ensure that the people doing the work at a specified labor category meet the requirements of that category

21. Rubino & McGeehin Consulting Group, Inc. GSA Schedule Issues DCAA requirement for Incurred Cost submission to the government is that labor hours on T&M contracts can be identified by labor billing category and amounts billed by year and cumulative cost billed to expedite contract close outs.

22. Rubino & McGeehin Consulting Group, Inc. GSA Schedule Issues Other contract vehicles are becoming more prominent such as Government Wide Acquisition Contracts (GWAC) An example is the Alliant GWAC that is to be award later this year which contains over 80 labor categories and covers 10 years.

23. Rubino & McGeehin Consulting Group, Inc. GSA Schedule Issues Multiple Schedules for buyers to use Multiple labor categories that contractor employees can qualify for Billing the right rate with the right person and properly accounting for those hours is key issue for contractors Subcontractor hours for prior periods

24. Rubino & McGeehin Consulting Group, Inc. T&M Contracting What is a T&M contract? DCAA role in Auditing New T&M Rules

25. Rubino & McGeehin Consulting Group, Inc. What is a “T&M Contract”? The Government pays fixed hourly rates for the direct labor hours provided by the contractor The Government obtains materials at cost Indirect costs and profit are built into the fixed hourly labor rates Indirect costs are built into materials price

26. Rubino & McGeehin Consulting Group, Inc. What is a T&M Contract? Viewed as posing the highest degree of risk to the Government Special rules deemed necessary

27. Rubino & McGeehin Consulting Group, Inc. DCAA Role in Auditing T&M Contracts DCAA is typically concerned with the Allowability, and Allocability of the Hours as well as the Allowability, Allocability and Reasonableness of the Material/ODC.

28. Rubino & McGeehin Consulting Group, Inc. DCAA Role in Auditing T&M Contracts Typical Audit Steps: Brief T&M Contracts Perform Profit Margin Test Compare Contract Rates to Billed Rates Compare/Sample Hours to Time Cards Compare/Sample Incurred Hours to Labor Categories and Employee Qualifications Specified in the Contract Compare/Sample Material Costs/ODC to Contract Requirements and Invoices/Payment Records.

29. Rubino & McGeehin Consulting Group, Inc. New T&M Rules New Rules are effective as of February 12, 2007 New rules were Published in Federal Acquisition Circular 2005-15

30. Rubino & McGeehin Consulting Group, Inc. Background Fall out from: Hurricane Katrina and Iraq Project and Contracting Office

31. Rubino & McGeehin Consulting Group, Inc. Background Curb potential over use T&M seen as providing no incentive for contractor efficiency Contracting Officers should make use of FFP when work scope or duration can be defined

32. Rubino & McGeehin Consulting Group, Inc. New T&M Rules Permits use of T&M contracts to acquire commercial services Restricts use of T&M contracts – only when CO determines no other contract type is suitable CO must complete a “determination and finding” that justifies not using a fixed price contract - not possible to estimate extent or duration of work - not possible to anticipate costs

33. Rubino & McGeehin Consulting Group, Inc. New T&M Rules The contract or order must contain a ceiling price that the contractor exceeds at their risk Adjustment to the ceiling must be justified as being in the best interest of the government

34. Rubino & McGeehin Consulting Group, Inc. New T&M Rules Rules for proposed rates Commercial Non commercial with competition Non commercial with out competition DOD contracts Rules for payments Indirect cost markups “Substantiation” requirements Unallowable costs Overtime

35. Rubino & McGeehin Consulting Group, Inc. New T&M Rules Rules for Proposed Rates Rule #1 – Commercial Services (FAR 52.216-31 Rule #2 – Non commercial services with competition (FAR 52.216-29) Rule #3 – Non commercial services with out competition (FAR 52.216-30)

36. Rubino & McGeehin Consulting Group, Inc. New T&M Rules Rule #1 – Commercial Services The Prime Contractor’s proposal must state what proposed rates apply to: The prime The prime’s divisions, affiliates & subsidiaries Subcontractors Prime may bill all at separate rates, all at prime’s rates or develop a blended rate

