DOD Implements Franken Amendment (Again)
On May 19, 2010, the DAR Council published an interim Defense Federal Acquisition
Regulation (DFARS) rule implementing the Franken
Amendment. “Wait!” we hear you saying. “Didn’t Apogee Consulting, Inc.
already publish an article entitled “DOD
Implements the Franken Amendment”? What’s going on here?
Well, it’s like this: Previously, we reported that DOD has
issued a “Class Deviation” implementing the Franken Amendment on various
DOD contract actions, as discussed below.
- An order valued at more than $1
million that uses FY 2010 funds, placed against an ID/IQ contract, is
covered by the Franken restriction “regardless of whether the basic
ID/IQ contract was covered.”
- An order valued at more
than $1 million that uses FY 2010 funds, placed against a GSA Schedule,
is covered.
- A contract modification adding more
than $1 million in FY 2010 funds to a contract awarded before February
17, 2010, is not covered by the
restriction. However, a
“bilateral modification adding new [contract] work after February 17,
2010 to such a contract is covered” by the restriction.
But a Class Deviation does not a regulatory action make, so
the DAR Council was required to publish a proposed rule for public
comment. Interestingly, the DAR Council chose not to publish a proposed
rule, but instead to publish an interim
rule. What’s the difference? A proposed rule is not binding on
anybody. Nothing happens until public comments are received and a final
rule issue is issued in the Federal Register. The final rule may or
may not look like the proposed rule, depending on what public comments
are received and how they are viewed by the rule-makers. On the other
hand, an interim rule goes into effect immediately, even while public
comments are being received and reviewed. If the comments have any
influence, then a final rule may be issued that differs from the interim
rule; otherwise, the interim rule is declared to be a final rule and
that’s that.
We’ll assume you already know what
the Franken Amendment is. If not, click the second link above and you
can review its origin and some of its history. The interim rule adds a new
subpart 222.74 (Restrictions on the Use of Mandatory Arbitration
Agreements) to the DFARS. It does not apply to
the acquisition of commercial items, but it does apply to “covered
subcontractors”. It also applies to any contract, bilateral contract
modification, or task/delivery order valued at more than $1 million that
used FY 2010 appropriated funds.
Helpfully,
the DAR Council provided some examples to help determine what contract
actions are (and are not covered) by the new rules.
- A new
order that exceeds $1 million using funds appropriated or otherwise
made available by the FY 10 DoD Appropriations Act, placed against an
indefinite-delivery/indefinite-quantity contract for an applicable item
or service, is covered by this restriction, regardless of whether the
basic indefinite-delivery/indefinite-quantity contract was covered.
- A funding modification adding more than $1 million of funds
appropriated or otherwise made available by the FY 10 DoD Appropriations Act to a contract that
does not contain the clause at 252.222-7006 or 252.222-7999
(Deviation), is not covered.
- A bilateral
modification adding new work that uses funds appropriated or otherwise
made available by the FY 10 DoD Appropriations Act in excess of $1 million is covered.
- The award of a new order using funds appropriated or otherwise
made available by the FY 10 DoD Appropriations Act with a value of $700,000 is not covered,
since the value is under $1 million.
- A
contract valued at $1.5 million awarded today, and only $10,000 in funds appropriated or otherwise made available by
the FY 10 DoD Appropriations Act will
be obligated, with the remaining balance being FY 11 funding, is not
covered, because the total value of funds appropriated or otherwise made
available by the FY 10 DoD
Appropriations Act is less than $1 million.
- An
entity or firm that does not have a contract in excess of $1 million
appropriated or otherwise made available by the FY 10 DoD Appropriations Act is not affected by
the clause. The term ‘contractor’ is narrowly applied only to the
entity that has the contract. Unless a parent or subsidiary corporation
is a party to the contract, it is not affected.
