Unit V - Module 14 Contract Pricing

Question 1

Agenda

Answer 1

Acquisition and Contracting Overview

Contract Types and Pricing

Cost/Price Proposal Development and Analysis

Conclusion

Question 2

Acquisition Planning

• the process by which the efforts of all personnel responsible for an acquisition are coordinated and integrated through a comprehensive plan for fulfilling the agency need in a timely manner and at a reasonable cost. It includes developing the overall strategy for managing the acquisition.” (FAR 2.101)

Answer 2

Includes government acquisition activities (e.g. Milestone Decisions) as well as contracting activities (RFP development, Source Selection)

Life Cycle Cost Estimate (LCCE)

Contract Pricing (Contractor): Using cost estimating techniques to establish a basis of estimate (BOE) as the foundation for the cost/price proposal

Cost/Price Analysis (Government): Evaluating a Contractor’s Cost/Price Proposal

Question 3

Acquisition Planning and Cost Analysis

The government wants to acquire a capability at a fair and reasonable cost, while managing risk

Answer 3

Key questions
* What is the potential cost of a system that satisfies a set of requirements?
*Government LCCE
* Is this a good investment? Should the agency go forward contracting it out?

*What is the price of a contractor solution?
Cost/Price Proposal

• The difference between the estimates?
  Cost/Price Analysis

Question 4

This is a government contracting office view of the contracting process; we will focus on the role of Cost Estimating within this process, as highlighted on the following slide.

Answer 4

The government’s requirements are usually conveyed via a statement of objectives, or SOO, on the “looser” end of the spectrum; a set of specifications or specs on the more rigid end of the spectrum; or a statement of work, or SOW, in between. The acquisition strategy and acquisition plan are de rigueur government documentation establishing the approach for going out to industry in order to meet these needs. Before issuing a formal request for proposal (RFP), the government may hold one or more Industry Days to “test the waters,” find out what capabilities exist in the industrial bases

Question 5

Contracting Process –Government View

Preparing the Solicitation

Answer 5

Preparing the Solicitation
SOO SPECs

Plan the Approach
Acquisition Strategy /Plan

Early Exchange with Industry Days
Industry Days
Draft RFP

Requirement Criteria
Release formal RFP

Question 6

Contracting Process –Government View

Awarding the Contract

Answer 6

Receive Proposals
Past Performance/Experience/
Technical/Cost

Evaluate Proposals
Proposal in the competitive range?
Discussions with offerors (Evaluation Notices)

Request Final Proposal Revisions (FPR)

Evaluate FPR
Compare Proposals
Weigh Cost and Technical Approach

Make a Decision

Award the Contract
Debrief Offerors

Question 7

As stated before, the contract pricing process is essential to both awarding the initial contract and subsequent modifications to the contract, namely Engineering Change Proposals or ECPs

Answer 7

The Pricing Process begins with an assessment of the requirements and statement of work written for the proposed system. After this initial assessment, if the system is new, the authorizing agency will need to determine the contract vehicle that will be used for costing the system. If the contract is already active, the modifications to the effort will use the same contract vehicle agreed upon for the baseline effort. Of course, although this is not a formal step in the ECP process, it is always appropriate to review the current contract vehicle for it’s continued suitability. Selecting the appropriate contract vehicle will be discussed in greater detail in the next section of this module.

After the agency determines the technical requirements and the purchasing requirements, the next step is proposal solicitation. In the initial contract award, this formality is called a Request for Proposal, or, more commonly, an RFP. In an ECP, the solicitation is a Request for Change, or RFC.

With the formal Solicitation in hand, either the RFP or the RFC, the contractor(s) create a Proposal in response. The proposal includes a technical solution in response to the contract requirements and the cost of the effort projected to execute the solution. The contractor’s response is received by the agency and a comparative analysis conducted for pricing in the technical, cost, and schedule evaluation. The comparative analysis can be done not only between the government projected costs and the contractor’s response, but also between multiple contractors’ responses (if more than one contractor bids on the effort). The comparative analysis will be discussed in detail later in the module. The direction of these processes comes from the FAR, Section 15.4. Technical (and schedule) evaluations should not be neglected; the goal of the process is to fulfill the agency’s needs and to do so at a reasonable cost.

After analyzing the contractor’s response, the agency enters into negotiations to reconcile the differences that result from the comparative analysis of the contractor to the government cost for the solution to the given set of requirements. Finally, the contract is awarded or the ECP authorized. The contractor is then authorized to begin work on the system.

Question 8

Contracting Process –Contractor View

Awarding the Contract:

Answer 8

Determination of Requirements and Statement of Work (SOW)

Determination of the Contract Vehicle

Request for Proposal (RFP) to Contractors – Solicitation

Creation of the Cost/Pricing Proposal by the Contractor

Cost/Price Comparative Analysis

Negotiations

Contract Award

Question 9

Contracting Process –Contractor View

Modifying the Contract:

Answer 9

Determination of Requirements and Statement of Work (SOW)

Request for Change (RFC) to Contractors – Solicitation

Creation of the Cost/Pricing Proposal by the Contractor

Cost/Price Comparative Analysis

Negotiations

ECP Authorization

Question 10

Goals of Contracting Transaction

Answer 10

Government
*Fair, reasonable price
*Minimize government risk
*Encourage competition

Contractor
*Acceptable profit margin
*Minimize contractor risk
*Deliver timely, cost effective solution

The type of contract can help address both sets of priorities

Question 11

There can be some confusion amongst the terms fee, profit, and margin. Fee, as we have seen thus far, is the amount paid to the contractor over and above Cost. Strictly speaking, it only applies to Cost Reimbursement contracts. Fee may be expressed as an amount or as a percentage of Cost, initially the Target Cost of the contract.

Answer 11

The Fixed-Price equivalent is Profit, and we use the term Profit across all contracts, since Fee is a specific form of Profit. Profit is a commercial ubiquity, whether or not a contract is involved. If McDonald’s can procure, package, and deliver a medium Coke for 30 cents and sell it for 99 cents, then they have made 69 cents profit (you figure out the percentage!) even though there was no contract with the customer on the other side of the counter.

A concept related to Profit is Margin, which is the same amount of money that is made over and above Cost, but expressed as a percentage of Cost and Profit together (known as Revenue), not just Cost.

A notional calculation for Profit Percent, also known as Return On Cost, or ROC, and Margin Percent, also known as Return On Sales, or ROS, as well as simple general formulae relating the two quantities, are shown above.

The determination of an appropriate Target Fee or Profit for a contract is a matter of some debate. Weighted guidelines are provided in the Defense Federal Acquisition Regulation Supplement (DFARS).

Question 12

Fee, Profit, and Margin

Answer 12

Fee: Amount ($) paid to contractor over and above Cost
Cost Reimbursement contracts

Profit: Amount ($) earned in excess of Cost
Fixed Price Contracts

Profit %: Profit expressed as a percentage of Cost
Also known as “Return on Cost” (ROC)

Margin %: Profit expressed as a percentage of Revenue
Revenue = Cost + Profit = also known as “Price” or “Sales”
Margin % is also known as “Return on Sales” (ROS)

Question 13

Overall Observations

Answer 13

1. All contract types behave exactly the same way when at target cost.
   Cost is $10M, Profit is $1M, Price is $11M
   Contract Type is necessary for when things behave ‘outside’ of the target
2. In the following examples, the independent variable is COST. Profit will be determined by Cost overruns or underruns.
3. For Firm Fixed Price (FFP), the Price is fixed, so only Profit will change with cost. For Cost Plus Fixed Fee (CPFF) the Profit ($) is fixed, so only Price will change with cost.
   In both of the above scenarios the Profit % will change because Profit % is (Profit/Cost) or (Fee/Cost)
4. The behavior across FFP and CPFF contracts is consistent to the ends, while FPIF and CPIF are not
   This is why additional information is required for incentive contracts to understand how behavior will change at different levels of overrun/underrun

Question 14

The firm fixed price, or FFP, contract vehicle creates a fixed price for a determined set of requirements. If this contract type is issued, the government has determined that there is adequate price competition in the market and reasonable price comparisons to prior purchases of same or similar supplies or services can be made.

