Pricing - Post Costing

Transcription

1 Constraints None. Pricing - Post Costing Authoritative Guidance Summary 1. The 2003 General Review of the Government Profit Formula introduced new arrangements for post costing. Existing DEFCONs (648, 650 and 651) and procedures will apply to all contracts under 5M (five million pounds sterling) or awarded before 1 July The new DEFCONs 648A, 650A, 651A, 695 and 696) and procedures will apply to all new contracts over 5M (five million pounds sterling) awarded after 1 July Post Costing affords the Ministry of Defence (MOD) the right of access to a contractor s records in order to allow the actual costs incurred on a non-competitive contract to be compared with the costs estimated at the time when the price for the contract was agreed. 3. The post costing right is exercised selectively and is applied to non-competitive contracts and amendments including No Acceptable Price No Contract (NAPNOC) contracts valued in excess of 10M (ten million pounds sterling). 4. The main purpose of post costing is to: enable MOD to extract lessons for future pricing; to check the effectiveness of MOD's estimating procedures; ensure that the principle of Equality of Information (E of I) has been observed; and, to allow selective scrutiny of the outcome of non-competitive contracts. 5. Acquisition teams must include the post costing activity in all project plans to ensure the availability of adequate resources and thereby the efficient and effective execution of post costing cases. 6. The policy sponsor holds a post costing database. It is updated bi-annually based upon inputs from acquisition teams. The database provides a useful source of historical trend information that is readily available to acquisition teams to aid both future pricing and post costing. 7. Each year MOD is required to produce a report to the Public Accounts Committee (PAC) of post costing results for the previous year. The National Audit Office (NAO), Treasury and the PAC take an interest in post costing, any emerging trends in pricing accuracy and the time it takes to complete post costing investigations. 1 of 23

2 8. The Review Board for Government Contracts uses post costing data to help determine whether the Government Profit Formula is providing an equitable return to Industry. 9. The procedure for the annual selection, nomination, investigation and approval of post costing cases is detailed under Authoritative Guidance. 10. If a post costing investigation determines that an unconscionable profit or loss has been made, a price adjustment (refund to or payment by MOD) may be agreed. Under the new arrangements following the 2003 Review such profits or losses are to be managed through the 'sharing mechanism' in DEFCON 648A (Availability of Information). 11. All references to the Review Board must be authorised by the Director Commercial, Defence Equipment and Support (DE&S). Authoritative Guidance 12. The 2003 General Review of the Government Profit Formula introduced a modernised profit formula methodology. It also introduced new arrangements for post costing. The new arrangements do not impact upon the MOD internal corporate aspects of post costing, that is the planning, management, investigation and approval of post costing cases. However they do impact upon the application of DEFCONs, the procedures for requesting and progressing Cost Certificates and Summary Cost Statements and the administration of price adjustments insofar as: a. the existing DEFCONs and procedures will apply to all contracts under 5M (five million pounds sterling) or awarded before 1 July 2004; and b. the new DEFCONs and procedures, including the profit and loss sharing arrangement will apply to all new contracts over 5M (five million pounds sterling) awarded after 1 July The guidance below is accordingly divided into two parts. The first addresses the MOD corporate aspects and the second half the different procedures pre and post 1 July For more detailed guidance on the implementation of the 2003 General Review and the management of contracts already existing at that date or amendments to such contracts refer to the Pricing - Government Profit Formula topic. MOD Corporate Aspects 15. Post costing was first introduced generally into MOD contracts as part of the 1968 Profit Formula Agreement with Industry based on the fundamental principle of 2 of 23

3 'equality of information', which remains the cornerstone underpinning all noncompetitive risk pricing. The 1968 Agreement also established an independent Review Board for Government Contracts, to whom cases could be referred by MOD or a contractor where the results of post costing indicated that the agreement of a fair and reasonable price had been frustrated by shortcomings in the equality of pricing information. The 1968 Agreement has been subsumed by the 2003 General Review (the yellow book - copies held by Band B commercial officers.) but the requirement for post costing remains largely unchanged. Objectives 16. MOD's objectives in undertaking post costing are: a. to ensure that the key principle of equality of information has been applied properly in reaching price agreements; b. to obtain sufficient information to assist in the pricing of future contracts; c. to enable MOD to check the effectiveness of its estimating procedures; and d. to allow a selective scrutiny of the outcome of particular contracts, so that reference may be made by either side to the Review Board in prescribed circumstances. Planning For Post Costing 17. Although MOD awards the majority of its contracts as a result of competition, there remains a substantial proportion of contracts that are priced noncompetitively. Annually, these amount to around a third by value of all MOD contracts. 18. For this reason, the National Audit Office (NAO), the Public Accounts Committee (PAC) and the Treasury are continuing to take an active interest in MOD s non-competitive business. It is therefore important that all acquisition teams involved in the selection, management and investigation of individual post costing cases follow the appropriate procedures and detailed guidance and ensure that such cases are given appropriate priority and concluded as expeditiously as possible. 19. Post costing should be included in Through Life Management Plans to facilitate the planning of resources to match the need. It should be addressed by acquisition teams in the procurement strategy and Cost Assurance and Analysis Service (CAAS) advice sought on the need, if any, for the contractor to provide all records in addition to those available from his normal accounting procedures. 3 of 23

