2. 1 Revisions to Cost-type Contracts: Controlling Scope, Schedule, & Cost Breakout Session # E10 Jo Ellyn Cunningham Tuesday July 31, 2012 2:30 PM – 3:45 PM

3. 2 Two Basic Pricing Arrangements: Fixed Price: FFP, FFP/EPA, FP+AF, FP+I, FF Rate, Cost-Share Cost Reimbursement: CNF, CPFF, CPIF, CPAW, Cost-Share T&M, LH Contract Types

4. 3 Cost Risk: High >>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>> Low Requirement Definition Vague >>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>>> Well Defined Production Stage Concept ExploratoryTest/Full scaleFull Studies, & Development DemoDevelopmentProduction Basic Research Contract Type Varied CPFFCPIF,CPIF, FPIF,FFP, FPIF, FPIFor FFPor FPEPA Cost-Type Contracts

5. 4 CPFF Completion CPFF Term (LOE) T&M PWS/SOW PWS/SOW PWS/SOW POP POP POP Estimated Cost Estimated Cost Ceiling Price Estimated Cost Estimated Cost Allowable Fixed Fee Fixed Fee Charges Total Cost & Fee Total Cost & Fee LOE Language tying fee to range of hours Cost Plus Fixed Fee (CPFF) / Time & Materials (T&M) - Contrast

6. 5 Cost-Reimbursement Contract Administration Where the rubber meets the road…

7. 6 T&M: Contractor’s labor rates: Loaded to include direct, indirect, General & Administrative (G&A) costs, & profit. Typically agreed to prior to award for current year & out years T&M vs. Cost

8. 7 T&M: Materials & Other Direct Costs (ODCs) typically are provided at Contractor’s cost. However, Contractor may add overhead (OH) to ODCs, IF he has not already recovered these costs in his Labor rates, & it is his standard accounting practice. Profit/fee is based on level of risk, performance & technical innovation. T&M vs. Cost

9. 8 COST-TYPE - Handled differently: Cost elements are reviewed separately to include: direct labor, subcontractor labor, materials, other direct costs, overhead & other indirect costs, General & Administrative (G&A) & profit/fee. Direct costs are costs directly associated with a specific project, & include labor, travel, & purchases. T&M vs. Cost-Type

10. 9 COST-TYPE: Indirect costs change, based on company projections & the changing costs of operating a business. Indirect costs are common costs that can’t be directly assigned to specific projects, & are allocated using a systematic cost allocation basis. Profit/fee is based on level of risk, performance & technical innovation. T&M vs. Cost-Type

11. 10 Cost-Reimbursable (With or Without Fee) Contract Mods THESE ARE NOT TIME & MATERIALS OR LABOR HOUR CONTRACTS You cannot just “Add Money”

12. 11 Issues you must address: Option years & Rate Change Requests:  Direct Labor Rate changes  Indirect Rate changes  Audit contractor’s proposed revised rates? Consider cost of audits  Use GII/DOL factors? Modifications to T&M Contracts

13. 12 Issues you must address, continued: Adding Funding:  Will additional funding & work scope lower indirect rates?  Assuming no GII/DOL provisions, has contractor experienced any changes in his indirect rates? Modifications to T&M Contracts

14. 13 Questions the Buyer/Contract Specialist (CS) must ask: What caused the change? Use loaded rates agreed upon at contract award? If applicable to this mod, ask for List of Materials (LOM) & costs specific to mod request. Contractor developed LOMs should not be changed after the fact unless Government has caused the change, or unknown conditions exist. Always ask for justification. Modifications to T&M Contracts

15. 14 Questions Buyers/Contract Specialists must ask, cont’d: If Contractor is suggesting a labor rate change, ask for written justification for consideration. Must be a good reason. If SCA contract, compare rates against agreed upon Wage Determination in contract. Update if & when an Option is being exercised. Modifications to T&M Contracts

16. 15 Questions Buyers/Contract Specialists must ask, cont’d: If Adding Funding: Why is additional funding needed if Government has not caused or asked for a change in work? If justified, add value of modification to previously obligated amount. Remember, the Contractor won this award by proposing an estimated price that demonstrated he/she understood the work. Be cautious about contractor initial buy-in to a job. Modifications to T&M Contracts

