Performance audit, AHCCCS Administration final report

              AHCCCS ADMINISTRATION
PERFORMANCE AUDIT
* * * * *
FINAL REPORT
FEBRUARY 6, 1985
OFFICE OF GOVERNMENT SERVICES
1801 K STREET. N W
WASHINGTON. DC 20006
202 296- 0800
February 6 , 1985
M r . Douglas R. Norton
Auditor General
1 1 1 West Monroe
Phoenix, Arizona
Dear M r . Norton:
We are very pleased t o present the f i n a l report concerning
our performance audit of the Arizona Health Care Cost Containment
System's ( AHCCCS) administration.
The AHCCCS program represents one of the most s i g n i f i c a n t
a c t i v i t i e s in which the S t a t e is engaged. We hope t h a t our
findings w i l l serve t o inform the Legislature and aid it in
future deliberations it w i l l make on AHCCCS and other programs.
We appreciate the considerable time you and your s t a f f have
devoted to guiding and a s s i s t i n g us in our e f f o r t s . Should you
wish to discuss any aspect of our report f u r t h e r , please f e e l
f r e e t o c o n t a c t u s .
Yours very t r u l y , g DL
TABLE OF CONTENTS
I. EXECUTIVE SUMMARY
A. Purpose and Scope of t h e Audit
B. Summary of Major Findings
1 . F i n a n c i a l Audit of MSGI's B i l l i n g s
2. Performance Audit of t h e S t a t e ' s
Monitoring A c t i v i t i e s
3. Performance Audit of MSGI's Actions as
Administrator
11. PURPOSE AND SCOPE OF THE AUDIT
A. Background and Purpose of the Performance
Aud it
B. Scope of t h e Work
111. FINANCIAL EXAMINATION OF THE PROPRIETY OF flSGI
COSTS AND FEES BILLED
A. Approach
R . Results of Testing o f Costs and Fees B i l l e d
Personnel and Related Costs
Computer Costs
F a c i l i t y Costs
Forms and Supplies
Purchased S e r v i c e s
Travel and Other Expenses
General and Administrative and
Direct Corporate Charges
Award Fees
I n c e n t i v e Fees
MSG1 Overhead
Excess Contractor Costs
C. Cost Reimbursement L i m i t a t i o n s
I V . PERFORMANCE FINDINGS
A. Performance of DHS and S t a t e AHCCCS Division
in Contract Monitoring
1 . Overall F a c t o r s A f f e c t i n g t h e Conduct I V - 1
of the Pro ram's Administration
2. Adequacy of C o n t r a c t P r o v i s i o n s and IV- 3
Contract Execution
3. Monitoring and C o n t r o l o f the Administrator IV- 18
TABLE OF CONTENTS
( continued)
B. Performance Audit of MSGI's Activities
1. Compliance with the Administrator
Contract
2. Effectiveness of MSGI's Major Activities
3. EDP Systems Development and Operations
4. Assessment of the Amount of New IJork
Performed
5. Use of Subcontractors
EXHIBITS
IV- 1
IV- 2
IV- 3
IV- 4
IV- 5
IV- 6
IV- 7
IV- 8
IV- 9
Summary of Pre- Audit Survey Issues Pursued in Phase I1
Summary of Billed, Questioned and Unresolved Costs
Analysis of Purchased Services
Example Computation Cost Reimbursement Limitation
Key Terms and Definitions Relating to Governmental
Contract Cost Accounting
Comparison of 1984 HCFA Guidelines to AHCCCS Timetable
Examples of Transmittal Memoranda
MSG1 and State AHCCCS Leadership Turnover
AHCCCS Eligible Population
Analysis of Systems Personnel
Data Center Costs
Contract Modification 3
Analysis of Contract llodification 3
Summary of Maj or Subcontractors
APPENDICES
A. Response to Questions Raised By The Auditor General
B. Summary of Selected RFP and Contract Provisions-- Arizona vs
Other States
C. AHCCCS Contract Compliance Matrix
D. MMIS Subsystem Description
E. Detailed Analysis of Proposed Modification 3
F. MSG1 Comments on the Performance Audit
G. Attorney General Comments on the Performance Audit
DOUGLAS R. NORTON. CPA
AUDITOR GENERAL
STATE OF ARIZONA
OFFICE OF THE
AUDITOR GENERAL
February 6, 1985
Members of the Arizona Legislature
The Honorable Bruce Babbitt, Governor
Dona1 d Schall er, M. D., Director
Arizona Health Care Cost Containment System
Transmitted herewith i s the Price Waterhouse performance audit report on
the AHCCCS administration. This report i s i n response to House Bill 2331
enacted by the Thirty- sixth Legislature in 1984.
Section I of the report i s an executive summary. A response from McAuto
Systems Group, Inc. is contained i n Appendix F. A response from the
Attorney General on behalf of the State is found i n Appendix G. In
addition, McAuto Systems Group, Inc. has filed w i t h our office additional
detailed comments which are available for review by interested parties.
If you have any questions about the report, please forward them to me.
Respectful ly submi tted,
~ 0 ~ ~ R1. 8Nosrt on
Auditor General
Enclosure
cc: The Honorable Robert K. Corbin, Attorney General
Michael J. Malley, Esq.
1 1 1 WEST MONROE SUITE 600 PHOENIX. ARIZONA 85003 ( 602) 255- 4385
I. EXECUTIVE SUMMARY
A. Purpose and Scope of the Audit
IlcAuto Systems Group, Inc. ( MSGI) began work as Administrator
of t h e new Arizona Health Care Cost Containment System ( AHCCCS)
program i n June 1982. MSGI served i n t h i s c a p a c i t y u n t i l Plarch
15, 1984. During t h i s time AHCCCS experienced a number of
o p e r a t i n g problems and t h e S t a t e and MSGI became embroiled i n a
c o n t r a c t d i s p u t e over the amounts due and the r e s p o n s i b i l i t i e s of
MSGI under the terms of the c o n t r a c t .
The S t a t e L e g i s l a t u r e d i r e c t e d t h e Arizona Auditor General t o
conduct a performance a u d i t of a d m i n i s t r a t i v e and f i n a n c i a l
i s s u e s r e l a t e d t o MSGI's tenure as AHCCCS Administrator. The
performance a u d i t was not intended t o render judgments about the
o v e r a l l success of t h e AHCCCS program, which is t h e s u b j e c t of a
s e p a r a t e e v a l u a t i o n . P r i c e Waterhouse was r e t a i n e d t o address
t h r e e a r e a s i d e n t i f i e d by the Auditor General as being the focus
of the performance a u d i t :
1) Were t h e b i l l i n g s submitted by NSGI a p p r o p r i a t e i n terms
of t h e c o n t r a c t and were the c o s t s a c t u a l l y incurred?
2 ) Did the S t a t e Department o f Health Services ( DHS)
e f f e c t i v e l y perform i t s monitoring and c o n t r a c t
management f u n c t i o n s ?
3) How well did MSGI perform i t s d u t i e s a s Administrator?
What f a c t o r s and o r g a n i z a t i o n s were r e s p o n s i b l e f o r the
various o p e r a t i o n a l problems experienced by AHCCCS?
The performance a u d i t was conducted i n two phases: 1 ) a
p r e - a u d i t survey i n which a number of major i s s u e s were
i d e n t i f i e d , and 2) a d e t a i l e d a u d i t phase which pursued these
issues. This two phased approach enabled the work to focus on
the areas of highest priority to the State. Accordingly, the
report presents our findings and conclusions regarding these key
areas, but does not necessarily represent an exhaustive
discussion of the three groups of questions cited above.
Some of the issues addressed by this report are also the
subject of pending litigation between the State and MSGI. It was
not possible to conduct this performance audit without making
certain legal assumptions and expressing certain factual opinions
with which one party or the other will vigorously disagree. We
must, however, emphasize that this report was not intended to,
and does not purport to, render definitive conclusions of law
about matters that are now in litigation, for that is the
exclusive responsibility of the courts. In addition, it should
also be noted that our work was necessarily confined to a set
timeframe and level of resources. Because this issue is still in
litigation, new facts may emerge which were not available to our
project team during its factfinding work.
B. - Su- m mary o- f M ajor Findings
1. Financial Audit of MSGI's Bil- l ings
MSGI submitted bills totaling $ 17.1 million. We have tested
$ 13.4 million of the costs and fees in those billings. This /
testing has resulted in our identifying billings of $ 2.2 million
which are questioned and $ 1.8 million which are unresolved.
These amounts do not include possible reductions of overhead
billings and nonreimbursement of operating costs exceeding
maximum annual baseline levels. These amounts can only be
calculated after resolution of contract modification authority
and other issues now in litigation.
