Breakout Session #802 Jim Kirlin, Manager, Program Contracts, Raytheon Date April 14, 2008

2. The Five Most Common Mistakes in Cost-Reimbursement Contracting - and How to Avoid Them! Breakout Session #802 Jim Kirlin, Manager, Program Contracts, Raytheon Date April 14, 2008 Time 1:50 – 2:50 p.m.

3. Disclaimer and Non-attribution • Disclaimer • The views in this presentation are those of Jim Kirlin only and are not to be construed as the views of the Raytheon Company • Non-attribution • Do not attribute the discussions today to the speaker or those in the audience

4. Ensuring Trust in Cost-Reimbursement Contracting • Acquisition Process • Cost-Reimbursement contracting is a sophisticated business arrangement • People • People must know the rules • Teams • Buyer and Seller teams must be on the same page • Tools • Systems must be used to manage Mistakes erode trust!

5. Learning Objectives • Know the Five Most Common Mistakes • Know How They Occur • Know How to Avoid Them

6. Outline • Scenario for This Presentation • Characteristics of Cost-Reimbursement (C-R) Contracting • The Five Mistakes • What are they • How they occur • How to avoid them • Summary • Resources for Further Information • Contact Information • Questions and Answers

7. Scenario for this Presentation

8. Scenario for this Presentation • FAR Cost-Reimbursement contract • Contract administration (not formation) phase • Highlight common issues • Provides buyer and seller view • The perspective is that of a contract manager • Based on my 23 years of experience in government and industry • I made these mistakes!

9. Characteristics of Cost-Reimbursement Contracting

10. Characteristics of C-R Contracting • Payment of allowable incurred costs to the extent prescribed in the contract • An estimated total cost is established • A funding ceiling is established that the seller may not exceed (except at its own risk)

11. Characteristics of C-R ContractingUse When • Uncertainties do not permit costs to be estimated with sufficient accuracy to use any type of fixed-price contract • Contractor’s accounting system is adequate for determining costs applicable to the contract • Appropriate buyer surveillance • Prohibited for commercial items (FAR 2 & 12)

12. Characteristics of C-R ContractingTypes of C-R contracts • Cost • Cost-sharing • Cost-plus-incentive fee (CPIF) • Cost-plus-award fee (CPAF) • Cost-plus-fixed-fee (CPFF) • Cost-plus-percentage of cost is prohibited

13. The Five Most Common Mistakes in Cost-Reimbursement Contracting

14. The Five Most Common Mistakes in Cost-Reimbursement Contracting • Misunderstanding Scope • Statement of Work is the Most Important • Misunderstanding Amount of Effort Required • Misunderstanding the Difference Between Price and Funding • Change Management is Not Important

15. First MistakeMisunderstanding Scope

16. How the First Mistake Occurs Misunderstanding Scope • Buyer: We’d like you to go to the planning meeting • Seller: What! That’s out of scope. We’ve been to 100 meetings so far • Buyer: The Statement of Work (SOW) says “attend meetings” so it’s within the scope of the contract so you have to go • Seller: But we only proposed 10 meetings • Buyer: Your proposal isn’t on contract Audience: What was the Seller really trying to say?

17. How to Avoid the First Mistake Misunderstanding Scope • Scope is about the “four corners of the contract” • Changes clause allows unilateral changes “within the general scope of the contract” • Changes beyond the scope of the contract are considered Cardinal changes and cannot be ordered under the Changes clause • Typical standards to determine within scope • Within the contemplation of the parties • Essentially the same work

18. How to Avoid the First Mistake Misunderstanding Scope • Generally, most day to day changes are about theories of equitable adjustment • Specification changes • New work • Buyer delays • Etc. • Key strategies to avoid mistake • Educate teams to use proper terms • Focus on the cause of the equitable adjustment

19. Second MistakeThe Statement of Work is the Most Important

20. How the Second Mistake Occurs Statement of Work is the Most Important • Buyer: I still want you to go to the meeting • Seller: We are out of money • Buyer: The SOW says “attend meetings” so you have to go • Seller: Are you going to provide more money? • Buyer: No. What part of “attend meetings” do you not understand? Audience: What is the importance of the SOW compared to the rest of the contract?

21. How to Avoid the Second Mistake Statement of Work is the Most Important • Order of Precedence used to resolve inconsistencies in the contract • The SOW is generally low in the Order of Precedence

22. How to Avoid the Second Mistake Statement of Work is the Most Important • In this scenario, the Buyer is pointing out that the Limitation of Funds (or Costs or Government Obligation) clause takes precedence over the requirements of the SOW • Key strategies to avoid mistake • Educate teams on order of precedence • Educate teams on key contract clauses • Emphasize reading contract as a whole “What the large print giveth, the small print taketh away” (author unknown)

23. Third Mistake Misunderstanding Amount of Effort Required

24. How the Third Mistake Occurs Misunderstanding Amount ofEffort Required • Buyer: If you deliver late, I’m going to terminate you for default. The delivery schedule is specific. • Seller: You can’t, cost-reimbursement is a level of effort • Buyer: This isn’t time-and-materials. You have to deliver the final product on time • Seller: No way. If you don’t like my level of effort, tell me to stop. By the way, we’re out of funds • Buyer: Keep going. Deliver or I’ll see you in court! Audience: How are they right? Wrong?

25. How to Avoid the Third Mistake Misunderstanding Amount of Effort Required • These clauses do not allow themselves to be trumped (unless by specific reference to the clause and stated as an exception) • Limitation of Funds (52.232-22) for incremental funding C-R • Limitation of Costs (52.232-20) for fully funded C-R • Limitation of Government Obligation (LOGO) – agency specific • Seller required to use its best efforts to perform the work within the estimated cost of the contract • Seller not obligated to perform beyond funding on the contract • Buyer not obligated to reimburse costs beyond the funding on the contract

26. How to Avoid the Third Mistake Misunderstanding Amount of Effort Required • Do not rely on Best Effort standard to excuse non-performance • Less fee • Termination for convenience • Bad past performance • Less future business • Key strategies to avoid mistake • Educate team on Limitation of Funds, Costs, LOGO clauses • Provide required funding notices required by these clauses • Track performance closely via EVMS

27. Fourth MistakeMisunderstanding the Difference Between Price and Funding

28. How the Fourth Mistake Occurs Misunderstanding the Difference Between Price and Funding • Buyer: Perform this change with no increase in price • Seller: This change will cause an overrun. What work do you want to cut out to pay for this change? • Buyer: Don’t cut any work. There is money to pay for this because you haven’t spent all of the money yet • Seller: Speaking of money, I’ll need more of that also • Buyer: I don’t have any more money! Audience: What is being confused?

29. How to Avoid the Fourth Mistake Misunderstanding the Difference Between Price and Funding • Funding • Dollars obligated to the contract • Used to pay bills • Can be spent • Using funding faster than planned results in funding shortfalls • Price • In C-R contracting, price is expressed as “estimated total cost” • Price or “estimated total cost” is called Budget in Earned Value Management System (EVMS) language • Budget is a plan (e.g. – your annual household budget) • Budget cannot be used to pay bills • Budget cannot be spent • Overrun means that more budget is used to accomplish the work than estimated or planned

30. How to Avoid the Fourth Mistake Misunderstanding the Difference Between Price and Funding • Key strategies to avoid mistake • Educate teams on the differences • Use of EVMS to track cost vs budget • Provide funding notifications required by Limitation of Funds or similar clause • Evaluate changes for unfunded and unbudgeted mandates • Suggest cost avoidances to stay within budget and within funding profiles

31. Fifth MistakeChange Management is Not Important

32. How the Fifth Mistake OccursChange Management is Not Important • Buyer: You’re late sending in several proposals to definitize prices • Seller: What’s the problem? We’re turned on and we have funding. You can’t argue with actuals, right? • Buyer: We’re supposed to get these definitized asap. By the way, do you agree the last change was at no increase in price? • Seller: No big deal, as long as you keep paying the bills, we’re happy. If we need to submit a request for equitable adjustment later, I’ll let you know. Don’t worry! • Buyer: I am worried. I don’t know what this program is going to cost us! Audience: Why should both parties care about managing the changes?

33. How to Avoid the Fifth MistakeChange Management is Not Important • Key strategies to avoid mistake • Thorough requirements definition • Accurate cost estimating • Good EVMS discipline • Strong risk and opportunity management program • When bidding: enough opportunities to offset risks • Execution phase: tracking and implementing • Educate team on the requirements in the contract regarding change management • Who is authorized to change the contract • Required notice to buyer when a change is noted • Accepting changes and negotiating impacts • Definitizing changes in a timely manner

34. Summary • The Five Mistakes • Misunderstanding Scope • Statement of Work is the Most Important • Misunderstanding Amount of Effort Required • Misunderstanding the Difference Between Price and Funding • Change Management is Not Important • How They Occur • Misunderstandings in common day to day administration of the contract • How to Avoid • Smart people and teams • Good processes and tools Result: Trust in Cost-Reimbursing Contracting

35. Resources for Further Learning • FAR 16.3 Cost-Reimbursement Contracts • Chapter 8 – Types of Contracts in Formation of Government Contracts, Nash and Cibinic, The George Washington University • Chapter 4 – Changes in Administration of Government Contracts, Nash and Cibinic, The George Washington University

36. Contact Information • Jim Kirlin • 260.429.6259 • Jim_W_Kirlin@raytheon.com

37. Questions and Answers • You have comments – please share • You have questions – we have answers • Audience help in answering is welcome • Share the time with others • Must conclude formal part on time • Be glad to discuss afterwards outside room

38. It’s Been an Honor! Thank You!