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Audits, Audits, Audits - Managing Relations Between Contracting Officers, Auditors and Contractors

Breakout Session # Greg Bingham, Vice President, The Kenrich Group Rich Rector, Partner, DLA Piper. Audits, Audits, Audits - Managing Relations Between Contracting Officers, Auditors and Contractors. 9 December 2010 3:30pm – 4:45pm. Historical Context

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Audits, Audits, Audits - Managing Relations Between Contracting Officers, Auditors and Contractors

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  1. Breakout Session # Greg Bingham, Vice President, The Kenrich Group Rich Rector, Partner, DLA Piper Audits, Audits, Audits - Managing Relations Between Contracting Officers, Auditors and Contractors 9 December 2010 3:30pm – 4:45pm

  2. Historical Context Recent Events Relating to Government Oversight Major Systems Audited by DCAA & Proposed DFARS Rule Executive Branch’s Focus on Risk Sharing and the Acquisition Process for Different Types of Contracts Disagreements Over Audit Findings Impact of the Changing Landscape Practical Issues in our Future Overview

  3. Selected Recent Events Impacting The DCAA 2008 2009 2010 April 2009 DOD IG Criticism of DCAA December 2008 DCAA Guidance on Access to Records and Significant Deficiencies / Material Weaknesses in Audit Opinions September 2009 GAO Report GAO-09-468 March 2009 Presidential Memo Indicates Preference for Fixed-Price Contracts July 2009 DCAA Guidance re Business Ethics and Conduct October 2009 DCAA Director Resigns April 2009 DCAA Guidance regarding Direct Billing March 2009 DCAA Guidance re Suspected Fraud July 2008GAO Report GAO-08-857 January 15, 2010 Proposed DFARS Rule Defining “Business Systems” at 75 Fed. Reg. 2,457 July 2009 OMB Memo on Improving Government Acquisition by Reducing Contracts Awarded Noncompetitively, Cost-Reimbursement Contracts and T&M / LH Contracts 3

  4. GAO Report to the Committee on Homeland Security Re: DCAA Audits, U. S. Senate, July 2008

  5. GAO Report to the Committee on Homeland Security Re: DCAA Audits, U. S. Senate, September 2009

  6. Increased Thresholds For Proposal Audits “…limit contracting officers’ requests for DCAA audit assistance to Fixed-Price proposals exceeding $10 million and Cost-Type proposals exceeding $100 million [previously $10 million]…When future requests for audit are associated with prime contractor proposals below the revised thresholds, FAO management personnel should generally refer the requestor to the Defense Contract Management Agency (DCMA) for appropriate field pricing assistance.” Source: DCAA Memorandum, 18 October 2010: Increased Thresholds for Price Proposal Audits

  7. Increased Thresholds For Proposal Audits • “One of the priorities undertaken by DCAA this year was to better align workload requirements with available resources.” Source: DCAA Memorandum, 18 October 2010: Increased Thresholds for Price Proposal Audits

  8. Increased Thresholds For Proposal Audits • The guidance states that cost proposals below the new dollar thresholds for review may be sent instead to the DCMA. • DCMA is typically less thorough than DCAA . . . • The DCMA also does not specialize in examining and verifying cost and pricing data. • The reason for this new restriction is DCAA’s attempt to perfectly comply with Generally Accepted Government Auditing Standards (GAGAS). • The number of DCAA reports produced annually has plunged: 33,801 in FY 2007 to 30,352 in FY 2008 to 21,276 reports in FY 2009. Source: “Pentagon Radically Reducing Oversight of Contracts Worth Tens of Billions”, October 29,2010, www.pogo.com

  9. Increased Thresholds For Proposal Audits • . . . some auditors suggested DCAA managers overreacted to the [GAO] report, and they now have embraced the time-consuming GAGAS process . . . • The result has been that reports take longer and require a field office manager's approval. • In fiscal 2008, the average time to complete a contractor pricing review was 28 days, compared with 72 days in fiscal 2010 . . . • The number of DCAA reports produced annually also has plunged from about 30,000 in fiscal 2008 to 21,000 in fiscal 2009. • DCAA also is planning to shed several low-priority services and place more emphasis on high-risk contracts. Source: Government Executive, “Defense Agency Raises Bar for Reviewing Contractor Cost Proposals”, November 1, 2010, www.govexec.com

  10. Audit Guidance on Auditor Communications To obtain sufficient evidence, it is essential for auditors to communicate with the contractor to ensure that conclusions are based on a full understanding of all relevant facts. Source: September 9. 2010 Memo For Regional Directors Regarding Audit Guidance on Auditor Communications

