Performance Based Payments - Final Rule Published

DoD published a final rule in its FAR Supplement (DFARS) today that provides detailed guidance and instructions on the use of the performance-based payments analysis tool. Performance-based payments have been around for a long time but this new "tool" is a cash-flow analysis model for evaluating alternative financing arrangements. It is also required to be used by all contracting officers contemplating the use of performance-based payments on new fixed-price type contracts.

We're going to take a few days to look at this new rule in depth. Contractors who rely on contract financing through performance-based payments need to understand these new rules and to be able to position themselves to maximize their performance-based progress payment entitlements.

The very first thing to note is that an adequate accounting system is a paramont for obtaining performance-based payments. Contractors that do not have an adequate accounting system will not qualify. An inadequate accounting system is a show-stopper. DoD explains it this way:

FAR 32.1007(c) requires the contracting officer to determine the adequacy of controls established by the contractor for the administration of performance-based payments. Since the contractor will be required to report total cost incurred to date based on its existing accounting system, the contracting officer must consider the adequacy of the contractor's accounting system for providing reliable cost data. DFARS 232.1003-70, Criteria for use, is added to require contracting officers to consider the adequacy of an offeror's or contractor's accounting system prior to agreeing to use performance-based payments.

Contracting officers, before agreeing to any performance-based payments, will need to assure themselves that the contractor's (or offeror's) accounting system is adequate for providing reliable cost-data. They may use someone from their organization to do this or they might ask for assistance from DCMA (Defense Contract Management Agency) or DCAA (Defense Contract Audit Agency). Where possible, the Government will rely on information already in their files to make that assessment. But where no recent relevant oversight has been performed, contractors (offerors) can expect some level of inquiry and analysis of their accounting system.

To view the attributes that make up an adequate accounting system, see this posting.

MAS Contracts - Failure to Comply with Reporting Requirements

For the past two days, we have been discussing the price reduction clause that is included in every MAS (Multiple Award Schedule) contract. Essentially, this clause requires that the Government be given most favored treatment when it comes to pricing and if the price for commercial customers drop during the course of the contract, the price to the Government must also drop.

There are a few exceptions to the price reduction clause - events that will not necessarily trigger the clause. These include:

1. Orders outside the basis of award. Vendors can grant whatever discounts they want to customers outside its Basis of Award, so long as such discounts are consistent with the vendor's disclosed commercial practices. This had better be well documented as the Government will naturally be very suspicious of some customer that suddenly falls outside the basis of award.
2. Sales to authorized Schedule purchasers. If a purchaser is authorized to buy under the MAS contract but the contractor offers to sell at a lower price, that sale will not trigger the price reduction clause. The logic here is that the discount will accrue to the Government anyway.
3. Orders above the maximum order threshold. 
4. Charitable donations
5. No-charge items. For example, a contractor might offer a freebie to apologize for a late delivery or something along those lines.

If any of these events occur, it is always advisable to notify the contracting officer of the event and why you are not adjusting the prices as a result.

We should also address the consequences for failing to comply with the price reduction clause. Most likely, the penalties will be administrative in nature but could be more severe depending on how egregious the violation.

Administrative actions might include:

• a price adjustment (most likely event)
• a breach of contract claim by the Government against the vendor
• termination for default

Other penalties available to the Government include violations of

• the civil or criminal False Claims Act
• the criminal False Statements Act
• other criminal statutes

If there is a violation and the Government overpaid as a result of that violation, the Government will want its money back. That's why a price adjustment would be the most desirable outcome. Anything other than that, i.e. breach of contract or termination for default, will end your days as a Government vendor.

MAS Contracts - The Price Reduction Clause and Reporting Requirements

Yesterday as we were reporting on the GSA Inspector Generals critical audit of the MAS program (Multiple Award Schedule), we noted that one of the IG's findings was that one of the significant findings was that half of all contractors had inadequate sales monitoring and billing systems to ensure proper administration of the price reduction and billing provisions of their MAS contracts.

After publication, we had a couple of inquiries for more information concerning the price reduction clause and in particular, the obligations of a MAS contractor.

The essential requirement is that contractors need to develop an internal tracking and reporting system so that whenever the price list for the bench-marked customer (or group of customers), drops, the MAS contract prices drop as well. It is not sufficient to assume that once you have a MAS contract, you're good to go for the next three years, or however long the period of performance. Note also that it is an active requirement. You need to set up the monitoring system and report changes to the benchmark.

The Price Reduction clause is found in the GSA Acquisition Manual (one of the various FAR Supplements) at 552.238-75. It reads, in part;

Before award of a contract, the Contracting Officer and the Offeror will agree upon (1) the customer (or category of customers) which will be the basis of award, and (2) the Government's price or discount relationship to the identified customer (or category of customers). This relationship shall be maintained throughout the contract period. Any change in the Contractor's commercial pricing or discount arrangement applicable to the identified customer (or category of customers) which disturbs this relationship shall constitute a price reduction.

During the contract period. the Contractor shall report to the Contracting Officer all price reductions to the customer (or category of customers) that was the basis of award. The Contractor's report shall include an explanation of the conditions under which the reductions were made.

