DCMA May Have Reimbursed Contractors $219 Million Without Any Support for Amounts Claimed

The DoD's Office of Inspector General (DoD-OIG) released a report this week that evaluated how Government contracting officers resolve audit reports issued by the Defense Contract Audit Agency (DCAA) when the Agency "Disclaims" an audit opinion. For non-auditors reading this post, a disclaimer of opinion is issued when the audit firm or audit agency is unable to perform all procedures necessary to obtain sufficient appropriate evidence to form a conclusion on whatever is being audited. In the context of incurred cost audits, this usually means that the contractor could not or would not provide the necessary supporting documentation for amounts claimed.

This OIG report (dated November 26, 2019 but not publicly released until December 2, 2019) concluded that contracting officers (namely the Defense Contract Management Agency or DCMA) may have reimbursed $219 million to DoD contractors that were not allowable costs on Government contracts.

DCAA questioned $219 million based on the contractor's failure to provide supporting documentation for claimed costs as FAR 31.201-2, Determining Allowability, requires. The DCMA contracting officer gave the money back for the following reasons:

• The required time periods for the contractor to retain any of the records had lapsed
• The amounts questioned in the audit report were identical to those disputed before the ASBCA (Armed Services Board of Contract Appeals) which rendered the costs allowable.
• No action was required because DCAA had disclaimed an audit opinion.

The OIG reported that none of these reasons adequately justified the contracting officers' decision not to sustain DCAA questioned costs. First of all, regardless of the minimum record retention time periods specified in the FAR (Federal Acquisition Regulations), the contractor had an obligation to support its costs claimed on Government contracts. Second, contracting officers must take appropriate action in response to DCAA question costs, regardless of the type of audit opinion rendered.FAR 42.705 prohibits the contracting officer from resolving (or otherwise allowing) any questioned cost without obtaining adequate documentation on the costs.

Concerning the ASBCA precedent, the OIG stated that although the contracting officer stated the circumstances were identical, the contracting officer failed to include any evidence to demonstrate that the outcome of the ASBCA cases would apply to the amounts questioned by DCAA. Therefore, the contracting officer failed to adequately justify why he did not sustain the questioned costs.

As a result of this review, DCMA agreed to revisit the contracting officers' decisions to determine the allowablility of questioned costs and will take reasonable steps to recoup any unallowable costs identified during its review. In addition, DCMA will assess whether action should be take to hold the contracting officers accountable for non sustaining any DCAA questioned costs determined to be unallowable.

DCAA to Triple The Number of Defective Pricing Audits

Bloomberg published an article last week reporting that DCAA (Defense Contract Audit Agency) plans to triple the number of defective pricing audits in the upcoming fiscal year. Defective pricing audits are tests for contractor compliance with the Truth in Negotiations Act (TINA).

According to the article, DCAA intends to complete 60 defective pricing audits in the coming fiscal year.  During fiscal years 2017 to 2019, the Agency completed 26, 21, and 20 respectively. Bloomberg notes that at least two congressional committees are reviewing the Pentagon's enforcement of TINA, a law intended to prevent unjustified profits based on incomplete, flawed or inaccurate cost or pricing data (actually the term "flawed" is not part of TINA. TINA refers to 'current', 'complete', and 'accurate').

Not only does DCAA intended to triple the number of audits it intends to complete but it also plans to quintuple the number of audit hours applied to those reviews.

One of the reasons, besides ongoing Congressional oversight, for the increase in the number of defective pricing audits is the track record of positive audit findings. The former Director for defense pricing noted that during his tenure, 100 percent of the contracts examined at one top-25 defense contractor had 'suspect' defective pricing. And he also added that "If one looks deep enough there is some element of fraud typically lurking". For example:

In a number of cases we expected profit outcomes of 12% to 15% ... but (the auditors) found levels of between 25% and 80% on some sole-source weapons contracts. That does not happen by outstanding performance but by faulty contractor cost estimating or in the worst case, fraud.

Since fiscal year 2015, nearly 75 percent of defective pricing audits have uncovered potential noncompliances with TINA. The amount challenged is almost $600 million (though after the issues are settled, will be something less than that). Ten of those audits have been referred to investigators as suspected irregular conduct and eight of those ten are currently active cases.

TINA applies to negotiated contracts over $700 thousand or $2 million, depending upon when the contracts were negotiated. Competitively awarded contracts and contracts based on commercial item pricing are not subject to TINA. It is likely that DCAA will be concentrating its efforts on the larger Defense contracts; the top 10 or the top 25. If you don't fall in those categories, it is unlikely that your contracts will be selected for audit.

Does DCMA Effectively Resolve Audit Findings?

What is going on between the Defense Contract Management Agency (DCMA), the Defense organization that administers contracts and the Defense Contract Audit Agency (DCAA), the Defense organization that audits Defense contracts? DCAA audits the contracts but it is up to DCMA to resolve any findings that might arise as a result of the audit.

