The Commercial Toolkit

Pricing – CAAS Estimates – Full Guidance – Last Updated 01/07/2011

Pricing – Cost Assurance and Analysis Service

(CAAS) Estimates
Constraints
None.

Authoritative Guidance Summary

1. Cost Assurance and Analysis Service (CAAS) provide a range of services for the
Defence Equipment and Support (DE&S) and the wider Ministry of Defence (MOD).
More detailed information can be obtained through the customer pages of the CAAS
website.
2. CAAS estimate the cost of a product or service in advance of the activity being
undertaken when contracts are to be placed non-competitively. As part of this
activity, CAAS investigate the company tender detailing the quoted direct and
indirect costs together with estimating allowances, risk and profit. Before deciding
to involve CAAS you must consult the Pricing – Team Approach guidance in the
Commercial Toolkit.
3. Estimating uncertainty, allowances and risks are a key consideration when
estimating the cost and agreeing a fair and reasonable price for a contract. The
main uncertainty is contained within the basic estimate and is linked to issues such
as escalation, breaks in production, tail-off cost, design growth, loading or capacity,
warranty or guarantee, over provisioning and insurance excess. These are
described under Authoritative Guidance.
4. Profit is the reward for capital invested and risk. The Government Profit
Formula provides the mechanism by which contractors undertaking non-competitive
Government contracts are rewarded for both the capital invested and risk.
5. The CAAS investigation is a core element of the pricing process. Acquisition
teams should seek to agree a price closely based on the CAAS most likely or
recommended price for final settlement. Where negotiations result in an outcome
above the most likely level recommended by CAAS, this should be referred to the
relevant commercial 1* / Head of Commercial in writing for a final decision about
the price.

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Source: Commercial Toolkit

Available via http://www.aof.dii.r.mil.uk or http://www.mod.uk/aof
The Commercial Toolkit
Pricing – CAAS Estimates – Full Guidance – Last Updated 01/07/2011

Authoritative Guidance
Additional Services Provided By CAAS
6. CAAS provide a range of services such as the investigation and agreement of
charging rates, production of cost forecasts, the analysis of supplier tenders and the
certification of recorded costs.
7. CAAS have established a network of Customer Relationship Managers and
Gateways to coordinate work across the organisation and allocate tasks to the
appropriate field offices based on a priority matrix. Tasking is normally initiated by
sending a DEFFORM 122 (Tasking Form) to the appropriate CAAS Gateway detailing
the nature of the investigation required (contract price investigation, overheads,
Cost of Production to Capital Employed (CP:CE) ratio etc.). You can find a list of
contacts on the CAAS Intranet site. However, in deciding whether to involve CAAS
and before submitting a DEFFORM 122 (Tasking Form) you must consult the Pricing
– Team Approach guidance in the Commercial Toolkit.

Estimating - Cost Engineering Services

8. Cost Engineering is perhaps the most widely used direct service. CAAS are
commissioned by commercial officers in acquisition teams to ascertain the expected
cost of a product or service in advance of the activity being undertaken when
contracts are to be placed non-competitively. CAAS do not normally negotiate the
price, but can agree prime cost elements if specifically requested.
9. A contractor will submit its tender detailing the quoted direct and indirect costs
together with Basic Estimates, Allowances, Risk and profit. The quote will be
reviewed by CAAS, taking account of the company's model, Questionnaire on
Method of Allocating Costs (QMAC), planned workload, utilisation factors, labour
mix, resources, productivity, planned investment, product groups, the Government
Accounting Conventions (GAC) and the agreed charging rates. The tenderers cost
build-up should align with the planned project technical milestones or outputs
thereby adhering to the principal of matching costs to revenues.

Uncertainty and Allowances

10. One of the key considerations, when estimating the cost and agreeing a fair
and reasonable price for a contract, is the degree of uncertainty within the basic
estimate and the risk events that may occur. In any project there will be events,
practices or activities that, although they will invariably take place, are subject to a
level of uncertainty which can be quantified through the production of three point
estimates, the application of estimating allowances and the use of Monte Carlo
analysis techniques. This is distinct from risk events, which although identified and
possible, may or may not occur. When a potential contractor has legitimate
commercial concerns about specific risks, these should be evaluated and entered on
a Risk or Joint Risk Register.

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Source: Commercial Toolkit

Available via http://www.aof.dii.r.mil.uk or http://www.mod.uk/aof
The Commercial Toolkit
Pricing – CAAS Estimates – Full Guidance – Last Updated 01/07/2011

11. The general practice is to place all such events in a joint risk register and
generate estimated costs based on the probability of each validated risk occurring.
The register should also include favourable risks or opportunities arising from
improved techniques, practices, cost savings or technology, in order to satisfy
Equality of Information requirements. Where risks are identified the contractor
should also identify appropriate risk mitigation activities in the tender submission.
Examples of uncertainties, allowances and risks that may be encountered are
outlined below.

