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i 

25–151 2017

[H.A.S.C. No. 115–35] 

EVALUATING THE DEFENSE CONTRACT 

AUDITING PROCESS 

HEARING 

BEFORE THE

SUBCOMMITTEE ON OVERSIGHT 

AND INVESTIGATIONS 

OF THE

COMMITTEE ON ARMED SERVICES 

HOUSE OF REPRESENTATIVES 

ONE HUNDRED FIFTEENTH CONGRESS 

FIRST SESSION 

HEARING HELD 

APRIL 6, 2017 
(II) 

SUBCOMMITTEE ON OVERSIGHT AND INVESTIGATIONS 

VICKY HARTZLER, Missouri, Chairwoman 

K. MICHAEL CONAWAY, Texas 

MATT GAETZ, Florida 

JIM BANKS, Indiana 

LIZ CHENEY, Wyoming 

AUSTIN SCOTT, Georgia 

SETH MOULTON, Massachusetts 

TOM O’HALLERAN, Arizona 

THOMAS R. SUOZZI, New York 

(Vacancy) 

MATTHEW SULLIVAN, Professional Staff Member 

BARRON YOUNGSMITH, Counsel 

ANNA WATERFIELD, Clerk 
(III) 

C O N T E N T S 

Page 

STATEMENTS PRESENTED BY MEMBERS OF CONGRESS 

Hartzler, Hon. Vicky, a Representative from Missouri, Chairwoman, Subcommittee on Oversight and Investigations ...................................................... 1 

Moulton, Hon. Seth, a Representative from Massachusetts, Ranking Member, 

Subcommittee on Oversight and Investigations ................................................ 2 

WITNESSES 

Bales, Anita F., Director, Defense Contract Audit Agency, Under Secretary 

of Defense (Comptroller) ...................................................................................... 3 

Berteau, Hon. David, President and Chief Executive Officer, Professional 

Services Council ................................................................................................... 15 

Panetta, John, National Secretary, Financial Executives International ............ 17 

Thomas, James, Assistant Vice President of Policy, National Defense Industrial Association ................................................................................................... 19 

APPENDIX 

PREPARED STATEMENTS: 

Bales, Anita F. .................................................................................................. 33 

Berteau, Hon. David ......................................................................................... 52 

Hartzler, Hon. Vicky ........................................................................................ 29 

Moulton, Hon. Seth .......................................................................................... 31 

Panetta, John .................................................................................................... 68 

Thomas, James ................................................................................................. 87 

DOCUMENTS SUBMITTED FOR THE RECORD: 

[There were no Documents submitted.] 

WITNESS RESPONSES TO QUESTIONS ASKED DURING THE HEARING: 

Mrs. Hartzler .................................................................................................... 101 

QUESTIONS SUBMITTED BY MEMBERS POST HEARING: 

Mrs. Hartzler .................................................................................................... 105 

(1) 

EVALUATING THE DEFENSE CONTRACT 

AUDITING PROCESS 

HOUSE OF REPRESENTATIVES, COMMITTEE ON ARMED SERVICES, SUBCOMMITTEE ON OVERSIGHT AND INVESTIGATIONS, Washington, DC, Thursday, April 6, 2017. 

The subcommittee met, pursuant to call, at 9:00 a.m., in room 

2212, Rayburn House Office Building, Hon. Vicky Hartzler (chairwoman of the subcommittee) presiding. 

OPENING STATEMENT OF HON. VICKY HARTZLER, A REPRESENTATIVE FROM MISSOURI, CHAIRWOMAN, SUBCOMMITTEE ON OVERSIGHT AND INVESTIGATIONS 

Mrs. HARTZLER. Good morning. This hearing will come to order. 

I welcome our subcommittee members and witnesses testifying before us today. 

Over the last 15 years, the Department of Defense [DOD] has become increasingly reliant on the use of government contractors. 

When used properly, this public and private partnership can both 

improve our national security and at the same time preserve limited government resources. But this work requires competent and 

timely oversight. 

To that end, financial audits of defense contracts can play a vital 

role in ensuring that expenditures paid by the government for 

goods and services are fair and reasonable. It also ensures that taxpayers are getting the best bang for their buck. 

Within the Department of Defense, the Defense Contract Audit 

Agency, or DCAA, is charged with this critical mission. Today’s 

hearing seeks to learn more about where the auditing process is 

working and identify any shortcomings with current accounting efforts. I am always looking for productive ways to improve government performance. I look forward to hearing from our witnesses 

about their feedback on the current auditing system. 

At the outset, I have several overarching questions about how 

the audit process is working within DCAA. In particular, for years 

DCAA has had a significant backlog of incurred cost audits. These 

audits are meant to identify instances where the government might 

have overpaid. However, as I understand it, it has been taking on 

average more than 2 years from the time DCAA receives the information necessary to conduct an incurred cost audit to the date the 

audit report is issued. 

These delays can create problems for government contract managers. Their efforts to recover improper costs are slowed. It also 

means managers do not have important financial information available soon after an expenditure takes place when the information is 
2 

most important. From a business perspective, this delay can also 

create economic burdens. I look forward to hearing from our panel 

of industry experts on how these delays impact the private sector. 

I also have questions about how efficiently DCAA is performing 

these incurred cost audits. Although they account for the most significant portion of total costs audited each year, these audits only 

account for a relatively small amount of reported savings. I want 

to understand how much these audits are costing American taxpayers compared to the return from that cost. 

On a related note, I am interested to hear from our witnesses 

about how DCAA audit practices compare to what is commercially 

acceptable in the private sector. Perhaps there are lessons to be 

learned outside of government that could improve defense contract 

audit performance. 

The bottom line is simple: We all want a fair, efficient, and timely auditing process that works for all interested parties. I look forward to everyone’s views this morning in addressing this important 

topic. 

But before I introduce the witnesses, I turn to Mr. Moulton, the 

Oversight and Investigations Subcommittee ranking member, for 

any opening remarks that he would like to make. 

[The prepared statement of Mrs. Hartzler can be found in the 

Appendix on page 29.] 

STATEMENT OF HON. SETH MOULTON, A REPRESENTATIVE 

FROM MASSACHUSETTS, RANKING MEMBER, SUBCOMMITTEE ON OVERSIGHT AND INVESTIGATIONS 

Mr. MOULTON. Thank you, Madam Chairwoman. 

The topic of our hearing today should be important to anyone 

concerned about accountability, efficiency, and transparency in our 

multibillion-dollar defense sector. 

The Defense Contract Audit Agency is the government organiza- tion charged with auditing the $287 billion in defense contracts 

that the Pentagon and other agencies make with private businesses 

every year. That makes it one of the main organizations whose job 

it is to ensure that the taxpayers’ defense dollars are well spent 

and not stolen, wasted, or otherwise abused. DCAA also helps the 

government negotiate more competitive prices from the private sector. 

These roles, in which DCAA holds a public trust, are important 

to keep in mind as we discuss the pace of DCAA’s auditing process. 

According to their annual report, DCAA currently has a backlog of 

incurred cost audits that it needs to reduce to ensure defense contracts are not unnecessarily delayed. But as we try to reduce this 

backlog, we should also be wary of exactly what proposals are 

made to do so and anything that could undermine the public trust. 

One thing under consideration is proposals to privatize the functions of DCAA and hand this important work over to private auditors. I am a strong believer in public-private partnerships, and I 

have personally advocated for them in many sectors, including 

transportation projects in which I have worked. 

In this case, however, I caution that early estimates suggest privatization could cost the taxpayers about 30 percent more, and we 

would also be positioning a small number of auditing companies to 
3 

oversee defense contractors with whom there would likely be conflicts of interest. Obviously, the history of Enron and the financial 

crisis suggest we have to be very careful in this situation. 

We should also keep in mind the origin and state of DCAA’s 

backlog as we develop defense reform policies. DCAA first developed a backlog when the number of defense contracts and expenditures ballooned during the wars in Iraq and Afghanistan. 

DCAA has certainly made mistakes. In 2010, it recognized this 

problem, hired 400 additional workers, and adopted new strategies 

to begin reducing the backlog. Those efforts have, in fact, succeeded 

so far. And as you can see from the graph of the backlog presented 

in the testimony, it has been shrinking by about 4,000 contracts 

per year to the point where about 4,677 are left in the queue. When 

the pace has slowed more recently, it has been due to sequestration 

and now President Trump’s hiring freeze. 

This evidence suggests that we can make a lot of progress on this 

backlog by properly resourcing DCAA’s mission, mitigating the impact of sequestration and hiring freezes, and ensuring DCAA has 

enough capacity to cope with an unexpected increase in defense 

spending. 