We ask this question because the Defense Department Office of Inspector General (DoD-OIG) recently announced that it would begin an evaluation of  "DoD Contracting Officer Actions Taken on Defense Contract Audit Agency Report Findings Involving Two of the Five Largest DoD Contractors." Those two contractors, as it turns out, happen to be Boeing and Lockheed Martin. Implicit in this announcement is that someone has not been at all pleased with how DCMA is resolving DCAA audit reports. Who? The OIG's announcement does not say. It could be that the OIG has been receiving hotline complaints concerning the manner in which audits are resolved. It could be that the OIG is tracking its own metrics on the percentages of audit exceptions sustained. Whatever the genesis, this is not a routine OIG evaluation.

The OIG has selected a sample of thirty audits for its evaluation. Many of the selections are audits of annual incurred cost submissions. There are several involving Cost Accounting Standards (noncompliances with disclosed cost accounting practices and cost impact when contractors fail to comply with CAS). Also on the OIG's list are audit reports on identified business system deficiencies (usually involving the accounting system) and estimating system deficiencies.

This might become interesting.

Contract Auditors to Work Under New Professional Practice Guide

Government contractors (and subcontractors) should become familiar with DoD's 'Professional Practice Guide for Audits and Oversight of Defense Contractor Costs and Internal Controls (First Edition - January 2019). We've covered this guide previously (see for example Section 809 Panel - Recommendation to Adopt an Audit Professional Practice Guide). This guide is intended to provide consistency in the way DCAA and Independent Professional Accounting (IPAs) firms consider risk and materiality in the conduct of their audits and other oversight activities. The PPG is included in the Panel's Third Report beginning on Page 79).

How does DCAA intend to use the Guide? DCAA provides that answer in its latest Annual Report to Congress. DCAA states:

This guide will provide consistency in the way DCAA and Independent Professional Accounting Firms consider risk and materiality. The guide will be important to IPAs when they perform select incurred cost audits for contractors previously audited by DCAA. Internal to DCAA, we plan to use the PPG to meet Congressional requirements to establish, codify, and implement these new materiality thresholds.

What are these new materiality standards that DCAA, and by extension IPAs, must adhere to? The new materiality standards are addressed in the PPG and include 'materiality' in audits of incurred costs and 'materiality in audits of internal controls. This is where the quantification of materiality becomes complex and formulaic driven. But since they are formula driven, contractors (and subcontractors) should be able to replicate materiality thresholds calculated by contract auditors.

The PPG however cautions that the application of quantified materiality is not limited to certain thresholds as "auditor judgment  with consideration of qualitative factors, risk, and variability have an impact".

You can learn more about quantifiable risk or materiality factors in Chapters 2 and 3 of the PPG.

DCAA's 2018 Annual Report to Congress - Part 2

We turn once again to DCAA (Defense Contract Audit Agency's) Annual Report to Congress for a glimpse of what that organization has been up to in its last fiscal year. See "Where Have All the CPAs Gone" for previous coverage (Part 1) of DCAA's annual report to Congress.

Today we cover the section where DCAA describes its most significant fiscal year 2018 activities and their impact on the audit process. This annual report to Congress is the opportunity for DCAA to tell its story to Congress - to let the members know what is important to the Agency and what taxpayers get for their $1.4 billion in annual appropriations.

DCAA found three "significant" activities to report.

1. We sent 22 supervisors and managers - many with graduate degrees and most having a CPA designation - to leadership training.
2. We had meetings with customers including some big shots in the Pentagon
3. We prioritized audits of contracts with 'cancelling funds'.

That's it! Those are the three most significant activities that DCAA could conjure up for their annual report to Congress. On a positive note for the Agency, its unlikely that anyone in Congress will ever read the report.

Where Have All the CPAs Gone?

Every year since 2011, DCAA (Defense Contract Audit Agency) has reported on its activities in a Report to Congress. The latest report dated March 31, 2019 (but only recently made available online) is available here. These reports primarily contain statistics and trends on how the Agency is performing; metrics such as net savings (down from the last two years), return on investments (down from the last two years), incurred cost audit backlog (improving), meeting due dates (improving), length of time to complete audits (generally improving), and many others.

One thing that caught our eye was a table that showed the professional makeup of DCAA's workforce. About 90 percent of DCAA's staff consists of auditors, which is understandable, and the preponderance of those have bachelor or advanced degrees. But here's something we didn't expect to see. DCAA lost a net of 52 CPAs (Certified Public Accountants) from the prior year. Since 2012, it has lost a net of nearly 200 CPAs. This obviously means that more CPAs are leaving the Agency than are being replaced either through hiring or developed internally.

Should this be a concern? We think it should be. A CPA certification is the pinnacle step of the accounting profession and DCAA has always prided itself on percentages of CPAs and other professional certifications comprising its workforce. It actively encourages staff to attain those certifications and provides training and educational funds to further that goal.

