FY 2013 DCAA Audit Priorities Laid Out in Staff Allocation Plan

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1 Volume 19 SEPTEMBER 2012 FY 2013 DCAA Audit Priorities Laid Out in Staff Allocation Plan By Darryl L. Walker, CPA, CFE, CGFM, Technical Director at The Defense Contract Audit Agency (DCAA) has issued its Government Fiscal Year (GFY) 2013 staffing resources plan and within that memorandum defined the top audit priorities for the new government year which begins October 1, DCAA estimates it will have resources for 5,373 work years which is a 300 work-year increase over the GFY 2012 staff allocation. The additional work years are purportedly dedicated, at least initially, to reducing the incurred cost proposal (ICP) audit backlog which is high on the list of DCAA s audit priorities for accomplishments during the new fiscal year. A summarization of principal audit priorities follows: Procurement agency demand requests for audit services, particularly audits of high risk cost proposals, and within the existing DCAA and DCMA boundaries for undertaking (currently, FFP or Cost Reimbursable proposals equal to or exceeding $10 mil or $100 mil, respectively). DCAA will also treat requests for pre-award surveys of prospective contractor accounting systems for new contractors with the same priority as the bid proposals requests, since receipt of a new flexibly priced contract award is conditional upon having an acceptable accounting system (see the related article DCAA s Evolving Audits of Contractor Accounting Systems ). Support to DCMA in its Cost Recovery Initiative (CRI), Phase II, which includes resolution of outstanding CAS compliance and incurred proposal audit findings, and accomplishing audits of incurred cost proposals more than four years old (see the related article DCMA-DCAA Joint Cost Recovery Initiative Phase II ). THIS ISSUE: FY 2013 DCAA Audit Priorities Laid Out in Staff Allocation Plan DCAA Issues Final (Revised) Policy for Auditing Low Risk Incurred Cost Proposals DCMS-DCAA Cost Recovery Initiative Phase II DCAA s Evolving Audits of Contractor Accounting Systems GSA Freezes Per Diem at 2012 Levels DOD Activates Class Deviation to Accelerate Payments to Small Business Subcontractors Training Opportunities Government Contracts Insight is produced and authored by Copyright

2 Reach-back and DCMA incurred cost proposal priority audits covers major contractors and those with overseas contingency operations stipulated within a defined DCMA list of contractors/fiscal years; this list includes audits of corporate, group, or service center offices, and subcontractors to those contractors shown in the DCMA prioritized listing. Billing and accounting systems audits at pilot sites and high risk locations, carried over from previous GFYs. Post-award audits (defective pricing) of high profit contracts as defined by Defense Procurement Acquisition Policy (DPAP). CASB Disclosure Statements with revisions not yet audited. Any audits that are in progress at the end of GFY DCAA s GFY 2013 staff allocation memorandum makes it clear that the reduction of unaudited backlog of ICPs is of paramount importance. The memo states that the Virtual Incurred Cost field audit offices established in 2012 will continue functioning, with personnel dedicated solely to performing ICP audits; moreover, the agency places emphasis on field auditor utilization of the low-risk ICP statistical sampling plan which allows the agency to avoid auditing each and every contractor submitted ICP. DCAA s detailed list of ICP audit priorities in the order of importance are: Reach-back and in process DCMA priority ICP audits Other ICPs in process carried over from GFY 2012 OMB Circular A-133 audits High risk overseas contingency operations (OCO) audits for contractor fiscal years (CFY) 2009 and earlier Corporate, group, home office and service centers for CFYs 2009 and earlier DCMA priority audits under the CRI Phase II (see discussion above and the related article) The staffing allocation instructions also require factoring in resources for business systems audits at locations where there is significant risk; real-time material and labor floorcheck audits (MAARS 6 & 13) at all major contractors and for high risk non-major contractors, and; certain high risk operations audits. The staffing allocation memo states that DCAA does not have the resources to accomplish business system audits at all major contractor locations, hence including forecasted business system audit requirements only where significant risk is evident, with the concurrence of the applicable DCAA regional office. The DCAA planning memo is absent any discussion of resources for performing Post Contract Award Accounting System Audits at Non-major Contractors or follow-up accounting system audits to determine if corrective action has been taken for previously reported deficiencies. As discussed above, however, the agency does see the necessity of performing pre-award accounting system audits with equal prioritization as concomitant bid proposal audits. DCAA has gone so far as to prepare DCAA training slides available to auditors in using the newly re-written DCAA audit program; one objective of those slides (referenced in the memo) is to ensure that auditors stay focused on the specific pre-award audit objective which is to review only the design effectiveness of the system evaluation of the accounting system operating effectiveness is not the objective of this audit