Types of Contracts and
Contractual Vehicles in
Federal (DOD) Procurements
NCMA Boston Chapter March Workshop
Bentley College
16 March 2011
Jerome C. Burke (Jerry)
BAE Systems
Group Vice President, Contracts
Electronics, Intelligence & Support
1
Course Objective
• An overview of the various types of contract vehicles
used in Federal (DoD) Procurement.
• A basic Understanding of the differences in Fixed Price
and Cost Reimbursable Contract arrangements.
• An appreciation for the “Allocation of Risk” in the
selection and application of contract type.
• An understanding of the true nature of the concepts of
“Fee” and “Profit” and how they differ.
• An appreciation of the different “Behaviors” of Buyer
and Seller in different contract types.
J.C. Burke NCMA March Workshop
Bentley College 16 March 2011
Flow-Charting the Contracting Process
Fixed Price
Environment
Allocation
of Risk
Determination of
Contracting
Environment
Motivation &
Behaviors
Cost Type
Environment
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Bentley College 16 March 2011
PRODUCT
OUTCOME
SALES &
PROFIT
Primary Contract Types
The Procurement World Can be Divided
Between Two Primary Contract Types
• Fixed Price Arrangements
• Cost Reimbursement Arrangements
… And there are numerous variations of the themes.
The “Variations” create what some texts Identify
As a Third Primary Contract Type
• The Incentive Arrangement
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Bentley College 16 March 2011
Contract Type and the Profit Factor...
• Fixed Price Arrangements
– Generally Involve Profit
Discussions
• Cost Reimbursable Arrangements
– Generally Involve Fee Discussions
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Bentley College 16 March 2011
Definitions to Remember
Profit: The difference between the cost of a product or
service and the price charged for that product or service.
The Seller of the product or service can impact his profit
through positive or negative performance.
Fee: A set sum certain to be paid by the Buyer to the Seller
for providing a product or rendering a service. The fee as
a real dollar amount is not impacted by fluctuations in
performance.
J.C. Burke NCMA March Workshop
Bentley College 16 March 2011
Striking The Critical Balance
Risk
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Rewards
Primary Contract Types
Fixed Price
•
•
•
•
•
Firm Fixed Price (FFP)
Fixed Price Incentive (FPI)
– Firm Target (FPIF)
– Successive Targets (FPIS)
Fixed Price Level of Effort (FP LOE)
Fixed Price Award Fee
Fixed Price w/ Redetermination
– Economic Price Adjustment
– Prospective Price Redetermination
– Retroactive Price Redetermination
J.C. Burke NCMA March Workshop
Bentley College 16 March 2011
Cost Reimbursable
•
•
•
•
Cost Sharing
Cost Plus Fixed Fee (CPFF)
Cost Plus Incentive Fee (CPIF)
Cost Plus Award Fee (CPAF)
Primary Contract Types
• Time & Material
– Elements of both Fixed Price (Established Firm Labor Rate) & CR
(only what is used)
• Indefinite Delivery/Indefinite Quantity (ID/IQ)
• Basic Ordering Agreements
• Level of Effort and/or Term
• Any Combination of the above, including the prior page…
And worthy of mention, although not technically a “contract” …
• Other Transactions Agreements (U.S.C. 2371, Section 845’s)
J.C. Burke NCMA March Workshop
Bentley College 16 March 2011
Federal Procurement Basis For
Contract Types
• 48 CFR Part 16 (CFR = Code of Federal Regulations)
• FAR Part 16 (FAR = Federal Acquisition Regulations)
Other Good Resources For Information on Contract Types
• Formation of Government Contracts, John Cibinic & Ralph Nash,
Government Contracts Program, George Washington University.
• NASA Guide on Incentive Contracting
• A Bunch of Websites
• Your Favorite Local Contracts Professional!
J.C. Burke NCMA March Workshop
Bentley College 16 March 2011
Fundamental Principle
• The selection of Contract Type is the Primary Factor in the
Allocation of Risk and the Nature of the Profit Determination
- or - conversely
• The allocation of risk and the nature of profit determination are
the primary factors in the selection of a contract type.
J.C. Burke NCMA March Workshop
Bentley College 16 March 2011
Selection of Contract Type….
Straight From the Regs
• Contract types vary according to:
1 The degree and timing of the responsibility assumed by
the contractor for the costs of performance; and
2 The amount and nature of the profit incentive offered
to the contractor for achieving or exceeding specified
standards or goals.
J.C. Burke NCMA March Workshop
Bentley College 16 March 2011
Of Risk and Profit …
Allocation of Risk: Who bears the financial risk of
performance of the effort under contract between
Buyer and Seller?
Profit Determination: How variable is the margin
potential to the seller of the effort under contract?
– “Variable” is the Key Word.
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Bentley College 16 March 2011
Allocation of Risk
Who bears the Financial Risk of performance of the effort
under contract between buyer and seller
– Fixed Price Arrangement - allocation of financial
risk is solely on the Seller.
• Addresses Financial Risk - There are other tangible risks
but not discussed here.
• Effort is performed for a pre-established, agreed,
negotiated price. Seller will Provide “X” for set price “Y”
J.C. Burke NCMA March Workshop
Bentley College 16 March 2011
Allocation of Risk
Who bears the Financial Risk of performance of the effort under
contract between buyer and seller
– Cost Reimbursable Arrangement - allocation of financial
risk is primarily on the Buyer.