Basic Estimate Uncertainty

12. Any estimate for a specified activity is subject to a degree of uncertainty due
to normal variability. For example; changing spark plugs on an engine could take
say between 30 minutes if all went as well as could be, up to 1 hour if things went
badly (e.g. the plugs were all rusted in). In practice the most likely time would be
40 minutes as normally at least one will be difficult to remove. This does not take
account of events such as a spark plug breaking and having to be removed by
specialist means – this would be classed as a risk event.
13. A contractor-produced estimate could, theoretically, lie at any point across this
range depending on the approach of the estimator. It is therefore vital that a true
‘most likely cost’ be established to ensure the MOD does not pay too much and that,
by applying its professional skills in completing the task, the contractor has the
opportunity to make a reasonable profit. This is one of the functions of the CAAS
investigation.

Escalation
14. An allowance added to the basic cost estimate to cater for variations in wage
rates and / or prices of materials and subcontracts that are expected to occur during
the currency of the contract as a result of general economic conditions.
15. MOD policy is to seek to negotiate FIRM prices for contracts of up to five years
duration and for contracts of longer duration when this can be done without placing
either the contractor or the MOD at unconscionable risk. Where FIRM prices cannot
be agreed, it may be appropriate to agree a FIXED price with Variation of Price
(VOP). Expert advice must be sought from Defence Analytical Services and the
Advice Director of Economic and Statistical Advice (DASA DESA) on the appropriate
indices.

Break in Production
16. An allowance to cover the eventuality of additional costs arising from
disruption to a production run.
17. It is the contractor's responsibility to minimise the incidence of such
disruptions. Disruptions caused by MOD modifications are priced as they occur.
Any request for such an allowance should therefore be declined and the contractor
advised that should such delays occur which result in additional costs, such costs

3 of 7

Source: Commercial Toolkit

Available via http://www.aof.dii.r.mil.uk or http://www.mod.uk/aof
The Commercial Toolkit
Pricing – CAAS Estimates – Full Guidance – Last Updated 01/07/2011

will be for the contractor’s account. It should be noted that this is distinct from the
step back in learner encountered on a follow on production run which is a
recognised effect. For example, if the MOD order a specific batch of 100 items to be
made over one year followed by a further batch two years later, the initial items in
the second batch will take longer to produce than the last items in the first batch as
operators and management re-learn the production process.

Tail-Off Cost (End of Line Effect)

18. An allowance to cover the possible extra cost associated with the later stages
of a production run. Extra cost may arise due to lower productivity when a work
force is aware of the lack of future work. Contractors tend to employ this argument
to justify using a lower level of productivity as a basis for their estimate.
19. It is the contractor's responsibility to keep his facilities adequately loaded and
to ensure output from his employees is maintained. You should therefore resist and
requests for such an allowance.

Design Growth
20. An allowance to cover the likely cost of modifications arising from growth or
refinement of the design expected to occur during the currency of a contract.
21. Design and / or development contracts are generally agreed against a User
Requirements Document (URD) and System Requirements Document (SRD) (as
opposed to a standard defined by drawings). Modifications should not arise unless
authorised by the MOD, in which case a separate price would be agreed as an
'extra'.
22. This allowance should be assessed against the nature of the requirement and
the extent to which the potential additional cost may have been covered by the
basic estimate.

Loading or Capacity
23. An allowance to protect the contractor against the under recovery of overheads
should these have to be recovered against a smaller direct labour base than
assumed when fixing a price, as a result of unforeseen reductions in workload.
24. When estimating forward overhead rates, CAAS assess the size of the direct
labour base against which the contractors indirect cost will be recovered. The
longer the duration of the contract the more difficult this can be.
25. It is the contractor's responsibility to keep its facility loaded and a forward
order book is just as likely to increase as decrease.
26. Such requests should be resisted. If an impasse is reached, appropriate
provisional overhead rates may be used for the later years of the contract, until
such time as the uncertainties have diminished and firm rates can be agreed
without reservations.

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Source: Commercial Toolkit

Available via http://www.aof.dii.r.mil.uk or http://www.mod.uk/aof
The Commercial Toolkit
Pricing – CAAS Estimates – Full Guidance – Last Updated 01/07/2011

Warranty or Guarantee
27. An allowance to cover the cost of rectifying defects in manufacture or design
that come to light after acceptance of the goods. Contractors often charge rework,
warranty and guarantee costs against overheads and there may be such an
allowance in the overheads. Requests for such allowances should, therefore, be
discussed with CAAS as to whether they are allowable as a legitimate direct charge.
28. If a known design or quality concern exists it should be evaluated on the risk
register.

Over Provisioning
29. An allowance to cover the costs of items which it is necessary for good reasons
to over provision and which may be left over at the conclusion of the contract.
30. Claims in respect of items in general use should not normally be considered on
the grounds that any surplus items can be used elsewhere. However, where there
is a legitimate case for over provisioning some items the cost should be included
within the basic materials prices. The MOD should then claim property in any
surpluses and require the contractor to provide an inventory of items added to its
Public Stores Account.