program. DCAA Issues Final (Revised) Policy for Auditing Low Risk Incurred Cost Proposals By Darryl L. Walker, CPA, CFE, CGFM, Technical Director at DCAA has finalized its revised policy and procedures for selecting and auditing low-risk incurred cost proposals (ICPs) using a sampling approach in a September 6 memorandum to its auditors (12-PPD-023(R)). The September 6 memorandum largely implements the draft DCAA policy attached to a July 24, 2012 Defense Procurement Acquisition Policy (DPAP), the details of which we discussed in our August 2012 newsletter (See article entitled DPAP Extends DCAA Policy for Issuing Risk Based Audit Memos for Low-Risk Incurred Cost Proposals ). The policy ostensibly becomes effective October 1, 2012 at the beginning of Government fiscal year The only change made to the July 2012 draft DCAA ICP sampling plan and implemented in the final DCAA policy is that all low-risk ICPs with an annual dollar volume of $1 Government Contracts Insight is produced and authored by Copyright

3 million or lower received before October 1, 2011 will indeed be included within the sampling pool for that strata, and therefore potentially subject to audit. In the draft plan, DCAA had proposed eliminating entirely from the sampling process (and removing any possibility of audit) all $1 million and below low-risk ICPs received prior to October 1 of last year an effort in part to reduce ICP backlog The new policy will not apply to audits already in progress, nor will it apply to any nonprofit organizations or educational institutions. DOD also clearly states that the policy will not apply to 100% non-dod government contractors at least for now. Civilian agencies, according to the memo, will examine the DCAA policy and procedures before making a decision on whether to adopt the low-risk sampling process. The memo also highlights that DCAA will no longer perform desk reviews for non-sampled ICPS (proposals deemed low-risk); DCAA will merely disposition those ICPs through the issuance of a memorandum to the contracting office. We understand that the DCAA memo for unaudited low-risk ICPs will merely state; Looks good to me (probably not the actual wording). And DCAA iterates that once high-risk and low-risk sampled ICPs are identified for audit, field offices should develop a plan for accomplishing those audits to meet the DCAA goal of being current by Government Fiscal Year DCMA-DCAA Cost Recovery Initiative Phase II By Michael E. Steen, CPA Technical Director at In a joint letter issued on August 31, 2012, the respective agency directors for DCMA (Defense Contract Management Agency) and DCAA (Defense Contract Audit Agency) announced Phase II of their cost recovery initiative. The initiative (Phase I) was announced on October 29, 2010 in the context of aggressively seeking to recover taxpayer dollars by dispositioning reportable audits on suspended/disallowed costs, cost allowability, and cost allocability/cost accounting standards. In announcing this initiative, DCMA/DCAA indicated that they would be monitoring progress and highlighting Bright Spots as well as challenges but also noted that each agency would assume its own roles and responsibilities. To date, there haven t been any publicly disclosed Bright Spots which is unfortunately to be expected given the complexities of performing a joint initiative and considering the extended length of time it has taken DCAA to accomplish ICP audits (965 days based upon the FY2011 DCAA Report to Congress). The Phase II announcement continues with the collegial statement that the two agencies are working in tandem to prioritize and disposition outstanding actions which now include 851 final indirect cost rate audit reports which reported $2.3 billion in potentially recoverable costs. Beyond those issued reports, DCAA has identified over 2,200 final indirect cost rate proposals which are more than four years old and awaiting audit that will result in more questioned costs and potential cost recovery for the Government. The reference to more than four years old means that the incurred cost year is prior to 2008 and not necessarily that DCAA has an adequate indirect cost rate submission which is more than four years old. In many cases the contractor indirect cost rate submission (ICP) is or was more than four years old; however, DCAA is now reporting pallid and inconsequential reasons for rejecting previously submitted and acceptable ICPs (to conveniently and superficially restart DCAA s clock for measuring elapsed days to complete an ICP audit). Consistent with Phase I, the latest announcement also emphasizes the distinct roles of the two agencies suggesting that the ACOs will assess the audits, seek DCAA clarification and then take appropriate action. Notably, per the Phase II Joint Initiative, appropriate action does not include contract closeout or resolving costs qualified in an audit report (costs qualified in an audit report could include a cost type subcontract for which a DCAA assist audit has not yet been completed). It is something of a conundrum that DCAA continues to issue audit reports with costs which are qualified, thus leaving the affected prime contracts ineligible for contract close-out pending resolution of assist audits, corporate audits, etc. Issuing audit reports which can actually result in closing contracts is apparently of no particular importance to DCAA. Government Contracts Insight is produced and authored by Copyright