The restrictions mandated by the Franken Amendment are being
implemented via solicitation and contract clause 252.222-706
(“Restrictions on the Use of Mandatory Arbitration Agreements”). Readers can review the exact clause language in the first link, above.
As always, the public may submit comments at www.regulations.gov. Details regarding how to address and submit a comment are
found in the interim rule itself.
CAS Pension Accounting—Do You Hear That Train A’Comin’?
Lots of news
to report on pension accounting issues under the Cost Accounting
Standards (CAS). If you’re not subject to CAS, or if you don’t have a
defined-benefit pension plan, then perhaps this article will not be for
you. But if you’re into pain, then previous articles on CAS pension
accounting can be found here and here.
On May 10, 2010 the CAS Board
issued its long-awaited Notice of Proposed Rulemaking (NPRM) discussing
proposed revisions to CAS 412 and 413 to bring them into “harmony” with
the requirements of the Pension Protection Act (PPA) of 2006. Here’s the full text of the
NPRM—all 43 pages of it. The proposed rule, if
implemented as drafted, will significantly impact the way in which
CAS-covered contractors account for their defined-benefit pension plans.
For reference, the CAS Board follows a four-step rulemaking
process, as follows:
1. Staff
Discussion Paper
2. Advance Notice of Proposed
Rulemaking (ANPRM)
3. Notice of Proposed Rulemaking
(NPRM)
4.
Final Rule
So the May
10, 2010 NPRM indicates that the CAS Board is nearing the end of its
process, and contractors should expect a final rule to be published in
the Federal Register in mid-summer. Of course, the final rule won’t
take effect on its publication date. The effectivity date will be up to
120 days after the publication date, “unless the Board determines that a
longer period is necessary.” And even then, implementation of the cost
accounting practices can be delayed until “the beginning of the second
fiscal year of the contractor … after the standard becomes effective.”
So the train’s a’comin’
round the bend, but it’s going to take a while to get here. In the
meantime, let’s review some background….
In
2006 Congress passed the PPA (Pub. Law
109-280), which has been described as “the
most comprehensive reform of the nation’s pension laws since the
enactment of the Employee Retirement Income Security Act of 1974.” The PPA established new defined benefit pension plan funding
requirements, in order to increase the minimum funding requirements for
pension plans and strengthen the pension insurance system. (It also addressed defined contribution
and hybrid plans, but that’s not relevant to this article.)
The PPA required higher employer contributions to fund their
pension liabilities. It is fairly certain that defined benefit pension
plans will experience significantly higher pension costs in the near
term (for at least the period 2011 through 2016) as
a result of the PPA requirements. In contrast,
the existing CAS requirements (found in CAS 412 and 413) mandated lower
liability measurements and longer prepayment amortization periods. The disconnect between PPA and CAS
requirements resulted in CAS-covered contractors recording costs under
GAAP that they could not recover under CAS, thus significantly impacting
their cash flow.
Recognizing this inequity, the PPA exempted certain Government
contractors from its requirements for a certain period of time.
Although the PPA became effective on January 1, 2008, for Government
contractors with sales in excess of $5 billion (whose revenues were
predominantly comprised of sales to the Government under CAS-covered
contracts), the PPA requirements were deferred until January 1, 2011, in order to give the CAS Board time to “harmonize” its
requirements with the PPA requirements. Congress
required the CAS Board to publish a “CAS Harmonization Rule” by not
later than January 1, 2010, with a mandated applicability date of
January 1, 2011. (Astute readers may note that the CAS Board has missed
its congressionally mandated deadline.)
Where’s
this all leading, you may be asking? Well, it’s like this. The
Standards dealing with defined-benefit pension plans are about to be revised, and contractors will have to change
their cost accounting practices in order to comply with the revised CAS
requirements. The changes will lead to an increase in measured pension
costs. A “SWAG” by a DCMA
pension expert estimated a 60% increase in
pension costs! Because the cost accounting practice changes are
required by the revised Standards, contractors are entitled to an
equitable adjustment to contract prices. They are going to be hitting
up their customers for the increased costs. (Though
the NPRM indicates that there will be a transition period, which may
smooth out the immediate impact of the increased pension costs.)