• Cost of performance negotiated as an ESTIMATE (not a set
price)
• Buyer benefits or is injured by fluctuations from estimate
versus actual costs
• Profit dollars to seller is established as a “Fixed Fee” - does not
change with fluctuations in estimated cost
J.C. Burke NCMA March Workshop
Bentley College 16 March 2011
Factors To Be Considered When
Selecting A Contract Type
• Price Competition - market pressures
• Price Analysis - Comparison of products and price
• Cost Analysis - when price comparison insufficient, a detailed analysis of
cost elements
• Type and complexity of the requirement
• Urgency of the requirement
• Period of Performance or Length of Production Run
• Contractor’s Technical Capability and Financial Responsibility
• Adequacy of the Contractor’s accounting system - important for CR
Contracts
• Concurrent Contracts
• Extent and Nature of Proposed Subcontracting
• Acquisition History - Risk decreases as item is repetitively ordered
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Bentley College 16 March 2011
The Important Difference
Between Cost and Price
• “Cost” and “Price” are not the same.
• The consumer never (rarely?) pays the “Cost”
of an item - they pay the price
• “Profit” is the difference between a product’s
“Cost” and it’s “Price”
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Bentley College 16 March 2011
The Important Difference
Between Cost and Price
– Cost: The actual costs incurred or realized in the
manufacture of a product of the providing of a service.
“Cost” is the actual amounts paid for the necessary
elements of providing a good or service, such as labor,
factory overheads, cost of materials, and other relevant
support costs.
– Price: Whatever a consumer of a Good or Service is willing
to pay for that Good or Service - or…….conversely whatever a provider of a Good or Service is able to charge a
consumer for that Good or Service
• Market conditions dictate
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Bentley College 16 March 2011
A Quick Comparative Illustration
The U.S. Army wishes to procure a WIDGET from ECDC, Inc..
Firm Fixed Price Basis
• ECDC charges $103,500 (Price) and the Army agrees to pay $103,500
ECDC Estimate
@ Proposal
Total Cost
Profit
Price
Profit as % of Cost =
Profit as % of Price =
Army Pays
ECDC Makes (Looses)
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$ 90,000
13,500
$ 103,500
15%
13.1%
$ 103,500
$ 13,500
Scenario 1
85,000
18,500
$ 103,500
21.7%
17.87%
$ 103,500
$ 18,500
Actual Performance
Scenario 2
Scenario 3
$ 98,000
5,500
$ 103,500
5.6%
5.3%
$ 103,500
$ 5,500
$ 118,000
(14,500)
$ 103,500
(-12.2%)
(-14.0%)
$ 103,500
($14,500)
The Contracting Environment
and It’s Impact on Contract Type
• Allocation of risk is all about when to use a specific contract
type
• What is the contracting environment?
– Known, certain or almost certain, environment => Fixed Price
– Uncertainties, unquantifiable elements of performance => CR
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Bentley College 16 March 2011
Now….Let’s Examine the Particulars
of the Specific Contract Types
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Firm Fixed Price (FFP)
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Firm Fixed Price (FFP)
Defined:
• Provides for a price that is not subject to any
adjustment on the basis of the contractor’s cost
experience in performing the contract.
• Places on Contractor maximum risk and full
responsibility for all costs and resulting profit or
loss.
• Maximum incentive on Contractor to control costs
and perform effectively
• Minimum administrative burden on parties
– No detailed cost reports to customer
J.C. Burke NCMA March Workshop
Bentley College 16 March 2011
A Quick Comparative Illustration
Same Widget, Cost Reimbursable Basis
• ECDC has an Estimated Cost Plus Fixed Fee of $100,000
Estimated Cost
FCCM
Fixed Fee
Total CPFF (Price)
Profit as % of Cost =
Profit as % of Price =
Army Pays
ECDC Makes (Looses)
ECDC Estimate
@ Proposal
Scenario 1
Actual Performance
Scenario 2
Scenario 3
$ 90,000
1,000
9,000
$ 100,000
10%
9%
$ 100,000
$ 9,000
85,000
900
9,000
$ 94,900
10.59%
9.53%
$ 94,900
$ 9,000
$ 98,000
1,100
9,000
$ 108,100
9.1%
8.32%
$ 108,100
$ 9,000
$ 118,000
1,300
9,000
$ 128,300
7.6%
7.0%
$ 128,300
$9,000
Although the Cost of Performance (Price) Increases, Fee Remains the same
(Fixed), as Cost of Performance Increases, Fee as Margin Decreases
J.C. Burke NCMA March Workshop
Bentley College 16 March 2011
Firm Fixed Price (FFP)
Application:
• Used to procure standard and commercial
items
• When reasonably definite functional or
detailed specification exists
• When adequate price competition exists
• When reasonable price comparisons with prior
or similar purchases can be made
J.C. Burke NCMA March Workshop
Bentley College 16 March 2011
Elements of a Firm Fixed Price (FFP)
Contract
Price
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Elements of a Firm Fixed Price (FFP)
Contract (Continued)
• In DoD Procurements, regulations require insight into
the separate elements
• FFP has the most basic elements:
– Cost
– Profit
– Total FFP
• Sometimes the separate elements are separately
negotiated, sometimes negotiations are at the “bottom
line”
• FFP is the simplest contract type from the stand point
of both Buyer and Seller.
