(Editor’s Note. With the cessation of the Wind2 survey we used to summarize each year we were very happy to find a few years agoGrant Thorton’s Annual Government Contractor Industry Survey that benchmarks primarily professional services firms. The 15th Annual GT survey for 2009 provides a variety of very useful information. You can contact the firm at 703-847-7515 to purchase a copy of the survey.)
83% of the approximately 120 surveyed firms areprivately owned, 9% are publicly traded and 8% arenot-for-profit concerns. 48% of the companies areclassified as large and 52% as small where 24% hadsales less than $10M, 12% between $10M-20M, 24% between $20M-50M, 18% between $50M-100M and 22% over $100M. 34% of respondents have been inbusiness between 1-10 years, 28% for 11-20 years, 19%for 21-30 years and 19% over 30 years. The vastmajority of surveyed companies sell professionalservices – consulting, IT, research, engineering, generalbusiness services, science and technology, training andeducation, other services – while less than 5% sell products. The primary customer of the respondentsis the federal government where 90% of their revenuecomes from that source. 63% of their revenue came from the Defense Department, 28% from other federalagencies, 5% came from state and local governmentand 4% was commercial. The results confirm the truism that though the commercial sector hasexperienced major business disruptions governmentcontracting remains a growth industry where 50% ofrespondents had increased revenue over the prior year,30% had no significant change while 20% hadreductions. Surveyed companies are very optimisticabout business prospects over the next three yearswhere 69% anticipated increased revenue from thefederal government. 69% see their increases comingfrom prime contracts, 61% from subcontract federalbusiness, 23% from state and local government, 26%from the domestic private sector and 12% from theinternational private sector. Interestingly, 65% expectno significant revenue increase from the impact of thestimulus program over the next 18 months, 33% expecta modest increase while only 4% expect a significantrevenue increase.
14.6% of total headcount is represented bymanagement and support functions with the followingbreakdown of functions: finance and accounting(2.9%), human resources (1.3%), IT support (2.0%),contract and procurement administration (2.2%), legal(.7%), pricing (.7%), procurement (1.35%), sales andmarketing (2.2%) and other indirect (7.3%).
Breakdown of Revenue by Contract Type. 46% of revenue from federal contracts come from cost type contracts,20% are fixed price and 34% are time and material,all about the same as last year. The percent of costtype contracts has substantially increased over the lastfew years apparently putting to rest the impressionthat the government is moving more towardcommercial practices where fixed price or T&Mcontracts predominate.
Fees. Average negotiated fees for cost type contractsaveraged 6-7%, T&M contracts had an average of 78% (compared to 9-10% last year) while firm fixedcontracts had 9-10% (compared to 10-11% last year).It should be noted that these negotiated profit ratesare computed after deducting unallowable costs andbefore income taxes so actual profit rates are lowerthan negotiated rates.
Proposal Win Rates. Surveyed companies stated theirwin rate on non-sole source proposals was 30%.Reasons stated for loosing competitions was acombination of price and technical – 51%, price only – 23% and technical only – 16%.
Bid and Proposal costs. 75% of respondents reportedspending less than $1 million while 19% spent between$1-2 Million.
Claims and Identifying Out-of-Scope Work. Identifying outof scope work, whether it comes from an easy torecognize direct change or sometime difficult torecognize constructive changes, provides an importantopportunity to receive additional entitled revenue.44% of the respondents said their procedures forrecognizing out of scope work are very effective, 39%said somewhat effective and 17% said not effective. 78% of respondents said the government requests outof-scope work either occasionally or frequentlywithout issuing contract mods. Typical responseswhen asked to perform out-of-scope work is 15%always perform the work, 19% refuse while 66%sometimes performs and sometimes refuses withouta price adjustment.
GSA Schedules and ID/IQ Contracts. The use of IDIQ contracts and GSA Schedule contracts have increased substantially. When the GSA schedule is based oncommercial pricing (as opposed to a cost buildup)companies must designate a target customer orcategory of customers required under the PriceReductions Clause (PRC) where contractor mustnotify the GSA of all special discounts offered to thetargets where either they must offer the same discountsor justify why the special discounts are not offered tothe GSA (contrary to popular belief, offering of adiscount to a non-target client is not covered by thePRC.). 27% of respondents do not generate anyrevenue from such contracts while 20% generate 110% from GSA or other IDIQ contracts while the remaining 53% generate, on average, 50% of theirrevenue from them. 36% of the companies said theirGSA contracts were priced on a cost basis (comparedto 47% last year) while 65% used commercial pricing(compared to 53% last year). As for who their targetcustomers were, 45% said all commercial customers were (compared to 51% last year), which is neitheradvisable nor required – generally, the fewer the better.