4 Post Costing Database - Acquisition Team Input 20. The policy sponsor maintains a database of MOD s overall post costing programme based upon inputs from acquisition teams. This is updated at the end of August and the end of February to reflect actual progress achieved. New cases are added annually following Post Costing Programme Group (PCPG) endorsement in July and January. 21. In order that the integrity of the post costing database can be maintained and to ensure that external queries can be dealt with as efficiently as possible, acquisition teams must provide the policy sponsor with the following information: a. If responsibility for a contract is transferred, details of the acquisition team and Commercial Director to whom responsibility has been passed. b. Where Cost Certificates have been referred to CAAS, the CAAS reference is to be included in the comment column of the six-monthly update. This will facilitate a double check for the policy sponsor and CAAS staff to identify those Cost Certificates that have been forwarded for investigation and on which they have yet to report. c. Notification of completion or withdrawal of a case accompanied by the relevant documentation - approval note, CAAS report and DEFFORM 133 (Post Costing Data Sheet). 22. This database is an invaluable tool: a. it provides the essential basic material for annual reports to the PAC; b. it provides a useful source of historical trend information available to acquisition teams for both future pricing and post costing purposes; c. it enables the policy sponsor to analyse the data and bring any emerging general trends to the notice of the PCPG; and d. it enables the policy sponsor to identify any lessons learned. 23. The policy sponsor can provide post costing track records to acquisition teams. Reporting To Public Accounts Committee (PAC) 24. Each year, by 31 May, MOD is required to produce a report of the annual post costing statistics for the PAC. This report is prepared by the policy sponsor for consideration by DE&S Commercial Director. 4 of 23

5 25. The NAO, PAC and Treasury take an interest in the post costing results reported to examine any emerging trends in pricing accuracy, particularly since the general introduction of NAPNOC pricing. They have also shown an interest in the time it takes for Industry to report on post costing cases and for MOD to complete post costing investigations. It follows that it is essential that acquisition teams retain accurate records and take prompt action to progress all outstanding post costing cases to avoid any criticism of delays. 26. The Review Board for Government Contracts uses post costing data, provided by the policy sponsor, in their Annual and General Reviews of the Profit Formula for Non-Competitive Government Contracts, to help determine whether the Government Profit Formula is providing an equitable return on capital employed to industry. Accurate data is therefore essential. Annual Selection of New Cases 27. The procedure for selecting and nominating new cases annually is detailed in Annex A. In essence, this is identification of all relevant contracts (and subcontracts) containing DEFCON 648/648A that are not already in the post costing programme, and are due to be completed in the forthcoming year. Selection criteria are given in paragraphs 30 to 33 below. Nominations, approved by the appropriate Commercial Director, should be sent to the policy sponsor using DEFFORM 131 (Formal Post Costing programme). 28. For the avoidance of doubt, Target Cost Incentive Fee (TCIF) contracts should be considered for post costing. Provided TCIF contracts have been well managed and monitored, the exercise of post costing should only be a confirmation of data already received; any great deviation between the target cost and actual costs should have been highlighted during programme management meetings with the contractor and resolved before post costing is started. 29. It should be noted that, although the resources available for post costing are finite, selections should not be limited artificially by apparent resource constraints, since the results received from contractors are valuable in themselves even if the subsequent analysis is curtailed in extent. Selection Criteria for New Cases 30. There are two categories of new case: mandatory and non-mandatory. The selection criteria for mandatory cases is based principally on value, while nonmandatory cases are selected primarily for their utility (e.g. in relation to future pricing). 5 of 23

6 Mandatory Cases 31. All contracts and subcontracts above the mandatory threshold value of 10M (ten million pounds sterling) should normally be nominated. The only exception is where the results of post costing would be of relatively little utility. This might include cases where: a. a contract is priced very late with full availability of information; b. a contractor's cost estimating and accounting systems are considered by CAAS to be effective, the relevant post costing track record is satisfactory and sufficient cases are in the total post costing programme for the purpose of establishing continuing compliance; and c. a unique, one-off, supply is concerned and other contracts with the same contractor have been selected for post costing. Non-Mandatory Cases 32. A limited number of contracts and subcontracts of less than 10M (ten million pounds sterling) in value should also be selected having regard to the utility of the results of the process and the following factors: a. the objectives in paragraph 16; b. the extent and results of previous post costing (e.g. the results so far available may indicate a need to post cost orders with a particular contractor more extensively than otherwise would have been the case); and c. the need to post cost a sufficient number of subcontracts and spares contracts but avoiding selections below 0.5M (five hundred thousand pounds sterling) in value unless there is an unquestionable need for post costing. Endorsement of Post Costing Programme 33. Based on the information submitted by acquisition teams, the policy sponsor will produce a summary of the programme so that its size, balance and content, the loading on individual contractors and the resources likely to be required can be considered by the Post Costing Programme Group (PCPG) meeting programmed for July and January each year. Following the meeting a revised version of the total programme incorporating any revisions made by the Board will be issued. Once the PCPG has approved the forward post costing programme, the policy sponsor will issue copies to the Commercial 1*s. 6 of 23

