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Welcome to Apogee Consulting, Inc.

Legal Costs Bite Small Business

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Founded in 1985 and located in San Diego, California, Energy/Matter Conversion Corporation (EMC2) researches, develops, and tests a nuclear fusion reactor that uses an electric field to heat ions to fusion conditions. The company received a Cost-Plus-Fixed-Fee (CPFF) contract from the US Navy in 2009, but EMC2 also had cost-type contracts going back at least to 2000. Though small, the company was clearly not a novice to government cost-reimbursement contracting.

With all that being said, it is possible that, as is the case with many small businesses growing in the performance of government contracts, EMC2 may not have fully appreciated the ruleset that comes with cost-reimbursement contracts. You know, the whole “cost allowability” thing?

We suspect that may have been the case because, in 2012, the Navy Acquisition Integrity Office (AIO) sent a “show cause” letter to EMC2 regarding certain costs that were deemed to be unallowable. That “show cause” letter was the result of an investigation and threatened debarment of EMC2 “pursuant to FAR 9.4.” The costs at issue were incurred and billed to the Navy between 2000 and 2005. Among the questionable costs was the salary of Cortine McGowen. According to the show cause letter, Ms. McGowen had told investigators that she worked as a housekeeper at the residence of EMC2 's prior owners, instead of at EMC2's offices. If she was a personal housekeeper then her salary would have been an unallowable personal expense, and not an allowable business expense.

Let’s digress here and state, for the record, that we have seen many instances where personal and business expenses are conflated on the books. All of those instances have been small businesses—sole proprietorships—where the owner(s) did not have a strong appreciation of the difference between personal and business expenses. If you are a sole proprietor (or even an S Corp.) it can happen. The job of the accountant/bookkeeper in such circumstances is to keep the personal and business expenses separate; but if the owner doesn’t provide good direction, that job can be challenging. Mistakes can happen. We’ve seen it.

Although EMC2 disputed that the questioned costs were unallowable, within a year it had refunded $249,851 to the Navy.

Meanwhile, the company kept incurring costs and submitted proposals to establish final billing rates, as required by the contract clause 52.216-7 (“Allowable Cost and Payment”). With respect to its proposals for Fiscal Years 2010, 2011, 2012, and 2013. In each of those proposals—which we assume were properly certified—EMC2 included its legal expenses associated with supporting the investigation and crafting the legal settlement. With respect to FYs 2010 and 2011, DCAA (apparently) alleged that the legal costs were expressly unallowable, but the cognizant contracting officer waived the penalties, as permitted by FAR 42.709-5(c).

Another digression: if you are unfamiliar with expressly unallowable costs and associated penalties, we’ve written about them on this blog. Consider starting here.

When DCAA got around to auditing EMC2’s final billing rate proposals for FYs 2012 and 2013 (an audit that commenced in 2017), it once again questioned the allowability of the legal costs, pursuant to the cost principle at 31.205-47(b)(4). In January 2018, the contracting officer agreed with DCAA that the questioned legal costs were expressly unallowable and assessed a penalty of $53,614 (an amount that included interest). The contracting officer also rejected EMC2’s request for a waiver of the penalty.

EMC2 appealed the COFD to the ASBCA. EMC2 chose not to be represented by an outside attorney before the Board and, instead, proceeded pro se. The company’s President, Dr. Park, represented the company. We’ve written about this situation before.

EMC2 advanced two arguments in its appeal—(1) the questioned legal costs were not expressly unallowable, and (2) even if they were expressly unallowable, the company should be entitled to a waiver (as it apparently received for its FY 2010 and 2011 proposals). As part of its arguments, the company noted that the government “failed to inform” it that the government was disallowing the legal costs in EMC2's FY 2010 and 2011 final billing rate proposals until after it had already submitted its FY 2012 and 2013 final billing rate proposals.

The arguments were unavailing. Judge Sweet, writing for the Board, found that the costs were both expressly unallowable and that EMC2 was not entitled to a waiver of penalty and interest. With respect to EMC2’s argument that the legal costs were not expressly unallowable, he wrote—

The express provisions of the FAR specifically state that costs incurred in connection with any proceedings—including investigations—brought by the government for a violation of the law that result in disposition by compromise are unallowable if ‘the proceedings could have led to debarment.’ FAR 31.205-47(a)-(b). Here, EMC2 incurred the legal costs in connection with the DOJ and AIO investigations for a violation of the law. Moreover, EMC2 disposed of the investigations by compromise when it refunded the Navy $249,850.90 in 2013. Further, the investigations could have resulted in debarment, as the Navy informed EMC2 in the December 10, 2012 letter. Because there is no genuine issue of material fact suggesting that it was reasonable under all of the circumstances for a person in EMC2' s position to conclude that the legal costs were allowable, there is no genuine issue of material fact but that the legal costs were expressly unallowable.