37. Rubino & McGeehin Consulting Group, Inc. New T&M Rates Rule #2 – Non commercial with competition Prime must establish fixed rates using either: Separate rates by labor category for each subcontractor and the prime Blended rates by labor category for all Any combination of 1 and 2

38. Rubino & McGeehin Consulting Group, Inc. New T&M Rules Exception: For DOD contractors the prime must use separate fixed rates (option 1) Why? Large dollar amounts of DOD contracts Congressional scrutiny Frequency of DOD non commercial T&M contracts

39. Rubino & McGeehin Consulting Group, Inc. New T&M Rules Rule #3 – Non commercial without competition Prime must use separate rates for itself and its subcontractors.

40. Rubino & McGeehin Consulting Group, Inc. New T&M Rules Payment Rule #1 “materials” are billed at cost plus “applicable indirect costs” ie excluded from base rate and allocated per established practice “materials” include non labor subcontract and ODCs

41. Rubino & McGeehin Consulting Group, Inc. New T&M Rules Payment Rule #2 Prime and subcontractor invoiced hours must be supported with individual time card records Must be able to provide evidence that employees meet qualifications for labor categories invoiced Must be able to provide evidence that billed material and indirect costs were incurred

42. Rubino & McGeehin Consulting Group, Inc. New T&M Rules Payment Rule #3 The Allowable Cost & Payment Clause is incorporated by reference. Material and indirect costs are subject to FAR Part 31 Cost Principles.

43. Rubino & McGeehin Consulting Group, Inc. New T&M Rules Payment Rule #4 Overtime hours to be billed at fixed hourly rate unless overtime is approved by the CO.

44. Rubino & McGeehin Consulting Group, Inc. New T&M Rules Permits CO to interview contractor employees to verify labor hours claimed D&Fs extending performance over three years must be approved by the head of the contracting activity COs may determine what types of ODCs will be reimbursed COs may determine fixed amounts to pay for indirect costs Recognizes that commercial items transferred between divisions may be reimbursed at price

45. Rubino & McGeehin Consulting Group, Inc. Contract Pricing Issues

46. Rubino & McGeehin Consulting Group, Inc. Possible Issues – Concerns Cost Reimbursable Contracts Annual Incurred Cost Submission – detailing Indirect Rates and Direct Costs by Contracts Prescribed Content – see our website for information and to obtain “Model Submission” Contract Close-out – Final Audit on Cost Type contracts – Specific Audit or Cumulative Allowable Cost Worksheet

47. Rubino & McGeehin Consulting Group, Inc. Possible Issues Pricings Labor Rates and Hours Indirect Rates and Bases used Other Direct Costs Direct Material Costs – Cost and Quantity Direct vs. Indirect Proposed vs. Historical Cost Compliance with Contract and or RFP Current, Complete and Accurate Information

48. Rubino & McGeehin Consulting Group, Inc. Cost Accounting Standards – aka “CAS” Dollar thresholds in negotiated Government Contracts trigger applicability of these cost standards Requires Disclosure of accounting practices in a “Disclosure statement” Also requires Compliance with the standards themselves they are identified by number from 401 to 420 each dealing with a different area of costing accounting or allocation.

49. Rubino & McGeehin Consulting Group, Inc. Unallowable Costs or Inaccurate Information Annual Incurred Cost Submissions require a certification on Unallowable costs – Penalties if they are included Proposals usually require a certificate of current Cost and Pricing and are subject to Truth in Negotiations Act – “TINA”

50. Rubino & McGeehin Consulting Group, Inc. Questions and Open Discussion

51. Rubino & McGeehin Consulting Group, Inc. Defective Pricing and TINA

52. Rubino & McGeehin Consulting Group, Inc. Defective Pricing and TINA What is “Defective Pricing”? What is DCAA’s role? Proving Defective Pricing Exists Timing of DCAA Audits Certification of Current Cost or Pricing Data (CPD) Offsets Other issues

53. Rubino & McGeehin Consulting Group, Inc. Defective Pricing and TINA What is “Defective Pricing”? Defective Pricing is the “finding” not the audit. The Audit is a Postaward Audit. The objective of a Postaward Audit is to determine if the negotiated contract price was increased by a significant amount because the contractor did not submit or disclose accurate, complete, and current cost or pricing data as required by the Truth in Negotiations Act (TINA).