7 Notification of Intention to Post Cost 34. Following endorsement of the overall post costing programme by the PCPG acquisition teams should normally notify the selected contractors of their intention to post cost a contract or subcontract. Acquisition teams should also ensure that contractors are notified when cases are withdrawn from the post costing programme, unless the withdrawal is temporary due to slippage in the expected completion. 35. In contracts that include DEFCON 648 (Availability of Information), the Cost Certificate / Summary Notes in the General Notice to Defence Contractors (GNDC) No 1 attached at Annex B will apply. In contracts that include DEFCON 648A, DEFFORM 648A will apply. In the event that neither the GNDC No 1 nor DEFFORM 648A are suitable for the contractor acquisition teams should check with CAAS, particularly where a standard cost system is operated. The cost summary will be supplemented as necessary by information that MOD will extract from the contractor's records. Conduct of Post Costing Investigations 36. Post costing investigations are concerned principally with the accuracy and appropriateness of costs reported by a contractor and the reasons for any material divergence in those costs from the estimate on which the contract price was based with a view to extracting lessons for future guidance. Hence the need for complete records of negotiations and an E of I Pricing Statement. 37. In all cases, the depth of the post costing investigation and subsequent report should have regard for the perceived utility likely to be derived. Detailed investigations should normally only be carried out when there is an appreciable divergence between estimated and actual costs. The question of confidence in the accuracy of the actual costs in the Cost Certificate and Summary Cost Statement should also be taken into account. The factors which led to the divergence, should be identified and the effect quantified so far as is practicable. It is important that significant variations at cost item level should not be ignored where pluses and minuses have resulted in an acceptable total variance. Approach to Investigation 38. Post costing investigations should be conducted jointly by CAAS and acquisition teams, following the same principles as the team approach to pricing. An objective approach is essential. 39. Cases referred to CAAS for investigation should be accompanied by the contractor's Cost Certificate and Summary Cost Statement, DEFFORM 133 (Post Costing Data Sheet) and a copy of the standard price / outturn record sheet plus a 7 of 23

8 copy of the contract. A copy of the covering note and DEFFORM 133 should be sent to the policy sponsor for information. At this stage, acquisition teams should arrange an early meeting with CAAS to decide on the depth and areas of analysis to be undertaken and to fix a target date for completion (with due regard for the expiry dates for MOD rights to post costing information and references to the Review Board). It is important that the investigation should be no more detailed than is strictly necessary having regard to factors such as: a. whether the accuracy of the Cost Certificate and Summary Cost Statement can be accepted with reasonable confidence; b. the extent of the cost variation; c. the apparent reasons for the cost variation; d. whether CAAS wishes to carry out an investigation to assist in preparing estimates for follow-on contracts (i.e. contracts for other goods or services of a similar or substantially similar kind to be supplied or performed under any other contract (whether made or under negotiation) between the contractor and MOD) or to test estimating techniques; and e. whether there is any evidence that the price was based on materially inadequate or incomplete information, especially where pricing took place towards or after completion of the work. 40. Investigations should normally be carried out against an individual contract. Companies may seek to have two or more contracts considered as one. As a rule such an approach would not satisfy the objectives of post costing and it could result in an averaging out of gains and losses. A decision to treat two or more contracts as one post costing case should only be taken after full consultation with the responsible Director Commercial and the relevant CAAS section. The general exception to the above is the post costing of spares contracts priced by reference to price lists, which require different treatment. Alternative approaches and the preferred method of avoiding these difficulties can be found at Annex B A post costing data sheet should be raised and completed for each case, using DEFFORM 133 (Post Costing Data Sheet), in accordance with the procedure and guidance detailed in Annex C. The DEFFORM 133 Post Costing Data Sheet Example is at Annex D. A new DEFFORM 133 will be made available in due course to satisfy the requirements of the 2003 General Review of the Government Profit Formula. 42. It is important that MOD utilises its resources efficiently and effectively. After receipt of a Cost Certificate and Summary Cost Statement an early decision should therefore be taken as to whether to treat the case as a priority or non-priority case. 8 of 23