Profit. Contrary to common public perceptions,government contracting does not generateabnormally high profits. 31% of survey companieshad profit rates between 1-5%, 40% between 6-10%,12% between 11-15% and 3% above 15%. 14% of respondents reported no profit. These figures wouldbe diminished after deducting interest and taxes.
Fringe Benefit Rates. Fringe benefit pools consist ofpayroll taxes, paid time off, health benefits andretirement benefits (some include bonuses while othersdo not). Fringe benefit rates as a percentage of total labor averaged 35% when bonuses were included and33% when excluded.
Overhead Rates. These costs are considered to be in support of direct staff working directly on contractsand hence are normally allocated as a percentage ofdirect labor costs. Some companies include fringebenefits associated with direct labor in the direct labor base while others do not – the result when they do is tolower overhead rates. Average overhead rates are as follows: (a) on-site direct labor (on-site meansperformed at company sites) – 69% compared to 81%last year (b) on site direct labor and fringes – 48%compared to 51% last year (c) off-site direct labor –47% as opposed to 49% last year (off-site is lowerbecause facility related costs are normally borne by thecustomer at their facilities) (d) off-site direct labor andfringes – 18% compared to 17% last year. When companies used multiple overhead rates logic used forthem were location (30%), labor function (53%),customer (13%) and products versus services (4%).
G&A Rates. The survey states that general andadministrative rates are typically those incurred at theheadquarters and include executives, accounting andfinance, legal, contract administration, humanresources and sales and marketing. G&A costs are most often allocated to contracts on total cost input(direct operating costs, overhead, material, subcontracts) or a value added base that generallyincludes all the above costs except material and/orsubcontracts. Average G&A rates under a total costinput was 13% (11% last year) while those using avalue added cost input was 15% (same as last year).
Material handling and subcontract administration costs. 23% of surveyed companies used a material handling/subcontract administration rate as a burden chargeableon material and subcontract costs. The survey notesthat in service industries a handling rate is establishedin conjunction with use of a value added G&A baseto reduce burden applied to pass-through subcontractand material costs. Average material handling ratewas 3%, subcontract administration rate was 4% and combined was 3.5%, identical to last year’s results.
Service centers. Certain functions that support thecompany are accumulated in separate pools and thencharged to users (e.g. clients, indirect cost pools) on apre-established allocation method. The most frequently used service centers are facilities (used by46% of the respondents), information technology(34%), human resources (21%) and printing/publications (13%).
Labor multipliers. Multipliers, a term commonly foundin the commercial world, are fully loaded labormultipliers used to price out work and are derived bydividing total burdened labor cost by base labor cost.The average labor multiplier was 2.1 for on-site workand 2.0 for off-site work (compared to 2.4 and 1.8 lastyear). Almost all respondents expressed a belief theirlabor multipliers were competitive with their industry.It should be pointed out that the labor multipliers areoverall averages where many companies commonly usedifferent multipliers for different markets.
Uncompensated overtime. (Editor’s Note. Uncompensatedovertime refers to hours worked exceeding the normal 40 hourwork week by those salaried employees exempt from the FairLabor Standards Act.) 62% of respondents said theiremployees work uncompensated overtime while 38%said no. 74% of the companies use total time reportingwhile the other 26% report only 40 hours per week.80% use a rate compression method of accounting (e.g.computing an effective hourly rate dividing salary byhours worked) while 20% use a “standard/variancemethod” that charges an hourly standard rate and thencredits an indirect cost pool for the difference betweenlabor costs charged to projects.
Billings for Rate Variances. On cost reimbursable contracts, contractors bill the government atprovisional indirect rates that are subject to adjustmentto actual rates at year end when actual rates aredetermined. The difference between the two is called a rate variance. 37% reported that actual rates werehigher than provisional rates (sharply lower than the50% last year), 12% said actual rates were lower (sharplyhigher than last year’s 6%) while 51% report nosignificant difference. For companies where actual ratesexceeded provisional rates, 20% collected all of thevariance (compared to 34% last year), 38% collectednone and 42% collected some (compared to 28% lastyear). Reasons cited for collecting either some or nonereported insufficient Client funding, customer relations,capped ceiling rates were in effect or governmentinefficiencies. 82% of surveyed companies said theywaited for final incurred cost audits, contract closeouts or other formal approvals before billing for the ratevariances while 18% billed the rate variances when the annual incurred cost proposals were made. This later figure is surprisingly low since contractors are allowedto bill rate variances as long as actual rates are submittedon time so why wait until final rates are settled wherelong delays are normal.