Insurance Excess
31. An allowance to protect against any costs the contractor may have to bear
under the 'Excess Clause' of his general insurance policy in the event of an insured
incident occurring during, and in connection with, the performance of the contract.
32. The Government Accounting Conventions (GACs) accept insurance costs for
buildings, staff etc. as a legitimate overhead expense. The GACs disallow protection
against loss of profit. If a genuine risk exists as a result of the contract the
contractor should seek to mitigate this and include it on the risk register. Requests
for such allowances should, therefore, be discussed with CAAS as to whether they
are allowable.

Profit
33. Profit is the reward for capital invested and risk. Having finalised the
estimation of costs CAAS in consultation with the acquisition team will need to
address profit. The Government Profit Formula provides the mechanism by which
contractors undertaking non-competitive Government contracts are rewarded for
both the capital invested and risk. CAAS in consultation with the acquisition team
apply the profit formula to individual contracts by calculating the contractor's own
Cost of Production to Capital Employed (CP:CE) ratio. This is then used to express
the capital based element of the formula in terms of cost of production. When this
is added to the cost based part of the formula it gives the total profit rate on the
contract expressed as a percentage of cost of production.

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Source: Commercial Toolkit

Available via http://www.aof.dii.r.mil.uk or http://www.mod.uk/aof
The Commercial Toolkit
Pricing – CAAS Estimates – Full Guidance – Last Updated 01/07/2011

34. Profit is not payable in cases such as Joint Venture Agreements where both the
MOD and the Contractor benefit from the work and where costs are shared in
agreed proportions between the MOD and the contractor.

Pricing Process
35. The CAAS investigation is a core element of the pricing process. Initially CAAS
will consult acquisition teams and other stakeholders as appropriate and will advise
immediately if they anticipate any difficulty in meeting reporting timescales
proposed. During the investigation itself, CAAS will regularly update customers on
the progress of the task. About two-thirds of the way through the investigation
there is a requirement to provide a simple one-page Progress Report to the
customer defining the main emerging issues. This gives the customer the
opportunity to consider his negotiating approach and to possibly direct CAAS to
investigate a particular issue before the investigation closes. There should be no
major surprises in the delivered Main report.
36. At the conclusion of the investigation CAAS produce a Pricing Report made up
of a Price Negotiation Summary at Part 1, Findings at Part 2 and Supporting Issues
at Part 3. The Summary lays out, a standard format, a three-point price negotiation
range that will give:
a. a suggested start (or minimum) negotiation price;
b. a recommended (or most likely) price for final settlement; and
c. a suggested upper (or maximum) price.
37. The investigating officer will seek to include an assessment of the suggested
start negotiation price or opening bid, by providing some credible supporting
arguments. The Summary will also include a 'Difference Analysis' listing the main
pricing differences in descending order of price importance. These differences are
then addressed in the later text of the report to present a negotiating position.
38. It should be noted that the principal reasons revealed by post costing for cost
underruns against the agreed contract price include:
a. the inclusion of risk events and allowances which, in the event, prove
unnecessary;
b. reduction in the number of man hours;
c. changes to the make / buy plan;
d. inappropriate VOP arrangements because, for example, the contractor
buys materials earlier or buys at a firm price.
39. In the first two instances cited above, most often the CAAS recommendation is
close to the actual outturn. Changes to the make / buy plan invariably lead to work
being outsourced at lower cost.
40. One conclusion that can be drawn from this data is that the MOD must be
robust in its negotiation of non-competitive prices, and adhere more rigidly to the
estimates proposed by CAAS. The aim of the MOD's negotiators should be to agree
6 of 7

Source: Commercial Toolkit

Available via http://www.aof.dii.r.mil.uk or http://www.mod.uk/aof
The Commercial Toolkit
Pricing – CAAS Estimates – Full Guidance – Last Updated 01/07/2011

a price closely based on the CAAS recommended or most likely price for final
settlement. The CAAS investigation is a core element of the pricing process. Where
negotiations result in an outcome where the price includes estimates above the
most likely level recommended by CAAS, this should be referred to the relevant
Commercial 1* / Head of Commercial in writing for a final decision about the price.
In submitting the case the acquisition team must be satisfied that the allowances
included in the costs are consistent and justifiable with the CAAS most likely
recommendation. In some cases, genuine disagreement between negotiators,
possibly based on uncertainty on how to meet the output required by the contract,
could point to a Target Cost Incentive Fee (TCIF) arrangement representing the
better way forward.

Essential Reading
 Pricing - Charging Rates topic
 Pricing - Non-Competitive - An Overview topic
 Pricing - Team Approach topic
 Pricing - NAPNOC topic
 Pricing - Government Profit Formula topic
 Pricing – Variation of Price topic

Further Reading
 Pricing - Equality Of Information topic
 Office of Government Commerce (OGC) website

7 of 7

Source: Commercial Toolkit

Available via http://www.aof.dii.r.mil.uk or http://www.mod.uk/aof