I look forward to the testimony this morning to understanding 

better how we can make reforms and improve the process and, ultimately, preserve the important mission that DCAA does for our 

taxpayers and for our defense. 

Madam Chair. 

[The prepared statement of Mr. Moulton can be found in the Appendix on page 31.] 

Mrs. HARTZLER. Thank you, Mr. Moulton. 

Today, we are going to have two panels. First, we will get to visit 

with and hear from the director of the DCAA, and then our second 

panel will be from the private sector. And we look forward to both 

those testimony. 

And we do have votes a little after 10, and so hopefully, we can 

get both panels in and get this hearing wrapped up. 

But I really am pleased to recognize Ms. Bales, Ms. Anita Bales, 

director of the Defense Contract Audit Agency. And members have 

already been provided with her biography. 

So thank you for being here, Ms. Bales, and we will welcome 

your opening statement. 

STATEMENT OF ANITA F. BALES, DIRECTOR, DEFENSE CONTRACT AUDIT AGENCY, UNDER SECRETARY OF DEFENSE 

(COMPTROLLER) 

Ms. BALES. Thank you. Chairwoman Hartzler, Representative 

Moulton, and members of the subcommittee, thank you for the opportunity to appear before you today. 

You have my written statement. And now in my opening, I would 

like to highlight points related to our processes for incurred cost 

audits and for bringing in independent public accounting firms to 

conduct incurred cost audits. 

The incurred cost audits have received a lot of attention by several organizations concerned about us getting the backlog down. I 

would like to recap that the backlog resulted from significant in-
4 

creases in defense spending post-9/11 while DCAA staffing remained stagnant. 

To address the backlog, the agency came up with a comprehensive approach. Despite the staffing challenges, we have reduced the 

backlog 75 percent over the past 5 years. We expected to be current 

by the end of fiscal year 2018, but need to assess the impact of the 

current hiring freeze. 

Let me expand on two of those initiatives. First, the use of multiyear audits has reduced our audit time by 40 percent over singleyear auditing. Because of the efficiency obtained through multiyear 

audits, we would see this as a methodology we would like to continue after we resolve the backlog. 

Second, implementing low-risk sampling allowed us to reduce the 

number of audits we conduct. Based on risk and materiality, we 

only audit a small percentage of low-risk submissions. Using our 

low-risk procedures over the past 5 years, we closed over 14,000 incurred cost years without an audit. 

I believe part of the desire to use IPAs [independent public accounting firms] is a belief they are more efficient based on people’s 

experience with their financial statement audits. 

That brings me to our first concern: Contracting audit is different 

from financial statement auditing. A financial statement auditor 

attests that the financial statements fairly present the financial position of the company in accordance with Generally Accepted Accounting Principles, or GAAP. For contract auditing, GAAP standards are only part of the equation. DCAA auditors also have to 

evaluate the costs are in accordance with statutory cost accounting 

standards and the Federal Acquisition Regulations. 

The risk the financial auditor faces is a material misstatement 

in the company’s financial statements. The risk the contract auditor faces is the payment of improper cost. The materiality associated with those risks is different. 

Let me illustrate the risk and materiality aspect through my experience doing financial statement audits. I worked on an audit of 

a balance sheet, and applying materiality levels we determined 

that if a line item wasn’t at least $100 million, it was not material 

and we wouldn’t audit it. 

However, if we had been concerned about making payments, 

money actually going out the door that shouldn’t, no company or 

government entity would say, it is only $90 million, so that is okay. 

So that is the difference in the risk, in the materiality levels. 

In addition, many expenses that are acceptable under GAAP are 

unallowable under CAS [Cost Accounting Standards] and FAR 

[Federal Acquisition Regulation]. The contract auditor has to take 

additional steps to prevent that risk of improper payment. 

Another challenge IPAs may face that would be difficult to overcome is the efficiencies that DCAA can bring to bear through having the knowledge gained by doing other types of audits for contractors and for having access to all the contractors and subcontractors. 

First, our work on each type of our audits, be it incurred costs, 

forward price, business systems, all of the different audits that are 

in our portfolio, inform our risk assessment on all other audits, al-
5 

lowing us to do less work, bringing efficiencies in that will be lost 

if we don’t do the incurred cost audits. 

Second, subcontracts are a large part of most audits. Incorporating results of separate subcontractor audits into the prime contractor report is very efficient for us, because as one agency, we can 

share results and collaborate across our offices. If an IPA were to 

perform the prime contract incurred costs, the government would 

have to create new processes to facilitate the subcontractor audits 

among the IPAs. 

Finally, 65 percent of all incurred cost audits involve auditordetermined annual indirect rates for incurred cost submissions. 

FAR distinguishes this function as inherently governmental. 

In the coming year, I would like to continue to work with the 

committee to better understand its objectives and how to best 

achieve those. I will also ask that you give me the time to work 

with industry and the acquisition community on these acquisition 

reform ideas to include evaluating the appropriate use of IPAs and 

doing a cost-benefit analysis of performing single-year audits versus multiyear audits. 

We have seen clear benefits. Multiyear audits reduce our audit 

time by 40 percent, and industry has responded favorably to the 

potential of reducing their resources as well. I want to better understand any detrimental effects of a 2-year inventory, and I will 

work with stakeholders to determine the costs and benefits of auditing one year at a time. However, at this point, I suggest that a 

40 percent increase in efficiency makes a compelling case for gathering more information before discontinuing the multiyear process. 

I commit to you that if a data-driven cost-benefit analysis demonstrates that single-year audits are more beneficial than multiyear audits, we will do single-year audits. 

I would like to thank the committee for allowing me to share my 

thoughts. If investments are going to be made in additional resources, I would like the opportunity to restore and stabilize 

DCAA’s staffing levels. I would like the opportunity to finish what 

we are so close to achieving. 

I look forward to your questions, and if there are any additional 

questions after the industry panel, I would welcome the opportunity to answer those. Thank you. 

[The prepared statement of Ms. Bales can be found in the Appendix on page 33.] 

Mrs. HARTZLER. You bet. 

Thank you very much, Ms. Bales. That was very interesting, especially your comments about the multiyear auditing, and that is 

encouraging, something to look into. 

You mentioned materiality, and I wanted to hone in on that 

again. So what is the standard of materiality DCAA auditors use 

when conducting? Is it $100 million? You used that example. 

Ms. BALES. No. That example I used was when I worked for the 

Army, I did financial statement audits. And due to the magnitude 

of the assets and liabilities on the Army’s balance sheet at that 

time—and that information is dated—$100 million was the materiality level we used. And so if there was an asset on the balance 

sheet that was less than $100 million, it could be entirely wrong 
6 

and not materially misstate the financial statements. So that is 

why we would not choose that line as one to audit. 

But within DCAA, we don’t do a standard percentage, because it 

depends on the risk level of the different cost elements that we 

would look at. We may have a cost element that we have experience with over the years and have not identified any discrepancies 

or questioned costs. We would look at that—we would make the decision whether we even want to look at that cost segment first, because we do a two-step risk evaluation. 

First, which audits do we do. And that gets into, like, our lowrisk sampling, because we have determined that certain companies 

and their incurred costs are low risk. We don’t audit every one. We 

put them into a sample, and we only do a sample of the low risk. 

We believe doing the sampling is important, because it provides a 

deterrent effect. If there was the possibility that you would never 

be audited, what would creep into the incurred costs. 

So that is the first step, is deciding which audits to do. And then 

when we start an audit, we start looking at the risk that involves 

the different cost segments, be it labor, material, subcontract costs, 

other direct, and determine where the risk is and decide which elements to audit and to the degree that we audit those. 

Certain costs are more sensitive, so we would have a lower materiality level on those than we would ones that would flow down and 

end up not having as large an impact on the overall cost. 

Mrs. HARTZLER. Okay. Very good. 

So talk about your backlog. You mentioned that a little bit. And 

so as I understand it, in fiscal year 2011 the total value of the 

backlog inventory was $414 billion and in fiscal year 2016 the total 

value and the backlog inventory is $409 billion. So why has the incurred cost backlog not been reduced more in terms of the actual 

value of the audits that are pending? 

Ms. BALES. The dollar value will continue to go up as we get additional incurred costs in every year. Every year we get about 5,000 

additional incurred cost submissions, and the dollar value that 

comes in relates to the dollar value that is being contracted out 

over the past few years, because we will get an incurred cost audit 

that will have the dollars for that fiscal year for all contracts for 

that company. So part of the increase is also due to how much is 

out on contract. 