The Defense Contract Audit Agency, because of theirDefense Department contracts or contracts with otheragencies that use the audit agency, audits most of thecontractors in the survey. 53% of respondents describedtheir relationship as good, 33% as excellent while 14%described it as fair or poor. (The survey states the resultsreflect the situation through late 2008 and saysdeteriorating relationships with DCAA will likely resultin less positive results next year.) When asked if their relationship with DCAA has changed, 81% said it hadstayed the same, 3% reported the relationship hadworsened while 16% said it had improved. In effort to measure the quality of relationships with ACOs andDCAA, the survey found 35% of respondents resolveissues efficiently where the remaining 65% saying thegovernment was inefficient, 45% believe DCAA is theprimary cause for delays of resolving issues while 20%believe it is the ACO. The most frequent types of costsquestioned by DCAA are executive compensation (23%citing this as an audit issue compared to 18% last year),consultant costs (14%), labor charging (14%), indirectcost allocations (12%) legal expenses (6%) and employeemorale (6%). Interestingly, bonuses and incentive payare not on the list though that could be included inexecutive compensation. Most frequently cited violationsof cost accounting standards were CAS 403, home officeexpenses (13% cited this as a compliance issue comparedto 18% last year), CAS 405, Unallowable costs (16%,up from 11% last year), and CAS 401, consistency (16%,up from 8% last year). The survey states that it appearsas if DCAA is turning its attention back to CAScompliance after paying relatively less in prior years. Ofthose companies experiencing audit issues, 49% werevery satisfied with the resolution of the issues (up from35% last year), 36% were somewhat satisfied (comparedto 52% last year) and 15% were not satisfied.
The shortage of skilled workers has forced mostcompanies to offer a comprehensive package ofincentive compensation and fringe benefits as part ofa minimum compensation package to attract neededpersonnel.
Medical benefits. In response to questions asking whatpercent of health benefits are paid by the companythe survey results were: 1% reported the companypays for less than half, 11% pays 51-60%, 22% pay61-70%. 14% pay 81-90% and 12% pay 91-100%.With respect to health costs as a percentage of labor costs, 10% of respondents incurred health costs lessthan 4% of labor costs, 9% between 4.1-5%, 12% between 5.1-6%, 14% between 6.1 and 7%, 17% between 7.1-8%, 4% between 8.1-9%, 8% between 9.1-10% and 26% over 10% of labor costs.
410(k) benefits. On average the company will matchan employee’s contribution up to 6% of theircompensation and 85% of respondents reported theydo not anticipate any changes in the near future.
Wages Increases. Surveyed companies state that theaverage increase was 3.0 -3.5 %, lower than last year’s3.5-4.0% figures.
Paid time off. 64% of companies polled paid 10holidays per year, 6% offered 9 and 5% offered 8.None offered more than 12. Though answers werenot given the last three years, 2006 results indicatedapproximately 49% of responding companiescombine vacation, holiday and sick leave into a singlepersonal time leave package while 47% maintainseparate leave benefits for each type of leave.
Compensation for security clearances. 43% of respondentsdo not pay premiums for employees with securityclearance, 46% pay premiums up to 15% while 11%pay premiums between 16-30%.
(Editor’s Note. Care should be used if our readers consider substituting the following results for a bona fide compensationsurvey where hundreds of firms are surveyed. However, the results shown below are interesting.) Surveyed companiesprovided information on the four highest paidexecutives in the company and the results are presentedby company size measured by revenue for 25th, median and 75th percentiles. The following is a summary of the results.
Highest Position (in thousands)
Revenue 25% Med. 75%
$1-10 M 220 295 325
$11-20M 232 300 389
$21-50M 250 395 510
$51-100M 375 480 650
>$100M 450 580 950
Second Highest Position
$1-10 M 169 242 300
$11-20M 195 250 340
$21-50M 220 300 380
$51-100M 295 375 440
>$100M 375 450 490
Third Highest Position
$1-10 M 155 200 237
$11-20M 177 220 242
$21-50M 180 280 310
$51-100M 250 325 390
>$100M 280 380 440
Fourth Highest Position
$1-10 M 117 150 175
$11-20M 150 190 220
$21-50M 160 240 285
$51-100M 230 275 350
>$100M 260 345 400
We have frequently reported on new regulations thatprovide when subcontract labor can be charged atfixed rates provided in the prime contract and whenblended or separate rates may be used. 81% (compared to 76% last year) of surveyed companiesbill the cost of subcontract hours at the fixed rates in the contract while 19% (compared to 24% last year)bill on a cost reimbursable basis (i.e. as an ODC).
We have reported on recent new regulations requiringcontractors create new ethics and complianceprograms (e.g. written code of ethics 30 days afteraward, business ethics awareness program andinternal controls 90 days after award applicable tonon-small businesses). 88% of respondents conductcompliance training at least once a year while 50%conduct formal audits. 7% report there have beenallegations of ethics and compliance violations. As for cost effectiveness of the programs, 48% say thenew regulations are excessive and not cost effectivewhile 50% say they are reasonable and cost effective.
