Revised Rule on Contractor Business Systems - Part IV

Today we are continuing our discussion on the revised proposed regulation that requires defense contractors to maintain adequate business systems or face Government withholds of their billings. We will wrap this discussion up tomorrow even though we have only scratched the surface of this significant and far reaching proposed regulation. Today we will address some of the concerns that were raised relative to the resolution process and the timing for releasing amounts withheld. The news is not particularly good for contractors.


One concern cited frequently by respondents was the negative impact that withholds will have on contractor cash flows. DoD acknowledged that the application of the payment withhold will impact and reduce a contractor’s cash flow. However, DoD was not sympathetic to that concern. DoD is focused on protecting the Government’s interests during performance in an amount sufficient to mitigate the Government’s risk (whatever that means) when contractors fail to maintain business systems as required by the terms and conditions of their contracts. DoD did revise the language of the proposed regulation however to provide for the contracting officer, in concert with the auditor, to discontinue withholding payments prior to audit verification if the contractor submits evidence that the deficiencies have been corrected. We don’t know how that will work out in practical terms since DCAA will not opine on the adequacy of the corrective actions without performing an audit in accordance with Generally Accepted Government Auditing Standards. Nor should they. It seems disingenuous for DoD to state that the contracting officer can release funds prior to audit verification. If the contracting officer does decide to release withheld funds prior to audit verification, it will most certainly be without the consultation and advice from the audit community.

The initial proposed rule contained an inconsistency as to when withholds could be released. In one section, the proposed regulation stated that a finding of system noncompliance will be withdrawn when the contractor has ``substantially corrected'' the system deficiencies. However, elsewhere, the proposed rule states that the withhold will not be released until ``all deficiencies have been corrected.'' DoD resolved this inconsistency by eliminating the “substantially corrected” language. Again, this change, while eliminating an inconsistency, is not good news for contractors.

Several respondents expressed concern that the proposed rule provides incomplete guidance for ACOs to approve systems when deficiencies were identified. These respondents question whether the ACO's determination to reduce or discontinue the withholding of payments is discretionary, even if the contractor has corrected all deficiencies. DoD revised the rule language to state that the contracting officer shall discontinue the withholding of payments and release any payments previously withheld when the contracting officer determines that the contractor has corrected all system deficiencies after receipt of auditor verification. But here again, DoD confuses the situation by stating that the contracting officer, in consultation with the auditor or functional specialist, to discontinue withholding payments prior to audit verification if the contractor submits evidence that the deficiencies have been corrected. Which is it; after audit verification or before audit verification?

We will conclude our coverage of the contractor business system proposal tomorrow.