17. 16 Scope: Authorized work per Performance Work Statement (PWS) Scope Creep: New work (beyond PWS authorization) that usually results from discussions between Government & contractor engineers & program managers, who neglected to keep contract specialists on both sides informed! (BEWARE Apparent Authority!) Cost Overrun: No new work is authorized, but costs incurred exceeded those costs authorized by the contract. Contractor overruns are solely at Contractor’s own risk. Government is NOT obligated to cover any costs above the authorized contract amount. Contractor must provide Notice to Government when costs reach 75% of the estimated costs when there is a potential for overrun. (FAR 32.705-2) Important Concepts

18. 17 Cost No Fee: Contractor receives no fee. Cost Plus Fixed Fee: Allowable costs up to a specified ceiling amount, plus negotiated fee fixed at contract inception. Fee does not vary with costs incurred; it may be adjusted as changes to the work are authorized by the CS or KO. Important Concepts, Continued

19. 18 Issues Buyers/CSs must address: Costs incurred to date (existing scope) Estimated Costs to Complete (existing scope) Estimated Costs for New Scope Is this revision for an overrun? Identify the reason for an overrun. Modifications to Cost-No Fee Contracts

20. 19 Issues Buyers/CSs must address, continued: Address Contractor’s Quote(s), Buyer’s/Contract Specialist’s (CS) Position, Negotiated Settlement, & Net Impact Estimated Schedule for Incurred Costs Monitor invoices. Key Words to Remember: Scope Creep, Scope Growth, Cost Overrun Modifications to Cost-No Fee Contracts

21. 20 Questions the Buyer/CS must address: What are costs-to-date & estimated Cost-to-Complete of Existing Scope? Is this modification for an Overrun on a Cost-Plus- Fixed-Fee contract? Does the Modification request include an overrun & New Work? What are estimated costs for New Scope, plus Fee, commensurate with risk, for New Scope? Identify the reason for an overrun. Modifications to Cost-Plus Type Contracts

22. 21 Questions Buyer/CS must address, cont’d: Profit or fee negotiated, for new work ONLY, should be specifically identified. If an overrun is considered in the same modification, keep it separate. Will Contractor be required to submit certified cost & pricing data, or other than certified cost & pricing data? Under what circumstances? (Hint –TINA). Does modified cost properly exclude non-recurring costs such as tooling, design, & development costs & learning curve? Modifications to Cost-Plus Type Contracts

23. 22 Questions Buyers/CSs must address, cont’d: Review Contractor’s Proposal(s); Document Government’s Position & Negotiated Settlement, & Document Net Impact (POM/PNM). Define how additional Fee (if any) will be paid out! Tie fee payments to deliverables received & accepted by the Government. Incentivize Contractor Performance! DO NOT pay a monthly or quarterly fee amount. Monitor invoices to insure Contractor is not invoicing inappropriately for fee. Avoid appearance of Cost Plus Percentage of Cost!! This is Illegal! Modifications to Cost-Plus Type Contracts

24. 23 Questions Buyers/CSs must address, cont’d: Fee should be based on the arrangement identified in the RFP, i.e., fee will be paid at completion of each separate task, OR at completion of milestone, etc. DO NOT treat the fee as if it were part of any progress payments. Progress payments are used for FFP contracts, not CPFF. If new work, Use DD Form 1547 (for non-competitive) when mod exceeds $100K & contract total is $50M or greater per year. Modifications to Cost-Plus Type Contracts

25. 24 Avoid the appearance of Cost Plus Percentage of Cost!! Definition for Cost Plus Percentage of Cost: The following criteria is used to determine whether a contract has a CPPC arrangement: 1.Payment is on a predetermined percentage rate. 2.The predetermined percentage rate is applied to actual performance costs. 3.The Contractor’s entitlement is uncertain at the time of contracting; &, 4.The Contractor’s entitlement increases commensurately with increased performance costs. Modifications to Cost-Plus Type Contracts

