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2. 2 Managing Risk and Reward by Contract Type Breakout Session # 501 Beverly Arviso, CPA, Fellow, CPCM, CFCM, Arviso, Inc. Tuesday, July 31, 2012 2:30-3:45 pm

3. 3 Agenda Overview of Contract Types Job Cost Accounting by Contract Type Case Study The Effects of Contract Types Common Myths and Misconceptions Questions

4. 4 Overview of Contract Types What is the purpose of selecting the proper contract type? Why does contract type matter? Is there a maximum profit that can be earned? Are there restrictions on the type of contract that can be awarded? Who is responsible in the government for determining contract type? 4

5. 5 Overview of Contract Types Firm Fixed Price (FFP) Time-and-Materials (T&M) Cost Reimbursement Term vs. Completion System Adequacy Requirement Indefinite Delivery/Indefinite Quantity – Delivery vs. Task Order – Permits multiple contract types Government Wide Acquisition Contracts Multiple Award Contracts 5

6. 6 Overview of Contract Types Audit risk and exposure – Time and Expense System – Purchasing System – Billing System – Estimating System – Materials Management System – Earned Value Management System (EVMS) Contract Type define how you will be paid Job cost accounting is a method to determine profitability on the contract 6

7. 7 Job Cost Accounting Budgeting and estimating system should align with accounting system Tracking of costs on a job cost basis should be consistent regardless of contract type Ensure a clear understanding of direct vs. indirect costs – Indirect costs consist of a pool of costs over which an allocation base is spread (pool/base = rate) Fringe Overhead G&A

8. 8 Job Cost Accounting Set up unique jobs and charge guidelines within the company to track costs at a meaningful level to operate your business successfully Implement a Time and Expense system consistent with FAR Part 31 and DCAA’s audit requirements Calculate and reconcile your indirect rates to your general ledger on a monthly basis Reconcile the Job Cost Ledger to the General Ledger for ALL jobs on a monthly basis

9. 9 Job Cost Accounting Job Cost Reporting – Provisional vs. budget vs. actual – Review with management on a routine basis Establish a clear method for tracking and reporting – 75% notification Limitation of Cost at FAR 52.232-20, and Limitation of Funds at FAR 52.232-22 – Fee withholds Fixed Fee at FAR 52.216-8 Payments under Time-and-Materials and Labor-Hour Contracts at FAR 52.232-7

10. 10 Job Cost Accounting Treatment of costs – Working at risk – After performance is complete – Unallowable costs Direct, unallowable costs Other unallowable costs – B&P Costs – IR&D Costs

11. 11 Case Study The following cost pools and bases were proposed by Excel, Inc. Determine the proposed overhead rate for cost centers 1 and 2 if the allocation base is direct labor. Cost ElementCost Center 1Cost Center 2 Direct Labor500,000350,000 Overhead Cost275,000150,000

12. 12 Case Study The following cost pools and bases were proposed by Excel, Inc. Cost Center 1: 275,000/500,000 = 55% Cost Center 2: 150,000/350,000 = 42.86% Cost ElementCost Center 1Cost Center 2 Direct Labor500,000350,000 Overhead Cost275,000150,000

13. 13 Case Study The actual, year-end cost pools and bases incurred by Excel, Inc. are: Determine the actual overhead rate for cost centers 1 and 2 if the allocation base is direct labor. Cost ElementCost Center 1Cost Center 2 Direct Labor450,000250,000 Overhead Cost300,000155,000

14. 14 Case Study The actual, year-end cost pools and bases incurred by Excel, Inc. are: Cost Center 1: 300,000/450,000 = 66.67% Cost Center 2: 155,000/250,000 = 62% Cost ElementCost Center 1Cost Center 2 Direct Labor450,000250,000 Overhead Cost300,000155,000

15. 15 Case Study Why did the overhead rates vary?

16. 16 Case Study Assume the company received a firm fixed price job for $100,000 with $50,000 in direct labor costs using labor from cost center 1. What would the actual overhead and profit be for this effort?

17. 17 Case Study Assume the company received a firm fixed price job for $100,000 with $50,000 in direct labor costs using labor from cost center 1. What would the actual overhead and profit be for this effort? Step 1: Calculate Overhead Costs: $50,000 * 66.67% Overhead = $33,335 in overhead costs Step 2: Add Direct Labor Costs and Overhead Costs: $50,000 Direct Labor Costs +$33,335 Overhead Labor Costs $83,335 Total Costs Step 3: Determine Profit Earned: $100,000 firm fixed price contract - $83,335 in costs = $16,665 in profit

18. 18 Case Study Assume the company received a firm fixed price job for $100,000 with $50,000 in direct labor costs using labor from cost center 1. What would the proposed overhead and profit be for this effort?

