CAS Harmonization: Post Final Rule
NDIA Contract Finance Committee
March 12, 2012
1
Agenda
• Background of CAS Harmonization
• Highlights of the Final Rule
• Typical Cost Trend Post Harmonization
• Activities post final rule
– Determining Period of Applicability
– Five Year Phase-in
– Cost Accounting Practice Change
– Revised Disclosure Statement
– Revised Forward Pricing Rates
– Requests for Equitable Adjustments
2
Background of CAS Harmonization
• PPA amended pension trust funding requirements (ERISA rules)
– Effective in 2008 for most contractors
– Deferral until 2011 for a few large “eligible contractors” (expired)
• Significant contributions into pension trusts required by PPA
– Expect 7 years of large contributions into trust to reach “full funding”
– Significant negative cash flow to government contractors
• Decades before PPA funding recognized as cost under existing CAS
• Total industry amount of funding not recognized as cost is significant
• PPA mandates harmonization of CAS with PPA funding requirements
– Final CAS Rule mandated to be effective by January 1, 2011 (missed)
– Expect accelerated recognition of pension costs when harmonized
– Final Rule published December 27, 2011 (Effective February 27, 2012)
3
Highlights of the Final Rule
•
Required change in regulation entitling contractors to equitable adjustments
•
Trigger contract subject to CAS 412/CAS 413 needed for applicability
•
PPA benefit freezes due to funding level will not be considered benefit
curtailment
•
Amortization period of actuarial gains/losses from 15 to 10 years
– Differences between actual experience and actuarial assumed
– Not subject to phase-in rules
• Starts in first accounting year beginning after 6/30/2012 when a difference occurs
•
New liability measure similar to PPA minimum funding
– Contractor elects source of bond interest rate as accounting practice
– Current low bond rates will result in higher liability and higher CAS cost
– Phase-in rules apply to recognition of higher liability
• Year 1, 0%; Year 2, 25%; Year 3, 50%; Year 4, 75%, Year 5, 100%
• Phase-in is independent of receipt of trigger contract
•
No harmonization for segment closings
4
Typical Cost Trend Post Harmonization
500
450
400
Millions
350
300
250
200
150
100
Current
Alternative
Note: Years shown
presume calendar
year contractor who
receives a trigger
contract after
effective date during
2012
50
2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024
•
Illustration of pension cost trend of typical contractor based on Towers Watson analysis
–
“Alternative” line provides illustration based on last proposed rule but with changes requested
•
–
Final rule includes phased-in 5-yr transition to gradually recognize increase
•
•
–
Changes included in “alternate” were generally included in final rule, except different phase-in % used
Delays greatest cost impacts until future contracts/appropriations
Minimizes number and amount of equitable adjustments
Pension costs under new rule will drop below current CAS level after initial acceleration period
decreasing backlog of PPA funding (CAS prepayments)
Sequence of Activities Post Final Rule
Implementation
Date
(earliest
Applicability date
7/1/2012)
Note: Irrelevant to
calendar yr contractor
BEFORE EFFECTIVE DATE:
•Notify DCMA of change in cost
Acct’g. practice and revise DS-1
•Revise FPR for periods after
Applicability date
<1 year
5 Yr phase-in Rules
Yr 1 0%
Yr 2 25%
Yr 3 50%
Yr 4 75%
Yr 5 100%
(cost impact
begins in yr 2)
Effective date
February 27, 2012
Applicability date
???
New contract awards on or after effective date NOT
entitled to equitable adjustments
(bids for new (sub) contracts with performance periods after
Applicability Date priced under new rule)
Existing CAS-covered contracts prior to
effective date entitled to equitable adj
(FAR 30.603-1(d), FAR 52.230-2)
FR Publication date
December 27, 2011
Contractor receives
new (sub) contract
award subject
to CAS 412/413
(“trigger contract”)
Implementation date
June 30, 2012
Fed Reg Notice
About 60 days
Published
Final Rule
(12/27/2011)
Effective Date
2/27/2012
•Begins period to get trigger
contract for applicability;
•New contracts not
entitled to equitable adj
•New FPR must be in use
for pricing new contracts with
performance periods
after applicability
New rule applicable
1st day of FY
after Trigger
(sub) contract
Received
•Revised FPR for
Yr 2 forward (0%
impact to Yr 1)
6
Determining Period of Applicability
•
FR Publication date
December 27, 2011
Fed Reg Notice
Published
Final Rule
(12/27/2011)
Contractor receives
new (sub) contract
award subject
to CAS 412/413
(“trigger contract”)
March 15, 2012
Implementation date
June 30, 2012
•
•
CAS 9904.412-63(b), “Following receipt of a contract or subcontract subject to this Standard on
or after the Effective Date [February 27, 2012], contractors follow this Standard, as amended,
beginning with its next cost accounting period beginning after the later of the Implementation Date
[June 30, 2012] or the receipt date of a contract or subcontract to which this Standard is
applicable.”