Award f e e s and i n c e n t i v e f e e s comprise $ 1.9 m i l l i o n of the
$ 2.2 m i l l i o n of c o s t s and f e e s questioned. The remainder
c o n s i s t s p r i m a r i l y of d i r e c t c o r p o r a t e charges.
o The c o n t r a c t between DHS and MSG1 provided f o r award
f e e s and i n c e n t i v e f e e s t o be paid based on attainment
of " s u p e r i o r performance." Among o t h e r t h i n g s , c r i t e r i a
d e f i n i n g t h i s were never agreed upon o r n e g o t i a t e d and
accordingly t h e r e is no b a s i s f o r judging t h a t they have
been earned.
o The d i r e c t c o r p o r a t e c h a r g e s questioned r e s u l t from PISGI
b i l l i n g general a d m i n i s t r a t i v e r a t e s between 3.35% t o
6.04 and i n one case as high as 12.5% whereas it
proposed 3.35%. The charges i n e x c e s s o f 3.35% a r e
questioned on t h e grounds t h a t t h e r a t e proposed was a
n e g o t i a t e d and agreed r a t e a p p l i c a b l e t o the c o n t r a c t
and any r e s u l t a n t m o d i f i c a t i o n s .
Purchased s e r v i c e s and computer t i m e s h a r i n g c h a r g e s comprise,
r e s p e c t i v e l y , $ 1.2 m i l l i o n and approximately S400,000 of the
c o s t s and f e e s c l a s s i f i e d as unresolved.
o The unresolved purchased s e r v i c e s r e l a t e t o c o s t s f o r
MSGI s u b c o n t r a c t o r s . $ 800,000 of t h i s amount involves
s i t u a t i o n s where a formal subcontract e x i s t s between
MSG1 and the s u b c o n t r a c t o r but t h e s u b c o n t r a c t o r was not
o f f i c i a l l y approved by DHS as r e q u i r e d .
o The remaining $ 400,000 of t h e $ 1.2 m i l l i o n r e l a t e s t o
s u b c o n t r a c t o r arrangements which were not documented in
formal agreements and, accordingly, we cannot determine
t h e terms of t h e s e arrangements o r e v a l u a t e them f o r
conformance.
o In both of t h e above s i t u a t i o n s , it appears t h a t ,
g e n e r a l l y , s e r v i c e s were rendered t o support t h e
subcontractor b i l l i n g s .
o The $ 400,000 of unresolved computer timesharing c o s t s
a r e p r i m a r i l y usage charges t h a t a r e e s t i m a t e s n o t based
on r e p o r t s from MSGI's system accounting package.
However, t h e s e charges a r e reasonably c o n s i s t e n t with
those charges which are supported by t h e system
accounting package.
2. Performance Audit of the State's Monitoring
Activities
We analyzed three areas with respect to the State's monitor-ing
and contract management functions. Our findings with respect
to these were as follows:
a. Overall Factors Affecting the Conduct of the
Program's Administration
o The time allowed for program startup was too brief to
enable required systems and procedures to be developed.
This had an important, negative impact on operations
after startup.
o The size of the program put the State at considerable
financial risk when certain initial assumptions were
proven wrong ( e. g., number of fee for service claims and
competitiveness of initial provider bids). Yet the
health care nature and the complexity of the program
made significant changes difficult to implement.
b. Adequacy of Co- n-- t ract Provisions and Contract
Execution
o The State was remiss in taking a cost reimbursement
approach for all work done. Several aspects of the
AHCCCS Administrator's duties were susceptible to
estimating fixed levels of effort or ranges for the
purposes of setting contractor fees.
o The absence of any fixed price elements coupled with the
subsequent failure to agree to specific deliverables,
levels of effort and tasks in workplans ( as envisioned
in the contract) made definition of what was in or
outside of MSGI's scope of work very difficult. The
State also gave PISGI numerous directives altering 11SGI's
procedures or changing activities without relating these
to the original budget or providing guidance as to what
should be de- emphasized or not done.
c. Monitoring and C o n t r o l o f t h e Administrator
o S t a t e AHCCCS did not e s t a b l i s h c o n s i s t e n t , e f f e c t i v e
f i n a n c i a l and management c o n t r o l s t o oversee MSGI's
expenditures and a c t i o n s . For example, a f t e r the
i n i t i a l s t a r t - u p period no master l i s t of required
d e l i v e r a b l e s was maintained and no monthly spending plan
was required of MSGI.
o The absence of e f f e c t i v e c o n t r o l s prevented the S t a t e
from taking timely a c t i o n t o address t h e growing c o s t
overruns and i n e f f i c i e n c i e s experienced i n the admini-s
t r a t i o n of t h e program.
o The S t a t e lacked experienced personnel i n s e v e r a l impor-t
a n t a r e a s , such as EDP systems. It a l s o lacked
understanding of s i g n i f i c a n t c o n t r a c t u a l i s s u e s and
r e s p o n s i b i l i t i e s .
3. Performance Audit of MSGI's Actions - as
Administrator
We examined f i v e a s p e c t s of MSGI's performance as AHCCCS
Administrator. Our major f i n d i n g s with r e s p e c t t o t h e s e are as
follows :
a. Compliance with the -- A-- d-- m--- i-- n istrator C o n t r a c t
MSG1 appears t o have completed many of the r e s p o n s i b i l i t i e s
required under the A d m i n i s t r a t o r ' s c o n t r a c t , but some key t a s k s
were not performed well. In a l l a r e a s t h e t i m e l i n e s s and degree
of completion of c e r t a i n t a s k s was l e s s than t h a t proposed. The
t a s k s t h a t were not performed had a s i g n i f i c a n t impact on NSGI's
a b i l i t y t o manage and o p e r a t e t h e AHCCCS program. For example,
t h e f a i l u r e t o develop the EDP r e p o r t i n g subsystems on a timely
b a s i s meant t h a t monitoring and e v a l u a t i o n of t h e p a r t i c i p a t i n g
plans and f e e f o r s e r v i c e payment trends could not be e f f e c t i v e l y
performed. A s a r e s u l t , the d e t e c t i o n of t h e unexpectedly high
l e v e l of fee f o r s e r v i c e c l a i m s , which caused a budget c r i s i s f o r
AHCCCS , was hindered.
b. Adequacy and E f f i c i e n c y of MSGI's Major
A c t i v i t i e s
MSGI adequately performed the m a j o r i t y of a c t i v i t i e s
a s s o c i a t e d w i t h p r o v i d e r development and provider and member
r e l a t i o n s . Their performance i n t h e a r e a s of e l i g i b i l i t y and
enrollmen- t was l e s s e f f e c t i v e because o f problems a r i s i n g i n t h ~
e l i g i b i l i t y d e t e r m i n a t i o n p r o c e s s .
The timely and a c c u r a t e processing of e l i g i b i l i t y determina-t
i o n s was c r i t i c a l t o the s u c c e s s f u l o p e r a t i o n of t h e AHCCCS
program. County e l i g i b i l i t y o f f i c e s , the Department of Economic
S e c u r i t y ( DES) and the U. S. S o c i a l S e c u r i t y Administration were
r e s p o n s i b l e f o r processing e l i g i b i l i t y determinations and
submitting t h e d a t a t o MSGI. Due t o s e v e r a l problems experienced
a t t h e county l e v e l and unexpected d i f f i c u l t i e s with t r a n s f e r r i n g
DES d a t a , a s w e l l a s some d e f i c i e n c i e s i n MSGI's o p e r a t i o n , MSG1
was not able t o e f f i c i e n t l y process t h e s e d e t e r m i n a t i o n s . T h i s
i n turn led to s u b s t a n t i a l enrollment problems, as the enrollment
procedures were dependent on a c c u r a t e and timely e l i g i b i l i t y
d e t e r m i n a t i o n s .
c. EDP Systems Development and Opera- t- i ons
In t h i s area we examined t h e e f f i c i e n c y of EDP systems devel-opment
and the progress made i n a t t a i n i n g Federal c e r t i f i c a t i o n
of t h e Medicaid Management Information Systems ( MMIS). We found
t h a t :
o S i g n i f i c a n t l y more systems personnel were used than pro-posed
due t o both new work and a l s o very o p t i m i s t i c a l l y
low proposal s t a f f i n g l e v e l s .
o Total computer c o s t s b i l l e d t o t h e S t a t e were double t h e
approved budget l e v e l . It appears t h a t MSGI's c o s t pro-posal
did not allow f o r t h e system m o d i f i c a t i o n s and
corresponding i n c r e a s e i n computer hardware usage
normally expected t o r e s u l t from a demonstration
p r o j e c t .
o The MMIS had not been c e r t i f i e d a s of March 15, 1984.