The dollar value we have probably reduced—we started reducing 

the dollar value—I think you have a chart in the—if not in my testimony, in the report to Congress—that shows that, initially, we 

brought the numbers of incurred cost submissions down more 

quickly than we brought down the dollars. 

And part of that goes to the multiyear auditing. We started with 

our multiyear auditing on the smaller contractors. So we were able 

to bring down the numbers of submissions faster than we were able 

to bring down the dollars. But we have now moved into doing 

multiyear audits, sometimes upwards of 4 years at our larger contracts, and you now see the backlog of dollars coming down faster. 

Mrs. HARTZLER. Okay. Is it true that DCAA has issued approximately 14,000 low-risk memos to reduce the backlog? 
7 

Ms. BALES. Yes, that is true. That is the ones I referred to that 

we have closed without audit. We do a low-risk memo to close those 

out. 

Mrs. HARTZLER. Sure. So how many audits were actually completed during that time? 

Ms. BALES. That number is—I apologize for not having that—— 

Ms. HARTZLER. Sure. That is fine. 

Ms. BALES. I think that number is around 4,000. But let me— 

I will confirm that and get back to you. 

[The information referred to can be found in the Appendix on 

page 101.] 

Mrs. HARTZLER. Okay. So you completed 4,000 and then just 

wrote off 14,000, and that is the way to reduce the amount of backlog quick. 

Ms. BALES. Right. But that, it goes back into the risk assessment 

of doing that. And, you know, that is one of the things that we hear 

a lot, is, well, you audit everything and you don’t consider risk. So 

as we went into the low-risk sampling, we did take a look at those 

submissions. And every submission we get in, we do an evaluation 

of the submission to help determine if it should be low risk or not. 

Mrs. HARTZLER. Okay. 

Ms. BALES. So we see what is in there. We also do other audits 

to say, you know, we have looked at vouchers that have come in, 

we do interim vouchers, which is kind of like a mini incurred cost. 

So if we don’t have issues that are coming in on those vouchers, 

that is another reason we can determine those low risk. So if we 

haven’t done an audit, it is not that we haven’t done anything in 

evaluating that contractor’s cost. 

Mrs. HARTZLER. Very good. Thank you. 

I have got more questions, but I will go to other members. 

Ranking Member Moulton. 

Mr. MOULTON. Thank you, Madam Chairwoman. 

So as I mentioned in my opening statement, I think that as we 

all look at opportunities for Defense Department reform, one of the 

things that we are taking a serious look at is the role that the private sector plays and can play in the future in functions like this 

and functions, frankly, across the Department of Defense. There 

are a lot of places where the private sector is better equipped to 

do things than the military or the defense civilians, and we have 

done a lot of contracting out in recent years. But I just want to dive 

into that a little bit with you to better understand exactly what 

that would look like here. 

One of the issues that has been brought up in, sort of, an early 

look at this is the potential for conflicts of interest. So can you just 

explain a little bit more what that means, what kinds of private 

auditors would be available to do this work, and why there might 

be this heightened risk? 

Ms. BALES. Well, one of the issues that an auditor that—a company that would come in and potentially do the incurred cost audits, they could not audit any company that they do any other work 

for, because they would then be making a determination on their 

own costs, because their own costs would be part of what is in that 

contractor claim. 
8 

There is also the issue, potentially, of proprietary data. One of 

the things that our contractors are very concerned about is who 

sees their proprietary data. And I think this would be a question 

that industry would have to ask is—have to answer is how comfortable are they with sharing their proprietary data with folks 

that may be auditing their competitors. And, obviously, we audit 

the competitors, but our purpose is very much into the government 

interest. 

Mr. MOULTON. Right. Sure. But there are a lot of—there are 

thousands of companies. There are plenty of auditors out there. 

Why is the issue that they be, you know, potentially auditing their 

competitors in this situation, whereas that is not the case in another typical industry? 

Ms. BALES. And I think that gets down to the level of proprietary 

data. One of the things that we find with our contractors is they 

are very trusting and know that we take care of very sensitive data 

in terms of their price relationships and cost relationships and 

what they charge different customers. We had a situation with one 

contractor where they were comfortable giving us the information, 

but it was very controlled, and we had to make a judgment on that. 

They didn’t really even want to share that information with the 

contracting officer. 

So I think that is the difference between sharing contract—auditors that might do their financial statement audits, which is very 

public information, versus doing audits that are in the contract 

arena, which has that very sensitive proprietary data. 

Mr. MOULTON. Well, what are the private companies that could 

do this kind of contract auditing? 

Ms. BALES. I would assume that the folks that are going to come 

in and look at this would be, you know, all of your—the public accounting firms. I think you will have to look at the different sizes 

that would—you know, some of the smaller ones would not be able 

to probably absorb an audit that relates to the really large contractors. I don’t know in terms of the large contractors if they would 

really be able to come in and do this type of work or if it would 

conflict them out on other audits that they do. 

Mr. MOULTON. Okay. But the important thing to understand is 

that, at least in your estimation, the big public accounting firms 

would have the capability to do this? 

Ms. BALES. They would. 

Mr. MOULTON. Okay. Even though it is different than the typical 

financial statement accounting? 

Ms. BALES. Right. 

Mr. MOULTON. Okay. That is very helpful. 

When we are talking about the backlog, there is, obviously, some 

concern across DOD with the hiring freeze and the impact that 

that has been having on the work. Could you talk about whether 

that is an issue and how you are working around it at this point? 

Ms. BALES. It is absolutely an issue for us, because we came into 

fiscal year 2017 lower on our end strength than we needed to complete the work years that we had planned for this year. And we 

were under a hiring freeze in fiscal year 2016 as a result of the 

2016 NDAA [National Defense Authorization Act] that didn’t allow 

us to do work for nondefense agencies, so that lowered the reim-
9 

bursable dollars that we have in that fund about 10 percent of our 

workforce. 

So we had to go into a hiring freeze to accommodate that reduction in funding in 2016. So we entered 2017 very low. And we 

wanted to hire back that loss from 2016 as well as our normal attrition. We were planning on hiring about 100 people a month, and 

we started doing that in the first quarter. It got turned on a little 

slower. And right now we aren’t in a hiring freeze—we are in a hiring freeze—so we haven’t been able to hire that in January, February, March, and still not hiring to date. 

So we are really getting behind the power curve on our ability 

to execute the work years that we need to this year. And the later 

we hire in the year—at this point, there is probably no way that 

we can hire enough to complete the number of work years that we 

need to this year. 

Mr. MOULTON. Okay. Great. Thank you very much. Thank you 

for being here. 

Madam Chairwoman. 

Mrs. HARTZLER. Thank you. 

Mr. Scott from Georgia. 

Mr. SCOTT. Thank you. Thank you, Madam Chair. 

Ma’am, you will have to forgive me. I did not receive the testimony until 9:30 last night. 

Ms. BALES. I apologize. 

Mr. SCOTT. When was the testimony due? 

Ms. BALES. It was due 48 hours before. And quite honestly, as 

it went through the approval process, it got kicked back to us. 

Mr. SCOTT. And the approval process, that is through OPM [Office of Personnel Management]? 

Ms. BALES. It is through our Pentagon and then over to OMB 

[Office of Management and Budget]. 

Mr. SCOTT. I am sorry. OMB is what I meant. 

Ms. BALES. Yes. 

Mr. SCOTT. Madam Chair, I hope we will start taking note of 

when we actually receive testimony. 

Mrs. HARTZLER. Yes, absolutely. 

Mr. SCOTT. It makes it very difficult to do a good job when you 

don’t have the testimony prior to the meetings. 

Ms. BALES. Sir, we were pushing as hard as we could. 

Mr. SCOTT. I understand, ma’am. But there is a breakdown of 

management there that has to be fixed for us to do proper oversight. I don’t blame it—and understand this, I don’t blame you for 

it. It seems to be habit in most of our agencies today. 

Second, I will tell you, I think you are exactly right. If you have 

a threshold of $100 million, I think you are going to have an awful 

lot of stuff stop between $85 and $95 million. So I hope you will 

continue to audit it. 

One thing I would also encourage that we never do is something 

in the auditing that has been done in health care, which is what 

is called RAC [Recovery Audit Contractor] audits, where auditors 

are actually paid a commission instead of a fee. 

My question for you, though, is how do you measure success? 

What are the most important metrics, in your opinion, to evaluate 

your agency’s performance? 
10 

Ms. BALES. So one of the things we obviously do is report our return on investment. I think that is important for our investors or 

taxpayers through Congress to know what they are getting for the 

dollars they spend on us. And currently, in fiscal year 2016, our return on investment was 5.7 to 1. And I will say those are actual 

realized benefits and dollars that don’t go out on contract or money 

that we get back in through our incurred cost audits. 