No applicability date earlier than July 1, 2012 due to Implementation Date.
Most calendar year contractors likely to receive new contract in 2012 after effective date, so
applicability will be January 1, 2013.
Applicability for Contractors with FY beginning between February 27
and June 30 may be delayed a year due to Implementation Date
Effective date
February 27, 2012
•
7
Determining Applicability
•
•
CAS 9904.412-63 (b)(1), “Beginning with the Applicability Date of the CAS
Pension Harmonization Rule, such contractors shall follow this Standard, as
amended, for all contracts or subcontracts subject to this Standard.”
Assume only Segment #2 triggers applicability with a new contract; does the
contractor follow revised CAS for all pension plans? Why or Why not?
– Does this answer change if costs for pension plans A, B, and C are allocated to a
fringe pool at Corporate which burdens Corporate labor costs allocated to all the
segments? What about pension plan D?
Corporate Office
Centrally Managed
Pension Plan A
Pension Plan B
Pension Plan C
Segment #1
Receives allocation
of pension plan A
Segment #2
Receives allocation
of pension plan A
and pension plan B
Segment #3
Receives allocation
of pension plan B
and pension plan C
Segment #4
Receives no
allocation but has
own pension plan D
for this segment
Presume all segments have CAS-covered USG contracts and each segment and Corporate office has a DS-1.
8
Five Year Phase-in Transition
•
Not applicable for 15 to 10 year change in amortization period for actuarial gains and losses
–
•
•
Shortened amortization period begins with new actuarial gain/loss in first year of applicability
CAS 9904.412-64.1(a), “The Pension Harmonization Transition Period is the five cost accounting
periods beginning with a contractor’s first cost accounting period beginning after June 30, 2012,
and is independent of the receipt date of a contract or subcontract subject to this Standard.”
Phase-in of the Minimum Actuarial Liability and the Minimum Normal Cost is Yr 1, 0%;Yr 2, 25%;
Yr 3, 50%; Yr 4, 75%; Yr 5, 100%
Contractor
receives
Trigger
contract
3/2015
Fed Reg. Notice
Published
Final Rule
(12/27/2011)
Implementation date
June 30, 2012
Effective date
February 27, 2012
FR Publication date
December 27, 2011
2013 FY
2014 FY
2015 FY
Year 1
Year 2
Year 3
Phase-in Phase-in Phase-in
0%
25%
50%
Contractor
uses 10 yr
amortization
period for
actuarial
gains/losses
Jan 1, 2016
Contractor
uses
Amended
CAS for
MAL
at 75%
Phase-in
2016 FY
Year 4
Phase-in
75%
Transition Phase-in Period
2017 FY
2018 FY +
Year 5
Phase-in
100%
9
Five Year Phase-in Transition
•
•
Equitable Adjustments: Affected contracts entitled to equitable adjustments for periods of
performance after Applicability Date would rely on pension cost data calculated including
appropriate phase-in % applied to the liability (MAL) for each period
Segment Closings: Since the amended rule did not revise segment closing adjustments, the
transition rules that phase-in the MAL are irrelevant for segment closings
Contract A
Contractor
receives
Trigger
contract
5/2012
Implementation date
June 30, 2012
Effective date
February 27, 2012
FR Publication date
December 27, 2011
Fed Reg. Notice
Published
Final Rule
(12/27/2011)
Contract B
Contractor
uses 10 yr
amortization
period
Contract C
2013 FY
2014 FY
2015 FY
Year 1
Phase-in
0%
Year 2
Year 3
Phase-in Phase-in
25%
50%
2016 FY
2017 FY
Year 4
Phase-in
75%
Year 5
Phase-in
100%
2018 FY +
Transition Phase-in Period
10
Change in Cost Accounting Practice
•
A single required change applied prospectively
–
–
–
•
FAR 52.230-2(a)(3), “Such compliance shall be required prospectively from the date of
applicability to such contract or subcontract.”
Harmonization Final Rule Preamble, “The [CAS] Board believes that the final rule changes
cost accounting practices contained in CAS 412 and that are necessary to implement the
CAS Pension Harmonization Rule required by section 106 of the PPA.”
CAS 9903.201-6(a)(2) “Required change means a change in cost accounting practice that a
contractor is required to make in order to comply with applicable Standards, modifications, or
interpretations thereto…” [Also see FAR 52.230-2(3)]
FAR 30.603-1(c)(2), the contractor submits a description of the required change in
practice to the CO
–
CO to request a general dollar magnitude (GDM) proposal
•
•
•
–
–
–
CAS 9903.201-6(a), the Contracting Officer makes a finding that the practice change was
required to comply with a modification to CAS
Cognizant CO for this expected to be the same as for routine pension FPR updates
Unclear to industry who will conduct the reviews—DCAA or DCMA CIPR team?
•
•
GDM compares the most current pension costs under CAS to the new pension costs under the
amended CAS for periods after the Applicability Date for the contractor
This GDM sets the baseline measures (old pricing to new pricing) for equitable adjustments, as long
as only those changes required by the modification to CAS are included in the new pension costs used
GDM likely to reflect contract type mix but not specific amounts by contract
Anticipated priority level
DCMA Board of Review requires HQ level review for change to cost accounting
practices for pension costs, but it is unclear what this review entails
11
Disclosure Statement Revision
• Revisions necessary to contractor DS-1 likely minimal
– Prescriptive regulatory requirements not included in contractor DS-1
only contractor specific cost accounting practices
– Amendments to CAS predominately prescriptive rather than election by
contractor. For example…
• “For period beginning on or after the ‘Applicability Date of the CAS Pension
Harmonization Rule,’ such actuarial gains and losses shall be amortized
over a ten-year period in equal installments…”
• “The minimum actuarial liability shall be the actuarial accrued liability
measured under the accrued benefit cost method…”
– Actuarial interest rate assumption for new liability measure (MAL)
• Amended Standard provides for election of rate source by contractor
12
Forward Pricing Rate (FPR) Revisions
•
Considerations in making revisions to forward pricing rates to comply with final rule for calendar
year contractors
–
–
Contractors will need to predict when they will receive trigger contract to determine Applicability Date
Calendar Contractor will revise FPR for 2014 and later (presuming 2012 trigger contract)
•
•
•
•
Revised FPR must be used for pricing bids and proposals, with performance periods after
Applicability Date, for new contract awards made on or after the effective date [February 27, 2012]
Judgment involved in MAL interest rate assumption for FPR
–
•
Year 1, 0% Phase-in results in no impact to year 1 of applicability (2013)
Since actuarial gain/loss is based on actuals identified, no FPR impact for 2013 although actuals when known could result
in a new 10 year amortization layer for 2013
CASB FAQ, “the contractor must…examine the historical average rates on corporate rate of return on
corporate bonds by duration tempered with the recent past and anticipated future rates.”