The DOD has known about this upcoming day of reckoning for
quite some time, and has taken actions that would prevent contractors
(and their government customers) from doing anything about it until the
CAS Board finishes its rulemaking work. Yes, you heard that correctly.
The Pentagon has actively prevented DOD programs
from creating reserves that would cover the upcoming cost impacts. For
example, in December 2006 the Defense Procurement
and Acquisition Policy (DPAP) group issued a
memo that directed DOD contracting officers to
ignore the coming increases to contractor pensions costs when
negotiating forward pricing rate agreements—even though the memo
acknowledged that contractors might be entitled to equitable adjustments
to contract prices affected by the changes to the Cost Accounting
Standards.
As a result of DOD’s willful blindness, someday soon
there is going to be a reckoning, as CAS-covered contractors with
defined benefit pension plans notify contracting officers of the
contract price increases stemming from the new CAS rules. DOD has no
budget for the price increases and any attempt at proactive planning was
effectively halted by the DPAP memo noted above. Won’t
Congress dearly love the upcoming surprises coming its way!
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Judge Firestone Says No CAS Standard Covers PRBs
If our
recent pension accounting discussion didn’t
thrill you, it’s not likely that this article is going to float your
boat either. Two recent decisions by the U.S. Court of Federal Claims (CoFC), both issued by Judge Firestone on
April 29, 2010, appear to conclude that there is no Cost Accounting
Standard that covers accounting for post-retirement benefits other than
pensions (PRBs).
“What’s a PRB?” you may well be
asking. A PRB is a non-cash
benefit (other than a
pension distribution) that is provided to employees after retirement. Typically, PRBs include life and medical
insurance. But some PRB
plans include legal services, and even tuition credits. PRBs may be fully funded by a company,
or partially funded (with employees sharing the
rest of the costs). For GAAP purposes, companies
need to account for PRB liabilities in accordance with SFAS 106. Readers might notice that SFAS 106
was promulgated in 1990, far after the original CAS Board had finished
promulgating Cost Accounting Standards.
The
link above will allow you to review the SFAS 106 summary and learn
about its requirements. For purposes of this article, suffice to say the Statement requires
that an employer’s obligation for PRBs expected to be provided to an
employee “must be fully accrued by the date that the employee attains
full eligibility” for the benefits.
Importantly,
the FAS Board expressly acknowledged that the provisions of SFAS were
similar to provisions in Financial Accounting Statements governing
accounting for pensions (i.e., SFAS Nos. 87 and 88). In the words of
the FAS Board, “to the extent the promise to
provide pension benefits and the promise to provide postretirement
benefits are similar, the provisions of this Statement [SFAS 106] are
similar to those prescribed by Statements 87 and 88; different
accounting treatment is prescribed only when … there is a compelling
reason for different treatment.” Keep the FAS
Board’s linkage of the accounting for pensions and PRBs in mind as we
take a look at Judge Firestone’s decisions.
Raytheon Company v. The
United States
The complete decision can be found here. Raytheon was required to calculate a
segment-closing pension adjustment in accordance with CAS 413-50(c)(12). The company wanted to include
its PRB liabilities in that pension calculation.
Judge Firestone reviewed the history of ERISA and CAS, before opining on Raytheon’s PRB plans. In
particular, she quoted the CAS Board’s preamble to CAS 416—
The [CASB] believes that these standards provide
ample criteria for determining which standard is applicable to any given
cost. In particular, the question of whether a benefit, such as
insurance provided to retired persons, is an integral part of a pension
plan and thereby governed by CAS . . . 412 or is a part of an insurance
program and therefore governed by CAS 416 is a question of fact in each
given instance. Moreover, application of either standard to this element
would result in substantially the same amounts of allocable costs.
