dod business advisor unique opportunities and roles for...
TRANSCRIPT
DoD Business Advisor –Unique Opportunities and
Roles for Financial Managers
Professor Robert L. Gustavus, CPA
Business Cost Estimating and Financial Management Department Chair
Defense Acquisition University
703-805-3767
Workshop # 121 PDI 2017
ASMC – PDI 2017 2
Why this topic….
1. “Business Advisor” – providing strategic
and financial recommendations to support
the organization
2. Unique Opportunities - More than budgets
and execution
3. Ideas on expanding the perspective and
involvement in key decisions
4. Potentially help reduce final costs by
providing sound business advice across all
aspects of the program/organization
ASMC – PDI 2017 3
Business Advisor
Key team member
Understands budgets and
budget execution
Possesses good Business
Acumen
Capable of analyzing
problems and developing
effective solutions
Identify potential areas of
concern – technical, cost,
and schedule
Advise on ways to be more
efficient
Mentor
ASMC – PDI 2017 4
Importance
Volume of government contracts – substantial percentage
of DoD dollars are used for contracts
Economics of the deal matter
Financial analysis – provides insight
Getting more “bang” for the buck
Mix of Government and Commercial contracts-can make
difference or drive decision making
Think like an entrepreneur – Government is a monopolistic
organization providing services and products to a number of
customers
ASMC – PDI 2017
Commercial vs. Defense Companies
Commercial Business
Open Markets
• Multiple customers with individual
transactions
• Anti-trust limits
Not subject to the Federal Acquisition
Regulation (FAR)
Price-based business model
• Not required to comply with
Government cost accounting
standards
• Maximize sales and growth
• Upside/downside sales unlimited
• R&D investments recouped in
product price
Government Business
Monopsony
• Single customer, several suppliers
• Industrial base policy limits
Subject to the Federal Acquisition
Regulations (FAR)
Cost-based business model
• Truth In Negotiations Act (TINA)
• Maximize sales
• Upside/downside sales capped
• R&D investments funded or
reimbursed by Government
ASMC – PDI 20176
Comparing Profit Models
Military versus Commercial Aviation
0
50
100
150
200
250
300
0 500 1000 1500 2000 2500 3000
0
50
100
150
200
250
300
0 500 1000 1500 2000 2500 3000
COMMERCIAL
PRODUCTION MILITARY
PRODUCTION
* Upfront $16B in non-recurring costs
1850 A/C Delivered
Program Year 24950 A/C Delivered
Program Year 16
Common Variables
• 84% Learning Curve
• T1 Cost = $300M
• 10 per mo. build rate
• 2.6% inflation, price & cost
• 3 Dev’t A/C not included
Recurring Cost
Breakeven
75% Margin
ROI Realized * (10% IRR)
Unit Price
Unit Cost
No. of Units Built
* Upfront $16B in non-recurring costs
Program
Breakeven *
Unit Price
Unit Cost
No. of Units Built
Immediate
Program
Breakeven *
12% Margin (Fee)
ROI > 100%IRR not meaningful
without a cash
investment
UNDERLIES THE FUNDAMENTAL DIFFERENCES IN STRATEGY
ASMC – PDI 2017 7
Government vs. Industry
Government Perspective
Total Allowable Cost $9,000,000
Profit/Fee @ 15% $1,350,000
Price – not cost $10,350,000
Defense Contractor Perspective
Sales $10,350,000
Total Allowable Cost ($9,000,000)
Unallowable Cost @
3% of Sales ($310,500)
Earnings Before Taxes $1,039,500
Income Taxes @ 35% ($363,825)
Net Income $675,675
“Profit” = 6.53%
“Profit” = 15%
Return on Sales (ROS)
ASMC – PDI 2017 8
Defense Company Comparison
Public (usually large) Companies
Typically prime contractors on large contracts
• Publicly traded in stock market
• Driven by quarterly earnings
• Typically focused on DoD/USG market
• Easier access to Capital
• Large plants/manufacturing facilities and high overhead
• Often composed of business units matching DoD mission areas
Often work as subcontractors, or as primes on smaller jobs
Privately held - stock does not trade
Driven by cash flow
No public access to financials
Try to balance USG and commercial business units
One person does many jobs
Founders are often “all in”
Must survive the valley of death (first 5 years)
Private (usually small) Companies
ASMC – PDI 2017 9
Annual Report Table of Contents
Form 10-K
