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frank.watson

Pricing- Fair and Reasonableness

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H2H, I agreed with you when you first told the story and I agree with you now.

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H2H, in your post 22, you did not answer my question as to what difference does it make if there are other potential subcontractors who could do the work cheaper than the proposed sub? Why do we care? What requires a prime to get the cheapest sub available?

Well, there is the requirement found in 52.244-5 that "The Contractor shall select subcontractors (including suppliers) on a competitive basis to the maximum practical extent consistent with the objectives and requirements of the contract."

I grant you there are a number of ways around that agreement between contractor and government. But I was also thinking about the requirement found in 52.244-2 to submit a negotiation memo within the consent package. There are a number of required elements in the memo, including--

(A) The principal elements of the subcontract price negotiations;

( B) The most significant considerations controlling establishment of initial or revised prices

But I grant you those elements could be finessed in this scenario.

I was also thinking about cost allowability and the requirement of 31.201-2 and the cost reasonableness requirements of 31.201-3, specifically --

( B) What is reasonable depends upon a variety of considerations and circumstances, including --

(1) Whether it is the type of cost generally recognized as ordinary and necessary for the conduct of the contractor’s business or the contract performance;

(2) Generally accepted sound business practices, arm’s-length bargaining, and Federal and State laws and regulations;

(3) The contractor’s responsibilities to the Government, other customers, the owners of the business, employees, and the public at large; and

(4) Any significant deviations from the contractor’s established practices.

And I also noted that, if challenged, the burden is on the contractor to prove its costs meet the reasonableness standard. But I grant you that the contractor could argue its way out of that, though probably only with the help of expensive attorneys.

So I grant you all the above and I even concede that price reasonableness can be established by a number of methods other than competition. I give you all that.

And I still feel that, in this case, the prime contractor has done a poor job of establishing price reasonableness when it simply compares the price offered by its sole-source subcontractor to its own costs for performing the same work. When I ran a contractor procurement shop, I would not have let my buyers use that rationale to justify subcontractor price reasonableness. My buyers would have needed to bring something better than that to me for approval.

*Shrug*

Maybe it's just me.

H2H

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H2H:

Thanks for the info. I've seen a few times where a contracting officer relied on someone else's faulty determination or one that may otherwise be irrelevant.

The policy of using previous purchases is valid, it's the individual's shortcoming if they abuse/misuse it.

I can see why you have taken the position you have though.

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"We found a subcontractor who fits in the right socioeconomic category to help us both make our small business plan goals. We carved out some of the work we were going to perform so that we could make an award to this subcontractor. The subcontractor may or may not be qualifed -- we didn't look too hard at that aspect -- but we know the subcontractor is in the right category so that will solve our problem. As for pricing, we made sure the subcontractor's rates were lower than ours. So you (Frank) are getting a deal! You will see a cost savings because some of the work we were going to perform will be performed by this subcontractor at lower rates. Honestly, we didn't look at whether we could find other subcontractors who could do the work even cheaper, because that wasn't the point of the exercise. The point of the exercise was to find a subcontractor in the right socioeconomic category and give them some work so that we can claim we made our small business commitments. We found that subcontractor and we want to make a sole-source award.

"So please approve this award and we can all claim victory when the SADBU looks at our program!"

Emphasis added.

Come on, help. Why would they seek consent for a firm that they say they don't know to be qualified? Why make qualification an issue? Why can't we just assume that the firm is qualified and focus on the pricing question that frank asked?

frank wants to know whether the competitively determined contract rates can be used as benchmarks for determining the fairness and reasonableness of a prospective sub's rates. You've set up the "conversation" (only one party is speaking) between frank and the prime so as to avoid frank's question. You've turned the subcontract pricing issue into a subcontractor selection issue. By the way, frank did not say that a sub had been selected or that a sub had been selected on a sole source basis. He just asked about a method for determining the fairness and reasonableness of a sub's proposed rates.

The widget story you told in Post #25 has nothing whatsoever to do with frank's question. It is entirely irrelevant. frank asked about pricing hourly labor rates. He did not ask about pricing the manufacture of source-controlled military spare parts. I'd call that story a red herring if anybody else had posted it. I know you're sincere, but I reject the story as an object lesson in this case.

I say frank can determine fairness and reasonableness of subcontractor labor rates based on price analysis and comparison with the competitively determined prime contract rates. It appears that your position is to demand subcontractor cost data and to take a cost and profit analysis approach. I'm sticking to my position.

If the prime contract rates are fair and reasonable based on the current market, and if the sub's rates are comparable, then I don't care how much profit the sub makes and I'm not going to tell the prime to do a cost and profit analysis. COs are not profit police. Profit is a consideration only when there are no market prices, as when we buy strategic bombers. That's been government pricing doctrine ever since the day I entered government service.