9 43. Priority should be given if any of the following apply: a. It could be a candidate for reference by either party to the Review Board. b. It shows a cost outturn, which is significantly different from what might have been expected at the time of settlement (e.g. a contract priced very late in its life that shows a significantly higher profit than that intended). c. It requires early investigation on other grounds (e.g. because the information is needed for the purpose of pricing a follow-on contract or it is one of a series of results in which an obvious pattern is emerging which clearly requires early investigation). d. It arises from a contractor notifying his intention to make a reference to the Review Board or to seek a price adjustment in respect of any contract (whether or not it is in MOD s post costing programme). In such cases, the contractor must provide a Cost Certificate and Summary Cost Statement without delay. A copy of every reference to the Review Board received from a contractor should be sent immediately to policy sponsor for information. Reports on the Results of Investigations 44. In all cases where CAAS investigations have taken place, a final report, summarising the outcome, should be produced by the relevant acquisition team as soon as possible, for consideration at the appropriate management level. This should be copied for information to CAAS and the policy sponsor. The report need not be a blow-by-blow account of every variation. It is more important that a prompt report should be raised concentrating on the main issues and reasons, where appropriate, for excess profit. The report should be of a 'stand alone' nature and should include a copy of the DEFFORM 133 (Post Costing Data Sheet), in order that it is meaningful to copy addressees. Cases Involving Overseas Governments 45. Where exceptionally, the contract also includes requirements for an overseas government and there appears to be a case of unconscionable profit or loss, the question as to whether any price adjustment should relate to the whole contract requirement or just MOD's share of it, should be based on the terms of any prior understandings / arrangements with the customer government. If the customer government has specifically requested the inclusion of DEFCONs 648 / 648A (Availability of Information) and 650 / 650A and has given a specific undertaking to contribute to any payments MOD might have to make under DEFCON 650 / 650A (Reference To The Review Board Of Questions Arising Under The Contract), then clearly any adjustment should relate to the whole contract. If, however, no such arrangements exist and there are no other reasons why the customer should 9 of 23

10 participate in any adjustment or 'sharing', it should generally be confined to MOD's requirement. Similar considerations apply also to international collaborative contracts, which due to differing foreign national practices, require special treatment. Approving Post Costing Reports 46. No action should be taken with the contractor on an investigation report until all necessary approvals have been obtained. The management levels for reviewing the full or partial results of individual post costing cases are as follows: a. Post Costing Programme Group (PCPG) all cases: (1) which, regardless of value, have not been closed within 12 (twelve) months of receipt of the CAAS report, (2) where the contract value exceeds 5M (five million pounds sterling) and the outturn costs vary by 10% or more from the estimated costs on which the agreed price was based, (3) where the contract value exceeds 5M (five million pounds sterling) and it is proposed that a refund should be obtained from the contractor, (4) which, regardless of value, involve a proposed payment by MOD to a contractor, (5) where, regardless of value, a reference to the Review Board is contemplated, (6) which, regardless of value, have unusual features, e.g. where the contractor offered a refund during the course of a contract (see paragraph 50), (7) which, regardless of value, contain important new points of principle or lessons, (8) where a precautionary reference to the Review Board has been made (see paragraph 27). b. Head of Commercial Systems (DGDCCS-Hd) or Director Projects Enablement Team (DPET), as appropriate, all other cases: (1) where the contract value exceeds 20M (twenty million pounds sterling), (2) where the contract value is below 5M (five million pounds sterling) and it is proposed that a refund should be obtained from the contractor. 10 of 23

11 c. Director Commercial D&ES all other cases: (1) where the contract value is between 5M (five million pounds sterling) and 20M (twenty million pounds sterling), (2) where the proposed adjustment would be so small as not to justify pursuing the matter with the contractor on de minimis grounds. d. Commercial Officer at Band B2 level all other cases: (1) where the contract value is under 5M (five million pounds sterling). Closing Post Costing Cases 47. Acquisition teams must provide the policy sponsor with the following documentation in every instance when notifying the completion or deletion of a case: a. the approval note authorising closure or deletion; b. the CAAS report, or written evidence of an agreement between the relevant acquisition team and CAAS that an investigation report is not required; and c. an updated DEFFORM 133(Post Costing Data Sheet). 48. Once the policy sponsor has received the above information, the case will then be closed on the post costing database and it will not appear on future six monthly updates. It should be noted, however, that, if any of the above information is missing, the case will continue to appear in the post costing database until such time as all outstanding information has been received by the policy sponsor. Contracts Under 5M or Awarded Before 1 July The contractual provisions that secure post costing rights for these contracts are contained in DEFCONs 648 (Availability of Information), 650 (Reference To The Review Board Of Questions Arising Under The Contract) and 651 (Reference To The Review Board of Questions Arising In Relation To Relevant Subcontracts Including Those With A Subsidiary Company Or Firm). DEFCON Availability of Information 50. DEFCON 648 requires the contractor to maintain certain records for a minimum period after completion of the contract and, when requested, to afford reasonable facilities for MOD to examine the records to use the information to price amendments or follow-on contracts (i.e. contracts for other goods or services of a 11 of 23

