On July 15, 2014, the U.S. Department of Defense (“DOD”) issued a proposed rule that imposes new requirements for third-party audits of three contractor business systems, as well as a requirement for contractors to self-report deficiencies uncovered in these audits or in internal reviews of these business systems. The three business systems at issue are a contractor’s accounting system, its estimating system, and its material management and accounting systems (“MMAS”). The impetus for the proposed rule appears to be the serious backlog in audits waiting to be performed by the Defense Contract Management Agency (“DCMA”) and the Defense Contract Audit Agency (“DCAA”). According to a recent GAO reports, both agencies suffer from high workloads that prevent them from meeting their auditing obligations in the business systems area.

Outsourcing Requirements:  DOD’s proposed solution to this backlog is to outsource some of the auditing responsibilities to third-party certified public accountants (“CPA”) and require contractors to self-report any deficiencies. Although this approach could reduce DCAA’s and DCMA’s auditing backlog and address industry concerns that these two agencies are too quick to find significant deficiencies in contractor business systems, such a “solution” is not without risks and costs to contractors.  We provided a more detailed analysis of the proposed rule in the attached Law360 Article entitled Inside_The_Proposed_DFARS_Business_Systems_Rule.

Although the contractor — together with its CPA — would be responsible for assessing and auditing these three business systems, DOD still would perform its own review on top of the contractor’s review. If the contracting officer (“CO”)determined that there were one or more significant deficiencies or that the contractor had not complied with the applicable reporting and audit requirements, the CO would have 30 days to respond in writing to the initial determination, after which the contracting officer would make his/her “final determination” of whether there were any remaining deficiencies or noncompliance. The CO also would have discretion to withhold payments to the contractor upon a final determination of significant deficiencies or noncompliance with applicable reporting and audit requirements. However, the withholding of payments does not limit the other remedies that the CO may seek against a contractor because of harm caused by a deficient business system. The proposed rule would not impact DCMA’s existing role in reviewing and auditing contractors’ purchasing, government property and management, and earned value management systems. It bears noting, however, that payments may be withheld for significant deficiencies under any of the six contractor business systems pursuant to the existing procedures under DFARS 252.242-7005, even though the proposed rule reaches only estimating, MMAS, and accounting systems.

Impact of the Rule:  The proposed rule does not address the ambiguities and risks inherent in the current rules governing business systems compliance, but it does create a new dynamic among contractors, their private auditors, and the government. The proposed rule may allow the government to approve a contractor’s systems more quickly, which would be welcome news for the contractor community. The backlog of government audits has been an issue for some time, and some contractors may embrace the use of third party auditors if they are waiting for government resolution on a number of fronts. It is not clear, however, whether this new proposed framework will realize meaningful time efficiencies. Government auditors who review third-party CPA audits may not be inclined to rubber stamp those findings. Moreover, the required disclosure of deficiencies is troublesome. Should an audit uncover information that puts a company at legal risk, the audit will not have been conducted under a privileged review. Thus, the disclosure requirement in the proposed rule may be at odds with a contractor’s desire to more fully investigate any issues raised by an audit and could force a quicker resolution to the matter than would be required otherwise under the FAR mandatory disclosure requirement.

DOD has solicited written comments in response to the proposed rule, which must be submitted by Sept. 15, 2014.

 

 

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Susan B. Cassidy

Ms. Cassidy represents clients in the defense, intelligence, and information technologies sectors.  She works with clients to navigate the complex rules and regulations that govern federal procurement and her practice includes both counseling and litigation components.  Ms. Cassidy conducts internal investigations for government…

Ms. Cassidy represents clients in the defense, intelligence, and information technologies sectors.  She works with clients to navigate the complex rules and regulations that govern federal procurement and her practice includes both counseling and litigation components.  Ms. Cassidy conducts internal investigations for government contractors and represents her clients before the Defense Contract Audit Agency (DCAA), Inspectors General (IG), and the Department of Justice with regard to those investigations.  From 2008 to 2012, Ms. Cassidy served as in-house counsel at Northrop Grumman Corporation, one of the world’s largest defense contractors, supporting both defense and intelligence programs. Previously, Ms. Cassidy held an in-house position with Motorola Inc., leading a team of lawyers supporting sales of commercial communications products and services to US government defense and civilian agencies. Prior to going in-house, Ms. Cassidy was a litigation and government contracts partner in an international law firm headquartered in Washington, DC.

Photo of Scott A. Freling Scott A. Freling

Scott Freling represents civilian and defense contractors, at all stages of the procurement process, in their dealings with federal, state, and local government customers and with other contractors. He has a broad-based government contracts practice, which includes compliance counseling, internal investigations, strategic procurement…

Scott Freling represents civilian and defense contractors, at all stages of the procurement process, in their dealings with federal, state, and local government customers and with other contractors. He has a broad-based government contracts practice, which includes compliance counseling, internal investigations, strategic procurement advice, claims and other disputes, teaming and subcontracting, and mergers and acquisitions. He represents clients in federal and state court litigation and administrative proceedings, including bid protests before the Government Accountability Office and the U.S. Court of Federal Claims. He also represents clients in obtaining and maintaining SAFETY Act liability protection for anti-terrorism technologies. Mr. Freling’s experience covers a wide variety of industries, including defense and aerospace, information technology and software, government services, life sciences, renewable energy, and private equity investment in government contractors.

Photo of Kayleigh Scalzo Kayleigh Scalzo

Kayleigh Scalzo represents government contractors in high-stakes litigation matters with the government and other private parties. She has litigated bid protests in a wide variety of forums, including the Government Accountability Office, U.S. Court of Federal Claims, U.S. Court of Appeals for the…

Kayleigh Scalzo represents government contractors in high-stakes litigation matters with the government and other private parties. She has litigated bid protests in a wide variety of forums, including the Government Accountability Office, U.S. Court of Federal Claims, U.S. Court of Appeals for the Federal Circuit, FAA Office of Dispute Resolution for Acquisition, Port Authority of New York and New Jersey, federal and state agencies, and state courts. She is also a co-head of the firm’s Claims, Disputes, and Other Litigation Affinity Group within the Government Contracts practice.

Kayleigh has particular experience navigating state and local procurement matters at both ends of the contract lifecycle, including bid protests and termination matters. In recent years, she has advised and represented clients in connection with procurements in Alaska, Arizona, California, the District of Columbia, Illinois, Indiana, Kansas, New Jersey, New York, Pennsylvania, Tennessee, Texas, and Virginia.

Kayleigh is a frequent speaker on bid protest issues, including the unique challenges of protests in state and local jurisdictions.