Key required elements were not o p e r a t i o n a l a t t h a t time.
As a r e s u l t , t h e S t a t e is l i k e l y t o l o s e between
$ 500,000 and $ 2 m i l l i o n i n f e d e r a l f i n a n c i a l p a r t i c i p a -
t ion.
d. C o n t r a c t Modifications
During the time t h a t MSG1 was t h e A d m i n i s t r a t o r , t h e y claim
t o have been d i r e c t e d t o perform numerous t a s k s and f u n c t i o n s
t h a t were not o r i g i n a l l y contemplated but t h a t were within the
scope of t h e i r r e s p o n s i b i l i t i e s a s Administrator. New work and
r e l a t e d c o s t e s t i m a t e s were twice formally reduced t o w r i t t e n and
approved documents, commonly r e f e r r e d t o as Modifications t l and
# 2. In a d d i t i o n , a t h i r d m o d i f i c a t i o n was under d i s c u s s i o n when
t h e c o n t r a c t was terminated. This was t o cover f u r t h e r work
claimed by NSGI t o be " new" and undertaken i n Operational Year
One. This m o d i f i c a t i o n was not formally approved. Some of t h i s
new work appears t o have become i n t e g r a l p a r t s of t h e AHCCCS
program t h a t the Administrator was t o develop, i n s t a l l and
o p e r a t e .
There is c o n s i d e r a b l e c o n t e n t i o n about whether AHCCCS
management had t h e a u t h o r i t y t o i n c r e a s e the c o n t r a c t scope and
c o s t s i g n i f i c a n t l y without b e n e f i t of f u r t h e r bidding, whether
the work a c t u a l l y was " new" work and whether t h e c o s t e s t i m a t e s
proposed accurately reflect incremental costs to perform new
work.
The answers to these issues require extensive discovery,
legal analysis and, possibly, adjudication to finally resolve.
e. Use of Subcontractors
MSGI used subcontractors to a much greater extent than pro-posed
for both new work and in place of MSGI personnel. The
proposal stated that subcontracting would represent only 3% of
the hours and 5.5% of the cost, or less than $ 500,000 over the
life of the contract. Instead subcontractors were actually
retained at a cost over $ 2 million. Substantial portions of this
appears to be within the work MSGI was originally contracted to
do. Several of those subcontracts were neither competitively
procured nor approved by the State as required.
11. PURPOSE AND SCOPE OF THE AUDIT
A. Background and Purpose of t h e Performance Audit
On August 4 , 1982 t h e Department o f Health S e r v i c e s ( DHS)
entered i n t o a c o n t r a c t w i t h McAuto Systems Group, Inc. ( MSGI) t o
administer the Arizona Health Care Cost Containment System
( AHCCCS). AHCCCS is an experimental program formed by the S t a t e
t o respond t o the h e a l t h c a r e needs of various disadvantaged
populations e l i g i b l e f o r Federal Medicaid b e n e f i t s .
By f a l l , 1983 t h e AHCCCS program had experienced s e v e r a l
o p e r a t i o n a l problems. F u r t h e r , by t h a t time the S t a t e ( defined
as s e v e r a l p a r t i e s i n a d d i t i o n t o t h e DHS) became embroiled in a
p r o t r a c t e d c o n t r a c t u a l d i s p u t e with MSGI. This d i s p u t e was t o
r e s u l t with the S t a t e assuming f u l l c o n t r o l f o r t h e administra-t
i o n of AHCCCS i n March, 1984. During t h e d i s p u t e t h e S t a t e
L e g i s l a t u r e decided t h a t a performance a u d i t of AHCCCS adminis-t
r a t i v e a c t i v i t i e s was needed t o help r e s o l v e the c o n f l i c t i n g
claims and p o s i t i o n s of t h e p a r t i c i p a n t s . R e s p o n s i b i l i t y f o r
conducting t h i s performance a u d i t was given t o t h e Arizona
Auditor General. In May t h e Auditor General r e t a i n e d P r i c e
Waterhouse t o perform the work.
The P r i c e Waterhouse s t a f f assigned t o t h i s p r o j e c t were
assembled from s e v e r a l d i s c i p l i n e s within the f i r m , including t h ~
h e a l t h c a r e and government c o n t r a c t i n g , e l e c t r o n i c d a t a process-ing
systems design and implementation, government o p e r a t i o n s
management c o n s u l t a n t s and f i n a n c i a l a u d i t i n g . This r e p o r t
r e p r e s e n t s the combined e f f o r t s of t h i s team.
B. Scope of the Work
The general guidelines for conducting performance audits of
government units have been identified by the U. S. General
Accounting Office's ( GAO) " Standards for Audit of Government
Organization, Programs, Activities and Functions." Part of this
process involves review and comment by the organizations being
audited. Our work was conducted under these guidelines.
It is important to note that the performance audit focused on
the administration of the program by DHS and MSGI, and not upon
the success of the program as it relates to the quality or cost
of the health care provided. The U. S. Department of Health and
Human Services' Health Care Financing Administration ( HCFA),
separately contracted for such an evaluation as part of the
Arizona demonstration project.
To judiciously use the funds appropriated for the conduct of
the performance audit and to conform to the GAO guidelines, a
pre- audit survey was conducted. This early work served to iden-tify
and sharpen the focus of the issues which our review would
examine in detail. As directed by the Auditor General and his
staff, the second phase of the work concentrated on the major
problems and questions surrounding the administration of AHCCCS
under MSGI as identified in the pre- audit work. A listing of
these issues is provided in Exhibit 11- 1.
The GAO guidelines also say that the auditor should afford
the agency being reviewed the opportunity to discuss the findings
before they are finalized. This was done with both MSGI and
AHCCCS as well as their respective legal counsels. The Auditor
General also extended to MSGI and AHCCCS the opportunity to
include up to twenty pages of written reactions in this report.
MSGI'S and the Attorney ~ e n e r a l ' sw r i t t e n r e a c t i o n s a r e a t the
end of t h i s volume, marked as Appendix F and G , r e s p e c t i v e l y .
The Auditor General w i l l make a v a i l a b l e a t h i s o f f i c e s any
a d d i t i o n a l or longer responses.
The remainder of t h i s r e p o r t presents our f i n d i n g s and
conclusions regarding these key a r e a s . Appendix A p r e s e n t s our
responses t o questions r a i s e d in the RFP f o r t h e conduct of t h i s
performance a u d i t .
Some of the i s s u e s addressed by t h i s r e p o r t a r e a l s o the
s u b j e c t s of pending l i t i g a t i o n between t h e S t a t e and MSGI. It
was not p o s s i b l e t o conduct t h i s performance a u d i t without making
c e r t a i n l e g a l assumptions and expressing c e r t a i n f a c t u a l opinions
with which one party or t h e o t h e r w i l l vigorously disagree. We
must, however, emphasize t h a t t h i s r e p o r t was not intended t o ,
and does n o t p u r p o r t t o , render d e f i n i t i v e conclusions of law
about matters t h a t a r e now i n l i t i g a t i o n , f o r t h a t is the
exclusive r e s p o n s i b i l i t y of the c o u r t s .
I n a d d i t i o n , it should a l s o be noted t h a t our work was
n e c e s s a r i l y confined t o a s e t timeframe and l e v e l of resources.
Because t h i s i s s u e is s t i l l i n l i t i g a t i o n , new f a c t s may emerge
which were not a v a i l a b l e t o our p r o j e c t team when t h e i r
f a c t f i n d i n g was being conducted.
F i n a l l y , t h i s r e p o r t does not and was not intended t o
i d e n t i f y , explore, or discuss a l l i s s u e s which MSGI and AHCCCS
have or might bring f o r t h i n t h e i r r e s p e c t i v e l e g a l a c t i o n s .
EXHIBIT 11- 1
Page 1 of 2
SUMllARY OF PRE- AUDIT SURVEY ISSUES PURSUED IN PHASE I1
1. Financial Examination of the Propriety of Contract Costs
This issue involved a review of the billings submitted by
MSGI to assess if they were appropriate in terms of the contract
and if the costs were actually incurred. Specifically, this
entailed examination of these categories of costs:
o Personnel and related costs
o Computer costs
o Facility costs
o Forms and supplies
o Purchased services
o Travel and other expenses
o General and administrative and direct corporate charges
o Award fees
o Incentive payments
o MSG1 overhead
o Excess contractor costs
Perfor- m- a nce Au- di- t - o f MSGI's Activities
The series of issues developed for detailed investigation in
this area included:
o MSGI's overall compliance with its contractual
responsibilities.
o The efficiency of a series of functions: eligibility,
enrollment, claims processing operations, and provider
management and quality assurance.
o The efficiency of flSGI1s EDP system development and
operation.