One of the things that we learned back in 2007, 2008, is you 

have to have a balanced set of metrics, because if you only measure, like, production, then you forget about quality. Or if you only 

measure return on investment, you may start doing things that 

drive unintended behavior, and we don’t want to do that. 

I know one of the rumors or myths out on the street is that our 

auditors get appraised for finding dollars. None of our auditors in 

any of their performance standards say, you get X amount of dollar 

savings and you are going to get an ‘‘exceed,’’ you are going to get 

an award, you are going to get anything like that. What we measure our auditors on is that they do quality audits that meet the 

standards and that find what is appropriate. 

One of the things that we do is we measure the amount of exceptions that we find on an audit, which is how many dollars do we 

question. But then we also balance that with how much do we sustain, because we don’t want our auditors just questioning cost because it looks good to question. You have to have that balance of 

how much do we sustain. 

So that is what we look for, is measuring—getting balanced 

measures. Part of it is dollar return. That is what, you know, obviously, we look at, is making sure we do fair and reasonable prices, 

and that is very easily measured in dollars. 

We also look at our timing. So, obviously, the incurred cost backlog is not a good story as we look at our timing metric, but as we 

look at our forward pricing and we look at—we have brought down 

our elapsed time on that, we have brought down our elapsed time 

on most of our audits, and we also look for forward pricing, meeting what we promised the customer. 

Mr. SCOTT. Can I ask you, obviously, you are auditing things 

that happen on our bases and equipment that we purchase. 

Ms. BALES. Right. 

Mr. SCOTT. Are your auditors actually on-site at the base permanently or do they simply go in as requested? 

Ms. BALES. So our auditors, they go into the contractor facilities 

and do the audit versus doing the audits on base. So we have residencies at many of the large contractors, and then with our smaller 

contractors we have branch offices where they go out and go to the 

contractor facilities. Because while the expenditures for what we 

audit are used on base, what we audit is the contractor. 

Mr. SCOTT. Thank you for your testimony, ma’am. I am out of 

time. But I do wonder if maybe it would be better to audit at the 

base level, would be a question if we have time I will come back 

to. But I yield the remainder of the time that I am out of. 

Mrs. HARTZLER. Well, thank you, Mr. Scott. 

Mr. Suozzi. 
11 

Mr. SUOZZI. Director, thank you so much for your time today. 

Would you say your main job is to try and root out waste, fraud, 

and abuse in the Department of Defense? 

Ms. BALES. I would say it is to make sure that—absolutely. I 

mean, that is, I think, a job of any Federal employee, is to make 

sure we don’t have fraud, waste, and abuse in our expenditures. 

And the way we do that is making sure that we are getting fair 

and reasonable prices for the goods that we—the Department expends with our contractors. 

Mr. SUOZZI. So how many employees do you have in your department now? 

Ms. BALES. We are currently around 4,500. It fluctuates. 

Mr. SUOZZI. And in your view, what would be the ideal number 

of people to have in that department? 

Ms. BALES. We have estimated, as we went through this, that if 

we could settle in around 5,000, that we would be able to do our 

portfolio of audits. One of the things that we did to reduce the incurred cost backlog was to go in and ask for more resources and 

put that in the budget. And we were able to get to about in between 5,000 and 5,100 a couple of times in between the sequestration and the hiring freezes. And if we could do that, we think we 

will be able to accomplish our incurred cost backlog and then accomplish incurred costs on a regular basis, as well as doing the 

other audit. 

Mr. SUOZZI. You say you would like to see a 10 percent increase 

in your current employee level? 

Ms. BALES. Yes. And that is what we have on hand. Currently, 

we have a higher budget than what we have on hand, as we said, 

because of the hiring freeze, so—— 

Mr. SUOZZI. So the incurred cost backlog, you say it is based 

upon the submissions. How do you get a submission in the first 

place? How does something get in the queue in your list of what 

is on the incurred cost backlog in the first place? What makes that 

list? 

Ms. BALES. So every contractor that has flexibly priced contracts 

are required to submit an annual incurred cost submission 6 

months after the end of their fiscal year. For us, that means we 

get most of ours in at 30 June, because most of the contractors, 

about 75 percent of them, have calendar year end as—— 

Mr. SUOZZI. So 100 percent of those are subject to audit? 

Ms. BALES. If they have flexibly priced, yes. And they are subject 

to audit. And then we go in, again, as the low-risk process. Not all 

of them will get audited. We do the sampling. 

Mr. SUOZZI. But 100 percent of those type of contracts become on 

the list of incurred cost backlog? 

Ms. BALES. Yes. Yes, sir. 

Mr. SUOZZI. And is that a reasonable way of doing that, of looking at 100 percent of them? Is that a statute? Or is that a requirement? 

Ms. BALES. It is a requirement. 

Mr. SUOZZI. As a statute or is something you do, your department determined? 
12 

Ms. BALES. No. It is statutorily required that if you have fixed— 

flexibly priced contracts that you submit an incurred cost submission. 

Mr. SUOZZI. Is that a good way of doing it, that all of them make 

the list? 

Ms. BALES. I think yes, because as I go back to the deterrent effect, that if you have flexibly priced contracts and you can report— 

record costs, we are going to say we are going to reimburse you for 

all your costs, if no one is looking at what your costs are or there 

is not the chance that the cost that you submit will be looked at, 

there is that opportunity to put a lot of costs on. And it is one of 

those things. It is like we help folks be honest. 

Mr. SUOZZI. Okay. You think it makes sense that 100 percent are 

on the list? 

Ms. BALES. Yes. 

Mr. SUOZZI. That is all I want to know, your expert opinion. 

Do you issue an annual report of any kind that we could 

read—— 

Ms. BALES. Yes. 

Mr. SUOZZI [continuing]. That says, hey, these are really good examples of things we should be trying to go after, these are good examples of waste, fraud, and abuse that we should be trying to attack? 

Ms. BALES. We annually issue our report to Congress, and we 

also have—our audits in the DOD IG’s [Department of Defense Inspector General’s] report that would show examples of audits 

where we have found that. 

Mr. SUOZZI. And when you say you issue it to Congress, who gets 

that? 

Ms. BALES. All of the—the HASC [House Committee on Armed 

Services], the SASC [Senate Committee on Armed Services], the 

HAC [House Committee on Appropriations], and the SAC [Senate 

Committee on Appropriations]. 

Mr. SUOZZI. Okay. Let me see, the HASC, the HAC—— 

Ms. BALES. I figured this was one place I could use those acronyms. 

Mr. SUOZZI. Okay. Well, I think, you know, as a practical matter, 

it would be good for us to hear ideas from you as to places you 

think that we can try and eliminate waste, fraud, and abuse in the 

Department of Defense, because I think in these difficult times 

when we are looking at increasing budget and scarce resources, we 

would all like to hear in very practical, straightforward terms: This 

is a good place to look. 

Ms. BALES. Okay. 

Mr. SUOZZI. Thank you very much. 

Mrs. HARTZLER. Thank you, Mr. Suozzi. 

So I had just a couple more questions here. So last year’s NDAA 

required the DCAA to accept certain audit findings of indirect costs 

from commercial auditors. So has DCAA implemented this policy? 

Ms. BALES. We have not yet. I think we have—the timeframe is, 

like, June that we have to start doing that. And I think part of that 

is determining how we are going to do that. 

One of the things in terms of our professional standards is we 

can’t just accept work from another auditor or auditing company 
13 

without doing certain things to know that we can rely on their 

work. 

And, in addition we have been talking somewhat about the intent of that, and we are working through which of those do we accept. Because, quite frankly, the way that is worded—and we have 

put in a legislative proposal to clarify—is because it says cost type 

not even flexibly priced, as we talk about the intent, was it the intent that even our largest contractors would not be audited. Because some of those, as a percentage of revenue, even our—like, 

three of our top five defense contractors would not have incurred 

cost audits done by DCAA. 

And we think that that, with the fact that we are sitting there 

at those facilities doing all of the other audits, that that would be 

more efficient that if we were to be able to go in and do those. 

Mrs. HARTZLER. So you have put in a legislative request to get 

more clarification on that? 

Ms. BALES. Right. Well, our legislative proposal hat is requesting 

that we don’t do that. And, really, as we see the legislative proposals and having the discussions for 2018, making sure that what 

we are asking to have in 2018 or proposing in 2018 doesn’t conflict 

with that. But our proposal has come in to say if we could eliminate that. 