DCAA is facing a flurry of criticisms comings frommany corners stemming from some GAO reportsindicating DCAA audit reports either mischaracterized facts or were misinterpreted bypeople trying to politicize routine contracting issues.DCAA now finds itself the object of intense scrutinyfrom alleged unprofessional misconduct from manycorners and is implementing changes in their approach to audits. Both the attitude changes on DCAA’s partthat stem from these allegations and its new changesare and will continue to significantly affect contractorssubject to DCAA audits.
Background
On July 22, 2008 the General Accounting Office issueda report to Congress after receiving some complaintsfrom certain DCAA employees at three offices inSouthern California. GAO reviewed audit files and issued a highly critical report concluding DCAA hadfailed to comply with Generally AcceptedGovernment Audit Standards (GAGAS). The GAO concluded (a) documentation in the work paper filesdid not support the audit opinion (b) DCAAsupervisors dropped findings and changed auditopinions without adequate evidence for the changesand (c) sufficient work was not performed to supportthe audit opinions. GAO said that in its opinionDCAA was too lenient on contractors and questionedwhether or not DCAA had sufficient independencefrom the contractors they were auditing. GAO concluded that DCAA’s failures were because of a management and agency culture that focused on aproduction-oriented mission, which led DCAAmanagement to establish policies and procedures thatemphasized performing large quantity of audits tosupport contract decisions where there was inadequateattention to performing quality audits.
As a result of the GAO report, DCAA issued severalnew policies and procedures including (a) eliminationof production metrics and implementation of newmetrics intended to focus on achieving quality audits (b) established an anonymous website to addressmanagement and hotline issues and (c) revised otherpolicies to address auditor independence and otheraudit issues. Several of the new policies were issuedas formal audit guidelines we have reported on. These included:
On September 23, 2009 GAO issued a reportsummarizing their examination of several otherDCAA offices beyond the three California offices andconcluded that major problems existed throughoutthe agency. Congressional hearings were held wheresenators piled on criticisms of DCAA. For example, Sen. McCaskill expressed outrage at DCAA backingoff from an adverse opinion about a contractor’saccounting systems after the contractor objected sayingthere were forged supervisor signatures while Sen.Lieberman decried DCAA’s “culture” of emphasizingspeed over quality of its audit work. Many critical ofDCAA expressed the shortage of resources forDCAA indicating the likelihood of increased supplyof auditors we are already seeing. The DOD IG conducted its own review of a sample of audits citinginadequate audits of defective pricing, billing systemreviews where direct billing privileges should have been withdrawn, adequate corrective actions takenwhere floor checks showed deficient practices andpoor documentation of forward pricing audits.Shortly after, the DCAA Director was terminated.
Assesments od Current Conditions
Many commentators have put forth their views aboutthe developments, most quite critical, where we haveselected a few comments that illustrate their thinking.Grant Thorton addresses several areas and states the changes being implemented as a result of these actions“threaten to destroy any semblance of order orefficiency that is needed for government procurement.”They assert that in an unreasonable rush to assess blamefor exaggerated claims of contractor misconduct, therole of DCAA as part of the procurement process hasbeen forgotten. In responding too eagerly to thecomplaints of a few disgruntled employees the GAOhas focused too much on GAGAS standards and sacrificed the critical mission of auditing a largequantify of audits to support negotiation andadministration of government contracts. Now timeliness is no longer a paramount factor. DCAA will now also issue system deficiencies while notincluding recommended improvements and willproduce audit reports where entire systems are deemedinadequate even though only one part of the systemhas deficiencies. Finally, GT states the authority of thecontracting officer has been severely diluted who seesthe auditor as someone to fear because DCAA auditors are now allowed to make fraud referrals with no supervisory review at all and will refer COs to the IG ifit feels COs are not sufficiently considering their findingscontained in audit reports.
Contrary to the rather rosy picture portrayed in theGT Survey discussed above stating contractors highsatisfaction levels with DCAA, we have been observing quite the contrary in our dealings withcontractors and contractor specialists. Though ourevidence is anecdotal the attitude we are encounteringis unmistakable – the highest level of dissatisfactionthat we have seen in over 25 years. A recent article in the Nov 24 issue of Federal Contracts Reportinterviews several professionals serving contractorsis indicative of the comments and observations we encounter in our day to day dealings with contractors,DCAA auditors and management, ACOs andprofessionals in the field..