A price reduction shall apply to purchases under this contract if, after the date negotiations conclude, the Contractor (i) revises the commercial catalog, price list, schedule or other document upon which contract award was predicated to reduce prices, (ii) grants more favorable discounts to the customer (or category of customers) that formed the basis of award, and the change disturbs the price/discount relationship of the Government to the customer (or category of customers) that was the basis of award.

Then, the Contractor shall offer the price reduction to the Government with the same effective date, and for the same time period, as extended to the commercial customer (or category of customers).

The point of the IG audit was that more than half of the MAS contractors have no such system so they have no way of complying with the contract's "most favored price" requirement.

GSA Inspector General Identifies Recurring Problems in the MAS Program

Yesterday, the Inspector General's Office for GSA issued an audit report that identified several deficiencies in GSA's Multiple Award Schedule (MAS) program. Most Government contractors are familiar with the MAS program. That's where many Government contractors get their start. It has become the Government's commercial item marketplace and through it, Federal agencies spend $38 billion each year from 16,000 contractors offering 10 million different products and services. Most contractors who survive the rigors of "getting on" the GSA schedule, tend to do well - at least sufficiently well enough that they want to stay on the schedule.

When you think about the $38 billion spent by Federal agencies each year, you can assume that there is also some fraud, waste, and abuse going on within the program. That's why oversight agencies, like the Inspector General's office, spend a lot of their own time and resources monitoring and reviewing the program.

One of the underlying features of the MAS program is that the prices afforded the Government are the most favored. In other words, the Government shouldn't pay more than a contractor's most favored customer. The latest IG (Inspector General) report calls into question whether the Government is achieving most favored status. There are two findings in the report that will no doubt require contractors to do more work.

1. Nearly half of the contractors audited had inadequate sales monitoring and billing systems to ensure proper administration of the price reduction and billing provisions of their MAS contracts. The price reduction clause requires that vendors track and report any discounts, concessions, or changes in terms and conditions that disturb the Basis of Award relationship. In other words, if prices drop to the class of customers that supported the price, the Government's prices should also drop.

2. Contractors continue to provide commercial sales practices disclosures that are not current, accurate, and/or complete to support proposed prices. The IG noted that contractors sometimes like to "pick and choose" the data to support whatever price they want to charge the Government. That's not the way it works for the MAS program. The Government wants to see all of the data to ensure that it is current, accurate, and complete. If contractors desire to exclude any history from its support, there had better be a defensible reason for doing so.

The recommended corrective actions for these deficiencies will entail more oversight of GSA contractors.

There is much more to this IG report. If you want to read further, follow this link.

Estimating System Policies and Procedures and Compliance Therewith

There are several kinds of estimating deficiencies. A contractor may have no estimating policies and procedures. They just wing it as they go. This is common for start-ups and very small companies that perhaps submit a proposal once every two or three years. There are companies that have made a stab at developing estimating policies and procedures but haven't really refined them to meet their particular circumstances. Contractors who buy an "off-the-shelf" product and don't bother to tailor it to their environment fall into this category. These are easy to spot because they'll assign responsibilities to positions that don't even exist. One of the more amusing examples of this was a two-man company that had bought a canned estimating system handbook off the internet which had duties and functions for estimators, supervisors, purchasing agents, head of contracts, VP Finance, and CEO. These two guys, both engineers, were clueless when it came to estimating techniques, but they proudly pulled out their manual when asked whether they had written estimating policies and procedures.

A third deficiency that often arises is the company that has good, sound, and adequate estimating policies and procedures but fails to follow them. This situation results in "slam-dunk" findings by auditors and contracting officers. Sometimes its better to have no policies at all then to have policies and fail to follow them. First of all, failure to comply is a deficiency in and of itself and once reported, will launch a flurry of paperwork and corrective action plans, and followup reviews. But secondly, and more importantly, failure to follow policies raises the auditors suspicions and they are more apt to dig down deep. Its a pernicious finding, the effects that may not be seen right away. Perhaps the policy requires two or more competitive quotations for a purchased part but the contractor solicited only one and there is no sole-source justification. Perhaps the policy requires supervisory review and approval of estimates over a certain threshold but the estimator did not obtain one. Does that estimator know that his estimate won't stand up to scrutiny?

There are a number of cost estimating deficiencies where, if encountered during the evaluation of a price proposal, will automatically result in a notification to the ACO (administrative contracting officer) or the PCO (procuring contracting officer), or should if the auditor were following the guidance in CAM (DCAA Contract Audit Manual) 9-310. These include,

1. The use of incorrect, incomplete, or non-current data
2. The use of inappropriate estimating techniques
3. The failure to consider or use all applicable factors or necessary techniques
4. The improper use of an estimating technique
5. An apparent deliberate concealment or misrepresentation of the data supporting the estimate either in the historical data from prior contracts or in the supporting documents prepared specifically for the proposal
6. The failure to estimate in a manner consistent with the disclosed or established accounting procedures as required by CAS (Cost Accounting Standards) 401.

