Cost Accounting Standards

In 1990 the Office of Federal Procurement Policy Act was amended. Section 26 was added to the Act and the Cost Accounting Standards Board (CASB) was reconstituted after a ten year hiatus. After nearly two years of deliberation, the Board's first real act was to recodify the Cost Accounting Standards (CAS) rules, contract clauses and solicitation clauses from Chapter 1, 48 CFR Part 30 to 48 CFR Chapter 99. The final rule implementing this change appeared in the Federal Register at 14148 on April 17, 1992.

The final rule addressed only the recodification of those rules which are within the Cost Accounting Standards Board's (CASB) authority under the Federal Procure ment Policy Act of 1988. Thus, the administrative procedures such as those in FAR §§30.202-6 and 7 and FAR SubPart 30.6, which have historically been entrusted to the procuring agencies, were not recodified in 48 CFR Chapter 99.

Since the recodification, numerous other changes have been implemented. The applicability was expanded to educational institutions and the thresholds have been increased several times.

Applicability

The CAS apply to contracts themselves and not to contractors. Once a contract is CAS-covered, it will always be CAS-covered. Similarly, if the contract is not CAS-covered, it will never be CAS-covered regardless of how many times it is modified or how large are the modifications. The one potential exception to this rule is when the modification is considered an entirely new contract. The Department of Energy was well known for this kind of practice when awarding annual contracts to its laboratory operators. Frequently, each additional year of operation was perfected by issuing a modification to the previous year's contract.

Previously, the CAS applied principally to negotiated National Defense contracts and subcontracts. As a result of the recodification in April 1992, however, the CAS now apply to all negotiated contracts and subcontracts except contracts awarded:

• Using sealed bid procedures;
• That are $500,000 or less;
• Small businesses
• When the price is set by law or reg ulation;
• When the price is based on estab lished catalog or market prices of commercial items sold in substan tial quantities to the general public;
• Firm fixed price contracts for commercial items;
• As fixed price contracts without the submission of any cost data.
• With foreign governments or their agents or instrumentalities;
• To a foreign concern except for 401 and 402 which remain applicable;
• To a United Kingdom contractor for performance substantially in the United Kingdom provided that the contractor has filed a completed disclosure statement with the Min istry of Defense;
• To subcontractors under the NATO PHM Ship Program to be performed by a foreign concern;
• For performance entirely outside the United States, its territories, and possessions; and

Types of Coverage

CAS-covered contracts may be either fully-covered or have modified coverage. Full coverage requires the contractor to comply with all 19 standards during the performance of the contract. Modified coverage requires contractors to comply only with Standards:

• 401 - Consistency in Estimating, Accu mulating and Reporting Costs,
• 402 - Consistency in Allocating Costs Incurred for the Same Purpose,
• 405 - Accounting for Unallowable Costs, and
• 406 - Cost Accounting Period.

Contracts of $50 million or more are subject to full CAS coverage. Contracts of less than $50 million are also subject to full CAS coverage if the contractor's business unit received $50 million or more in CAS-covered contracts during its preceding cost accounting period and at least one CAS covered contractbeing performed exceeded $7.5 million. Thus, the $7.5 million threshold acts as a trigger mechanism for CAS coverage.

Contractor business units receiving less than $50 million in contract awards in their prior fiscal year or more than $50 million in contract awards in their prior fiscal year but none of which was over $1 million may elect modified coverage. This election must be made prior to contract award by marking the block in Section III of the Cost Accounting Standards Notices and Certifications, FAR §9903.201-3. Once the elction is made, all subsequent contracts awarded during the fiscal year must have modified coverage unless the contractor receives one CAS-covered contract of $25 million or more.

A contract retains its status--full or modified--throughout its life. Consequently, a change in coverage from full to modified, or vice versa, does not affect the status of existing contracts.

Disclosure Statements

A disclosure statement is a written description of a contractor's cost accounting practices and procedures. The description is provided on Standard Form CASB-DS-1. Contractors should be aware that although the form contains many choices from which to choose, they are not all compliant with the CAS. For example, the form permits the selection of cost of sales as the allocation base for General and Administrative expenses; however, such a practice is not compliant with CAS 410, Allocation of Business Unit General and Administrative Expenses to Final Cost Objectives.