EXHIBIT 11- 1
Page 2 of 2
o MSGI's progress i n o b t a i n i n g a c e r t i f i e d Medicaid
Management Information System.
o The use of s u b c o n t r a c t o r s i n r e l a t i o n t o proposed c o s t s
and r o l e s .
3. The Role of t h e DHS and AHCCCS Division in Contract
Monitoring
The t h i r d a r e a of i n v e s t i g a t i o n focused on t h e r o l e of t h e
S t a t e in monitoring, c o n t r o l l i n g and overseeing t h e S t a t e ' s
c o n t r a c t with MSGI. T h i s i n c l u d e d :
o Reviewing t h e c o n t r a c t documents f o r t h e adequacy of
t h e i r p r e p a r a t i o n and p r o v i s i o n w i t h r e s p e c t t o g o a l s ,
d e l i v e r a b l e s and o t h e r measures.
o Review of a p p l i c a b l e s t a t u t e s , r u l e s and o t h e r l e g a l
requirements t h a t DHSIAHCCCS were t o meet.
o Comparing t h e MSG1 c o n t r a c t with Arizona t o o t h e r
s t a t e s .
o Assessment of t h e c o n t r a c t m o d i f i c a t i o n p r o c e s s in l i g h t
of t h e c o n t r a c t u a l requirements.
o Evaluating t h e adequacy of t h e f i n a n c i a l and management
c o n t r o l s u t i l i z e d by the S t a t e t o monitor MSGI.
o Reviewing t h e r o l e of non- DHS u n i t s involved i n t h e
a d m i n i s t r a t i o n of the program.
111. FINANCIAL EXAMINATION OF THE PROPRIETY OF MSG1 COSTS AND
FEES BILLED
This s e c t i o n of our r e p o r t c o n s i s t s of t h r e e p a r t s which
d i s c u s s : a ) our approach t o t h e f i n a n c i a l / c o m p l i a n c e a u d i t , b)
t h e r e s u l t s of our d e t a i l t e s t i n g of t h e MSG1 b i l l i n g s , and c )
c o s t reimbursement l i m i t a t i o n a s p e c t s of t h i s c o n t r a c t .
A. Approach
From t h e o n s e t of t h i s a u d i t , i n c l u d i n g t h e RFP, t h e pro-p
o s a l , t h e p r e - a u d i t s u r v e y , and p r o g r e s s r e p o r t s , it has been
understood t h a t t h i s p o r t i o n would c o n s i s t of an examination of
and r e p o r t on c o s t s b i l l e d t o t h e Department o f H e a l t h S e r v i c e s
by 1lSGZ i n r e l a t i o n t o a) t h e AHCCCS c o n t r a c t and c o n t r a c t modi-f
i c a t i o n s and b) a p p l i c a b l e c o s t p r i n c i p l e s and r e g u l a t i o n s . We
found t h a t t h e Arizona c o s t accounting p r i n c i p l e and procedure
s t a t u t e s were l i m i t e d a t t h e time t h e A d m i n i s t r a t o r c o n t r a c t was
signed. We supplemented t h e c o n t r a c t , where we b e l i e v e d it t o be
u n c l e a r o r n o n - s p e c i f i c , w i t h t h e F e d e r a l c o s t accounting p r i n c i -
p l e s embodied i n Chapters 30 and 31 of FAR. FAR is f r e q u e n t l y
used as guidance i n e v a l u a t i n g t h e a l l o w a b i l i t y of c o s t s because
it is t h e most developed a r t i c u l a t i o n of government c o n t r a c t c o s t
accounting p r i n c i p l e s and p r a c t i c e s . In f a c t , FAR is t h e b a s i s
f o r t h e F e d e r a l F i n a n c i a l P a r t i c i p a t i o n i n t h e a d m i n i s t r a t o r c o s t
reimbursement a s p e c t s of t h e AHCCCS program.
The examination was t o cover b i l l i n g s f o r t h e period from
June 7 , 1982 through March 15, 1984. The review, i n s h o r t , was
t o a s c e r t a i n by major e x p e n d i t u r e c a t e g o r y whether:
o Costs b i l l e d r e f l e c t e d a c t u a l expenditures made f o r the
b e n e f i t of the AHCCCS program, as i n d i c a t e d and
supported by documentation.
o Costs b i l l e d were in compliance with t h e c o n t r a c t and
c o n t r a c t m o d i f i c a t i o n s .
o Costs b i l l e d were in accordance with a p p l i c a b l e c o s t
p r i n c i p l e s .
In keeping with t h i s approach, we i d e n t i f i e d i n t h e p r e - a u d i t
survey r e p o r t :
o A r i s k c l a s s i f i c a t i o n of h i g h e r , medium, or lower f o r
each of t h e c o s t c a t e g o r i e s .
o A workplan f o r each c o s t category, identify in^ the
n a t u r e of t h e a u d i t procedures and amount of t e s t i n g t o
be used, depending t o a c o n s i d e r a b l e extent on the r i s k
assigned. This workplan a l s o considered the r e l a t i v e
s i g n i f i c a n c e of the t o t a l h i l l i n g f o r each category and,
where a p p l i c a b l e , sub- category.
The r e s u l t s of our examination of c o s t s and f e e s b i l l e d are
discussed in Section B below. Exhibit 111- 4 a t t h e end of t h i s
s e c t i o n provides some key terms and d e f i n i t i o n s r e l a t e d t o
government c o s t accounting and a u d i t i n g .
B. Results of Testing of Costs and Fees B i l l e d
Exhibit 111- 1 p r e s e n t s a summary view of c o s t s and f e e s
b i l l e d t h e S t a t e by MSGI f o r each major category and sub-category
and t h e questioned and unresolved c o s t s noted in our
t e s t i n g .
Following Exhibit 111- 1, by major category as presented in
t h e e x h i b i t a r e a ) o u r major f i n d i n g s from our c o s t and f e e a u d i t
work and b) b r i e f d e s c r i p t i o n s of the n a t u r e of t h e c o s t s and
fees and our t e s t i n g approach.
1 . Personnel and Related Costs
( 1 ) Findings
The most s i g n i f i c a n t f i n d i n g s result in^ from t h e a u d i t work
i n t h i s category a r e as follows:
o S e v e r a l time s h e e t s and s a l a r y a u t h o r i z a t i o n s were
unapproved. We confirmed with co- workers t h a t the
t e s t e d employees were bona f i d e and did in f a c t commit
the l e v e l of e f f o r t t o t h e AHCCCS p r o j e c t f o r which they
were paid.
o While t h e r e were numerous v a r i a n c e s between t h e a c t u a l
s a l a r y r a t e s b i l l e d and the averages proposed, the
v a r i a t i o n s tended t o be both above and below the
proposed r a t e s in roughly equal p r o p o r t i o n . MSGI had
proposed b i l l i n g a c t u a l labor r a t e s .
o For f r i n g e b e n e f i t s , charges were adequately supported
and c o n s i s t e n t l y c a l c u l a t e d . The charges were 11.6% of
t o t a l s a l a r y c o s t s as c o n t r a s t e d with t h e 15X estimated
i n t h e c o s t proposal.
o For t h e r e c r u i t m e n t , r e l o c a t i o n and t r a v e l c o s t s t e s t e d
($ 124,670), $ 5,086 a r e questioned and $ 15,097 a r e
unresolved.
EXHIBIT 111- 1
AHCCCS
SUMMARY OF BILLED, QUESTIONED AND UNRESOLVED COSTS
Billed Questioned Unresolved
PERSONNEL AND RELATED COSTS
S a l a r i e s $ 5,732,036 $ -- $ 75,533
Benefits 664,614 - - --
Recruitment, r e l o c a t i o n and t r a v e l 491,638 5,086 15,097
6,888,288 5,086 90,630
COMPUTER COSTS
Computer terminal and other
computer time
Data communications
Maintenance
EDP supplies and back- up
FACILITY COSTS
Rent and s e c u r i t y
Telephone
Office equipment and f u r n i t u r e
Amortization, depreciation and
insurance
FORMS AND SUPPLIES
Postage, d e l i v e r y , mailing
Forms, supplies and d u p l i c a t i n g
s e r v i c e
PURCHASED SERVICES
TRAVEL AND OTHER EXPENSES
Subtotal
GENERAL AND ADMINISTRATIVE
DIRECT CORPORATE CHARGE
AWARD FEES
INCENTIVE FEES
TOTAL
o For t h e period June 1982 - November 1982, personnel and
r e l a t e d c o s t s include t h e s a l a r i e s and overhead charges
f o r c e r t a i n MSGI Custom Systems Group personnel i n New
York. These overhead charges, i n c e r t a i n circumstances,
may not be reimbursable ( see item 10. on 1 1 1 - 1 7 f o r
f u r t h e r d i s c u s s i o n ) .
o Salary c h a r g e s o f $ 75,533 a r e c l a s s i f i e d as unresolved
because the timesheets do not i n d i c a t e t h e l e v e l of
e f f o r t dedicated t o AHCCCS.
