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White PaperUnderstanding DCAAComplianceContents11IntroductionWhat the DCAA Does2 Types of DCAA Audits3 DCAA Compliance 1014 Consequences ofNoncomplianceIntroductionThe DCAA performs contract auditing forOne of the most important aspects of becoming athe Department of Defense (DOD) and certaingovernment contractor is complying with a welterother federal agencies. The scope of the DCAA’sof federal rules and regulations. From the Federalinfluence is significant. That’s because the DCAAAcquisition Regulation (FAR) to the Generallyprovides definitive recommendations to contractingAccepted Government Auditing Standards (GAGAS),officers that affect negotiations with nearly 7,500contractors are expected to know—and complycontractors in a typical year. Contracting officerswith—all of them.are then better able to negotiate prices and settleA key aspect of compliance for contractorscontracts for services and supplies using DCAA4 Civil and CriminalPenaltiesis creating business systems that are compliant5 Debarmentwhich performs contract audits for the Defensecompanies are awarded defense contracts; instead,Department and many other agencies.it provides recommendations to the government5 Voided or TerminatedContracts5 Get Compliant withDeltek Firstwith the Defense Contract Audit Agency (DCAA),Over the years, the DCAA’s role has changed,recommendations.The DCAA has no direct role in determining whichofficials who first select contractors to performand it’s important for government contractors togovernment-funded work and then negotiate pricesunderstand the agency’s impact on the industry.accordingly for the products and services offered.This white paper addresses some aspectsof what’s known as DCAA compliance, and howcontractors can reduce risk by avoiding andpreparing for audits.The DCAA audits only contractors; it has no internalaudit responsibilities for the DOD.In government fiscal year 2012, the DCAAexamined over 150 billion in defense contractorcosts and issued over 6,700 audit reports. TheseWhat the DCAA Doesreports recommended 12.4 billion in costIt is in the government’s best interests—on ethical,reductions.practical and political levels—to ensure that fundsThese reductions are good news for taxpayers,are spent properly. One of the ways it ensures thatbut also mean that contractors are being increasinglycontractors spend money appropriately is throughscrutinized.audits. These audits are meant to determineAccording to the agency’s fiscal 2012 reportwhether contract costs are allowable, allocable andto Congress [PDF], the DCAA helped contractingreasonable.officials achieve 4.2 billion in documented savingsIncreasing Risk of Audits for ContractorsDeltek asked government contractors to tell us which audits they have undergone over the pasttwo years. More surprising than the types of audits firms had experienced, was the sheer number ofaudits altogether.Three out of four contractors reported being audited by a federal agency during 2011 and 2012.What’s more, small businesses were equally as susceptible to auditing as large businesses.Source: Deltek Clarity GovCon Industry Study, 20131

White PaperUnderstanding DCAA ComplianceAudit Reports Completed by the DCAA in Fiscal 2012Number ofAudit ReportsDollar Value ofQuestioned Costs(Millions)*Dollar Value ofUnsupportedCosts (Millions)**Average Time toCompletion (Days)Forward Pricing1,811 9,859 17,605110Special Audits1,937 831N/A**217Incurred Cost1,795 1,538N/A**1,184Other Audits1,173 173N/A**384Total6,716 12,401 17,605N/AType of Audit Report* Questioned Costs are costs that the auditor considers not acceptable for negotiating, a reasonable contract price or not acceptable forreimbursement under existing contracts.** Unsupported Costs denote instances where the contractor has not provided specific evidence or documentation to support assertionsrelated to the cost of future work. Unsupported costs are not applicable in the case of incurred cost audits, special audits and other audits,because the contractor is not making a claim about the cost of future work.Any potential cost discrepancies identified by the DCAA in the case of incurred cost audits, special audits and other audits are classifiedas “questioned costs”, where the contractor has not provided adequate documentation to support a claim about the actual costs thecontractor has incurred.to the government. Based on these savings, theIn fiscal 2012, the DCAA issued 1,811 forwardreturn on taxpayers’ investment in the DCAA waspricing reports and identified over 9.8 billion in costapproximately 6.70 for each dollar invested.discrepancies.Types of DCAA AuditsSpecial AuditsThe DCAA performs a number of types of audits,Special audits can be conducted before or afterincluding forward pricing, special audits, incurredcontract award. Most of the reports in this categorycost, pre-award and other audits.are issued in response to requests from contractingContracting officers may also request anofficers. In these instances, the contractingindependent financial opinion on specific elementsofficers need an independent financial opinion onof a contract, in addition to an assessment ofspecific elements of a contract or on a contractor’scompliance with specific acquisition regulations oraccounting business system in order for the contractcontract terms, a contractor’s business system, andwork to proceed—making special audits a highthe like. The DCAA typically categorizes these typespriority.of requests as “special” or “other” audits.In fiscal 2012, the DCAA issued 1,937 specialreports and identified 831 million in questioned costs.Forward PricingForward pricing audits are generally completedIncurred Costbefore contract award. The DCAA evaluates aIncurred cost audits determine the accuracy of acontractor’s estimate of how much it will cost thecontractor’s annual allowable cost representations.contractor to provide goods or services to theWhen a contract price is not fixed, the DCAAgovernment.conducts an incurred cost audit after contractaward to determine the accuracy of contractor costrepresentations.2deltek.com