(Internal citations omitted.)

A bit of commentary on the above. Of course, we are not attorneys so what do we know? But we remember a bit of controversy we reported on this site a few years ago regarding the definition of “expressly unallowable cost.” The definition used above by Judge Sweet seems to come straight out of the DCAA audit guidance. That same DCAA audit guidance was criticized by real attorneys at Crowell & Moring for a significant departure from the definition found in CAS 405.

Now, you might argue that, as a small business, EMC2 wouldn’t be subject to the requirements of CAS 405. But you’d be wrong. First, the phrase “expressly unallowable cost” is defined in the FAR (see 31.001, Definitions). Second, FAR 31.201-6 (“Accounting for Unallowable Costs”) requires that all contractors subject to the cost principles comply with the requirements of CAS 405, regardless of whether they are actually CAS-covered. 31.20106(a) states “The practices for accounting for and presentation of unallowable costs must be those described in 48 CFR 9904.405, Accounting for Unallowable Costs.” Therefore, while we are not attorneys, we suspect that, had an attorney been arguing the case, that attorney might have asserted that the Board was making an error of law. But as we previously stated, what do we know?

Back to the case at hand.

With respect to EMC2’s argument that the penalty should be waived, Judge Sweet wrote—

The government also is entitled to judgment as a matter of law on EMC2's claim that it was entitled to a penalty waiver because there is no genuine issue of material fact suggesting that EMC2 had adequate policies, training, controls, and review systems, and that it inadvertently incorporated the legal costs into [its final billing rate proposals].

As part of the decision, it was noted that “EMC2 cannot avoid the penalty by placing the burden of identifying and disallowing the legal costs on the government.”

To the argument that EMC2 was entitled to a waiver because it had updated its policies and procedures, Judge Sweet wrote—

EMC2 also asserts that it updated its accounting policies on January 26, 2017. However, EMC2 points to no evidence to support that assertion. Even if it had, that would not be a basis for a penalty waiver. In order for the penalty waiver to apply, a contractor must have policies established at the time it submitted its erroneous [final billing rate proposal]. FAR 42.709-5. Thus, even if EMC2, as it has alleged, updated its policies on January 26, 2017 this was after its submission of the 2012/2013 [proposals] on June 30, 2016 and it cannot avail itself of the penalty waiver. Indeed, by asserting that it did not update its policies to address the error until January 26, 2017, EMC2 effectively concedes that it did not have adequate policies in place at the time it submitted the 2012/2013 [proposals] on June 30, 2016.

(Internal citations omitted.)

Another digression: if you want to read about waivers and how that all works, check out this article.

Judge Sweet also disposed of EMC2’s argument that it should only pay a penalty on unallowable costs associated with the value of the compromise. In other words, since its settlement was only 55% of the amount of originally questioned costs, it should only have to pay 55% of the penalty (and interest) amount. Citing to a General Dynamics case, the Judge found EMC2’s arguments unpersuasive.

Let’s sum this story up.

A small business—what looks like a sole proprietorship—grows through receipt of cost-reimbursable government contracts. The company appears to not fully understand the accounting requirements associated with those contracts and, as a result, it makes some mistakes with respect to claiming unallowable costs as allowable costs. It gets investigated and, although it settles its legal problems, it compounds and complicates its situation by claiming the legal costs associated with its problems as allowable costs, in contravention of FAR Part 31 requirements. The company believes imposition of penalties is wrong so it appeals to the ASBCA. It represents itself before the Board. It loses on a government motion for summary judgment.

The end.

One final digression: growing companies tend to not appreciate the changing risks in their environment. We wrote about that phenomenon over here. If you are a growing small business, or a large business with a growing supply chain, we suggest you check it out.

