Defense takes aim at contractor business systems

The Defense Department is getting tough on contractors that fail to maintain adequate controls against waste, fraud and abuse.

In a draft rule posted Friday in the Federal Register, Defense proposed allowing contracting officers to withhold payments from companies with certain deficiencies in their business systems.

A clause would be added to contracts requiring firms to certify that they have no major defects in their systems for accounting; purchasing; estimating; and property, earned value and material management. The notice outlined the criteria for a sound business system in the six areas.

Contracting officers would have the authority to withhold payments on cost reimbursement, incentive-type, time-and-materials, and labor-hour pacts, according to the proposed rule. They also could do so on contracts that provide progress payments based on costs or on a percentage or stage of completion.

"Weak control systems increase the risk of unallowable and unreasonable costs on government contracts," the draft rule stated.

The proposal relies on auditors from the Defense Contract Audit Agency or other "functional specialists" to document any business system deficiencies.

If companies fail to fix documented problems, or do not submit a corrective action plan within 45 days, then contracting officers could immediately begin withholding 10 percent of the payments under the contract, the notice stated. If firms submit an acceptable corrective action plan but do not completely remedy the identified deficiencies, then contracting officers could withhold 5 percent of each payment.

For companies with defects in multiple business systems, generally the cumulative percentage of payments withheld could not exceed 50 percent, the rule said.

Penalties would increase significantly if the problems are not addressed. Withholdings could reach 100 percent for deficiencies deemed "highly likely to lead to improper contract payments being made," or problems representing "an unacceptable risk of loss to the government."

The contracting officer and the auditor must approve any corrections to business systems, according to the proposal.

The business systems of Defense contractors, particularly those operating in Iraq and Afghanistan, have come under intense scrutiny recently.

Last year, the congressionally chartered Commission on Wartime Contracting examined a selection of reports on contractor business systems associated with $43 billion of work and found auditors had deemed half the systems for billing and compensation "inadequate" and prone to unallowable costs. Panel staffers uncovered somewhat smaller problems with the systems used for accounting, budget, electronic data processing, indirect and overhead costing, labor and purchasing.

During an August hearing, commission members cited a lack of cooperation between the Defense Contract Management Agency and the Defense Contract Audit Agency as one of the biggest impediments to oversight of contractors' business systems.

The commission noted in its June 10, 2009, interim report to Congress, that "significant deficiencies in contractor systems increase the likelihood that contractors will provide proposal estimates that include unallowable costs or that they will request reimbursement of contract costs to which they are not entitled or which they cannot support."

Comments on the proposed rule will be accepted until March 16 and can be e-mailed to dfars@osd.mil with DFARS Case 2009-D038 in the subject line.