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Dcaa 3rd annual conference presentation by duncan.turner

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  • 1. What Is and Isn’t “Reasonable” Compensation: Successful Approaches for Using Survey Data to Support Your Position American Conference Institute’s 3rd DCAA Audit & Compliance Boot Camp
  • 2. 2 Introduction Nancy Thorn Turner Director, Ethics and Compliance Orbital Sciences Corporation Amber Duncan Manager, Compensation Consulting CBIZ Human Capital Services Certified Compensation Professional (CCP)
  • 3. 3 Overview • DCAA Compensation Methodology • How to Support Reasonable Compensation • Case Studies - Orbital and CBIZ Experience • Conclusions
  • 4. DCAA Compensation Methodology
  • 5. 5 DCAA Methodology Based On: • Federal Acquisition Regulation (FAR) • DCAA Contract Audit Manual (CAM) • Case Law – Armed Services Board of Contract Appeals (ASBCA)
  • 6. 6 DCAA Compensation Methodology • Reasonable executive compensation ranks third in terms of questioned costs
  • 7. 7 Federal Acquisition Regulation (FAR) • FAR 31.205-6, Compensation for Personal Services – Must be for work performed in current year; no retroactive adjustments – Total compensation must be reasonable – Consistent with established compensation plan or practices – Otherwise allowable • Amended June 26, 2013 – Cap now applies to ALL employees, not just the top 5 – Costs incurred after January 1, 2012 – On contracts awarded after December 31, 2011
  • 8. 8 DCAA Methodology • Factors for determining reasonableness per FAR 31.205-6(b)(2) may include, but are not limited to conformity with compensation practices of other firms—  (i) Of the same size; ? (ii) In the same industry; X (iii) In the same geographic area; and ? (iv) Engaged in similar non-Government work under comparable circumstances.
  • 9. 9 DCAA Methodology – Case Law • ASBCA No. 47849 – Information Systems & Network Corporation – Properly dated compensation data should be used – No premium for owners performing multiple functions – Company financial performance should be considered in determining reasonable comp – Compensation offsets should be considered • ASBCA No. 41470, 45387, 45388 – Techplan Corporation – No discount for owner-CEOs performing multiple functions – Survey data should be for similarly sized companies – Multiple survey sources should be used – 10% ―range of reasonableness‖
  • 10. 10 DCAA Methodology – Case Law Recent Developments • ASBCA Nos. 56105 and 56322 – J.F. Taylor, Inc. – ASBCA Rejected DCAA's Methodology for determining reasonableness of executive compensation, citing that the DCAA methodology was ――fatally flawed statistically and therefore unreasonable.‖ Fatal flaws included: • Ignoring dispersion of data and instead relying upon 10% range of reasonableness • Ignoring differences in survey response sizes • Not initially considering financial performance • Not considering any other drivers of compensation (security clearances, customer satisfaction, etc.) • Varying industry classification over 4-years in question • Varying matches over same studies
  • 11. 11 DCAA Methodology – Case Law Recent Developments – Fatal flaws included (continued): • Relying upon different surveys each year • Using median and average interchangeably from different surveys, • Considered revenue responsibility of each person rather than overall company – Accepted opposing expert witness compensation methodology: • 95% confidence range • Weighting of surveys based upon number of respondents
  • 12. 12 DCAA Methodology – Case Law Recent Developments • ASBCA No. 56624, 56751, and 56752 – Metron, Inc. – Survey Data: ASBCA allowed Metron to rely upon one Radford Survey rather than the DCAA’s multiple surveys that it found ―were not sufficiently comprehensive, reliable, relevant to Metron's industry, and/or the job matches were not sufficiently similar and representative to warrant material reduction of the results obtained from use of the Radford Survey data alone― – Manipulation of Survey Data: ASBCA deemed the DCAA’s manipulation of Radford survey data based upon prevalence of annual incentives to be flawed – Market Comparison Point: DCAA selected 66th and 41st percentile as market comparison points on the basis of firm’s revenue compared to peers only. ASBCA found methodology to calculate percentiles flawed. Board also rejected the concept of assigning contractors a point on the spectrum based on revenues and found Metron could pay above average based upon required executive qualifications.
  • 13. 13 DCAA Methodology – Case Law Recent Developments – Peer Group: ASBCA found peer group selected by DCAA to allow ―misleading comparisons with much larger companies with marke4ly differing organizational and financial structures.‖ – Comparable Positions: DCAA matched Senior Engineers to mid-level managers rather than Vice President level. Based upon review of duties, ASBCA found to be a Vice-President or Top-level postion. – Compensation Plans: Metron Case affirmed fact that compensation plans and decisions should be documented in advance.
  • 14. 14 DCAA Mid-Atlantic Region Compensation Review Process* • Evaluate basis of contractor compensation • Determine the position to be evaluated • Identify appropriate surveys & positions • Update surveys to appropriate date • Identify and determine appropriate survey percentile • Apply 10% Range of Reasonableness • Adjust results for offsets as necessary • Compare claimed comp to average of survey results • Detailed review of contractor rebuttal * DCAA Policy and Plans Directorate, April 2013
  • 15. How to Support Reasonable Compensation
  • 16. 16 How to Support Reasonableness Be prepared to engage Contracting Officer and DCAA • Are surveys used by auditors the right ones? – Get the details, which industry, which size, geographic location – Do you use or have access to another survey more appropriate? • Are there unique aspects to the position within your company or corporate responsibilities? • Are surveys being used/interpreted in a statistically valid manner? • Provide evidence of financial and non-financial performance and accomplishments of company and employees being evaluated • Compensation plan
  • 17. 17 How to Support Reasonableness • Job titles and descriptions – Ensure the job title reflects the level of duties being performed – Note any advances degrees, special skills/credentials, clearance requirements, etc. – Note if executive has any corporate-wide responsibilities • Write a logical rebuttal if Executive Compensation Review Team identifies ―unreasonable‖ compensation
  • 18. Case Studies
  • 19. 19 DCAA Rebuttal Success - Example 1
  • 20. 20 Example 1 – Overview • DCAA reviewed the compensation of the VP and Chief Scientist of a division of a satellite manufacturer and found $89,500 of the total cash compensation paid to the individual was unreasonable and therefore unallowable. • Matched to the 50th percentile in two surveys. • Company was measured against the High Tech Manufacturing Group, Manufacturing Durable Goods Group, Manufacturing All or All Organizations in one survey (Mercer) and the Aerospace, Group, High Technology Group or Durable Goods Manufacturing Group in the other survey (Watson Wyatt). Which group was used depended on the availability of data. • It was not possible to discern which group was used for which position.
  • 21. 21 Example 1 – DCAA Interaction • Company argued the position was unique with responsibility for large engineering function. • Compared the position to VP of Chief Engineers position in a different survey which focuses solely on High Tech Companies. • Company argued that based on the unique position, financial and technical performance of the division and company, and the comparable industry, the comparison should be to the 75th percentile. • DCAA reviewed the rebuttal and found all compensation to be allowable.
  • 22. 22 Example 1 – Lessons Learned • 75th percentile compensation can be supported through unique position, financial and technical performance of the division and company • Market matches and survey selection are up for discussion
  • 23. 23 DCAA Rebuttal Success - Example 2
  • 24. 24 Example 2 – Overview • The DCAA reviewed compensation at a small closely held high-technology company and found maximum allowable total cash compensation to be $263,151. • Actual total cash compensation was $404,400. • After reviewing DCAA results, CBIZ recognized that the DCAA had matched the company’s CEO to a published survey CEO and CTO, weighted 39% and 61%, respectively, unfairly discounting the position. • In addition, the DCAA compared this high-performing company to a 50th percentile range of reasonableness.