26. 25 The scope of work can be written two ways for a cost reimbursable contract: Completion Term Form As found in FAR 16.306(d) Cost-Reimbursement Contracts: Completion vs. Term

27. 26 Completion States a definite goal or target & specifying an end product. Contractor must complete & deliver specified end product (e.g., a final report of research accomplishing the goal or target) within the estimated cost, as a condition for payment of the entire fixed fee. If work cannot be completed within estimated cost, Government may require more effort without increase in fee, provided Government increases the estimated cost. Cost-Reimbursement Scope Approach: Completion vs. Term

28. 27 Term Form Obligates contractor to devote a specified level of effort for a stated time period. If performance is considered satisfactory by Government, fixed fee is payable at expiration of agreed- upon period, upon contractor statement that level of effort specified in contract has been expended in performing the contract work. Renewal for further periods of performance is a new acquisition that involves new cost & fee arrangements.. Cost-Reimbursement Scope Approach: Completion vs. Term

29. 28 Regularly Required Cost Status Report Enable Better Contract Management: Technical progress for period ended Cost to date for period ended Estimated costs for next quarter Technical activities/milestone completion planned for next quarter Estimated Cost to complete Contract Quarterly or Monthly Cost Status Reports

30. 29 What is the technical status of the contract? What is driving the increase? Cost Growth? Scope Growth? Constructive Changes? Effect on Schedule? Get Project Manager & Budget Analyst Input Ask the Right Questions: Line Customers

31. 30 What is the technical status of contract performance? What is driving the increased schedule &/or costs? Scope changes ? Source? Constructive Changes? Suppliers? Subcontractors? Ask the Right Questions: Contractors

32. 31 SCOPE SCHEDULE COST The Trinity: Scope, Schedule, & Cost

33. 32 Step One – Existing Scope: Get cost-to-date & estimate to complete existing, current work Get technical status to date Obtain hours to date & estimated hours- to- complete for CPFF LOE Contracts. If there is a projected overrun, make sure that Contractor does not mix up cost for new work with overrun in order to get fee on the overrun. Adding Scope, Schedule, Cost

34. 33 Step Two – Scope Change Evaluate labor, material, travel, indirect costs, profit for new work. Negotiate Schedule & Cost Plus Fee for New Work. Step Three Summarize Changes. Map out how much must be added to the contract to account for (1) cost status of existing contract & (2) proposed new work. Adding Scope, Schedule, Cost

35. 34 If PWS/SOW Scope is increased, the increased cost is fee-bearing. If your action has the effect of requiring the Contractor to perform more work, (constructive change), that cost increase could be fee-bearing Defective Specifications Contractor gets order to “speed up” work in face of excusable delays. Non Cooperation or Interference, e.g. your organization impedes performance CPFF Completion Changes: Fee-bearing Costs & Non-fee-bearing Costs

36. 35 If increased cost is the result of Cost Growth, the increased cost is non-fee bearing. More hours needed than originally estimated Material Cost Increases Proposed subs not available, requiring Contractor to use more expensive subs. CPFF Changes: Fee-bearing Costs & Non-fee-bearing Costs

37. 36 If there is an overrun or revised estimate to complete (anticipated overrun) Contractor needs to provide detail on the overrun: Cost & technical status of work to date What cost elements make up the overrun What technical work will be performed with the overrun. What conditions drove the overrun. CPFF Changes: Overruns

38. 37 De-scope: Preferable to a Partial Termination Step One Get cost-to-date & estimate to complete for current work. Get technical status to date CPFF Changes: Descopes

39. 38 Step Two Evaluate labor, material, travel, indirect costs, profit for new work. Negotiate Cost Plus Fee for Deleted Work: Look for the following when evaluating the proposal: Underestimating labor, material Omitting types of labor or material Omitting Indirect Costs Omitting Profit CPFF Changes: Descopes

40. 39 Step Two, Continued Closely review original proposal to see if there was anything originally proposed that is missing from deduct proposal Step Three Summarize Changes. Map out how much must be added to &/or deleted from the contract to account for (1) cost status of existing contract, & (2) proposed deleted work. CPFF Changes: Descopes

