Tuesday, May 24, 2016

Will the use of Blended Labor Rates Create a CAS Noncompliance?

We spent a few postings last month discussing DoD's "blended rate" approach to implementing the lowered compensation cap that affects contracts awarded on or after June 24, 2014. There are different methodologies to calculating blended rates depending upon whether the rates are for forward pricing purposes or incurred cost purposes. Incurred cost blending is rather straight forward because all of the factors needed to blend two compensation caps are known. Forward pricing is not so straight forward as it requires an estimate of work to be performed in future periods. You can learn more about these blending methodologies by reading our previous coverage in Part 1, Part 2, Part 3, and Part 4.

A question was posted on DoD's official Q&A website concerning contractors who wished to implement the new $487,000 cap for forward pricing purposes in lieu of using the blended method but wished to use the blended method for incurred cost purposes. The question concerned whether such a practice would constitute a noncompliance with CAS (Cost Accounting Standard) 401, Consistency in Estimating, Accumulating and Reporting Costs.

We understand why a contractor might want to implement such a practice - its simpler and avoids Government auditors and contracting officers from tearing into and second-guessing assumptions as to how much work in future years will be on pre-June 24, 2014 contracts and post-June 24, 2014 contracts. Keep in mind however that the approach will most likely have a negative impact as fixed price contracts will be understated, cost-type contracts will have a lower fixed fee, and resulting overruns will be unfunded. Given these downsides, it might still be in a contractor's best interest to forego the forward pricing aspects of blended rates.

According to DoD, the use of a blended rate versus implementing the new cap from the outset is not a CAS 401 noncompliance because any inconsistency does not involve a cost accounting practice as defined by the CAS Board. According to CAS, a cost accounting practice is any disclosed or established accounting method or technique which is used for allocation of costs to cost objectives, assignment of cost to cost accounting periods, or measurement of cost. Either the blended rate approach or the specified amount approach is none of these three. It is not a method or technique used for allocation of costs to cost objectives, not a method or technique used for assignment of cost to cost accounting periods, and not a method or technique used for measurement of cost.

Keep in mind that the use of the blended rate methodology requires an advance agreement and potential inconsistencies such as the one described above will be sorted out during the advance agreement process.One thing it is not however, is a CAS 401 noncompliance.

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