  11. Audit Guidance on Auditor Communications • At the commencement of the audit, the contractor should provide Government representatives (e.g., DCAA, ACO, and PCO) with a “walk-through” of its assertion (e.g., forward pricing proposal, incurred cost submission). • At these meetings, the contractor should fully explain its assertion and allow the audit team to ask questions to fully understand the contractor’s assertion. Source: September 9. 2010 Memo For Regional Directors Regarding Audit Guidance on Auditor Communications

  12. Audit Guidance on Auditor Communications • The auditor should discuss preliminary audit findings . . . with the contractor to ensure conclusions are based on a complete understanding of all pertinent facts. • These types of discussions do not impair auditor independence and are generally necessary to obtain sufficient evidence to support audit conclusions. • Upon completion of the field work, the auditor should hold the exit conference to discuss the audit results and obtain the contractor’s views concerning the findings, conclusions, and recommendations for inclusion in the audit report . . . Source: September 9. 2010 Memo For Regional Directors Regarding Audit Guidance on Auditor Communications

  13. Audit Guidance on Auditor Communications • For other than audits involving forecasted costs subject to negotiations, the auditor should provide the contractor a copy of the draft report, or at a minimum, the results of audit section of the draft report . . . • To facilitate the discussion of the audit results and obtaining the contractor’s views of the results, this information may be provided prior to the exit conference . . . Source: September 9. 2010 Memo For Regional Directors Regarding Audit Guidance on Auditor Communications

  14. Audit Management Guidance – Reporting Suspected Contractor Fraud and Other Contractor Irregularities, March 2009 Audit Management Guidance – Reporting Suspected Contractor Fraud and Other Contractor Irregularities

  15. Audit Guidance on Federal Acquisition Regulation Revisions Related to Contractor Code of Business Ethics and Conduct, July 2009 Audit Guidance on Federal Acquisition Regulation (FAR) Revisions Related to Contractor Code of Business Ethics and Conduct

  16. Formal Request for Information from DCAA to a Contractor

  17. Audit Guidance on Denial of Access to Records Due to Contractor Delays, December 2008 Audit Guidance on Denial of Access to Records Due to Contractor Delays

  18. Audit Guidance on Approving and Rescinding Contractor’s Authorization to Participate in the Direct Bill Program for Major Contractors, April 2009 Audit Guidance on Approving and Rescinding Contractor’s Authorization to Participate in the Direct Bill Program for Major Contractors

  19. Major Systems Audited By DCAA DCAM Page 502 – Accounting & Management Systems • Control Environment and Overall Accounting System • General IT System • Budget and Planning System • Purchasing System • Material System • Compensation System • Labor System • Indirect and ODC System • Billing System • Estimating System DCAA Contract Audit Manual, 5 April 2010

  20. Proposed DFARS RuleRule 75 Fed. Reg. 2,475 (January 15, 2010) Defines “Business Systems”: • Accounting System • Earned Value Management System • Estimating System • Material Management and Accounting System • Property Management System • Purchasing System

  21. Proposed DFARS RuleRule 75 Fed. Reg. 2,475 (January 15, 2010) (cont.) Potential Contractor Payments at Issue Include: • Interim Payments under Cost-Reimbursement Contracts • Progress Payments • Performance-Based Payments

  22. Memo From President Obama On Government Contracting, March 2009 Excessive reliance by executive agencies on sole-source contracts (or contracts with a limited number of sources) and cost-reimbursement contracts creates a risk that taxpayer funds will be spent on contracts that are wasteful, inefficient, subject to misuse 22

  23. OMB Memo Improving Government Acquisition, July 2009 …cost-reimbursement contracts, and time-and-materials and labor-hour (T&M/LH) contracts pose special risks of overspending.

  24. OMB Memo Improving Government Acquisition, July 2009 • …agencies should aim to reduce by at least 10 percent the combined share of dollars obligated through new contracts in FY 2010 that are: (1) awarded noncompetitively and/or receive only one bid in response to a solicitation or a request for a quote, (2) cost-reimbursement contracts or (3) T&M/LH contracts.

  25. June 28, 2010 Memorandum from Undersecretary of Defense for Acquisition, Technology and Logistics, Ashton Carter Today, I write to give direction on another important priority: delivering better value to the taxpayer and improving the way the Department does business.