Last Updated on Tuesday, 15 January 2019 18:37

DCAA Audit Guidance: Inadequate Cost/Price Analysis

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In September, 2017, DCAA issued audit guidance that discussed evaluations of prime contractor cost/price analyses of proposed subcontractor costs. We didn’t discuss it because it didn’t really merit discussion; at its core it was a restatement of requirements found in FAR Part 15 (at 15.404). Prime contractors that already knew about those requirements and that were complying with them were not going to have significant issues with the “new” audit guidance; so we refrained from offering comment.

Now DCAA has issued revised audit guidance and it’s worth discussing.

MRD 18-PSP-006(R), dated November 27, 2018 (but published in January, 2019) addresses “incomplete or inadequate prime contractor cost or price analyses.” The objective of the MRD is to help auditors avoid classifying proposed subcontractor costs as being “unsupported” simply because the auditors don’t like the cost/price analyses that the prime contractor performed. If the prime’s analyses are flawed, the MRD directs the auditors to attempt to perform alternate procedures; proposed subcontractor costs should be classified as “unsupported” only if those alternate procedures fail to provide sufficient evidence to support an audit conclusion.

The MRD also directs auditors who are forced to use such alternate procedures to report the dollars associated with incomplete or inadequate cost/price analyses to the CO as a “material noncompliance” with FAR requirements. Readers should note that there is no such thing as a “material noncompliance” with FAR requirements and any such finding carries with it exactly zero consequences. Though, having said that, we suppose that piling up a bunch of such reported “material noncompliances” is not going to make the next Estimating System review go any easier.

What are these alternate procedures that the auditors are supposed to perform?

  • Create a decrement based on purchase order history

  • Create a decrement based on comparisons of prior subcontractor proposals to the cost/price analyses of those proposals

  • Create a decrement based on comparisons of prior subcontractor proposals to the actual negotiated values of the subcontractors

  • Request an assist audit of the subcontractor’s proposal by the DCAA audit team with cognizance over the subcontractor

In discussing this new guidance with professional subcontractor cost/price analysis guru Dan C., Dan noted that prime contractors can use the exact same procedures in their cost/price analyses of received subcontractor proposals. In other words, if your cost/price analyses of a subcontractor proposal isn’t going well, see if any of the procedures listed above help get you where you need to go. If so, then you will have a complete and/or adequate subcontractor cost/price analysis to share with your customer (and DCAA), thus minimizing DCAA”s need to implement the alternate procedures when performing audits of your proposal. (Thanks Dan!)


2018 Recap – Apogee Consulting, Inc.

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Those who dish it should be able to take it, right? Given our penchant for offering criticism of our government policy-makers, rule-makers, and auditors, we think it’s only fair to offer our own statistics for criticism as well.

Apogee Consulting, Inc. as a Consultancy

2018 was a great year. It wasn’t the best year, in terms of gross revenue, but it was a strong No. 3 in that regard. (FYI, the best year was 2011, followed by 2012.) Of course, our idea of a good year is based on the size of the consultancy, which is—shall we say?—not large.

In 2018, we served a double-handful of clients. Engagements ranged from supporting cost/price analyses to helping draft new Estimating System and Purchasing System Descriptions. In the meantime, we supported a smallish company’s efforts to develop an adequate Accounting System, and we worked with a couple of other formerly small businesses on Small Business plans and CAS/FAR related matters. We were pleased to see that the ASBCA told the Department of Defense that our CAS/FAR litigation consulting expenses were both reasonable and reimbursable under the Equal Access to Justice Act.

One long-term client essentially went on hiatus in 2018, as it engaged attorneys to tap-dance through litigation motions and such. (Happy to say that we recommended the law firm and lead attorney.) We expect that client to request our services again in 2019.

Apogee Consulting, Inc. as Educator

As noted on this website, I made several public presentations in 2018 to both the Association of Government Accountants (AGA) and the National Contract Management Association (NCMA). I did not publish any articles this year, which always disappoints. But of course there was the blog (I’ll get to that in a moment.)

Looking forward into 2019, I will be teaching a class in the San Diego State University’s Continuing Education Services’ Government Contracts series. I will also be editing two books for Lexis Nexis. I will also be presenting at a local seminar, sponsored by BDO, LLP and Deltek, in February.

Apogee Consulting, Inc. as Blogger

We published 113 blog articles in 2018, which is a rate of more than two per week. Each article was at least 500 words and most were at least 1,000 words. Basically, I wrote a novel’s worth of blog posts.