For the Year Ended December 31, 2014
Table of Contents
PART I
Page
ITEM 1. Business . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
ITEM 1A. Risk Factors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
ITEM 1B. Unresolved Staff Comments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18
ITEM 2. Properties . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18
ITEM 3. Legal Proceedings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19
ITEM 4. Mine Safety Disclosures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19
ITEM 4(a). Executive Officers of the Registrant . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20
PART II
ITEM 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer
Purchases of Equity Securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .. . . . . . . . . . . . . . . 22
ITEM 6. Selected Financial Data . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24
ITEM 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations . . . . . . . 25
ITEM 7A. Quantitative and Qualitative Disclosures About Market Risk . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .. 56
ITEM 8. Financial Statements and Supplementary Data . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 58
ITEM 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure . . . . . . . 91
ITEM 9A. Controls and Procedures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 91
ITEM 9B. Other Information . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 93
PART III
ITEM 10. Directors, Executive Officers and Corporate Governance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 94
ITEM 11. Executive Compensation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 94
ITEM 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder
Matters . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 95
ITEM 13. Certain Relationships and Related Transactions, and Director Independence . . . . . . . . . . . . . . . . . . 95
ITEM 14. Principal Accountant Fees and Services . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 95
PART IV
ITEM 15. Exhibits and Financial Statement Schedules . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 96
SIGNATURES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
Why do we Care?
Because this report tells the
public version of a
contractor’s story to the
world!
ASMC – PDI 2017 10
Cash Flow
Cash flow is the heartbeat of every business
Did you know?
The number one cause of business failure is poor cash flow
Cash flow is NOT profitability
Cash flow IS the ability to meet financial obligations
ASMC – PDI 2017 11
Ratio Analysis
Profitability Others
ASMC – PDI 2017 12
Ratio Analysis
Ratios must be compared to one another or against
a standard to evaluate a firm’s health. This can be
done in the following ways:
1. Compare with the trends of the firm’s own ratios.
2. Compare with management’s goals for key ratios.
3. Compare with comparable ratios of other firms in
the same industry
4. Compare ratios in the same category
ASMC – PDI 2017 13
Profitability Ratios
Profit = Sales LESS Cost of
Sales
Return on Sales =EBIT/Gross Income
Sales
Sales to Cost of Sales = Cost of Sales
Sales
Return on Assets =Earnings After Taxes
Total Assets
ASMC – PDI 2017 14
Liquidity Ratios
Working Capital =Current Assets LESS Current
Liabilities
Current Ratio =Current Assets
Current Liabilities
Quick Ratio = Current Assets LESS Inventories
Current Liabilities
ASMC – PDI 2017 15
Leverage (Debt Management)
Ratios
Debt to Sales =Total Debt
Sales
Debt Ratio =Total Liabilities
Total Assets
Debt to Equity = Long-term Debt
Stockholders’ Equity
Return on Assets =Earnings After Taxes
Total Assets
ASMC – PDI 2017 16
Cost
Cost is cost isn’t it???
ASMC – PDI 2017 17
Language of Accounting
A few basic terms and
concepts…..
________________________
Key to focusing on how costs
are structured.
________________________
Total Costs = Fixed Costs + Variable Costs
and
Total Costs = Direct Costs + Indirect Costs
ASMC – PDI 2017 18
Break-Even Point (BEP)
$0
$5,000
$10,000
$15,000
$20,000
$25,000
$30,000
$35,000
$40,000
0 300 500 1000
Units
Doll
ars
BEP
Fixed Costs
ASMC – PDI 2017 19
Party Time!