12 similar or substantially similar kind to be supplied or performed under any other contract (whether made or under negotiation) between the contractor and MOD) and to check the accuracy of its estimating procedures. 51. DEFCON 648 should be used together with DEFCON 650 and 651 as follows: a. All non-competitive risk contracts above 250K (two hundred and fifty thousand pounds sterling) and below 5M (five million pounds sterling) that contain DEFCON 643 (Price Fixing). b. All non-competitive risk contracts above 250K (two hundred and fifty thousand pounds sterling) and below 5M (five million pounds sterling) for which firm or fixed prices are to be agreed at the outset under NAPNOC. c. All contracts where there is likely to be a subsequent requirement to price non-competitive risk contract amendments or follow-on contracts valued under 5M. d. Some contracts below 250K (two hundred and fifty thousand pounds sterling) where for example the contract requirement is likely to be substantially increased or where post-costing information will assist the pricing of higher value follow-on contracts. e. On an exceptional basis, instead of DEFCON 648A in contracts valued over 5M (five million pounds sterling) in circumstances where it is agreed at Band B2 level or above that the sharing arrangements introduced following the 2003 General Review of the Government Profit Formula are not appropriate. Refer to the Pricing - Government Profit Formula topic for more detailed guidance on the implementation of the 2003 Review. 52. DEFCON 648 would not generally be considered appropriate: a. where the price has been determined as a result of effective competition; or b. for the purchase of proprietary goods for which a competitive general market price exists. 53. However, in the case of paragraph 52.b. above acquisition teams should note the following quotation from paragraph 10 of the 1968 Profit Formula Agreement repeated in the Review Board's 4th General Review (1984) paragraphs respectively: 'An element of transparency' is essential whenever goods are purchased on a non-competitive basis. In such cases, the only distinction to be made between 12 of 23

13 proprietary and non-proprietary purchases is that in the former case a fair share of the contractor's product development expenditure is allowed in the price.' Important Features of DEFCON 648 Clause Makes provision for the contractor to prepare a Cost Certificate and Summary Cost Statement on the request of MOD. The Cost Certificate and Summary Cost Statement should be delivered before expiry of the clause 1 period. If it becomes clear that this requirement is unlikely to be met, acquisition teams should refer any cases of difficulty to a commercial officer at Band B2 level or above. Clause Allows, as an essential element in equality of information, MOD to examine during the currency of the contract both the records maintained under DEFCON and the contractor s manufacturing processes if this is necessary, to assist MOD in pricing a follow-on order with the contractor. Clause Requires the contractor (unless accepting the lowest acceptable competitive tender or otherwise authorised in writing) to make subcontracts (including those with a subsidiary company) of individual value over 150K (one hundred and fifty thousand pounds sterling) (or a higher value if specified in the contract) subject to the provisions of the Appendix that gives MOD the right to post cost and to obtain information for pricing follow-on contracts or subcontracts. Requests for Cost Certificates and Summary Cost Statements - Final or Interim 57. Before notifying the contractor of his inclusion in the post costing programme, acquisition teams should fix a 'due date' for submission of final or interim Cost Certificates and Summary Cost Statements. The date for the final Statement should allow the contractor a reasonable period of time but it should be taut and challenging and normally six months after completion (or substantial completion) of the contract. The fixing of a date provides a target for achievement. 58. The contractor should be notified of the due date by letter and asked to advise immediately if he is unable to meet the date so that the matter can be discussed without delay. The letter should also mention the acceptability of interim summaries / certificates. A specimen letter is attached at Annex E. 13 of 23

14 Progressing Receipt of Cost Summaries 59. It is vital that Cost Summaries are received by the due date because any slippage impacts upon: a. the time period allowed in the contract conditions for MOD to investigate the prices; and b. the potential benefit MOD may gain from the information in pricing subsequent contracts with the same contractor. 60. Where the contractor fails to meet the due date for Cost Certificates or Summary Cost Statements a commercial officer at Band B2 level or above should be informed. Where an incomplete or less than adequate cost certificate is received, CAAS should be consulted immediately and the contractor advised, in writing, of the deficiencies. 61. If, because a contractor delays providing information, there is a risk that MOD will be left with insufficient time in which to examine the Cost Certificate and Summary Cost Statement, and to conduct any necessary post costing investigation immediate action should be taken with the contractor to secure an appropriate extension. A specimen letter is attached at Annex F. 62. In the event of further delay the case should be brought to the attention of Head of Commercial Systems (DGDCCS-Hd) and Director Projects Enablement Team (DPET) who may decide to alert the Post Costing Programme Group (PCPG). In extreme cases, the PCPG may decide that a precautionary reference to the Review Board is necessary. 63. Action on these lines will not preclude the exercise of MOD rights to an extension under clause 2.a. of DEFCON 650 (i.e. the Review Board expiry date) should this later prove to be necessary. A specimen letter for this purpose is attached at Annex G. Processing Approved Investigation Reports 64. In 'excess profit' cases it may be desirable, however, to make informal, without prejudice, soundings during the post costing investigations of the contractor's attitude to a refund and the amount thereof, so as to ensure that the recommendations subsequently made for settlement of the case are realistic. Such approaches should not be made below Band B2 level. Where it has been agreed that a refund should be sought direct with the contractor, care must be taken not to let such negotiations continue on beyond the Review Board expiry date. Each price adjustment case must be considered on its merits. It is not the intention to deny contractors rewards for outstanding performance, or to make good a loss sustained 14 of 23