Answer 14

The government also needs to determine that available cost or pricing information permits realistic estimates of the probable costs of performance. If these performance uncertainties can be identified and reasonable estimates of their cost impact can be made then the government may choose to issue a firm fixed price vehicle. If a contractor chooses to respond to the firm fixed price direction, the contractor accepts the risks involved. Any cost underrun (profit) or overrun (loss) is the responsibility of the contractor. On this type of contract, no statutory limits on profit apply. The contractor bears significantly more risk than the government.

Question 15

Contract Types –Firm Fixed Price (FFP)

A firm-fixed-price contract provides for a price that is not subject to any adjustment on the basis of the contractor’s cost experience during performance of the contract.

Answer 15

When to use:

• Adequate price competition

*Reasonable price comparisons to prior purchases of same or similar supplies or services

*Available cost or pricing information permits realistic estimates of the probable costs of performance

• Performance uncertainties can be identified and reasonable estimates of their cost impact can be made, and the contractor is willing to accept the risks involved

Question 16

Before we discuss Incentive Contracts, we will introduce the share ratio. The share ratio is an integral part of the Profit Adjustment Formula. It can be a bit tricky to conceptually understand so here is a graphical representation of the impact to the Adjusted Profit when different share ratios are used.

The determination of the share ratio is based on a combination of incentivizing the contractor to manage the costs and sharing the risk between the government and the contractor.

Answer 16

As the share ratio is altered, the equation that yields the greatest profit when a program is underrunning, will lead to less profit when the program overruns. If the risk is high on the program, a conservative “flatter” share ratio (90/10) would be most appropriate. For maximum incentive for the contractor to control costs, an aggressive “steeper” share ratio (50/50) should be chosen. An incentive contract can have multiple share ratios: one if the contractor overruns and another if the contractor underruns.

Note that the above graph does not show a price ceiling. The price ceiling is a percentage of target cost (i.e. 150%) that limits the price to the government. If a price ceiling exists, the price to the government never exceeds it. All overruns above the price ceiling are absorbed by the contractor. If the various lines above reach the x-value of the cost ceiling, they would all start to decrease at the same steep slope: one dollar lost for every additional dollar over cost.

Question 17

Incentive Contracts –Share Ratio

Target Cost = $10M
Target Profit = $1M

Answer 17

If Share Ratio is 80/20, it means that for every $1 the contractor saves in actual cost under the target cost, the contractor’s target fee will be increased by $0.20. And, for every $1 in actual costs that the contractor exceeds target cost, the contractor’s target fee will be decreased by $0.20.

Remember:
In Share Ratios, the Government comes first

If Share Ratio is 100/0, the Contractor gets no more and no less than the target fee. His share in the profit/loss is 0 (i.e., CPFF).

If Share Ratio is 0/100, profit/loss changes dollar-for-dollar with cost (i.e., FFP).

Question 18

Fixed Price Incentive, or FPI, is quite a different contract vehicle than FFP. While the firm fixed price contract lays the responsibilities and risks on the contractor, the fixed price incentive provides for the distribution of risk between the government and contractor based on a “share ratio.” The FPI contract provides for adjusting profit and establishing the final contract price by a formula based on the relationship of final negotiated total cost to total target cost. FPI contracts also specify a ceiling price, which is negotiated as part of the overall contract. There are two types of fixed price incentive contracts: firm target and successive targets.

Answer 18

A Fixed Price Incentive Firm, or FPIF, contract specifies a target cost, a target profit, a price ceiling (but not a profit ceiling or floor), and shareline(s). The price ceiling is the maximum that may be paid to the contractor under the base contract conditions. When the contractor completes performance, the parties negotiate the final cost, and the final price is established by applying the profit adjustment formula (shown on the next slide). When the final cost is less than the target cost, final profit is greater than the target profit; conversely, when final cost is more than target cost, final profit is less than the target profit. If the final negotiated cost exceeds the PTA, the contractor absorbs the difference, and final profit can be a net loss Because the profit varies inversely with the cost, this contract type provides a positive, calculable profit incentive for the contractor to control costs. Examples of the FPIF final contract price calculations follow on the next few slides.

It is also possible, though uncommon, to have a Fixed Price Award Fee, or FPAF, contract. This contract type is used to incentivize contractors when performance cannot be measured objectively. In this case, a fixed price is established and any award fee earned is paid on top of the fixed price.

Question 19

Contract Types –Fixed Price Incentive (FPI)

Fixed-Price Incentive (FPI)
A fixed-price incentive contract provides for adjusting profit and establishing the final contract price by a formula based on the relationship of final negotiated total cost to total target cost

Targets may be Firm (FPIF) or Successive (FPIS) (next slide)

Answer 19

FPI Data Elements

Target Cost (needed for all Contract Types)
Target Profit (needed for all Contract Types)
Share line (or share lines)
Ceiling Price

Tip: Target profit and ceiling price are fixed dollar amounts, but often initially expressed as a percent of target cost

Tip: IF is for quantitative incentives; AF is for qualitative incentives

Question 20

Fixed Price Incentive Contracts

The chart above steps through the Profit Adjustment Formula for FPIF contracts. Remember, the objective is to determine the degree of success that the government had in incentivizing the contractor to manage the contract effectively (managing cost).
The formula has five elements to it:

Answer 20

1. The dependent variable – the end result – is the Adjusted Profit, or AP. This is the profit the contractor will end up making on the contract.

2.Target Profit, or TP. This profit amount was negotiated at the start of the contract. It is a function of the target cost (namely, the target price the government aims to pay less the target cost the contractor aims to achieve).

3. Share Ratio, or S. Because the contractor in the FPIF contract is assuming some of the risk, a “share ratio” is integrated into the adjustment formula reflecting the assumption of the contractor’s risk. In the example above, the Share Ratio of 80/20 means that the government bears 80% of the risk and the contractor 20%. (The government’s share is always listed first and is usually greater that the contractor’s share.) Specifically, for every dollar that Final Cost is below
   Target Cost, the contractor’s profit increases by 20 cents (the contractor has saved money and is rewarded with increased profit, though the government reaps most of the savings). On the other hand, for every dollar that Final Cost exceeds Target Cost, the contractor’s profit decreases by 20 cents (the contractor overspent and is punished with diminished profit, though the government absorbs most of the overrun).
4. Target Cost, or TC. This cost objective was negotiated at the start of the contract. It was integral in determining the Target Profit amount. If the Target Profit is expressed as a percentage, e.g., “10% target profit/fee,” that percentage is applied to the base number of Target Cost to determine the amount.
5. Final Cost, or FC. These are the actuals at contract end, excluding fee. If the actual final cost is above the price ceiling established at the contract award, the contractor assumes the loss.
   The final price is equal to the final cost plus the adjusted profit, as long as this does not exceed the price ceiling. If it does, than the final price is the price ceiling.

Question 21

FPI Example –Profit Adjustment Formula

Answer 21

AP is Adjusted Profit
TP is Target Profit
S is Share Ratio
If Share Ratio is 80/20, the Contractor earns (loses) $0.20 of profit for each dollar that Final Cost is below (above) the Target Cost
TC is Target Cost
FC is Final Cost
FP is Final Price

FP=FC+AP

Question 22

Fixed Price Incentive Successive Targets contract specifies a target cost, a target profit, shareline(s) and the production point at which the firm target cost and firm target profit will be negotiated (usually before delivery or shop completion of the first item) and a ceiling price. When the negotiation production point is reached, the contract becomes either an FFP (if appropriate) or an FPIF contract (as described above). This contract is suitable for use when cost or pricing data is insufficient to determine realistic firm target cost prior to award (but will be available post award).

Answer 22

It is also possible, though uncommon, to have a Fixed Price Award Fee, or FPAF, contract. This contract type is used to incentivize contractors when performance cannot be measured objectively. In this case, a fixed price is established and any award fee earned is paid on top of the fixed price.