• Boat Rental $15000
• Band 9000
• Food @ 25
• Drink @ 20
• Favors @ 15
• Advertising 2000
• Decorations 2000
Tickets = $200
How many tickets do
you need to sell to
break even?
When does the
charitable
contribution start and
how much will it be?
ASMC – PDI 2017 20
• CM = Price – Variable Costs
• CM = 200 – 60
• CM = 140
• BEP = Fixed Costs/CM
• BEP = 28000/140
• BEP = 200 Tickets
CM > Contribution Margin
Contribution
Margin
Fixed Costs
Profit
The Business of the Party
Remember CM –
Contractors may use
when bidding using a
variable costing method.
ASMC – PDI 2017 21
Indirect Costs
Direct Labor
Costs
Direct Material
Costs
Other Direct Costs
General & Admin
(G&A) Costs
Overhead
Costs
Total Costs = Direct Costs + Indirect Costs
ASMC – PDI 2017 22
Indirect costs that support a
specific part or function of the
company but not the entire
company.
• Overhead Costs:
Broad type of expense incurred
by or allocated to a business
unit for the general management
and admin of the business as a
whole.
• General & Admin
(G&A) Costs:
ASMC – PDI 2017 23
Indirect Cost Examples
Overhead•Supervision•Engineering•Production Control•Manufacturing•Facilities
G&A•Accounting•Legal•Executive•Human Resources
ASMC – PDI 2017 24
Management of Indirect Costs
Contractor is responsible for setting up indirect cost pool
accounts and managing all indirect costs incurred on Defense
contracts.
Contractors are required to set up a minimum of two types of
indirect cost pools for Defense contracts: “Overhead”: supports
a specific part or function of company “G&A”: supports general
operations of company rather than any one specific part.
No maximum number of indirect cost pools, but……
For Cost Reimbursement Contracts:
ASMC – PDI 2017 25
Calculation of Indirect Cost Rate
Indirect Cost Rate(For a Given Cost
Pool)
Total Indirect Costs in Given Pool
Applicable Allocation Base=* *
Examples
Cost Pool Types Applicable Allocation Base:
Manufacturing Overhead - Direct Manufacturing Labor Dollars
Engineering Overhead - Direct Engineering Labor Dollars
Engineering Overhead - Direct Engineering Labor Hours
Manufacturing Overhead - Direct Manufacturing Labor Hours
Material Handling - Direct Materials Costs
G & A Costs - Total Cost Other than G&A
* *
ASMC – PDI 2017 26
Rate Sensitivities
• Rate = Pool (more or less historical, objective)
Base (estimate of future business)
• How much to put in the base?
– Existing Contracts? Sure, of course, at a minimum!
– But how about . . .
• Options
• Follow-ons
• New Business
– Identified (probability of Congress funding, probability of winning)
– Unidentified (general market trends, bluebirds)
A conversation starter with Caterpillar (ticker CAT) from their 10K on their commercial base expectations?
http://www.sec.gov/edgar → Search for Company Filings → Company or fund name, ticker symbol . . . → “CAT” in Fast Search → 10-K Documents
Customer demand for construction machinery has generally been characterized over the past decade by a shift from developed to developing economies. Customers in developing economies often prioritize purchase price in making their investment decisions, while customers in developed economies generally weigh productivity and other performance criteria that contribute to lower lifetime owning and operating costs of a machine. In response to increased demand in developing economies, Caterpillar has developed differentiated product offerings that target customers in those markets, including our SEM brand machines. We believe that these customer-driven product innovations enable us to compete more effectively in developing economies. In those developed economies that are subject to diesel engine emission requirements, we continued our multi-year roll out of products designed to meet those requirements. We believe that these products have been well-received by our customers and are providing us a competitive advantage. (emphasis added)
http://www.sec.gov/Archives/edgar/data/18230/000001823014000058/cat_10-kx12312013.htm
ASMC – PDI 2017 28
Base Implications on Rate
• Optimistic Base
• Decreases Rate
• Where would Ktr use?