We believe that every contractor needs written estimating system policies and procedures. The level of detail and comprehensiveness of the policies and procedures will vary according to the size and configuration of the company and the level of estimating activities (i.e. number of proposals submitted to the Government). It is not sufficient to merely have the policies - its just as important to adhere to those policies.

Time and Material Contracts and Uncompensated Overtime

From time to time, we are asked about how uncompensated overtime should be billed under T&M or labor-hour contracts. This is not really an easy question to answer - it depends upon the particular clauses in the contract. But we can offer a "general" (non-legal) opinion.

Under T&M or labor-hour contracts, the Government and contractor negotiate fixed hourly rates for particular skill sets. Cost for particular task orders are calculated by multiplying the number of agreed-to hours by the negotiated rates. As the contractor works the hours, it can get reimbursed at the agreed-to hourly rates. Whether the employee was paid for those hours, is irrelevant to the contract (though a contractor could face other issues if these employees were not exempt under the Fair Labor Standards Act). If the employee performed the work, the contractor should get paid at the agreed-to rate.

A 2012 ASBCA (Armed Services Board of Contract Appeals) affirms this position. In this particular case, an Army contracting officer, based on a review by contract auditors, disallowed about $50 thousand in billings from GaN Corporation because the company had billed the Army for hours that they actually worked but did not compensate its employees who had performed the work. Those employees were exempt employees and were working uncompensated overtime.

The Board found the Government's interpretation of the contract and its arguments "unpersuasive and without merit.

The contract is clear: "Firm fixed price rates will be established [in] Section B of the contract. Task orders will be Labor Hour (LH) and/or Firm Fixed Price (FFP) and will be priced in accordance with the pricing schedule in Section B." ... The pricing schedule is cross referenced with Sections (a)(2) and (3) of the Payments clause, which controls: "the amounts shall be computed by multiplying the appropriate hourly rates prescribed in the Schedule by the number of direct labor hours performed." Further, "[t]he hourly rates shall be paid for all labor performed on the contract that meets the labor qualifications specified in the contract. ... " There is no question that the labor was performed and the employees paid their regular salaries .... The government's argument that the other provisions of the clause that refer to costs (Sections (d) Total Cost and (e) Ceiling Price) "make all employees hourly workers for purposes of reimbursing the contractor" ... is not a reasonable interpretation of the entire clause. First, these sections are not germane to the issue at hand as they merely reference "costs" in conjunction with the ceiling price of the contract and the procedures to ensure that the contractor does not exceed such limit. Secondly, and most importantly, these sections do not specifically prohibit the contractor from collecting its hourly rates for work performed by salaried employees (subject to the ceiling price). Thus, to "read out" or ignore portions of Sections (a)(2) and (3) of the Payments clause is not legally defensible.

When we were auditors and assessing proposed rates for T&M or LH contracts, we would try to reflect the impact of uncompensated overtime, if any, into the hourly rate buildup. If a contractors experienced a significant amount of overtime historically, there was a reasonable assumption that it would continue to do so. By adding uncompensated overtime hours in the denominator when calculating average hourly rates, the impact of uncompensated overtime is addressed. Sometimes negotiators accepted the position, sometimes not.

You can read the entire ASBCA case by clicking here.

Don't Rely on "Return Receipt Requested" to Ensure Your Proposal Was Submitted On Time

In a case that was decided last December but unpublished before this week, the Comptroller General denied a protest by a company that believed the Air Force unreasonably rejected its proposal. This case involved email - the bidder had evidence that a document was sent but the Government had no evidence to show that it was received.

The award of the contract was to be based on competition and proposals were to be evaluated on price, technical and past performance. Among the documents required from offerors was an organizational conflict of interest (OCI) plan, submitted no later than two weeks before the RFP close date.

The Air Force received proposals from 25 offerors. Among those was a proposal from DJW Consulting whose bid was rejected because DJW did not submit the required OCI plan. DJW protested, asserting that it had indeed submitted the required OCI plan.

The GAO stated in its decision that it is an offeror's responsibility to deliver its proposal to the proper place at the proper time. In earlier cases, GAO found an agency's rejection of a proposal is reasonable where, notwithstanding a protester's claim that it emailed its proposal to the agency, the record does not show that the proposal was actually received.

DJW said its representative emailed the OCI timely and requested an automated confirmation of delivery of that email through the company's email system. The trouble with that argument, the GAO responded, is that the confirmation came from DJW's server and did not come from the Air Force's server. Therefore, while there was evidence that the email left DJW's server, there was no evidence that it reached the intended recipient. The Air Force conducted a search of the server that supports the email accounts but did not identify any email concerning DJW's OCI plan. Additionally, the contracting officers went back into their records to see if they could locate the OCI plan and found nothing.

DJW also argued that the Air Force should have called them to ask about the missing plan. As discussed earlier, this was a competitive solicitation and the Air Force did not hold discussions with any offeror.

But for the email that got lost in the ether, DJW may have had a shot at winning this contract.

You can read the entire case by clicking here.