White PaperIn fiscal 2012, the DCAA issued 1,795 incurredUnderstanding DCAA ComplianceDCAA Compliance 101cost reports (covering 2,735 incurred cost years) andThe phrase “DCAA compliance” is used widely inidentified 1.5 billion in questioned costs.the contracting industry, but the agency does notactually certify contractors as “compliant.”Pre-Award SurveysBeing DCAA compliant means following theMany small businesses are affected by DCAAagency’s recommendations and guidance so thatStandard Form (SF) 1408 pre-award surveys. Theyou remain compliant with federal law and aremajor objectives of this audit are to:prepared for audits. Gain an understanding of the contractor’saccounting system Complete the SF 1408 form, Preaward Survey ofProspective Contractor Accounting System Form an opinion as to whether the contractor’ssystem design is acceptable for the award of agovernment contractDCAA audits are driven by the rules outlined inthe FAR, GAGAS and CAS, discussed below.The primary method of tracking wheregovernment money goes is by accounting processes,so it is particularly important that contractorsperform scrupulous accounting. Here are the fourareas where contractors need to be compliant withDCAA standards:Contractors that are audited must be able todemonstrate their accounting system to the auditorFederal Acquisition Regulationand implement it before incurring any costs on aThe FAR gives federal agencies overarching guidancecontract.on audits. FAR Subpart 42 includes this guidance,The SF-1408 focuses on a number of areas,relevant to contractors: For most contractors, theincluding:cognizant federal agency is the one with the largest Generally accepted accounting principlesdollar amount of negotiated contracts, including Cost allocations, indirect and unallowable costs Timekeeping system Labor distribution Billings (e.g., progress payments, publicvouchers) Accounting system in operationoptions. However, contracting officers may requestan audit directly from an audit agency.Generally Accepted Government AuditingStandardsThe GAGAS are a set of standards that ensure auditconclusions are well supported by evidence. Theyprovide a framework for conducting high-qualityOther Auditsaudits with competence, integrity, objectivityOther audits primarily consist of audits performedand independence. These standards are usedafter contract award, and can be requested by aby auditors of government entities, entities thatcontracting officer or initiated by the DCAA.receive government awards and audit organizationsThe DCAA typically initiates this type of auditperforming GAGAS audits.when there is high risk, such as where the contractorhas inadequate business systems.In fiscal 2012, the DCAA issued 1,173 other auditsand identified 173 million in questioned costs.Cost Accounting StandardsMany DOD contractors (with a complex set ofexceptions) must comply with the CAS, whichare meant to create consistency in pricing andaccounting practices.3deltek.com

White PaperTo comply, contractors must also accumulate“We looked at severallarge and smallaccounting systems,and found that forour needs and ourbudget, Deltek FirstEssentials offeredthe best overallsolution focusingon governmentcompliantfunctionality andreporting.”Michael Repper,Director of Finance forEdvance ResearchConsequences of Noncompliancecosts by contract to determine their allowability perEvery contractor is responsible for remaininggovernment regulations. Costs by contract must becompliant with all the government rules andclassified as either direct or indirect costs. There areregulations that apply. Misconduct could be exposedalso a number of unallowable costs that cannot beby a whistleblower, audit, investigation, Freedom ofcharged to federal contracts.Information Act (FOIA) request or other means.To meet these standards, an accountingThe consequences of illegal and unethicalsystem must be standardized and able to separateconduct or noncompliance can include suspension,accounting functions such as timekeeping anddebarment, voided or terminated contracts, listing inaccounts payable. It must also be able to address thethe Excluded Parties List System (EPLS) and criminalneeds of each type of contract in which the businessand civil penalties.participates.Civil and Criminal PenaltiesTimekeeping and Labor Charging SystemRequirementsCivil penalties for noncompliance are determinedContractors must also establish timekeepingrecoup 5,500 to 11,000, and the contractor runsprocedures and use an automated timekeepingthe risk of paying the government up to three timessystem. Employees working for a contractor mustthe damage.understand that they are personally responsible for: Recording their time on a daily basis Correctly distributing time to cost objective Signing the timecard at the end of each workperiodCareless or improper timecard preparation maylead to disciplinary actions under company policies,as well as applicable federal statutes.Unlike other costs, labor is not supported byexternal documentation or physical evidenceto provide an independent check. This meanscontractors must emphasize to employees thatthey are responsible for accurately recording timecharges and changes.4Understanding DCAA Compliancedeltek.comper violation, per invoice. The government canCriminal penalties are much more serious—upto five years imprisonment for whoever signed thecertificate of cost and pricing data.