– Competitive
– Cost Contract
• Realism
Navy Rate Ceiling Solicitation
Provision
• Pessimistic Base
• Increases Rate
• Where would Ktr use?
– Sole Source
– Fixed Price
• Reasonableness
AF Business Base Clause (aka
rate re-opener)
B
PR
B
PR
ASMC – PDI 2017 29
Special Solicitation/Cause Provisions
• Rate Ceilings or Caps
– NAVY Convention
– Effectively converts rates bid
by contractor into Not-To-
Exceed rates for billing
purposes while rest of the
contract remains CR (e.g. wrt
hours and other performance
cost)
– Can they be invalidated with
accounting changes?
– FAR 42.707 Cost-sharing rates
and limitations on indirect cost
rates.
• Business Base Clauses
– Used by Air Force (and now some ACO
rate recommendations come attached
with a similar rate re-opener proviso)
– Provides for downward (only) price
adjustment in otherwise fixed price
contract when confronted with extreme
contractor pessimism.
– Contractor argument to allow upward
adjustment for equity sake? Fiscal law
would prohibit upward price adjustment.
[FAR 42.707(c)(1)] This would cause
upward pressure on rate to cut it fat.
•Perhaps accounting system changes can be dealt with by also mandating use of
accounting memoranda records to facilitate translation in adjustment - also let
contractor draft for contra proferentem purposes?
•These provisions (either solicitation ceiling provisions that turn into clauses, or any
special provisions) are also not favored because they are often forgotten.
Evaluate the contractor’s basis of estimate (BOE)
below as an “other direct cost” (ODC) in the proposal:
We need to send the biochemists, the microbiologists, the laboratory assistants, and the safety specialist, to attend OSHA/DHHS HAZMAT training in Washington, DC. The cost includes airfare for each participant, rental cars, per diem (lodging/meals) for Washington DC.
Washington DC Travel – Lodging/meals $350 X 9 X 4 days = $12,600
– Airfare $525 X 9 = $4,725
– Rental Car $500 X 3 = $1,500
– Incidentals: Gas $210 (3 X $70) + parking fees $240 (4 days X $20 X 3 cars) = $450
– Total $19,275
ASMC – PDI 2017 31
Contractor Indirect Cost in Contract Pricing
A Support Services Contract Example
Change in Allocation Base
Be careful what you ask for…..better
yet, understand the implication.
ASMC – PDI 2017 32
Consider the following:
• Administrative and Advisory Services contract schedule rate for senior engineer is $181.50.
• How much goes to paying the individual support engineer?
• If overhead included at 200% were to be reduced to 100%, would billings be reduced?
DL Rate $ 50.00/hr
OH (200%) $100.00/hr
Subtotal $150.00/hr
G&A (10%) $ 15.00/hr
Subtotal $165.00/hr
Profit (10%)
$ 16.50/hr
Total $181.50/hr*
* Fully burdened labor rate
ASMC – PDI 2017 33
Consider the following:
OH from 200% to 100%?
DL Rate $ 50.00/hr
OH (200%)
$100.00/hr
Subtotal $150.00/hr
G&A (10%)
$ 15.00/hr
Subtotal $165.00/hr
Profit (10%)
$ 16.50/hr
Total $181.50/hr
DL Rate $ 50.00/hr
OH (100%)
$ 50.00/hr
Subtotal $100.00/hr
G&A (10%)
$ 10.00/hr
Subtotal $110.00/hr
Profit (10%)
$ 11.00/hr
Total $121.00/hr
ASMC – PDI 2017 34
Consider the following:
OH from 200% to 100%?
Supervision and Administrative
$ 10 $ 10
Fringe on S&A at 50% $ 5 $ 5
Other $ 60 $ 60
Fringe on DL ($50) at 50%
$ 25 $ --
Total Pool $100 $ 75
Base (DL at $50/hr) $ 50 $ 75
Rate (Pool/Base) 200% 100%
ASMC – PDI 2017 35
Consider the following:
OH from 200% to 100%?