So why the drop-off in the number of CPAs? Obviously we don't have the data or insights to answer that question. The success and survivability of any organization is its staff. Not just any staff, mind you but one that is vibrant and interested in personal professional development with a desire to learn and advance and bring new ideas to the forefront. The fact that DCAA is losing, in absolute numbers, the CPAs in its organization might be a sign that the Agency is not hiring the staff necessary to preserve the organization. And that would be too bad. Bad for Government procurement and bad for taxpayers.

What We Need is a Federal Contract Audit Agency

The Project on Government Oversight (POGO) is a nonpartisan independent watchdog that investigates and exposes waste, corruption, abuse of power and when the government fails to serve the public or silences those who report wrongdoing. Since its founding in 1981, it has investigated a number of high profile cases of fraud, waste, and abuse within the Government and has consistently been a strong supporter of DCAA (Defense Contract Audit Agency) activities.

In addition to highlighting problems, POGO desires to be part of the solution by making recommendations to Congress and the Executive Branch to address harms exposed by its findings. Last month, POGO published the "Baker's Dozen: 13 Policy Areas that Require Congressional Action". The seventh of the thirteen recommendations is entitled: Commonsense Contract Reforms to Protect the Taxpayer. Withing this recommendation, there are six sub-recommendations regarding the need for contract reform. We will look at a few of these recommendations beginning today with a recommendation to establish a federal contract audit agency to conduct all contract audits.

The idea of establishing a federal contract audit agency is nothing new. We recall the recommendation being bandied about in the early 80's. DCAA was never officially in favor of it (wink wink) because DoD was opposed to it. In reality, there were many within the DCAA hierarchy that believed it was a good idea, not only for the empire building opportunities such an agency provided, but for consistency in auditing contracts across the full spectrum of Government purchases.

POGO has now resurrected the idea of a Federal Contract Audit Agency. In its report, POGO states:

Audits are among the most useful tools we have to check on federal contracts and ensure the money was spent wisely. But currently, contract audits are performed by numerous federal offices, including DoD's Defense Contract Audit Agency, small auditing offices in other agencies, contracted auditors, and various inspectors general. This sprawling fragmented system means missed opportunities, patchwork coverage, and limited effectiveness. A single consolidated federal contract audit agency could save more than it would cost to run by uncovering waste and fraud across the federal government.

Its recommendation to resolve this fragmentation issue and streamline the audit process is obvious:

Congress should establish a consolidated agency to provide all federal agencies with a needed check on contractors, ensuring by pre- and post-award audits that the government is not being overcharged for goods and services. Such an office would be more effective than provisions passed in the FY 2017 National Defense Authorization Act that allow defense contractors to choose their own private auditors. Those provisions should be repealed to maintain government oversight of federal defense contracts.

The reference to the FY 2017 NDAA includes a provision that DoD contract out a minimum of 20 percent of the incurred cost audit workload to private CPA firms.

See Baker's Dozen for the full report.

Double Jeopardy - Incurred Cost Audits

DCAA's (Defense Contract Audit Agency's) policies and procedures for sampling low-risk incurred cost proposals, while certainly helping to reduce the Agency's incurred cost backlog, has not been without its detractors in the contract administration community. There are anecdotal stories out there where contracting officers try to initiate their own reviews of incurred costs after receiving notification from DCAA that a particular contractor submission has been deemed low risk and should be relied upon to close contracts for that year. Contractors were understandably upset because of the apparent "double audit". The problem became significant enough that the Defense Department amended its FAR Supplement (DFARS) to, in effect, tell contracting officers to knock off the second-guessing of audit results.

DFARS 242.705, Final indirect cost rates was added as follows:

DCAA Policy and Procedure for Sampling Low-Risk Incurred Cost Proposals issued on Junly 24, 2012. Effective immediately, for the purposes of satisfying the audit requirements at FAR 4.804-5(a)(12), 42.705-1(b)(2), and 42.705-2(b)(2)(i), Department of Defense contracting officers shall continue to rely on either a DCAA audit report or a DCAA memorandum documenting that, based on a risk assessment and a proposal adequacy evaluation pursuant to FAR 42.705-1(b)(1)(iii), DCAA deemed the incurred cost proposal to be low-risk and did not select it for further audit in accordance with its policy.

This policy certainly doesn't mean that DCAA can make its determination in a vacuum without consulting the contract administration office. Before DCAA makes its high risk/low risk determination on a particular year at a particular contractor, it requests that the contracting officer provide them with a list of any known significant risk factors. The notification typically follows this wording:

Please notify us of any significant risk factors you are aware of that would impact the low-risk determination for the subject contractor and fiscal year. A negative response is requested. We request that you provide a response to our office no later than ten business days from the date of this letter.

Contracting officers are always given the opportunity to weigh in on what they view as risk factors at a particular contractor. And, the contract auditors are obligated to consider these views when assessing whether to perform an audit or to close it out with no audit because the risk factors did not justify a full audit.