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"I say frank can determine fairness and reasonableness of subcontractor labor rates based on price analysis and comparison with the competitively determined prime contract rates. It appears that your position is to demand subcontractor cost data and to take a cost and profit analysis approach. I'm sticking to my position."

Well, no. I never said that. I did say that a simple comparison of rate to rate created a opportunity for a windfall profit for the subcontractor, but there are ways to address that -- including comparison of the subK's proposed labor rates to rates previously found to be fair and reasonable for similar services offered by firms competing independently. I objected to the prime saying, "Hey, my rates were found to be fair and reasonable by the government in my competition last year, so if my subcontractor's rates are lower than my rates, then I can find them to be fair and reasonable today." And I've stated why I have a problem with that logic.

My position is that the prime contractor is not the market and we don't know what the market rates are if we only look at the prime's rates as establishing market rates.

You and others disagree and I can live with our divergent views.

And I continue to object to your phrasing "Frank can determine fairness and reasonableness" because I continue to assert it is the prime's responsibility to make that determination and not the Government CO's responsibility. Unless you are arguing that the prime is acting as an agent for the Government? I didn't see you make that argument but, unless you are, then privity of contract has to mean something in this context.

H2H

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And I continue to object to your phrasing "Frank can determine fairness and reasonableness" because I continue to assert it is the prime's responsibility to make that determination and not the Government CO's responsibility. Unless you are arguing that the prime is acting as an agent for the Government? I didn't see you make that argument but, unless you are, then privity of contract has to mean something in this context.

Help, that is just plain wrong. Dead wrong.

15.404-3 Subcontract pricing considerations.

(a) The contracting officer is responsible for the determination of a fair and reasonable price for the prime contract, including subcontracting costs. The contracting officer should consider whether a contractor or subcontractor has an approved purchasing system, has performed cost or price analysis of proposed subcontractor prices, or has negotiated the subcontract prices before negotiation of the prime contract, in determining the reasonableness of the prime contract price. This does not relieve the contracting officer from the responsibility to analyze the contractor’s submission, including subcontractor’s certified cost or pricing data.

15.404-3(1) says that the prime shall conduct analyses to "establish" the reasonableness of proposed subcontract prices and that it must include the results of its analysis in its proposal to the Government. But the contracting officer is responsible for the determination of fairness and reasonableness. The prime gets to have an opinion. Only the CO makes a determination. I know of no place in FAR that says that the prime determines that a subcontract price is fair and reasonable. Do you? Where is it? I did a Westlaw search and could not find any statement in which the word contractor is connected to the phrase subcontract price or price of the subcontract by the word determine or determination.

Not even the DCAA audit manual says that the prime determines the fairness and reasonableness of the subcontract price. DCAAM 9-104.1 says that the prime has "primary responsibility for evaluation of subcontractor proposals" and must "provide the results" to the CO, but it does not say that the prime determines anything.

The prime opines. The CO determines.

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Vern,

Yes, you are correct. That's what the FAR says. I was wrong in that regard. I was assuming that the determination identified in 15.404-3 applied to prospective costs proposed by a contractor seeking a contract award. I now know that it applies to determinations made after award when the CO is considering whether or not to issue consent to subcontract.

This is a good thing! If the CO determines that the subcontract price is fair and reasonable by consenting to the award, I now have a defense against downstream claims by DCAA and DCMA that the price was not reasonable in the cost allowability determination.

Thank you.

H2H

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All:

Here is guidance from the Contract Pricing Reference Guides (see FAR 15.404-1(a)(7)), on the use of historical prices in determinations of fairness and reasonableness.

Volume 1, "Price Analysis,"

Chapter 6, "Comparing Prices,"

Section 6.1, "Selecting Prices for Comparison,"

Subsection 6.1.3, "Previously-Proposed Prices and Contract Prices."

6.1.3 Previously-Proposed Prices And Contract Prices

Historical Prices (FAR 15.404-1(2)). Previously-proposed prices and validated contract prices that were paid (whether by the Government or other than the Government) are historical prices paid for same or similar items-- prices related to past purchasing activity. The purchase associated with a particular price may have been made by your office or another office with similar requirements.

Note: The prior price used for comparison must be validated and reasonably current in order to be used for comparison analysis.

Using Historical Prices. Whenever you consider using historical prices to analyze price reasonableness, ask the following questions:

Has the product been purchased before?

The purchase may have been made by your procurement office or by another purchasing office.

What was the historical price?

You can obtain price information from purchase files, computer data files, or manual inventory item records.

Was the historical price fair and reasonable?