4 In translating this Phase II initiative to our clients (government contractors), it should be noted that DCAA will apparently prioritize and complete audits for years more than four years old. These audits may be qualified leaving certain costs to be resolved at some later date, but at least in contrast to DCAA s track record (completing virtually no incurred cost audits) DCAA has actually ramped-up its incurred cost audits and is actually establishing dues dates for report issuance. A virtual audit team has been assigned the objective of timely completing incurred cost audits; thus, DCAA has dedicated audit resources to this objective. In order to stay on track, DCAA is accelerating its demands for contractor response times, often in the context of DCAA demands for multiple levels of supporting documentation for very large volumes of accounting transactions. Similarly, DCAA is also reducing the amount of time it allows a contractor to review and rebut a DCAA draft audit report. In fact, some DCAA auditors have stated that they would prefer that the contractor not respond to the DCAA draft audit report (i.e. that contractor rebuttals come after the audit report has been issued and therefore the issue resolution transfers to the contracting officer). The only reason DCAA would express this preference is that it allows DCAA to issue its audit report sooner because DCAA doesn t have to deal with the contractor reaction. DCAA s objective is primarily to shorten its measure of elapsed days for completing an ICP audit and apparently not to issue audit reports which will actually facilitate contract close-out. It remains to be seen if the DCMA/DCAA joint initiative will actually recover significant dollars on behalf of the US Taxpayer. It also seems to be a bit odd that it has taken DCMA/DCAA almost two years solely to identify the universe of outstanding indirect cost rates awaiting audit which are more than four years old. We are relatively certain that data was readily available in both agencies management information systems, but apparently this is more complicated than it appears. One final comment, the joint initiative very specifically refers to questioned costs (by DCAA), but only potential cost recovery by the Government. As evidenced by recent contract disputes including Metron (ASBCA Cases 56624, 56751, 56752) and J.F.Taylor (ASBCA Cases 56105, 56322), DCAA s costs questioned may be fundamentally flawed and never recovered as such leaving us to question exactly how this process benefits the US Taxpayer. DCAA s Evolving Audits of Contractor Accounting Systems By Michael E. Steen, CPA Technical Director at A limitation on contracting officers in awarding cost type or flexibly priced contracts is the FAR Part 16 limitation that a contractor s accounting system is adequate for determining costs applicable to the contract or task order (FAR (a)(3)). This limitation is in the context of a pre-award accounting system documented using a Standard Form (SF) 1408 and its list of 12 very basic accounting system criteria. An example of very basic is the SF 1408 criteria 2d, Accumulation of costs under general ledger control. In recognition of the limitations of FAR Part 16 and the SF 1408, the government has always had the requirement for a pre-award accounting system review or audit as a prerequisite of the source selection and contract award process for cost-type and incentive contracts. Up until July 2012, DCAA totally confused this issue by significantly over-stating the audit scope basically having little or no distinction between a preaward accounting system audit and a post-award accounting system audit. In June and July 2012, DCAA revised and issued a number of audit programs including Activity Code 17740, Preaward Survey of Prospective Contractor Accounting System. That audit program limits the auditor to gaining an understanding of the accounting system; more specifically, an evaluation of the design effectiveness and not the operating effectiveness of the system. As highlighted in the DCAA audit program, detailed testing of transactions is not necessary. Unfortunately, DCAA simply cannot stay focused on the narrow mission at hand envisioned by the FAR requirement for an adequate accounting system (i.e. the SF 1408 criteria). An example, DCAA s audit program adding far more expansive requirements, in particular that the auditor consider and by implication report on contractor internal controls which are never mentioned in the SF Although DCAA acknowledges that smaller entities may have less opportunity for controls such as separation of duties, DCAA then inexplicably refers to the need for a smaller entity to implement alternative internal controls through outside (independent accountant) reviews. DCAA Government Contracts Insight is produced and authored by Copyright