DCAA's Annual Report to Congress - Part IV

Today is the final post in our series on DCAA’s latest performance report. If you missed any of the earlier installments, you can find them here: Part I, Part II, and Part III. Part I discussed DCAA return on investment. Part II discussed DCAA’s professional staffing, the cost of performing audits and some insight on sustention rates. Part III dealt primarily with DCAA’s progress in reducing its incurred cost backlog. In this final installment, we will cover the average length of time required to complete audit, a couple of recommendations to Congress on how the audit process can be improved, and DCAA efforts to assist small businesses in various aspects of Government contracting.

No matter how you look at it, the time it takes for DCAA to complete and audit and issue a report is long. When evaluating forward pricing proposals, it takes DCAA an average of 83 days. That’s a far cry from 30 days just a few years ago. For incurred cost, the length of time, measured from the date that an adequate proposal is received until an audit report is issued or it is administratively closed out because it is low-risk is 143 days. Remember, we’re dealing with averages. DCAA did not specifically report the number of days to close out an incurred cost year when an audit is required. If they did, the elapsed days would be significantly higher than 143 days.

DCAA made two recommendations to improve the audit process. One is not so much of a recommendation as it is a plea to a better working relationship with Congress. The other deals with a need to facilitate or expedite hiring authority for new auditors. Neither one of these would seem to have a direct impact on improving the audit process.

DCAA is one of several agencies required to proactively engage with industry to improve the acquisition process. Specifically, DCAA was tasked with the requirement to clarify audit requirements, understand and address contractor concerns and improve the audit process. DCAA reported a number of meetings with industry leaders and reports that it is encouraging auditors to “be more flexible, responsive, and proactive in addressing industry concerns”. We’re not sure that such “flexibility” has worked its way down to the audit staff yet. One thing we have noticed is that DCAA seems to be taking a more active role in small business outreach such as participating in PTAC (Procurement Technical Assessment Center) seminars.

If you wish to read the full DCAA performance report yourself, it can be accessed here from DCAA’s public website.

DCAA's Annual Report to Congress - Part III

Today we bring you Part III of our series on DCAA’s (Defense Contract Audit Agency) performance report – a statutorily required report where DCAA provides a self-assessment on how it is meeting customer expectations. In Part I, we discussed the Agency’s impressive return on investment. In Part II, we discussed the Agency’s professional staff, the cost of performing various types of audits, and the unimpressive sustention rate for incurred cost audits. If you missed either Part I or Part II, click here and here, respectively. Today we will focus on how DCAA is reducing its backlog of contractor submitted incurred cost proposals.

As most readers know, contractors with flexibly priced contracts (e.g. CPFF, CPIF, FPI, and T&M) are required to prepare and submit an annual summation of costs charged to those contracts. The content of these proposals (commonly referred to as ICE submissions), is prescribed in FAR 52.216-7, Allowable Cost and Payment. Every year, the Agency receives 6-7 thousand of these submissions. So, if the Agency is not clearing out that many, they quickly fall behind in their responsibility and a backlog is created.

DCAA does not have sufficient staffing to conduct 6-7 thousand GAGAS-compliant incurred cost audits each year. So, it developed a risk-based approach to selecting those that they will audit. Contractors are divided into high-risk and low-risk. High risk contractors are audited while indirect rates and incurred costs on submissions from low-risk contractors are simply accepted as proposed. In fiscal year 2017, DCAA closed out 6,786 incurred cost submissions but only 1,527 of those were audited. The remaining 5,259 were simply closed without any audit effort performed. Expressed in terms of contract costs, the 1,527 submissions that were audited totaled $326 billion whereas the 5,259 submissions that were not audited totaled $25.4 billion. So, DCAA effectively audited 90 percent of the contract costs while auditing only 23 percent of submissions. So, while $25 billion might be a lot to leave on the table, and contractors knowing their chance of being audited are negligible might be tempted to less diligent in excluding unallowable costs from their submissions, the bottom line (90 percent coverage) does seem to be an acceptable risk to the Government.

Overall, as a result of this risk-based approach to auditing incurred costs, the Agency has reduced the incurred cost backlog from 21,000 in fiscal year 2011 to a manageable 2,860 at the end of fiscal year 2017

DCAA has been often criticized for taking too long to complete audits. One of the metrics that Congress wanted DCAA to track was its ability to meet due dates. DCAA reported that it met agreed-to due dates 78 percent of the time (by comparison, it met due dates only 32 percent of the time in fiscal year 2012 and has been steadily improving each year. The key to this metric is the definition of “agreed-to” due date. That is different that “requested” due date. Say, for example, a contracting officer requests an audit to be completed in 30 days. DCAA acknowledges the request but says that it cannot complete the audit in 30 days but can complete it 45 days. The contracting officer agrees to accept the audit in 45 days. The requested due date was 30 days but the agreed-to due date was 45 days.

Tomorrow, we will finish this short series on DCAA’s annual performance report to Congress by looking at how long it takes DCAA to complete its work, its recommendations to Congress on how the audit process can be improved, and its activities with respect to assisting small businesses. If you wish to read the full DCAA performance report yourself, it can be accessed herefrom DCAA’s public website.