41. 40 CS Issued Increased Scope Change on CPFF Completion, Without Getting Cost-to-Complete Status (Bad Move!) Original Quotation Instructions to Contractor: Propose Estimated Cost & Fixed Fee for adding one support package: OriginalNegotiatedNew Contract ContractIncreaseValue Cost$1,218,354$118,868$1,337,222 Fee$ 92,778$ 7,132$ 99,910 CPFF $1,311,132$126,000$1,437,132 Example 1: Scope Increase to CPFF Completion-type Contract

42. 41 Increased Scope Change on CPFF Completion, Buyer/CS Obtained Cost to Complete Status, & “Balanced the Books” (Much better approach): Quotation Instructions for Existing Status (Step 1) Provide Cost to Date through the Most Current Accounting Period, for existing work. Provide Technical Progress Status To Date through most current Accounting Period, for existing work. Provide Estimated Cost to Complete for existing work. Example 1(a): Scope Increase to CPFF Completion-type Contract

43. 42 Increased Scope Change on CPFF Completion, Buyer/CS Obtained Cost to Complete Status, & “Balanced the Books”: Now Address New Work (Step 2) Propose Estimated Cost & Fixed Fee for adding one support package. Let’s look at the difference in the results when the more detailed Quotation Instructions were provided! Example 1(a): Scope Increase to CPFF Completion-type Contract

44. 43 (1)(2) Actuals toEstimate Total Initial Date plus to Complete ContractCost Contract FeeOriginal Work* AmountGrowth Cost $1,093,098$209,565 $1,302,663 $1,218,354$84,309 Fee$ 92,778$ $ 92,778 $ 92,778$ 0 CPFF$1,185,876$209,565 $1,395,441 $1,311,132$84,309 Follow up Question to Contractor – Why the $84,309 cost growth? Contractor’s Response – Subcontractor shut down, causing Prime to go to more expensive shop. *NOTE: Not fee bearing, because it was not an increase in scope. Example 1(a): STEP ONE – BALANCE THE BOOKS

45. 44 NEGOTIATE THE INCREASED SCOPE Evaluate labor, material, travel, indirect costs, & profit for new work; Negotiate Cost Plus Fee for New Work. Below is result of Cost analysis for new work: Negotiated Cost$34,559 Fee$ 2,073 CPFF$36,632 Example 1(a): STEP TWO – NEGOTIATE THE INCREASED SCOPE

46. 45 Per ContractTo CompleteAdded ScopeNew Contract Value Cost$1,218,354$84,309$34,559$1,337,222 Fee$ 92,778$ 0$ 2,073$ 94,851 CPFF$1,311,132$84,309$36,632 $1,432,073 Example 1(a): STEP THREE – SUMMARIZE CONTRACT ACTION

47. 46 Example 1 vs. 1(a), e.g. “Balancing books vs. not balancing the books” Example 1Example 1(a) New Contract ValueNew Contract ValueDifference Cost$1,337,222$1,337,222 Fee$ 99,910$ 94,851$5,059 (savings) CPFF$1,437,132$1,432,073$5,059 Example 1(a): BALANCING THE BOOKS ADVANTAGE!

48. 47 Adding new Term Without Getting Cost & Hours- to- Complete Status, e.g. “Balancing the Books” (OOPS!) Quotation Instructions: Propose Estimated Cost & Fixed Fee for adding 4 months. Contract Cost & Fee Thru 8/31/07 New Contract Term Neg. 9/1/07 – 12-31-07Value Cost$74,425,817$3,826,414$78,252,231 Fixed Fee$ 5,694,078$ 305,108$ 5,999,186 Total$80,119,895$4,131,522$84,251,417 Example 2: Adding New Term to CPFF- Level Of Effort Contract

49. 48 Increased Scope Change on CPFF LOE, CS Obtained Cost to Complete Status, & “Balanced the Books”: Quotation Instructions – (Good Work!) Step 1 – Address Existing Work Provide Cost to Date through the Most Current Accounting Period of existing work. Provide Hours through Most Current Accounting Period. Provide Estimate to Complete through Balance of Contract Term. Example 2(a): Adding New Term to CPFF-Level Of Effort Contract, Correctly!

