As you grow your business you will soon subcontract to a government prime contractor or prime a contract with the government directly. When you do you understand that your financials are open to being audited by the government to ensure fair and compliant in-voicing. What do you need to know to be “compliant”? Is your accounting system already compliant? This and other questions are worth knowing before that day comes. By: Gary Henry, McNew & Associates

1. 2012 DENVER METRO SBDC
VETERANS CONFERNCE
GOVERNMENT CONTRACT
COMPLIANCE & ACCOUNTING
SYSTEMS
Mr. Gary Henry, Vice President
McNew & Associates
Mr. Roland Wick, Sr. Consultant
McNew & Associates
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2. Overview
• Introduction
• Compliance Overview
• Current Audit Environment
• Internal Controls
• Audit Types
• Accounting System – The Foundation
• Business Strategies
• Questions
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3. Mr. Gary L. Henry, CPCM, PMP
Vice President, Operations
Mr. Gary Henry is Vice President, Operations, for McNew & Associates, Inc. (MAI), Colorado
Springs, Colorado. He provides subject matter expert support related to Federal Acquisition
Regulation requirements, federal contract proposal development guidance, business
development, teaming strategies and post award contract management requirements. He is
a retired Air Force officer, with a career spanning over twenty years in the operational,
acquisition, contracting, and mission support disciplines.
Roland Wick
Senior Consultant
Mr. Roland Wick is a Senior Consultant with McNew & Associates, Inc. (MAI), Colorado
Springs, Colorado. In this role he provides subject matter expert support related to Federal
Acquisition Regulation (FAR) , Defense FAR Supplement (DFARS), and Cost Accounting
Standards (CAS) requirements and proposal development guidance and support. Prior to
joining MAI, Mr. Wick was a supervisory auditor for the Defense Contract Audit Agency.
McNew & Associates provides:
• Government Cost Accounting & Bookkeeping
• Proposal Pricing Development & Strategy
• Contract Management & Administration
• Business System Implementation, Review, and Maintenance
• DCAA Audit Support
• Proposal Management
• Business Development Support
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4. Challenges Within the Acquisition Lifecycle
Carefully Balancing External Factors to Gain Competitive Edge
Company Business Proposal Contract Contract Contract
Processes Systems BD/Capture Negotiation/
Development Administration Closeout
Established Award
Proposal Dev & Pricing
“Back Contract/Subcontract Management
Office”
Support Accounting/Financial Management
Business Systems Compliance – Estimating, Accounting, Purchasing, EVMS
DCAA/DCMA/FAR/DFARS/CAS
Growth Business Changing Federal Workforce & Skill Competitor
Opportunities Challenges Regulations Set Changes Influence
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5. Current Gov’t Audit Environment
• GAO Report Dec 2008
• DCAA, DCMA oversight issues
• Congressional Committee on Government Contracting
• DCAA has significantly increased defense contractor scrutiny
• No longer provide guidance, hands-off, increased hiring
• Focus is on “Quality Audits”
• Significant backlog in “incurred cost audits”
• More accounting system failures – slow turn around for revaluation
• Significant change in the audit process
• One deficiency noted, entire system is non-compliant (Pass/Fail)
• Proposal adequacy (FAR 15-2) bar significantly raised
• Prime Contractors getting systems deemed inadequate by DCAA
• Estimating, Accounting, Billing, Purchasing, EVMS, Property
• DCMA getting increased systems status requests from KO
• DFARS Interim Ruling for Business System Compliance
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6. DFARS Interim Rule
• DoD is adopting as final an interim amending DFARS to improve the
effectiveness of DoD oversight of contractor business systems
• Rule will add Subpart 242.70 – Business Systems and would define six
separate business systems:
• Accounting System
• Earned Value Management System (EVMS)
• Estimating System
• Material Management & Accounting System (MMAS)
• Property Management System
• Purchasing System
• DoD is implementing compliance enforcement mechanisms in the form of a
business systems clause which includes payment withholding as a
percentage of payments
• Business systems clauses contains a requirement for contractors to respond to
initial and final determinations of deficiencies
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7. Internal Controls - General
• Strong internal controls tend to reduce DCAA’s audit efforts, while weak
internal controls tend to increase audit scrutiny
• When evaluating internal control systems, DCAA will consider:
• Amount of systems testing previously performed or currently planned
• Self-governance programs
• The accounting and management systems should be considered in the
context of the following:
• Contractor’s size, organization and ownership characteristics
• Nature of the contractor’s business
• Diversity and complexity of the contractor’s operations
• Contractor’s methods of processing information
• Applicable legal and regulatory requirements
• The “foundational” internal control is the Accounting System
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8. Accounting System “Status”
• Myth: “Approved” Accounting Systems
