It’s time once again to look at the latest DOD Inspector General Semi-Annual Report (SAR) to Congress, covering the six month period October 1, 2013 through March 31, 2014. We focus (as always) on Appendix D, Contract Audit Reports Issued. This is where the official DCAA statistics for the period are reported.

In the latest six month period, DCAA issued 2,267 audit reports, of which 1,419 were related to audits of contractors’ proposals to establish final billing rates (also known as “incurred cost proposals”). That number was slightly less than the 1,707 similar reports the audit agency issued during the same period last year (And by “slightly less” we mean 17 percent less.) Similarly, audit reports related to contractors’ cost proposals were down 14 percent and “post-award” defective pricing audit reports were down 25 percent, when compared to the same period last year. In contrast to the other areas, DCAA reported a 25 percent increase in CAS-related audit reports issued.

We like to track the number of audit assignments completed versus audit reports issued, in order to see how many assignments are completed without being subject to a GAGAS compliance review. We’ve asserted in the past that DCAA has developed a penchant for issuing Memos in lieu of formal audit reports, in order to escape CIGIE scrutiny.

The trend continued in the latest SAR, which reported that 3,515 assignments were completed without issuance of a formal audit report. That means about 61 percent of DCAA’s assignments were completed without an audit report, compared to 54 percent in last year’s six-month period.

We can debate whether the number of audit reports (or Memos) issued is a meaningful measure of productivity. But it’s harder to argue against the notion that the amount of dollars examined is a meaningful measure of management deployment of scarce auditor resources. In the latest SAR period, DCAA examined $50,121,100,000 – yes, that’s 50 Billion with a “B”. That’s a lot of dollars! But it’s not as much as DCAA examined during the comparable six-month period last year. In fact, it’s six percent less. Breaking the numbers down a bit more, DCAA reported that it examined significantly more (nearly 50 percent more!) incurred cost proposal dollars than it did last year; but that increase came at a price. Examination of dollars in contractors’ cost proposals was down about 35 percent, and examination of dollars related to CAS matters was down more than 90 percent.

The stats above tell us that DCAA has, indeed, redeployed auditors to focus on its backlog of incurred cost proposals, and that DCAA is working hard to try to meet its commitment of having the ginormous backlog whittled down to manageable size by the end of GFY 2016 (September 30, 2016). It’s too soon to forecast whether DCAA management will be successful, but we can tell where the audit focus is – and it’s in the right area.

The resource shift also may be driven by outside circumstances. Sequestration and DOD budget pressures would seem to have reduced the number of contract award opportunities, and thus the number of contractor proposals for those opportunities. Consequently, the fact that DCAA auditors are reviewing fewer (or lower dollar value) contractor cost proposals may simply be the result of having fewer to examine, rather than stemming from any intentional management resource redeployment.

We’ve noted in the past (with some angst) DCAA’s focus on the absolute amount of questioned costs, rather than other metrics we believe would be better suited to evaluate how the agency is doing. Nonetheless, that still appears to be DCAA management’s primary metric. In the latest SAR, DCAA reported that 4.7% of every incurred cost dollar examined was questioned. That value is significantly less than the 9.6% questioned-cost-dollar-to-claimed-incurred-cost-dollar ratio reported in the same period last year.

Indeed, reported questioned costs values (a number in which we include “funds put to better use” for our analyses) are down across the board. DCAA’s reported value of $3.213 Billion is down 37 percent from last year’s six-month period. Interesting, isn’t it?

Now, for your amusement and edification, here are some charts to illustrate some trends.

1. DCAA Audit Reports Issued by SAR Period

2. Dollars Examined by SAR Period ($ Millions)

3. Questioned Cost as a Percentage of Dollars Examined (Includes Funds Put to Better Use)

So what is one to make of the foregoing?

Well, we noticed that “today’s” DCAA is more productive in the second half of the year, on a fairly consistent basis. As the end of the GFY approaches, DCAA seems to concentrate on completing its audit assignments. This phenomenon makes a certain sense, since “carryover” audit assignments are something that we believe DCAA management tracks. There is a natural tendency to minimize that metric by pushing hard to finish the work before the looming (self-imposed) deadline.

We also noticed that despite the undeniable increase in DOD spending over the past several years, “today’s” DCAA is reviewing somewhere in the neighborhood of about one-third of what “yesterday’s” DCAA used to review. For example, in 2007 DCAA reviewed $358.4 billion, but in 2013 DCAA reviewed only $163.1 billion. We are at a loss to explain the phenomenon.

