Material Costs - Part 1

Whenever "material costs" are discussed, it is usually in the context of a contractor's purchasing system - a system that should be designed and operated in such a manner as to ensure that the contractor (and therefore the Government) is obtaining fair and reasonable pricing of the materials it buys or the subcontracts it awards. DFARS (DoD FAR Supplement) 252-244-7001 lists 24 different criteria that contractors must meet in order to have an adequate purchasing system.

But beyond the 24 criteria found in DFARS, there are provisions in FAR Part 31 cost principles that concerns the allowability of material costs. In the context of FAR 31.205-26, material costs include not only the cost of the item(s) but the total cost to get those parts to the contractor's facility. These include::

1. Raw materials
2. Parts
3. Sub-assemblies
4. Components
5. Manufacturing supplies
6. Inbound transportation
7. In-transit insurance

The next provision that FAR adds is a reminder that allowable costs not only include the material items that go in to the end product, but also include (FAR states that contractors "shall include"):

• Reasonable overruns
• Spoilage
• Defective work

This is important because contractors many times overlook these elements and auditors, when they see them in a proposal, try to question the costs (e.g. why are you proposing 13 windows for this building when the specs call for only 12?). For proposal purposes however, its a bit tricky to prepare defensible estimates of what these costs will be. Obviously, historical experience is the best indicator but many companies will not have the ability to accumulate and calculate such factors. Alternatively, there might be some industry standards available to approximate these loss factors.

Tomorrow we will review how FAR requires contractors to account for material costs.

QuickBooks or QuickBooks Online?

Many, perhaps most, Government contractors use a version of QuickBooks to process accounting transactions, compile job costs (i.e. costs by contract), summarize data needed to calculate indirect expense rates, and prepare billings. Many use the basic QuickBooks by itself while others have purchased "add-ons" that make Government-centric tasks a little more efficient. Whether stand-alone or paired with add-ons, QuickBooks fulfills the essential accounting needs required for Government contracting.

Recently, Intuit, the makers of QuickBooks, have been aggressively marketing their on-line version of QuickBooks. At a recent conference, a QuickBooks representative reported that Intuit is spending more than 70 percent of its research and development efforts into the on-line version of QuickBooks as the company believes that is the future of accounting products. This undoubtedly means that we will not be seeing many new features for the desktop versions and little, if any, compelling reasons to purchase frequent upgrades.

Many of our clients have asked us about converting from the desktop to the on-line version of QuickBooks. There are certainly advantages to operating in the "cloud". One big advantage is that you are no longer tethered to the desk to perform your accounting functions. Get yourself a $200 "Chromebook" and you can access your complete accounting records from wherever you have an internet connection. Another big advantage is the automatic backups. You data is always safe. Sure, you could perform regular backups yourself but who does that? Really? A third advantage to using the on-line version is there is no longer a need to pass around huge data files. You can "invite" your accountant into your accounting data.

While there are distinct advantages to the on-line version, there are also some drawbacks. First, based on our own experiences, the on-line version does not seem as crisp as a desktop version on a computer with a fast processor. There is a noticeable lag time even with fast internet connections. Second, the on-line version does not have the sidebar showing open windows. In the desktop version, you can go to any open window with one click. In the on-line version, you have to use the back and forward browser buttons. Intuit has a work-around - just open multiple browser windows. Perhaps that works for some but it is certainly not as elegant as the desktop structure. Thirdly, the on-line version does not have a "jobs" feature. This could be a fatal flaw for any contractor that is currently using "jobs" in their desktop versions. The on-line version does have the "class" feature but not the "job" feature. Finally, anyone using an add-on product to QuickBooks will not have that feature with the on-line version.

If you're just getting started in Government contracting and you have one or a few contracts, and you want to use QuickBooks, try the on-line version. If you're a current desktop user, you might just want to continue in that vein. Perhaps in a short period of time, especially with all the R&D effort that Intuit is pumping into its on-line version, the features of the on-line version will catch up with the desktop.

Don't Rely on Just Any Old Government Employee for Direction

Contracting officers have the authority to enter into, administer, or terminate contracts and make related determinations and findings. Contracting officers may bind the Government only to the extent of the authority delegated to them. Contracting officers shall receive from the appointing authority clear instructions in writing regarding the limits of their authority. Information on the limits of the contracting officers' authority shall be readily available to the public and agency personnel (FAR 1.602-1).

Contracting officers are responsible for ensuring performance on all necessary actions for effective contracting, ensuring compliance with the terms of the contract, and safeguarding the interests of the United States in its contractual relationship. In order to perform these responsibilities, contracting officers are allowed wide latitude to exercise business judgment. Among those responsibilities are

• Ensure sufficient funds are available for obligation
• Ensure that contractors receive impartial, fair, and equitable treatment
• Request and consider the advice of specialist in audit, law, engineering, information security, transportation, etc.