• Truth: “Adequate” Accounting Systems
• Based on contract type and requirements
• FAR 16.301-3 – adequate to determine costs applicable to cost
reimbursement contracts (no FAR requirement for T&M or FFP
contracts)
• FAR 9.103 – KO must determine responsibility IAW FAR 9.104-1
• May request a pre-award survey (FAR 9.106)
• No longer adequate in part – either adequate or inadequate
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9. What This Really Means
•The prime contractor has to have an adequate accounting
system for award and performance of cost and flexibility
priced contracts
• The prime has to assess its subcontractor’s system
• This has become an increasingly highlighted
requirement pre and post contract award
• Incurred cost audits at prime level
•Contracting officer will request audits by DCAA
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10. DCAA Audits
• Preaward Contract Audits
• Price Proposals
• Audits of contractor price proposal submission allowability, allocability, and reasonableness
• Preaward Surveys
• Audit to determine whether the contractors accounting system is adequate and suitable for accumulating
costs under Government contracts
• Forward Pricing Labor & Indirect Rates
• Provisional Billing Rates – Audit of indirect cost rates used for obtaining reimbursement on cost type contract
billings
• Forward Pricing Rate Agreements – Audit of projected or forecasted bidding rates and pricing factors
• Post Award Contract Audits
• Incurred Costs
• Year end audit of total year costs incurred to ensure reasonableness, allowability, and allocability.
• Truth In Negotiations Act (TINA) Compliance
• Basically ensure no deception in pricing at negotiation time
• Cost Accounting Standards (CAS) Compliance & Adequacy
• Only applicable to contracts over $7.5M or $50M (A whole different conversation)
• Claims
• Audit of requests for Equitable Price Adjustments, financial assistance, or Economic Price Adjustment
• Financial Capability
• Audit to determine whether the contractor’s finances are adequate to perform the contract
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11. Accounting System
• Accounting System: Software, People, Processes, and Policies
• An acceptable accounting system provides reasonable assurance that
• Applicable laws and regulations are complied with
• Accounting system and cost data are reliable
• Risk of misallocations and mischarges are minimized
• Contract allocations and charges are consistent with invoice
procedures
Business System DCAA ICAPS and Other System Audits
Accounting System Control Environment and Overall Accounting System Controls
Indirect and Other Direct Cost Controls
Compensation System Controls
Billing System Controls
Labor System Controls
Pre-Award and Post-Award Accounting System Review
General Information and Technology System Controls
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12. Elements of an
Accounting System
• The accounting system center is the general ledger (G/L).
• Feeding the hub information are sub ledgers that include
the following components:
• Accounts Receivable
• Accounts Payable
• Order Entry
• Inventory Control
• Cost Accounting
• Payroll
• Fixed Assets Accounting
•Must meet form 1408 accounting system adequacy
criteria
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14. Accounting System Requirements
Reference Standard Form (SF) 1408
• In compliance with Generally Accepted Accounting Practices (GAAP)
• Proper Segregation of Direct Costs from Indirect Costs
• Identification and accumulation of direct costs by contract
• A logical and consistent method for the allocation of indirect costs to intermediate and
final cost objectives
• Accumulation of costs under general ledger control
• A timekeeping system that identifies employees’ labor by intermediate of final cost
objective
• A labor distribution system that charges direct and indirect labor to the appropriate cost
objectives
• Interim (at least monthly), routine posting of books of account
• Exclusion of unallowable costs specified in the contract or specifically identified in FAR
31.205
• Identification of costs by contract line item number (CLIN)
• Separation of pre-production costs from production costs
• Accounting system provides financial information for limitations of cost and payment
• The accounting system is designed and maintained to provide adequate and reliable
data
• The accounting system is in full operation
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15. Minimal Accounting
System Requirements IAW SF 1408
Purchases Job Cost Record Job Cost Ledger
Direct Direct Summary of all
Materials Costs by job cost reports
Job Direct Costs
Payroll General Ledger
The central “books” of the
Direct Labor system. Every transaction flows
through the general ledger.
Indirect Labor These records remain as a
permanent track of the history
Overhead of all financial transactions
since day one of the life of the
Indirect company.
accounts for
indirect
Time Cards
allocation
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16. How To Support
• Take each line item on the 1408 and separately document that process
• Put the documentation in a folder by each criteria
• Provide requirements in accordance with Generally Accepted
Accounting Principles:
• ICQ, flowcharts
• Audited or reviewed financial statements
• Written accounting policies
• Organization charts
• Chart of accounts.