J.C. Burke NCMA March Workshop
Bentley College 16 March 2011
Firm Fixed Price (FFP)
• Over-riding element: Is Price
– Bind the contractor to complete the work at a fixed amount (price) of
compensation regardless of the costs of performance.
• Best Utilizes the basic profit motive of business
– “If I perform efficiently (or increase my efficiency), I make more
money”
– “If I perform inefficiently, I make less or even lose money”
• Used when risk involved is minimal or can be predicted with an
acceptable degree of certainty.
• Requires reasonable basis for Firm Prices.
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Bentley College 16 March 2011
FFP and The Allocation of Risk ...
• Allocation of financial risk is on the Contractor
• Because of the allocation of risk, must have a clear,
thorough definition of the work scope
–
–
–
–
Clear, precise, unambiguous specifications
Clear, precise, unambiguous Statement of Work
Need firm delivery and end date
Need clear, unambiguous sell-off criteria (“Definition of
‘Done’”)
• FFP contract type assumes minimal Government
intervention during performance.
Leave as little to interpretation as possible
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FFP and Contracting Party Behaviors
• Contractor is reluctant to accept even minor changes
or interference.
– This is why “contract scope” needs to be precisely defined
– All “uncompensated” changes impact bottom line
– All changes subject to Equitable Adjustment (“Send
Money”)
• Buyer often tries to get more than he bargained for
– Stretches scope of work interpretations
– “Just Do It”
– Threats to follow-on work
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Bentley College 16 March 2011
Fixed Price Incentive
(FPI)
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Fixed Price Incentive
Defined:
• Provides for adjusting profit and establishing the final contract price by a
formula based on the relationship of final negotiated total cost to the
target cost
• Final Price is subject to a price ceiling (negotiated up front)
• Two (2) Types
– Fixed Price Incentive, Firm
– Fixed Price Incentive, Successive Target
When Applied:
• When a straight FFP contract is not suitable
• Contractors assumption of a degree of cost responsibility will provide a
positive profit incentive for cost control and performance
• When other incentives (technical performance or delivery) are being used.
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Elements of a FPI Contract
• Involves a pre-negotiated formula for sharing cost over-runs
and under-runs
• Target Cost
• Target Profit
• Ceiling Price
• Share Ratio
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Bentley College 16 March 2011
Elements of a FPI Contract Defined
Target Cost
• Represents a reasonable estimate that both parties are willing to
accept of the anticipated total cost of performance
– “Represents the most likely outcome to be attained through efficient
performance of the work”
• Establish prior to performance
Target Profit
• A reasonable return on the anticipated cost of performance as
agreed by the parties prior to performance
• Is not (necessarily) the final profit
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Bentley College 16 March 2011
Elements of a FPI Contract Defined (Cont’d)
Ceiling Price
• The maximum dollar value the buyer is willing and obligated to
pay for the goods or services
• Unique to fixed price incentive contracts
• Most critical element of an FPI contract
• Represents the point at which financial responsibility is 100% on
the contractor (Well, not really ... But bare with me ... It’s the
PTA)
• Final price never exceeds ceiling (what the Buyer will pay)
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Bentley College 16 March 2011
Elements of a FPI Contract
Defined (Cont’d)
• Share Ratio (Sometimes expressed simply as “Contractor’s Share”) – Represents the percentage of sharing above and below the target cost to
determine the profit and price.
• When two percentages expressed, first percentage always refers to the
Government (Buyer) and the second percentage to Contractor (Seller)
Example:
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75% / 25% Share Ratio
Government (75%)/Contractor (25%)
... And Unique to FPI Contracts is....
The Point of Total Cost Assumption
• Defined
– Identifies the mathematical point at which the
contractor’s risk changes from the negotiated
incentive sharing to a fixed price risk - 100%
responsibility for cost incurred.
– PTA = The point at which for every dollar you spend,
you lose a dollar of profit.
– PTA is the mathematical point at which Government
sharing has maximized, and Government sharing ends.