Mrs. HARTZLER. Okay. So if private auditing companies took on 

a certain percentage of incurred cost audits how would DCAA audit 

teams be redeployed? And could staff currently allocated to performing incurred cost audits be tasked to work on other audit 

types? 

Ms. BALES. Absolutely. And that is our plan in terms of as we— 

you know, the increase in workforce that we had, one of our goals 

and plans in how to get rid of the incurred cost was to dedicate 

those to doing incurred cost audits to eliminate the backlog. And 

then, as we got current, we would move those to audits that we 

aren’t doing now that we need to be doing, more cost accounting 

standard disclosure audits, TINA [Truth in Negotiations] Act audits, those types of things, because we aren’t doing all of the audits 

in other areas that we should. 

One of the questions that had come up is, well, if you had hired 

more people earlier, could you have got the backlog down more 

quickly? We could have, but then it would be, do I want to staff 

up and have that temporary workforce or do I want to look at what 

we would need for a steady state? 

In addition, it is how many contract and how many auditors can 

the contractor support at one time. Because we have had pushback 

even now as we go in to do the backlog is we can’t support any 

more audit from the contractors. 

Mrs. HARTZLER. Very good. 

Mr. Moulton, do you have any more questions? 

Mr. MOULTON. Thank you, Madam Chairwoman. 

Just a couple things, and really points for clarification, because 

I have some numbers in front of me that I just don’t fully understand. 

The first question is just about the average time it takes for an 

incurred cost audit to be completed, because I see one number of 
14 

838 days, in some instances we have 124 days. Can you just speak 

briefly to that discrepancy? 

Ms. BALES. So the 885 days shows how long they have been in 

inventory. It is not actually how long it takes to complete the audit 

once started. The 134-day average is once we have an entrance, let 

the contractor know we are starting to do that audit, how long it 

takes us to do and issue the report. 

The 885, as I said, especially, since we have a backlog, is high, 

because that is when we first received the proposal, the incurred 

cost submission. 

Mr. MOULTON. Great. That is very helpful. 

And then we have heard this estimate that privatizing this business would cost the taxpayer about 30 percent more. Can you explain where that comes from and why—what you have to justify 

that estimate, Director? 

Ms. BALES. Sure. So we looked at that. We did a very simple 

comparison of saying that—compare our hourly rate compared to 

the GSA [General Services Administration] schedules for companies that would be probable contenders in here. So looking at that, 

we did a conservative estimate. Our rate includes our, you know, 

all levels of our auditors, including up to our senior management, 

and we compared that to a senior auditor rate, which doesn’t include the senior partners and everything. So that is how we came 

up with an estimate on that. 

But I think that is one of the things when I said that it would 

give us some time to evaluate that, I think a business case on 

whether, you know, will it be cheaper, will it not, I think would be 

appropriate to do. 

Mr. MOULTON. That was some of my experience serving in Iraq, 

is that a lot of times having private contractors made short-term 

costs go down but long-term costs go up, and that underlies some 

of my concerns. 

Ms. BALES. Sir, like I said, we don’t have a business case analysis. I do have some anecdotal stories, but they are anecdotes. We 

had some of our nondefense customers wanted to come back to us. 

We had one that, because we were in backlog and weren’t getting 

the work done, went to an IPA to have their work done. 

Then, in fiscal year 2016, they wanted to come back to us, but 

because of the other language they couldn’t. But they wanted to 

come back to us. One of the reasons was because the contractor 

doubled their price in the second year. 

So those, I think, are some of the concerns, that if we could do 

and have the opportunity to do a good business case analysis could 

be evaluated. 

Mr. MOULTON. Okay. Thank you, Director. 

And then just one other quick question. Mr. Scott brought up 

this issue with the testimony. Can you just describe in a little bit 

more detail what the holdup is with OMB? That is where it got 

held up? Is that right? 

Ms. BALES. They passed it back for some language. 

Mr. MOULTON. Are these political considerations, or what was 

going on? 

Ms. BALES. They thought we were—because we talked about potential legislative—acquisition reform legislation—and because 
15 

we—they had not been aware of legislation, they were concerned 

that we had not went through them on legislation reform and proposals. So that could have been I said the word ‘‘legislation’’ instead of that we are here to talk about ideas for potential reform. 

Mr. MOULTON. Okay. Well, I would hope in the future that we 

would be able to—— 

Ms. BALES. So I think that is what got us hung up. 

Mr. MOULTON. We would certainly value your feedback on legislative proposals. After all, we are legislators, and we are here to 

hear your views and opinions. And so, hopefully, that will be not 

an issue in the future. 

Director, thank you very much. 

Madam Chairwoman, I yield back. 

Mrs. HARTZLER. You bet. 

Well, thank you, Ms. Bales. We appreciate you being here today. 

And so this will conclude the first panel. We appreciate that very 

much. 

And I ask the second panel now to come to the witness table. 

Thank you, gentlemen, for being here. We appreciate it very 

much. 

We have Mr. David Berteau from Professional Services Council 

here, Mr. John Panetta from Financial Executives International, 

and Mr. James Thomas from the National Defense Industrial Association. 

And the members have been provided with your biographies. 

So, Mr. Berteau, we will start with you. 

STATEMENT OF HON. DAVID BERTEAU, PRESIDENT AND 

CHIEF EXECUTIVE OFFICER, PROFESSIONAL SERVICES 

COUNCIL 

Mr. BERTEAU. Thank you very much, Chairwoman Hartzler and 

Ranking Member Moulton and other members of the subcommittee 

who might come in while we are talking here. We really appreciate 

the opportunity to testify this morning on behalf of the 400 members of the Professional Services Council. These are all government 

contractors who fall into the category of both being audited and 

some of them being potential third-party independent providers for 

services being discussed here this morning. 

Your invitation letter asked us to discuss evaluating the defense 

contract auditing process. And as part of that discussion, my written statement includes a number of specific recommendations as 

well as some criteria that we think are useful to you. And I would 

ask that my full written statement be incorporated into the record 

this morning. I would just highlight a couple of things. 

Mrs. HARTZLER. So ordered. 

Mr. BERTEAU. For efficiency and effectiveness, we certainly endorse the idea that the government needs good, timely auditing 

and proper accounting practices. They have actually got pretty good 

guidelines out there to do it. 

I have brought with me this morning the last printed version of 

the DCAA contract audit manual. This roughly 4,000 pages gives 

very good guidance on how to do contract auditing. It also, I think, 

illustrates the complexity of the process and part of the reason why 
16 

it might take a while. So I just bring those along so you can get 

a sense. 

These issues, though, have been with us for a long time. It is not 

just a result of increased defense spending in the aughts. And the 

questions are, clearly: How do we protect the government’s interests in a timely and cost-effective manner? How do we do this without excessive burden on the system, both the contractors and the 

program offices that manage those contractors and the contracting 

officers? How do we focus on getting the best and most useful results? And how do we use contract auditing to support better contracting and better program management? Because auditing is not 

an end in itself. It is a means to support the execution of government missions and the achievement of government objectives. 

The private sector has these same issues, those same questions. 

And they have made great progress over the years in applying innovative processes and automated tools. And there are some examples that I would be happy to go into during the questions. 

Simply adding more people doesn’t really change the dynamic of 

the problem. When you have got a backlog of 21⁄2 years, even if you 

cut the time in half, it is still taking more than a year to audit a 

year’s worth of costs. And at some point you can’t dig your way out 

of that hole. So that, I think, is an important element to keep in 

mind. 

Many of the functions performed by DCAA that we have talked 

about this morning should, in fact, only be performed by government employees. But auditing activities themselves as compared to 

the use of the results of those audits are not an inherently governmental function. 

In fact, one of the things that we have seen over the last couple 

of years is a dramatic increase in the use by civilian Federal agencies of independent third-party contractors. You may be aware 

there is actually a schedule from the General Services Administration, a contract schedule, which has prequalified auditors on there, 

and at the time an agency wants to issue a potential task for bid 

by those prequalified auditors, they can be screened so you eliminate anybody who has a potential conflict of interest for the particular task to be contracted. 

So it addresses some of the questions that came up here earlier 

today of how do you resolve those conflict of interest questions, how 

do you make sure you only deal with actually qualified entities who 

can do cost auditing and who have a demonstrated track record. 

And, in fact, if you look at the agency costs for these audits, the 

costs they were paying to DCAA to do the audit before and the 

costs they are paying to the independent third-party auditors to do 

that now, you will see not a 30 percent increase, but in many cases 

a dramatic reduction in those costs. 