( 2) Discussion
Personnel and r e l a t e d c o s t s b i l l e d by PISGI t o t a l $ 6,888,288,
o r s l i g h t l y over 40.3X of b i l l e d c o s t s . Most of t h i s amount i s
f o r s a l a r i e s ( 83.2%), with b e n e f i t s , r e c r u i t m e n t , r e l o c a t i o n , and
t r a v e l comprising the balance.
We developed a s t a t i s t i c a l sampling plan f o r the automated
p a y r o l l processed i n New York and a n o n s t a t i s t i c a l plan f o r the
manual p a y r o l l processed in Phoenix. 180 employees were s e l e c t e d
from the automated system and 20 from t h e manual system. For
t h e s e 200 employees, a comparison was a l s o made between the
a c t u a l pay r a t e s and t h e average r a t e s s p e c i f i e d in the cost
proposal f o r t h e a p p l i c a b l e p o s i t i o n s . Fringe b e n e f i t c h a r ~ e s
were t e s t e d t o bank advices f o r employment t a x payments and t o
p a y r o l l summaries. F i n a l l y , r e c r u i t m e n t , r e l o c a t i o n and t r a v e l
were t e s t e d using a judgmental sample of t h i r t y l a r g e payments i n
the following t h r e e months: August 1982, October 1982 and August
1983.
The recruitment and r e l o c a t i o n expenses c o n s i s t p r i m a r i l y of
t r a v e l , meals and lodging f o r MSGI New York personnel temporarily
working i n Phoenix t o support systems m o d i f i c a t i o n e f f o r t s and in
some cases f o r t h e i r permanent t r a n s f e r t o Phoenix. Documenta-t
i o n was g e n e r a l l y a v a i l a b l e f o r t h e s e c o s t s , hut in s e v e r a l
i n s t a n c e s it was not s u f f i c i e n t l y complete t o allow us t o reach a
f i n a l d e c i s i o n as t o t h e a p p r o p r i a t e n e s s of t h e charges. $ 5,086
i n charges a r e q u e s t i o n e d , w i t h most of t h i s r e l a t i n g t o double-b
i l l i n g s of a i r f a r e s . In a d d i t i o n , $ 15,097 in charges a r e deemed
unresolved. This amount is due t o a v a r i e t y of i t e m s , with
inadequate documentation as t o business purpose, such as $ 172 in
meals expenses f o r a Phoenix employee, $ 2,385 i n excess c o s t s due
t o unexplained needs f o r f i r s t c l a s s a i r f a r e s and $ 3,662 f o r
apartment r e n t a l s in Phoenix not approved by t h e S t a t e .
Salary charges o f $ 75,533 were incurred through intercompany
invoices f o r t h e period January 1984 through J u l y 1984 r e l a r i n g
t o the FISGI Vice P r e s i d e n t . MSG1 r e p r e s e n t a t i v e s have i n d i c a t e d
t h a t a v e r b a l agreement with DHS e x i s t e d allowing d i r e c t a l l o c a -
t i o n of the Vice P r e s i d e n t ' s s a l a r y t o t h e AHCCCS p r o j e c t f o r
t h i s period as it was assumed t h a t he would be f u l l y devoted t o
the Arizona p r o j e c t . These c o s t s were not t o be covered by the
d i r e c t c o r p o r a t e charge permitted by t h e c o n t r a c t . No w r i t t e n
evidence was a v a i l a b l e t o support t h i s arrangement o r t h a t the
i n d i v i d u a l devoted h i s f u l l time and e f f o r t t o the AHCCCS p r o j e c t
during t h i s time period. The r e l a t e d s a l a r y charges a r e
c l a s s i f i e d as unresolved because the employee d i d not i n d i c a t e on
h i s time s h e e t s a t t h e time of p r e p a r a t i o n t h a t h i s t o t a l e f f o r t s
were devoted t o AHCCCS. NSGI employees a r e required t o i n d i c a t e
on t h e i r time s h e e t s which p r o j e c t s they worked on.
2. Computer Costs
Findings
The r e s u l t s of our t e s t i n g in t h i s category d i s c l o s e d t h a t :
o $ 9,722 a r e questioned, l a r g e l y due t o an accounting
e r r o r r e s u l t i n g i n an overcharge t o t h e S t a t e f o r
intercompany charges.
o $ 326,091 of intercompany computer charges a r e
unsupported and t h e r e f o r e unresolved--$ 150,424 a r e
estimated computer usage charges p r i o r t o a system
accounting package being i n s t a l l e d i n New York and
$ 175,667 a r e f o r charges such as t a p e s , d i s k s , and p o r t s
t h a t a r e not i d e n t i f i a b l e through t h e i n s t a l l e d system
accounting packages.
o FISGI New York d a t a c e n t e r computer c o s t s f o r November
1982 through April 1983 ($ 229,886) include overhead. In
c e r t a i n s i t u a t i o n s t h i s overhead is not reimbursable.
The amount t h a t may not be reimbursable cannot be
determined a t t h i s time ( See Item 10 on page 111- 17 f o r
f u r t h e r d i s c u s s i o n ) .
o The Defense Contract Audit Agency ( DCAA) has not
f i n a l i z e d i t s a u d i t s of the McDonnell Douglas Automation
Company ( McAUTO) c o s t s f o r 1983 or 1984. The S t a t e
should v e r i f y the f i n a l b i l l i n g s f o r computer s e r v i c e s
t o t h e DCAA r a t e s once t h e a u d i t r e p o r t s a r e issued.
o $ 39,927 of o u t s i d e vendor charges a r e unsupported due t o
lack of documentation, a signed agreement o r a bid
s t a t i n g p r i c e s . These charges a r e c l a s s i f i e d as
unresolved.
o No exceptions were noted f o r EDP s u p p l i e s , maintenance
and data communications.
MSG1 did not b i l l AHCCCS f o r computer expenses during the
Implementation Period. November 1982 c o s t s were based on a
percentage of a c t u a l c o s t s without support. New York d a t a c e n t e r
c a t a l o g p r i c e s were used f o r December 1982 through April 1983.
The S t . Louis d a t a c e n t e r supported AHCCCS from April 1983 t o
flarch 1984, however, New York c a t a l o g p r i c e s were applied t o 1983
S t . Louis computer usage. In mid 1984 a c r e d i t was processed
which reduced t h e s e c o s t s .
( 2) Discussion
Total c o s t s b i l l e d by NSGI i n t h i s c o s t cateRory a r e
$ 2,207,218, or 12.9X of t h e t o t a l b i l l e d by MSGI. Of t h i s , most
of t h e b i l l e d c o s t s were f o r computer time and equipment charges
( 92.2%). EDP s u p p l i e s and maintenance comprise most of t h e
remainder.
We t e s t e d a l l invoices in t h i s category in excess of $ 10,000.
Of t h e charges s e l e c t e d , $ 1.7 m i l l i o n , o r 90X, represented
intercompany charges, and $ 201,000, or 10X, represented charges
by o t h e r vendors.
F a c i l i t y Costs
Find i n ~ s
In g e n e r a l , the r e s u l t s of the t e s t i n g of t h i s category can
be summarized as f o l l o w s :
o No s i g n i f i c a n t b i l l i n g exceptions were found i n the
t r a n s a c t i o n s t e s t e d f o r t h i s c o s t category.
o Depreciation and amortization charges g e n e r a l l y were
c a l c u l a t e d based upon the remaining term of the c o n t r a c t
a t the date of purchase, i . e . , d e p r e c i a b l e l i v e s did not
exceed 40 months. This methodology t y p i c a l l y r e s u l t e d
i n a s h o r t e r d e p r e c i a t i o n l i f e and t h e r e f o r e a l a r g e r
d e p r e c i a t i o n charge when compared t o t h e d e p r e c i a t i o n
r a t e s e s t a b l i s h e d f o r MSG1 Corporate. A l l c o s t e f f e c t s
of t h i s p o l i c y were negated, however, as a m a j o r i t y of
the a s s e t s devoted t o the AHCCCS p r o j e c t were subse-quently
purchased by the S t a t e a t n e t book v a l u e .