5 simply can t address the regulatory requirements without confusing the issue with DCAA s overly-expansive view of its internal actions to absolutely assure DCAA s compliance with GAGAS or government auditing standards (but for DCAA s incredulous interpretations of GAGAS requirements, contractors would not be dealing with these overly-expansive audit programs which are clearly over and above anything required by FAR). Although the preaward audits are in fact limited scope audits (compared with every other DCAA audit) a contractor s successfully passing a preaward audit is by no means an all clear as it relates to additional challenges to the adequacy of a contractor s accounting system. DCAA has its post-award accounting system audit (activity code 17741) which is a DCAA creation designed to supplement the preaward (accounting system design) by virtue of testing the accounting system in operation. Testing an accounting system in operation will involve lengthy tests of accounting transactions while secondarily considering internal controls throughout the process. Once again, DCAA can t stop itself from embedding tests of internal controls into the process and potentially deeming a system inadequate solely based upon DCAA s subjective interpretation of internal control requirements and with little or no regulatory linkage. In addition to the preaward and the post-award DCAA audits and audit programs, DCAA has a number of other audit activities/audit programs which have implications for accounting system adequacy. Those include activity codes: 10310; Floorchecks or employee interviews 10320; Purchase existence and consumption 11010; Billing audit 11015; Annual Testing of Contractor Eligibility for Direct Bill Program 11060; Control environment 11070; Accounting System In summary, there isn t any single DCAA audit which is the finality in the DCAA process of addressing the adequacy of a contractor accounting system. For all contractors, small or large, there will be more than one challenge to the adequacy of a contractor s accounting system (thanks to DCAA s creation of sequential and potentially redundant or overlapping audits). To be sure, not all audits will necessarily apply to all contractors; however, it is critical for a contractor to recognize that it s never over. Various DCAA audits implicate multiple and continuing challenges which can result in a DCAA audit opinion that a contractor s accounting system is not adequate for cost-type or other flexibly priced government contracts. Multiple successes ( passing a DCAA audit) simply won t matter if there is a single failure to pass an audit, and a contractor s future government contract awards are subsequently blocked by an inadequate accounting system. DOD Activates Class Deviation to Accelerate Payments to Small Business Subcontractors By Darryl L. Walker, CPA, CFE, CGFM, Technical Director at In a temporary change to procurement regulations, the Department of Defense (DOD) implemented a provision, effective August 2012, that requires prime contractors to pay its small business subcontractors as soon as practicable after receiving adequately documented subcontractor invoices. In turn, the new policy, a one-year temporary measure to improve small businesses cash flow, also promises accelerated payments to prime contractors (whom subcontract to small business subcontractors) after acceptable prime contractor invoices with proper documentation have been submitted. The Defense Procurement Acquisition Policy (DPAP) issued the regulatory class deviation in an August 15, 2012 memorandum, the purpose of which was to implement a July 2012 OMB Policy to ensure small businesses serving as subcontractors are paid more quickly. The implementation of this policy is accomplished by a new contract clause (FAR ) which is to be included in all new solicitations and awards going issued after the effective date of this deviation. The verbiage in the first paragraph of the new contract clause presents two potential obstacles in getting subcontractors paid as promptly as intended under the DPAP approved deviation. First, a prime contractor apparently does not have to pay its subcontractor(s) until the contractor is first reimbursed for its invoices (inclusive Government Contracts Insight is produced and authored by Copyright

6 of the subcontractor billed amounts). Payments to subcontractors may be delayed if the prime contractor is not reimbursed timely through no fault of the subcontractor, e.g., prime contractor invoice is considered inadequate. Moreover, the verbiage contradicts some government interpretations of payment provisions such as those contained in FAR (b)(1)(ii)(A) (Allowable cost and payment clause applicable when billings are based in part or entirely on actual recorded costs); the foregoing reference stipulates that for the prime contractor to be reimbursed, subcontractors should be prepared to pay its subcontractors ordinarily within 30 days of the submission of Contractor payment request to the government DCAA auditors interpretation of the provision is often very rigid meaning that if a prime contractor passed that thirty day period without having paid its subcontractors (even though the prime contractor has not been paid by the government), subcontractor costs included within the prime contractor s payment request should be questioned/disallowed. Secondly, the requirement of the subcontractor to produce a proper invoice and all proper documentation is wide open to interpretation prime contractors could read into this language that detailed subcontractor accounting data such as time records and vendor invoices be submitted for approval before payment is made. Insistence on proper documentation could very well create disagreements between prime and subcontractor given that most prime contractors do not now require that level of detailed data from its subcontractors to process payments. The temporary regulation for processing small business subcontractor payment requests more promptly is a noble one, however, the DPAP omitted critical detail in its policy to avert possible disputes among government