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Bentley College 16 March 2011
The Point of Total Cost Assumption
• Expressed as a formula
PTA =
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Ceiling Price - Target Price
Government Share
+ Target Cost
FPI Example - Actual Performance
(Under-run)
Negotiated
Scenario 1
Comment
$ 10,000,000
$ 9,000,000
$1M Under-run
(Target) Profit
1,500,000
1,500,000
Original Profit Target
(Target) Price
$ 11,500,000
$10,500,000
Unadjusted Price
Ceiling Price
$12,500,000
$12,500,000
Absolute $$ value not
to be exceeded
75/25
$250,000
25% share of $1M
under-run
Actual Profit
TBD
$1,750,000
Actual profit increases
by share of under-run
Final Price
TBD
$10,750,000
Final price is $750K
less than target
75% is Government
share of $1M under-run
(Target) Cost
Share Ratio
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Bentley College 16 March 2011
FPI Example - Actual Performance
(Over-run)
Negotiated
Scenario 2
Comment
$ 10,000,000
$ 11,000,000
$1M cost overrun
(Target) Profit
1,500,000
1,500,000
Original Profit - to
be decremented
(Target) Price
$ 11,500,000
$12,500,000
Unadjusted Price
Ceiling Price
$12,500,000
$12,500,000
Absolute $ value not
to be exceeded
75/25
($250,000)
25% share of $1M
over-run Reduces fee to $1.25M
Actual Profit
TBD
$1,250,000
Reduced Target Profit
by Share
Final Price
TBD
$12,250,000
Actual cost plus final
profit
(Target) Cost
Share Ratio
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Bentley College 16 March 2011
FPI Example - Actual Performance
(Over-run)
Negotiated
Scenario 2
Comment
$ 10,000,000
$ 11,000,000
$1M cost overrun
(Target) Profit
1,500,000
1,500,000
Original Profit - to
be decremented
(Target) Price
$ 11,500,000
$12,500,000
Unadjusted Price
Ceiling Price
$12,500,000
$12,500,000
Absolute $ value not
to be exceeded
75/25
($250,000)
25% share of $1M
over-run Reduces fee to $1.25M
Actual Profit
TBD
$1,250,000
Reduced Target Profit
by Share
Final Price
TBD
$12,250,000
Actual cost plus final
profit
(Target) Cost
Share Ratio
J.C. Burke NCMA March Workshop
Bentley College 16 March 2011
FPI Example - Actual Performance
(Over-run)
Negotiated
Scenario 2
Comment
$ 10,000,000
$ 12,250,000
$2.25M cost overrun
(Target) Profit
1,500,000
1,500,000
Original Profit - to
be decremented
(Target) Price
$ 11,500,000
$13,750,000
Unadjusted Price
Ceiling Price
$12,500,000
$12,500,000
Absolute $ value not
to be exceeded
75/25
($562,500)
25% share of $2.25M
over-run - reduces
fee to $937.5K
Actual Profit
TBD
$250,000*
Additional fee decrement
of $687.5K necessary to
stay within ceiling
Final Price
TBD
$12,500,000
(Target) Cost
Share Ratio
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Bentley College 16 March 2011
2 Variations of Fixed Price Incentive
• Fixed Price Incentive, Firm (FPIF)
– Don’t say “Fixed Price Incentive Fee” - WRONG!!!!!
– Simply means a firm incentive target has been established at the
outset
• Fixed Price Incentive, Successive Targets (FPIS)
– Same “initial” elements as a FPIF - cost elements termed as “initial”
targets
– Identifies a point in contract performance where “initial targets” are
converted to “firm” targets
– Often a production point where some performance experience has
been collected
– Can have multiple future points (successive targets)
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Bentley College 16 March 2011
FPI and The Impact on Behavior
• Same basic motivations and behaviors exist as in FFP
• Buyer may be slightly more flexible to changes given
sharing and ceiling
.... Nonetheless....
• Must protect profit position through cost control
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Bentley College 16 March 2011
Fixed Price Contracts w/Economic Price
Adjustment (EPA)
•
•
•
•
•
A type of Fixed Price contract that allows a price redetermination based on circumstances
largely outside of the control of either contracting party
Adjustment can be either upward or downward
Three (3) General Types of EPA
– Adjustments based on established prices
• Market conditions
• Ex: Cost of Silicon rises, driving the chip market up - impacts many products
– Adjustments based on actual costs of labor and material
• Market conditions - public indexes
– Adjustments based on cost indexes of labor or material
• Ex: Producer Price Index for a commodity
Application: When there is serious doubt concerning the stability of market or labor conditions
that will exist during the extended period of contract performance.
Limitations: Only used when necessary to protect Contractor, Government, or both, from
significant cost fluctuations.
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Bentley College 16 March 2011
Fixed Price Award Fee
FAR 16.404
• A Fixed Price Arrangement that provides for an element of
Profit (Fee) to be earned through an Award Fee Process
• Provides additional incentive to encourage optimum
performance
• Buyer and Seller may be slightly more flexible to changes
given Award Fee potential
• Award Fee Element is SUBJECTIVE
– (vs. Incentive Fee
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Objective)
Cost Reimbursable
Types
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Cost Plus Fixed Fee (CPFF)
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Cost Plus Fixed Fee (CPFF)
• A cost reimbursement contract that provides for payment to the
contractor of all allocable and allowable costs incurred PLUS a
negotiated fee that is fixed at definitization
• Fixed Fee does not vary with the actual costs of performance
• Assuming no changes to initial baseline
• Fee may be increased as a result of changes to the workscope that
are outside of the original contract requirements
– Considered a “fee bearing” equitable adjustment
• Fee may be decreased as a result of changes to the workscope that
remove effort that was part of the contract
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Bentley College 16 March 2011
Cost Plus Fixed Fee (CPFF)
• Common vehicle for R&D efforts, prototypes, preliminary
exploration, and concept formation phases of programs
• Sometimes used for Proof of Concept and LRIP phases
• Used when level of effort required cannot be easily (and fairly)
determined
• Used when Spec’s and SOWs are “Open” - Requirements not able to
be defined with certainty
• Contractor must have an acceptable accounting systems to collect
and report costs
• Used when a CPIF contract is not practical
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Bentley College 16 March 2011
Elements of a CPFF Contract
• Very simple, straightforward type:
• Estimated Cost
• Fixed Fee
• Total CPFF
NOT
•Estimated Cost
•Profit
•Price
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Bentley College 16 March 2011
CPFF and the Fee Percentage
• The amount of Fixed Fee is limited by regulation:
– (FAR 15.404-4(4)(i), which cites 10 U.S.C. 2306(d) and 41 U.S.C.