54. Rubino & McGeehin Consulting Group, Inc. Defective Pricing and TINA What is DCAA’s role? DCAA’s role is to verify that the cost or pricing data supporting negotiations was current, complete, and accurate as of the date of price agreement as required by the TINA. Generally, the auditor examines and analyzes the records and data available to the contractor as of the date of prime contract price agreement and compares them with the submitted cost or pricing data.

55. Rubino & McGeehin Consulting Group, Inc. Defective Pricing and TINA Proving Defective Pricing Exists (5 points) The information in question fits the definition of cost or pricing data. Accurate, complete, and current data existed and were reasonably available to the contractor before the agreement on price. Accurate, complete, and current data were not submitted or disclosed and the Government (CO or representative) did not have actual knowledge of this data or its significance to the proposal.

56. Rubino & McGeehin Consulting Group, Inc. Defective Pricing and TINA Proving Defective Pricing Exists (5 points) The Government relied on the defective data in negotiating with the contractor. The Government's reliance on the defective data caused an increase in the contract price.

57. Rubino & McGeehin Consulting Group, Inc. Defective Pricing and TINA Timing of DCAA Audits? DCAA’s performs Postaward Audits generally within one to three years of contract negotiations.

58. Rubino & McGeehin Consulting Group, Inc. Defective Pricing and TINA Certification of Current CPD Required by TINA & FAR 15.403-4. Soon as Practicable after Price Agreement Certify to the Accuracy, Completeness & Currentness of CPD Covers all CPD Reasonably Available Absence does not prevent recovery.

59. Rubino & McGeehin Consulting Group, Inc. Defective Pricing and TINA Offsets Unintentional Understatement of Contract Price Allowed only to the extent the understatements do not exceed the Government’s claim for overstatement Burden of Proof on Contractor After 2/15/87 requires Certification, proof of data available, not submitted, not intentional and proof of impact on price.

60. Rubino & McGeehin Consulting Group, Inc. Defective Pricing and TINA Other Issues Fact vs Judgments Reasonably Available data Type of Contracts & Dates Subcontracts Natural & Probable Consequence “Sweeps” Calculating Recommended Price Adjustments

61. Rubino & McGeehin Consulting Group, Inc. Financial Capability Reviews

62. Rubino & McGeehin Consulting Group, Inc. Financial Capability Reviews Purpose Who DCAA Audits Types of DCAA “Audits” Results of Audit

63. Rubino & McGeehin Consulting Group, Inc. Financial Capability Reviews Purpose: To determine if the contractor has adequate financial resources to perform on Government contracts in the current and near term (up to a year). (Authority – FAR 9.104 & DFARSs 232.072)

64. Rubino & McGeehin Consulting Group, Inc. Financial Capability Reviews Who DCAA Audits: Contractor’s with….. Gov’t Sales $1M to $15M – Modified Risk Assessment Gov’t sales > $15M – Modified Risk Assessment or Detailed Risk Assessment (DRA 3-year cycle) ACO Requests

65. Rubino & McGeehin Consulting Group, Inc. Financial Capability Reviews Who DCAA Audits: Financial condition risk assessments and financial capability audits will generally be performed by auditors at the parent company Exceptions DCAA does not have access at parent location Parent company does not sweep cash and guarantee contract performance of its subsidiaries

66. Rubino & McGeehin Consulting Group, Inc. Financial Capability Reviews Types of DCAA “Audits”: Modified Risk Assessment Detailed Risk Assessment Financial Capability Audit

67. Rubino & McGeehin Consulting Group, Inc. Financial Capability Reviews Types of DCAA “Audits”: Modified Risk Assessment: (Financial Condition) Trend Analysis of Key Financial Statement Elements – Profit/Loss, Sales, Cash Flow, Working Capital, Net Worth, Long Term Liabilities. Decision – Stop/Go (Memo for Record)