Peter MacDonald of Navigant Consulting states“there has been a sharp increase in the number ofepisodes where DCAA auditors have made unreasonable, if not absurd, findings.” He states that “dealing with DCAA across the board these days hasbecome increasingly difficult for a large number ofcontractors across all industries and this has impairedthe contracting process.” McDonald asserts COs are permitting DCAA auditors to usurp their authorityas decision makers and are allowing auditors to “drivethe train when it comes to enforcement.” Whereas auditors, who have no enforcement authority, usedto advise COs as a member of the procurement teamthey are recently becoming more “confrontational”,“uncommunicative and intransigent” where now theyare taking positions without even listening to contraryarguments from contractors. In addition, he said auditors are making “unsupported findings” and“reaching beyond their charter” citing an example ofthem recommending an Iraqi contractor drawdowncontractor personnel. He also criticizes auditors’ practices citing “blanket requests for records or accessto employees where there is no legal justification” aswell as imposing unrealistic deadlines for providingaudit requested information. He also mentions that documents that used to be perfectly acceptable arenow considered inadequate which he asserts does notserve their own clients – COs – well.
Alan Chvotkin, the executive vice president andcounsel for the Professional Services Council agreesthat DCAA is taking a more enforcement role. A sea change in deference to DCAA findings have occurredin the last couple of years – rather than COs makingindependent judgments as to the significance of aDCAA findings now those findings are consideredcorrect unless someone can prove them wrong.Chvotkin alludes to the fact that DCAA has become “hermetically sealed” from the rest of the procurement community where rather than acting asa team member to reach a good procurement resultthey are increasingly taking the attitude that “here ismy work, you evaluate it any way you want to.”
Both McDonald and Chvotkin stress the March 2009 memo addressing DCAA’s process for reporting“unsatisfactory conditions related to actions bygovernment officials” as a critical development. Theynote that the broad definitions of unsatisfactoryconditions – mismanagement, failure to comply withspecific regulatory requirements or gross negligence – and encouragement to report such conditions tothe Department of Defense inspector general ratherthen going up the DCAA chain of command isstrongly affecting the way procurement business ishandled. McDonald states the guidance instills “aclimate of fear among COs, who are often apprehensive about making decisions that theirauditor disagrees with for fear of being on the wrongside of an IG investigation.” Chvotkis is a little less worried stating there must be a pretty egregiouscondition but he points out that COs are now seekinglegal guidance to avoid triggering investigations.
A third commentator, David Metzger of the Arnold& Porter law firm states that DCAA is overreactingand becoming more adversarial and aggressive abouttheir findings. He focuses much of his comments on DCAA auditors’ “poor training” resulting in theirinappropriate enforcement approach and makingjudgments they are unqualified to make. He states most “auditors” are not really auditors because thatterm should be applied only to CPAs who alone havethe training to do full blown audits. As a result these poorly trained auditors make many mistakes askingfor wrong documents, reporting wrong costs to COsand bringing up false issues. Metzer concludes that DCAA must do a better training job so their initialquestioning of costs can be relied upon.
Both MacDonald and Metzger, who are lawyers, saycontractors should expect disagreements with auditorsto result in more litigation which will drive up contract costs. As DCAA gets more aggressive and thoseinadequate findings become adopted by theprocurement group they will need to be litigated. Toprepare for such occurrences, McDonald recommendsthat relevant documentation be gather and labeled. The one point of contract policy with government auditorsshould be adhered to in order to minimize confusion and inappropriate communications with the government. Metzger recommends that contractorsshould continue to reach out to DCAA auditors and not hesitate to escalate problems within the DCAAaudit chain, especially when they encounter auditors theybelieve are not well trained or do not understand the issues at stake. Contractors should politely but clearlystate they disagree and ask for a more experiencedauditor to be involved.
DCAA’s Response
As expected, DCAA through their spokesperson TaraRigler, has responded to many of the points raisedby the three individuals cited here. She makes the following points:
1. Rigler denies that there has been a substantial moveinto enforcement stating DCAA’s mission is limitedto providing contract audits and accounting andfinancial advisory services.
4. Rigler denies that DCAA auditors are poorlytrained, make improper document requests orotherwise commit errors.
(Editor’s Note. Surprisingly little comment was made on whatwe and many other practitioners consider to be some of themost troubling trends – both poor supervision allowingunreasonable audit opinions to surface in final audit reportsand reluctance of DCAA managers to reverse a decision ofone of their subordinate auditors.)
WHAT CONSTITUTES AN ACCEPTABLE WRITTEN ESTIMATING POLICY
Following our recent article on DCAA’s InternalControl Questionaire (GCA REPORT, Jan-Feb 2010)where written adequate policies and procedures areincreasingly being scrutinized and have become asurrogate measurement for sound internal controls,we have been literally inundated with requests toaddress what are considered to be essential elements of such written policies. Accordingly, we havedecided to provide a series of articles here that identifywhat we consider to be essential elements in some of the most important written policies that are oftenrequested and reviewed. Our major source of information comes from our consulting engagementsin actually preparing such policies where we have longreviewed what DCAA considers essential internal controls and what experts put forth.