254(b))
– Maximum of 15% for pure Research and Development (R&D efforts
– Maximum of 6% for all Architecture Engineering contracts
– Maximum of 10% for all other CPFF efforts
• Important Point:
– Cost and Fee are separate legally (contractually) recognized
elements of a contract
– Both must be separately expressed in separate relevant contract
clauses
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Bentley College 16 March 2011
Two Types of CPFF Contracts
• CPFF Completion:
– Describes the scope of work by stating a definite goal or target and specifying an end
product
– Requires the contractor to deliver the specified end products WITHIN the estimated
costs
• Less risk to contractor - not spending his own money if additional funds needed
– If work cannot complete within estimated cost, Gov’t may increase cost, but does not
have to increase fee
– Gov’t can end work when it has had enough!
• CPFF Term:
– Describes the scope of work in general terms and obligates the contractor to devote a
specified level of effort for a stated period of time
– If Gov’t considers performance satisfactory, fixed fee is paid at end upon contractor
statement that he has provided the level of effort specified in the contract
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Cost Plus Incentive Fee
(CPIF)
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Cost Plus Incentive Fee (CPIF)
• Provides for an initially negotiated fee to be
adjusted later based on relationship of actual
costs to target costs.
• Similar to FPI except no ceiling price in CPIF
– all allocable and allowable costs reimbursed
• Opportunities for increases or decreases in fee
intended to motivate the contractor for
efficient performance
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Bentley College 16 March 2011
Cost Plus Incentive Fee (CPIF)
Elements
Target Cost
Target Fee
Minimum Fee - at which fee is “fixed” (floor)
Maximum Fee - at which fee is “fixed” (ceiling)
Fee Adjustment Formula - Share Ratios
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Cost Plus Incentive Fee (CPIF)
Elements
•
•
•
•
Fee increases when actual cost are less than target cost
Fee is decreased when actual costs are more than target cost
Fee is only decreased to the “minimum” - may be $0
“Range of Incentive Effectiveness” - the points between
minimum and maximum fee
• CPIF referred to as a “objective” incentive - fee determined by
fact and formula
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When/Why Use CPIF?
• When allocation of risk cannot be determined such that high
probability of appropriate profit/fee results
• When neither party has reliable knowledge of the exact work
required
• When SOW’s and Specifications are “open”
– “..... As required .....”
– “..... Contractors best efforts ....”
– “... If necessary ...”
• Often used in Research and Development programs, SDD &
LRIP Programs
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CPIF Example
Target Cost
Target Fee
Negotiated
Scenario 1
Comment
$ 10,000,000
$ 8,000,000
$2M under-run
1,000,000
1,000,000
Minimum Fee
400,000
Maximum Fee
1,500,000
Share
Final Fee
Final Price
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80 / 20
400,000
20% of $2M under-run
adds to target fee
1,400,000
Under-run share plus
target - is within
maximum fee
$ 9,400,000
Actual Cost ($8M) plus
final fee
CPIF Example
Target Cost
Target Fee
Negotiated
Scenario 2
Comment
$ 10,000,000
$ 11,500,000
Contract over-run
by $1.5M
1,000,000
1,000,000
Minimum Fee
400,000
Maximum Fee
1,500,000
Share
Final Fee
Final Price
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Bentley College 16 March 2011
80 / 20
(300,000)
20% of $1.5M over-run is decrease to fee
700,000
$1M target less $300K
share of over-run
$12,200,000
$11.5M cost plus $700K
fee
CPIF Example
Target Cost
Target Fee
Negotiated
Scenario 3
Comment
$ 10,000,000
$ 7,000,000
$3M under-run
1,000,000
1,000,000
Minimum Fee
400,000
Maximum Fee
1,500,000
Share
600,000
20% of $3M under-run
Final Fee
1,500,000
Max fee cap applies @
$1.5M even though $1M
target plus $600K share
Final Price
$8,500,000
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80 / 20
CPIF Type and Procurement Behavior
• Less contentious than fixed price
• Contractor still “cautious” of changes, but more
accommodating
• Buyer tempted to ask for more, feels he bears majority of cost
increases (he does, depending on share)
• Seller (Contractor) still looking to preserve and increase fee
position
• Recognition that procurement documents (specifications,
SOW) more open
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Cost Plus Award Fee (CPAF)
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Incentives vs. Award Fees
Objective Criteria
Subjective Criteria
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Cost Plus Award Fee (CPAF)
• A cost reimbursement contract that provides for
a fee consisting of:
– A base amount fixed @ negotiation of the contract does not vary with performance
– An award amount that the contractor may earn in
whole or in part based on performance
CPAF - Fairly Popular Contract Type For Both
Product and Service Contracting
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Cost Plus Award Fee (CPAF)
• Used as a motivational tool to encourage efficient performance
through the possibility of additional fee
• CPAF contracts provide for evaluation of contractor
performance at stated intervals and the award of fee (or not)
based on this performance
– Regular intervals provides feedback on the quality of performance
– Allows contractor the opportunity to address short comings or
continue positive aspects
CPAF - Fairly Popular Contract Type For Both
Product and Service Contracting
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Elements of a CPAF Contract
Estimated Cost
Base Fee
Maximum Fee
Award Periods
Evaluation criteria
Award Procedure
•
•
“The Award Fee Plan”
Base fee represents a floor on fee - incentive is all in the “Award Fee Pool” – All incentive, no penalties
– (Well, in reality, the penalty occurs by not earning the incentive! Gotcha!!)