DL Rate $ 50.00/hr
OH (200%)
$100.00/hr
Subtotal $150.00/hr
G&A (10%)
$ 15.00/hr
Subtotal $165.00/hr
Profit (10%)
$ 16.50/hr
Total $181.50/hr
DL Rate $ 75.00/hr
OH (100%)
$ 75.00/hr
Subtotal $150.00/hr
G&A (10%)
$ 15.00/hr
Subtotal $165.00/hr
Profit (10%)
$ 16.50/hr
Total $181.50/hr
ASMC – PDI 2017 36
Engineering Overhead Bases
The bases available for engineering overhead pools are:
1)__________________ 2)__________________
SAT has one engineering supervisor with $300,000 in costs accumulated in the
engineering overhead support pool. Her entire job is to supervise two identically
sized teams (six persons each) working on two separate space projects: radar
design and radar grooming—clocking their directly to their respective projects.
–Assume Each team works an equal number of hours (12,480 hours each) on
their respective projects, but one team is much more senior than the other team
with an average hourly rate of $100/hour vs. an average rate of $50/hour for the
junior team.
How much of the engineering supervisor’s salary would be allocated to
each space project, should engineering overhead be allocated on the
basis of:
Engineering Labor Hours? Engineering Labor Dollars?
Direct Labor Dollars Direct Labor Hours
ASMC – PDI 2017 37
Engineering Overhead Example
The bases available for engineering overhead pools are:
1) Direct Labor Dollars 2) Direct Labor Hours
SAT has one engineering supervisor with $300,000 in costs accumulated in the
engineering overhead support pool. Her entire job is to supervise two identically sized
teams (six persons each) working on two separate space projects: radar design and
radar grooming—clocking their directly to their respective projects.
–Assume Each team works an equal number of hours (12,480 hours each) on their
respective projects, but one team is much more senior than the other team with an
average hourly rate of $100/hour vs. an average rate of $50/hour for the junior team.
–Assuming the supervisor actually spends more time supervising the junior team,
which methodology provides the greater distortion? Labor Dollars or Labor Hours?
Which basis allocates cost which are representative to the benefit provided by
the supervisor? Is there another way to allocate that provides a better cost
distribution?
ASMC – PDI 2017 38
How much of $300,000 indirect cost will be allocated to each project?
Cost allocation for the supervisor is different depending on the basis used for
allocation.
Engineering Labor Hours
Radar Design: 1/2 or $150,000
Radar Grooming: 1/2 or $150,000
Engineering Labor Dollars
Radar Design: 2/3 or $200,000
Radar Grooming: 1/3 or $100,000
Which basis allocates cost more representative of the benefit
provided by the supervisor? What other way can the supervisor
costs be more fairly allocated?
Radar Design > Govt. Radar Grooming > Commercial
Make Difference ?