auditors, prime contractors, and subcontractors disagreements as to when prime contractors are required to pay its subcontractors as a matter of other payment provisions included within the contract (e.g., Allowable Cost and Payment clause) and the prime contractor s responsibility for obtaining proper documentation from its subcontractors. Training Opportunities is registered with the National Association of State Boards of Accountancy (NASBA) as a sponsor of continuing professional education on the National Registry of CPE Sponsors. State boards of accountancy have final authority on the acceptance of individual courses for CPE credit. Complaints regarding registered sponsors may be submitted to the National Registry of CPE Sponsors through its website: Sponsored Seminar Schedule October 16, 2012 FAR Part 31 Cost Principles Huntsville, AL CLICK HERE TO REGISTER October 17, 2012 Fundamental Requirements of Cost Accounting Standards Huntsville, AL CLICK HERE TO REGISTER October 30, 2012 Truth-in-Negotiations Act (TINA) or Defective Pricing November 7, 2012 Incurred Cost Submissions (ICS) - The Inevitable Audit November 13, 2012 Cost and Price Analysis in Government Contracting Huntsville, AL November 14, 2012 Understanding Government Contract Audits and Dealing with Audit Issues Huntsville, AL November 27, 2012 Claims and Terminations December 11, 2012 DFARS Business Systems Rule December 18, 2012 Incurred Cost Submissions (ICS) The Audit Report and Issue Resolution Government Contracts Insight is produced and authored by Copyright

7 2012 Federal Publications Sponsored Seminar Schedule October 10-11, 2012 Government Contract Audits Orlando, FL October 22-23, 2012 Accounting Compliance for Government Contractors Washington, DC Instructors Mike Steen Darryl Walker Scott Butler Courtney Edmonson Cyndi Dunn Wayne Murdock Asa Gilliland Go to HUwww.fedpubseminars.comU and click on the Government Contracts tab. About Wall, Einhorn & Chernitzer, P.C. Wall, Einhorn & Chernitzer, P.C. (WEC) is a Hampton Roads owned and operated accounting firm that has been serving clients since WEC consists of nine shareholders and over 75 professional and administrative staff members. Our specialized industry niches include: manufacturing; government contracting; construction; real estate; not-forprofit; employee benefits; cost segregation; wealth management; service businesses, consulting and business valuation. These niches allow us to better serve the needs of our clients. WEC has consistently been named to the lists of: "Best Places to Work in Hampton Roads" by Inside Business and "Best Accounting Firms to Work For" by Accounting Today. Contact Wall, Einhorn & Chernitzer on the web at This newsletter is produced and authored by and distributed to Wall, Einhorn & Chernitzer, P.C. in conjunction with our affiliation agreement. About Our Company s Mission Statement: RGCI enables contractors doing business with the U.S. government to comply with the complex and challenging procurement regulatory provisions and contract requirements by providing superior cost, pricing, accounting, and contracts administration consulting expertise to clients expeditiously, efficiently, and within customer expectations. Our consulting expertise and experience is unparalleled in understanding unique challenges of government contractors, our operating procedures are crafted and monitored to ensure rock-solid compliance, and our company s charter and implementing policies are designed to continuously meet needs of clients while fostering a long-term partnership with each client through pro-active communication with our clients. In achieving government contractor goals, all consulting services are planned and executed utilizing a quality control system to ensure client objectives and goals are fully understood; the right mix of experts with the proper experience are assigned to the requested task; clients are kept abreast of work progress; continuous communication is maintained during the engagement; work is managed and reviewed during the engagement; deliverables are consistent with and tailored to the original agreed-to scope of work, and; follow-up communication to determine the effectiveness of solutions and guidance provided by our experts. Specialized Training will develop and provide specialized Government contracts compliance training for client / contractor audiences. Topics on which we can provide training include estimating systems, FAR Part 31 Cost Principles, TINA and defective pricing, cost accounting system requirements, and basics of Cost Accounting Standards, just to name a few. If you have an interest in training, with educational needs specific to your company, please contact Ms. Lori Beth Miller at lmiller@redstonegci.com, or at Reader Inputs for Future Newsletters develops its topics based upon recent regulations, information, publicly accessible Government policies and our experience in assisting clients with regulatory compliance. However, we are also interested in the ongoing compliance experiences of our readers; hence, we invite your input in terms of suggestions for topics based upon your compliance experiences. Suggested topics along with any background information (i.e., your experience) should be sent to lmiller@redstonegci.com. Wall, Einhorn & Chernitzer, P.C. 555 Main Street, Suite 1600 Norfolk, VA Tel: Fax: Monroe Street Huntsville, AL T: Toll Free: Government Contracts Insight is produced and authored by Copyright