19. 19 Case Study Assume the company received a firm fixed price job for $100,000 with $50,000 in direct labor costs using labor from cost center 1. What would the proposed overhead and profit be for this effort? Step 1: Calculate Overhead Costs: $50,000 * 55% Overhead = $27,500 in overhead costs Step 2: Add Direct Labor Costs and Overhead Costs: $50,000 Direct Labor Costs +$27,500 Overhead Labor Costs $77,500 Total Costs Step 3: Determine Profit Earned: $100,000 firm fixed price contract - $77,500 in costs = $22,500 in profit

20. 20 Case Study If you are the buyer why does the rate variance matter? If you are the seller why does the rate variance matter? DescriptionRateProfit Actual66.67%$16,665 Proposed55%$22,500

21. 21 Case Study If this were a cost plus fixed fee completion type contract vs. a firm fixed price contract and the proposed rates were the provisional billing rates, how much would the contractor receive in close- out using cost center 1 under a cost plus fixed fee contract assuming an 8% fixed fee, i.e., an estimated cost of $92,593 and a fixed fee of $7,407?

22. 22 Case Study If this were a cost plus fixed fee completion type contract vs. a firm fixed price contract and the proposed rates were the provisional billing rates, how much would the contractor receive in close-out using cost center 1 under a cost plus fixed contract assuming an 8% fixed fee, i.e., an estimated cost of $92,593 and a fixed fee of $7,407? Step 1: Calculate Overhead Costs: $50,000 * 66.67% Overhead = $33,335 in overhead costs Step 2: Add Direct Labor Costs and Overhead Costs: $50,000 Direct Labor Costs +$33,335 Overhead Labor Costs $83,335 Total Costs Step 3: Close out invoice: Cost Plus Fixed Fee: $83,335 Fixed Fee: $ 7,407 Total Estimated Cost Plus Fixed Fee:$90,742

23. 23 Case Study If this were a cost plus fixed fee completion type contract vs. a firm fixed price contract and the proposed rates were the provisional billing rates, how much would the contractor receive in close- out under a cost plus fixed contract assuming an actual overhead incurred of 90% and an 8% fixed fee, i.e., an estimated cost of $92,593 and a fixed fee of $7,407?

24. 24 Case Study If this were a cost plus fixed fee completion type contract vs. a firm fixed price contract and the proposed rates were the provisional billing rates, how much would the contractor receive in close-out under a cost plus fixed contract assuming an actual overhead incurred of 90% and an 8% fixed fee, i.e., an estimated cost of $92,593 and a fixed fee of $7,407? Step 1: Calculate Overhead Costs: $50,000 * 90% Overhead = $45,000 in overhead costs Step 2: Add Direct Labor Costs and Overhead Costs: $50,000 Direct Labor Costs +$45,000 Overhead Labor Costs $95,000 Total Costs Step 3: Close out invoice: Cost Plus Fixed Fee: $95,000 Less Cost Over Ceiling:($2,407) Total Cost Plus Fixed Fee:$92,593 Fixed Fee: $ 7,407 Total Estimated Cost Plus Fixed Fee:$100,000

25. 25 The Effects of Contract Types Firm Fixed Price – Concentrate on acceptance of deliverables at, not above, stated specifications – Reduce costs by creating efficiencies through best practices without sacrificing quality or acceptance – Drive staff and subcontractors, overtime for salaried staff is very desirable – No beginners, false starts, unproven methods, no date extensions – Strive to under-spend! 25

26. 26 The Effects of Contract Types Time & Materials (T&M) – Reinforces managing customer relationship and staffing – Drive the staff, overtime for salaried staff may be desirable – Requires clear understanding of labor categories as defined in contract – Staff turnover may be helpful/encouraged – Minimize “materials” expenditures – Astute PM can improve margins over proposed levels – Extensions, scope creep are fine if LOE budget allows – Spend all hours, not funds 26

27. 27 The Effects of Contract Types Cost Reimbursement – Reinforces managing customer relationships and achieving planned spending (service oriented) – Target even staffing levels, overtime is bad – May be a good project for new hires, on-the-job training – Avoid every non-billable or unallowable cost – Beware of rate ceilings and administrative limitations – Extensions and scope creep may be fine if budget allows – Spend all funds – Cost of compliance 27

28. 28 Common Myths and Misconceptions Billing on CPFF Contracts vs. other contract types – Smaller margins – Bill “at cost” not at a set billing rate Fixed Fee Issues – Term – Completion – Be aware of any fee limiting provisions Price to Win vs. Execution

29. 29 Common Myths and Misconceptions Indirect Rates – Caps/ceilings – Forecasting Rates Subcontractor Risks – Contract type Opportunity to potentially earn more than other partners depending on contract type and management of costs – Terms and Conditions Allowable Cost and Payment Clause – FAR 52.216-7

30. 30 Common Myths and Misconceptions Multiple Awards – Consistency of cost build-up on all proposals from the same business unit or segment Price and/or Cost Realism – What risks do you present to the buyer when all pricing assumptions are accounted for?

31. 31 Questions Arviso, Inc. Beverly Arviso, CPA, Fellow, CPCM, CFCM beverly@arvisoinc.com 757-373-9536