Judge Firestone also reviewed SFAS 106 and the proposed
Standard 419 (which would have expressly covered
PRBs), as well as the history of FAR 31.205-6(o)—which discusses the
allowability of PRB costs. (“… To be allowable,
PRB costs must be reasonable and incurred pursuant to law,
employer-employee agreement, or an established
policy of the contractor. In addition, to be allowable in the current
year, PRB costs must be paid …”)
Finally,
Judge Firestone concluded that Raytheon’s PRB plans were not “pension
plans” as that term is defined in CAS. She wrote, “… health benefits or
medical benefits, which clearly do not vest and are terminable at will,
are not ‘integral’ to a pension plan.” Raytheon’s PRB costs were not pension costs and could not be
included in its CAS 413 pension calculations. In
forming her decision, the Judge relied heavily on the CAS Board’s
published decision not to issue Standard 419. She wrote—
The court is mindful of established rules of
administrative law which provide that proposed regulations have no legal
effect and are not entitled to deference. The court is also mindful of
established rules of construction that caution against relying on the
views of a legislature to interpret the meaning of a law written by a
previous legislature. However, there are situations where policy
pronouncements are entitled to appropriate deference based on the
context of the pronouncement. The court finds that this is one of those
circumstances. (Citations omitted.)
Judge
Firestone gave the “highest degree of deference” to the FAR Councils’
comments when publishing FAR 31.205-6(o). The
rule requires that the government is entitled to an equitable share of
any previously funded PRB costs that “revert or inure” to the contractor
if it decides to terminate or reduce PRB benefits. However, the door
only swings one way: unlike pension plans, if a segment is closed with
unfunded PRB liabilities remaining, the contractor is not entitled to a segment-closing PRB adjustment.
But Judge Firestone did offer Raytheon (and other contractors)
a ray of hope. She wrote—
The
fact that Raytheon’s PRB costs are not included in the CAS 413.50(c)(12) segment closing adjustment does
not mean that Raytheon will not be able to recover its PRB costs from
the government following these segment closings. To the extent Raytheon
continues to fund its PRBs, it will be able to allocate its PRB costs
across all of its remaining segments under CAS 403.40(c), 48 C.F.R. §
9904.403-40(c) (2010). The government has agreed to allow contractors
that continue to generate PRB costs to allocate those costs to the
government as residual costs under other contracts following a segment
closing.
General Electric Company v. The United States
In her next decision, Judge
Firestone discussed GE’s “pay-as-you-go” (PAYG) PRB plans in related to
its segment-closing calculations. In PAYG plans, costs are recognized
for government contract cost accounting purposes only when they are
actually paid to employees (or retired employees).
We were interested to note that Judge Firestone entertained
the testimony of “experts” to help her understand
the interplay of the various regulatory requirements (which she
discussed at length in the Raytheon
decision). She said, “Due to the complexity of
the interrelationship of the various CAS and FAR provisions to the
measurement, allocation and payment of PRB costs, the court found it
beneficial to hold a hearing of experts to explain how these provisions
are applied in practice.”
Given her decision in Raytheon
(discussed at length above), it is hardly surprising that the Judge found against GE, deciding that its PRB costs could not be
included in its segment-closing pension adjustment calculations. She
noted that “… the reason that CAS 413.50(c)(12) does not extend to GE’s PAYG PRB costs is that CAS 413
provides a means to sort out actuarial gains and losses and does not
extend to situations where no such actuarial gains
and losses were ever allocated to government contracts. Actuarial gains
and losses only arise in the context of accrual accounting.” Moreover, she wrote—
Pension plans funded using PAYG accounting that do not have compellable
benefits have not been allocated to contracts based on actuarial
determinations. Accordingly, these non-compellable PAYG costs have not
been allocated to government contracts based on actuarial assumptions,
assumptions that, while meant to be as accurate as possible, inevitably
result in over or under payments. Because non-compellable PAYG costs
have been allocated to government contracts based only on the actual
payments made to retirees, no assumptions were used and no costs based
on actuarial gains or losses were allocated to government contracts. In
such circumstances, there are no ‘previously determined costs’ that need
to be adjusted in a CAS 413 segment closing adjustment.