15 as a result of poor performance: these are the opportunities and risks which are the calculated incentives of fixed price contracts. The decision process should focus on whether an unconscionable profit (or loss) has been made as a result of the price having been based on inadequate or misleading information and the extent to which it results from superior or inferior performance. 65. In determining an adjustment, the principle to be followed is that the amount of refund (or payment) should be sufficient to bring the overall settlement back to what might reasonably have been negotiated had not the price been based on information which was materially inaccurate or incomplete. 66. This principle applies equally in cases where a contract includes delivery or performance incentives, liquidated damages or variation of price provisions. Any incentive payments or damages payable to or by the contractor should be taken into account under DEFCON 650 (Reference To The Review Board Of Questions Arising Under The Contract) only to the extent that the benefit / liability has accrued as a result of 'defective' information provided by the contractor to MOD or by MOD to the contractor at the time of pricing. In the case of incentive payments, this would be essentially a question of inaccurate or incomplete information provided by the contractor about the target performance / delivery date included in the contract. In the case of damages / profit abatements, it would be necessary for the contractor to show that MOD had been inaccurately or incompletely informed on matters bearing directly on the target performance / delivery date. 67. Although adjustments following post costing will attract Value Added Tax (VAT) in the normal way, any sums negotiated should, in common with all other price negotiations, be VAT exclusive. 68. It is generally preferable, in cases where MOD considers that a refund is due, to seek this by direct negotiation with the contractor rather than by reference to the Review Board. Similarly, where a contractor indicates that he wishes to refer a contract to the Review Board, it is preferable to seek an 'out of court' settlement. Either party to an 'out of court' settlement may report its terms to the Review Board for information. Refer to Pricing - Government Profit Formula for detailed guidance on Review Board Procedures and the associated DEFCONs 650 and 651. Funding Review Board referrals and the Administration of Refunds 69. In circumstances where direct negotiation of the sort outlined at para 68 leaves one party dissatisfied, that party may decide to refer the contract to the Review Board, for price determination. A referral would be made under the terms of DEFCON 650 or DEFCON 650A (or SC50 on older contracts). A MOD referral to the Review Board must be authorised by Commercial Director DE&S, following extensive consultation. 15 of 23

16 70. A referral to the Review Board is likely to be a time-consuming and costly process which the project team will need to fund. In addition to the likelihood of incurring external legal costs, the Review Board will be assisted in any referral by their own Secretariat, the costs of which are met by MOD under a contract with Director Commercial Services (DCS). The contract is primarily to conduct regular reviews of the Government Profit Formula and there is no funding line for individual contract referrals, which are very rare. Project teams having a contract referred to the Review Board (either by themselves or by their contractor) will therefore be expected to transfer sufficient funding to DCS from their own in-year funding, to cover the costs relating to the Review Board Secretariat s input. 71. Repayments from contractors arising from 'out of court' settlements or Review Board decisions are treated as Appropriations in Aid and as such are credited to the Defence Budget. Recovery will be undertaken by Financial Management Shared Services Centre (FMSSC) and acquisition teams should initiate this in accordance with normal procedure for claims against contractors. The responsible finance officer should be alerted to the possibility of a refund and informed of the refund actually agreed. 72. The instructions to FMSSC should confirm that the sum is exclusive of VAT and state the rate of VAT to be applied. The rate of VAT to be applied to the refund will normally be that stated in the contract for bill paying purposes. If, however, the refund covers periods of a contract where different rates applied, or where part of the period is pre-vat, it may be difficult to apportion the refund. In this event, the rate to be charged is that applying at the time the last payment on the contract was made. Any cases of doubt should be referred to the appropriate VAT focal point. Contracts Over 5M and Awarded After 1 July The contractual provisions that secure post costing rights in these contracts are contained in DEFCONs 648A, 650A, 651A, 695 and 696. These DEFCONs were introduced as part of the 2003 General Review of the Government Profit Formula. For more detailed guidance on the implementation of the 2003 General Review and the management of contracts already existing at that date or amendments to such contracts refer to the Pricing - Government Profit Formula topic. 74. The above DEFCONs ensure that the following aspects are agreed and managed through the provisions of the contract: a. the requirements for submission of Cost Certificates and Cost Summaries, final or interim; b. the progressing of receipt of Cost Summaries; and 16 of 23