Question 22

Bonus – Finding PTA

Point of Total Assumption (PTA) is the cost at which the price hits the Ceiling Price

Answer 22

CP is Ceiling Price 90
TP is Target Price 9
GS is Government Share 108
TC is Target Cost 70/30

PTA=(CP - TP) / GS + TC

(108 - 99) / .70 + 90 =102.85 (PTA)

Question 23

Other Fixed Price Types

Answer 23

Fixed Price Incentive Firm (FPIF) : Firm refers to the target cost and profit. This is the most common type of Fixed Price and more information about the mathematics will be shown on the following slides.

Fixed Price Incentive Successive (FPIS) : This is similar to FPIF except that the target cost and profit are not firm when first set. Instead, a production point is determined, and when the production point is reached, the contract becomes either FFP (if appropriate) or a FPIF contract, with the initial target cost, target profit, share line(s), and ceiling defined earlier.
* This is suitable when cost or pricing data is insufficient to determine realistic firm targets prior to contract award, but will be available post award.

Fixed Price Award Fee (FPAF) : This is where the fee is determined by government individuals on the basis of more subjective criteria. It is for when “the work performed is neither feasible or effective to devise predetermined objective incentive targets applicable to cost, schedule, and technical performance” (FAR 16.401(e)(1)(i))
*This situation does not occur frequently, and therefore FPAF contracts are rather rare. A FPAF contract will include an award-fee plan that will outline how the fee will be determined.

Question 24

Other Fixed Price Types (Cont.) Another Fixed Price contract vehicle is the Fixed-Price contract with Economic Price Adjustment. This contract provides for adjustments based on increases or decreases from established prices of specific items; on increases or decreases from actual, specified costs of labor or material; and on increases or decreases from contractually-specified cost indexes of labor or material. Simply, this vehicle is not as strict as the firm, fixed price. It allows for some market fluctuation and has the government take on some of this risk. Fixed-Price Level of Effort (FP LOE) required fixed labor rates for resources. The actual hours required are dictated by the government. This contract type is appropriate when the work is not suitable for a completion type contract.

Answer 24

Other Fixed-Price contract vehicles are meant to put the burden of cost management on the contractor while adjusting for factors outside their control Fixed-Price with Economic Price Adjustment (EPA) *Adjustments based on increases or decreases from established prices of specific items; on increases or decreases from actual, specified costs of labor or material; and on increases or decreases from contractually-specified cost indices of labor or material Fixed-Price Level Of Effort (FP LOE) *Labor rates are fixed price, but level of effort is specified by the government (“best efforts”) *Work effort too ill-defined for a completion type contract

Question 25

The Cost Plus Fixed Fee, or CPFF, is a cost-reimbursement contract that provides for payment to the contractor of a negotiated fee that is fixed at the inception of the contract. This fixed fee is a function of the target cost at negotiation (e.g., 10% of cost). The fee does not vary with actual cost (it’s fixed!) but may be adjusted as a result of changes in the work to be performed. The contractor’s incentive to control costs is minimal and this contract type should therefore be used when uncertainties involved in contract performance do not allow costs to be estimated with a high degree accuracy. It is important to keep in mind that while the cost risk to the contractor is low, a “good will” risk exists. A cost plus program that overruns substantially erodes the relationship between the contractor and the government, and the contractor and the public. Consequences can range from conversion to fixed price for future production units to loss of future business.

Answer 25

CPFF contracts should be used when: 1.Contract is for research or preliminary exploration and study, not development of major systems; and 2. Cost Plus Incentive Fee (CPIF) is not practical CPFF contracts have the following limits on fee, according to FAR 15.404-4 Profit (c)(4)(i): R&D = 15% Production & Services not R&D = 10% Architecture/Engineering = 6%

Question 26

Contract Types –Cost Plus Fixed Fee (CPFF) Tip: Fixed fee is a fixed amount. The FAR specifically prohibits fixed percentage fee

Answer 26

Cost-reimbursement contract that provides for payment to the contractor of a negotiated fee that is fixed at the inception of the contract The fixed fee does not vary with actual cost May be adjusted as a result of changes When to use: Contracts for research or preliminary exploration and study, not development of major systems Cost-plus-incentive fee is not practical Max fee: R&D = 15% Production and Services = 10% Architecture/Engineering = 6%

Question 27

Cost Plus Incentive Fee, or CPIF, is similar to FPIF in that the contract provides for an initially negotiated fee to be adjusted later by a formula based on the relationship of total allowable costs to total target costs. Again, the formula provides, within limits, for increases in fee above target fee when total allowable costs are less than target costs, and decreases in fee below target fee when total allowable costs exceed target costs. This increase or decrease is intended to provide an incentive for the contractor to manage the contract effectively

Answer 27

Unlike FPIF, when total allowable costs on CPIF are greater than or less than the range of costs within which the fee-adjustment formula operates, the contractor is paid total allowable costs, plus the minimum or maximum fee, respectively.

Question 28

Contract Types –Cost Plus Incentive Fee (CPIF)

Answer 28

Cost-reimbursement contract that provides for the initially negotiated fee to be adjusted later by a formula based on the relationship of total allowable costs to total target costs Specifies a target cost, a target fee, minimum and maximum fees, and a fee adjustment formula Range of Incentive Effectiveness (RIE) = range of costs within which the fee-adjustment formula operates When total allowable cost is above or below the RIE, the contractor is paid total allowable costs plus the minimum or maximum fee, respectively

Question 29

This is the same base case as the FFP and FPIF illustration; the picture is complicated by the addition of sharelines and min/max fee. New elements: Under target cost shareline: 40/60 (remember: government first, contactor second on all sharelines) Over target cost contractor shareline: 70/30 Min Fee: $0.3M (or 3% of target cost) Max Fee: $2.0M (or 20% of target cost)

Answer 29

On each of the three lines, three points are highlighted: the Target Cost (x = $10M), the min fee (y = $0.3M) and the max fee (y = $2M). The red line shows price as a function of cost, answering the question: “if actual costs incurred deviate from the target cost, what is the effect on price?” The effect on price is a function of the share ratio. In the case of a cost overrun, the price increases by the government share (X%) of the cost increase. In the case of an underun, the price decreases by the government share (X%) of the cost underrun. For CPIF contracts, a min and a max fee are defined. The range of costs between the min and max fees is called the Range of Incentive Effectiveness (or RIE). Outside of this range, the contract “converts” to a CPFF contract; there is no longer a changing fee to incentivize the contractor to control costs. For Cost Reimbursable contracts, there is no cost at which price stops rising (or falling). The dark green line is ROS. The formula for ROS is profit/price. To the left of the min fee, this relationship is not linear (the numerator (fee) is fixed while the denominator (price) is decreasing). To the right of the max fee, profit is dcreasing by the contractor share while price is increasing by the government share. With a min fee defined, profit cannot be negative. The light green line is profit in dollars. The rate of change of profit is again a function of the sharelines.

Question 30

RFP Response When the government issues a Request for Proposal * Bidder will examine the Statement of Work (SOW) What are the requirements? * Prepare a response based on guidelines in RFP Ex. Page limits, Evaluation Criteria

Answer 30

Sections of Proposal Technical volume Contractor’s approach to meeting SOW requirements Past experience Cost/Price Volume Estimate of cost/price to meet SOW requirements Includes below-the-line costs (PM, SE, etc.) Basis of Estimate (BOE) showing resources needed and methodologies used to determine cost. BOE written to level to address SOW

Question 31

Basis of Estimate (BOE) A BOE is needed for every estimated element of cost

Answer 31

WBS Period of Performance Description Methodology and Documentation Calculations Looks familiar?

