DCAA has issued new guidance, including a new audit program for performing examinations to evaluate proposed costs and indirect rates in support of contracting officers’ cost realism analysis. The guidance states the cost realism analysis– an opinion on whether a contractor’s proposal on a cost type contract is realistic or significantly understated – should include auditor analysis of specific cost elements (e.g. direct labor rates, indirect rates) of a proposal and to provide a level of assurance the proposed costs/rates are not significantly understated. The guidance states that Agreed Upon Procedures (AUP) – limited audit steps where steps to be taken are specified beforehand – are not appropriate for their audits since AUP engagements cannot provide opinions, assurances (either positive or negative) or findings based on materiality.  The guidance adds that an AUP may be appropriate when there is a limited amount of data provided by the contractor due to the competitive nature of the procurement. When there is a request, the auditor is instructed to obtain a clear understanding of the requestor’s needs and discuss with the requester the appropriate level of review and audit. Highlights of the new Audit Program when conducting an audit of parts of a proposal under a Cost Realism analysis include:

Preliminary Steps
Considering risk factors, prepare a request assist audit for subcontractor proposed costs.
• Document the understanding of the contractor’s internal controls related to accounting and estimating.
• If the contractor is classified as non-major and the evidential material is highly dependent on computerized information systems, either document the audit work performed that supports reliance on the computer-generated evidence or qualify the report.
• If the contract is CAS covered (either full or modified), the auditor needs to consider the contractor’s compliance with applicable CAS requirements as part of the proposal evaluation.
• Consider audit leads, key prior audit findings or outstanding CAS noncompliances. . Consider fraud risk indicators found in the DCAA Contract Audit Manual, Figure 4-7-3.
• Conduct an entrance conference only if the requester permits discussions or communications. If a subcontract, obtain the subcontractor’s written consent for release of the audit report or reasons for not authorizing release.

Indirect Rates (Overhead, G&A, Fringe and Cost of Money)
• If agreed-to rates or forward pricing rate agreement (FPRA) exists, verify proper application.
• If they do not exist, compare proposed rates to other sources (e.g. year-to-date experience) and analyze major variances. Determine if the proposed rate structure is the same used to accumulate actual costs and is consistent with disclosed practices.
• Determine that the rates proposed consider known and significant volume changes.
• Ensure the period for the proposed rates coincides with the contractor’s fiscal years.

Subcontracts
• Evaluate subcontract or interorganizational transfer costs for possible over or understatement. Determine adequacy of competition.
• For sole source subcontracts where assist audits were not requested, evaluate contractor’s cost or price analysis of the subcontract/ interorganizational transfers.
• If contractor’s cost or price analysis of a sole source subcontract is inadequate or unavailable and the subcontract cannot be evaluated by other techniques (current or historical data) contact the cognizant audit office of the subcontractor for telephone rate verification.

Direct Labor Rates

• If agreed-to or FPRA rates exist, verify proper application. If they do not, select labor categories with significant costs and compare proposed rates to other sources (e.g. actual/historical costs rates or budget data). 

Direct Material Costs
• Evaluate a sample of proposed material items (generally limited to high dollar items). 

Other Direct Costs (ODCs)
• Evaluate a sample of proposed ODC items (generally limited to high dollar items) for possible over/understatement. Ensure costs are being proposed in accordance with disclosed practices (e.g. direct costs proposed are not indirect costs)(07-PSP-030(R).

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