DCAA's Annual Report to Congress - Part II

This is Part II of our series on DCAA’s (Defense Contract Audit Agency’s) latest annual performance report to Congress. If you missed Part I, click here. Yesterday we discussed the overall ROI (return on investment) that DCAA achieved – DCAA returned more than $5 for ever dollar it spent. Today we will cover sections of the report that deal with staffing and what it cost to conduct the average audit.

DCAA has probably the most educated and professional staff of any major Governmental organization. The Agency employs more than 4,100 auditors. All of them have at least a bachelor’s degree. More than 40 percent have advanced degrees and nearly a quarter of them are Certified Public Accountants.  These are very impressive and enviable stats. However, one thing the report does not assess is employee turnover. Based on our interactions with the Agency, DCAA experiences significant turnover which means that its rank and file staff, on average, do not have a whole lot of experience to go along with their educational and professional backgrounds.

DCAA reported that it cost nearly $114 thousand on average to evaluate a forward pricing proposal and $297 thousand to complete an audit of incurred costs. This works out to somewhere around 70 hours and 185 hours respectively. Of course, these are only averages. At major contractors, auditors will spend many thousands of hours to complete an incurred cost audit and at smaller contractors, audits might be knocked off in just a few hours with a desk review. These two audit areas by the way represent the preponderance of DCAA’s workload.

One troubling statistic is the sustention rate for incurred cost. Sustention rate is measured by comparing audit exceptions identified in audit reports against what the contracting officers were able to sustain when negotiating or settling audit exceptions. That ratio was only 28.6 percent in fiscal year 2017. It seems to us that that ratio should be much higher. Something is going on. Perhaps auditors are not adequately supporting their positions. Perhaps auditors can’t decide on a particular issue and simply throw it over the transom for someone else to decide. Perhaps contracting officers are not aggressively supporting audit positions. Perhaps contracting officers are not taking the time necessary to understand the issues. Every audit issue raised by an auditor require time and effort to respond. Contractors usually need to make multiple responses, one to the auditor and another to the contracting officer. With only a 25 percent sustention rate, it seems like contractors are wasting a lot of time and money to fight what are ultimately unsupported Government positions. DCAA really needs to do a better job of vetting their positions before publishing reports of findings.

Tomorrow, we will look into other aspects of DCAA’s annual performance report to Congress – namely how DCAA is clearing out its incurred cost backlog. If you wish to read the full performance report yourself, it can be accessed here from DCAA’s public website.

DCAA's Annual Report to Congress - Part I

Each year since 2011, DCAA (Defense Contract Audit Agency) has prepared and submitted an annual report to Congress. The basic content of these statutorily required performance reports are fundamentally unchanged but in the 2017 NDAA (National Defense Authorization Act), Congress directed the Agency to provide additional details to support its self-assessment. The most recent report, the 2017 Report to Congress released earlier this year is the first to include the “enhanced” details required by Congress.

DCAA might be the only Governmental audit agency in the Federal Government that has to justify its existence based on cost savings. The IGs (Offices of Inspector Generals) report on cost savings occasionally but that is a small part of what those organizations do. The GAO (Government Accountability Office) conducts audits but they focus on compliance issues or ways to make the Government more efficient, effective, or economical.

It is not surprising then that DCAA’s performance report is peppered with references pertaining to ROI (return on investment). DCAA does a great job of assessing contract costs or forecasted costs against the FAR (Federal Acquisition Regulations) cost principles (FAR Part 31) and contract terms and conditions. It does a great job in assessing the reasonableness of forecasted costs as well – making sense out contractors’ forecasting methodologies. One thing it hasn’t done very well historically is assessing the adequacy of contractor internal control systems, whether any identified internal control deficiencies rise to the level of significant, and the impact that those deficiencies have on the propriety of costs charged by contractors to Government contracts. If you think back to the genesis of DCAA’s so-called scandals ten years ago, they originated when someone higher up in the organization disagreed with the significance of internal control deficiencies identified by an auditor. Internal control deficiencies are not quantifiable into cost savings for the Government. Adherence to FAR cost principles are quantifiable.

DCAA reported that in fiscal year 2017, it examined $281 billion in contract costs and saved $3.5 billion in defense spending. That’s a little better than one percent but it also represents more than five times what it cost to run the organization. That’s not a bad return on investment at all. DCAA states that the $3.5 billion can be reinvested in the warfighter or returned to the Treasury. Cynics might say that it can be wasted elsewhere.

The trajectory of DCAA’s reported return on investment (ROI) has been falling. In fiscal years 2012 through 2014, the ROI was close to or exceed $7 for every dollar spent. In fiscal year 2015, it dropped to less than $5 per dollar spent. The latest year was just over $5 per dollar spent. There are, of course, many factors that go into calculating cost savings and ROI but DCAA did not try to analyze why ROI has been falling.

Tomorrow, we will look into other aspects of DCAA’s annual performance report to Congress. If you wish to read the full performance report yourself, it can be accessed here from DCAA’s public website.