17 c. the arrangements for the sharing of unconscionable profits or losses on firm or fixed price contracts. 75. The contractor should be notified of his inclusion in the post costing programme in the normal way - the specimen letter at Annex E may be adapted for this purpose. Detailed guidance on the application and use of the individual DEFCONs is provided in paragraphs 76 to 102 below and the table at Annex H illustrates how the DEFCONs apply to different non-competitive pricing circumstances. DEFCON 648A - Availability of Information 76. DEFCON 648A requires the contractor to maintain certain records for a minimum period after completion of the contract and, when requested, to afford reasonable facilities for MOD to examine the records to use the information to price follow-on contracts or amendments and to check the accuracy of its estimating procedures. Additionally either party may, subject to DEFCONs 650A and 651A, use the information to establish whether the contract price should be adjusted for any unconscionable profit or loss in excess of specified thresholds. 77. DEFCON 648A should be used together with DEFCON 650A and 651A as follows: a. In all non-competitive risk contracts (including those arising from NAPNOC agreements and those priced using DEFCON 643 (Price Fixing)) whose estimated cost is greater than 5M (five million pounds sterling), where the price (or any amendment to the contract) is to be established by use of the risk rate of profit in accordance with the Government Profit Formula. b. In competitively won contracts but only for the purposes of amendments and follow-on contracts to the original contract the estimated cost of which is greater than 5M (five million pounds sterling). The extent and the level of cost recording and reporting for amendments and follow-on contracts to competitive contracts shall be agreed as part of the contract negotiations on a case by case basis having regard to the contractor s accounting, recording systems and procedures and the need to have an accurate basis for sharing costs under clause 4 of the DEFCON. 78. These arrangements do not apply to Target Cost Incentive Fee contracts. 17 of 23

18 Important Features Of DEFCON 648A Clause 2 79 Makes provision for the contractor to prepare a Cost Certificate and Summary Cost Statement either on the request of MOD or on his own initiative. The form and content of the Statement shall be as set out in DEFFORM 648A and should be delivered before expiry of the clause 1 period. This enables a contractor anticipating a loss under the contract to notify MOD within the relevant period specified in DEFCON 648A that he intends to submit to MOD a Cost Certificate and Summary Cost Statement. The contractor s notice should indicate the circumstances giving rise to the anticipated loss. Clause lows, as an essential element in equality of information, MOD to examine during the currency of the contract both the records maintained under DEFCON and the contractor s manufacturing processes if this is necessary, to assist MOD in pricing a follow-on order with the contractor. Clause Provides for the sharing of unconscionable profits and losses on all new noncompetitive firm or fixed price contracts with estimated costs over 5M to be implemented through a contract mechanism, without reference to the Review Board. Refer to Pricing - Government Profit Formula for further guidance on application. 82. If gainsharing or other non-cost based incentive arrangements are entered into on a contract subject to DEFCON 648A, the 'gainshare' and other incentive are to be recorded separately from the contract costs on which the calculations for clause 4 are based. Clause Requires the contractor (unless accepting the lowest acceptable competitive tender or otherwise authorised in writing) to make subcontracts (including those with a subsidiary company) of individual value over 150K (one hundred and fifty thousand pounds sterling) (or a higher value if specified in the contract) subject to the provisions of the Appendix that gives MOD the right to post cost and to obtain information for pricing follow-on contracts or subcontracts. 18 of 23

19 DEFCON Interim Summary Cost Statement - Post Costing 84. DEFCON 695 requires contractors to supply interim Cost Certificates and Summary Cost Statements at the intervals specified in the contract, in order to speed up the post costing process. 85. This DEFCON is intended for use on large and particularly long-run contracts. The judicious use of interim Cost Certificates and Summary Cost Statements will create greater certainty over the records assessed for interim Statements and reduce the time taken to conclude any final audit of records under DEFCON 696 (Provisions In Relation To A Final Summary Cost Statement - Post Costing) on completion of the contract. The DEFCON should be included: a. where post costing may be required in non-competitive fixed or firm price risk contracts whose estimated costs exceed 5M (five million pounds sterling) that have been priced in accordance with the Government Profit Formula and include DEFCONs 648A, 650A and 696; and b. have a duration of, say, 5 years or more. 86. This DEFCON should not be applied to contracts priced on ascertained costs or Target Cost Incentive Fee contracts (where costs are recorded under DEFCON 653 (Pricing on Ascertained Costs) arrangements), gainsharing or other cost incentivised contracts, or competitive contracts. It may be applied to amendments to competitive contracts where this is agreed to be practical, see paragraph 77.b. above. Important Features of DEFCON The contract should indicate the intervals for preparation of interim Summary Cost Statements (e.g. on a 10-year contract, an interim Statement might be appropriate at years 5 and 9 years). The intervals stated in the DEFCON should be agreed with contractors on individual contracts and will have regard to their cost accounting system and their work load and that of MOD. 88. Interim Summary Cost Statements should be submitted by the contractor, and assessed by MOD, in a timely manner, otherwise they will not achieve the objective of speeding up the post costing process. 89. Interim Summary Cost Statements may include declared estimated figures covering charges that cannot be determined accurately without undue delay. The Statement should not include the value of commitments entered into for which expenditure has not been incurred. 19 of 23