  26. June 28, 2010 Memorandum Continued • It has taken years for excessive costs and unproductive overhead to creep into our business processes, and it will take years to take them out. • Providing Incentives For Greater Efficiency In Industry: • Using Proper Contract Type … • Using Proper Type for Services • Aligning Policy on Profit and Fee To Circumstances

  27. Contract Type Comparison Firm-Fixed-Price • Reasonable Price Comparisons • Adequate Price Competition • Reporting Requirements Not As Rigorous • Minimum Administrative Burden On Contracting Officer • “Handsoff” Government Oversight • Requires Change Orders To Be Submitted • Scope Of Work Must Be Well-Defined Cost-Plus • Uncertainties May Not Allow Accuracy In Estimating Costs • Potential Uncertainty Regarding Required Level Of Effort And Price • Requires Sophisticated Accounting System • High Government Surveillance • Allows Micro-Management • Rigorous And In-Depth Cost Tracking • Well-Defined Scope Of Work Not Required

  28. Audit Requirements • Will Audit Requirements be Increased or More Rigorously Enforced? • Will DCAA’s Current Resources Be Inadequate? • Will Private Accounting Firms Play A Larger Role? • Impact on Contract Audit Manual and “Standard” Audit Programs?

  29. Disagreements Over Audit Findings • Ultimate Authority of Contracting Officer • DCAA “Whistleblowers” • Audit Opinions by DCAA and Private Accounting Firms • Audits of “Business Systems” • No More “Adequate-In-Part” • Incurred Cost Submissions • Indirect Rates

  30. Quantum Issues in Claims • Audits of Requests for Equitable Adjustments • Audits of Termination Settlement Proposals • Other Audits Which are Contested • DCAA Auditors as Expert Witnesses • Allegations Involving Contract Type (e.g., Fixed Price Contract with Poorly Defined Scope of Work)

  31. Practical Issues In Our Future • Cooperation Between Contractor and Government Personnel • Decision-Making when Lines of Authority are Unclear • “Collaborating” to Resolve Audit and Other Issues • Working “Together” when Contractor Systems have been Found Inadequate • Cash Flow and Payment Withholdings

  32. Practical Issues In Our Future • Participation by Contractors in Direct Billing Programs • Disputes over Access to Records • Overworked Auditors and Audit Delays • Reliance on Auditors Other Than DCAA • Audits of Contractor Ethics & Compliance Processes

  33. Reference Materials • Government Executive, “Defense Agency Raises Bar for Reviewing Contractor Cost Proposals”, 1 November 2010, www.govexec.com • “Pentagon Radically Reducing Oversight of Contracts Worth Tens of Billions”, 29 October 2010, www.pogo.com • DCAA Memorandum: “Increased Thresholds for Price Proposal Audits”, 18 October 2010 • Federal Acquisition Regulation Part 2 -- Definitions of Words and Terms 1 October 2010 • Memorandum For Regional Directors Regarding Audit Guidance on Auditor Communications, 9 September 2010 • Federal Register Vol. 75, 30 August 2010 • “Embattled DCAA Director Resigns”, by Elise Castelli, Government Executive, 26 October 2009 • Testimony of April G. Stephenson, Director, Defense Contract Audit Agency before the House Committee on Armed Services Defense Acquisition Reform Panel, 15 October 2009. • GAO Report “DCAA AUDITS -- Widespread Problems with Audit Quality Require Significant Reform”, GAO-09-468, September 2009

  34. Reference Materials (cont.) • OMB Memorandum on “Improving Government Acquisition” to Heads of Executive Departments and Agencies, 29 July 2009 • “Audit Guidance on Federal Acquisition Regulation (FAR) Revisions Related to Contractor Code of Business Ethics and Conduct”, 23 July 2009, DCAA Memorandum for Regional Directors 09-PAS-014(R) • “Audit Guidance on Approving and Rescinding Contractor’s Authorization to Participate in the Direct Bill Program for Major Contractors”, 15 April 2009, DCAA Memorandum for Regional Directors 09-PPD-006(R) • U.S. Department of Defense Inspector General, Oversight Review, 8 April 2009 – “Defense Contract Management Agency Actions on Audits of Cost Accounting Standards and Internal Control Systems at DoD Contractors Involved in Iraq Reconstruction Activities” • “Audit Guidance on Reporting Significant/Sensitive Unsatisfactory Conditions Related to Actions of Government Officials,” 13 March 2009, DCAA Memorandum for Regional Directors 09-PAS-004(R) • “Memorandum on Government Contracting” from President Obama to the Heads of Executive Departments and Agencies, 4 March 2009 • “Audit Management Guidance – Reporting Suspected Contractor Fraud and Other Contractor Irregularities”, 3 March 2009, DCAA Memorandum for Regional Directors 09-OO-010(R)