Free DCAA Seminar - Registration Required

This free seminar will be of interest for Government contractors and prospective contractors.

DCAA "Slowness" Cost a Company a Contracting Opportunity

Back in June 2016, GSA (General Services Administration) issued a solicitation to procure IT services for various Governmental agencies. It was a multiple-award ID/IQ contract where awardees under the solicitation would become eligible to receive task orders under the contract.

One of the conditions that bidders needed to establish was the adequacy of their cost accounting systems (CAS). Bidders could provide evidence from DCAA (Defense Contract Audit Agency), DCMA (Defense Contract Management Agency) or another Cognizant Federal Agency. One of the bidders, Dynanet Corporation did not have such evidence so GSA requested DCAA to perform a pre-award accounting system survey.

On August 12, 2016, DCAA acknowledged GSA's request for the review so sometime after that, DCAA initiated its review.

Proposals were due to GSA on October 7th but by then, DCAA had not completed its audit. That was nearly two months after the audit request and should have been plenty of time to complete these rather perfunctory reviews. Two days and the day before proposals were due, Dynanet frantically communicated with DCAA as to the report status. Dynanet pleaded with DCAA, if they were not able to issue a report, to provide them at least a letter to the effect that their cost accounting system was adequate.

DCAA refused saying that the audit had to be reviewed by a supervisor and would be issued the following week. DCAA did issue the report the following week, October 14, 2016 and found Dynanet's accounting system to be adequate for Government contracting. But by then, it was too late. GSA deducted points from Dynanet's bid because the proposal did not include evidence that the accounting system had been approved by DCAA. That point reduction was enough to reduce Dynanet's score below the award cutoff. Specifically the contracting officer noted that Dynanet

did not provide evidence of an acceptable accounting system that has been audited and determined adequate for determining costs applicable to the contract. [Dynanet] provided a letter from DCAA dated August 12, 2016 that simply indicated that an audit request has been received. [Dynanet] also provided an [email] string from DCAA dated October 6, 2016 (one day before the [bidding window] closed) where [the DCAA] stated that the audit was in its final stages with a goal of having it completed by October 14, 2016 (7 days after the [bidding window] closed).

Dynanet appealed but that appeal failed (see CFC 18-795C) because the contracting officer had evaluated everything in strict accordance with the solicitation.

If only DCAA could have published its report one week sooner, Dynanet might have had a contract.

Paid Voucher Audits

Most Government contractors with cost-type contracts have been subjected to "paid voucher" reviews. These are reviews where contract auditors (usually DCAA or Defense Contract Audit Agency) will take a voucher that has previously been paid in the last year and trace the amounts claimed, billed, and paid to source documents. This is a fairly recent program coming out of DCAA with dubious benefits. One former auditor speculated that after DCAA transitioned most of its important work to DCMA (Defense Contract Management Agency), it has been scrounging around looking for purposeful work. Whether paid voucher reviews provide a benefit to the Government or not, most of the testing steps do not require the skills of professional auditors (Certified Public Accountants). Many "testing" steps are those that anyone, with minimal training, could perform - e.g. did the contractor pay the vendor in 30 days?

The basic audit policy is to review one paid voucher per year at non-major contractors and one voucher per month at major contractors. The distinction between major and non-major is $100 million of costs charged to flexibly priced contracts in a year. Contractors with less than $100 million are considered non-major contractors.

One aspect of these reviews that sometimes becomes contentious concerns T&M (Time and Material) contracts and the requirement to compare employee qualifications to those specified in the contract. This is why auditors request contractors to provide personnel files - to ascertain whether their education, training, and experience qualifies them to perform the function at the level they are billed to the Government. For example, while an apprentice may perform a particular function just fine, the Government, by terms of the contract, wants and is paying for a Senior Engineer. Contractors, if you ever find yourself in a situation where you cannot meet the contractual requirements for a particular skill, contact your contracting officer and let them know the situation. It might require a reduction in a T&M rate but that is much better than finding yourself on the wrong end of an investigation.

Another issue that frequently arises concerns contractor oversight of cost-type subcontractors. For most non-major contractors, this is not a problem because there are no subcontract costs charged to the contract. But where there are subcontract costs, the auditors will want to know what controls are in place to manage those subcontracts and monitoring subcontract billings. Contractors do have the contractual requirement to ensure the propriety of subcontractor submitted costs and where those subcontracts are cost-reimbursable, the Government expects a level of oversight similar to what it performs for the prime contracts.

The DCAA audit program for paid voucher testing can be viewed or downloaded here.

Wouldn't Contractors Love to Have This Contracting Officer Overseeing Its Government Contracts

Is DCAA (Defense Contract Audit Agency) irrelevant? DCMA (Defense Contract Management Agency) must think so. Here's a case that represents an egregious waste of taxpayer funds.

Back in 2009, the Air Force partially terminated a contract for convenience. The part that was terminated involved the purchase of titanium for F-22 aircraft fuselages from one of the contractor's subcontractors.