( 2 ) Discussion
F a c i l i t y c o s t s - - i n c l u d i n g r e n t and s e c u r i t y , telephone,
o f f i c e equipment r e n t a l and r e p a i r , and a m o r t i z a t i o n s , deprecia-t
i o n , and insurance-- amount t o $ 841,364, or 4.9X of t h e t o t a l
charges b i l l e d .
We t e s t e d charges i n t h i s category t o t a l i n g $ 372,365, or
44.3% of t o t a l charges b i l l e d , and d i s t r i b u t e d among various
s u b - c a t e g o r i e s . Accounting p o l i c i e s and p r a c t i c e s were a l s o
t e s t e d regarding a s s e t amortization and d e p r e c i a t i o n .
4. Forms and Supplies
( 1) - F indinps
The f i n d i n g s f o r t h i s category a r e :
o There were a few exceptions due t o l a c k o f adequate
documentation. These t o t a l l e s s than one percent of
t o t a l b i l l i n g s and of t h e b i l l i n g s t e s t e d .
Discussion
Forms and s u p p l i e s , including forms, general o f f i c e s u p p l i e s ,
postage and d e l i v e r y charges, t o t a l $ 1,044,537, or 6.14 of b i l l e d
charges.
Invoices t e s t e d in t h i s category amounted t o ShP, Shh, or 9.0%
of the t o t a l f o r mailing and d e l i v e r y , and $ 109,776 f o r forms and
s u p p l i e s , or 29.54 of the t o t a l f o r t h i s category.
5. Purchased S e r v i c e s
( 1 ) Findings
The following f i n d i n g s r e s u l t e d from our t e s t s i n t h i s
category :
o For n e a r l y every subcontractor arrangement, MSG1 did not
fcloSrGn P l tyo w oibt ht aCino ntthrea catd Gvaennceer awl rPi trtoevni saiopnp r4o vwalh iochf trheqeu ired
Department f o r a l l subcontracts and m o d i f i c a t i o n s .
Exhibit 111- 2 i d e n t i f i e s t h e c o s t s deemed unresolved
because o f f a i l u r e t o comply with t h i s c o n t r a c t
p r o v i s i o n ( t h e y a r e l i s t e d as unapproved unresolved
c o s t s ) . Those s u b c o n t r a c t o r s with w r i t t e n agreements
a r e i d e n t i f i e d by a s t e r i s k s .
o There a l s o were s e v e r a l i n s t a n c e s where no w r i t t e n
c o n t r a c t could be found, These charges have a l s o been
included i n o t h e r unresolved c o s t s . There is i n s u f f i -
c i e n t c r i t e r i a t o determine i f requested s e r v i c e s were
d e l i v e r e d and t h a t the r a t e s charged were as agreed.
o Three major s u b c o n t r a c t o r s b i l l e d an aggregate of
$ 38,750 in excess o f the amounts authorized in t h e i r
c o n t r a c t s with MSGI. These s u b c o n t r a c t o r b i l l i n g s a r e
questioned because of the absence of a u t h o r i z a t i o n f o r
them.
o One of the major s u b c o n t r a c t o r s included annually in-c
r e a s i n g r a t e s i n i t s subcontract t h a t were in excess of
those in i t s commitment l e t t e r included in MSGI's pro-p
o s a l . These excess amounts, which t o t a l $ 30,700, a r e
included in questioned c o s t s as t h e commitment l e t t e r
MSGI included in i t s cost proposal d i d n o t propose
a d j u s t a b l e hourly r a t e s . The subcontract agreement t h a t
AHCCCS and HCFA approved, however, did provide f o r
p e r i o d i c adjustment of t h e c o n t r a c t o r ' s labor hour
r a t e s .
o There were l e g a l expenses of $ 4,962 f o r c o r p o r a t e
s e r v i c e s t h a t were i n a p p r o p r i a t e l y b i l l e d . These
charges a r e questioned because t h e invoice s t a t e s t h ~ y
r e l a t e t o the AHCCCS-- 1ISGI l i t i g a t i o n .
o The Custom Systems Group charges included $ 5 , 0 4 8 in
questioned c o s t s due t o f i r s t c l a s s a i r f a r e s and
expenses f o r Arizona employees and $ 3,958 i n unresolved
c o s t s due t o lack of documentation.
o MSGI's unaudited a c t u a l overhead r a t e s were higher than
i t s estimated r a t e s used f o r b i l l i n g s . These a c t u a l
r a t e s may be a d j u s t e d upward or downward upon a u d i t by
the Defense Contract Audit Agency. The $ 14,703 n e t
undercharge a s s o c i a t e d with the unaudited r a t e s is
c l a s s i f i e d as unresolved.
o MSG1 Custom Systems Group b i l l i n g s from 1 2 / 8 2 through
1/ 84 include overhead. These overhead charges, in
c e r t a i n circumstances, may not be reimbursable ( see item
10. on 111- 17 f o r f u r t h e r d i s c u s s i o n ) .
o As d i r e c t e d by t h e Auditor General, our t e s t i n g of
e x t e r n a l s u b c o n t r a c t charges d i d n o t include d e t a i l
t e s t i n g of t h e i r r e s p e c t i v e b i l l i n g records o r
accounting systems.
( 2 ) Discussion
This cost c a t e g o r y , t o t a l i n g S2,699,846 of charges, is f o r
s u b c o n t r a c t u a l s e r v i c e s rendered e i t h e r by firms or i n d i v i d u a l s
o u t s i d e PISGI, or by a d i v i s i o n of MSGI. These c o s t s comprise
nearly 15.8% of t o t a l MSGI charges.
Custom Systems Services Group, which i s a s e p a r a t e o p e r a t i n g
d i v i s i o n of MSGI, performed computer systems design and imple-mentation
work. An a n a l y s i s of purchased s e r v i c e s from t h i s MSGI
d i v i s i o n , as well as e x t e r n a l c o n s u l t a n t s , is shown on Exhibit
111- 2.
We t e s t e d c o s t s t o t a l i n g $ 2,398,775, o r 88.8X of t o t a l c o s t s
b i l l e d t o the S t a t e i n t h i s category. For intercompany charges
of NSGI Custom Systems, four s i g n i f i c a n t invoices were t e s t e d ,
t o t a l i n g over $ 104,000, o r 48X of t h e intercompany b i l l i n g s . We
a l s o s e l e c t e d charges from NSGI s u b c o n t r a c t o r s t h a t b i l l e d the
l a r g e r amounts o r were paid over two or more phases of t h e AYCCCS
p r o j e c t . This t e s t work t o t a l e d $ 2,294,372, or 85% of b i l l i n g s
by s u b c o n t r a c t o r s .
The s u b c o n t r a c t s with s e v e r a l of IlSGI's major s u b c o n t r a c t o r s
did not s p e c i f y s p e c i f i c t a s k s o r d e l i v e r a b l e s and t h e s e r v i c e s
expected were g e n e r a l l y described as t e c h n i c a l s e r v i c e s or
p r o f e s s i o n a l s e r v i c e s . Their s e r v i c e s t o PlSGI included
correspondence a s s i s t a n c e , document w r i t i n g a s s i s t a n c e , county
and provider t e c h n i c a l a s s i s t a n c e and t r a i n i n g , provider
o v e r s i g h t a s s i s t a n c e , systems development a s s i s t a n c e , and AHCCCS
policy l i a i s o n a s s i s t a n c e .
EXHIBIT 111- 2
ANALYSIS OF PURCHASED SERVICES
Billed Questioned Unresolved Costs
Organization Costs Costs Unapproved Other
Custom Systems Group
( MSGI)
Milliman and Robertson
Mountain S t a t e s Comp.
Sl3C Systems
D r . Donald F. S c h a l l e r
Datatronics
Ernst & Whinney
D r . George Rowland
P r e s i d i o Group
NULIES
S t a r l e x 110,258
S h i r l e y Kera 14,322
blelody Chasen & Associates 454,066
AAAHC 113,596
Ladendorf & Ridge; 365,983
Ridge 6 Isaacson
Other-- not t e s t e d 186,864
$ 2 699 846 - 2=- d- -=
* I n d i c a t e s a w r i t t e n c o n t r a c t did e x i s t .
These subcontractor b i l l i n g s a r e supported by time, r a t e and
expense summaries which i n some cases a r e not t i e d t o s p e c i f i c
p r o j e c t s o r t a s k s performed. The s u b c o n t r a c t o r b i l l i n g s were
reviewed and approved by a p p r o p r i a t e MSG1 personnel. As pre-v
i o u s l y d i s c u s s e d , s u b c o n t r a c t o r r e c o r d s s u p p o r t i n g t h e b i l l i n g s
were not t e s t e d .