  35. Reference Materials (cont.) • “Audit Guidance on Significant Deficiencies/Material Weaknesses and Audit Opinions on Internal Control Systems,” 19 December 2008, DCAA Memorandum for Regional Directors 08-PAS-043(R) • GAO Report “DCAA AUDITS -- Allegations That Certain Audits at Three Locations Did Not Meet Professional Standards Were Substantiated”, GAO-08-857, July 2008 • “Ninth Circuit Reverses District Court in GD Federal Tort Claims Act Suit Involving DIVAD Contract”, Fried Frank 1 April 1998 Government Contracts Flash Alert No. 98-4-1 • DCAA Handbook on Fraud Indicators for Contract Auditors, Section II (31 March 1993) • “DCAA Contract Audit Manual Chapter 9—Audit of Cost Estimates And Price Proposals”, 30 June 2010. See http://www.dcaa.mil/ • “DCAA Contract Audit Manual Chapter 12—Auditing Contract Termination, Delay/Disruption, And Other Price Adjustment Proposals Or Claims”, 30 June 2010. See http://www.dcaa.mil/ • Five-Volume Set Of Contract Pricing Reference Guides Prepared Jointly By The Air Force Institute Of Technology And The Federal Acquisition Institute. See Volume IV “Advanced Issues In Contract Pricing” Referenced At FAR 15.404-1 -- Proposal Analysis Techniques (a)(7). See http://www.acq.osd.mil/dpap/cpf/contract_pricing_reference_guides.html.

  36. Reference Materials (cont.) • DCAA Contract Audit Manual 5-1100 Section 11—Audit of Billing System Internal Controls • Estimating Systems • DFARS 215.407-5 Estimating systems. • DCAA Contract Audit Manual 5-1200 Section 12—Audit of Estimating System Internal Controls

  37. Greg Bingham Greg Bingham is a Vice President with The Kenrich Group, LLC. He has over 24 years of experience in the fields of business and litigation consulting including investigation of allegations of fraud or overbilling. Professional Experience Mr. Bingham has assisted clients on Government Contract matters including: 1) regulatory consulting on allowable costs issues arising from the Cost Principles found at Part 31 of the Federal Acquisition Regulation (“FAR”) as well as allocation of cost issues associated with the Cost Accounting Standards (“CAS”), 2) consulting on matters involving allegations of defective pricing, false claims, mischarges and other improper billings to the Government, 3) the Earned Value Management Systems requirements of Department of Defense regulation 5000.2-R, 4) financial statement and special purpose auditing, 5) management consulting and 6) Foreign Military Sales issues and foreign sales issues. This experience has provided him with substantial knowledge of the program management, financial and accounting records and systems maintained by companies who sell to the Federal Government. Greg’s work has included the quantification of cost impacts and negotiation with Government auditors and oversight personnel. Greg has planned and performed reviews of various defense contractors’ systems including Internal Controls, Accounting, Billing and Estimating as well as policies and procedures. Contact Information: 1250 Connecticut Avenue NW, Suite 650 Washington, DC 20036 Tel: (202) 420-7680 Fax: (202) 429-5673 gbingham@kenrichgroup.com Masters of Business Administration University of Texas at Austin Bachelor of Science in Electrical Engineering University of Kentucky

  38. Rich Rector Rich Rector chairs DLA Piper's Government Contracts practice and focuses his practice on federal, state, and local procurement issues. He has litigated contract actions and bid protests before the Court of Appeals for the Federal Circuit, the Court of Federal Claims, federal district courts, state and federal boards of contract appeals, and the US Government Accountability Office. He also has represented prime contractors and subcontractors in breach-of-contract and protest actions in state and federal courts, as well as prepared contract claims and requests for equitable adjustment. Mr. Rector also counsels clients on a broad range of federal and state procurement matters, including IT contracts and transactions, infrastructure projects, state procurement laws and issues, commercial-item contracting, terminations for convenience, US Postal Service procurement, and compliance with procurement integrity and ethics laws. Prior to entering private practice, Mr. Rector worked for Litton Industries, Inc. for eight years in a variety of business development and legal positions. During that period, he gained valuable experience in the preparation and management of new business proposals, as well as in the review and preparation of subcontracts and teaming agreements. The respected English research firm Chambers & Partners cites Mr. Rector in Chambers USA: America's Leading Lawyers for Business. In 2007, it termed him "an expert on the process" and "strategic thinker" and commented that "clients dubbed him 'as good as a crystal ball'"; in 2008, it noted his "numerous successes" and called him "knowledgeable and highly proficient"; in 2009, it said he delivers "reasonable and creative solutions to tough issues" and "excels at anticipating the other side's next move and deconstructing their arguments" and in 2010, it said clients regard him as "a thorough, precise litigator and an all-around superstar." In 2007 and 2008, Mr. Rector was named to Washington SmartCEO's Legal Elite. Contact Information: 500 Eighth Street, NW Washington, DC 20004 Tel: 1 202 799 4400  Fax: 1 202 799 5400 richard.rector@dlapiper.com J.D., University of Maryland 1987 B.A., University of Maryland 1981

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