Judge Firestone ran through several of the Standards, noting
how each did not cover PRBs—at least as GE had decided to account for
them. She also dispensed with GE’s argument that, by virtue of the
segment closing, the government had received an illegal “windfall” that
could only be corrected by permitting GE to reduce its otherwise payable
segment-closing pension adjustment.
To sum up,
Judge Firestone concluded that the Federal cost accounting rules that
cover pension plans do not extend to PRB plans, at least with respect to
the Raytheon and General Electric Companies. The only regulatory
coverage is to be found in the FAR, whose provisions are relatively
strict (at least from a contractor’s point of view).
It may seem forever to you by now, but remember back at the
beginning of this article, when we noted that the FAS Board expressly
called-out similarities between pension and PRB accounting? Accountants
may think that the similarities compel similar treatment—but Judge
Firestone was not persuaded.
Proposed DFARS Changes: CSDRs and Data Rights
On May 7, 2010 the DAR
Council published several proposed DFARS rules in the Federal
Register. We’re going to discuss two of them: (1) DFARS Case 2008-D027
(“Cost and Software Data Reporting System”), and (2) DFARS Case
2007-D003 (“Presumption of Development at Private Expense”).
Cost
and Software Data Reporting System
The first proposed rule, found here, set forth DOD’s
“Cost and Software Data
Reporting system requirements for major defense acquisition
programs and major automated information system programs.” The proposed
rule referenced two documents: (1) DOD’s CDSR Manual (DoD 5000.04-M-1), and
(2) the contract CDSR Plan found on DD Form 2794. That’s
not all. Other DOD Forms were discussed, including DD Form 1921-3
(“Contractor Business Data Report”). The proposed rule would add one
solicitation provision to establish proposal requirements for offerors,
and one contract clause to establish post-award requirements for
successful contractors Whew.
Let’s summarize. You can find the
details at the link above.
The solicitation provision required
offerors to:
- Describe the standard Cost and
Software Data Reporting (CSDR) process they intend to use to satisfy the
requirements of the CSDR Manual, and the Government-approved contract
CSDR plan, and the related Resource Distribution Table (RDT), in
proposals in response to solicitations for Major Defense Acquisition
Programs and Major Automated Information System programs.
- Submit with their pricing proposal:
the DD Form 1921, Cost Data Summary Report; DD Form 1921-1, Functional
Cost-Hour Report; and, DD Form 1921-2, Progress Curve Report.
The contract clause required
successful awardees to:
- Utilize a documented standard Cost
and Software Data Reporting (CSDR) process that satisfies the guidelines
contained in the CSDR Manual DoD 5000.04-M-1.
- Use management procedures that
provide for generation of timely and reliable information for the
Contractor Cost Data Reports, and Software Resources Data Reports.
- Use the Government-approved contract
CSDR plan, DD Form 2794, Cost and Software Data Reporting Plan with the
related Resource Distribution Table, and DD Form 1921-3, Contractor
Business Data Report, as the basis for reporting.
- Require subcontractors, or
subcontracted effort if subcontractors have not been selected, to comply
with the Cost and Software Data Reporting requirements.
Presumption of
Development at Private Expense
The second rule, found
here, proposed to implement § 802(b) of the FY 2007 National
Defense Authorization Act (Pub. Law 109-364) and § 815(a)(2) of the FY 2008 NDAA (Pub.
Law 110-181) to implement “special requirements and procedures related
to the validation of a contractor’s or subcontractor’s asserted
restrictions on technical data and computer software.”
