How prices are determined by incurred costs

#03

Usually, a fixed-price contract is performed when the payment amount does not depend on resources used or time expended for services or supplies to build it, and because these don’t require adaptation or design efforts significant.

However, a price-plus contract is opposed to those before because cost and profit are negotiated with contractors, and the final price depend from really consumption of resources (incurred costs) and financial and operative risk taken by economic operator on develop contract. A price-plus contract is also called like a cost reimbursement contract, because this is where a contractor is paid for all its allowed expenses to a set limit plus additional payment to allow for a profit.

When contracting authorities have to do a purchasing of innovation services or supplies, also they need the flexibility for choose procedures of acquisitions that should include negotiation. Negotiation, to what?, for have success on determining its performance or yield, quality and reasonable price of products or services that don't exists on the market and, of they, we only know which is our need. They are research and innovation goods or services that should be buyed in situations where open or restricted procedures without negotiations are not likely to lead to satisfactory procurement outcomes, and is better through a competitive procedure with negotiation, as the competitive dialogue or innovation partnership.

Determining of incurred cost allocable, allows to contracting authority know which is the reasonable price of innovation purchase, through to a exam from contractor's cost representations, and in whatever form they may be presented –such as interim and final public vouchers, progress payments, incurred cost proposals, termination claims of contract and settlement, or final overhead rates claims–, and get an professional opinion, for approval those costs, as to whether such incurred costs are reasonable, applicable to the contract, determined under generally accepted accounting principles and cost accounting standards applicable in the circumstances, and not prohibited by the contract, by statute or regulation, or by previous agreement with, or decision of, the contracting officer.

Incurred cost audits are usually performed on contractors that have been awardees by services and products of innovation through negotiated procedures. This approach, for determining the price, recognizes the efficiency of addressing the adequacy of management and financial systems and internal controls combined with transaction testing across all contractor business activities, and are made by contract audit services.

Regardless of the audit approach, in all audits emphasis will be on determining the overall acceptability of the contractor's claimed costs with respect to:

1. reasonableness of nature and amount;
2. allocability and capability of measurement by the application of duly promulgated Cost Accounting Standards and generally accepted accounting principles and practices appropriate to the particular circumstances; and
3. compliance with applicable cost limitations or exclusions as stated in the contract clauses, European Directives or Members States laws.

What is contract audit?

#02

Cost's contract audit is an exam, and means develop sufficient evidence to support a valid opinion about the extent to which contractor incurred costs on carrying out a contract, or estimating costs on his offer, and are contained in his claim for reimbursement or a bid proposal, about whether cost is:

• reasonable, as to nature and amount,
• allocable and measurable by the application of duly promulgated of cost accounting standards, provisions and contract clausues,
• generally accepted by accounting principles and practices appropriate to the particular circumstances; and
• in accordance with applicable cost's limitations, or exclusions, as stated in the contract or in public procurement rules of European Union.

The scope of audit is contractor's accounting nomenclature, chart of accounts, accounting manuals and financial statements. Besides, the auditor's professional opinions and his conclusions on the acceptability of contract costs, must be based on the auditor's knowledge of the contractor's practices on classification, grouping and allocating of costs, and the actual nature of the expenditures charged to the various accounts and classifications. This knowledge is best gained by selective testing of transactions recorded in the various accounts.

The auditor, at all times, should be alert to any matters that may affect the contract's prudent and efficient management. When the auditor becomes aware of the need for improved practices of costs contract, must be advise to contractor for to take measures correctives and, to the maximum extent feasible, those recommended be included in the audit report.

In performing normal procedures of cost's audit, in connection with a contract's examination, auditors should be alert for indicators of excessive prices or unreasonable profits; and by evidence of overcharges or inadequate refund compensation to the contract. If the auditor finds some of them, as also facts or things involving suspected fraud or other similar irregularities and defective pricing, immediately must be communicated to contracting authority.

Why contract audit

#01

Directive 2014/24/EU of the European Parliament and of the Council, of 26 February 2014, says:

"Member States should be able to provide for the use of the competitive procedure with negotiation or the competitive dialogue, in various situations where open or restricted procedures without negotiations are not likely to lead to satisfactory procurement outcomes”

"The competitive procedure with negotiation should be accompanied by adequate safeguards ensuring observance of the principles of equal treatment and transparency. In particular, contracting authorities should indicate beforehand the minimum requirements which characterise the nature of the procurement and which should not be changed in the negotiations. Award criteria and their weighting should remain stable throughout the entire procedure and should not be subject to negotiations, in order to guarantee equal treatment of all economic operators. Negotiations should aim at improving the tenders so as to allow contracting authorities to buy works, supplies and services perfectly adapted to their specific needs. Negotiations may concern all characteristics of the purchased works, supplies and services including, for instance, quality, quantities, commercial clauses as well as social, environmental and innovative aspects, in so far as they do not constitute minimum requirements", and –also, why not: the requirements about reasonability and allowability of costs for its allowance on contract and reimbursement required by contractor–".

"Contracting authorities should be allowed to shorten certain deadlines applicable to open and restricted procedures and to competitive procedures with negotiation where the deadlines in question would be impracticable because of a state of urgency which should be duly substantiated by the contracting authorities. It should be clarified that this need not be an extreme urgency brought about by events unforeseeable for and not attributable to the contracting authority."

"Research and innovation, including eco-innovation and social innovation, are among the main drivers of future growth and have been put at the centre of the Europe 2020 strategy for smart, sustainable and inclusive growth. Public authorities should make the best strategic use of public procurement to spur innovation. Buying innovative products, works and services plays a key role in improving the efficiency and quality of public services while addressing major societal challenges. It contributes to achieving best value for public money as well as wider economic, environmental and societal benefits in terms of generating new ideas, translating them into innovative products and services and thus promoting sustainable economic growth."

The contract audit provides tools to contracting authorities to make wise purchases on environments of negotiating procedures, like competitive dialogue and the innovation partnership, where are acquired research and innovation products or services, and its price is determined with high risk environment.

The purpose of the contract audit, on negotiated procedures of public procurement, is to assist for procurement authority in achieving prudent contracting by providing those responsible, financial information and advice relating to contractual matters about the effectiveness, efficiency, and economy of contractor's operations.

Contract audit activities include providing professional advice on accounting and financial matters to assist in the negotiation, award, administration, repricing and settlement of contracts. Auditor's interest encompasses the totality of the economic operator's operations. Audits are performed to assure the existence of adequate controls which will prevent or avoid wasteful, careless, and inefficient practices by economic operators.

These audits include the evaluation of a contractor's policies, procedures, controls and actual performance, identifying and evaluating all activities which contribute to, or have an impact on, proposed or incurred costs of public contracts. The areas which are concerned by auditors include adequacy of contractor's policies, procedures, practices, and internal controls relating to accounting, estimating, and procurement; the evaluation of contractor's management policies and decisions affecting costs; the accuracy and reasonableness of contractor's cost representations; the adequacy and reliability of contractor's records; the financial capabilities of the economic operators; and the appropriateness of contractual provisions having accounting or financial significance.

Auditors perform evaluations of contractor's statements about their claims for reimbursement of incurred costs on contract; estimated cost for price offered on proposals; and proper function upon their effectiveness of the policies, procedures, and internal controls practices.

Such evaluations may consist on test checks of a limited number of transactions or in-depth examinations at the discretion of the auditor due by current circumstances.