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Cost Claim Corner: Recent Board Decisions Rein In Government Cost Claims

February 2017

Government Contracts Issue Update

This article highlights key takeaways from several recent decisions issued by the Armed Services Board of Contract Appeals (ASBCA) involving government audits and cost claims.

A prime contractor’s responsibility for managing subcontractors is not boundless. Over the past few years, typically in connection with contractor purchasing system reviews (CPSRs), we have observed an increase in the number of times DCMA (and DCAA) auditors have asserted that a company’s purchasing system is “deficient” or otherwise “noncompliant” because of alleged failures to adequately supervise subcontractors’ responsibilities related to their final indirect rate proposals (often referred to by the misnomer, “incurred cost submission”). Frequently, the Government has taken the position that the prime contractor has the same responsibilities as the government contracting officer with respect to subcontractors’ final indirect cost rate proposals, including the responsibility to monitor whether or not its subcontractors have, in fact, timely submitted them. Yet, as the ASBCA recently confirmed in Lockheed Martin Integrated Sys., Inc., ASBCA Nos. 59508, 59509 (LMIS), there is no such requirement, either express or implicit, in the FAR.

The appeal in LMIS involved a government claim for the recovery of over $100 million in direct subcontract costs on the theory, “originated by an auditor,” that LMIS breached its duty “to retain documentation showing it had caused its subcontractors to make incurred cost submissions and either audited those submissions or called on DCAA to audit those who refused to submit” them to LMIS and to “retain documentation substantiating its 2007 invoices for subcontract direct labor hours.” DCAA claimed that “without proof of [the subcontractor] submissions or proof of requests for audit of any of the subcontractors we determined did not submit incurred cost submissions” it is unable to audit the costs, and without an audit, it is unable to determine whether the costs are allowable, reasonable, and allocable. Adopting this rationale, the contracting officer asserted a claim against LMIS to recover all of the subcontract costs on the ground that the alleged failure of LMIS to provide the demanded proof was a breach of LMIS’ duty to manage its subcontractors entitling the Government to reimbursement. 

After examining the Subcontracts clause at FAR 52.244-2, and the provisions of FAR Parts 42 and 44 relied upon by the Government as support for its allegation, the ASBCA concluded that no such duty exists. The Government conceded, and the ASBCA agreed, that FAR 42.202(e)(2), which provides generally that the “prime contractor is responsible for managing its subcontracts,” is not a contract clause. But even if it had been incorporated into the contract, by its plain terms it does not require a prime contractor to maintain documents to substantiate that it had reviewed resumes and timesheets to ensure the subcontractors’ compliance with contract terms, and certainly does not require the prime contractor to “maintain these kinds of substantiating records until DCAA is finished conducting incurred cost audits seven or so years after the costs were first billed and paid.” Nor does the “Subcontracts” contract clause at FAR 52.244-2, which generally describes the circumstances in which a contractor is required to obtain the contracting officer’s consent to subcontract and other requirements not relevant to the issue, “impose any express responsibility on the prime contractor to manage subcontracts after they are awarded.”

In dismissing the Government’s claim, the ASBCA noted that the Government did “not allege that LMIS did not adequately substantiate its billings during performance of the contract, or that the subcontract services were not provided to its satisfaction, or that the costs billed were not incurred by LMIS. Rather, it has gone forward with a claim for over $100,000,000 that is based on nothing more than a plainly invalid theory.” Thus, notwithstanding a prime contractor’s general responsibility for administration of its subcontracts, the ASBCA’s decision affirms that prime contractors are not de facto government contracting officers responsible for all aspects of enforcing applicable federal regulations, such as the submission and audit of a subcontractor’s indirect cost rate proposals pursuant to FAR 52.216-7. The “receipt [and] review of incurred cost submissions” are duties “reserved to DCAA or other cognizant audit agency . . . .”

Contracting officers are responsible for ensuring government claims are factually and legally supported. The ASBCA’s decision in LMIS (discussed above) also serves as a cogent reminder that contracting officers—not auditors—are ultimately responsible for ensuring that any claims the Government decides to assert against a contractor must be adequately supported by facts and a valid legal theory. DCAA auditors, as other advisors to the contracting officer, are just that—advisors. While they serve an important function, they are not vested with the authority to decide whether the Government has a viable claim against a contractor. That decision rests with the contracting officer. A government claim, like any other, must be supported by facts and legal theories that, if true, would support a valid claim for relief. If an audit finding or recommendation does not provide adequate factual and/or legal grounds to assert a claim, as was the case in LMIS, contracting officers would be well served to either take additional steps to develop those grounds, or exercise their authority to not pursue it. This is an issue that arose not only in the LMIS case, where the claim was “originated by an auditor” even though it presented a “plainly invalid legal theory,” but also in the ASBCA’s recent decision in J.F. Taylor, Inc., ASBCA Nos. 56105, 56322, where the Board rejected a government claim that was based solely on a “fatally flawed” DCAA methodology.