ASMC – PDI 2017 39
Impact of Increased Rate Changes
Contractor
Rate increase – impacts competiveness
Reduces profits or increases losses on fixed price contracts
Affects Earned Value Management System
Government
Fixed Price contracts – no cost impact
Cost Reimbursement – contract costs increase; impacts
budgets/funding; affects EAC calculations
ASMC – PDI 2017 40
Contractor Cost 120$ Commercial 100% Cost (Gov. CP Ks) Gov. FP w/80% PP Ks Gov. FP w/PBP (more tangible events)
Profit/Fee 15$ 12.50% Month Cash Flows Vouchers Fee? Net Prog Pay Net PBP Net Net Cum PBP Net Net Cum
Price 135$ 1 -10 10.00 0.00 8.00 -2.00 -10 -10 -10 -10
2 -10 10.00 1.25 1.25 8.00 -2.00 42 32 22 ` -10 -20
3 -10 10.00 1.25 1.25 8.00 -2.00 -10 12 30 20 0
4 -10 10.00 1.25 1.25 8.00 -2.00 40 30 42 -10 -10
5 -10 10.00 1.25 1.25 8.00 -2.00 -10 32 -10 -20
6 -10 10.00 1.25 1.25 8.00 -2.00 38 28 60 -10 -30
7 -10 10.00 1.25 1.25 8.00 -2.00 -10 50 42 32 2
8 -10 10.00 1.25 1.25 8.00 -2.00 -10 40 -10 -8
9 -10 10.00 1.25 1.25 8.00 -2.00 -10 30 22 12 4
10 -10 10.00 1.25 1.25 8.00 -2.00 -10 20 -10 -6
11 -10 10.00 1.25 1.25 8.00 -2.00 -10 10 -10 -16
12 -10 10.00 1.25 1.25 8.00 -2.00 -10 0 27 17 1
Delivery (Completion) Payment 13 135.00$ 120.00$ 13.75$ 1.25$ 96.00$ 39.00$ 120.00$ 15.00$ 121.00$ 14.00$
Fixed Price (FP), No Financing Cost Reimbursable (CR) Fixed Price (FP) Fixed Price (FP) Fixed Price (FP)
Commercial Default Allowable Cost 100% Progress Payments Performance Based Payments (PBP) Performance Based Payments (PBP)
Condition FAR Clause 52.216-7 % of Cost - FAR 32.5 FAR 32.10 FAR 32.10
Annual Rate: Periodic (÷12) (frontloaded, with negative Ktr. investment)
10.00% 0.83% NPV $7.45 $14.10 $12.26 $15.88 $12.57
Gov. FP w/PBP (frontloaded)
The default Commercial industry is payment at delivery. With an inventory turnover period of 12
months, the company is incurring costs for an order that they will not get paid for until one (1)
year after the order. Assuming a level cost expenditure profile (not likely since many cost would
be incurred up front), and a 10% discount factor, the net present value of these cash outlays
would be only $7.45. This is significantly less than the $15 profit included in the price at 12.5% of
cost. Is a 10% discount factor to high with low interest rates. Well, consider the Weighted
Average Cost of Capital (WACC)- check out http://www.thatswacc.com
Time Value of Money
Government progress payments = value…the rest of the story!
ASMC – PDI 2017 41
Impact of Leverage (fixed cost) in Rates
Risk in Cost Recoveries, and Discount Opportunities?
A Look at Leverage
• Scenario:
– Contractor proposed expense pool of $30M.
– Proposed manufacturing labor base of $15M; assumes 3 contracts @ $5M in manufacturing direct labor.
– ACO negotiates FRPRA at 200% ($30M pool / $15M base).
– Early on all three (3) PCOs use the FPRA in forming contracts; all FFP.
• Along comes a fourth potential contract (also with $5M in manufacturing labor).
– If the FPRA is used, will the actual Mfg. O/H expense recovered exceed that considered by the ACO in the FPRA negotiations?
– Since these are FFP contracts, is this a windfall profit for the contractor?
– If the fourth potential contract is competitive FFP, should the contractor bid based on the full FPRA rate? Or do they have opportunity to rationally bid lower than the last FPRA rates in the interest of winning the new business?
– In a competitive evaluation, should the government consider a proposal using less than the full FPRA rate an unrealistically low offer rating performance risk as high for this contractor?
Mfg. OH
Pool $
Recovered
Mfg. DL $
$30M
$15M
Rate = Pool/Base = $30M/$15M = 200%
Contract Pricing O/H Recovery Rate/Line
- A cost recovery line with zero intercept
contemplating three (3) contracts
@ $5M in Base DL$.
- If no contracts get awarded, no O/H
costs are recovered by the contractor.
- If all three (3) contracts are awarded, all
$30M in contemplated OH is recovered.
- If the contractor stays with the 200%
FPRA/P they will recover additional
$10M in OH cost over and above the $30
originally budgeted/contemplated.