50. 49 Quotation Instructions, Continued – Step 2 – Address New Work Propose Estimated Hours to Complete through Balance of Contract Term Provide CPFF & Hours for new Term Let’s look at the difference in the results when the more detailed Quotation Instructions were provided! Example 2(a): Adding New Term to CPFF-Level Of Effort Contract, Correctly!

51. 50 STEP ONE - BALANCE THE BOOKS Actual hours plus estimated hours to complete original work were below negotiated range of hours that Fee was based upon, for period ending 8/31/07. Thus full fee for period ending 8/31/07 was not earned in accordance with the Contract terms. Buyer/CS negotiated fee reduction of $117,714. Actual plus Estimated Term Costs for P/E 8/31/07 were $72,782,403. Example 2(a): Adding New Term to CPFF-Level Of Effort Contract, Correctly!

52. 51 STEP TWO – NEGOTIATE COST & FEE FOR NEW TERM Neg. 9/1/07 – 12/31/07 Cost$3,826,414 Fixed Fee $ 305,108 Total$4,131,522 Example 2(a): Adding New Term to CPFF-Level Of Effort Contract, Correctly!

53. 52 STEP THREE – SUMMARIZE CONTRACT ACTION Actual CostNew + Re-negotiated New TermContract Fee through 8/31/07 Neg. 9/1/07-12/31/07Value Cost$72,782,403 $3,826,414 $76,608,817 F. Fee$ 5,576,364 $ 305,108 $ 5,881,472 Total$78,358,767 $4,131,522 $82,490,289 Example 2(a): Adding New Term to CPFF-Level Of Effort Contract, Correctly!

54. 53 Example 2 Example 2(a) New Contract Value New Contract Value Difference Cost$78,252,231 $76,608,817 Fee$ 5,999,186 $ 5,881,472 CPFF$84,251,417 $82,490,289 Example 2 versus 2(a), e.g. “Balancing the Books vs. Not Balancing the Books”

55. 54 KEY POINT 1: In Example 2, Buyer/CS asked for estimated costs for the extended term without asking for cost to date & estimate to complete current term first. Contract was in an underrun situation. Buyer/CS did not ask for correct information; thus, in the New Contract Value, too much cost was added. Example 2 versus 2(a), e.g. “Balancing the Books vs. Not Balancing the Books”

56. 55 KEY POINT 2: In Example 2, Buyer/CS did not ask for hours for the current term to determine if the contractual LOE had been provided. Thus, the Contractor earned fee for the current term to which they were not entitled. As a result, the new contract value for Example 2 contained too much fee. Example 2 versus 2(a), e.g. “Balancing the Books vs. Not Balancing the Books”

57. 56 Delete Task #4 – It Is No Longer Required: Quotation Instructions: Step 1: Provide Cost to Date through Most Current Accounting Period for existing work. Provide Estimated Cost to Complete for existing work. Get Technical Status on current work. Example 3: De-Scoped Effort

58. 57 Delete Task #4 – No Longer Required: Quotation Instructions: Step 2: Propose Detailed Deducted Estimated Cost & Fixed Fee for deleting Task #4. Use current costs to price the proposal. Let’s See How the Savvy Buyer/CS Accomplished This. Example 3: De-Scoped Effort

59. 58 STEP ONE: BALANCE THE BOOKS This is the Original Contract’s Estimated Cost & Fee Cost$1,500,000 Fee$ 120,000 Total$1,620,000 Your Contractor informs you that cost to date for the most current accounting period is $1,000,000. Estimate at Completion for current work is $1,500,000, which is your current Contractual Estimated Cost. Example 3: De-Scoped Effort

60. 59 STEP TWO: NEGOTIATE COST & FEE FOR DELETED WORK ProposedNegotiated Cost Fee <$ 16,000 Total Contractor proposed only direct costs in deduct, with no overhead, G&A or profit. Buyer/CS argued that negotiated deduct must include current costs, associated indirect costs & fee. Negotiated amount includes those elements. Example 3: De-Scoped Effort