It’s tough to tell which articles were popular and which articles had their “hit” statistics inflated by bots and attempts to hack the site. In fact, 2018 was marked by a number of attempts to hack the site through SQL injections and email attacks. For a few days, I was overwhelmed with Chinese character emails (which are tough to block with conventional means, because most US software doesn’t recognize that character set). Despite the attacks, we made it through the year relatively unscathed.

As far as the articles go, I think the ones about the CAS Board were the most popular. As I wrote before, I don’t think it has to do with my writing or the content of the posts; but rather it is a symptom that people in this business are starved for news on the topic. The CAS Board, which published meeting agendas only sporadically (at best) throughout the year, meets behind closed doors and offers very little of substantive commentary to the public. As a result, people glom onto anything that looks remotely like news about the CAS Board's doings, even our blog articles.

We spent a lot of time this year writing about the compliance gaps created by statutory changes that were slow to be implemented in regulations. We also wrote about the Section 809 Panel and some of its recommendations.

We didn’t write very much about DCAA, at least in comparison to prior years. A couple of things contributed to the relative paucity of articles. First, DCAA doesn’t issue very much audit guidance anymore; or, perhaps we should say that the audit agency doesn’t publish very much audit guidance in the form of Memoranda for Regional Directors (MRDs) on its website. Our count is three. DCAA published only three MRDs in 2018, which is dramatically fewer than in previous years. Another change is that DCAA wasn’t mentioned in as many court decisions as in previous years; we decline to speculate as to why that might be the case. Finally, another fruitful area of potential blog articles—the “Selected Area of Cost Guidebook”—continues to be “under construction” in many chapters. So, all in all, 2018 was not a good year for spawning blog articles about the audit agency.

Recap: 113 blog articles in 2018, an increase from 2017’s 101 blog articles. In 2016 we published 89 articles. In 2015 we published 111 articles. Thus: 2018 represents the most prolific we’ve been in many years.


Lots of blog articles. Lots of consulting activity. More clients and more new clients.

Here’s hoping that 2019 is more of the same. For us all!

Last Updated on Tuesday, 01 January 2019 10:40

CID Authority Centralized in DCMA CIG

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Previously on Apogee Consulting, Inc.:

  • We noted that DoD had issued a draft Commercial Item Handbook (version 2.0).

  • We discussed a proposed rule regarding how contracting officers should make Commercial Item Determinations (CIDs).

  • We reviewed a revised proposed rule (same topic) and noted some improvements.

  • We told you about a DPAP Memo announcing the creation of six (6) Commercial Item Centers of Excellence, each “staffed with a cadre of engineers and price/cost analysts to advise” COs in how to make commercial item determinations. The six CoE’s (located in Tampa Bay, Denver, Indianapolis, Phoenix, Boston, and Philadelphia) are collectively known as the Commercial Item Group (CIG). That policy Memo clearly stated that “the responsibility for commercial item determinations remains a PCO responsibility.”

  • We reported that a final DFARS rule had been issued and that DoD had (finally) issued its Commercial Items Handbook (version 2.0). The final version—issued literally nine years after the draft had been published—came in two volumes (“Commercial Item Determination” and “Commercial Item Pricing”), and we provided a link to that new Handbook, which was now called a Guidebook.

Now we present:

On December 20, 2018, the Acting Principal Director, DoD Defense Pricing and Contracting, issued a short policy Memo that stated “effective immediately, DCMA CIG Contracting Officers will serve as determining officials for all commercial item review requests submitted to DCMA. … Determinations by the CIG will relieve buying activity Procuring Contracting Officers (PCO) from duplicating effort expended reviewing the CIG recommendations to determine whether an item meets the FAR 2.101 definition of ‘commercial item’ as well as provide consistency in the commerciality review process.”

Thus, the responsibility for commercial item determinations (CIDs) has been transferred from the DCMA PCOs to the DCMA CIG COs. (Acronym soup for the win, right?) The CIG COs will make the call on the CIDs, and that call is final.

Is this a good thing? It depends. Those of us who’ve dealt with the reluctance of DCMA PCOs to make a decision might well think it is a good thing, whereas those of us who’ve been able to sail through a local CID might not look forward to having the “pros from Dover” reviewing the commerciality supporting documentation with a fine-toothed comb. Given the “unevenness” of expertise throughout the PCO ranks, we probably tend to bias towards the “good news” side of the spectrum.

Of course, your mileage may vary.

Last Updated on Sunday, 13 January 2019 07:43

2018 Recap – Federal Acquisition Circulars

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Starting in 2019 I will be editing a reference book on the FAR, tracking changes made in 2018. Consider this article to be a foretaste of that update.