According to the rule’s background,
the first Public Law “modified 10 U.S.C. 2321(f) with
regard to the presumption of development at private expense for major
systems” while the second Public Law “revised 10 U.S.C. 2321(f)(2) to
exempt commercially available off-the-shelf items from the requirements”
of the first Public Law.
Previously, the “Commercial Rule”
required a Contracting Officer “presume that a commercial item has been
developed entirely at private expense, unless shown otherwise in
accordance with the procedures at 10 U.S.C. 2321(f). The detailed
procedures at 10 U.S.C. 2321(f)(1) require the contracting officer to
presume that the asserted restrictions have been justified (on the basis
that the item was developed exclusively at private expense), whether or
not the contractor or subcontractor submits a justification in response
to the challenge notice issued by the contracting officer. The
contracting officer's challenge may be sustained only if information
provided by DoD demonstrates that the item was not developed exclusively
at private expense.”
The proposed rule would closely
follow the “two-pronged statutory scheme” established by the two Public
Laws, as follows:
- Under the “Major Systems Rule” a Contracting Officer’s “challenge to asserted restrictions on technical data
relating to a major system shall be sustained unless the contractor or
subcontractor submits information demonstrating that the item was
developed exclusively at private expense.” This rule would apply to all acquisitions of all
commercial items, as well.
- However, the second Public Law “altered the relationship between
these two special rules” where they overlapped—i.e., in the case of
Commercial-Off-the-Shelf (COTS) acquisitions. COTS acquisitions were
exempted from the Major Systems Rule, and thus “Since COTS items are a subtype of
commercial items, this change results in COTS items being governed by
the Commercial Rule in all cases, regardless of whether the COTS items
are included in a major system.”
There is a bit of potential
confusion with respect to flowdown of the proposed DFARS rules to
subcontractors. As the promulgating comments note—
It is well established policy and
practice in Federal and DoD acquisitions that the treatment of
intellectual property rights creates a special, direct, relationship
between the Government and subcontractors (at any tier). For example,
the Government's license rights may be granted directly from the
subcontractor to the Government, and the Government and subcontractor
are allowed to transact business directly with one another on issues
related to the subcontractor's intellectual property (such as delivery
of technical data directly to the Government, and regarding the
validation of asserted restrictions).
Accordingly, “this proposed rule
revises section 212.504 to eliminate 10 U.S.C. 2320 and 2321 from the
list of statutes that are inapplicable to subcontracts for commercial
items, and makes corresponding changes to the flowdown requirements at
227.7102-4, and to the associated clauses at 252.227-7013(k)(2),
-7015(e), and -7037(l).” In other words, the proposed rule would flow
down clause language from prime contractors to subcontractors when
applied to acquisitions of commercial items.
In addition, although the Public
Laws impose requirements only with respect to technical data rights, the
proposed rule would also address computer software. The promulgating
comments state—
Although 10 U.S.C.
2320 and 2321 apply only to technical data and not to computer software
(which is expressly excluded from the definition of technical data), it
is longstanding Federal and DoD policy and practice to apply the same or
analogous requirements to computer software, whenever appropriate. Many
issues are common to both technical data and computer software, and in
such cases, conformity of coverage between technical data and computer
software is desirable.
… This
applicability model is used to guide the implementation of revisions
analogous to those discussed previously for technical data (i.e.,
analogous revisions are made to the validation procedures only for
noncommercial technologies).
Accordingly, it is only the new
Major Systems Rule that is applicable to, and implemented for, the
validation procedures for noncommercial computer software. These new
procedures are added at proposed 227.7203-13(d) and the associated
clause at 252.227-7019(f). In each case, the paragraph numbers in the
affected coverage are revised to incorporate the new paragraph. In
addition, a conforming amendment is also made at 252.227-7019(g)(5) to
state positively that the contracting officer's final decision will
adhere to the new requirements.
As always, public
comments may be submitted to the DAR Council via http://www.regulations.gov. Each of the proposed rules has detailed
instructions for submitting comments.
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