If the title of this article sounds slightly familiar it should and it appears that our government is not on the same page relative to preferred procurement practices.
On January 15, 2021, the Office of Management and Budget issued a memorandum (M-21-11) to all executive departments and agencies stressing the preference for competitively awarded fixed-price or fixed-price incentive contracts placing a major amount of financial risk associated with contract performance on the contractor.
Less than eight months later, the Senate Armed Services Committee included a provision in the draft 2021 National Defense Authorization Act (NDAA) that would remove this fixed-price mandated preference, championed by the late Senator McCain, relieving the contractor of a level of financial risk and placing it on the taxpayer.
In another blog post, we talked about what the emphasis on fixed-price contracting meant to the contractor and what compliance issues applied. Now, with the potential redirected push for cost-type contracting, there are new compliance issues for the contractor to be concerned with.
While fixed-price contracting places little emphasis on the adequacy of a contractor’s cost accounting system or process it is the foundation of compliance with cost-type contract requirements. Cost-type contract costing is directed at accumulating and allocating all your allowable costs, direct and indirect alike, by contract, task or contract line item number (CLIN) in the same manner as these costs are proposed. The accuracy of these costs is verified by an extensive audit by the Defense Contract Audit Agency (DCAA) and other government audit functions and detailed reporting requirements such as the annual incurred cost submission called for by FAR 52.216-7, Allowable Cost and Payment clause.
The Federal Acquisition Regulations and the Cost Accounting Standards require a consistency between your cost estimation proposal process and the accumulation of costs incurred during contract performance. Unlike negotiated fixed-price contracting, what is proposed on a cost-type contract is not what is billed to the government. Actual costs incurred are what is reimbursed to the contractor hence the emphasis on contract cost accumulation and allocation accuracy.
A robust labor collection process is required in accounting for cost of performance under a cost-type contract. The process of recording time expended needs to apply to all your contractual and non-contractual efforts whether fixed-price, cost-type, labor-hour, direct or indirect. DCAA will perform in-depth real-time audits of the time charging practices of you employees to ensure the integrity of the hours recorded and the amounts reimbursed by the government.
An important management tool, no matter what type of contract type, is the development of realistic and accurate indirect rates used to allocate indirect costs incurred in the support of contractual efforts not identifiable to a specific contract and those general and administrative costs incurred in the overall running your business. The marrying of these indirect cost rates to your direct costs of contract performance provide you with an accurate depiction of the true cost of your products and services, letting you know what they should sell for or whether you want to sell them at all. With this information, you can maximize cost recovery and cashflow for more accurate billings and realistic pricing.
Subcontracted contractual efforts also require an established accounting process to ensure costs incurred and billed by the subcontractor can be recorded and accumulated by contract, task or CLIN as proposed. Material used in the performance of the contract, whether consumed in the performance of the contract or sold as a direct line item can either be charged directly or processed through general inventories and recorded to the applicable contract based on authorized inventory requisitions relieving inventory and charging the applicable contract, task or CLIN.
It is also required that accumulated contract costs, direct and indirect, billed to, claimed or proposed to the government do not include any cost deemed to be unallowable as defined either in FAR Subpart 31.2 or by negotiated contract provisions. This also applies to directly associated costs incurred as the result of incurring another unallowable cost.
The result of this move from fixed-price contracting to cost-type contracting removes what could be a significant level of financial risk associated with contract performance on the contractor and replaces it with a myriad of accounting and billing compliance issues. If you are considering taking on the requirements of cost-type contracting, it is best to ensure compliance with the requirements of DFARS 252.242-7006, Accounting System Administration, and DFARs 252.215-7002, Estimating Business System. A great starting point is the completion of Standard Form 1408, Preaward Survey of Prospective Contractor Accounting System, and the development of written procedures in support of each compliance requirement.
Have a question related to your specific situation? Contact the Government Contracting Team.