In 2012, the Air Force Termination Contracting Officer (TCO) requested that DCAA (Defense Contract Audit Agency) conduct an audit of the subcontractor's termination settlement proposal.

In 2014, DCAA finally issued its audit report on the subcontractor's termination settlement proposal. DCAA identified $826 thousand of the $1.9 million claimed as questionable for not complying with FAR (Federal Acquisition Regulations). $354 thousand of the questioned amount were costs incurred after the notice of termination and therefore unallowable. The remaining $472 thousand were unallowable according to other FAR provisions.

DCMA (Defense Contract Management Agency) - the Contracting Officer - was responsible for negotiating the termination settlement proposal and for addressing the $826 thousand questioned by DCAA.

In 2016, The DCMA contracting officer, without considering any of DCAA's questioned costs, authorized the full $1.9 million termination settlement proposal.

Later in 2016, a Hotline Complaint was filed with the DoD Office of Inspector General (DoD-IG) alleging that the DCMA contracting officer's settlement was improper because it did not consider the DCAA audit findings (wonder who might have filed this hotline complaint). After receiving the hotline complaint, the DoD-IG initiated an investigation.

The DoD-IG found that the DCMA contracting officer and her supervisor were negligent in negotiating proposed termination costs. For her part, the contracting officer,

• did not have any experience in negotiating DCAA-questioned costs and prior to this termination settlement proposal, she performed only contract administrative tasks, such as maintaining spreadsheets of invoices billed by the contractor
• did not have any experience with contracting actions greater than $750 thousand, which did not require negotiations involving DCAA audits and
• was not aware of the requirements for appropriately considering and documenting her actions on DCAA-questioned costs.

That should not have happened with adequate supervision, correct? Didn't happen. The DoD-IG also found that the supervisor (since retired) was negligent as well: The supervisor did not

• document why he approved the action
• document whether he advised the contracting officer to sonsult with or engage DCAA during negotiations
• document whether he advised the contracting officer to seek legal counsel given her decision not to uphold the DCAA audit
• require the contracting officer to prepare a price negotiation memorandum documenting the reasons for not upholding the DCAA questioned costs.

DCMA, as part of corrective action, rescinded the contracting officer's warrant, sent her to more training, and reviewed all of her past actions. DCMA also asked for some money back but the subcontractor refused claiming that it had a signed contract modification.

If you want to read the full investigative report, click here.

Report on External Peer Review of DCAA Published

Last November, the Department of Defense, Office of Inspector General (OIG) issued a report on its latest peer review of the Defense Contract Audit Agency (DCAA). With respect to peer review ratings, audit organizations can receive a rating of 'pass', 'pass with deficiencies' or 'fail'. DCAA received a rating of 'pass with deficiencies'. DCAA's previous peer review rating was also 'pass with deficiencies'.

DCAA agreed with the 'pass with deficiencies' opinion and overall conclusions on the documentation and evidence deficiencies. However, DCAA disagreed that the reporting, supervision, and professional judgment deficiencies rose to the level of a system-reportable deficiency. DCAA noted that the OIG overstated the conclusions by citing the same finding under several deficiencies. For example, the OIG cited one assignment for a lack of evidence to an audit position but took the same deficiency and cited DCAA for supervision, reporting, and professional judgment deficiencies.

DCAA agreed to take corrective action that focused on specific findings but since the Agency did not consider the deficiencies to be systemic, that is, widespread throughout the Agency, did not generally agree with OIG recommendations that called for massive Agency-wide re-training efforts.

The OIG disagreed with the scope of DCAA's corrective action plan is some cases and left those findings 'open' in an unresolved state. You can download and read the full Peer Review report from either the OIG's website or the DCAA website.

Now comes Senator McCaskill in her position as Ranking Member of the Senate Committee on Homeland Security and Governmental Affairs asking DCAA to explain their inadequate responses to the OIG's peer review recommendations. In a February 5th letter to DCAA, McCaskill requested DCAA to explain why it did not agree with the OIG's recommendations and specifically, why it did not agree to "implement broader reforms in order to avoid a recurrence of these or similar problems". McCaskill wants DCAA to address the following questions:

1. Why does DCAA believe that these flawed audits indicated the need to improve the performance of audit staff, but not the performance of the supervisors reviewing the work of those staff members?
2. Why does DCAA believe that the deficiencies which led to flawed audits in four offices do not point to the need for additional training agency-wide?

You can read Senator McCaskill's letter here. We'll report on DCAA's response to the letter if we ever get a copy.

DCAA's Financial Liaison Advisory Services

DCAA (Defense Contract Audit Agency) employs a cadre of individuals that act as Financial Liaison Advisors (FLAs). These individuals are generally auditors with a significant amount of audit experience and are assigned to support DoD procurement and contract administration offices to assist them in achieving the objectives of sound contracting by providing onsite accounting and financial advice to contracting officers, negotiators, and buyers. While contract auditors are independent under GAGAS (Generally Accepted Government Auditing Standards), FLAs are not. They sit side by side with Government procurement and advocate on behalf of the Government. Perhaps you've met some when sitting at the negotiating table.