Award Fee Pool - The dollar value of the difference between the maximum fee and the
base fee.
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The Award Fee Plan
• A written document attachment to the contract that
defines ....
– The amount of award fee available, by period and for the total contract
– The award fee periods
• Usually 6 months or longer to be meaningful
• Often 11 months in a large, multi-year development effort
• Cannot exceed 12 months (without agency exception)
– The accomplishment criteria for each period
– The Customer’s award fee process - Procedures for determination - how and who
• Fee Determining Official (FDO) - a named individual
• Award Fee Review Board - representatives from
–
–
–
–
–
–
Program Office
Technical Office
PCO (Contracts)
Finance
Security
Support Contractors
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The Award Fee Plan and
Evaluations and Determinations
• The award fee evaluation and determination is
SUBJECTIVE
– It is based largely on relationships between Contractor
Program personnel at all levels and their Government
counterparts
– It is the determination of one individual based (maybe)
on the collective inputs of other individuals
• with all the “human baggage” an individual carries
• The award fee determination can be $0 - ouch!!!!!!!
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Award Fee Pool Capture Example
Given: - $1.0M award fee pool
- Five equal periods of 1/5th of pool
Award
Period
Amount
Available $’s
Award Fee
Rating
Dollar Capture
Cumulative
Award Fee $’s
Award Fee
$’s Lost *
1
200,000
70%
140,000
140,000
60,000
2
200,000
50%
-0-
140,000
200,000
3
200,000
86%
172,000
312,000
28,000
4
200,000
90%
180,000
492,000
20,000
5
200,000
94%
188,000
680,000
12,000
As %
$ 1,000,000
$ 680,000
$ 320,000
100%
68%
32%
* Award Fee Lost Assumes No Rollover
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Award Fee Administration
As “Extra - Curricular” Contract Activity
• CPAF contracts have significant administrative burden
– As cost reimbursable contract, have many cost reporting
requirements
– Administration of the award fee plan is an effort
• Lots of “data gathering” by lots of people on both sides of the contract
– The “self assessment” and review process is an effort
– Award requires the issuance of a contract modification
– Must constantly work the “interpersonal aspect”
• CPAF Contract Use Under Great Scrutiny
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Award Fee Contracts and the Behavior
of the Parties
• Government has both the carrot and the stick
– Carrot: attractive award fee capture potential
– Stick: “You want some of this, right?”
• The interpersonal relationships of individuals become very important
• Contractor tendency to appease
– Reluctance to object in hopes of favorable award fee determination
– Push back is touchy, but can be done
• Government tendency to push for more work - stretch the scope
– Costs are reimbursed and a favorable fee determination
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Award Fee Contracts Final Thoughts
• Is a subjective determination of individuals
– That tries to be based on some objective criteria
• Requires some significant additional administrative effort not present in
other contract types.
• Very formal, very structured
• Can provide attractive Profit potential when performance is optimized
• Can be tremendously creative and complex vehicles – Fee roll-overs, multiple evaluation criteria, split periods, etc.
Editorial comment of instructor: Only contract vehicle that allows the
Government to encourage a contractor to exceed the contract
requirements and withhold profit if they do not exceed.
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Time and Material Contracts
Labor Hour Contracts
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T&M Contracts
•
A cross between fixed price and cost reimbursable
– Fixed Price nature: Has fixed hourly rate for reimbursement of labor
– Cost Type nature:
Material and ODC reimbursed at cost
Labor reimbursed at fixed rate but based on number of
hours incurred
•
Allows for the reimbursement of labor based on hours incurred at a predetermined
hourly rate
– Includes all burdens and profit
•
Allows for the reimbursement of all material and ODC at cost plus applicable burdens but no fee/profit on material/ODC
•
Contract limits set in terms of dollars to be expended.
– Contractor should have flexibility to utilize different labor categories
– Contractor cannot exceed ceiling except at own risk
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T&M Contracts (Continued)
•
Application
– When extent or duration of the contract cannot be easily estimated at the
outset
– Difficult to anticipate costs with any reasonable degree of confidence
– Often used in Engineering Services environments
•
•
•
•
•
Training courses
Field support
Testing
Documentation writing
Behavior/Relationship
– Contractor is very loose - open to direction
– Government is fairly loose - willing to change tasks
– Little risk to contractor
– Only risk to Government is the inability to complete all work contemplated
within the ceiling
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T&M Contracts - An Example
Contract Hourly
Rate $’s
Hours
Incurred
Engineer
185.45
218
40,428.10
Programmer
226.51
412
93,322.12
Manager
215.14
139
29,904.46
Administrator
181.14
100
8,114.00
45.19
50
2,259.50
919
174,028.18
Category
Shipping
Total Labor
Total
Price $’s
Burdened Material
86,413.12
ODC (Travel), etc.