Our first policy addresses estimating policies andprocedures. In the wake of extensive criticism of DCAA’s failure (see article above) to examinecontractors’ estimating policies and not beingaggressive enough at eliminating direct billing privilegeswe find requests for estimating policies to be one ofthe essential data requests when conducting forwardpricing proposals, DCAA’s highest priority audit.
The Purpose is a 2-3 sentence statement that this policyis to provide internal controls over preparing priceproposals that are compliant with governmentregulations. The Policy will include several bullet items saying it is our policy to (1) comply with theregulations (2) provide a written description of theestimating systems and make it available to relevantemployees (3) who is ultimately responsible for thepolicy and its updates and (4) deficiencies identifiedeither internally or by auditors will be corrected. The Applicability section states what contracts the policyapplies to (e.g. TINA covered contracts which are inexcess of $650K). The Distribution section states that is should be available to either all or at least relevant employees.
The US Government Requirements sections are by far the longest. It should allude to relevant FAR and DFARS sections such as:
Definitions. Though not necessarily considered to be acritical element of internal control we find it highlyuseful to identify terms not familiar to many people,especially if wide distribution of the policy isanticipated.
2.1. Estimating Process Organization.
This section is perhaps the most important sectionfrom an audit point of view since designation of rolesand responsibilities and separation of functions areconsidered key internal controls. This section should identify the key positions that are responsible forestimating with a one sentence summary. For examplethe Business Center Manager is responsible forensuring that proposals are prepared in accordancewith the policies, procedures, and practices set forthin this Policy or the Proposal Manager is responsiblefor the overall coordination of the proposal processas defined herein. In recognition that the functionalroles for estimating may not correspond with the titlesand duties of the people who may fill those roles orindividuals may fill multiple roles there should beexplicit reference to this along with some examplesspecific to your organization. Individuals performingthe functions described below during the proposalprocess must comply with and be responsible for theduties defined below.
2.2. Personnel Responsibility Descriptions
The subsection should spell out all the major rolesfor the estimating process. Each position shouldinclude several bullets. For example, the Profit CenterManager should have (1) final approval of cost/priceestimates from technical, operational and financialperspective (2) confirm that cost estimates areprepared and documented in accordance with thecompany’s Estimating Policy (3) select the ProposalManager (if Profit Center Manger does not performrole), etc. The Proposal Manager (1) preparesproposals in accordance with this Policy (2)coordinates and manages the proposal process (3)identifies Key Personnel to be proposed, etc.
2.3. Personnel Responsibilities Matrix
Though this was in the past an optional element foundusually only in written policies for large companies,we find auditors are commonly including a matrix asan essential component. The matrix consists basicallyof a list of functions where one or more functional titles are identified. For example, determining
applicability of the policy to individual proposals maylie with the Division Manager, selection of teammanagers may be the Business Center Manager,obtaining direct labor rates may be the CFO, etc.
Though the three subsections above are indispensible,the following are important options that arecommonly found in good policies.
2.4. Evaluation of Business Opportunities and Decision to Bid
This section normally alludes to the company’s Go/No-Go bid policy. As we have discussed in previousarticles, such a policy is a good idea to more formalizedecisions about bidding to allow better bang-for-theB&P-dollar.
2.5. Proposal Format
To many auditors, this is a critical item so as to ensurethat relevant sections of the FAR are adhered to when presenting a proposal. It should state that each proposal will include a narrative explaining themethodology and basis for each proposed costelement and that the proposal is prepared inaccordance with the RFP, FAR Table 15 2, if requiredor an alternate proposal format, if requested by theContracting Officer or the RFP.
2.6. Proposal Review
This subsection has undergone probably some of thebiggest changes we have encountered. What was once a section containing perhaps a few sentencesaddressing the need to have a policy in place to ensurevigorous review of proposals and compliance withthe policy has mushroomed into its own separatesections with pages of detailed general policy as wellas detailed requirements under the proposal reviewsections. Now, there are two key areas – TechnicalQuality Control and Financial Quality Controls wherespecific named functions are identified with detailedsteps presented. For example, under the TechnicalQuality Control section, a Quality Control person isdesignated by the Proposal Manager who has certainrequisite knowledge, may delegate sections of theproposal to others and will perform logic checksbetween work scope and estimated costs. The Financial Quality Control function will also have a QCperson appointed by the Proposal Manager who willreview adherence to the RFP, verify pricing and costingmethodologies and assumptions, verify consistencybetween cost and technical proposals, ensureproposed costs are allowable and consistent with CAS and Disclosure statement requirements if applicable,indirect costs are consistent with provisional billingrate agreements, subcontractor documentation is inorder, certifications are properly completed, etc.