The Government’s right to audit under the allowable cost and payment clause does not toll the Contract Disputes Act statute of limitations. In Sparton DeLeon Springs, LLC, ASBCA No. 60416 (Sparton), the ASBCA held that the Government’s claim for direct labor costs was barred by the Contract Disputes Act's (CDA) six-year statute of limitations, and rejected the Government’s argument that its right to audit under FAR 52.216-7 “provides more than six years after accrual to assert an overpayment claim as long as final payment has not been made[.]” 

The Government asserted a claim in 2015 demanding repayment of direct labor costs that had been invoiced and paid by January 10, 2007. After the contracting officer settled the contractor’s indirect rates for Fiscal Years 2006 and 2007 and received final vouchers for those years that included the direct costs at issue, the contracting officer observed that the costs had not been included in the contractor’s Cumulative Allowable Cost Worksheets (CACW) included in the final indirect cost rate proposals. The contracting officer thereafter issued a final decision demanding repayment of the costs. Sparton moved for judgment on the pleadings for failure to state a claim for which relief can be granted, or, in the alternative, for summary judgment on the theory that the claim was time-barred under the CDA statute of limitations. The ASBCA granted Sparton’s motion for summary judgment and, therefore, did not address Sparton’s alternative argument. 

The ASBCA found that the undisputed material facts of the case demonstrated there was no genuine dispute that (a) the Government knew or should have known of the costs as early as January 10, 2007, by when it had paid those costs pursuant to interim vouchers that included information related to the costs at issue, and (b) that the Government knew or should have known by January 29, 2008, that the contractor had not included the costs at issue in its indirect cost rate proposals because that is the date by when the proposals had been submitted (which did not include the costs in the CACWs). Thus, the ASBCA held that the Government’s claim accrued no later than January 29, 2008, more than seven years before the Government asserted its claim. The ASBCA noted that, among other reasons, if, as the Government asserted, the costs were in fact “insufficiently supported”—the stated basis of the Government’s claim—that was no less true in 2015 as it was in 2007 when the contractor “submitted vouchers for costs that allegedly lacked support for those costs.” The ASBCA explained that if it was the case that the “interim vouchers lacked support such as certified time cards [as the Government alleged], the Government knew or should have known that no later than 10 January 2007, by when it paid those interim vouchers.”

In so holding, the ASBCA rejected the Government’s argument that its right to audit under the Allowable Cost and Payment Clause at FAR 52.216-7(g) limits the applicability or availability of the CDA’s six-year statute of limitations in appeals from government overpayment claims. On January 27, 2017, the Government filed a Motion for Reconsideration and Request for Referral to the Senior Deciding Group. Wiley Rein attorneys Nicole J. Owren-Wiest and Gary Ward represent Sparton. 

FAR 31.205-33 does not condition allowability of costs for professional and consultant services on the provision of “work product.” Have you ever been pressed to provide copies of “work product,” engagement letters, and other documentation—in addition to detailed invoices already provided that generally describe the nature of the work performed (legal/consulting services), the time spent (often in minutes), and the associated rates and fees (often by individual timekeeper)—as a condition to the allowability of costs for legal or other professional services under FAR 31.205-33? Notwithstanding the lack of such rigid requirements in the cost principle itself, even the DCAA Contract Audit Manual cautions auditors not to condition allowability on the provision of a specific set of documents. See, e.g., DCAM 7-2015(c) (2015); DCAA Cost Guidebook, Chapter 58 at 58-2 (noting that the “type of evidence satisfying the documentation requirements [of FAR 31.205-33] will vary significantly based on the type of consulting effort and from contractor to contractor” and that the auditor should be “looking for evidence [of what the consultant will be doing for the contractor, the time expended by the consultant and nature of services rendered, and what the consultant accomplished for the fees paid] and not a specific set of documents.” ). In Technology Sys. Inc., ASBCA No. 59577, the ASBCA agreed.

Although a relatively minor aspect of the ASBCA’s decision, the ASBCA confirmed that FAR 31.205-33 does not impose such a rigid requirement and that invoices alone may be adequate support. As the ASBCA explained, “the government labors under the false impression that the FAR requires a consultant to create ‘work product’ merely for the purposes of proving its costs,” and noted that the Government’s interpretation “does not account for the case in which such documents were never created by the consultant,” or where, as in this case, “the invoices include the data the FAR defines as work product, such as persons visited and subjects discussed.” The ASBCA concluded that “[a]s with most things, the proper amount of documentation and work product to be expected will largely depend on the scope of work performed, and we do not include that the FAR intended to impose ‘make work’ upon consultants that would only lead to higher costs to the contractor which would then be imposed upon the taxpayer.”