A disclosure statement is required when a company, together with all its segments, exceeds the $25 million threshold. Thus, while the criteria for CAS coverage are dependent on the business volume for a particular segment, the criteria for disclosure statements is company-wide and considers all business segments.

A completed disclosure statement must be submitted prior to the award of a CAS- covered contract or subcontract of $25 million or more. Otherwise, the company, along with all of its segments, must have received more than $25 million in CAS- covered contract awards in the immediately preceding cost accounting period and at least one of the CAS-covered awards must have been more than $1 million before a Disclosure Statement is required. In such cases, the statement is required before award of the first CAS-covered contract awarded in that cost accounting period. If the first CAS-covered contract is received within 90 days of the start of the cost accounting period, however, the contractor is not required to submit the disclosure statement until the end of the first 90 days of the accounting period.

A separate disclosure statement is required for each business segment whose costs included in the total price of any CAS-covered contract or subcontract exceed $500,000. If in the most recently completed cost accounting period the segment's CAS-covered awards are less than 30 percent of total segment sales and less than $10 million, a separate disclosure statement need not be submitted. In such cases, a single disclosure statement clearly identifying the covered segments can be submitted if the cost accounting practices are identical.

Each corporate or other home office that allocates costs to one or more disclosing segments performing CAS-covered contracts must submit Part VIII of the Disclosure Statement. They need not complete the other parts of the form, since these pertain to the operations of the segments to which the home office overhead is allocated.

Threshold Computation

The thresholds for CAS coverage and disclosure statements are based upon the total potential value of the proposed or awarded CAS-covered contract. Therefore, even unobligated amounts and unexercised period options should be considered when assessing the contract's value relative to CAS thresholds. However, unpriced options and ordering agreements should not be included in the computation.

Cost Accounting Practices

As stated above, a Disclosure Statement describes a contractor's cost accounting practices. A cost accounting practice is any accounting method or technique used for the measurement, assignment or allocation of cost to cost objectives.

Measurement of costs encompasses the accounting methods or techniques used in defining the components of cost, determin ing the basis for cost measurement, and establishing criteria for use of alternative cost measurement techniques. Examples for the measurement of cost include:

• the use of historical cost, market value, or present value;
• the use of standard or actual cost; or
• the designation of those items to be included or excluded from tangible capital assets or pension costs.

The determination of amounts paid or a change in amounts paid for a unit of goods and services is not a cost accounting practice.

The assignment of costs refers to a method or technique used in determining the amount of cost to be assigned to individual cost accounting periods. Allocation of cost includes both direct and indirect allocation of costs. Examples of the assignment of costs in clude:

• requirements for the use of cash basis or accrual basis accounting; or
• methods for depreciating capital ized assets.

The allocation of costs to cost objectives includes the allocation of direct and indi rect cost. Examples of accounting practices for allocating costs are methods that determine:

• how costs are accumulated such as into work centers, cost pools, or projects;
• whether costs should be allocated directly or indirectly;
• the composition of a cost pool and its allocation base.

Practice Changes

A cost accounting practice change is any alteration in any cost accounting practice whether or not it is described in the Disclosure Statement. There are two exceptions, however. First, the initial adoption of a cost accounting practice for the first time is not a change in accounting practice. Second, the revision of a cost accounting practice for a cost which had previously been immaterial is not a change in accounting practice.

With regard to materiality, the CAS provide several critiera for its determination. However, there are no hard and fast guides. For example, the absolute dollar magnitude, regardless of its relationship to the total cost considered, can be material. Direct cost items, if part of an allocation base, may be more material than an indirect item. If the item alters the funding requirements of government contracts versus nongovernment contracts it can be material. Also, the cumulative effect of several immaterial items can make them material when considered as a whole.

As a result of consolidations, contractors may be questioned about the effect of these reorganizations on their cost accounting practices. Certainly, such changes can result in cost accounting practice changes and the need to prepare cost impact proposals and potentially refund money to the government. However, a business reorganization does not automatically result in a cost accounting practice change. Consequently, contractors should be extremely familiar with criteria for cost accounting practices in order to avoid unnecessary paybacks.

