March 6,1994 B-260548

B-260548: Mar 6, 1994

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Is unable to provide the auditor with adequate assurance that the costs incurred by DOE contractors are reasonable and allowable. DOE's inability to assure that its contractors' costs are legal and proper. The work is performed at DOE's national laboratories by the contractors who operate those labs for DOE. That DOE does not provide sufficient audit coverage of its contractors to assure that DOE is reimbursing the contractors only for costs that are allowable under the terms of the contracts. Emphasized that the lack of audit coverage of the DOE contractors is beyond its control. Whether NRC should be cited for noncompliance would depend on whether NRC is obligated to monitor and enforce the government's contractual rights under the contracts between DOE and its lab contractors.

March 6,1994 B-260548

The Department of Energy's (DOE) inability to assure the allowability of contractor costs, incurred in performing work for the Nuclear Regulatory Commission (NRC) under a DOE-NRC interagency agreement, does not lead to a conclusion that NRC, for purposes of its financial statement audit, has failed to comply with laws and regulations governing contractor costs.

To: Director, AIMD/Financial Management Policies and Issues - John W. Hill, Jr. Director, AIMD/Civil Audits-HEHS & RCED - Lisa G. Jacobson

From: Assistant General Counsel, OGC/AIMD - Thomas H. Armstrong

Subject: Inspector General's Report of Audit of Nuclear Regulatory Commission's Financial Statement - Compliance with Laws and Regulations

This responds to the question raised at your meeting on January 31 with representatives of the Nuclear Regulatory Commission's (NRC) Office of Inspector General and Office of Chief Financial Officer regarding a compliance matter brought to the Inspector General by the independent auditor auditing NRC's financial statement. This matter results from the fact that the Department of Energy (DOE), which uses its contractors to perform work for NRC under an interagency agreement, is unable to provide the auditor with adequate assurance that the costs incurred by DOE contractors are reasonable and allowable. It appears from NRC's description of its relationship to DOE and the DOE contractors, that the auditor has identified a weakness in DOE's audit coverage of its contractors, not a weakness or failure on the part of NRC. In our opinion, DOE's inability to assure that its contractors' costs are legal and proper, while material to the issue of whether DOE has complied with laws and regulations governing contractor costs, does not compel a conclusion that NRC has failed to comply with those laws and regulations.

The NRC officials at the January 31 meeting explained that DOE, pursuant to a Memorandum of Understanding (MOU) with NRC, has agreed to provide research and technical assistance to NRC. The work is performed at DOE's national laboratories by the contractors who operate those labs for DOE. NRC noted in its November 3, 1994, letter to the Office of Management and Budget, and reiterated at the January 31 meeting, that DOE does not provide sufficient audit coverage of its contractors to assure that DOE is reimbursing the contractors only for costs that are allowable under the terms of the contracts. NRC pointed out that DOE reported this lack of audit coverage as a material weakness in its 1993 report to the President under the Federal Managers Financial Integrity Act.

According to the NRC officials, NRC does not audit the DOE contractors. NRC, both in the November 3 letter and at the January 31 meeting, emphasized that the lack of audit coverage of the DOE contractors is beyond its control. The representatives of the NRC Inspector General said that DOE rebuffed the Inspector General's offer to assist DOE in auditing the contractors. Nevertheless, the financial statement auditor has suggested a qualified opinion for NRC because NRC cannot demonstrate compliance with the laws and regulations governing the allowability of contractor costs.

As we view the matter, whether NRC should be cited for noncompliance would depend on whether NRC is obligated to monitor and enforce the government's contractual rights under the contracts between DOE and its lab contractors. Ordinarily, obligations arising out of contracts are due only to those who are parties to the contract. Under the concept of privity of contract, a contract, generally, cannot be enforced by one who is not a party to the contract. Gold'n Plump Poultry v. Siminons Engineering Co., 805 F.2d 1312, 1318 (8th Cir. 1986). It seems to us that DOE has the right, and the responsibility, to enforce the provisions of its contracts. DOE's regulations, generally incorporated by reference into all of its contracts, provide that DOE will determine the allowability of costs incurred by the contractors. DOE Order 2200.8B, Par. 3c(3)(e), June 8, 1992. As we understand the MOU between DOE and NRC, NRC has no contractual relationship with DOE's contractors; NRC's contractual relationship is with DOE. Under the terms of the MOU, NRC reimburses DOE the cost to DOE under its lab contracts of the NRC work. MOU, Sec. II.A. It is DOE who is responsible "for ensuring that the contractor performs all Commission [NRC] work within the provisions of its operating contract with DOE." MOU, Sec. III.B.4. NRC auditors have proffered nothing to suggest that NRC has any right of enforcement against DOE contractors. Without privity of contract with the DOE contractors, NRC cannot compel the contractors to justify the reasonableness or allowability of their costs. Consequently, there does not appear to us to be noncompliance by NRC.

The Inspector General's representatives at the January 31 meeting indicated that if this matter does not constitute a compliance concern, the Inspector General, nevertheless, might note the situation in the audit report. Given the amount expended by NRC under its agreement with DOE, we would have no objection to the Inspector General's including a note advising of the weaknesses in DOE's audit coverage of the contractors.