And I would submit that it would behoove the committee to get 

some data on that, and we will be happy to try to provide some of 

that as well, what we have from the public record, but the agencies 

themselves have substantially more data. 

So how would third-party auditors help? They might reduce the 

cost. They might reduce the backlog. They would certainly help address the question that Ms. Bales raised of, I want to increase, but 

I don’t want to increase the permanent staff, I want to be able to 
17 

meet my surge requirements and then come back down to a steady 

state. This is exactly where you use contractors, is to increase that 

surge capacity and then draw it back down. 

I really wanted to associate myself with Mr. Moulton’s comments 

about what you saw in Iraq in terms of sometimes the short-term 

costs went down but the long-term costs went up. 

I had the privilege in 2007 of being a member of the Gansler 

Commission that looked at contracting in Iraq and Afghanistan, 

and then later had the opportunity in DOD to be overseeing the 

policy associated with that. 

And some of that was actually not the fault of anybody in theater, but of policies and procedures back here. The Army, for instance, releasing funds one week at a time so you can never actually buy the thing, you could only rent it for a week, with the cost 

built in at the end to haul it out of the country, right? 

That is not a good way to—that only matters if you think you 

are only going to be there for another week. We won’t go there this 

morning. 

So in the end here, DCAA, I think, has a critical role to play. The 

numbers say they need some help, and they have admitted that, 

that is what they have asked for here. The question is, what is the 

best way to give them that help? And I would submit that there 

is an enormous opportunity, and it would be useful for them to test 

that opportunity in reality, not just do a business case assessment 

but actually try it out and see what the results are. 

And rather than recommend to the committee that you repeal 

the language that you put in the fiscal year 2017 NDAA, actually 

test it out, and let’s look at the results. And I think we will have 

a very fair comparison under those circumstances. And I would 

submit to you that would be a good way to go forward. 

So I am over my time here, so I will shut up. 

[The prepared statement of Mr. Berteau can be found in the Appendix on page 52.] 

Mrs. HARTZLER. Well, what you said was very, very helpful. I appreciate that very much. 

Mr. Panetta. 

STATEMENT OF JOHN PANETTA, NATIONAL SECRETARY, 

FINANCIAL EXECUTIVES INTERNATIONAL 

Mr. PANETTA. Good morning, Chairwoman Hartzler, Ranking 

Member Moulton, and committee members. I am John Panetta, the 

senior director of government accounting at Raytheon in Waltham, 

Massachusetts. I am here today on behalf of and representing the 

Financial Executives International Committee on Government Business. 

Defense contract auditing has been a matter of discussion in both 

the private sector and the government for several years. The timeliness of audits, and in particular final incurred cost rate audits, 

are at the center of the conversation. 

Let me start by talking about how we got here. The current state 

is due to a series of events starting in 2008 when reports surfaced 

critical of DCAA audit practices. DCAA’s reaction was to stress 

audit quality and independence above all other considerations. 
18 

Quality standards over a period of years were in a state of flux. 

New, untrained auditors were added without sufficient supervision 

and audit schedules were not considered. 

From 2006 to 2015, DCAA’s staff grew by approximately 20 percent. Incurred cost audits that were issued over that period were 

generally incredibly long and packed with immaterial items. This 

resulted in the number of audits being issued per DCAA employee 

declining by approximately 90 percent. 

In 2012, the Federal Acquisition Regulation Council, at DCAA’s 

urging, expanded the requirements for certified incurred cost proposals in the regulations by adding 30 items for the submission of 

final indirect rates. Many of these items are not relative to final 

indirect rates. 

DCAA used this FAR change to retroactively reject many previously accepted contractor proposals. This action further delayed 

the settlement of final rates as contractors needlessly created complicated informational schedules for DCAA that we view as having 

little, if any, value. 

Recently, some progress has been made. DCAA has put a dent 

in the audit backlog through the use of multiyear audit techniques. 

Contractor resources have been strained supporting these multiyear audits, and that is not sustainable over the long run. We are 

not where we need to be. More needs to be done. 

The backlog of audits is merely a symptom of underlying issues. 

Working off the backlog by applying resources will not prevent the 

condition from returning after the spotlight has moved on to other 

priorities. 

In today’s environment, risk management is a buzz word, and 

risk avoidance is the practice. Adopting an outlook of risk avoidance drives behavior. Perfection becomes the standard, and perfection is an expensive commodity. 

There is no question, perfection is something that we should all 

strive to achieve. However, if the cost to implement a perfect system exceeds the risks that are being addressed, we are collectively 

wasting resources that could better be applied in other areas. 

The CGB [Financial Executives International’s Committee on 

Government Business] believes that getting back to basics, implementing efficient audit management practices, and changing how 

success is measured with respect to oversight will go a long way 

in addressing the root cause of the issues we are addressing. 

Emphasizing audit practices such as establishing materiality 

thresholds, relying on the work of others, meeting schedules, and 

using documentation standards that are accepted by other audit 

groups, will all speed up the process without shifting significant 

risks to the government. 

For example, a company that has received a passing grade from 

a CPA [certified public accountant] firm with respect to the requirements of the Sarbanes-Oxley Act has already run a gauntlet 

of audits. Why should DCAA retest underlying systems and transactions that have already been validated for financial reporting 

purposes? 

The current measure of success at DCAA is the amount at annual findings. That is akin to paying a CPA firm upon the receipt 

of a clean opinion. That works against the requirements for inde-
19 

pendence, and CPAs would certainly grab the attention of the SEC 

[Securities and Exchange Commission] for that. 

This measure creates churn in the acquisition process. There are 

a number of examples where DCAA’s implementation of the FAR 

to generate those findings resulted in legal disputes overturning 

their positions. This, again, wastes both the government and contractor resources. Success should be measured by the completion of 

a timely, quality audit that promotes and provides reasonable assurance of an effective acquisition process. 

These actions, together with the introduction of independence 

CPA firms to conduct audits at DOD, as they do at other executive 

departments, will result in the fundamental change that is required for the acquisition process to function as envisioned in the 

guiding principles of the FAR. 

Thank you very much. I would be happy to answer any questions 

that you have. 

[The prepared statement of Mr. Panetta can be found in the Appendix on page 68.] 

Mrs. HARTZLER. Very good. Only 12 seconds over 5 minutes. That 

is pretty amazing. 

I have a lot of questions. I want to come back to you on a lot 

of good stuff there. 

Mr. James Thomas, let’s go to you, though, first. 

STATEMENT OF JAMES THOMAS, ASSISTANT VICE PRESIDENT 

OF POLICY, NATIONAL DEFENSE INDUSTRIAL ASSOCIATION 

Mr. THOMAS. Thank you. Chairwoman Hartzler, Ranking Member Moulton, and members of the subcommittee, thank you for the 

opportunity to appear before you this morning. I am here on behalf 

of the National Defense Industrial Association, the Nation’s oldest 

and largest defense industry association, comprised nearly of 1,600 

corporate and 80,000 individual members. 

My testimony this morning will focus on the main theme and associated recommendations within my written statement, the 

change in DCAA’s mission from its original purpose, and the effect 

of that change on industry and the operations of the defense acquisition system. 

Industry recognizes that the audit responsibilities of DCAA play 

an essential role within DOD’s acquisition oversight activities 

throughout the contracting life cycle. DCAA was stood up in 1965 

to serve as an advisory function for contracting officer decision 

making, but has evolved to serve solely as an enforcer of their own 

process requirements, lacking a nexus with the contracting officer 

decision-making process. 

Industry is concerned that DCAA has lost focus of their purpose 

within the defense acquisition system over the past decade and has 

become much more closely tied with the inspector general function 

than needed or desired to fulfill their oversight role. 

DCAA is not a profit center, but their reports to Congress highlight that the measure of mission success is that their audit activities provide a large return on investment by identifying a large 

number of adverse audit findings rather than on executing their 

primary advisory functions. 
20 

We also question whether the agency can inherently be truly 

independent and objective in their audit responsibilities while continuing to emphasize success based upon questioned costs and return on investment. 

Auditing is process based, not outcome based. DCAA asserts that 

their return on investment to the taxpayer in fiscal year 2015 was 

$4.80 per dollar spent. Unfortunately, that value computation does 

not accurately measure all costs to the acquisition system and contractors. These costs include but are not limited to delays in contract closeouts for the government, legal disputes, and records retention for industry. 

Another cost driver for industry occurs through the misunderstanding of the concept of materiality as expressed in the work 

product and inconsistent judgment of DCAA auditors. As it pertains to business system, contractors incur high costs to achieve 

perfection and internal controls to avoid any allegations of deficiencies rather than achieve controls that provide reasonable assurance. 