• Show the overall system process and flow of the recording processes
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17. Common Failures
• No written policies or procedures
• Software is not open or started.
• Indirect rate structure is not developed.
• Vouchers do not trace directly to job cost report.
• No time cards for officers and owners.
• All time is not reported
• Cash to bank does not reconcile.
• Total of job cost reports does not reconcile to COGS.
• Funding and cost limitations are not correct.
• No billing to cost reconciliation is performed.
• No contract briefing cards.
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18. Business Strategy - Subcontractors
• Should ensure compliant systems are put in place – 3rd party audit
• Primes requiring review of subcontractor systems
• Increased sub pricing information required for gov’t proposals
• DCAA assist audit requirements – even if Fixed Price
• Can use compliant systems as a discriminator in capability
• Discriminator now, requirement in near term
• Auditable systems help prime selection & price reasonableness
• Ensure compliance culture throughout contract life cycle
• Benefits
• Reduced risk in DCAA audits, government proposal analysis
• Reduced overhead, wasted resources defending audits
• Business Development – key prime selection criteria
• Bottomline: compliant systems increase chance of subcontract award
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19. Key Take Away’s
• GAO critical of DCAA, DCMA
• DCAA and Government in increased oversight mode
• DFARS Interim Rule will increase requirements
• Contractors must have adequate accounting systems to perform cost type
contracts. FAR Part 9
• Primes selecting subcontractors like government – Risk!
• Compliance will result in increased business opportunities
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20. Contact Information
McNew & Associates:
Email: mcnew@mcnewassociates.com
Web: www.mcnewassociates.com
Gary Henry, PMP, CPCM
Vice President
Tel: (719) 559-0670
Email: ghenry@mcnewassociates.com
Roland Wick, Sr. Consultant
Tel: (719) 559-0670
Email: rwick@mcnewassociates.com
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21. QUESTIONS?
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22. BACK UP SLIDES
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23. Proper segregation of costs.
•Provide chart of accounts and written
accounting policies. How does the
contractor define direct and indirect
costs? Provide written policies which
state contractor procedures.
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24. Direct costs by contract
•Provide policies on how contract
numbers are established, provide job
cost numbers in the system, show the
cost element breakout at the job cost
level, show current and cumulative
costs, provide job cost reports.
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25. Allocation of indirect costs.
•Provide cost accounts that record
indirect costs by pool. Provide written
policies on pools and bases, to include
description of pool/base elements, and
the methodology for calculating indirect
rates. Provide current rates and pools
and bases that tie directly to the
accounting records. Provide interim
indirect rates and final year-end actual
indirect rates.
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26. Accumulation of costs under general
ledger control
•Pick specific job cost report, trace it to
the higher level of total job cost report
summary, trace that top level job cost
summary to the income statement
COGS. Assure the income statement for
that period ties to the balance sheet
(retained earnings).
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27. Timekeeping system. Time cards and
labor distribution.
• Provide the total labor distribution report for all jobs.
• Select the same job cost report from above and trace labor to
that section of the distribution report.
• From the specific labor distribution report for that job cost
report trace selected labor to time cards. Assure time cards
support hours in the labor distribution.
• Provide selected payroll records to assure effective labor rates
are applied for all hours worked.
• Assure that costs computed in labor distribution are correct
(all hours worked and rates applied correctly).
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28. Interim determination of costs.
•Provide bank to cash reconciliation for
the balance sheet selected for the job
cost to income statement to balance
sheet trace. This should show the
accounting system is currently posted.
(Also verified in trace of current
vouchers to source records).
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29. Exclusion of Unallowables.
• Provide written policies on FAR 31
exclusion.
• Provide the accounts in the chart of
accounts that accumulate
unallowable costs.
•Demonstrate indirect pools have no
unallowable accounts and that bases
include appropriate unallowables as
required under FAR 31.
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30. Costs by Contract Line Item
•Demonstrate the numbering system to
allow lower level codes to contract
charges. Demonstrate all cost elements,
down to the lowest level, are incurred
and recorded by line item, for each
specific contract in the detailed job cost
ledgers.
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31. Limitation of Costs/Billings:
•Demonstrate you have policies,
contract briefing forms, and show
indirect rates are readily calculated
from records. Explain and document
who monitors these rates, who will
monitor limitation of billings, who
will review costs vs billings?
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32. Adequate, Reliable Data:
•If the costs are properly recorded and
accumulated this will be accepted. If the
costs do not reconcile or are not in detail to
allow cost element bid support per FAR part
15 then this criteria will fail.
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