20 DEFCON Provisions Relating To A Final Summary Cost Statement - Post Costing 90. DEFCON 696 addresses the administration of final Cost Certificates and Summary Cost Statements and, for large contracts, the incentives for timely submission and audit of adequate Statements. It should be included where post costing may be required in non-competitive, fixed or firm price risk contracts over 5M (five million pounds sterling) that have been priced in accordance with the Government Profit Formula and include DEFCON 648A and 650A. 91. This DEFCON should not be applied to contracts priced on ascertained costs or Target Cost Incentive Fee contracts, gainsharing or other cost incentivised contracts, or competitive contracts. It may be applied to amendments to competitive contracts where this is agreed to be practical, see paragraph 77.b. above. Important Features of DEFCON This DEFCON establishes a due date for the submission of final Cost Certificates and Summary Cost Statements, when these have been requested under clause 2 of DEFCON 648A (Availability of Information). As a result of the due date being related to the date of request, or the substantial completion of delivery of goods or of performance of services, rather than the end of a contractor s financial year, some of the costs in the Statement may have to be estimated. 'Substantial completion' encompasses completion of specified deliveries or performance of services except for final administration matters outstanding, unless otherwise agreed. 93. The extent that costs are estimated may depend on how soon the Statement is prepared and what residual costs have yet to be realised or accumulated as a result of, for example, incomplete work, final year reconciliation's, warranty or returns costs (particularly if there is not an express limitation on the duration of warranty or return liabilities). The principles are: a. contractors should submit Statements as soon as possible; b. Statements may include estimated costs to completion; c. the aim should be to have Statements with estimates of less than 2%; d. in the interests of timely submission, Statements may include and be submitted with estimates greater than 2%, where this is reasonable and justified, by local agreement with MOD; 20 of 23

21 e. there will be a need to distinguish between estimates for cost to completion (including post delivery liabilities) and estimates for rates and factors for work already completed; the former feature will be more significant in assessing the acceptability of the estimates in the Statement. 94. If within 12 (twelve) weeks from the date of submission there is no agreement between MOD and the contractor on the extent of the use of estimated cost to completion in the Statement and MOD notifies the contractor that the Statement is inadequate on those grounds, the parties may refer the matter to the Review Board for resolution. 95. If the thresholds for cost sharing set out in DEFCON 648A (Availability of Information) have been reached then the settlement will be based on a final Cost Certificate and Summary Cost Statement where the estimates are less than 2% of the contract price. 96. If the contractor considers that there is a basis for adjusting the contract price for a loss in excess of the specified threshold under clause 4 of DEFCON 648A (Availability of Information) then he may prepare a Cost Certificate and Summary Cost Statement for review by MOD on his own initiative under the provisions of clause 2 of DEFCON 648A. Retentions In Relation To Delivery of Final Summary Cost Statement 97. A retention of 2% of the contract price is applicable to contracts having an estimated cost over 10M (ten million pounds sterling). For contracts having estimated costs below 10M (ten million pounds sterling) a retention may be applicable where MOD notifies the contractor within 6 months of the period stated in clause 1 of DEFCON 648A (Availability of Information). 98. Contracts having estimated contract costs over 50M the amount of the retention will be reduced from 2% to 1% of contract price provided that interim Cost Certificates and Summary Cost Statements have been supplied in accordance with DEFCON 695 (Interim Summary Cost Statement - Post Costing). 99. The retention should not be part of any milestone or other interim payment scheme. It should be paid directly to MOD by the contractor within 30 days of the request from MOD for a final Cost Certificate and Summary Cost Statement in accordance with clause 1 or, in default of which, set off from any payment becoming due to the contractor by the MOD instructing Financial Management Shared Service Centre (FMSSC) to set off the amount under DEFCON (509 Recovery of Sums Due) specifying the relevant contract. The contractor shall make payment of the retention by means of a cheque payable to MOD and sent to FMSSC who will acknowledge receipt. 21 of 23

22 100. On completion or cessation of the audit of a final Cost Certificate and Summary Cost Statement, or 6 months after delivery of an adequate Statement, the relevant commercial officer of the acquisition team or Support Group is to notify FMSSC to enable the contractor s invoice for the repayment of the retention to be processed. Working Capital Servicing Allowance 101. In order to compensate the contractor for the retention made, the contractor is able to claim an allowance, where the amount claimed in accordance with DEFCON 696 (Provisions In Relation To A Final Summary Cost Statement - Post Costing) would be 10K (ten thousand pounds sterling) or more, unless the submission of an adequate final Cost Certificate and Summary Cost Statement was more than 12 months late Furthermore, where payments are due to either party under DEFCON 648A (Availability of Information) then an allowance may be claimed in accordance with this DEFCON 696 (Provisions In Relation To A Final Summary Cost Statement - Post Costing) until that payment is made, if the allowance would be 10K (ten thousand pounds sterling) or more. Associated Documents Annex A Annual Procedure For Selecting New Post Costing Cases Annex B Treatment Of APL / BPL Spares Contracts Annex C Guidance On DEFFORM 133 Annex D Post Costing Data Sheet Example - DEFFORM 133 Annex E Specimen Letter Advising Selection For Post Costing Annex F Specimen Letter Seeking Extension Of The Relevant Period During Which Clause 1 Of DEFCON 648 Applies Annex G Specimen Letter Invoking Clause 2 Of DEFCON 650/650A Annex H Pricing Conditions For Non-Competitive Contracts Above 250K Essential Reading Pricing - Equality Of Information topic Pricing - Government Profit Formula topic Further Reading Pricing - Non-Competitive NAPNOC topic 22 of 23