Question 32

A Good BOE Answers

Answer 32

Who?… is performing the work Prime Contractor, Subcontractor(s) OK to combine organizations in a single BOE if the division of labor is clear This matters because it affects the rates, overheads, standard hours/FTE, etc. What?… tasks are to be performed Where?… is the work to take place Contractor facility or elsewhere? (May need separate BOE for each location) This matters because it affects the rates for people and for facilities, transportation and travel, etc. When?… is the work to take place This matters because it affects escalation and funding profiles Why?… was this data used? How?… did you adjust for similarities / differences Referenced data must be shown as part of the documentation, not just alluded to

Question 33

At What LevelShould You Do BOEs? This issue is more troublesome than almost any other. Engineers are justifiably obsessed with details. Who would want to ride in an elevator designed by a person who was not? The problem is, there is no data at that level, and data is the sine qua non of cost estimation and BOEs. It is true, to be sure, that lower levels of detil impress the technical, engineering readers of BOEs, and there will be those, and reviews teams will also drive you lower, but resist this impulse, stay where the data is, like Willie Sutton said to (side note: supposedly, when asked why he robbed banks, Willie answered “Because that’s where the money is.” This is apocryphal, Willie Sutton was indeed a famous bank robber, but when asked later about this, he denied he said it.) As in all matters on a proposal, obey the RFP, but if you have a chance, weigh in on this in the formative part of the process, try to get the RFP to give you some leeway.

Answer 33

As directed by the RFP (of course) The natural desire is to drive down to a lower level of detail than is required *This seems to increase credibility by showing your familiarity with the program *Problem is, you won’t have data at this lower level, so what you gain in showing familiarity, you lose by lessening credibility (and then some) Strike the right balance by not going too low

Question 34

Types of Cost Elements Some BOE authors, when introduced to the analogy method, go overboard and try to do analogies on everything, even ODCs. This slide is only an antidote to that problem … plus it discusses the source of risk in the three types. The scaled-by-a-driver type is the classical analogy type of element. The burden of justification is high partly because of the analogy and partly (especially) by the scaling factor. The risk is principally in the scaling factor because a scaling factor is really a judgment-driven replacement for a CER. The driver should be intuitive, like help desk staffing as a function of the number of users, but beware that “intuitive is in the eye of the beholder.” The M-to-N type is often found in ODCs. There is not much estimating burden in saying that there needs to be one laptop and one email account per engineer, although, on a separate but related issue, the customer may quibble on the grounds of expense, but not on the estimating rationale, just the management rationale. The risk is often in the number of FTEs, or the number or trips, (i.e., the N part) not in the number of computers per FTE, or the number of days/cars/hotel rooms per trip (the M part). Justification of the N is often found elsewhere, but may rest with the BOE author. Fixed pieces are easily justified once it is established that they are fixed. Beware of overusing this rationale. The crew of a fighter or a ship in not fixed (2 vs 1 for fighters, 500 vs 200 for ships) so don’t abuse this one. Likewise elements like Team Leads, and PMs, certainly there must be a leader, but did you over-divide the work into too-small teams? Do you have too much supervision or oversight? Do you really need one rep at each sub, or on each team for each sub? This is, again, sometimes more a question of economy, and less of estimation, when it comes up on Proposals.

Answer 34

Scaled by Driver *Driven by a countable or measurable quantity; should be intuitive Square or linear ft, Watts, Tons, Users, etc. Cost of another element *May be factors, rates, or a CER A factor is a CER with a zero intercept, usually cost-on-cost A rate is a CER with a zero intercept, usually cost-on-parameter Except for some predetermined rates like Per Diem, G&A, OH, Tax, etc. Justification burden is high Risk for Scaled by Driver The risk is in the driver M-to-N (often one-to-one) Driven by a countable parameter One email account per FTE One car per three travelers Justification burden is low (often prima facie) Risk for M-to-N The risk is in N “Fixed” Not driven by any other parameter “There must be a PM” Justification burden is low (often prima facie) Risk for Fixed Risk should be low

Question 35

Cost/Pricing Proposal –Estimating Methodologies Analogy Method The most commonly found method

Answer 35

Similar to other specific tasks or programs. Identify Tasks or Programs and comparison rationale. Provide the specific historical data point(s) used, the type and source of the historical data, any adjustments (factors) made to the historical data and the supporting rationale.

Question 36

Cost/Pricing Proposal –Estimating Methodologies Parametric Method Most often found in complex developmental H/W

Answer 36

Provide the specific historical data point(s) used, the type and source of the historical data, any adjustments made to the historical data and the supporting rationale for them, the equation calculated from the data with associated statistical measures (i.e., t and F statistics, significance levels, r-squared and standard error).

Question 37

Cost/Pricing Proposal –Estimating Methodologies Engineering Build-Up Method Seen in site hardware installation and late in manufacture of complex H/W

Answer 37

Provide a breakdown of the cost estimate by direct labor hours, direct labor dollars, direct material, and overhead. Where the effort represented by the cost record was divided into subtasks for estimating purposes, provide the breakdown at the top subtask level. For factors and rates used in engineering build-up, describe specifically how the factor/rate was derived from Historical Experience.

Question 38

Cost/Pricing Proposal –Estimating Methodologies Standard Cost Models Usual in developmental S/W, occasional in developmental elex

Answer 38

Identify the model and its vendor. Provide a copy of the input data file, and a description of the rationale for the selection of the input factors. Explicitly identify how the outputs map into the offeror’s estimate.

Question 39

Cost/Pricing Proposal –Estimating Methodologies Here are the remaining possible Estimating Methodologies used in Bases of Estimate. Company Standard Bidding System may apply to systems repeatedly user by major contractors to generate standard bids. The use of this method would generally require some sort of certification by the contracting entity. Expert Opinion is a less-preferred method, discussed in Module 2 Costing Techniques. Commercial Price may be a Catalog price or a Market Price, or may be determined by other methods. Finally, the catch-all “Other” is provided, but should be used only in the most unusual circumstances, when none of the standard methodologies applies

Answer 39

Company Standard Bidding System Rare Provide the details of the methodology and reference any DoD agency certifications that may apply. Refer to other methods that were used to develop the individual costs, and provide the justification for each individual item. Expert Opinion Frowned upon except for truly first-ever elements Identify the key individuals or organizations who contributed significantly to the estimate and their relevant qualifications, the major factors that were considered in making the estimate (e.g., experience with similar projects) and explain how those factors influenced the cost. Commercial Price Catalog price -- Identify the relevant commercial catalog, its date, catalog price for the item, and discounts offered. Provide a list of all sales for the item in similar quantities during the last three years. Market price -- Describe the nature of the relevant market and how that market affects the offered price including the source and date or period of any relevant market quotation or other basis for market price, the base market price, and applicable discounts or other price adjustments. Other commercial price -- Provide evidence of prices charged other customers under similar circumstances of quantity, terms, and conditions. Other A detailed description of the estimating methodology is required showing clear traceability to the cost proposed

Question 40

Cost/Price Comparative Analysis When the proposals are submitted to the government for technical and cost evaluation, the cost analyst is often tasked to perform a Cost/Price Comparative Analysis. The primary purpose of the Cost/Price Comparative Analysis is to evaluate the proposal(s) for reasonableness, providing an objective basis for comparison and validation of a systems cost. It will also help in various decision-making processes, such as performing CAIV-based analysis (capturing the cost impacts of design trades) or cost/benefits analysis (providing a basis for evaluating competing systems and initiatives). The comparative analysis will help objectively quantify the impact of program risks, both technical and schedule, and will assist the government in contract negotiations and long-range planning. For more detailed treatment of CAIV, CBAs, and risk, refer to Module 16 Cost Management, Module 13 Economic Analysis, and Module 9 Cost Risk Analysis, respectively. When the proposals are submitted to the government for technical and cost evaluation, the cost analyst is often tasked to perform a Cost/Price Comparative Analysis. The primary purpose of the Cost/Price Comparative Analysis is to evaluate the proposal(s) for reasonableness, providing an objective basis for comparison and validation of a systems cost. It will also help in various decision-making processes, such as performing CAIV-based analysis (capturing the cost impacts of design trades) or cost/benefits analysis (providing a basis for evaluating competing systems and initiatives). The comparative analysis will help objectively quantify the impact of program risks, both technical and schedule, and will assist the government in contract negotiations and long-range planning. SOW - Contract Vehicle - Cost/Pricing Proposal - Cost/Price Comparative analysis - Negotiations - Contract Award