DCAA continues to state that, while it may review fewer dollars and issue fewer audit reports than it used to, it does so with higher quality … as measured by absolute dollars of questioned costs. That may well be the case (though we would argue that the dollars of questioned cost actually sustained by a Contracting Officer would be a better measure of quality). Even so, the percentage of costs questioned seems to have peaked in 2012 and declined in 2013, with the 2014a SAR period being akin to the 2011a SAR period. Of course we’ll have to wait until the GFY is over to see the full-year’s numbers, but on a preliminary basis we’ll go ahead and suggest that we may be seeing the classic “reversion to the mean” in which 2012 and 2013 values were an anomaly and the expected percentage of questioned costs is somewhere closer to six percent instead of double-digit values.

And speaking of questioned costs, the SAR (Appendix G) provides a discussion (by individual audit report) of just what types of costs DCAA auditors are questioning these days.

For example, Audit Report No. 06211-2007C10100004-R1 reported on audit findings associated with a contractor’s Incurred Cost Proposal for its FY 2007. DCAA questioned $75.5 Million, which included $62.4 Million associated with “claimed labor for employees who did not possess the contract required education or experience.”

Not to be outdone, Audit Report No. 03221-2007T10100001 reported on another contractor’s FY 2007 ICP, and questioned $162.3 Million, which included:

$61.2 million of legal costs primarily related to various cases for alleged breach of contract or for which sufficient supporting evidence was not provided to allow evaluation of the costs; $29.2 million of expenses incurred at international offices which were not supported by evidence of the nature of the activities performed at the offices; $15.9 million of professional services costs primarily due to duplicate invoices or lack of adequate supporting documentation; a $15.8 million self-insurance premium because the contractor did not demonstrate that actual loss history was used to determine the premium; $9.6 million of unallowable labor and related fringe benefits primarily for lobbying effort or other unallowable activities; $3.7 million of executive compensation in excess of the Federal Acquisition Regulation ceiling; and $2.5 million of insurance costs for ineligible dependents.

Finally, Audit Report No. 06811-2005U10100001 reported on a contractor’s FY 2005 ICP, with no explanation as to why DCAA thought that its audit findings were within the Contract Disputes Act’s Statute of Limitations. Nonetheless, DCAA questioned $108.9 Million, which included:

$24.6 million of indirect costs and $84.3 million of direct costs. Significant questioned indirect costs relate to bonuses not supported by the basis for award; payouts for a profit sharing plan that are unreasonable to charge to Government contracts; costs for stock distributions that were not adequately supported; and Independent research and development/bid and proposal costs that were unallowable per Federal Acquisition Regulation Part 31 or were for effort that related to a specific subcontract. The majority of questioned direct costs are the result of (i) lack of adequate supporting documentation; (ii) claimed costs that were not allocable to the contract or cost objective on which they were claimed or the contractor’s inability to demonstrate that the costs were allocable to the contracts on which claimed; (iii) costs related to a prior fiscal year; (iv) costs claimed that represented a significant deviation from the contractor’s policies; and (v) claimed costs that were unallowable per Federal Acquisition Regulation Part 31 and contract terms

Audit Report No. 06271-2003A10100103 reported on a contractor’s FY 2003 ICP; it was issued on December 24, 2013 — which is likely more than nine years after the proposal was submitted. We don’t know the story, but we know that DCAA had “scope restrictions” and had to disclaim its opinion. That disclaimed opinion didn’t stop the auditors from questioning $104.4 Million in “noncompliant costs,” primarily related to “material costs for which adequate supporting documentation … was not provided.” We are surprised that DCAA would be surprised that such documents would not have survived such a long burial. Indeed, the fact that documents disappear and memories fade is why there is a CDA Statute of Limitations in the first place.

We could continue but we trust you get the point. There is little if any acknowledgement by DCAA that the CDA Statute of Limitations moots its findings and leads to a conclusion that the auditors are wasting their time. There is little if any acknowledgement that a disclaimed opinion means that the auditor cannot then express an unmodified opinion or conclusion on the audit objective. The end result is that more contracting officers will have to deal with negotiating positions that are very far apart indeed; and if negotiations are not successful then it’s likely there will be litigation.

And so the circle of submission/audit/litigation will continue, in large part because DCAA continues to operate as if it’s 1990 instead of 2014.

We hope you have had fun with our statistical analyses of the latest DOD Inspector General’s Semi-Annual Report to Congress. May your audits go smoothly!