Contracting officers may also delegate some of their contract administration functions and responsibilities to an Administrative Contracting Officer (AC). In DoD, ACO's are part of the Defense Contract Management Agency (DCMA).

The top level responsibility rests with the Contracting Officer. Anything delegated must be delegated in writing.

Here's where problems arise. Sometimes there are Government employees running around acting like they have a lot of authority. These could be Contracting Officer Representatives, Contracting Officer Technical Representatives, inspectors, quality control people, and sometimes even auditors. Be very careful when you follow their advice or take some kind of contractual action based on their requests, demands, directions, or assurances. 

Beware when you comply with such direction. The person making the request/demand may not have the authority to do what he/she just did. It could be a construction project where an inspector tells you to place the door here instead of there. If he didn't have the authority to make that change, you will not prevail in an equitable adjustment for increased costs. This happens a lot in depot level maintenance contracts where someone on the Government's side has to decide whether particular work is included in the basic contract or represents "over and above" work that should be compensated. If a contractor relies upon direction from an individual that does not have the authority to bind the Government, the chances of prevailing in a dispute are diminished.

In the old days, courts (including the Board of Contract Appeals) were inconsistent in deciding whether the contractor acted in good faith in relying on a Government representative's actions. However, in a 2007 Federal Circuit Court decision (Winter v. Cath-dr/Balti Joint Venture), that former "flexibility" was sharply limited.

For more information on this, follow this link.

New Retirement Plans for Government Contractors

Okay, so this post is not strictly about Government contracting but it is something that Government contractors should be aware of and should encourage their employees to participate in. It's the President's new retirement savings program he announced at last month's State of the Union address. It's called 'myRA'.

The concept is pretty simple. Employees can have as little as $5 taken out of each paycheck and deposited into a Government bond fund. By deducting money from paychecks before workers receive them, the investments will steadily grow without any decision making required. After that, it works much like a Roth IRA - keep the money in for a minimum amount of time and the earnings can be withdrawn tax-free. Like Roths, there are wage thresholds above which employees will not be eligible to participate.

There's good and bad to this program. The good is that it requires very little up-front investment - $25 to open the account and as little as $5 after that. Also, since the Government controls the investment, there are no fees to be paid to brokerage firms and investment advisers. Secondly, investors will never lose their principle, unlike stocks and mutual fund values.

The bad part is that the returns on Government bonds have always been anemic. Right now, the returns are under two percent. Most investment advisers believe that even with their fees, they can achieve greater returns. 

About 40 percent of workers don't have any kind of retirement plan and more than 50 percent of American's are not saving enough money to maintain the standard of living they enjoy during their working life. Social Security is not going to be enough - workers need to save for retirement. In the scheme of things, this new 'myRA' isn't going to solve the problem of insufficient retirement by itself, but is a step in the right direction.

Accounting for Work Breaks

How should paid work breaks be accounted for and still be Government compliant?

We recently had a client ask that question and suggested the options of (i) tracking the time as an indirect charge (similar to vacation time), and (ii) charging the time using the time charge code of the surrounding jobs.

We replied that we believe the choice was theirs.

Time charging should accurately reflect the work performed.  The keys here are accuracy (not necessarily precision) and reasonableness (i.e., industry norms and effectiveness).  Contractors should have reasonable effective timekeeping procedures to ensure labor hours are accurately recorded and then applied to the applicable charge codes (i.e., jobs).

Nearly all of our clients charge short duration (i.e., 15 minute) paid breaks as a direct charge to the job that was worked on just prior to and/or just after the break in a consistent and unbiased manner.  We believe this is reasonably accurate most of the time.

However, there are contractors that accumulate unproductive paid break time as an indirect expense and then allocate those minutes over a base that includes all of the hours worked during the day or during the pay period.  One such contractor is a very large manufacturer that has many small jobs.  Production line employees sometimes work less than 20 minutes on a job and it is not uncommon to find situations where employees work on ten or more cost objectives (jobs) in a given day.  Adding a 15 minute break to a 20 minute job would significantly distort the time charged to that job. Employees scan bar codes to clock in and out of each job.  The time needed for any particular job varies significantly depending on the complexity of the product being made.  Due to its circumstances, the contractor chose to expend more effort to create a more precise allocation of the unproductive paid break time.

Ultimately, it comes down to a business case and determining what's reasonable in the circumstances. Most auditors we know would agree.

If you want to discuss your particular situation, contact Dave Koeltzow (Kelso) at 360-910-4146 or email him at dkoeltzow@pacificnwc.com.

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