29,694.13
Total T&M Value
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$290,135.43
Labor Hour Contract
• A variation of the T&M except material is not provided
by the contractor nor is travel (ODC) required.
• Labor only is provided at pre-determined rates that
include profit
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Other Contract Types
• Indefinite Delivery/Indefinite Quantity (ID/IQ)
– Multi-year contracts with a specified period of the contract
– Like a BOA, contract structure established in advance of firm
requirements
– Unknown delivery dates
– Unknown quantities - up to a maximum
– Used for both products and services procurements
– Must state some minimum purchase thresholds
• in terms of dollars ... Or ...
• in terms of quantity
– Reasonable general statements of the scope, complexity, nature
and purpose of supplies/services to be ordered
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Other Contract Types
• Level of Effort (LOE)
– Can be fixed price or cost reimbursable
– Specific level of labor effort is contracted to be
supplied
– May state a “Term” for which that LOE is to be
provided
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Other Contract Types (Cont’d)
• Cost Plus-A-Percentage of Cost
–
–
–
–
Never used - they’re illegal
Would provide for a fee percentage based on cost incurred
Illegal because they only motivate the contractor to incur cost
No motivation for cost control or efficient performance
• Cost Share Contract
– Simply means the Government and contractor will share the
cost of performance
– Often with No Fee
– Share amounts or values stated in the contract .... Or ......
– Government funded amount stated with language that
contractor will augment to accomplish contract requirements
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Other Contract Types (Cont’d)
•
Basic Ordering Agreements (BOA)
– A contract vehicle established in advance of firm requirements
• But future requirements are anticipated
– Established contract structure, terms and conditions, limitations
• Can be fixed price, cost type, T&M - whatever the customer wants
•
– One benefit is to have a “QRC” (Quick Reaction Capability) to place urgent
requirements on contract
– The BOA is not in itself a “contract” (no agreement to buy or sell) - orders under
the BOA are contracts
– Often multiple agencies/commands can use a BOA provided they are specified as
authorized ordering agents
Blanket Purchase Agreements (BPA)
– More for commercial items
– Like a BOA, established contract structure in advance of firm need
– Can order quantity needed from price list
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Other Contract Types (Cont’d)
• LETTER CONTRACTS
– A written (sometimes only a letter) preliminary contractual instrument that authorizes
the contractor to begin immediately manufacturing supplies or performing services.
– Issued in advance of the final negotiations of a complete contract.
– Can only be used with agency head approval in urgent situations
– Can not be used to circumvent competition where competition is otherwise required.
– General rules of issuance:
– Must have a firm NTE ceiling from the contractor
– PCO can authorize 50% of ceiling upon receipt of NTE
– PCO can authorize 75% of ceiling upon receipt of qualified proposal
– Letter contract must state firm schedule for:
• Submittal of proposal
• Completion of negotiations - can not exceed 180 days after
issuance
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Other Transaction
Agreements (OTA’s)
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Other Transaction Agreements
• About 15 years old - from U.S.C. 2371 and Section 845 of the
Defense Appropriation Action of 1996
• Technically, Not a Contract but an “Agreement”
• Sometimes referred to as “Section 845 OTA”
• Suspends standard FAR procurement rules
– FAR does not apply
– CAS does not apply
• Provides certain cost flexibility
– May treat as traditional contract
– May treat as IRAD – potential cost accounting differences
• May require company matching funds .... May Not!
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Other Transaction Agreements
• Background
– Initially developed for DARPA-funded R&D efforts (USC 2371)
– Section 845 - extended application to other Government
agencies and allowed use for certain prototype and production
efforts.
– May require competition for award - May Not !
• Behavior
– Both parties generally cooperative
– Both parties interested in program success
– Contractor motivated that 845 phase is first step towards larger
program that will be a traditional contract
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Other Transaction Agreements
•
OTA’s Can Be Considered Either …
• Cost Reimbursable
• Fixed Price
•
Must Coordinate With Agreements Officer For Clear Definition
•
Can Be Paid Via Milestone Payments Or Other Methods
•
Intellectual Property Rights Tend To Be An Important Element Of The Agreement And
The Negotiations
•
Resource: “OTA Guide for Prototype Projects”
– Issued By UnderSecretary for Defense, Acquisition, Technology and Logistcs
– Updated April 2004
– Check the Web for Latest and Greatest
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Knowledge Is Power
In Any Acquisition Environment, Knowledge is Power!
The “Wish List” of Both Buyer and Seller
•I wish I knew what it would cost.
•I wish I knew what performance issues I might encounter.
•I wish I had done this before (or someone else).
•I wish I could get a good estimate.
But We Rarely (Never) Have Perfect Knowledge
Industry and Government Need To Partner … We’re Both In This Together!
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Questions ?
