As a contractor doing business with the federal government it is important to be familiar with the ever changing regulatory nuances that separate your business from those that operate in the commercial market. One of the most significant differences is that as a government contractor you are subject to audit by the Defense Contracting Audit Agency (DCAA). While many companies undergo an audit to test compliance with Generally Accepted Accounting Principles for financial reporting purposes, an audit by the DCAA is a specialized audit that is usually requested by a Procuring Contract Officer (PCO) or Administrative Contracting Officer (ACO). One of the questions we commonly hear from our clients and contacts is “Will the Defense Contract Audit Agency audit my business?” and “What should we do to make sure we are prepared for an audit?”
The DCAA was formed in January 1965 to provide standardized audit services to the Department of Defense (DoD) and to provide accounting and financial advisory services (on contracts and sub-contracts) to DoD departments responsible for procurement and contract administration. The DCAA’s mission is to ensure taxpayer dollars are spent on contracts which are fair and reasonably priced. To accomplish this mission the DCAA provides the following services:
- Pre-award audits — before a contract is awarded. A pre-award audit could include an audit of proposal pricing, forward pricing rates or a survey of your accounting system.
- Post-award audits — After a contract is awarded. A post-award audit could include an audit of costs incurred under the contract, compliance with Truth in Negotiations Act (TINA), compliance with Cost Accounting Standards (CAS), financial capability or claims made against you by other contractors. Per the DCAA contract audit manual (14-102), the objective of a post-award audit is to determine if the negotiated contract price was increased by a significant amount because the contractor did not submit or disclose accurate, complete and current cost or pricing data.
- Contractor business system audits — An audit of your internal controls and processes. This type of audit is covered under Chapter 5 of the DCAA contract audit manual. A contractor business systems audit could include an audit of your significant business systems such as accounting, estimating, billing, purchasing, timekeeping and inventory / supply management systems.
- Negotiation assistance to contracting officers (at the request of the contracting officer). Covered under Chapter 15 of the DCAA contract audit manual.
The DCAA’s right to audit is covered under the Federal Acquisition Regulation Part 52 (FAR52.215-2) which states: cost-reimbursement, incentive, time-and-materials, laborhour, or price re-determinable contracts, or any combination of these, the Contractor shall maintain and the Contracting Officer, or an authorized representative of the Contracting Officer, shall have the right to examine and audit all records and other evidence sufficient to reflect properly all costs claimed to have been incurred or anticipated to be incurred directly or indirectly in performance of the contract.
Staying informed about regulatory changes and DCAA audit procedures is one of the best approaches to properly administer your contracts and grow your business. There are resources available on the DCAA’s website (www.dcaa.mil) which contractors can use to minimize regulatory non-compliance as well as help prepare for an audit by the DCAA. Some of the resources available include:
- The Contract Audit Manual (CAM) provides a detailed summary of audit objectives and audit approach for specific topic areas. For example, Chapter 5 focuses on the audit of policies, procedures and internal controls relative to accounting management systems; Chapter 6 focuses on the audit of incurred costs.
- Open audit guidance includes memorandums to regional directors (MRDs) which are sorted in date order and provide guidance to DCAA auditors on DCAA audit policy related to a specified topic or audit area.
- Standard audit programs includes audit programs by activity code. Audit programs will include references to the applicable audit guidance contained in the contract audit manual. A review of audit programs and related audit guidance prior to the start of an audit can help the contractor prepare and familiarize themselves with what to expect during the audit.
- Criteria for adequate contract pricing proposals — The contracting officer is responsible for obtaining information to evaluate price reasonableness. Information can be either certified cost or pricing data or information other than cost or pricing data. This document contains a listing of the criteria the DCAA will use to evaluate whether a pricing proposal is adequate. It is important to note that while the criteria is not specifically applicable to information other than cost or pricing data, the DCAA considers the criteria to be an acceptable guideline for the auditor to reach an opinion regarding the adequacy of a proposal. Review of the criteria by the contractor prior to submission of applicable proposals will minimize the risk of proposals being returned to the contractor.
- Information for contractors (DCAA Pamphlet No 7641.90) is prepared by the DCAA to assist contractors in understanding the requirements of the contract audit process.
- Federal Acquisition Regulation (FAR) is the primary source of regulation used by Federal agencies for guidance during the acquisition of supplies and services. In addition to provisions included in contracts, the FAR is the primary resource for contractors for administering contracts. Some of the most commonly referenced sections of the FAR include cost principles, FAR Part 31; contract negotiation, FAR Part 15; and contract clauses, FAR Part 52.
Once you are armed with a basic knowledge of the DCAA, there are tools and best practices that you can rely upon to prepare for an audit:
- Have a clear understanding of what the DCAA will be auditing and whether you are subject to audit. Make sure you are subject to audit under a specific contract provision or an applicable provision of the Federal Acquisition Regulation (FAR). Review your contracts and reach out to your external accountant or a government contracting consultant if you are unsure as to whether your contracts are subject to audit.
- Visit the DCAA’s website and review the applicable DCAA audit programs and audit guidance in the CAM. Review the information with your internal management and accounting teams to make sure you are prepared. If necessary, ask your external auditor for advice as you review the audit programs and guidance. These professionals are familiar with audit procedures and can give you valuable insight as to what the DCAA auditor is trying to accomplish.
- Ask for a listing of items that will be requested by the auditor and prepare in advance of the auditor’s visit (listing of requested audit work-papers). A best practice would be to index the audit work papers in numerical order to coincide with the items requested by the auditor prior to fieldwork. If necessary, have an independent party review your documentation to ensure that your information is pulled together in a logical format which the auditor will be able to dissect.
- Assign a single contact within your business to serve as the point of contact during the audit. This individual should be someone who is familiar with overall operations of the business and has an understanding of government contracts and regulatory requirements. The point of contact should maintain open communication with the auditor, understand why the auditor is requesting certain data during fieldwork and seek advice if unsure of how to respond to a request or question.
- Maintain copies of all documents provided to the DCAA auditor. This practice can be helpful later if documents are lost or questions arise after the audit.
- Maintain open communication with the auditor during the audit process.
- Maintain a copy of all interim and final audit reports for your records.
The key to success in the contracting environment is to operate your business in a way in which you prepare for a DCAA audit from the start. Take a proactive approach and employ individuals that are familiar with the regulatory issues and work with professionals that are familiar with your business and the industry.