6. Travel and Other Expenses
( 1 ) Findings
Following a r e our f i n d i n g s f o r t h i s category:
o Unresolved c o s t s t o t a l e d $ 31,422 o r approximately 322 of
t h e c o s t s t e s t e d , a s i g n i f i c a n t exception r a t e .
A s u b s t a n t i a l p o r t i o n of t h e unresolved c o s t s a r e due t o
procedural and documentation exceptions. For example,
expense r e p o r t s which did not explain t h e business
purpose of the reimbursement or t r a v e l expense.
( 2 ) Discussion
The t o t a l expenses i n t h i s c o s t category r e p r e s e n t $ 381,844,
or 2.2Zof t h e t o t a l charges b i l l e d by IISGI. About 8 4 h f t h e
category i s f o r t r a v e l .
We s e l e c t e d 22 of the l a r g e s t reimbursements f o r t r a v e l and
expense r e p o r t s - - t h e y t o t a l e d $ 24,226, or 7.6% of a l l t r a v e l
c o s t s b i l l e d by MSGI. We reviewed S15,113 f o r t r a v e l and $ 8,900
f o r o t h e r expenses r e l a t e d t o t h e MSGI Vice P r e s i d e n t . We a l s o
reviewed $ 51,387 or 82.9% of t h e o t h e r expenses b i l l e d t o the
S t a t e .
7. General and Administrative and Direct Corporate
Charges
( 1) Findings
Following a r e t h e f i n d i n g s f o r t h e s e c o s t charge c a t e g o r i e s :
o The Direct Corporate charges should be based on the
proposal r a t e and not on a c t u a l s s i n c e t h e MSG1 c o s t
proposal s p e c i f i c a l l y d e s c r i b e s the methodology f o r
c a l c u l a t i n g t h e amount. Using t h i s approach, $ 123,819
i n Direct Corporate charges a r e questioned.
o Additional amounts of Direct Corporate charges might be
questioned upon d i s p o s i t i o n of o t h e r c o s t s questioned
and unresolved. No amount has been c a l c u l a t e d f o r t h e s e
p o t e n t i a l reimbursement decreases because t h e u l t i m a t e
d i s p o s i t i o n s a r e not known.
o The General and Administrative r a t e f o r open enrollment
is reduced t o 3.354 i n keeping with t h e f i x e d r a t e
i n the o r i g i n a l proposal.
( 2 ) Discussion
This category t o t a l s $ 631,018 i n c h a r g e s , o r 3.7% of t o t a l
c o s t s .
The MSG1 proposal i n d i c a t e d t h a t a Direct Corporate charge of
approximately 3X r e l a t e d t o McDonnell Douglas Corporation would
be charged on a l l c o s t s of the AHCCCS p r o j e c t c o s t c e n t e r .
Over the period under a u d i t , t h e r a t e charged increased from
3.35X t o 6.004. We b e l i e v e t h e p r e c i s e formula in t h e proposal
( c o s t s divided by .9676) should be followed throughout t h e term
of the c o n t r a c t .
8. Award Fees
Finding
Following a r e our f i n d i n g s f o r t h i s category:
o Total award f e e s b i l l e d t o DHS by MSG1 f o r Implernenta-t
i o n , Operational Years One and Two and Termination a r e
$ 270,702. Award f e e s of $ 62,597 a r e b i l l a b l e t o DHS,
based upon t h e c o n t r a c t p r o v i s i o n s .
o The remaining award f e e s ($ 208,105) a r e c l a s s i f i e d as
questioned because the p a r t i e s did not agree t o c r i t e r i a
under which they were t o be earned and because they a r e
s u b j e c t t o p o s s i b l e reduction by c o s t s i n excess o f
b a s e l i n e .
( 2 ) Discussion
The c o n t r a c t between S t a t e AHCCCS and MSG1 provides f o r
$ 270,702 of award f e e s . T h i r t y percent ( 30%) of t h e award f e e ,
o r S81,211, was fixed and payable r a t a b l y over the term of the
c o n t r a c t . The remaining seventy percent ( 70X), o r $ 1 89,491 , of
t h e award f e e was t o be payable upon s a t i s f a c t o r y performance in
accordance with procedures t o be n e g o t i a t e d by the p a r t i e s t o the
c o n t r a c t . Furthermore, t h e 7 0 Q o r t i o n of t h e award f e e was sub-j
e c t t o reduction by c o s t s i n excess of 110X of t h e p r o r a t a
b a s e l i n e c o s t s f o r any o p e r a t i o n a l year t h a t were not already
absorbed through reduction of t h e i n c e n t i v e f e e s provided by the
c o n t r a c t .
Review of t h e c o n t r a c t , interviews with r e p r e s e n t a t i v e s of
DHS and MSGI, and review of the various t r a n s m i t t a l s between DHS
and MSGI i n d i c a t e d t h a t no s p e c i f i e d c r i t e r i a were ever a ~ r e e d
upon f o r t h e 70X p o r t i o n of the award f e e .
The following summary presents a comparison of total award
fees billed by MSG1 to total award fees calculated based upon the
parameters established in the contract as described above:
Contract Phase
Implementation
Operational Year One
Operational Year Two
Termination
Award Calculated Unresolved
Fees Award Award
Rilled Fees Fees Billed
9. Incentive Fees
( 1) Findings
Rased on the contractual provisions and data and information
collected in various phases of the performance audit, the
following findings resulted:
o Of the $ 2,121,759 billed the State for incentive fees,
$ 1,862,205, or 87.82, are deemed questioned or
unresolved.
o An amount of incentive fees of $ 52,052 claimed by IISGI
in the Implementation Period and not paid by the State
relates to an objective for which the documentation was
inconclusive as to whether it was properly earned. We
have categorized this amount as unresolved.
a. Comprised solely of the monthly amount for the fixed award
fee not subject to reduction by costs in excess of baseline.
o An amount of $ 65,904 of i n c e n t i v e f e e s f o r t h e
Implementation Period r e p r e s e n t s a double b i l l i n g of the
amount disallowed by the S t a t e , plus an adjustment o f
t h e i n c e n t i v e f e e b i l l i n g t o an amount equal t o 144 of
t o t a l d i r e c t c o s t s f o r the Implementation Period. This
amount is c l a s s i f i e d as questioned c o s t s .
o I n s u f f i c i e n t documentation e x i s t s t o determine whether
t h e $ 75,000 open enrollment i n c e n t i v e s were earned.
These charges have been c l a s s i f i e d as unresolved.
o The remainder of the i n c e n t i v e f e e s ($ 1,669,249) claimed
were considered as questioned because: 1) no c r i t e r i a
were n e g o t i a t e d and agreed t o f o r e v a l u a t i o n of p e r f o r -
mance, 2) MSGI has b i l l e d i n c e n t i v e f e e amounts i n
excess o f the amounts provided by t h e c o n t r a c t and
m o d i f i c a t i o n s , 3) MSG1 has b i l l e d i n c e n t i v e f e e s on
termination c o s t s which a r e not s u b j e c t t o i n c e n t i v e
f e e s , and 4) t h e amount of i n c e n t i v e f e e s t o be reduced
by c o s t s i n excess of b a s e l i n e l i m i t a t i o n s cannot be
determined u n t i l o t h e r i s s u e s a r e f i n a l i z e d .
( 2 ) Discussion
The c o n t r a c t between MSGI and t h e S t a t e provided f o r
$ 1 ,299,536 of i n c e n t i v e payments t o be made t o MSG1 for achieving
" s u p e r i o r performance" o b j e c t i v e s . These o b j e c t i v e s were t o be
n e g o t i a t e d by September 15th f o r each ensuing Operational Year.
The o b j e c t i v e s f o r the Implementation Period were agreed upon a t
the time of t h e c o n t r a c t s i g n i n g .
F o r t y p e r c e n t of the i n c e n t i v e amount was a l l o c a t e d t o the
Implementation Period and the remaining s i x t y percent was t o be
r a t a b l y s p l i t between t h e t h r e e o p e r a t i o n a l y e a r s . The annual
i n c e n t i v e f e e was s u b j e c t t o d o l l a r f o r d o l l a r o f f s e t by c o s t s
incurred in t h a t year i n excess of 110% of t h e y e a r ' s b a s e l i n e .
I n a d d i t i o n t o the above i n c e n t i v e pool, Flodification # 2
added S75,000 t o the i n c e n t i v e fee pool f o r open enrollment and
s t a t e d t h a t t h e s e f e e s were not s u b j e c t t o t h e o f f s e t p r o v i s i o n s .