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BACKUP
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FPI Example - Negotiated Value
Target Cost
$10,000,000
Target Profit
1,500,000
Target Price
$ 11,500,000
Ceiling Price (125%)
12,500,000
Share Ratio
75% / 25%
These elements are
stated in the
Contract
• Point of Total Cost Assumption (PTA)
$ 12,500,000 - $ 11,500,000
.75
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+ 10,000,000 = $11,333,333
Mechanics of the PTA
(Illustrative Examples)
•
•
•
•
Total Cost @ PTA
Overrun @PTA
Gov’t Share (75%)
Contractor Share (25%)
• Contractor Target Profit
• Less Contractor Share
• Delta = Profit Remaining
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$11,333,333
$ 1,333,333
$1,000,000
$ 333,333
$1,500,000
$ 333,333
$1,166,667
Mechanics of the PTA
(Illustrative Examples)
• Ceiling Price
• Total Cost @ PTA
• Delta to Ceiling
$12,500,000
$11,333,333
$ 1,166,667
• Contractor Profit Remaining @ PTA
$ 1,166,667
NOTE THE COINCIDENCE…?
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Mechanics of the PTA
(Illustrative Examples)
Ceiling
$12,500,000
PTA $11,333,333
Delta
$ 1,166,667
Target Profit
$1,500,000
K’or Share (25%) $ 333,333
Delta (Profit Left) $ 1,166,667
If Cost Goes to …. $11,333,334
….Then Profit Drops to …$1,166,666
$1 additional cost… equals… $1 less in Contractor Profit
If Cost Goes to ….$11,450,000
….Then Profit Drops To….$1,050,000
Cost Increase of $116,667… means …Further Profit Erosion of $116,667
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Real Life Abstract from a
Real Life Award Fee Plan
• “Award fee plan describes the organization, criteria, standards and
procedures for evaluating contractor performance for determining and
awarding an award fee, if any ...”
“IF ANY”
• “Provides an incentive for contractor to produce timely, high quality
outputs that meet or exceed the requirements of the contract while
stimulating efficient contractor performance”.
• Involves subjective determination(s) of Award Review Board (ARB) and Fee
Determining Official (FDO).
• Determination made on their impression of your performance and what
you tell them (informally and formal self-evaluation)
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CPAF Example
Estimated Cost
Base Fee (2%)
Maximum Fee (12%)
Award Periods
Evaluation Criteria
Award Procedure
10,000,000
200,000
1,200,000
(See Plan)
(See Plan)
(See Plan)
Award fee pool is $1,000,000
• Under-runs to estimated cost simply means Government
pays less
– Hopefully, under-run is through good performance and thus
high award fee captures
• Over-runs to estimated cost means Government must
pay more and may reflect in AF capture.
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More Real Life Award Fee Plan
Examples
Program Specific Award Fee Data
Evaluation Periods and Fee Allocations:
Period
I
II
III
IV
V
•
•
Evaluation Period
Contract Award to PDR
PDR to CDR
CDR to TRR
TRR to TRR plus 6 months
TRR plus 6 months to end
Available Fee
13%
15%
22%
18%
32%
Evaluation period ends at Milestone completion
Government may UNILATERALLY change criteria PRIOR to start of period, and only by
mutual agreement during a period.
Our responsibility - No, Objective - To Manage to the Criteria
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More Real Life Award Fee Plan
Examples....
Performance Evaluation Areas, Emphasis and Weightings
Area
Period I
Period II
Period III
Period IV
Period V
Management
40%
30%
30%
20%
20%
Technical
25%
35%
35%
40%
40%
Cost
20%
20%
20%
20%
20%
Schedule
15%
15%
15%
20%
20%
Total
100%
100%
100%
100%
100%
Available Award Fee
13%
15%
22%
18%
32%
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More Real Life Award Fee Plan
Examples....
Total Effectiveness Rating
Rating Description
Excellent
Very Good
Good
Marginal
Sub-Marginal
Effective Rating
91 - 100
81 - 90
61 - 80
41 - 60
0 - 40
Our Objective Must Be “Excellent”
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Criteria Straight From an Award
Fee Plan....
Critical Standards to Meet for Performance Ratings
Management Standards
•
Provides Government visibility into critical tasks. Responds to request for information
accurately.
•
Implements directed changes within a reasonable time. Changes are complete.
•
Provides timely responses to most critical action items.
•
Adheres to all security practices and procedures, with only minor deviations. Maintains
routine level of security awareness.
•
Tracks progress and maintains close control of all subcontracted efforts. Keeps program
office informed of status of major subcontract issues.
•
Provides effective communication with program office, associate contractors, and other
Government agencies by “keeping lines open”. The contractor has maintained a
satisfactory working relationship with Government representatives and has been
responsive.
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Criteria Straight From an Award
Fee Plan...
Critical Standards to Meet for Performance Ratings (Cont’d)
Select Comments From Other Standards
1.
Technical:
“Provides good expertise in most technical tasks”.
“Considers several factors and approaches to solving the problem.”
2.
Cost::
“Cost variances (including subcontractor) are identified early and plans for
recovery are revised, reported and implemented”.
“Changes are suggested in a timely manner to achieve maximum cost savings
when implemented”.
“All cost reports are clear and reconcile to a common data base. Funds
requirements data are projected accurately and clearly and are received in a
timely manner.”
3.
Schedule:
“All schedule reports are clear. Schedule variances (including subcontractors are
identified early and plans for recovery are revised, reported and implemented.
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Criteria Straight From an Award
Fee Plan...
Critical Standards to Meet for Performance Ratings (Cont’d)
If you meet all the positive standards expressed on the previous
two (2) slides
What you get is ........
A MARGINAL RATING AND NO AWARD FEE
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