2.7. Proposal Proprietary Information
All proposals will be marked as proprietary withappropriate language restricting disclosure ofproposal information (e.g. Restrictions on Disclosure and Use of Data (April 1984):
addressing the major cost elements you encounter inpreparing a proposal and outline the generalmethodologies and approaches that might be used inestimating costs to ensure the appropriate use of sourcedata, application of estimating techniques andapplication of indirect rates. Examples of topic to beaddressed and suggestion for scope of discussion are:
4.1. Narrative about use of historical cost data e.gestimating costs of similar labor or ODCs.
4.2. Direct Costs. There should be a short definition and at least the following components of Direct costs.
a. Direct Labor. A determination of labor qualifications and estimated required hours needto be identified and then state that direct labor costs are derived from applying the appropriatelabor rates to hours and that the assumptions aresupported by the BOE and how labor rates aredetermined.
If labor dollars are a significant portion of costs,it may be advisable to drill down and haveseparate subsections consisting of:
a.1. Direct Labor Hours – source of information like RFP versus engineering estimates, types ofestimates (e.g. bottoms up, historical),assumptions about paid time off
a.2. Direct Labor Rates – use HR information, average or weighted average rates or actual ratesof named people, Service Contract Act or DavisBacon if relevant, employee commitment letters,contract specified rates like GSA or BlanketPurchase, escalation assumptions (its wise tospecify numerous sources for escalation so youwill not be locked into only one).
2.b. Subcontracts and Direct Material. You will want to state the RFP Statement of Work is used to estimate subcontract and material requirementsand provide that technical or engineering estimatesare used if there is no relevant experience or similarusage adjusted for expectations if there is relevanthistory. You will want to specify a range ofmethods to use without committing to any onesuch as prior PO with quantity adjustments, priorcost estimate, current vendor quote, writtenjustification if sole source, catalog prices. If applicable, bill of material costs estimates andpresentations should be addressed. You will alsowant to briefly cover Make versus Buy decisionmaking.
2.c. Other Direct Costs. You want to specify typesof ODCs and address bases of estimates (e.g. RFPspecified, bottom up/technical estimate,historical) that are documented in the BOE. If travel is significant you want to address relevantregulations (FAR 31.205-46, FTR). You may alsohave separate subsections for travel such as AirTravel (e.g. coach or equivalent, documentation,no first class), Rental Vehicles (e.g. needsjustification, competitive quotes), Personal VehicleUse (e.g. basis of estimates), Parking Tolls andTaxis, Per Diem Lodging, Meals and Incidentals (e.g. not to exceed FTR rates, lodging estimates –one day less than number of days, definition ofincidentals). Other direct costs might includeEquipment Repair and Maintenance where typesof estimates should be identified (e.g. historicalexperience, vendor quotes, industry standards) orRelocation where you want to reference FAR31.205-35 and contract unique limitations.
4.3. Indirect Rates. There should be a brief definition, identification of where to obtain indirect rates (e.g. CFO), statement about consistent treatmentof costs (proposal versus booked costs, direct versusindirect), basic indirect information (e.g. number ofindirect rates, types of estimates – final, provisional,indirect allocation basis). A critical deficiency thesedays is failure to explicitly state and use budgeted orestimated data for the relevant years a proposal covers.
4.4 Fee or Profit. Definitions of fee and profit (asopposed to cost or negotiated add-ons), someverbiage about nature of profit, allusion to structuredapproached in FAR 15.404, mention of different feeranges for different types of contracts.
5. Truth in Negotiations Act (TINA).
There definitely needs to be a writeup about the Truthin Negotiations Act. There should, at the least, be sections of the act itself, relevant FAR clauses, and TINA related proposal requirements such as updatingthe proposal and executing the certification as well asdocumenting the pre- and post negotiation phases.
6. Documentation Standards
This section will address the responsibilities andelements of a proper proposal file (e.g. RFP, correspondences, proposals and revisions, technicalestimates, BOEs, cost element buildups in sufficientdetail, vendor quotes, catalog prices, etc.
7. Training and Internal Review/Audit
Next to an adequate written policy, attention totraining of personnel and internal audit are criticalcriteria for demonstrating adequate internal controls.Personnel involved in the cost estimating process needto be provided training, either internally or externally.Training areas should include government regulations (e.g. FAR, CAS, etc.). Company policies, companypractices and methodologies, estimating system policyand basis of estimate development. Also, the policyshould address the function of internal reviews e.g.compliance with established practices and periodicmanagement reviews conducted either by in-housestaff or outside consultants.