Answer 40

When the proposals are submitted to the government for technical and cost evaluation, the cost analyst is tasked to perform a Cost/Price Comparative Analysis Purpose of the Cost/Price Comparative Analysis: *To provide an objective basis for comparison and validation of a system’s cost (evaluating for reasonableness) *To assist in performing CAIV-based analysis (e.g., cost impacts of alternative designs or architectures) *To provide a basis for evaluating competing proposals *To objectively quantify the impact of program risks, both technical and schedule *To assist the government in contract negotiations and long-range planning

Question 41

When the proposals are submitted to the government for technical and cost evaluation, the cost analyst is tasked to perform a Cost/Price Comparative Analysis Purpose of the Cost/Price Comparative Analysis: To provide an objective basis for comparison and validation of a system’s cost (evaluating for reasonableness) To assist in performing CAIV-based analysis (e.g., cost impacts of alternative designs or architectures) To provide a basis for evaluating competing proposals To objectively quantify the impact of program risks, both technical and schedule To assist the government in contract negotiations and long-range plannin

Question 42

Cost/Price Comparative Analysis Process: Cost/Price Comparative Analysis - Technical Understanding - BOE Review - ICE/ICA - Comparative Analysis The four basic steps of the comparative analysis process are to: (1) gain an aggregate technical understanding of the system/architecture; (2) review the BOE; (3) perform an independent cost estimate (ICE) or independent cost assessment (ICA) of the proposal(s); and (4) conduct comparative analysis of the proposal(s) and independent estimate. These steps will be described in detail in the following slides.

Answer 42

Cost/Price Comparative Analysis Process: * Achieve aggregate technical understanding of the system/architecture * Review of the BOEs * Independent cost estimate or assessment of the proposal(s) * Comparative analysis of contractor proposal(s) and independent estimate

Question 43

Cost/Price ComparativeAnalysis – Technical Understanding The first step is that the analyst must gain an aggregate technical understanding of the system/architecture(s) being proposed. A cost analyst must have some knowledge of the program they are costing. This is where cost estimating borrows from systems engineering and other engineering disciplines. The cost analyst should be able to answer: “What is the proposal for?” Is it initial development, a re-planning of program resources, the integration of additional requirements or a contract extension? “How does this proposal relate to past history?” The analyst may reference the same program or other relevant industry programs. “What is the conceptual effect of changes to the government’s acquisition baseline with the integration of this proposal?” That is, how will it affect the scheduled work on this program or related efforts? The cost analyst need not be (and should not be) the system engineer/architect of the program, but neither can he or she ignore the technical scope of the program.

Answer 43

Aggregate technical understanding of the system/architecture(s) being proposed * What is the proposal for? Initial development Re-planning of program Additional requirements Contract extension * How does this proposal relate to past history? Either to the same program or to relevant industry programs * What is the effect of changes to the government’s acquisition baseline on the integration of this proposal? How will it affect the scheduled work The cost analyst need not be (and should not be) the system engineer/architect of the program, but neither can he or she ignore the program’s technical scope.

Question 44

Cost/Price ComparativeAnalysis – BOE Review The BOE reviewer starts by addressing the standard interrogative adverbs and pronouns. Who is submitting the proposal/estimate? Is the BOE for an effort by the Contractor, Subcontractor, DoD Agency, or some other entity? What is being proposed? What system, element, or program is being referenced in the estimate? What is the content of the estimate? When is the work to be done? When was the work completed for the historical data being referenced? Why was this data used? Explain the similarities/differences between the historical data and the program being costed. How did you adjust your data or estimate for the impacts of these similarities/differences? It bears repeating that referenced data must be shown as part of the documentation, not just alluded to.

Answer 44

Do the BOEs answer the following questions? Who? (Contractor, DoD Agency, etc.) What? (system, element, or program is being referenced) When? (time frame of data used) Why? (was this data used?) *Explain the similarities/differences between the historical data and the program being costed How? (did you adjust your data or estimate for the impacts of these similarities/differences?) Referenced data must be shown as part of the documentation, not just alluded to

Question 45

Common BOE Errors These are the BOE errors we have encountered most frequently, across dozens of major proposal reviews. Cherry picking refers to choosing only one program out of a set of perfect reasonable analogy programs in order to get the answer the BOE author desires (usually the lowest, but sometimes the highest). While BOE standards may be adjusted somewhat to match the nature and magnitude of the cost element, don’t give in to the stubborn resistance to providing any basis at all. “Material? It’s a quote.” “Subcontractor? It’s proprietary.” “Travel? It’s just a bogey.” And so on. Failure to provide a basis puts the burden on the government evaluation team, and that’s a sure way to make them unhappy.

Answer 45

No basis whatsoever (or none evident) Adjustments with no basis (or basis not explained) Subs with no BOEs Cherry picking Missing elements BOEs out of sync with technical volume Two BOEs each claiming (or thinking) that the other BOE covers a cost Or, less often, two BOEs claiming the same cost Standards errors (e.g., MH/year, POP) Travel or material quantities unjustified Facility costs/choices unjustified Basing the estimate on another estimate Learning curve errors*

Question 46

Common Risk and Pricing Errors Risk

Answer 46

Missing risks implied by  the BOEs Missing or incorrect roll-up of risk register Not understanding relationship of the risk register to the MR Buried MR Missing technical risks Improperly characterized risks Improper/no analysis of Service Level Agreements (SLAs)* No risk register whatsoever (formerly common, but now less so) Pricing Out of sync with BOEs Missing BOEs/WBS Insufficient or no escalation Dangerously coupled with lack of inflation clauses Currency exchange rate hedging mischaracterized in risk/MR and/or misunderstood*

Question 47

Cost/Price Comparative Analysis – BOE Review Facilitation of a BOE-based Cost/Price Comparative analysis requires that documents are transparent, consistent and accurate; the estimating process must also be the best available. A transparent BOE provides the reviewer with all the information needed to replicate the proposal cost estimate. The reviewer must be able to clearly understand the estimate with only the detail provided in the documentation. BOEs must be consistent; all inputs, from the technical parameters (like the length of the ship) to the pricing parameters (like the hours/year a person works), needs to be consistent with source information and contract assumptions. Further, estimates for one functional area frequently depend on estimates in other areas. Program Management, for example, is likely a function of total proposed staff. The rationale cited in Program Management BOE in support of this function, therefore, must be consistent with the total proposed estimate. Accuracy must be checked; if there are math mistakes, the resultant cost estimate will not be correct. Cost Estimators on both sides must be sure they have done their due diligence; if there is a better way to estimate the system than the methodology used, the cost estimate should be updated!

Answer 47

Do the BOEs embody the following traits? Transparency – The whole point of the BOE is documentation; the BOE must clearly show the rationale used to derive the cost estimate Consistency – Information referenced in the BOE must match the source information, be it in the technical proposal/descriptions, historical documents and/or other parts of the contract effort Accuracy – Are the estimates calculated correctly? Due Diligence – Does the documented estimating process represent the best available cost estimating process and data?

Question 48

Cost/Price ComparativeAnalysis – Bottom Line The last step in the analysis is to prepare a comparative analysis of contractor’s proposal and independent estimate. The cost analyst should summarize and document the assumptions, resources and results of both the contractor proposals and the independent estimate, and should identify and explain each delta over a predetermined threshold (e.g., over or under by 20%). Contractor proposals must also be compared to each other in a similar fashion. Questions to ask regarding cost differences: What are the big differences in the estimates? For example, is the amount of software development comparable between the estimates? If not, why? Do both estimates contain the same cost elements (e.g., computer-based training, six-year recapitalization cycles on COTS HW, etc.)? If not, why not? Are any of the underlying assumptions between the contractor’s estimate and the independent estimate different? If so, why are they different and what is their impacts on the delta? Price Analysis is conducted on proposals where cost justification is not included as a part of the documentation. In this case, the price is evaluated without evaluating lower level cost and profit elements.

Answer 48

Cost Comparative Analysis Summarize and document the assumptions, resources and results of both the contractor proposals and the independent estimate Identify and explain each delta over a predetermined threshold What are the big differences in the estimates? e.g., is the amount of software development comparable between the estimates? If not, why? Do both estimates contain the same cost elements (e.g., computer-based training, six-year recapitalization cycles on COTS HW, etc.)? If not, why not? Are any of the underlying assumptions between the contractor’s estimate and the independent estimate different? If so, why are they different and what is their impacts on the delta? Price Comparative Analysis An analysis where proposed price is evaluated without evaluating proposed cost elements or profit (RFQ)

Question 49

True or False. Firm fixed price contracts are ideal for the contractor because the government assumes a majority of the cost and schedule risks.

Answer 49

False Any cost underrun (profit) or overrun (loss) is the responsibility of the contractor.

Question 50

Given the Target Cost is $9M, Target Profit/Fee is $1M, the Cost Ceiling is $10M and the Price Ceiling where applicable is $11M, what is the final price if the contract is CPAF, the cost is $9.2M and the award fee determination is 90%? A. $10.0м/ B. $10.1М С. $10.2м D. $11.0м

Answer 50

B. $10.1М Choice B Final Cost = 9.2 M Award Fee = 90% of possible 1M= 0.9 M So, Final Price=9.2+0.9= 10.1 M

Question 51

Given an estimated cost of $9M, Management Reserve of $1M, Target Profit/Fee is $1M, Cost Ceiling of $10M and a negotiated Price of $11M, what is the final price if the contract is Firm Fixed Price and the cost is $8.5M A. $8.5M в. $9.5м c. $10.0м D. $11.0M

Answer 51

D. $11.0M On a Firm Fixed Price Contract, the price to the procuring agency (the government) is the same regardless of the cost incurred by the contractor. The negotiated price was $11M, this is the final price of the contract.

Question 52

Given the Target Cost is $9M, Target Profit/Fee is $1M, the Cost Ceiling is $10M and the Price Ceiling where applicable is $11M, what is the final price if the contract is FPIF with a share ratio of 80/20 and the cost is $8.5M A. $9.5M B. $9.6M c. $9.9M D. $11.0M

Answer 52

B. $9.6M Choice B [See slide 19] Final Cost = 8.5 M Share Ratio = 0.2 (for contractor) TC-FC = 0.5 M Adj Profit = 1.1 M Final Price = 9.6 M

Question 53

Given the Target Cost is $9M, Target Profit/Fee is $1M, the Cost Ceiling is $10M and the Price Ceiling where applicable is $11M, what is the final price if the contract is CPFF and the cost is $10.5M? A. $10.5M B. $10.9M C. $11.00 D. $11.5M

Answer 53

C. $11.00 The Final Cost is $10.5M, and the Target Profit is $1M; without a Price Ceiling the price would be $11.5M. In this case, however, the final price cannot be higher than the Price Ceiling of $11M.

Question 54

For a Cost Plus Award Fee contract, the contracting agent can incentivize which of the following for successful contract performance? A. Cost B. Schedule C. Technical D. A and B only E. A and C only F. B and C only G. All of the above

Answer 54

G. All of the above Cost Plus Award Fee contracts provide for the incentivizing of Cost, Delivery (Schedule), and Performance. The fee award amount is based on a judgmental evaluation by the government.

Question 55

The Basis of Estimate for a proposal contains: A. The technical solution to the requirements issued B. The hours and materials used to provide the potential cost of the system C. The methodology used to estimate the cost D. A and B only E. A and C only F. B and C only G. All of the above

Answer 55

F. B and C only The essential elements of a BOE are: (1) Description of the work (Description, WBS, Cost Type, Schedule, and Activity Description); (2) Estimating Methodology; and (3) Planned Resources.

Question 56

When creating the Basis of Estimate, the method that estimates costs based on a comparison rationale to historical data points and any adjustment factors can be described as A. The Parametric method B. The Anclogy method C. Expert opinion D. None of the above

Answer 56

B. The Anclogy method An cost estimate based on adjustments to a similar program is an analogy.

Question 57

True or False. "The program management hours proposed, 15 hours per month for 12 months, are for level of effort (LOE) support for the period of 1/1/xx through 12/31/xx” is a valid BOE because it contains a description of the work, an estimating methodology, and planned resources.

Answer 57

False False. This BOE is not "auditable and replicable"; there is no data offered in support of the proposed estimate (15 hours/month for one year). How does the reviewer know this is the "right" estimate? What is included in the "program management" task referenced? This BOE really only includes planned resource hours.

Question 58

True or False. In an incentive type contract a share ratio of 90/10 will provide greater incentive for the contractor to control costs than a share ratio of 70/30

Answer 58

False False. In 90/10, for every dollar over, the contractor loses $0.10 whereas with 70/30, the contractor loses $0.30 for every dollar over, so 70/30 gives more incentive for the contractor to control costs.

Question 59

If the firm fixed price to the customer is $7M and the profit rate is 12%, then the proposed profit margin is? А. $0.75М В. $0.85М С. $6.25М 0. 57.84м

Answer 59

А. $0.75М Margin = fee/(1+fee) = 0.107142857 Profit margin = margin*price = $0.75 M

Question 60

There are limits on fee for Firm Fixed Price Contracts.

Answer 60

False On Fixed Priced Vehicles there are no limits on Fee. There are ceilings on Cost Reimbursable Contracts.

Question 61

On a Cost Plus Fixed Fee Contract (CPFF), the fee is a fixed function of which of the following? A. Executed Cost B. Executed Price C. Proposed Cost. D. The fee is a variable function

Answer 61

C. Proposed Cost. Fixed fee is a fixed amount, based on Target Cost. The FAR prohibts a fixed percent fee.

Question 62

Which of the following are Indefinite-Delivery Contracts: A. Indefinite-Quantity B. Requirements C. Definite-Quantity D. A and B E. B and C OF. A and C G. A, B and C

Answer 62

G. A, B and C There are three types of indefinite-delivery contracts: definite-quantity contracts, requirements contracts, and indefinite-quantity, or ID/IQ, contracts

Question 63

Time and Material (T&M) contracts differ from Labor Hour contracts in which of the following way(s)? A. T&M contracts are real; Labor Hours contracts are not B. T&M contracts are indefinate delivery and Labor Hour Contracts are definate delivery c. T&M contracts are definate delivery and Laber Hour Contracts are inderinate delivery D. In Labor Hour contracts, materials are not supplied by the contractor, whereas in THM they are. E. Band D F. Cand D

Answer 63

D. In Labor Hour contracts, materials are not supplied by the contractor, whereas in THM they are. Labor-hour contracts are a variation of the time-and-materials contract, differing only in that materials are not supplied by the contractor.

Question 64

The cost/price comparative analysis is conducted by the cost estimator and is detatched from the technical scope of the program.

Answer 64

False. While the cost analyst should not be the program system engineer or archietect, the technical scope is related to the cost estimate and cannot be ignored.

Question 65

True or False. In a FPIF contract, if the cost exceeds the Point of Total Assumption (PTA) the contractor earns zero profit.

Answer 65

False. Where costs are greater than the PTA, but less than the Price Ceiling, the contractor still earns some profit.

Question 66

Given the Target Cost is $9M, Target Profit/Fee is $1M, the Cost Ceiling is $10M and the Price Ceiling where applicable is $11M, what is the contractor profit if the contract is FPIF with a share ratio of 80/20 and the cost is $10.5 M? A. $1м в. $0 C. $5M D. $0.45M E. $0.9M F. $0.75M G. $0.5M

Answer 66

G. $0.5M PTA = 10.25 Target Profit = 1 M Contractor Share = 20% Government Share = 80% Target Cost = 9 M Final Cost = 10.5 M Price Ceiling = 11 M Adjusted Profit = 0.50 M Price = 11 M Remember to include the Point of Total Assumption in the profit calculations here. In this case, the contractor loses 20 cents on the dollar from Target Cost up to PTA: 0.20 * (10.25-9.0) = 0.25 Thereafter, the contractor loses dollar for dollar: 1.0 * (10.5-10.25) = 0.25 Total losses reduce profit by $0.50M: 1.0 - 0.5 = 0.5 Also, one can simply observed that once we’re past PTA, the Ceiling Price is the Final Price, and then Final Profit is just that Final Price minus Final Cost: 11.0 - 10.5 = 0.5

Question 67

Given the Target Cost is $9M, Target Profit/Fee is $1M, the Cost Ceiling is $10M and the Price Ceiling where applicable is $11M, what is the contractor profit if the contract is FPIF with a share ratio of 80/20 and the cost is $9.5 M? $1м в. $ом c. $5M D. $0.5M E. $0.9M F. $0.3м G. $1.2M

Answer 67

E. $0.9M Target Profit = 1 M Contractor Share = 20% Government Share = 80% Target Cost = 9 M Final Cost = 9.5 M Price Ceiling = 11 M Adjusted Profit = 0.90 M Price = 10.40 M

Question 68

Module 14 Contract Pricing provides an overview of the contracting process, its methodologies, and the integral role of cost estimating therein. The central idea of contracting is achieving a fair deal for both parties: the seller is allowed to make a decent profit while the buyer receives the goods and service negotiated in the contract. The guidelines in this module are appropriate for selecting contract types, developing a sound Basis of Estimate (BOE), and performing careful cost and price analysis of proposals. The government wishes to establish, and pay, a fair price for the hardware and systems for which they contract, and they use competition and negotiation to try to achieve it, the latter primarily in the sole-source environment. For both external and internal reviews, contractors must substantiate their estimates using BOE documentation to show that their numbers are justifiable, credible, and defensible.

Answer 68

This module does not focus on rate structures and how to turn labor hours and raw material costs into fully burdened costs, which is the typical emphasis of pricing, as distinct from both contracting and estimating. The basics of rates and burdens are discussed in Module 11 Manufacturing Cost Estimating. A key idea of contracting is that of commensurate risk and reward. The more difficult and riskier an undertaking is, the more there exists an expectation of significant profit. This expected return is tempered by considerable uncertainty in outcomes. It is not only necessary to satisfy the technical need but also to do so at a reasonable cost and schedule. It is at this time that the need for detailed contract pricing occurs in the acquisition.

Question 69

The primary analytical construct is the piecewise linear function, a function resembling a line that changes its slope at one or more points. In this case, the line is the shareline reflecting the sharing of risk between the government and the contractor. A 70/30 shareline, for example, means that the government agrees to cover 70 cents on the dollar of any overrun, while the contractor has to accept the remaining 30 cents on the dollar out of profit. Conversely, the contractor would reap an additional 30 cents profit on the dollar for any underrun, while the government would save 70 cent

Answer 69

The Federal Acquisition Regulation (FAR) system governs the process by which agents of the US government use appropriated funds to procure goods and services. The FAR states in section 2.101[1]: Acquisition planning means the process by which the efforts of all personnel responsible for an acquisition are coordinated and integrated through a comprehensive plan for fulfilling the agency need promptly and at a reasonable cost. It includes developing the overall strategy for managing the acquisition. The practical applications vary by whether one is government or contractor. Government estimators participate in all stages of acquisition planning, including developing Independent Cost Estimates (ICEs), participating in the development of the Requests For Proposal (RFP), and conducting cost and price analysis on received proposals to determine an evaluated cost. On the contractor side, estimators will be focused on the development of the cost proposal, perhaps evaluating proposals from subcontractors and teammates, and performing a risk-based revenue analysis for their corporate management. Both parties would bring their cost estimating and risk analysis skills to the negotiation process.

Question 70

Basics of Contract Pricing Contract pricing involves incorporating cost estimating techniques to evaluate and validate choosing the best contract vehicle. This module will not only cover the types of contract vehicles themselves, but also the cost estimating methodology used to evaluate the proposals in the contract pricing process. Overview of the Acquisition Process

Answer 70

he acquisition process ...begins at the point when agency needs are established and includes the description of requirements to satisfy agency needs, solicitation and selection of sources, award of contracts, contract financing, contract performance, contract administration, and those technical and management functions directly related to the process of fulfilling agency needs by contract.[1] Initial contract pricing is performed in support of awarding the contract. Such support includes high-level costing of requirements in the early requirements phases, a more detailed cost estimate during solicitation and source selection, and a cost analysis comparison of the contractor's proposal to the government estimate. This comparative analysis is discussed in Comparative Analysis. After contract award, the cost analyst will maintain a level of cost support to each acquisition effort as needed. The contract pricing support may include a comparative analysis of actuals against the estimate, updating the cost estimate baseline for the program with actuals, and performing contract pricing functions for the contract modifications that will be needed. These are all the contract pricing functions for an analyst performing contract pricing and analysis for the government. If an analyst is approaching this process from the contractor side, it is beneficial to know each of these steps so that the contracting officer can coordinate the best possible cost and engineering solution. The contractors will be creating the engineering alternatives to support the development of a system to satisfy the requirements set out by the contracting entity. The cooperation and coordination of the contractor with the contracting entity can benefit all in the contracting process. Conversely, when coordination is lacking, problems and miscommunications can occur, which may be detrimental to both parties.

Question 71

Purpose of Contract Pricing The purpose of contract pricing is to establish a fair and reasonable price for the effort: Contractor: Defensible BOEs and approved rates support the price. Government: Cost analysis supports the release of RFPs and the evaluation of proposals. Questions asked during contract pricing are:

Answer 71

What is the potential cost for a system that satisfies a given set of requirements? What is the cost of a contractor's solution? What are the differences in the estimates? The potential system cost is determined using Independent Government Cost Estimates (IGCEs). Cost and price proposals support the contractor solution price. Finally, cost and price analyses identify the differences between the IGCE and the proposals

Question 72

Contract Types After setting the requirements and writing the SOW, the governing agency then starts the procurement process. The first step is to determine the contract vehicle that the system will use. The two broad categories of contract types are fixed-price contracts and cost-reimbursement contracts. In fixed price contracts, price is determined first and then cost is subtracted, resulting in a profit. Profit may be negative when the cost exceeds price. Fixed price contracts include:

Answer 72

Firm Fixed Price (FFP) and Fixed-Price Incentive (FPI). In cost-reimbursement contracts, the government reimburses the total cost, to which a determined fee is added to result in the price so that revenue is guaranteed to be positive, though it may be quite low for poor performance. Cost reimbursement (i.e., cost reimbursable or cost plus) contracts include: Cost Plus Award Fee (CPAF), Cost Plus Incentive Fee (CPIF), Cost Plus Fixed Fee (CPFF), and Other Types.

Question 73

Contract Pricing by Type For each of the four main types of contracts (FFP, FPI, CPIF, CPAF) the financial implication is depicted on a graph like the one shown in figure 14.5; the same base case will be presented on each. Throughout the discussion of contract types, the contract type only matters if the program deviates from the Target Cost (TC) (i.e., if you underrun or overrun). The contract type does not affect the profitability of the program if the TC is achieved. No matter what the contract type, the analyst should conduct the cost estimate with rigor. Note the following distinctions:

Answer 73

Target Cost (TC) is the contractor's projected incurred expense for the contract. Target Profit (TP) is the contractor's projected award fees and incentives. Price is the actual cost of the contract paid by the government to the contractor, including award fees and incentives.

Question 74

Other Fixed Price Another fixed price contract vehicle is the fixed price contract with economic price adjustment. This contract provides for adjustments based on increases or decreases from established prices of specific items; on increases or decreases from actual, specified costs of labor or material; and on increases or decreases from contractually-specified cost indexes of labor or material. This vehicle is not as strict as the FFP. It allows for some market fluctuation and has the government take on some of this risk.

Answer 74

Fixed Price Level of Effort (FP LOE) contracts require fixed labor rates for resources. The government dictates the actual hours required. This contract type is appropriate when the work is not suitable for a completion type contract.

