Current DCAA Initiatives

1. Current DCAA Initiatives NCMA Boston Chapter March 14, 2012 s March 7, 2012

2. Recent Events Shaping Current Actions GAO Reports: July 2008 (GAO-08-857) September 2009 (GAO-09-468) December 2011 (GAO-12-88) GAO Testimony October 2009 (GAO-10-163T) Commission on Wartime Contracting in Iraq and Afghanistan Final Report Dated August 2011

3. Aftermath of the Events Prior DCAA Metrics Abolished Independent Reference Reviews added Audit Sample Sizes are Much Larger Audits Take a Lot Longer to Complete Fewer Audits Complete Backlog Grows More Auditors are Needed/On the Way Reduction in Business Systems Monitored (10 to 6) Previous Audit Work Moves to DCMA Fin Cap (MRD 11-PPD-007(R)) Pricing Below $10M FFP/$100M Cost (MRD 10-PSP-030(R))

4. National Defense Authorization Act of 2011 Section 893. Required the Secretary of Defense to develop a program to provide for the approval/disapproval of contractor business systems within 270 days of the act. It allowed for up to a 10% withhold on payments if one or more systems is disapproved.

5. DFARS Business SystemsRule Now Final DoD issued an interim rule effective May 18, 2011 which mandated withholding a percentage of payments when a contractor's business system has one or more significant deficiencies. Rule now final with minimal change effective February 24, 2012. A "significant deficiency" is defined as "a shortcoming in the system that materially affects the ability of officials of the Department of Defense to rely upon information produced by the system that is needed for management purposes."

6. DFARS Business Systems Six business systems are covered by this rule: • Accounting System • Earned Value Management System (EVMS) • Estimating System • Material Management and Accounting System (MMAS) • Property Management System • Purchasing System

7. DFARS Business Systems Allows the Government to impose withholds for business system(s) with significant deficiencies • Five percent (5%) for significant deficiencies in a single contractor business system • Total payment withholds are not to exceed 10% Payments could be withheld on-- • Interim payments under-- • Cost-reimbursement contracts; • Incentive type contracts; • Time-and-materials contracts; • Labor-hour contracts; • Progress payments; and • Performance-based payments.

8. DFARS Business Systems Withholdings only apply to contracts with the clause. Complicates billing – two sets of rates/rules FFP contracts are liquidated upon delivery of product and no longer subject to withhold after delivery (clarified in the final rule). .

9. Cost Accounting Standards (CAS)Threshold change for applicability Cost Accounting Standards applicability • Increased from $650,000 to $700,000 • Removes the fixed threshold amount whereby future threshold changes are tied to TINA thresholds • In line with corresponding increase in the cost or pricing threshold from October 2010 (applicable in the Truth in Negotiations Act – TINA) • Changes effective August 11, 2011

10. NDAA 2012 Section 803 803 - Extension of Applicability of the Senior Executive Benchmark Compensation Amount for Purposes of Allowable Cost Limitations under Defense Contracts The prior statute limited reimbursement of top five executives to a cap established annually by Office of Federal Procurement Policy or OFPP (DCAA does the actual computation for OFPP). New law extends the reimbursement cap to all employees. DFARs Case 2012-D028

11. Executive Compensation • FAR 31.205-6(p)(i) “Compensation” means the total amount of wages, salary, bonuses, deferred compensation (see paragraph (k) of this subsection), and employer contributions to defined contribution pension plans (see paragraphs (j)(4) and (q) of this subsection), for the fiscal year, whether paid, earned, or otherwise accruing, as recorded in the contractor’s cost accounting records for the fiscal year." • But before you get to apply this definition, you have to exclude otherwise unallowable cost - some deferred compensation is unallowable in its own right (e.g. deferred comp based on stock value increases). So, the government won't pay for the unallowable cost but not because of the compensation cap. • So as to the question whether the cap applies to all compensation, the answer is no it doesn't; it only applies to otherwise allowable compensation included in FAR 31.205-6(p) definition. Noticeably excluded from that definition is contributions to a defined benefit plan - so contributions to a defined benefit plan are recoverable over and above the cap.