$10M$5M
K1 K2 K3 K4
$20M
$5M $5M $5M $5M
$10M
$20M
$10M
$10M
$30M
$10M
K1
K2
K3
$40M
$10MK4?
Mfg. OH
Pool $
Mfg. DL $
$30M
$20M
Rate = Pool/Base
= 30/15
= 2
= 200%
Indirect Cost Recovery by Application of Rate
Total Actual Cost
Fixed
Variable
$15M$10M$5M
K1 K2 K3 K4
Windfall Profit
Mfg. OH
Pool $
Mfg. DL $
$30M
$15M
Rate = Pool/Base
= 30/15
= 2
= 200%
Indirect Cost Recovery by Application of Rate
Total Actual Cost
Fixed
Variable
Not as much opportunity to
reduce the rate with less leverage
You are considering indirect cost rate realism . . .
• The explanation provided by the contractor for their proposed rates being SIGNIFICANTLY below their recent FPRAs is that they are only proposing their variable cost as an acceptable, rational marginal pricing technique.
• You had obtained information that the likely competitors are all established in the services sector who actively manage their businesses to reduce or eliminate fixed cost. The heavy manufacturers who are now breaking into the services sector have reorganized their providers into profit centers having very little fixed cost, or leverage built into their indirect rates.
• Should you be concerned regarding the realism of the proposed rates?
• YES – with very little fixed cost included in the recent FPRAs, you would/should expect to see little variation between the current and recent historical rates. Rates for indirect cost pools which consist of mostly variable cost tend to be relatively stable across varying levels of base activity.
You are considering indirect cost rate realism . . .
• The explanation provided by the contractor for their proposed rates being SIGNIFICANTLY below their recent FPRAs is that they are only proposing their variable cost as an acceptable, rational marginal pricing technique.
• You had obtained information that the likely competitors are all established in the services sector who actively manage their businesses to reduce or eliminate fixed cost. The heavy manufacturers who are now breaking into the services sector have reorganized their providers into profit centers having very little fixed cost, or leverage built into their indirect rates.
• Should you be concerned regarding the realism of the proposed rates?
• YES – with very little fixed cost included in the recent FPRAs, you would/should expect to see little variation between the current and recent historical rates. Rates for indirect cost pools which consist of mostly variable cost tend to be relatively stable across varying levels of base activity.
ASMC – PDI 2017 47
Keeping current – Contractor’s Strageties
A couple of examples…..
Major shipyard – Charging Research & Design
(R&D) as Independent Research & Design (IR&D)
Large DoD contractor selling facilities – sold
depreciable property with zero book balance
resulting in Government incurring additional costs
and not recapturing depreciation
DoD contractors charging Bid & Proposal costs
incorrectly – Fixed Price contracts vs Cost contracts
All involved legal actions – DoD 1 Win / Contractor 2 wins
ASMC – PDI 2017 48
Earned Value Management
Great Program Management tool to help
manage technical, cost, and schedule
Monthly analysis of Contractor’s report – a
must
Estimate at Completion – helps determine
budget impacts
Have a good grasp of the variance analysis
required and key indices – CPI, SPI, and
TCPI
BFM should be a major player in the monthly
analysis – cost impacts and risk management
Use EVM to manage the program, not as a
historical report
ASMC – PDI 2017 49
Bottom Line
As a Financial Manager, consider
expanding your role to encompass
being a “Business Advisor” to your
organization…….
Provide analysis from a total cost
prospective
Help devise more efficient ways to
address cost and schedule issues
Ensure organizational contracts
contain the desired financial
clauses
Keep current financial analysis on
program’s contractors
Be able to explain financial issues
Being a Business Advisor entails
developing and maintaining a good
Business Acumen.
ASMC – PDI 2017 50
Wrap Up
Questions?
50
Thank you
ASMC – PDI 2017
Robert L. Gustavus, CPAProfessor, BCEFM Department703-805-3767 DSN [email protected]
ASMC – PDI 2017 52
DEFENSE
ACQUISITION
UNIVERSITY