  • 25. 25 Example 2 – DCAA Interaction • CBIZ found maximum reasonable total compensation (including total cash compensation, LTI, benefits and perquisites) to be $804,758, for a difference of $541,607 from the DCAA allowable total cash comp. • The DCAA agreed to change market match to CEO and use 75th percentile data as the market comparison point, but did not allow LTI or geographic adjustment of the data. The DCAA also did not consider perquisites or benefits. • With the DCAA revisions, all actual compensation was found to be allowable, saving the company nearly $150,000. • CBIZ continues to provide client with pre-emptive compensation studies.
  • 26. 26 Example 2 – Lessons Learned • Pay close attention to how you title your executives. • If performance can be proved to be at or above the 75th percentile of an appropriate peer group, the DCAA may allow a 75th percentile plus 10% range of reasonableness.
  • 27. 27 DCAA Rebuttal Success – Example 3
  • 28. 28 Example 3 - Overview • DCAA found reasonable total cash compensation to be $680,551 for the 4-executive management team of this high technology California company. • Actual compensation was $968,945, for a total questionable compensation expense of nearly $300,000. • The executives were paid nearly identically (i.e. little differentiation of pay by level). • The DCAA used its standard median plus 10% range of reasonableness and matched the positions to market data based on title.
  • 29. 29 Example 3 – DCAA Interaction • CBIZ demonstrated performance above the 75th percentile of peers in key financial indicators listed in the CAM (revenue growth, net income, return on shareholder’s equity, return on assets, return on sales, earnings per share and return on capital). • CBIZ argued the company’s positions titled CTO and Chief Business Development Officer should be matched to a published survey COO and Top Sales position, respectively. • CBIZ determined maximum reasonable total compensation to be $1,680,904, nearly $1 million above the DCAA total cash compensation figure. • The DCAA changed the matches and agreed to use 75th percentile data, bringing DCAA total reasonable compensation to approximately $930,000 and saving the company $250,000.
  • 30. 30 Example 3 – Lessons Learned • Titles are key. • Determine DCAA-acceptable financial performance measures and peers in advance. • If performance can be proved to be at or above the 75th percentile of an appropriate peer group, the DCAA may allow a 75th percentile plus 10% range of reasonableness. • While the DCAA allows offsets of compensation components (i.e. benefits), high pay to one executive and low to another cannot offset each other. Each executive’s pay is reviewed individually.
  • 31. 31 DCAA Rebuttal Success - Example 4
  • 32. 32 Example 4 - Overview • DCAA found reasonable compensation to be $466,402 for the company CEO and COO at this small high tech government contractor. • Actual total cash was $523,592. • The DCAA used its standard median plus 10% range of reasonableness.
  • 33. 33 Example 4 – DCAA Interaction • Before hiring CBIZ, client tried to handle issue themselves. • DCAA’s questioned compensation increased based on client arguments. • CBIZ was able to prove performance above the 90th percentile. • CBIZ found maximum reasonable compensation (75th percentile) to be $1,188,053. • The DCAA agreed to revise its results by using 75th percentile data saving the company $60,000.
  • 34. 34 Example 4 – Lessons Learned • Determine DCAA-acceptable financial performance measures and peers in advance. • Always be courteous to our friends at the DCAA and know rules before challenging.
  • 35. 35 Conclusions • Compensation is a major focus of DCAA Audits • Defining reasonable compensation is a multi-faceted issue • No way around caps • Proactively document reasonable compensation and allocations to contracts – Purchase significant survey data; or – Use outside compensation expertise
  • 36. Questions? Amber Duncan, CCP Nancy Thorn Turner Manager, Compensation Director, Ethics and Compliance CBIZ Human Capital Services Orbital Sciences Corporation 800-844-4510, ext. 295 or 703-404-7860 alduncan@cbiz.com turner.nancy@orbital.com 36