12. Executive CompensationASBCA Cases 56105, 56322 • Did not Support Most (in Dollars) of DCAA’s Findings that Executive Compensation was Unreasonable. • Upheld use of Surveys and After-the-fact Challenge that Some Cost was Unreasonable • Contractor Produced Statistical Expert • Government Produced Compensation Expert (other than DCAA) • Court Discounted Government Expert • Court Used Statistical Analysis at 90% Confidence (per Contractor Expert) and Still Found Unreasonable Executive Compensation • DCAA Approach of Mid-Point Plus 10% Clearly Not Accepted

13. Federal Acquisition Regulation (FAR) Contract Closeout Final Rule A Federal Acquisition Regulation (FAR) final rule amends procedures for closing out contracts effective June 30, 2011 • Revises procedures for clearing patent reports • Provides for mandatory withholds of fixed fees until all contract close-out actions have been completed (including adequate certified final indirect cost rate proposal) • Revises the quick close-out threshold to $1M • Describes an adequate final indirect cost rate proposal and supporting data - the format follows the DCAA indirect cost rate proposal prescriptions

14. Defense Contract Audit Agency (DCAA) Update • DCAA activity (inactivity) continues to reflect reactions to earlier criticisms from Congress, the U.S. Government Accountability Office (GAO) and the DoD Inspector General • DCAA is issuing fewer audit reports – DCAA Director Fitzpatrick reported average days to complete proposal pricing audits increased from 28 days in FY 2008 to 72 days in FY 2010 • With a growing backlog, DCAA Director Fitzpatrick reported that DCAA has hired 500 new auditors and will add 1,000 more by fiscal 2015, a 37 percent staffing increase

15. Defense Contract Audit Agency (DCAA) Update • NDAA Section 806 requires annual reporting to Congress on reports issued and status of backlog. • February 1, 2012 Senate Hearing (Ad Hoc Subcommittee on Contracting Oversight of the Committee on Homeland Security and governmental Affairs). Senator Brown expressed concern for growing backlog of incurred cost audits.

16. Defense Contract Audit Agency (DCAA) Update • DCMA has assumed responsibility for audits previously performed by DCAA • Financial capability audits • Price proposal audits • Fixed price $10M and below • Cost-type $100M and below • Business Systems • DCMA will lead or co-lead the following business system reviews • Purchasing system • Estimating system • Property system • DCMA makes the final decision on business system adequacy

17. Defense Contract Audit Agency (DCAA) Update • Director of Defense Procurement and Acquisition Policy (Guidance dated December 4, 2009) • DoD policy for addressing and resolving significant disagreement with DCAA recommendations • Significant disagreements = situations where the Contracting Officer (CO) pre-negotiation objective position will sustain less than 75% on proposal of $10M or more • Resolution process to involve applicable DoD agencies up to the Undersecretaries of Defense, Acquisition, Logistics and Technology and the DoD Controller, if necessary • Requires DoD component agencies to establish applicable processes • CO has the ultimate responsibility for resolution

18. DoD Initiatives/Challenges Better Pricing – FPI Contracts Subject to DCAA Incurred Cost Audit Fewer Service Contracts Budget

19. CAS Board Harmonization Rule Effective February 27, 2012 • Harmonization Required by Pension Protection Act • Rule issued December 27, 2011 • Contracts prior to the effective date will require Equitable Adjustment claim to be submitted, if impacted. • Forward Pricing Rates need to be adjusted for Contracts issued after February 27, 2012 or risk loss of recovery because Equitable Adjustment may no be appropriate. • Impact starts 1st fiscal year after receipt of CAS covered contract after 6-30-12 which will mean 1-1-13 for most calendar year contractors.

20. CAS Board Harmonization Rule Effective February 27, 2012 • Impact is phased in over four years • 25% in 2014 • 50% in 2015 • 75% in 2016 • 100% in 2017 and later • Harmonization shorten amortization period for Gains/Losses from 15 years to 10 years • Results of PPA/Harmonization: • More Cost on Programs • More complex auditing required

21. DCAA Open Audit Guidance • 2/23/12 Agreed-to Dates Measure (MRD12-PPS-005) • 2/9/12 Non-Audit Services Concern (MRD 12-PAS-004) • 1/25/12 Milestone Plans Required (MRD 12-PPS-001) • 12/14/11 Testing CAS in other Assignments (MRD 11-PAC-021)

22. What Will Likely Influence DCAA Initiatives • Compliance with GAGAS remains a significant factor • Pressure to improve against backlog • Staffing an issue • Experience level in near term • Adequacy in terms of mission long term

23. What to Expect from DCAA Initiatives • Longer audits are here to stay for foreseeable future • Multi-year/multi-task audits • Lack of flexibility on data requests/responses • More requests for Internal Audits • Dealing with Inexperienced Auditors in an increasing complex environment where staff in risk adverse

24. Questions

25. Thank You Follow-up Information – Contact Frank Summers 617.375.1285 frank.summersjr@ey.com Steven J. Tremblay 617-375-2420 steven.tremblay@ey.com

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