Striving for perfection is admirable; however, the costs incurred 

by industry to seek perfection of systems and controls in order to 

avoid allegations of deficiencies when a reasonable assurance standard would serve the agency mission objectives and not result in 

increased costs to the government runs contrary to the emphasis 

on risk management contained in the FAR. 

This level of process perfection driven by a reluctance to employ 

judgment about materiality undermines the timeliness of business 

systems in post-award audits. Instead, DCAA should measure its 

success in quality audits that meet the expectations of contracting 

officers in a timely manner, which aligns more appropriately with 

DCAA’s original purpose. 

Contracting officers need audit reports with timely and actionable findings to help them make decisions. A review of aggregate 

data provided in the five publicly available reports to Congress 

from fiscal year 2011 to 2015 and the DOD inspectors general 

semiannual report shows decreasing productivity in the number of 

audits completed per auditor and that less than one-third of the 

questioned costs are sustained for fiscal year 2014 and 2015. 

Moving forward, the following recommendations should be considered. 

First, reevaluate the DCAA mission, organization, and management and responsibilities and functions provided in DOD directive 

5105.36. This could be achieved by establishing a working group of 

government and industry acquisition and auditing professionals to 

align mission objectives with the statutory audit record requirements. 

Second, establish timely deadlines for the completion of incurred 

cost audits. The optimal timeline would be 90 days from submission of incurred cost proposals, which aligns more closely with SEC 

requirements for a company’s annual filing. These filings incorporate an accounting firm’s audit opinion regarding these statements. 

Third, embrace the use of third-party auditors for incurred costs 

in business system audits. This is likely the only solution to eliminate the incurred cost audit backlog and should continue thereafter. However, it is not a complete solution. The efficacy of Sec-
21 

tions 820 and 893 in reducing the backlog will be limited if DCAA 

still requests working papers and backup materials on work performed by public accounting firms, which we believe is not necessary or appropriate. 

Fourth, publish an annual report card with assessment of 

DCAA’s services from DOD entities responsible for procurement 

and contract administration. This feedback would be highly beneficial in understanding how well DCAA is performing in its customer service role. We are not aware of any existing attempts to 

do this. 

And lastly, Congress should strongly consider the recommendations of the congressionally established 809 panel. The Section 809 

panel will be examining the defense contract audit process as part 

of its larger review. Although their final report is not due for another 18 months, it should provide insight into the proper role and 

responsibilities of DCAA and other oversight actors through a 

broader systemic perspective. 

Thank you for the opportunity to appear before you this morning, 

and I am happy to answer any questions you may have. 

[The prepared statement of Mr. Thomas can be found in the Appendix on page 87.] 

Mrs. HARTZLER. Thank you very much. Some good information 

here. 

I would like to ask all of you, I guess start with you, Mr. Panetta, because you mentioned multiyear audits in your testimony. 

And DCAA has indicated to us, and she just testified, that even 

after the backlog is eliminated, the agency would like to see more 

multiyear auditing done as the standard practice. 

So how does that practice compare to private sector norms? And 

what do you think of that practice for both audits in the backlog 

and for new ones going forward? 

Mr. PANETTA. Well, thank you, Madam Chairwoman. 

In comparing that to private sector norms, in the private sector 

audits are done on a concurrent basis. And we don’t see multiyear 

audits. DCAA audits are retrospective. And what we see when we 

look, say, at our financial statement audits, the auditors are auditing the year as we are going along such that when the year is complete, a couple months after the year is closed, we issue our financial statements and they issue their opinion. 

So we don’t really see multiyear audits. We see concurrent audits. And I see a problem with doing multiyear audits from a 

DCAA perspective, and it is because it is very difficult for contractors. 

We like to staff at a level of activity. And, normally, audit activity will go along at a certain level. When you go to multiyear audits, you are going to have peaks and valleys and spikes. And to 

support that activity, it strains the organization, because you either 

have to be overstaffed for part of the year or you have to bring in 

excess resources otherwise that aren’t familiar. 

So we would rather see a regular cadence of an annual audit that 

is done quickly and concurrently. 

Mrs. HARTZLER. Obviously, votes are occurring, but I would like 

to visit with you more about the concurrent. How would that 
22 

change if the DCAA would do concurrent rather than after? What 

changes would there be? 

Mr. PANETTA. Years ago they used to do concurrent auditing as 

a practice. They would roll it out. And what would happen is, as 

the year would go along, they would test particular accounts that 

were as costs were incurred, and contractors would, say, make adjustments as they found things, such that when the year was over, 

the audit work was complete, the findings were known, and the 

contractors could actually make the adjustments before we made 

the submission. 

I mean, that to me would be nirvana, in that when you make 

your submission 6 months after the year, it has already been audited in terms of the underlying information and adjustments have 

been made and you are done. I mean, that would be a great goal 

to try to achieve. 

Mrs. HARTZLER. Yes, Mr. Berteau. 

Mr. BERTEAU. Madam Chairwoman, if I could add one thing to 

that. The value of multiyear is only there if you have a substantial 

backlog that goes back a number of years. We have some examples 

of third-party independent auditors for civilian agencies that are 

current through fiscal year 2015 and soon current through fiscal 

year 2016. And so there is no need for a multiyear audit if you are 

up-to-date. And I think that should be the objective that we want 

to achieve. Even if we can’t go nirvana, we can at least get partway 

to currency. 

Mrs. HARTZLER. Yeah. That is good. 

I will go ahead and shift to Mr. Moulton. 

Mr. MOULTON. Thank you, Madam Chairwoman. 

So just to hone in on that for a second. The director just testified 

that she would be completely open to moving to single-year audits 

if a cost-benefit analysis showed that they would be more effective. 

I mean, do you agree with that assessment? 

Mr. BERTEAU. I think a level playing field assessment, particularly if you tested it with real world experience and try it out, 

would produce the kind of results that she would be comfortable 

with and we would be comfortable with. 

Mr. MOULTON. And, Mr. Panetta, would you agree with that as 

well? 

Mr. PANETTA. A single-year audit would certainly make more 

sense to me. 

Mr. MOULTON. Well, that is not what I asked. I asked if you 

would be open to having a cost-benefit analysis determine whether 

a single-year audit or a multiyear audit is more effective. 

Mr. PANETTA. Well, certainly. More information and understanding is always something good. So data-driven decisions always 

work out best. 

Mr. MOULTON. Okay. 

And, Mr. Thomas, what is your opinion on this? 

Mr. THOMAS. I agree with the other two members. Having a 

multiyear process is really not ideal for a standard practice. Certainly, it is a benefit to address a backlog. Most of our members 

agree that that is okay for that purpose. But as a standard practice, having concurrent and timely audits is more ideal. 
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In answer to your question just now about having a business 

case analysis, I don’t think that would hurt at all. But I think if 

there was an analysis done, it has to take into account all the costs 

associated with having all the liabilities on the books, the time and 

the costs associated with that, not just the efficiency of being able 

for the department to move through those audits. 

Mr. MOULTON. Thank you. 

And, Mr. Thomas, in your testimony you cited the fact that 

DCAA talks about the ROI [return on investment] for taxpayers, 

the dollars that it recovers. And I think the issue about risk avoidance versus risk mitigation is well taken, and this is something 

that we have heard from other folks as well. But it just seems to 

me that if the agency is recovering a significant amount of money 

here, then obviously there is a purpose to having these audits. I 

mean, there is clearly some waste, fraud, and abuse going on. 

Do you disagree with that? 

Mr. THOMAS. I don’t disagree entirely. I think, though, we have 

to draw a distinction between waste, fraud, and abuse and finding 

certain unallowable costs or things that can be easily addressed. 

Most companies want to comply. They want to be able to be audit 

ready and have these done in a timely, efficient manner. 

And when you look at the purpose of the DCAA, it is really for 

an advisory role to the contracting officer to make a final determination of price reasonableness and understand that risk assurance. That is really separate from the role of an IG [inspector general]. Certainly, you can identify where they blend together. Obviously, you are identifying issues within an audit. 

But the purpose really shouldn’t be to identify that. That is why 

you have a separate entity. It really should be to work with the 

contractor through the audit process, identify those issues, make 

the appropriate changes, and move on so that the contracting officer can make a determination in a reasonable amount of time. 

Mr. MOULTON. So we have to wrap up, but just real quickly so 

I understand here, you agree that, clearly, there is a role for auditing in the Department of Defense? I mean, we have the Secretary 

of Defense now saying we should audit the entire Department, 

which is something I think we on the committee all agree with. 