Contractors Might Soon Have to Pay for Contract Audits

There's a new proposal from DoD about to be published as in DFARS (DoD FAR Supplement) as a proposed rule that will have a significant impact on contractors subject to the "business system" rules (estimating, material management and accounting, earned-value, property, purchasing, and accounting systems).

Although the proposed rule has not been published and is not yet available on the internet (as far as we know), there have been snippets of information flowing from DoD sources as to what is being considered. This proposed rule will require contractors to hire CPA firms to audit and express opinions on the adequacy and sufficiency of business systems. This would no doubt cost contractors a lot of money - costs that were not included in forecasts and budgets and estimates of future costs. It would significantly impact DCAA (Defense Contract Audit Agency) who now spends a significant portion of its resources auditing contractor business systems. Perhaps these soon-to-be unemployed auditors can go work for CPA firms who will get this new workload.

The contracting community will most likely be in favor of the proposed rule. Contractors will insist on timely audits and reports. After all, they're paying for the service. DCAA on the other hand, takes months and sometimes more than a year to issue a business system audit report. Additionally, as is characteristic of CPA internal control audits, they won't find any material weaknesses anyway. That means the contracting officers' jobs get a whole lot easier because they don't have to resolve any audit findings.

Sadly, yet another nail in DCAA's coffin.

Keep your eyes open for DFARS Case No. 2012-D042. It's coming soon.

Those Nagging Letters will Soon Cease

Most Government contractors with cost-reimbursable contracts are familiar with DCAA (Defense Contract Audit Agency) practice of sending out letters related to annual incurred cost submissions. Up until now, DCAA has issued letters before the end of contractors' fiscal/calendar year reminding them of their obligation to submit within six months after year end. Those letters are followed up with letters after 30 days overdue, three months overdue, and five months overdue. After six months, the auditor helps the ACO come up with some unilateral rate determinations.

Frankly, this DCAA practice has always been nonsense. Auditors hated it because it was purely administrative work and detracted from the real nuts and bolts of "auditing". It was silly because DCAA has been and is still lagging in accomplishing incurred cost audits. DCAA made a big deal out of holding contractor's to timely submission, only to pile them up on shelves for years and years. Even today, DCAA is working on submissions that are nearly eight years old. Additionally, DCAA's tracking system was moribund - we have many cases where contractors have gotten past due letters after their timely submissions.

This is about to change. Starting now, DCAA will not be issuing any more letters to contractors. It will be up to DCMA (Defense Contract Management Agency) to ensure contractor compliance with the terms and conditions of their contracts (as it should always have been). DCAA will continue to educate contractors of their contractual requirements as part of on-going interactions but enforcement of the requirement to submit final incurred cost proposals will be administered by DCMA.

You can read more about DCAA's new policy by clicking here.

State Income Tax - Allowable or Not? It Depends.

State and local income taxes paid by a company are typically allowable costs under Government contracts (see FAR 31.205-41). In the case of 'S corps, partnerships, and LLCs however, the company does not pay state income tax (or Federal income tax for that matter). The profit (or loss) is passed through to the shareholders, partners, or members for inclusion in their own personal tax returns.

Sometimes this pass-through raises some very serious tax consequences for an individual. The amount of taxes can far outweigh the employee's compensation. Usually, the company makes additional distributions to the employee to cover his/her tax liability.

Some companies have tried to claim this extra compensation, dividend, or whatever they want to call it, as income tax and the portion that applies to state income tax, as an allowable cost. Some companies were successful, some not. The Government had no firm policy on the matter.

In 2000, the Court of Federal Claims ruled that a S Corp could be reimbursed under its cost reimbursement contracts for state income tax payments. This was overturned by the Court of Federal Appeals in 2006. In overturning the ruling, the court stated that FAR 31.205-41 pertained strictly to the legal contracting party which was not the shareholder but the corporation.

Since then, S Corp contractors have not been able to claim any state income tax costs in whatever form, under Government contracts. Presumably this ruling would also apply to partnerships and LLCs as well as S Corps.

If your company is incorporated in Alaska, Florida, Nevada, South Dakota, Texas, Washington, or Wyoming, and all your work is in-state, you don't have to worry about this. These seven states do not have a state income tax.

See State Income Tax - Allowable or Not? It Depends for additional information.

Estimates of Future Costs and Government's Use of Global Insights

Here's something to consider when using historical costs to estimate and negotiate future contracts.

When contractors use historical costs as a basis for estimating future costs, they must add an escalation factor.Contractors, starting out with historical costs, must estimate what those costs will be during the contract performance period. For example, if wages were increasing at five percent a year, contractors might take their 2013 actual labor rates and increase them by five percent for work performed in 2014 and by five percent again for work performed in 2015.

What many contractors have found is that it doesn't really matter what rate they use for escalation, DCAA (Defense Contract Audit Agency) and DCMA (Defense Contract Management Agency) will use rates published by Global Insights in lieu of accepting (or even analyzing) contractor escalation estimates.

The Government is a major customer of Global Insights' economic forecasts. For most contractors, the cost of a subscription to Global Insights is cost-prohibitive. Since most contractors do not have the time or resources to purchase or to develop their own economic forecasting model, the end result is that the Global Insight projections become the negotiated projections. In doesn't matter how good your negotiating skills - this is one area of Government intransigence.

