2-18.6 Cost-Reimbursement Contracts

Cost-reimbursement contracts provide for paying allowable, incurred costs. They establish an estimate of total cost so that funds may be committed, and they establish a ceiling that the supplier may not exceed (except at its own risk) without the approval of the contracting officer. Cost-reimbursement contracts are suitable when uncertainties about contract performance do not permit costs to be estimated with sufficient accuracy to use a fixed-price contract.

Limitations — A cost-reimbursement contract may be used only when:

Cost Contract — A cost contract is a cost-reimbursement contract under which the supplier receives no fee. A cost contract may be appropriate for R&D, particularly with nonprofit educational institutions or other nonprofit organizations.

Cost-Sharing Contract — A cost-sharing contract is a cost-reimbursement contract under which the supplier receives no fee and is reimbursed only a portion of its allowable costs, as stated in the contract. It is suitable when there is a high probability that the supplier will receive substantial commercial benefits as a result of performance.

2-18.6.1 Cost Plus Incentive Fee Contract

A cost plus incentive fee contract is a cost-reimbursement contract that provides for the fee initially negotiated to be adjusted later by a formula based on the relationship of total allowable costs to target cost. This type of contract specifies a target cost, a target fee, minimum and maximum fees, and a fee-adjustment formula. After performance, the fee is determined by the formula. The formula provides, within limits, for increases in the fee above the target when total allowable costs are less than target cost and for decreases in the fee below the target when total allowable costs exceed the target cost. This increase or decrease provides an incentive for the supplier to manage the contract effectively. When total allowable costs are greater than or less than the range of costs in the fee-adjustment formula, the supplier is paid total allowable costs, plus the minimum or maximum fee.

A cost plus incentive fee contract is suitable when a cost-reimbursement contract is appropriate and a target cost and fee-adjustment formula can be negotiated that will motivate the supplier to manage the contract effectively. The fee-adjustment formula should provide an incentive that covers the full range of reasonably foreseeable variations from the target cost. The supplier’s share of the difference between target cost and AC will usually be in the range of 15–30 percent. If a high maximum fee is negotiated, the contract must provide for a low minimum fee — or even a zero or negative fee. The maximum fee will usually not exceed 10 percent of the contract’s target cost (or 15 percent for R&D).

2-18.6.2 Cost Plus fixed-fee Contract

A cost plus fixed-fee contract is a cost-reimbursement contract that provides for paying the supplier a negotiated, fixed-fee. The fixed-fee does not vary with ACs, but may be adjusted as a result of changes to the contract. This type of contract gives the supplier only a minimal incentive to control costs.

A cost plus fixed-fee contract is suitable when a cost-reimbursement contract is necessary, but the uncertainties and risks for the supplier are too great to permit negotiating a reasonable cost plus incentive fee arrangement.

There are two forms of cost plus fixed fee contracts:

Completion form — A completion form describes the scope of work by stating a definite goal or target and specifying an end product. This form generally requires the supplier to complete and deliver the end product within the estimated cost, if possible, as a condition for paying the entire fixed-fee. If the work cannot be completed within the estimated cost, the Postal Service may require more effort without increasing the fee, but the estimated cost must be increased.

Level-of-effort form — A level-of-effort form describes the scope of work in general terms and requires the supplier to devote a specified level of effort for a stated period. Under this form, if performance is satisfactory, the fixed-fee is payable when the period ends and the supplier certifies that the level of effort specified in the contract has been expended. Renewal for further periods of performance requires new cost and fee arrangements and is treated as a new purchase.

Because of the greater obligation assumed by the supplier, the completion form is preferred over the level-of-effort form whenever the work can be defined well enough to permit a reasonable cost estimate within which the supplier can complete the work.

2-18.6.3 Cost Plus Award Fee Contract

A cost plus award fee contract is a cost-reimbursement contract that provides for a fee consisting of a base amount fixed at the beginning of the contract and an award amount that the supplier may earn in whole or in part during performance. The award amount must be sufficient to motivate excellence in areas such as quality, timeliness, technical ingenuity, and cost-effective management. The amount of the award fee is determined by the Postal Service’s evaluation of the supplier’s performance according to criteria stated in the contract. This determination is made unilaterally by the Postal Service and is not subject to Clause B-9: Claims and Disputes.

The cost plus award fee contract is particularly suitable for buying services. The likelihood of meeting purchasing objectives and achieving exceptional performance is enhanced under this type of contract. It provides the flexibility to evaluate subjectively, at defined intervals, both actual performance and the conditions under which performance was achieved. The additional administrative effort, contract amount, performance period, and cost required to monitor and evaluate performance must be justified by the expected benefits to warrant using this type of contract.

Cost plus award fee contracts provide for evaluation at stated intervals during performance, so that the supplier is periodically informed of the quality of performance and areas for improvement. Evaluation criteria and a rating plan should be prepared for each purchase to motivate the supplier to improve in areas important enough to be rated, but not to the detriment of overall performance. Requirements will vary widely among contracts, so contracting officers must customize evaluation criteria, rating plan, and even Clause 2-37: Award Fee, seeking advice from the purchase/SCM team and assigned counsel, as needed. The partial payment of the award fee will usually correspond to the evaluation periods to provide incentive. If a high award fee is negotiated, the contract may provide for a low base fee (or even a zero base). The maximum fee, comprising the base fee plus the highest potential award fee, will usually not exceed 10 percent (or 15 percent for R&D).

2-18.6.4 Provision

All solicitations for cost-reimbursement contracts — the estimated value of which is $100,000 or more — must contain Provision 2-9: Accounting System Guidelines — Cost Type Contracts. This provision requires preaward review and approval of the potential supplier’s cost accounting system by the Inspector General or a representative and delineates the elements required in such accounting systems.

2-18.6.5 Clauses

All cost-reimbursement contracts must include the following clauses: