Buylines: Balancing reason and risk comes under fire

Stan Soloway

Recently, a Professional Services Council member company went through a contentious audit at one of its customer agencies. The audit centered on the company's billings for subcontractor costs, an increasingly common area of debate.

Unfortunately, this company's experience reflects a worrisome trend. Before it goes any further, everyone concerned should take a deep breath and a step back.

After winning the award in question and beginning the work, the company identified several subcontractors, mostly small businesses, that it wanted to use. In some cases, the subcontractors' labor rates were less than the rates the company had bid.

Nonetheless, in keeping with its contract, the company billed the government for the labor rates originally bid in the task-order competition.

However, the auditors believed the company should have billed the government for the lower subcontractor rates. Doing otherwise, they said, was excessive.

Some think the auditors have a reasonable point, but almost everyone in the private sector would disagree strongly.

This audit philosophy ignores the basic realities of risk management. Just as with fixed-price contracts, fixed labor-rate arrangements put the risks of increased costs squarely on the shoulders of the company.

As often happens -- and did in this company's case -- some subcontractors' labor rates were less than those bid by the company, while others were higher.

When the company paid more than the approved billing rate for some work, it absorbed the higher costs and vice versa. In all cases, the rates were consistent with what the company bid in the initial competition for the work. There were no hidden rate increases.

Further, the company informed the government that it was changing its subcontracting mix from its initial winning bid and approved those changes through what is known as a "consent to subcontract."

It is widely accepted that competitive bidding provides the government the best assurance that prices are fair and reasonable. Had the company subcontracted no work, no one would have questioned the rates it billed. After all, it would have billed the rates that it bid in a competition; there would be no so-called excess charges.

That the company could improve its margins, meet its performance requirements and still keep contract costs from growing would be a reason for strong praise rather than accusations -- anywhere but in the government market.

Sometimes there are legitimate concerns about transparency, about the government knowing who is performing the work. No one suggests that companies should be allowed to bait and switch. But for many, this issue remains rooted in an overemphasis on perceived profit rather than on promised price and performance.

In September, when the Senate goes back to work on the defense authorization bill, it will consider legislation addressing this issue. And a new Federal Acquisition Regulation is in the works.

The counsel for the General Services Administration inspector general also has gotten into the act, making a sweeping assertion that "defective pricing is alive and well at GSA." As we can see, there are very different views of what truly amounts to defective pricing.

Incidentally, the IG's solution is to bring back mandatory post-award audits for commercial contracts -- a highly unwarranted regression on acquisition reform.

The essence of smart business relationships lies in a reasonable balancing of risks and rewards.

The subcontract billing issue is a good example of where that balance is eroding. There is much more to this issue than the simplistic declarations that claim to define it. The wrong choice here will have impact that will be felt far and wide.

Stan Soloway is president of the Professional Services Council. His e-mail address is soloway@pscouncil.org.

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