However, as we reported last January following the President's State of the Union Speech, minimum wages for Government contractors is about to rise to $10.10 per hour. That means, for example, if you're paying grass cutters $8.50 per hour, you're going to need a 19 percent increase to your historical wages in order to comply with the mandate. Right now, labor rate escalation, depending on skill, geographic area, and the particular index, is hovering in the two percent range. Obviously, the Global Insights forecasts are not going to apply in these situations.

Not only would Global Insights not apply to minimum wage situations, but there is also the likelihood that the new minimum wage for Government contractors will impact wages for other non-minimum wage labor categories. A supervisor earning $10 an hour isn't going to be satisfied with $10 per hour when his/her subordinates are making $10.10 per hour.

When negotiating contracts where the performance period extends into 2015, the economic forecasts of Global Insights might not be reasonable. Contractors need to make a careful assessment of their environment before succumbing to the Global Insights juggernaut.

Check Your Uncompensated Overtime Calculations - Historical Averages May Not Apply to Future Contracts

Here's something that will likely affect Government contractors though the significance and impact may not be known for awhile. Yesterday, the President ordered the Secretary of Labor to revise federal rules on overtime pay for some executive, administrative, and professional (a.k.a. "white collar")salaried employees.

The Fair Labor Standards Act provides basic rights and wage protections including minimum wage and overtime requirements. These regulations also carve out exemptions from the overtime requirements for so-called white collar positions. Those exceptions, according to the President, are outdated resulting in millions of Americans lacking the protections of overtime and in some cases, minimum wages. The specifics of the President's intent are as yet unknown.

Therefore, I hereby direct you to propose revisions to modernize and streamline the existing overtime regulations. In doing so, you shall consider how the regulations could be revised to update existing protections consistent with the intent of the Act; address the changing nature of the workplace; and simplify the regulations to make them easier for both workers and businesses to understand and apply.

The current exemption, which is supposed to cover highly paid, white-collar employees not covers workers earning as little as $24 thousand per year ($455 per week). Some reports on this proposed action speculate that the President is looking to increase this threshold by double.

Government contractors should consider the impact of this when negotiating new contracts. It will most certainly impact the calculations of "uncompensated overtime" that the Government is so keen about.

The Importance of Basic Internal Control Systems

One deeply ingrained myth concerning contractors with all or most of their work performed under Government cost type contracts is the lack of or scarcity of internal control systems designed to prevent fraud, waste, and abuse. Auditors and contracting officers often hold to the notion that cost-type contractors really don't care if someone walks off with the kitchen sink (figuratively speaking of course) because those losses just get passed on to the Government. It could be labor mischarging or buying things for personal use or any number of schemes that misappropriate company assets.

Whether true or not, those attitudes are repeatedly reinforced in the media. Take for example the press release issued yesterday by the Department of Justice:

In a statement of facts filed with the plea agreement, Spangler admitted that from 2007 to 2012, he defrauded two government contractors out of approximately $635,000 to $735,000 by using his position as an information technology (“IT”) manager for those contractors to funnel funds intended for IT supplies to a shell company run by Spangler.  Over the course of the scheme, Spangler created fraudulent documentation for 19 purported purchases of IT supplies from the shell company that he owned.  In reality, however, Spangler did not provide the supplies at the agreed-upon prices and instead used the funds for personal expenses.  Spangler has agreed to forfeiture and restitution of between $635,843.06 and $735,843.06.

This employee didn't just defraud two Government contractors, he defrauded the Government as those costs for items never delivered were passed on to the Government through billings.

The contractors are partly to blame because simple, basic internal controls could have prevented this from happening in the first place. Baring collusion (and there was nothing in the press release that hinted at collusion) the documentation requirements we discussed last Tuesday, would have prevented this kind of fraud: a purchase request approved by a supervisor, a purchase order approved by a supervisor, receiving documents signed off by a someone unrelated to the purchaser, disbursements made after a three-way match is performed. 

Most basic internal controls systems don't cost much - perhaps a little more paperwork and a little more time added to the process. All companies, not just Government contractors with cost-type contracts, must be willing to make that minimal investment.

Annual Incurred Cost Submissions and Time and Material Contracts

This is a followup to our discussion in Monday's post describing the need for contractors to include T&M (Time and Material) contracts in their incurred cost claims. If you missed it, you can read it here. There is some good news for contractors that have T&M contracts but no flexibly-priced contracts (e.g. CPFF, CPAF, CPIF, etc). The annual incurred cost submission becomes very simple.

FAR 52.216-7, Allowable Cost and Payment, contains requirements in section (d)(2)(iii) and (iv) for contractors to submit adequate indirect cost rate proposal withing six months following the end of the fiscal year. Most contractors are familiar with the requirement - it contains required schedules 'A through 'O as well as optional schedules 'A through 'O (not too many contractors submit the optional schedules).

Required schedules 'A through 'H, 'L, 'M, 'N, do not apply to T&M contracts. Those are the schedules where contractors identify their indirect cost pools and corresponding allocation bases, calculate indirect rates, reconcile those costs to the General Ledger and accumulate claimed costs at the calculated indirect rates, among other things that do not apply to T&M contracts. That leaves only Schedules 'I, 'J, 'K, and 'O as applicable or potentially applicable.

Schedule 'K, Summary of each time-and-materials and labor-hour contract information, including labor categories, labor rates, hours, and amounts is the primary schedule for detailing hours and costs charged to T&M contracts. This information is rolled up into Schedule I, Schedule of cumulative direct and indirect costs claimed and billed by contract and subcontract. Its largely redundant and doesn't serve a useful purpose but if a contractor fails to provide it, the auditor will most certainly reject the submission on that technicality.

Schedule 'J lists subcontractors and subcontracts. This may or may not be applicable depending upon whether there are subcontractors under a contractors' T&M contracts.

Schedule 'O simply indicates whether particular contracts are ready to close.

So there you have it. Contractors with T&M (and labor-hour) contracts but no flexibly-priced contracts, don't have much to do when it comes to completing their annual incurred cost submissions.

What is Adequate Support for Material Purchases?

What kind of supporting documentation should a contractor be expected to maintain in support of materials and purchased parts? What kind of supporting documentation might a contract auditor request when auditing direct material costs? What are sound commercial practices for supporting documentation? What might the IRS require if they conduct an audit? The answer to each of these four questions is the same; a purchase request, vendor quotes, a purchase order, evidence that the items were received, a vendor invoice, and proof of payment.

After contract award, someone in the company has to decide what items need to be purchased. That person generates purchase requests. These requests should be tied back to build specifications or other contractual requirement. Purchase requests are forwarded to the purchasing department who performs due diligence in obtaining the best pricing. The purchasing department issues purchase orders to the selected vendors. The vendors fulfill the purchase orders, ships the items to the contractor, and sends the contractor invoices. The contractor receives the items it purchased and notifies Accounts Payable department that it has received the items.The Accounts Payable department makes a three-way match (purchase order, receiving document, and invoice) and schedules the payment. If there are any discounts offered, the contractor must take those discounts. Lost discounts are normally unallowable under Government contracts. Contract pays the invoice by check or by electronic transfer of funds.

The process we just described generates a lot of paperwork and auditors can and do request some or all of it to support the claimed costs. It is usually not sufficient to provide the auditor a ledger showing a tally of costs charged to a particular contract. Most auditors will dig a whole lot deeper in their quest to verify the allocability, allowability, and reasonableness of claimed costs. Contractors that don't maintain adequate documentation are at risk for having associated costs disallowed. Right now we are working with a contractor where the auditor has questioned the cost of a major material purchase for lack of documentation. It wasn't sufficient to physically show the auditor the item, and tie its serial number to an invoice. The contractor was missing the purchasing file which included evidence that the contractor obtained competitive pricing. The issue has now been elevated to the contracting officer. The auditor took a hard-line position and while that position might be justified, it may not have been a reasonable position.

So, do your homework, prepare you paperwork, organize and keep it handy. You never know when an auditor will come knocking expecting you to have it.

Time and Material Contracts - Incurred Cost Audits

One question we are frequently asked concerns the need to include T&M (Time and Material) contracts in an annual incurred cost submission. Contractors sometimes reason that the since rates are fixed, what is there to audit? The rates are already fully burdened and with indirect costs and profit. That's true, there will be no audit of the fixed rates. However, the contract auditor is concerned primarily with two things, the number of hours claimed or billed and the whether the the people working the job had the requisite skills and qualifications.

Hours claimed under T&M contracts must be supported by evidence of work performed - timesheets. Timesheets must be part of an overall timekeeping system that satisfies the basic requirements for Government contracting; recording all hours worked no less than daily, reviewed and approved by supervision, documented changes, etc. Hours that cannot be traced back to timesheets will be questioned and referred to the contracting officer for resolution. Normally, that doesn't end well for the contractor.

Auditors are also interested in the qualifications of the employees billed under the various skill codes specified in the contract. For example, a T&M contract might spell out rates for Senior Engineer, Junior Engineer, and Technician. The auditor will want to ensure that the contractor is not billing a Junior Engineer at a Senior Engineer rate. That is why auditors sometimes request HR information related to employees charging T&M contracts. It doesn't matter nor will the contractor be able to assert that the Junior Engineer was better qualified than the Senior Engineer for the job. If the Government called for a Senior Engineer and paid the rate for a Senior Engineer, it should get the services of a Senior Engineer. Any evidence that the contractor is using lower priced employees will get referred to the contracting officer.

Auditors will also examine the extent, if any, to which billed hours duplicate costs in the indirect portion of the T&M labor rate. The time of partners, officers, or supervisors is not generally acceptable as direct labor unless specifically authorized in the contract. Cost for this type of labor is generally part of the indirect expense rate that was calculated and included in the original negotiation.

Finally, we should mention overtime. Overtime hours cannot be converted to a larger number of regular hours to compensate for any overtime premium payments, nor will the rates charged for overtime be increased unless the contract so provides. Ideally, if any overtime is contemplated, it is already factored into the negotiated fixed hourly rates.

Contractor Performance Information - Senate Subcommittee Hearing

Yesterday, the Senate Subcommittee on Financial and Contracting Oversight held a hearing on the state of contractor performance information. The purpose of the hearing was to examine how the federal government collects, manages, and uses information about contractor performance and integrity. The hearing focused on how the Federal Awardee Performance and Integrity Information System (FAPIIS) has been implemented and used over its first four years, as well as examining how well FAPIIS works with other past performance databases and potential improvements that can be made to the information available on the databases.

FAPIIS collects the following information. With the exception of No. 9, Past Performance Evaluations, all information is available to the public. Past performance evaluations, is considered source selection sensitive and are not available to the public

1. Criminal convictions
2. Certain civil judgments and administrative findings of fault
3. Certain compromises or agreements that settle criminal, civil, or administrative proceedings
4. Ineligibility due to suspension or debarment
5. Administrative agreements issued in lieu of suspension or debarment
6. Non-responsibility determinations
7. Contracts and grants terminated for default
8. Defective pricing determinations
9. Past performance evaluations

Through February 13, 2014, a total of 1,791 records have been uploaded into FAPIIS. 91% of these records relate to contracts that were terminated for default or cause. There were 47 non-responsibility determinations and 109 administrative agreements. There is only one reported instance of defective pricing. There are no reported instances of criminal convictions even though everyone knows that there are numerous criminal convictions of Government contractors every year.

Prominent in the hearing was the case of CGI Group, the prime contractor responsible for the "Healthcare.gov" debacle. CGI purchase AMS and renamed it to CGI Federal. While there was no negative information about CGI Federal in the FAPIIS, there was plenty of negative information concerning AMS. However, because of the acquisition and name change, the negative information was obscured and never obtained by the Government when awarding the "healthcare.gov" contract.

Another problem raised was the multiple DUNS numbers. Lockheed Martin, for example, was cited as having more than 80 DUNS numbers. Senator McCaskil wondered why there couldn't be just one number.

A third issued raised was the sheer number of records made it difficult for a contracting officer to digest into useful information. One of the witnesses reported that work was in process to aggregate this information into some kind of numerical score to make it easier on the user.

If you desire to view the one and a half hour hearing, go here.

Statement of Objectives (SOO)

Last week we posted a discussion differentiating between Statements of Work (SOW) and Performance Work Statements (PWS). If you missed that discussion, you can read it here and you probably should before reading the rest of this article. After publishing the blog, someone asked us about SOOs (Statement of Objectives) and wondered how SOOs differed from SOWs and PWSs. So, we thought we had better cover that subject as well.

Lets start with the FAR definition. Its found in FAR (Federal Acquisition Regulations) 2.101. FAR states that a Statement of Objective or SOO is " ... a Government-prepared document incorporated into the solicitation that states the overall performance objectives. It is used in solicitations when the Government intends to provide the maximum flexibility to each offeror to propose an innovative approach" to whatever it is the Government wants to buy.

So then, a SOO would be an alternative to a performance work statement (PWS). It is a summary of key agency goals, outcomes, or both , that is incorporated into performance-based service acquisitions in order that competitors may propose their solutions, including a technical approach, performance standards, and a quality assurance surveillance plan based upon commercial business practices. It gives contractors a lot of latitude in responding to a Government need.

SOOs do not normally address each work breakdown structure (WBS) element, but each WBS element should be traceable to do something in the SOO. For example, a SOO may instruct the bidder to address his engineering approach. That is not a particular WBS element, but several WBS elements might be created to break out the engineering tasks.

Compared to standardized formats for SOWs and PWSs, there is no predetermined catalog of content that must be included in a SOO. Contracting officers are instructed to make it be a "concise, cogent document of appropriate length".

Recall our grass cutting example from the aforementioned post. Under a SOW, the requirements might specify that the contractor cut the grass every two weeks. Under a PWS, the requirement might specify that the grass length be maintained at a height of one to two inches. Under a SOO, the requirement might simply state "do something with this piece of land to make it pleasing to the eye and inexpensive to maintain.

Your Proprietary Data Might be Given to Third Parties

Did you know that when you sign a contract with the DoD, that you are agreeing to the potential of having your proprietary data to third parties - specifically contractors hired by DoD to assist them in litigation support activities.

DoD has introduced a new contract clause (see DFARS 252.204-7014) based on a provision in the 2012 National Defense Authorization Act that authorizes DoD "covered litigation support contractors" to have access to and use of any technical, proprietary, or confidential data delivered under a contract for the sol purpose of providing litigation support.

The basic objective of the rule is to expressly authorize DoD to provide its litigation support contractors with access to certain types of non-public information, provided that the litigation support contractors are required to protect that information from any unauthorized disclosure, and are prohibited from using that information for any purpose other than providing litigation support services to DoD.

Under the new interim rule DoD is authorized to release litigation information, including sensitive information, to its litigation support contractors provided that the litigation support contractors are subject to appropriate requirements and restrictions that comply with the requirements of 10 U.S.C. Section 129d.