Historically, contractors have been able to change their cost accounting practices with minimal interference from government officials. While prior notification was required under FAR, any government objection to the change was limited to adequacy and compliance. Thus, even if the practice change resulted in increased costs being allocated to future government contracts, the change was to be accepted by the government if it satisfied both the test of adequacy and compliance.

Under the recodified rules, however, a contractor's ability to change its cost accounting practices has been significantly impaired. Subsection 9903.201-6, Findings, of the recodified rules now require that the Contracting Officer must also determine that, "The change is desirable and is not detrimental to the interests of the Government."

The purpose of the findings requirement may have been only to draw attention to the requirement that voluntary changes cannot result in increased costs to the government for contracts already negotiated. While the findings language should not prevent a contractor from adopting a change that will increase costs on future government contracts, time may show that it will prohibit the contracting officer from accepting any change that will increase costs to the government on even yet to be awarded contracts. After all, such a circumstance could be interpreted by some as being "detrimental to the interest of the government." As a result, contractors may have to rely on litigation to perfect such changes.

Compliance

Contractors are required to comply with the requirements of CAS as well as their own disclosure statements. Consequently, contractors should be ever vigilant that their actual accounting practices are the same as their disclosed accounting practices. Otherwise, they will be required to compute cost impact proposals for failing to comply with the standards or their disclosure statements and refund any monies obtained as a result of their failure. In addition, they could also be liable for making false statements and false claims to the government.

Some of the common areas where contractors have compliance problems are CAS 402 if the determination of a cost's allocation as direct or indirect is determinant on funding, quantity or cost; CAS 404 if self constructed assets are not capitalized or the capitalized cost of self constructed assets does not include allocable overheads and CAS 418 if uncompensated overtime or job shop labor are excluded from the allocation base computation.

In addition, contractors should also be aware that the government's acceptance of a contractor's disclosure statement means nothing. Acceptance of the disclosure statement does not mean that the contractor's accounting practices are compliant with CAS requirements. FAR ¶30.202- 7(a) requires that contractors should be notified of this fact when they are issued their disclosure statement adequacy determination.

Impact Proposals

Cost impact proposals are discussed in FAR SubPart 30.6, Administration, and can be required in several circumstances. The first situation is where a contractor voluntarily changes its cost accounting practice. The second situation is where a new standard is promulgated and becomes applicable to the contractor. The third situation is where the contractor has not complied with either its disclosed accounting practices or the requirements of the CAS.

Only in the second situation can the cost impact result in the government paying increased costs to the contractor. In all other situations the government is precluded from paying any increased costs to the contractor but the contractor is required to pay back any reduction in costs to the government.

The cost impact is measured as the difference between the allocated costs under one cost accounting practice versus another, such as a compliant practice versus a noncompliant practice. This logic applies to fixed priced contracting, since it is assumed that the negotiated contract price reflects to some extent the consequence of the cost accounting practice.

Although individual contracts will most certainly be affected by changes in accounting practices, the measure of the cost impact is performed at the segment level. Thus, a segment performing only CAS- covered contracts would have no impact since in total the increases would offset the decreases.

Whether individual contract values need to be adjusted is a contract administration matter left to the contractor and the Administrative Contracting Officer. In the case where contractors perform both fixed price and cost type contracts, individual contract adjustments will most likely be necessary.

Summary

Clearly, the recodified CAS opens the door to a new frontier as their applicability is extended to all federal contractors and educational institutions. Even though the CASB essentially copied existing regulations, several changes have been made that will surely have significant ramifications.

To a great extent the real consequence of CAS coverage is contractor liability. Since many contractors will escape much of the burden and risk of performing fully-covered contracts as a result of the increased thresholds for full coverage, the increased risk of the CAS will be blunted for all but the largest contractors or smaller contractors performing very large contracts.

The new findings requirement will certainly foster litigation as contractors adjust their allocation structures to meet the changes of the Peace Economy. The grace period thresholds will also cause controversy as contractors increase or decrease their revenues from government contracts either as a result of market changes or business unit restructuring.

Despite the squabbling that is likely to follow, contractors should generally benefit from the recodification. While government officials surely believed that a recodification and expanded coverage would reduce cost system gimmickry by all federal contractors, contractors will surely find the new rules a reliable defense against procuring agencies who are also masters at financial gamesmanship.