The FAR establishes that when contracting by negotiation with the Government, the contractor should have an acceptable estimating system. FAR 15.407-5 provides that due to the benefits to both the Government and the contractor in reducing the scope of individual proposal reviews at contractors with an acceptable estimating system, the auditor (likely DCAA) should survey the system and provide a report to all contracting offices and contract administration offices doing substantial pricing activity with the contractor. This is a very open-ended requirement/expectation; therefore, DoD established a structure in the DFARS.
DFARS Policy on Estimating Systems
DFARS 215.407-5-70 sets forth that it is DoD policy that all contractors have an acceptable estimating system. It goes on to place a requirement to disclose, maintain, and support review of the estimating system on all large contractors. Large contractors are defined as contractors with DoD prime and subcontracts totaling $50M or more, requiring certified cost or pricing data. It also allows the procurement contracting officer (PCO) or administrative contracting officer (ACO) to request a review of a contractor with $10M to $50M in DoD prime and subcontracts, requiring certified cost or pricing data, when it is the best interest of the Government.
What Constitutes an Acceptable Estimating System?
DFARS 252.215-7002(d) details the system requirements of an acceptable estimating system. All contracts awarded based on certified cost or pricing data are required to include the DFARS clause 252.215-7002, Cost Estimating System Requirements. DFARS 252.215-7002(d)(4) provides that an acceptable estimating system provides for the use of appropriate source data, utilizes sound estimating techniques and good judgment, maintains a consistent approach, and adheres to established policies and procedures, as well as accomplishes the following 17 specific criteria:
- Responsibility for preparation, review, and approval of cost estimates.
- Written description of the organization and duties.
- Sufficient training, experience, and guidance.
- Identify sources of data, methods, and rationale of cost estimates.
- Adequate supervision.
- Consistent application of estimating and budgeting techniques.
- Detection and timely correction of errors.
- Protect against cost duplication and omissions.
- Use of historical experience.
- Use of analytical methods.
- Integrate data and information available from other management systems.
- Management reviews.
- Internal reviews and comparisons of results to actuals, and an analysis of differences.
- Update cost estimates in a timely manner throughout the negotiation process.
- Ensure subcontract prices are reasonable based review and analysis.
- Consistently generate sound proposals.
- Adequate system description.
The disclosure requirement is meet by the contractor providing written documentation of its system to the ACO. The written documentation must accurately describe the policies, procedures, and practices the contractor uses to prepare an individual cost proposal and provide sufficient detail for the ACO to determine the acceptability of the contractor's estimating system. The ACO is required to implement a payment withhold if a significant deficiency is determined. 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 data and information produced by the system that is needed for management purposes.”
It should be noted that should a significant deficiency be determined by the ACO, a payment withhold cannot be implemented unless DFARS 252.242-7005, Contractor Business Systems, is included in the contract. DFARS 252.242-7005, Contractor Business Systems, is limited to CAS covered contracts only. Even if a percentage of payments are not withheld, a disapproved estimating system can significantly impact potential contract awards and ramp up audit oversight of individual contract proposals.
When the auditor shows up to review your estimating system
The auditor is going start with understanding the Control Environment. This is going to require significant resources to complete page after page of DCAA templates and to demonstrate how your environment actually operates.
Once you get past the Control Environment, the auditor is going to expect you to have documentation (AKA something in writing) supporting compliance with each of the 17 system criteria within your system, along with documentation which can support the following (although not required by DFARS):
- Contractor’s Risk Self-Assessment – Document how you identify, and address risk associated with price proposal estimates in which cost or pricing data are required.
- Contractor Monitoring – Document what activities you use to monitor the overall operation of the estimating process.
- Information System and Communication – Document what process you use to initiate, process, authorize, control, report, and communicate information related to each type of significant estimate.
- Control Activities – The control activities you use to ensure compliance with each of the criteria in the DFARS 252.215-7002(d).
The expectation is that you provide the auditor with an understanding of how each of the 17 estimating processes/functions are accomplished and how you ensure compliance with the DFARS 252.215-7002(d) system criteria. This is similar to the approach taken by Sarbanes Oxley related to financial internal controls. In all honesty, this is not a bad approach; however, many auditors struggle with being able to leverage the risk assessment and control documentation already put together by the contractor in order to reduce risk to more appropriately plan and execute their audit. Also, it should be noted that DFARS 252.215-7002 does not require this self-assessment be performed as part of an approved estimating system. DFARS only requires the contractor to have policies and procedures that provide for management or internal reviews of compliance with its estimating policies and procedures. However, be prepared that this is an auditor expectation, so it may not be a battle worth fighting to not prepare and provide this information.
Try to see Eye to eye with the Auditor on their Understand of your System
As with all system audits, it is likely to require an extensive investment in time and resources on the part of the contractor to get through the risk assessment phase. Unfortunately, it is very unlikely that the auditor will take the time to present to the contractor what his/her documented understanding of the system ends up being. If the auditor was more open at this point in the audit, many misunderstandings, as well as back and forth over data requests, could be avoided. That said, making a formal request to the ACO and auditor for a walk-through of the auditor’s documented understanding of your system is a best practice. By taking this approach, contractors show they made every effort to ensure both parties had a common understanding should later confusing requests from the auditor become a denial of records access issue.
Another system criteria in DFARS 252.215-7002(d)(4)(xvi) requires your system provide estimates that serve as a basis to reach a fair and reasonable price, and (xiii) reviews of the budgetary data supporting indirect cost estimates and comparisons of projected results to actual results, as well as an analysis of any differences. Reading these together (Ok – it does take some reading into), an acceptable estimating system should have a feedback loop (i.e., a comparison of significant estimates to actual results). While the auditor is definitely going to want to see evidence of this analysis, it is a good practice to ensure you do not get into loss situations or funding problems during contract performance.
Keep the ACO updated on DCAA Questioned Cost vs True Estimating Concerns
In the end, it is likely that the audit will end up being a rehash of questioned cost from individual cost proposals with little consideration on the underlying judgements the auditor used in determining the questioned cost. Seeing as this is often the case, it is a good practice for contractors with significant pricing efforts to meet quarterly with DCAA and DCMA to review completed pricing efforts. It is important to remember that a substantial amount of what DCAA claims and reports as sustained questioned cost on individual cost proposals is simply timing issues. For example, you placed an estimated unit price for a part in your Bill of Material based on the last time you bought it, while waiting for requested vendor quotes to come in. DCAA uses the vendor quotes that were not available when you submitted your proposal to question a portion of the cost of the proposed part. You would have updated for the vendor quotes when the buying command requested an updated proposal, so DCAA had little real impact on the eventual fair and reasonable price. Having on-going interaction with your ACO is essential in order to help him/her see the risk; that issue should not be considered as sustained questioned cost as presented by DCAA.
Redstone GCI assists contractors throughout the U.S. and internationally with understanding the Government’s expectations and requirements of an acceptable estimating system that comply with DFARS 252.215-7002. If we can help you to enhance your estimating system practices and procedures or perform a “mock audit” of your estimating system, please reach out to us.