There were four Federal Acquisition Circulars (FACs) issued in 2018. Interestingly, with the issuance of FAC 2005-99 (June 15, 2018) the numbering reset and the following FAC (December 20, 2018) was numbered 2019-01.

FAC 2005-97 was issued January 24, 2018. It contained one final rule (FAR Case 2018-001: Trade Agreements Thresholds) that adjusted “the thresholds for application of the World Trade Organization Government Procurement Agreement and the Free Trade Agreements as determined by the United States Trade Representative, according to predetermined formulae under the agreements.” The final rule made changes to FAR 25.4 (“Trade Agreements”) and other FAR sections that include trade agreement thresholds. It also revised certain solicitation provisions and contract clauses.

FAC 2005-98 was issued May 1, 2018. It contained four final rules, as follows:

  • FAR Case 2015-039: Audit of Settlement Proposals. Increased the “dollar threshold for the audit of prime contract settlement proposals and subcontract settlements submitted in the event of contract termination, from $100,000 to align with the threshold in FAR 15.403–4(a)(1) for obtaining certified cost or pricing data, which is currently $750,000.”

  • FAR Case 2017-004: Liquidated Damages Rate Adjustment. Made an inflation adjustment to “the rate of liquidated damages assessed for violations of the overtime provisions of the Contract Work Hours and Safety Standards Act.” The rate to be used is specified at 28 C.F.R. 5.5(b)(2).

  • FAR Case 2017-007: Task- and Delivery-Order Protests. Raised the protest threshold “from $10 million to $25 million (applicable to DoD, NASA, and the Coast Guard) and [repeals] the sunset date for the authority to protest the placement of an order (for the other civilian agencies), which was also previously repealed by the GAO Civilian Task and Delivery Order Protest Authority Act of 2016.”

  • FAR Case 2017-008: Duties of Office of Small and Disadvantaged Business Utilization. Amended FAR 19.201 “to update the list of duties for OSDBUs and OSBPs in line with section 15(k) of the Small Business Act. No clauses or provisions are being created or revised by this rule.”

FAC 2005-99 was issued June 15, 2018. It contained two interim rules and zero final rules. The two interim rules were:

  • FAR Case 2017-018: Violations of Arms Control Treaties or Agreements with the United States. Added a new FAR section, 9.109, to “address the prohibition on contracting with an entity involved in activities that violate arms control treaties or agreements with the United States.” Also added a new provision 52.209-13 that requires a contractor certification. Does not apply to acquisitions of commercial items or to acquisitions below the Simplified Acquisition Threshold.

  • FAR Case 2018-010: Use of Products and Services of Kaspersky Lab. Added a new FAR section, 4.20, and a related contract clause to “prohibit[] the use of hardware, software, and services of Kaspersky Lab and its related entities by the Federal Government on or after October 1, 2018.”

FAC 2019-01 was issued December 20, 2018. It contained one final rule (FAR Case 2015-017: Combatting Trafficking in Persons-Definition of “Recruitment Fees”). The final rule added a definition of “recruitment fees” to FAR 22.1702 and revised the language at 22.1703. It also revised the language of contract clauses 52.212-5, 52.213-4, 52.222-50, and 52.244-6.

In addition to the foregoing, a late proposed rule was issued December 26, 2018. The proposed rule would implement FAR Case 2017-005, entitled “Whistleblower Protection for Contractor Employees.” The proposed rule would “make permanent the pilot program for enhancement of contractor protection from reprisal for sharing certain information.” It would also “clarify” that “that the cost principles at 10 U.S.C. 2324(k) and 41 U.S.C. 4304 and 4310 that prohibit reimbursement for certain legal costs apply to costs incurred by a contractor, subcontractor, or personal services contractor.” The rule-making comments note that “personal services contractors are contractors” and “cost principles generally already apply in the same way to costs incurred by subcontractors as to costs incurred by contractors.”

Last Updated on Friday, 28 December 2018 07:50

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Effective January 1, 2019, Nick Sanders has been named as Editor of two reference books published by LexisNexis. The first book is Matthew Bender’s Accounting for Government Contracts: The Federal Acquisition Regulation. The second book is Matthew Bender’s Accounting for Government Contracts: The Cost Accounting Standards. Nick replaces Darrell Oyer, who has edited those books for many years.