68. Rubino & McGeehin Consulting Group, Inc. Financial Capability Reviews Types of DCAA “Audits”: Detailed Risk Assessment: (Financial Condition) Internal Controls Trend Analysis of Key Financial Statement Elements Trend analysis of Key Financial Ratios Off Balance Sheet Arrangements/Related Party Timely Payment of Taxes, A/P, etc. Cash Management Practices Decision – Stop/Go (Memo for Record)

69. Rubino & McGeehin Consulting Group, Inc. Financial Capability Reviews Types of DCAA Audits: Financial Capability Audit: All Detailed Risk Assessment Steps Cash Flow Projections (Evaluation of the Cash Flow Forecast forms the framework for the auditor’s opinion on the contractor’s Financial Capability) Evaluation of Loan Covenants/Terms and Lines of Credit Audit Opinion and Report

70. Rubino & McGeehin Consulting Group, Inc. Financial Capability Reviews Results of Audit - Opinions : In Our Opinion…… Adequate – Contractor is financially capable of performing on Gov’t contracts. Unfavorable – Financially capable with extraordinary management action. Adverse - Substantial doubt of performing on Gov’t contracts. Disclaimer – Absence of Cash Flow Forecast or Insufficient Data to Form an Opinion

71. Rubino & McGeehin Consulting Group, Inc. Tips for Managing DCAA Audits General Suggestions Before the Audit Begins During the Audit Exit and Follow-up

72. Rubino & McGeehin Consulting Group, Inc. GENERAL ITEMS 1. Employees trained on proper way to prepare timesheets 2. Employees educated on penalties for obstructing a Government auditor 3. Consider advance notification to the auditors of proposed changes in your allocation approach

73. Rubino & McGeehin Consulting Group, Inc. GENERAL ITEMS 4. Continuing education programs 5. Hotline program 6. Compliance audit 7. Review the historical cost package prior to submission

74. Rubino & McGeehin Consulting Group, Inc. BEFORE THE AUDIT BEGINS 8. Submit actual historical cost data as quickly as possible 9. Internal planning meeting 10. “Audit notebook” or file

75. Rubino & McGeehin Consulting Group, Inc. BEFORE THE AUDIT BEGINS 11. Ask in advance for a list of required items 12. Obtain DCAA’s audit programs off the internet 13. Analyses of key accounts

76. Rubino & McGeehin Consulting Group, Inc. BEFORE THE AUDIT BEGINS 14. Meet with the accounting and contracts staff(s) 15. Schedule audit as soon as possible 16. Ask for copies of all questionnaires

77. Rubino & McGeehin Consulting Group, Inc. DURING THE AUDIT 17. Treat auditor with courtesy 18. Conduct entrance meeting with auditors 19. Consider someone from your independent accounting firm meeting with the auditor, especially for smaller companies.

78. Rubino & McGeehin Consulting Group, Inc. DURING THE AUDIT 20. Assign specific representatives to answer auditors’ questions 21. Copy any documents given to auditors 22. Results of past audits can be helpful

79. Rubino & McGeehin Consulting Group, Inc. DURING THE AUDIT 23. Obtain indication from auditor as to planned duration 24. Consult with upper management or outside consultants 25. Inquire periodically as to the audit’s progress

80. Rubino & McGeehin Consulting Group, Inc. DURING THE AUDIT 26. Address problem areas as early as possible 27. Representative at all employee interviews 28. Contractors alienate field auditors by “going over their heads.”

81. Rubino & McGeehin Consulting Group, Inc. EXIT AND FOLLOW-UP 29. Exit conference 30. Management comments 31. Respond to the draft report quickly and completely

82. Rubino & McGeehin Consulting Group, Inc. EXIT AND FOLLOW-UP 32. Request a copy of the final audit report 33. Request a copy of the contracting officer’s report

83. Rubino & McGeehin Consulting Group, Inc. Questions