ACCOUTING TREATMENT OF TEMPORARY EMPLOYEES – CASE STUDY
We have just encountered DCAA reactions to aclient’s treatment of temporary employees and brieflyresponded to them. We thought the communicationswould be of interest to our readers since it presentspossible alternatives for treating this type of labor,possible positions that DCAA may take and responsesto their position. We must admit this article is brief and less authoritative than many other case study white papers we have presented because the communications have just begun and no finalpositions by DCAA have been taken.
Background
In addition to use of regular employees on its costtype professional services contract Client (we willdisguise the name) uses what it calls temp employeeson many of its task orders. The government askedClient to use certain recommended individuals for limited time so they proposed using 1099 consultantsto be billed at their higher hourly rate (because theywere usually in demand and received no fringebenefits) and burdened with Client’s provisionaloverhead rate. The government resisted, saying sucha practice would be too expensive so Client created atemp labor employee where they would apply a loweroverhead rate to their hourly pay and charge a slightlyhigher rate on regular employees to meet thebudgeted provisional billing rate for the year. Client informed the government of this approach and therewas no objection.
In anticipation of possible problems in the future,Client adopted a new practice in 2010. It would treat the term employees as if they were 1099 consultantsand charge the government only the average full timeemployee rate for the labor categories they workedand charge the excess to overhead. This approachwas reflected in the 2010 provisional billing rates.
DCAA Response
During its audit of prior years’ invoices, the auditornoted quickly the different rates applied to full timeand temp employees. She stated that would be completely “unacceptable” since there was anapproved provisional billing rate and all direct laborcosts should be billed at that one rate unless there was a change in the rate. Billing two rates – a lowerone for temp employees and a higher one for regularemployees would be “improper.”
During a separate audit of 2010 provisional billingrates, the auditor stated that charging a partial amountof the term labor payments to direct labor andanother amount to overhead was also improperstating that in his “21 years of experience as an auditordid I ever hear of such a thing.” He also stated such a practice might result in an “inequitable” allocation ofthe resulting overhead costs and was in violation ofFAR (without quoting a section).
Our Response
At this point in the communications no formal auditpositions or formal responses were taken. Rather all communications were made by email.
We first admitted there was an apparent “disconnect”between use of two indirect rates for temp and fulltime labor. We explained the use of temp employeeswas initiated to meet government requests for specificindividuals and to bill them “without breaking thebudget” and they were informed of the practice. We stressed that though there was a disconnect with thebilling practice, the critical point was that there wasno harm to the government. We asserted that the government was not charged for any more costs thanit incurred and in fact the amount of overhead costs charged was less than what would have been chargedhad we used the provisional rate (a subsequent analysisconfirmed this assertion).
Thought we intuitively believed the practice ofallocating some of the payments made to tempemployees to direct and overhead costs wasacceptable, we knew we would have to allude to someauthoritative sources that would show the auditor that in spite of his 21 years of never seeing the practicethat it was acceptable. We examined what we thoughtmight be relevant sections of the FAR and found noallusions to the practice. Though we found no directallusions in the FAR or even CAS, we did find a section in the DCAA Contract Audit Manual – Purchased Labor – that more or less addressed our practice. I say more or less because “purchased labor” generallyrefers to non-employees who are either 1099consultants or subcontractors but I was prepared toargue that the temp employees were in substanceequivalent to 1099 consultants. (Too detailed to address here.) We asserted that the practicerecognized in the DCAM provides for the exactmethod we were adopting – charge hours worked bythe temp employee at only the average full timeemployee rate for that labor category and charge theexcess to overhead. We explained that the practicebenefited the government where rather than a dollarfor dollar charge as direct labor, a portion of theamount paid to the temp hire would be charged tooverhead and allocated to all contracts (federal fixedprice and commercial).
It appears that the auditor conducting the invoiceaudit has recovered from her shock of seeing two burdened rates used for billing purposes and to hercredit, has agreed to determine whether there was anyharm to the government by comparing the amountsof overhead actually billed to the amounts that wouldhave been billed had Client used the provisional billingrates where any excess will be questioned. Though itis possible she may select invoices where higheroverhead amounts were billed due to a disproportionate use of full time higher burdenedlabor, we are reasonably confident she will see thereis no harm to the government in the approach takenby Client. Though I believe the other auditor will seethat our approach may be reasonable, we shall seewhat comes up during the audit. I suspect we mayneed to demonstrate that the term employees are, insubstance, 1099 employees and Client may need tobe willing to discontinue use of temp employees andmake them consultants so the prescriptions ofpurchased labor may apply. We shall see.
© 2024 Government Contract Associates. All Rights Reserved.