61. 60 STEP THREE – SUMMARIZE CONTRACT ACTION Per Contract Negotiated Deduct New Contract Value Cost$1,500,000 $1,300,000 Fee$ 120,000 $ 104,000 CPFF$1,620,000 $1,404,000 Example 3: De-Scoped Effort

62. 61 Contractor proposed to perform work under the original PWS for: $100,000.00 + $8,000.00 (8% fee)= $108,000.00 total estimated cost. Contractor completes the work satisfactorily and submits a final invoice to the Government for a total of $93,000.00, indicating work is complete. Questions: 1.How much fee is the contractor entitled to for this work? 2.What happens to the remaining $7,000.00 of the originally estimated cost? Answers: 1.$8,000.00 2.CS should deobligate the funds and give them back to the customer to reuse. Fee Scenario # 1

63. 62 Contractor proposed to perform the work in the PWS/SOW for: $100,000.00 + $8,000.00 (8% fee) = $108,000.00 total estimated cost. Contractor submits a request for change, indicating he needs to add 200 hours additional labor as he did not complete the work for the number of hours he/she originally proposed. The Government has agreed to fund the overrun, recognizing there was no change to the work. Question: 1.What fee will you pay the Contractor for this overrun? Answer: 1.None. The overrun is due to underestimation of hours by the Contractor, and the Government has not made or caused a change. Fee Scenario # 2

64. 63 Contractor proposed to perform the work in the PWS/SOW for: $100,000.00 + $8,000.00(8% fee) = $108,000.00 estimated total cost. Contractor submits a request for more funds to complete the original work; the Government has made no change. Government has asked Contractor to add 2 within-scope tasks. Question: 1.What will happen to the fee under the 2 circumstances above? (Separate responses required) Answers: 1.After you determine the increased value of the overrun, NO additional fee will be added for the increase. 2.New work will include a newly negotiated fixed fee (keep these transactions separate in the modification. Fee Scenario # 3

65. 64 Contractor proposed original work for: $100,000.00 + $8,000.00(8% fee)= $108,000.00 estimated total cost. Government decided 7 months into the 12 month performance period that one task will not be performed, and they need to descope the task. Question: 1.What happens to the fee under this scenario? Answer: 1.Buyer/CS will need to determine value of descoped work and associated fee from original proposal, or (if it was not broken out) negotiate the reduction to include all costs plus representative fee. Fee Scenario # 4

66. 65 You have inherited a CPFF contract that was treated like a T&M for the last 2 amendments, over a two-year period. Funding was added without obtaining any cost information of any kind – twice! Need amendment to extend the contract for a fourth year, & add funding to cover the estimated costs. Contractor provided detailed cost proposal $795,000.00. Group Exercise: Fixing the Mismanaged CPFF

67. 66 Contractor quoted indirect rate of 387%; it was 186% when contract was placed 3 years ago. Requester thinks 4 th year’s level of effort will be about $900,000.00. The current contract value is $750,000.00. What are the issues you must address? How will you resolve each one? Group Exercise: Fixing the Mismanaged CPFF

68. 67 -Request Financial approval for total estimated funding required for all five years, assuming that all options may be exercised (if this has not already been done). -Define the existing scope of work, based on LOE through end of existing POP. Must do this through mutual agreement, since last 2 mods did not address a scope of work. -Require contractor to provide a quote for existing scope that shows both actual costs incurred to date through end of last month, as well as estimate to complete existing scope of work. - Get assistance from auditor. -Determine, if possible if there were cost overruns – probably difficult if not impossible at this point. -Review proposal for new scope with Program Manager; ask him to comment on reasonableness of labor hours and mix, materials and any other direct costs. -Get a rationale from contractor for all proposed elements of cost. - Create Excel spreadsheet. Use auditor and PM inputs to negotiate costs and fee. Document negotiation. Fixing the Mismanaged CPFF-Resolutions

69. 68 Consider getting Quarterly Cost Status Reports Avoid adding & deleting funding off CPF’s as if they are T&M’s. Go through the proper processes. Ask the right questions of Line & Contractors. Evaluate Cost Status vs. Technical Completion for Cost Type Contracts. Understand what is fee bearing & what is not. Summary

70. 69 Questions?