FLA have been assigned four major and significant responsibilities.

1. Facilitate effective communication and coordination between procurement officers and auditors
2. Provide advice to the procurement office in connection with contractors' cost representations and related matters, in consultation with the auditor.
3. Provide information back to the auditor regarding specific awards, trends in the type and volume of awards and other data impacting on immediate or long-range DCAA responsibilities.
4. Provide DCAA management with information as to the adequacy, responsiveness and timeliness of the advisory audit reports being submitted by auditors (many auditors do not appreciate the FLA's tattle-tale role).

For more information on DCAA's FLA program, refer to Chapter 15 of the DCAA Contract Audit Manual.

Contractor's Risk of Being Audited Jumps Significantly

It appears that DCAA (Defense Contract Audit Agency) has quietly and significantly increased the number of incurred cost audits it intends to perform. In its most recent edition of the DCAA Contract Audit Manual, Section 6-104 (December 2017), DCAA lays out its policy for performing incurred cost audits. In short, it classifies contractors as either high risk or low risk. 100 percent of incurred cost submissions from high risk contractors will be audited and 33 percent of incurred cost submissions from low-risk contractors will be audited.

The Agency has always audited 100 percent of incurred cost submissions from high-risk contractors, but the 33 percent threshold for low-risk submissions marks a significant increase in numbers of audits. Consider the previous sampling criteria in the following chart. The term "ADV" refers to Auditable Dollar Volume and represents the total costs charged to flexibly priced contracts in a given year. Flexibly priced contracts include CPFF, CPIF, FPI, and T&M. If you're a Government contractor and charged less than $1 million to flexibly-priced contracts (and you're a low-risk contractor), your chances of being selected for audit just increased from zero percent to 33 percent.

These old percentages were probably only temporary anyway. DCAA had a huge backlog of incurred cost submissions subject to audit and took a lot of criticism from GAO and the DoD Inspector General as well as members of Congress over its inability to keep up with the workload. To catch up, simply agreed to or recommended that contracting officers accept claimed rates as proposed. No audits were performed on thousands of submissions. This approach certainly reduced DCAA's backlog but it also left the Government at risk for reimbursing contractors for potentially unallowable costs.

It will be interesting to see whether DCAA can stay current with the added workload. However, the Agency might not have to do it on their own. The 2018 NDAA (National Defense Authorization Act) contains a provision that requires DoD to utilize commercial audit organizations to accomplish 20 percent of incurred cost audits (see our coverage of this provision here).

2018 NDAA - New DCAA Reporting Requirements

Section 811 of the 2018 National Defense Authorization Act (NDAA) covers several topics. One concerns the increase in the dollar threshold for the submission of certified cost or pricing data which we will cover in more detail tomorrow. The other appears to be a slap on the wrist of DCAA (Defense Contract Audit Agency) for obfuscating some of their performance data.

Is DCAA "current" in performing incurred cost audits? The Agency says it is and that's why they are once again performing incurred cost audits for non-DoD agencies. But was does "current" mean? And how did DCAA achieve currency? In DCAA's parlance, current means 18 months as in the Agency needs to complete incurred cost audits withing 18 months of receiving an adequate contractor submission. But the 18 month time-frame is also an average which means some will take longer that 18 months to complete and some will take less. Which answers the second question of how did the Agency achieve the 18 month average in such a short time when just a few years ago its backlog was four to six years (depending on who you talk to). Easy, the Agency simply "wrote off" what it determined were low risk contractors by accepting the final indirect rates as proposed - and that included the preponderance of contractors. Eureka! No more backlog.

But Congress didn't quite buy that and it was deeply concerned with writing off the preponderance of contractors without performing any type of audit. In Sec 803 of the 2018 NDAA which we discussed here, Congress instituted a plan for private audit firms to begin sharing the incurred cost audit workload with DCAA and mandated that these audits would be completed with a year of receiving an adequate submission.

Now here in Sec 811 of the 2018 NDAA, Congress wants to get to the bottom of DCAA's performance. It is requiring DCAA to revise its Annual Report to Congress to provide clarity on the cost effectiveness of different types of audits. Under the 2018 NDAA, DCAA must now break down its statistical tables by type of audit. Though "type of audit" is not defined, it presumably includes (i) incurred cost (ii) forward pricing, (iii) defective pricing, (iv) and internal control/business systems. But here are the added reporting requirements:

1. The total number and dollar value of incurred cost audits completed, and the method by which such incurred cost audits were completed (i.e. was an audit performed or was it written off as low risk).
2. The aggregate cost of performing audits, set forth separately by type of audit
3. The ratio of sustained questioned costs to the aggregate costs of performing audits, set forth separately by type of audit, and
4. The total number and dollar value of audits that are pending for a period longer than one year as of the end of the fiscal year covered by the report, and the fiscal year in which the qualified submission was received, set forth separately by type of audit

This information, if nothing else, will prove interesting.