And yet you say the mission—there has sort of been some mission 

creep here or whatever. 

Look, I don’t accept the premise that just because the mission in 

1965 is different than the mission today that therefore it is wrong. 

I mean, the mission of the Marine Corps that I joined is not the 

same today as it was in 1775. So that can evolve. 

But if there is this issue with auditing, we have acknowledged 

at length the backlog, and you think that this should be more 

taken up by the inspector general, then I must assume that there 

are not enough resources with the IG to do this. Would that be 

your conclusion as well? 

Mr. THOMAS. Not necessarily. I don’t know that the two roles are 

the same in audit. And first, I do agree, absolutely, that it is an 

essential part of the government, particularly DCAA, to be able to 

audit as part of the internal control process of the acquisition system. So there is no question, particularly from our members. 
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But I believe that the inspector general has a different purpose 

in identifying abuse, whereas the auditor’s financial—going 

through the audit to find risk assessment with the rate sustainment is very different, and that is really, again, just more of an advisory function for the contracting officer. 

Mr. MOULTON. Well, there is a certain way to look at it, which 

might be oversimplistic, which is that there is a difference between 

outright fraud and abuse versus just getting the best price so we 

don’t have the sort of infamous $30,000 toilet. But, nonetheless, 

taxpayers want both, and I think taxpayers probably deserve both. 

Is that right? 

Mr. THOMAS. Absolutely. 

Mr. MOULTON. Okay. Thank you, Madam Chairwoman. I yield 

back. 

Mrs. HARTZLER. Well, we have had a very good discussion with 

a lot of information here today, and we want to continue this discussion. And we will look further into your testimony and these 

ideas moving forward. 

But we really appreciate your insights. Thank you for being here 

today. 

And this hearing is now adjourned. 

[Whereupon, at 10:15 a.m., the subcommittee was adjourned.] 
A P P E N D I X 

APRIL 6, 2017 

PREPARED STATEMENTS SUBMITTED FOR THE RECORD 

APRIL 6, 2017 

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WITNESS RESPONSES TO QUESTIONS ASKED DURING 

THE HEARING 

APRIL 6, 2017 

(101) 

RESPONSE TO QUESTION SUBMITTED BY MRS. HARTZLER 

Ms. BALES. DCAA has issued over 34,000 audit reports between FY 2011–2016. 

However, the number of audit reports issued is only part of our workload. Incurred 

cost audits continue to be a top priority for DCAA and we have increased the number of audits covering multiyear incurred cost submissions although a multiyear 

audit only counts as one report. We believe multiyear audits help increase audit coverage and reduce our audit time over single-year audits. Furthermore, we perform 

other work that results in memorandums that are fed into other audits but does 

not count as a report issued. For example, we perform annual real-time labor 

verifications (also known as floor checks) and interview a sample of contractor employees to ensure they are correctly charging their time to the appropriate cost objectives. The results of these verifications are summarized in a memorandum rather 

than an audit report, and later incorporated into a future incurred cost report. We 

do notify contracting officials on a real-time basis if we find internal control issues 

and we notify the appropriate investigative agency if we identify evidence of 

mischarging. [See page 7.] 

QUESTIONS SUBMITTED BY MEMBERS POST HEARING 

APRIL 6, 2017 

(105) 

QUESTIONS SUBMITTED BY MRS. HARTZLER 

Mrs. HARTZLER. In reference to DCAA’s response to HASC (March 31, 2017) question #4 (‘‘Return on Investment’’) from FY 16 to FY 12, provide the mathematical 

justification (nominator/denominator) for each ROI reported. Please ensure the answer provides the amount of money, and percent of budget, DCAA allocated to incurred cost audits, forward pricing audits, and other audits in comparison to the respective net savings of each audit type. 

Ms. BALES. DCAA does not calculate its ROI in the nature requested as DCAA 

does not collect the cost for each type of audit. DCAA calculates ROI as the ratio 

of savings to total Agency funding each year. Net savings are supported through a 

Contracting Officer’s documented actions based on DCAA’s recommendations. As a 

result, in the table below, we show a ROI breakdown by audit type for FY 2016 to 

FY 2012 by taking reported savings based on when we receive the contracting officer’s negotiation memorandum over the total operating costs for the fiscal year we 

reported the savings. 

Mrs. HARTZLER. What specific findings from forward pricing reviews are typically 

driving net savings? For forward pricing audits, how does DCAA define when a cost 

is ‘‘sustained’’ and when a cost generates a ‘‘net savings’’? 

Ms. BALES. In responding to this question, we looked at some of the audit reports 

issued in FY 2016 with large amounts of questioned costs where negotiations have 

taken place and we have visibility into the net savings. The majority of questioned 

costs related to labor and material costs proposed. We have provided a summary of 

some of the common findings related to labor and material below: 

For labor, significant questioned costs have resulted from the following: 

• The contractor overstated their labor hours when compared to historical hours 

and taking into account improvement curves and trends; • The contractor proposed hours to account for a contingency with no basis to 

support the costs proposed; • The application of the indirect rates to the questioned labor costs. 

For material, significant questioned costs have resulted from the following: 

• The inaccuracy of the prime/higher-tier contractor cost or price analyses resulted in overstated costs on a subcontract; 

• The contractor did not update their proposal with current purchase orders, 

quotes, and/or agreements with vendors resulting in overstated costs; 

• The contractor did not incorporate cost reduction initiatives in their estimates; 

• The contractor overstated quantities when compared to historical actual quantities taking into account improvement curves and trends; 

• The contractor did not include quantity discounts; 

• Exchange rates were overstated; 

• Escalation rates were overstated; 
106 

• The contractor did not account for lower prices that were available. 

DCAA considers a questioned cost ‘‘sustained’’ when there is a negotiated cost reduction in the contract price directly attributable to audit exceptions and recognizes 

‘‘net savings’’ as the amount of cost and profit the Government saves through 

sustention of our recommended audit exceptions. Because many factors affect the 

timing of contract negotiations, we report audit exceptions in the year the report 

is issued as a performance measure and document sustention and net savings in the 

year the contract is negotiated. 

Mrs. HARTZLER. In Ms. Bales’ oral testimony on April 6, 2017, she indicated that 

DCAA had not implemented Section 820 of the NDAA FY 2017, in part, because 

DCAA ‘‘can’t just accept work from another auditor or auditing company without 

doing certain things to know that we can rely on their work.’’ Explain in greater 

detail why DCAA has not implemented Section 820 with respect to the mandate requiring acceptance of commercial audit findings of indirect costs. 

Ms. BALES. The amendments made by Section 820 are not effective until October 

1, 2018. In the interim, DCAA is taking the following actions. 

DCAA has met with HASC and SASC staff members to discuss some of unintended consequences of Section 820 that do not appear to align with Congress’ intent. The results of these discussions are informing DCAA as they begin working 

the proposed rule with Defense Procurement and Acquisition Policy (DPAP). For example, while this provision was intended to remove barriers to non-traditional small 

businesses, this provision will apply to some of the largest Defense contractors resulting in them not being subject to government audits of their indirect costs. For 

example, some of the top defense contractors (e.g., Raytheon Missile Systems, Lockheed Martin Aeronautics, Boeing Military Aircraft) performing contracts on major 

defense programs (e.g., F–35, Chinook, AMRAAM) would be permitted under this 

provision to have their indirect costs audited by a private sector auditor. 

DCAA plans to work with the Government Accountability Office (GAO) on the 

provision that requires DCAA to accept, without performing additional audits, the 

audit findings prepared by a private sector auditor. The law, as written, would have 

DCAA violate the auditing standards as published by the GAO. DCAA is not allowed to accept the work of another auditor without performing procedures for determining reliance. (Generally Accepted Government Auditing Standards (GAGAS) 

Section 2.09.) DCAA is committed to working with industry and Government stakeholders on the appropriate use of private auditors; however; they plan to seek the 

advice of the GAO to ensure they do not violate their professional standards. 

DCAA is currently working with DPAP on developing a proposed rule for Section 

893, Contractor Business System, which also includes the use of private auditors. 

DCAA intends to the use the knowledge gained in implementing this rule in developing the proposed rule for implementing Section 820. 

Lastly, DCAA has been asked to comment on draft FY 2018 legislation prepared 

by the HASC. The proposed language will directly impact the Section 820 language. 

DCAA plans to have additional discussions with the HASC and SASC staff members 

on the effects of the draft legislation on Section 820. These discussions will help inform DCAA as they begin working with DPAP on a proposed rule. 

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