For a historical price to be useful in determining the reasonableness of an offered price, you must know that the historical price was fair and reasonable. Be careful! It is not uncommon to review an item purchase history and find that no other than that the last price paid has a significant time lapse between the last acquisition and the present one, the terms and conditions are significantly different, been used for years to determination of price reasonableness may be uncertain. In one study, the entire pricing histories for several items were reviewed and analysts found that for every acquisition except the first, the determination of price reasonableness was based on the last price paid. Analysts also found that the first acquisition was a multiple-item acquisition and while there was an analysis of the reasonableness of the overall acquisition price, no one ever examined the reasonableness of individual item prices. In other words, for years contracting officers found prices reasonable based on an arbitrary decision made during the first acquisition. The analysis You must ensure that the prior price was determined fair and reasonable based on an adequate price or cost analysis and the basis can be validated. Often, this may only require a phone call to the other contracting activity to obtain assurance that an adequate price/cost analysis was previously performed.

Is the comparison valid?

For the comparison to be valid, you must be able to identify and consider any item or market differences that might significantly affect contract price. A proper analysis validates the basis on which the prior price paid was determined fair and reasonable by examining the prior price to ensure there has not been a significant time lapse, the terms and conditions are not significantly different, and the reasonableness of the price is not uncertain. If these conditions cannot be met or information is lacking in documentation then the prior price may not be a valid basis for comparison.

Was the Price Adjusted?

The prior price must be adjusted to account for materially differing terms and conditions, quantities and market and economic factors. For similar items, the contracting officer must also adjust the prior price to account for material differences between the similar item and the item being procured (FAR 15.404-1(2)(ii)). The analysis must also account for minor modifications.

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This is a good thing! If the CO determines that the subcontract price is fair and reasonable by consenting to the award, I now have a defense against downstream claims by DCAA and DCMA that the price was not reasonable in the cost allowability determination.

Sorry to be a killjoy, but FAR 44.203(a) states:

The contracting officer’s consent to a subcontract or approval of the contractor’s purchasing system does not constitute a determination of the acceptability of the subcontract terms or price, or of the allowability of costs, unless the consent or approval specifies otherwise.

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Ah, Don. I knew it was too good to be true.

I guess this is just one more FAR thing that looks like an inherent contradiction but is really not. So much to learn ...

H2H

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CO determinations are usually for the Government's own benefit. They are not for the benefit of contractors. Thus, the distinction between inspection and acceptance of supplies and services.

Government contract quality assurance is for the Government's benefit, and contractor's cannot rely upon Government inspection findings. See e.g., FAR 52.246-2(k). See also Administration of Government Contracts 4th ed., pp. 790 - 793. The contractor is off the hook only when the CO accepts. The contractor must inspect and is entitled to opine. The CO determines by acceptance.

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In this case, we (I) don't know whether this is a consent to subcontract or if it is a negotiated change to establish new contract labor hour rates for a sole sourced subcontractor to perform some of the work that the prime was originally going to perform. Frank appears to have checked out.

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Joel:

frank wanted to add a subcontractor, presumably, to do some work under a prime contractor performing a task. He wanted to know about proving fairness and reasonableness of price by comparing subcontractor rates to prime contractor rates. Whether or not consent to subcontract is required, if the sub's rates are to be added to the prime contract schedule, the CO will have to assent the sub and to the rates.

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Jamaal,

I posted this story before (I forget where) and it's a true story. Some details are changed to protect me from lawsuits.

There was a long-time DoD contractor who supplied a widget to a particular military service. That service used source-controlled drawings to buid its MDAP-type stuff. So every time a big thingee was authorized to be built the service went to the same source: the contractor. The contractor responded the same way to every RFQ/RFP it received: last time we sold you this widget, you bought x amount and paid $y amount per each. That amount was determined to be fair and reasonable -- see contract no. 12345. It's been a year (or 2 or 3 years) since your last acquisition, and during that period the CPI went up p%. So all we are asking for is that same rate as escalated by p%. It was fair and reasonable last time, so you should find it to be fair and reasonable this time

And indeed, the contractor had no trouble whatsoever selling its sole sourced widgets via comparison to the prior acquisition, which had determined to be sold at a fair and reasonable price. And then that sale became the basis for the next sale, and so on and so forth for literally decades.

But nobody ever asked the contractor about its costs, because why should they? Why should they care because if the price was previously found to be fair and reasonable, it was easy to see this current price was also fair and reasonable.

But if anybody had ever asked, the contractor would have told them that they completely changed production methods over the past decade or two, and in fact had outsourced the work to a foreign country for the cheap labor. (FYI, the foreign country was not a problem; the contractor was compliant with applicable regulations in that regard.) But after making all the changes, it cost that contractor about 30% of what it used to cost to make that widget.

PROFIT!!

So that's why I'm sensitive to this topic.

H2H

Here is the previous thread that you were referring to above, H2H. In that thread there appeared to be consensus that a prudent buyer should do more than merely compare a proposed price with previous sales/purchases when determining that the price is acceptable or fair and reasonable (e.g, see Vern's post #33 above). http://www.wifcon.com/discussion/index.php?/topic/2449-15404-1b3-why-are-the-first-2-techniques-preferred/

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