The new regulation requires litigation support contractors to treat any and all information provided to, or obtained by, the litigation support contractor as sensitive information, regardless of whether that information is marked with a restrictive legend. While not obviating the need, desire, or value of using restrictive legends on sensitive information, this approach ensures the protection of all sensitive information, even when inadvertent error or oversight results in a restrictive legend being omitted from the information.

Some definitions.

Litigation support means administrative, technical or professional services provided in support of the Government during or in anticipation of litigation. A litigation support contractor is a contractor (including an expert or technical consultant) providing litigation support under a contract with the Department of Defense. Litigation information means any information, including sensitive information, that is furnished to the contractor by  or on behalf of the Government, or that is generated or obtained by the contractor in the performance of litigation support work. Finally, sensitive information means confidential information of a commercial, financial, proprietary, or privileged nature. The term includes technical data and computer software, but does not include information that is lawful publicly available without restrictions.

Allowability of Legal Costs for Whistleblower Proceedings

Yesterday we discussed the new protections afforded to contractor and subcontractor employees who are brave enough to come forward and blow the whistle on what they perceive to be gross mismanagement of a DoD contract, waste of funds, abuse of authority, violation of law, rule, regulation or public safety issue (if you missed it, you can read it here).

There is a related regulation, still in the making, that affects the allowably of legal costs that contractors and subcontractors incur in responding to or defending these whistleblower actions. Curiously, its not where you would look to determine cost allowability, that is FAR and DFARS Part 31 cost principles. Its located in a section of the regulations where you would not expect to find it; Part 6, Types of Contracts and a specific contract clause. There's a reason for this as we'll explain later.

Here's how it works. Stay with us, this gets a bit technical. When DoD issues a cost-reimbursement contract, a task order under a contract awarded before September 30, 2013, or modifies a contract that was awarded prior to the same date, and the contract/task order includes the Allowable Cost and Payment Clause (FAR 52.216-7), than DoD must also include a new contract clause found at DFARS 252.216-7000.

That new clause, Allowability of Legal Costs Incurred in Connection with a Whistleblower Proceeding, states:

(1) The restrictions of FAR 31.205-47(b) on allowability of costs related to legal and other proceedings also apply to any proceeding brought by a contractor employee submitting a complaint under 1- U.S.C. 2409, entitled "Contractor employees: protection from reprisal for disclosure of certain information;" and

(2) Costs incurred in connection with a proceeding that is brought by a contractor employee submitting a complaint under 10 U.S.C. 2409 are also unallowable if the result is an order to take corrective action under 10 U.S.C. 2409.

This new clause effectively modifies the FAR cost principle regarding legal costs by adding a new category of proceedings (contractor employee whistleblowers). So, why not just modify the FAR cost principle? The answer to that question lies in the effective date of the proscribing statute, September 30, 2013. The allowable cost and payment clause (FAR 52.216-7) states that contractors are held to the cost principles in effect at the time the contract is awarded. Without a new clause, task orders and contract modification would not be affected by the new restrictions because the contracts were awarded prior to the effective date.

Enhancements of Contractor (and Subcontractor) Whistleblower Protections

The DoD has published its final rule regarding whistleblower protections for contractor employees. Before we get in to the substance of the new provision, there are a few things to note here. First, it applies only to DoD contractors. However, don't let that fact lull you non-DoD contractors into a sense of relief. Many times, these rules that start out DoD only, eventually carry over into FAR and then apply to all Government contractors. Secondly, it applies to subcontractors as well as contractors. The implementing DFARS (DoD FAR Supplement) clause is one of those flowdown clauses that prime contractors must send to their subs. Thirdly, it applies to all entities large and small. There is no contract threshold below which it doesn't apply. Finally, this new rule replaces an interim rule that has been around since last September so consider the effective date September 2013, not February 2014.

The new rule prohibits contractors and subcontractors from discharging, demoting, or otherwise discriminating against an employee as a reprisal for disclosing, to any of the listed entities, information that the employee reasonably believes is evidence of

• gross mismanagement of A DoD contract,
• a gross waste of DoD funds, an abuse of authority relating to a DoD contract, 
• a violation of law, rule, or regulation related to a DoD contract (including the competition for or negotiation of a contract), or
• a substantial and specific danger to public health or safety.

Such reprisal is prohibited even if it is undertaken at the request of an executive branch official, unless the request takes the form of a non-discretionary directive and is within the authority of the executive branch official making the request.

The "entities" to whom disclosure may be made and then protected by this provision include,

• Member of Congress or a representative of a committee of Congress
• An inspector General that receives funding from or has oversight over contracts awarded for or on behalf of DoD
• The Government Accountability Office (GAO)
• A DoD employee responsible for contract oversight or management (e.g DCMA and DCAA)
• An authorized official of the Department of Justice or other law enforcement agency
• A court or grand jury
• A management official or other employee of the contractor or subcontractor who has the responsibility to investigate, discover, or address misconduct.

The new rule also contains procedures for filing and investigating complaints as well as remedies (punishment) that are available should a contractor be found in violation of this whistleblower statute.