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Strategic Pricing for your Firm Fixed Price Proposals

In the years I have been in the business of providing FAR compliant software, I cannot count the number of times a naïve and unsuspecting contractor has told me, "All of our government contract work is firm fixed price. We're not subject to DCAA audits and therefore aren't interested in your cost accounting software." A review of FAR part 16.2 provides the sobering truth of the matter regardless of audit exposure - "A firm-fixed-price contract provides for a price that is not subject to any adjustment on the basis of the contractor’s cost experience in performing the contract. This contract type places upon the contractor maximum risk and full responsibility for all costs and resulting profit or loss." While it may be true that the possibility of an audit by DCAA is not a threat, per se, the need to know your estimated costs based on historic actual costs on a granular level before you submit your BAFO is vital.

Years ago, we got an urgent call from a small government contractor who had previously won a fixed price contract that included deliverables and had already begun the statement of work. Long story short, they were unable to make good on a milestone set forth in the contract. At that point, under pressure from their Contracting Officer, the contractor's upper management decided it was time to invest in our cost accounting software package. Too late! The Inspector General subsequently determined that defective pricing was in play and the contractor ended up shutting down its operations. If only they had a cost accounting system that could support their estimate prior to the submitting their ill-fated cost proposal, things may have been different. 

Recently, I was a featured guest on a book launch event that provided me the opportunity to ask the question, "How does bidding on a firm fixed price job fundamentally differ from pricing a cost reimbursable contract?" The answer was, "It does not differ much at all." Specifically, if you are bidding or plan to bid on a FFP government services contract, you will need to know not only your direct costs (e.g., Labor), but also your indirect rates (e.g., Overhead) associated with delivering your services. Much as the case with bidding a flexibly-priced contract, you will need to know your current wrap rate as well as your projected future costs. The key differences between your FFP proposal pricing and your CPFF proposal pricing can inure to the benefit of the contractor. For instance, since the risk shifts to the contractor as noted in FAR 16.2 above, it would be prudent to bump up your fee (target profit) to cover any potential cost overruns. If you have established commercial pricing, you can use that as a basis for negotiating your final price while never losing sight of your cost structure. Always remember, you will not be able to request a funding modification and therefore will need to build in a cushion to protect your profit. In essence, you can justify a higher margin when you assume more risk. Another consideration is to include unallowable costs in your indirect rate calculations when your federal awards are FFP. While this practice is not allowed with flexibly-priced contracts in your contract mix where certain costs such as interest on your bank line of credit cannot recover in your indirect rates, there is nothing that precludes a contractor from taking into account all operating costs - including those expressly unallowable costs (e.g., cost of memberships in social, dining, or country clubs) - in your estimate when deriving your final fixed price bid. 

To summarize, your FFP pricing procedures should include historical cost data when available much as a T&M or CPFF price proposal would. Your approach should be the same as though the award is cost reimbursable with the overarching need to know both your direct and indirect costs associated with delivering your services. You should consider unallowable costs since such costs represent a portion of your cost of doing business and will be incurred regardless of contract type. When targeting your profit, you should aim for a higher fee than you would typically negotiate with a CPFF contract in order to mitigate risk factors that could lead to potential cost overruns. Simply because you will not be subject to a SF1408 Preaward Survey and will not be required to settle your final indirect rates through an ICE submission when your contract awards are of the FFP variety, by taking a back-of-the-envelope approach to your proposal pricing while downplaying the role of a cost accounting system could land you in hot water. You don't want to be that contractor who underestimates a fixed price job and ends up losing money without recourse, or worse.  

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