Audits of new FPR being done jointly by DCMA CIPR team and DCAA
Contractor
revises
FPR for
anticipated
periods of
Applicability
2013+
Contractor
anticipates receiving
trigger contract
in 2012
Implementation date
June 30, 2012
Effective date
February 27, 2012
FR Publication date
December 27, 2011
Fed Reg. Notice
Published
Final Rule
(12/27/2011)
•Contractor new FPR for Periods of Applicability 2013+
•No change to 2012 FPR (no applicability yet)
•No change to 2013 FPR (no impact since 0% phase-in for
new liability and no actuarial gain/loss yet identified)
2013 FY
2014 FY
Year 1
Phase-in
0%
Year 2
Phase-in
25%
2015 FY
Year 3
Phase-in
50%
Note: Contractor FPR may
include only 3-5 years,
Including current year 2012
2016 FY
2017 FY
Year 4
Phase-in
75%
Year 5
Phase-in
100%
Transition Phase-in Period
13
Identifying Contracts for Equitable Adjustments
•
Criteria for entitlement
–
Period of performance after the Date of Applicability for contractor
•
–
–
–
•
Change in cost to affected contract only for future periods of performance (prospective), no retroactive adjustments
Cost-based contracts subject to CAS 412 and CAS 413
Includes priced options
Excludes unpriced work (e.g., UCAs)
Examples below
–
–
–
Contract A does not exist prior to Effective Date (2/27/2012), so not entitled to equitable adj
Contract B does exist prior to Effective Date, so entitled to equitable adj for periods after applicability begins
Contract C does exist prior to Effective Date, so entitled to equitable adj for periods after applicability begins
Contract A, 6/30/12
Contractor
receives
Trigger
contract
5/2012
Implementation date
June 30, 2012
Effective date
February 27, 2012
FR Publication date
December 27, 2011
Fed Reg. Notice
Published
Final Rule
(12/27/2011)
Contract B, 11/30/2011
Contractor
uses 10 yr
amortization
period
Contract C, 1/15/2012
2013 FY
2014 FY
2015 FY
Year 1
Phase-in
0%
Year 2
Year 3
Phase-in Phase-in
25%
50%
2016 FY
2017 FY
Year 4
Phase-in
75%
Year 5
Phase-in
100%
2018 FY +
Transition Phase-in Period
Contractor Applicability
Begins January 1, 2013
(FY calendar year)
14
Equitable Adjustment Calculation
• Calculation of adjustment amount for affected contracts
– Leverage GDM prepared for change in cost accounting practice
• Identifies change in pension cost from most recent FPR used for estimates to
complete to pension costs revised only for harmonized rule (i.e. new rates must
isolate only those changes in practice required by the amended Standard)
• GDM includes all future performance periods after contractor applicability date for
affected contracts
– FAR 52.230-6(d) provides for several methods to choose from as the basis
for Contracting Officer evaluation of the change in costs for affected
contracts
• A representative sample of affected contracts
• Change in rate multiplied by the total estimated base for fixed-price contracts and
for flexibly-priced contracts
• Any other method that provides a reasonable approximation of the total increase
in costs for affected fixed-price and flexibly-priced contracts
– Adjustments relate to contract prices, target prices, cost ceilings, etc.
– Adjustments include all future periods of performance after contractor
applicability date for affected contracts
15
Equitable Adjustment Administration
•
FAR 52.230-2(a)(4)(i), entitles contractor to an equitable adjustment if the
contract cost is affected by a required change in cost accounting practice
– CAS 9903.201-6(a), prior to any equitable adjustment, the Contracting officer makes a
finding that the practice change was required to comply with a modification to CAS
•
Resolving adjustment amount for affected contracts
– Desirable to resolve GDM prepared for change in cost accounting practice centrally
with one cognizant Contracting Officer
– Regulatory latitude on resolving Requests for Equitable Adjustment (REAs)
• CAS 9903.306(f), “Whether cost impact is recognized by modifying a single contract, several
but not all contracts, or all contracts, or any other suitable technique, is a contract
administration matter. The Cost Accounting Standards rules do not in any way restrict the
capacity of the parties to select the method by which the cost impact attributable to a change
in cost accounting practice is recognized.”
• What may be practical at one contractor may be wholly impractical at another contractor
– Flexibility desirable to accommodate circumstances
– Subcontractor Requests for Equitable Adjustment
• Coordinated through prime contractor or directly to Sub’s Contracting Officer?
• Prime unlikely to be provided access to subcontractor data
• Different fiscal years may create complexities
•
Availability of DoD funding equitable adjustments?
16
Opportunities for an Organized Process
•
Role of DPAP
– Guidance memo within DoD to educate, provide centralized oversight
•
Role of DCMA HQ
– Guidance memo to Contracting Officers, provide centralized oversight
– CIPR
• Technical interpretation of amended Standards, especially where judgment involved
• Engagement in initial audits on harmonized CAS costs
– Board of Review
• Centralized oversight of Contracting Officer’s decisions for consistency
•
Role of DCAA
– Engagement in audits
•
Role of Industry Associations
– Disseminate information to member contractors
– Facilitate mutually beneficial meetings with Government agencies
17