DCAA Gets Cut Off at the Pass - Again

We're beginning to think that Congress believes that the Defense Contract Audit Agency (DCAA) has become a stumbling block to efficient and effective Government contracting practices. Last week in discussing Sec. 820 of the 2017 NDAA (National Defense Authorization Act), we noted a provision that will effectively eliminate DCAA from auditing indirect costs in favor of privatization. DCAA can still audit the direct costs but will have no role in auditing indirect costs. We're not sure how that will work out in practice however. One cannot develop indirect expense rates without auditing both direct and indirect costs. Someone, either the independent public accountant or DCAA is going to have to marry up the two sides to come up with final rates. And, most likely, the two organizations will be on different auditing cycles which may be the undoing of the entire concept.

The 2017 NDAA has another provision that effectively prevents DCAA from sticking their noses into Performance Based Contract Payments. Sec 831 establishes a preference for performance-based payments to contractors as the preferred Government financing mechanism. The Senate version of the bill added the following:

1. Performance-based payments shall not be conditioned upon costs incurred in contract performance but on the achievement of performance outcomes.
2. The Secretary of Defense shall ensure that nontraditional defense contractors and other private sector companies are eligible for performance-based payments, consistent with best commercial practices.
3. In order to receive performance-based payments, a contractor's accounting system shall be in compliance with Generally Accepted Accounting Principles, and there shall be no requirement for a contractor to develop Government-unique accounting systems or practices as a prerequisite for agreeing to receive performance-based payments.

The House version of the NDAA did not contain a similar provision. During conference, the House agreed to the Senate provision with the added provision that reads as follows: "Nothing is this section shall be construed to grant the Defense Contract Audit Agency the authority to audit compliance with Generally Accepted Accounting Principles (GAAP).

How will a contracting officer determine that a contractor is GAAP compliant? If the contractor has "audited" or "reviewed" financial statements, there is independent assurance that the accounting system complies with GAAP. However, the majority of Government contractors will not have audited or reviewed financial statements so then it becomes problematic for the Government to ensure that a contractor's accounting system is GAAP compliant. Perhaps the Government can rely on self-certification as it now does with any number of contractual requirements. However GAAP compliance is to be determined however, don't expect that DCAA will have any role in the assessment.

New GAAP References in FAR

Now a little something for our "accountant" readers.

There is a new proposal to amend the FAR to update references to authoritative accounting standards owing to the FASB's (Financial Accounting Standards Board's) Accounting Standards Codification (ASC) of Generally Accepted Accounting Principles (GAAP).

In June of 2009, the FASB announced, in its Statement Number 168, that effective for financial statements issued for interim and annual periods ending after September 15, 2009, the FASB ASC would become the source of authoritative U.S. GAAP recognized by the FASB to be applied by nongovernmental entities. The FASB stated that this codification supersedes existing references in U.S. GAAP. Consequently, FAR needs to be updated for the superseded references in three FAR sections with the GAAP Codification references. The revisions to the three FAR sections are intended to have no effect other than to simply replace the superseded references with updated references.

This change will update most but not all references to GAAP contained in the FAR. The notable exception is FAR 31.205-6(o)(2)(iii)(A)(1) which discusses post retirement benefits other than pensions and provides that costs in excess of that computed in accordance with FASB 106 is unallowable. The FAR Councils have promised that this will be handled in a separate FAR case which makes us believe that there is something more substantial coming then just a mere change to a GAAP reference.

Specific changes include:

31.205-11 Depreciation.

(h) A ``capital lease,'' as defined in Financial Accounting Standards Board's Accounting Standards Codification (FASB ASC) 840, Leases, is subject to the requirements of this cost principle. (See 31.205-36 for Operating Leases.) FASB ASC 840 requires that capital leases be treated as purchased assets, i.e., be capitalized, and the capitalized value of such assets be distributed over their useful lives as depreciation charges or over the leased life as amortization charges, as appropriate, except that--

31.205-36 Rental costs.

(a) This section is applicable to the cost of renting or leasing real or personal property acquired under ``operating leases'' as defined in Financial Accounting Standards Board's Accounting Standards Codification (FASB ASC) 840, Leases. (See 31.205-11 for Capital Leases.)

52.204-10 Reporting Executive Compensation and First-Tier Subcontract

(2) Awards of stock, stock options, and stock appreciation rights. Use the dollar amount recognized for financial statement reporting purposes with respect to the fiscal year in accordance with the Financial Accounting Standards Board's Accounting Standards Codification (FASB ASC) 718, Compensation-Stock Compensation.

Generally Accepted Accounting Principles (GAAP)

The Standard Form 1408 (Preaward Survey of Prospective Contractor Accounting System) is used to document the Government's assessment of whether a contractor's accounting system is acceptable for the award of the prospective contract. The conclusion on whether a system is adequate or not will depend on the type of contract (or subcontract) contemplated. There are differing requirements for fixed price, cost type and T&M (time and materials). The Government organization in charge of assessing the adequacy of an accounting system will tailor the review for the contract type contemplated. If you have not been through an accounting system review, it would be useful to download the form (just search on the term "SF Form 1408") to see how close your accounting system comes to meeting the Government's expectations. Alternatively you can hire an outside firm (such as Pacific Northwest Consultants) to come in and perform a "mock audit". A "mock audit" should identify any weaknesses in your accounting system and provide an opportunity to take corrective actions before the official audit begins.

The first attribute addressed by the form is whether the system is maintaine in accordance with Generally Accepted Accounting Standards (GAAP). If your company has had an outside audit, reivew, or compilation by an independent accounting firm (a CPA firm), this is easy to answer - just refer to the auditor's opinion. However, for companies that have not had outside assessments of their financial position (and that's most small businesses), it is a little more difficult to make that assessment.

In June 2009, the FASB (Financial Accounting Standards Board) issued FAS (Financial Accounting Standard) No. 168 which approved the ASC (Accounting Standards Codification) as the single source of authoritative non-governmental U.S. GAAP for financial statements. At that time, all existing GAAP pronouncements were superseded. The objective of the ASC project was to integrate and combine existing GAAP pronouncements into one authoritative GAAP. In determining whether your accounting system is compliant with GAAP, you need to consult the ASC. You can access GAAP free of charge under the "basic view" on the FASB website. 

The SF Form 1408 is sometimes completed by non-accountants as a "desk review". Sometimes the scope of the review might be as simple as asking a contractor if they have an accrual basis accounting system. If the contractor (or prospective contractor) answers in the affirmative, the non-accountant will most likely check "yes" to that accounting system attribute. If a Government Audit Organization (such as DCAA) is performing the accounting system review, they will not rely solely on contractor assertions and representations but will also perform substantive testing to ensure that the system is maintained on an accrual basis and compliant with applicable GAAP. The problem with a faulty pre-award review manifests itself when it comes time to get paid. The Government might perform a Post-award accounting system review or a billing system review, or a provisional billing rate review prior to approving any payment requests. Any deficiencies at this juncture will need to be fixed before payment is approved.

The best advise is to ensure you bring your accounting system into compliance before pursuing Government contracts. It will facilitate all aspects of contracting including estimating, accounting, and billing.