Question 75

Basis of the Estimate Content A well-written BOE addresses all aspects of the estimate. This fact makes BOEs a good test to apply to the proposal. BOEs should address the following:

Answer 75

Who performed the work? Was the historical data used for the estimate performed by prime contractors or subcontractors? If the division of labor is clear, it is acceptable to combine organizations into a single BOE, but this consolidation can affect the rates, overhead, standard hours per Full-Time Equivalent (FTE), etc., and should be done with care. What tasks were performed? The BOE should document which tasks are accounted for in the estimate. Where the work took place? Was the work regarding historical data performed at a contractor facility or somewhere else? Different locations may require separate BOEs, as different locations can have different rates for labor, different facility costs, and various travel and transportation costs. When the work took place? The fiscal year the work was performed affects escalation and funding profiles. Why this data was used? The BOE should justify using the data source(s). How the data was normalized or adjusted for similarities and differences?' This information is necessary for traceability. A summarization of relevant costs and parameters usually suffices for BOE documentation. The RFP (Section L Instructions to Offerors) should be referenced for page count instruction and inclusion rules.

Question 76

Types of Cost Elements Some BOE authors use analogies on everything, even Other Direct Costs (ODCs). This practice raises three potential sources of risk:

Answer 76

Scaled-by-a-driver: Drivers used for scaling may be factors, rates, or a Cost Estimating Relationship (CER). The burden of justification is high partly because of the analogy and partly by the scaling factor. The risk is principally in the scaling factor because a scaling factor is a judgment-driven replacement for a CER. The driver should be intuitive and driven by a countable or measurable quantity, like help desk staffing as a function of the number of users. M-to-N: M-to-N is driven by a countable parameter, like one email account per FTE or one car per three travelers and is often found in ODCs. There is not much estimating burden claiming that there needs to be one laptop and one email account per engineer. The customer may protest on the grounds of expense but not on the estimating rationale. The risk is often in the number of FTEs, or the number of trips, (i.e., the N part) not in the number of computers per FTE, or the number of days/cars/hotel rooms per trip (the M part). Justification of the N is often found elsewhere but may rest with the BOE author. Fixed: Pieces are easily justified once it is established that they are fixed. This rationale can be overused. The crew of a fighter or a ship is not fixed (2 vs. 1 for fighters, 500 vs. 200 for ships) and project type matters. This practice is sometimes more a question of economy and less of estimation when it comes up on proposals.

Question 77

Estimate Quality There are many characteristics of high-quality estimates. Meeting these high standards is especially important in proposals as the competitiveness of the company's proposal may depend in large part on its cost credibility

Answer 77

The estimate must reflect the right content, corresponding to the correct technical/design baseline and WBS, as described in the accompanying technical description. Base the estimate on accepted methodologies, use historical data, and perform the appropriate statistical analysis. The FAR has a specific requirement for the appropriate use of data (referred to as "Cost and Pricing Data") defined in section 2.1[1]: Cost or pricing data are more than historical accounting data; they are all the facts that can be reasonably expected to contribute to the soundness of estimates of future costs and the validity of determinations of costs already incurred. Select CERs with the best possible statistics. The estimate should be unbiased, neither overly optimistic nor conservative, but also a reasonable assessment of most likely cost. It should be comprehensive, with nothing left out, but also not redundant. Any ground rules or assumptions that drive cost must be documented, and a reviewer of the BOE should be able to replicate the answer given by following the same methodology. Recall from Module 1 Cost Estimating Basics that replicability is the best cross-check for documentation.

Question 78

Estimate Validity Cross-checking results between estimates is recommended when creating a proposal. Validating the results from one methodology using another also increases credibility. For example, a parametric-based estimate can also show an analogy as a reasonableness test. The estimates will not necessarily result in the same number but should be of a similar order of magnitude. Here are some general guidelines:

Answer 78

Within reason, more information is better than less. Include any information used for the analysis in the documentation; do not refer to studies or other sources that are not attached. Show all work.

Question 79

Cost/Price Comparative Analysis Process The four basic steps of the comparative analysis process are to:

Answer 79

gain an aggregate technical understanding of the system/architecture, review the BOE, perform an ICE or Independent Cost Assessment (ICA) of the proposal(s), and conduct a comparative analysis of the proposal(s) and ICE or ICA.

Question 80

Technical Understanding The analyst must gain an aggregate technical understanding of the system and system architecture(s) proposed. A cost analyst must have some knowledge of the program they are costing. This intersection is where cost estimating borrows from systems engineering and other engineering disciplines.

Answer 80

The cost analyst should be able to determine what the proposal is for (e.g., initial development, re-planning of program resources, integration of additional requirements, contract extension), how the proposal relates to history (e.g., by comparing data from the same program or relevant industry programs), and how the proposal will affect the scheduled work on the program or related efforts. The cost analyst is not the system engineer/architect of the program, but the analyst cannot ignore the technical scope of the program.

Question 81

Basis of the Estimate Review The BOE reviewer starts by addressing the following: Who is submitting the proposal/estimate? Is the BOE for an effort by the contractor, subcontractor, DoD Agency, or some other entity? What is being proposed? What system, element, or program is being referenced in the estimate? What is the content of the estimate? When the work will be done? Ensure the historical data has been escalated. Why the data is being used? Explain the similarities/differences between the historical data and the program being costed. How the data was adjusted or normalized? Demonstrate how the similarities and differences were accounted for and how the estimate was impacted.

Answer 81

It bears repeating that the analyst must provide referenced data as part of the documentation. Some common errors found in BOEs include: no basis whatsoever, adjustments with no basis, subcontractors with no BOEs, cherry picking (defined below), missing elements, BOEs that out of sync with technical volume, two BOEs each claiming or thinking that the other BOE covers a cost, two BOEs claiming the same cost, errors in standards (e.g., MH/year, Period Of Performance), travel or material quantities unjustified, facility costs/choices unjustified, basing the estimate on another estimate, and learning curve errors.

Question 82

Cherry picking refers to choosing only one program out of a set of perfectly reasonable analogy programs to get the answer the BOE author desires (usually the lowest, but sometimes the highest). BOE standards may be adjusted somewhat to match the nature and magnitude of the cost element. Failure to provide a basis puts the burden on the government evaluation team and can affect the pricing evaluation process. Common risk-related errors include: missing risks implied by the BOEs, missing or incorrect roll-up of the risk register, not understanding the relationship of the risk register to the Management Reserve (MR), buried MR, missing technical risks, improperly characterized risks, improper or no analysis of Service Level Agreements (SLAs), and no risk register whatsoever.

Answer 82

Common pricing-related errors include: being out of sync with BOEs, missing BOEs or WBS, insufficient or no escalation, lack of inflation clauses, and currency exchange rate hedging misunderstood or mischaracterized in risk or MR.

Question 83

Independent Assessment Following a review of the BOEs, the cost analyst is tasked to either provide an ICE or ICA of the various competing proposals, or both. The analyst may create an estimate of the same system solution proposed based on historical data and appropriate methodology, or, if multiple competing proposals are submitted, the analyst may create an assessment of the difference in each of the proposals to include methodology, resource quantity, and technical solution

Answer 83

Note the historical data and methodology used by the analyst may differ from that of the contractor(s). If different methods arrive at the same answer, consider this result a strong cross-check of the proposal.

Question 84

Comparative Analysis The last step in the analysis is to prepare a comparative analysis of the contractor's proposal and an independent estimate. The cost analyst should summarize and document the assumptions, resources, and results of both the contractor proposals and the independent estimate and should identify and explain each delta over a predetermined threshold (e.g., over or under by 20%). Analysts must also compare contractor proposals to each other. Questions to ask regarding cost differences:

Answer 84

What are the big differences in the estimates? For example, is the amount of software development comparable between the estimates? If not, why? Do both estimates contain the same cost elements (e.g., computer-based training, six-year recapitalization cycles on Commercial Off The Shelf, hardware, etc.)? If not, why not? Are any of the underlying assumptions between the contractor's estimate and the independent estimate different? If so, why are they different, and what are their impacts on the delta? Price analysis is conducted on proposals where cost justification is not included as a part of the documentation. In this case, the price is evaluated without evaluating the lower level cost and profit elements.