Negotiate Maximum Profit on Cost-Based Contracts

Are you negotiating maximum profit on your cost-based U.S. government contracts? When your contract amounts and prices are established based on estimated or actual costs, you are required to submit a proposal that includes a delineation of your proposed costs and profit.

Federal agencies perform a cost analysis to determine the reasonableness of each element of your proposed costs. Based on their analysis, they develop cost and pricing objectives prior to negotiations. Included in their pre-negotiation position are targets for negotiating a suitable level of profit. 

Federal Acquisition Regulation (FAR) subpart 15.404-4 entitled Profit, prescribes U.S. government policies for establishing the profit or fee portion of the government’s pre-negotiation objective in price negotiations based on cost analysis.

With few exceptions, U.S. government agencies making non-competitive contract awards more than $100,000, totaling $50 million or more a year, are required to use a structured approach for determining the profit or fee objective in acquisitions that require cost analysis. 

The FAR provides common factors, which, unless clearly inappropriate or not applicable, must be considered:

  • By agencies in developing their structured approaches, and
  • By contracting officers in analyzing profit. 

These common factors include the managerial and technical effort needed to obtain the required purchased parts, material, subcontracted items and special tooling, as well as the contribution of direct engineering, manufacturing and other labor needed to convert the raw materials, data and subcontracted items into the contract items.

A structured approach must also consider:

  • How much the indirect costs contribute to contract performance.
  • The prospective contractor’s other indirect costs and general and administrative (G&A) expenses, their composition and how much they contribute to contract performance.
  • The degree of cost responsibility and associated risk that the prospective contractor assumes as a result of the contract type.
  • The degree of support given to federal socioeconomic programs.
  • The contribution of contractor investments to efficient and economical contract performance.

Additional profit opportunities are to be offered for cost-control and other past accomplishments, independent development efforts relevant to the contract end item without government assistance and any agency-developed factors designed to foster achievement of program objectives.

A federal agency is allowed to use another agency’s structured approach. The Defense Acquisition Regulation Supplement (DFARS) 215.404-71 provides guidance for using the DFARS weighted guidelines method for determining a profit objective. The weighted guidelines method  focuses on four profit factors including:

  1. Performance risk;
  2. Contract type risk;
  3. Facilities capital employed; and
  4. Cost efficiency.

In total, the weighted guidelines method addresses all the common factors required by the FAR. Using the weighted guidelines method, the government contracting office assigns values to each of the profit factors for application to some, or all, of your proposed costs.

The value assigned for a particular profit factor is multiplied by the proposed or negotiated cost base resulting in a dollar amount of profit for that factor. Except for the cost efficiency special factor, each profit factor has a normal value and a designated range of values:

The normal value is meant to represent average contract conditions when compared to other acquired goods and services. 

A designated range provides values based on above normal or below normal conditions. When preparing their pre- or post-price negotiation documentation, contracting officers do not need to justify the use of normal values. However, they do need to address conditions to support assignment of other than the normal value. This is your opportunity to persuade and bargain for higher than normal values.

The DFARS provides additional guidance and evaluation criteria for each of the four weighted guidelines method profit factors. The evaluation criteria include detailed descriptions of above-normal circumstances and conditions that justify using the higher end of range values for profit computation and determination. By preparing an appropriate narrative for inclusion in your proposal, as well as pre-negotiation rationalization for further explanation and bargaining purposes, you will provide the contracting officer with the justification required to support the higher than normal values in U.S. government negotiation documentation — and greatly increase your opportunity to obtain the maximum profit or fee obtainable under the given circumstances.

For example, one of the technical evaluation factors associated with performance risk is the technical complexity of the proposed work. A higher-than-normal value may be considered if the efforts require highly skilled personnel or require the use of state-of-the-art machinery. Your narrative should include a statement that you are using your most highly skilled personnel or state-of-the-art-machinery. Reference those tasks or portions of the statement of work and your proposal that require these resources.

Tips:

  • Review the DFARS 215.404-71 profit factors and evaluation criteria, including above normal circumstances.
  • Prepare a written description of the circumstances for the anticipated award relating the expected conditions to the DFARS above normal circumstance descriptors.
  • Be prepared to further present and support your position in a logical and rational manner at the bargaining table.

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