These i n c e n t i v e s r e l a t e d t o s i x s p e c i f i e d milestones at S12,500
f o r each milestone achieved. Documentation f o r determining
earning of t h e s e i n c e n t i v e s was not a v a i l a b l e .
blodification / I1 did n o t i n c r e a s e the i n c e n t i v e f e e pool and
none of t h e documentation on proposed llod i f i c a t i o n / I3 included
d i s c u s s i o n of an i n c r e a s e i n t h e i n c e n t i v e f e e pool.
Special Provision 15 of the c o n t r a c t provides t h a t t h e
c o n t r a c t o r w i l l be reimbursed i t s reasonable a c t u a l c o s t s in
termination of the c o n t r a c t by the Department. The c o n t r a c t o r
has b i l l e d i n c e n t i v e fees on t h e s e termination c o s t s . The
c o n t r a c t is s i l e n t as t o the a p p l i c a b i l i t y of f e e s on termination
c o s t s as well as reimbursement of c o s t s incurred in t h e event of
c o n t r a c t o r termination of the c o n t r a c t .
MSGI Overhead
Finding
Following i s our f i n d i n g in t h i s category of c o s t s :
o The amount of p o t e n t i a l l y non- reimbursable FISGI over-heads
cannot be determined a t t h i s time because the
c a l c u l a t i o n s a r e dependent upon r e s o l u t i o n of such
i s s u e s as questioned and unresolved c o s t s , c o n t r a c t
modification a u t h o r i t y and o t h e r c o n t r a c t i n t e r p r e t a t i o n
m a t t e r s .
( 2 ) Discussion
MSGI proposed t h a t the AHCCCS p r o j e c t would be e s t a b l i s h e d a s
a s e p a r a t e c o s t c e n t e r . Consequently a l l c o s t s charged t o t h a t
c o s t c e n t e r would be d i r e c t c o s t s t o t h e c o n t r a c t . The c o n t r a c t
appears t o r e s t r i c t the reimbursement of o t h e r NSGI u n i t over-head
when annual o p e r a t i o n a l year c o s t s exceed 100% of b a s e l i n e .
Approximately $ 300,000 of MSGI overhead is included in MSGI's
Operational Year One and Two Purchased Service and Computer
Charges billings. This overhead is for MSGI Custom Systems Group
billings from 12/ 82 through 1/ 84 and MSG1 New York data center
charges from 11/ 82 through 4/ 83.
Additionally, the MSGI Custom Systems Group personnel were
billed as Personnel and Related Costs during 6/ 82 through 11/ 82,
which includes both the Implementation Period and Operational
Year One. Approximately $ 150,000 of such MSGI overhead included
in the Operational Year One billings may be non- reimbursable.
1 1 . Excess Contractor Costs
( 1) Finding
Following is our finding in this category of costs:
o The amount of potentially non- reimbursable costs result-ing
from exceeding the contractual baseline cost cannot
be determined at this time.
( 2) Discussion
Special Provision 3.4( a) of the contract provides that: " The
contractor shall be reimbursed its additional costs up to a total
contract cost equal to one hundred twenty five percent ( 1254) of
the yearly baseline costs; provided, however, that the only costs
reimbursed in excess of the baseline costs shall be contractor's
direct costs, without addition of overhead, profit or margin of
any kind."
As more fully described in Section C following, this issue is
strongly contested between the parties in litigation. We have
made no estimate of the effect, if any, of this contract clause
because the calculation is dependent on resolution of the
questioned and unresolved costs, contract modification authority
and other statutory and contract language issues.
C. Cost Reimbursement Limitations
Based upon our review the contract in question is considered
to be a cost reimbursement rather than fixed price contract.
Cost reimbursement type contracts are used when the materials or
services required are unique or include sufficient uncertainties;
that it is unlikely that an adequate number of qualified bids
will be received; or the prices proposed will be substantially
higher to cover the risks associated with contractor performance.
The support for this contract being cost reimbursement is
embodied in the contract and the RFP. Special Provision 5 of the
contract states, " The parties recognize that the agreement
embodied in the Request for Proposals and the Contractors Cost
and Technical Proposals is necessarily vague as to specific tasks
to be undertaken during each phase of the project." The RFP
states:
o " The Administrator will have responsibility under the
supervision of the Director of Health Services for the
application and administration of the rules and regula-tions
in implementing the AHCCCS. The Administrator
will be responsible for a wide variety of duties,
including but not necessarily limited to . . . It
o " The specific scope of activities under these categories
of performance is and will continue to be subject to
development and/ or change during the period of perform-ance
under this contract."
o " The State, in selecting the Administrator, will assess
the proposer's understanding and willingness to modify
or develop alternatives, as well as his capability to
respond to new conceptual demands."
o " The Administrator w i l l be the a r c h i t e c t of many
p o r t i o n s of the program . . ."
o " A c o s t reimbursement type c o n t r a c t . . . with
n e g o t i a t e d i n c e n t i v e payments is a n t i c i p a t e d due t o the
- u n c e r t a i n t y of scope of work
- f l e x i b i l i t y required t o a l t e r work d i r e c t i o n
- responsiveness required t o meet changing needs"
The RFP I n t r o d u c t i o n a l s o provides an i n d i c a t i o n of the
p o s s i b l e scope, a u t h o r i t y and f l e x i b i l i t y expected which s t a t e s :
o " The purpose of t h i s procurement a c t i o n is t o s e l e c t an
Administrator who w i l l have r e s p o n s i b i l i t i e s f o r
a s s i s t i n g the Arizona Department of Health Services i n
the d e s i g n , and implementation of t h i s p r o j e c t and who
w i l l then have f u l l o p e r a t i o n a l r e s p o n s i b l i t y f o r
AHCCCS, s u b j e c t t o supervision by the D i r e c t o r of the
Arizona Department of Health S e r v i c e s . "
o " The Arizona Health Care Cost Containment System was
e s t a b l i s h e d by the T h i r t y - F i f t h Arizona L e g i s l a t u r e t o
provide an innovative h e a l t h d e l i v e r y system."
Under the terms and c o n d i t i o n s of t h i s c o n t r a c t , " The Con-t
r a c t o r s h a l l be paid i t s c o s t f o r work performed, on t h e b a s i s
presented in i t s Cost Proposal, s u b j e c t t o adjustment . . . I!
These adjustments a r e penalty f e a t u r e s involving r e d u c t i o n s of
i n c e n t i v e and award f e e s and r e s t r i c t i o n s on c o n t r a c t o r overhead.
These f e a t u r e s were intended as a c o n t r a c t o r i n c e n t i v e toward
c o s t containment.
While reimbursement is l i m i t e d by t h e s e p e n a l t i e s and u l t i -
mately by the t o t a l c o n t r a c t v a l u e , u n l i k e a f i x e d p r i c e arrange-ment,
under a c o s t reimbursement c o n t r a c t a c o n t r a c t o r is
e n t i t l e d t o i t s a l l o w a b l e i n c u r r e d c o s t s even though a l l of t h e
s p e c i t i e d t a s k s may not be achieved.
Although the authorized expenditure limit or cost limitation
is usually the stated amount of the contract, this amount may be
increased by certain actions of the contracting parties. One
such action may occur when an authorized representative of the
contracting party requests new work beyond that envisioned in the
original contract. Usually the contractor is entitled to reim-bursement
for costs incurred in the pursuit of new work if the
work has been authorized by a responsible official of the
contracting agency. Conversely, the authorized expenditure limit
could be reduced for the cost of work the contractor is relieved
of performing. Such additions or reductions are usually
formalized in written modiiications to the contract.
Without consideration of the special conditions we have
described, by which authorized expenditures or cost limitations
may be increased or decreased, this contract provided that the
contractor could be reimbursed for up to 125% of what was
referred to as baseline costs. However, the application of the
term baseline costs and many other aspects of the cost limitation
provision are subj ect to many interpretations.
Our examination of the cost limitation provisions of the
contract identified, through our analysis, discussions with
representatives of the Attorney General's Office and NSGI
representatives, the following major contentious and as yet unre-solved
issues regarding the interpretation of the cost limitation
provision.
1) A question exists as to whether the contract value is
limited based on aggregate contract value, annual
baselines or some other variation thereof.
2) The authority of State officials to obligate the State
for work performed which was not contemplated by the
initial contract.
3) The contract is silent on the issue of baseline
calculation in the event of contract termination, such
as has occurred.
These very significant issues are all " key" factors relative
to determining cost limitations under the contract and thus must
be definitively resolved to arrive at a final determination of
allowable contract costs. The scope of our examination did not
contemplate our pursuit of these issues beyond their identifica-tion.
Additionally it was recognized that final resolution of
these issues was beyond the scope of a financial audit.
The significance of the cost limitation issues and the mag-nitude
of the issues and amounts involved in the resolution of
determination of cost limitations warranted further exploration
and discussion. We determined that presentation of an example of
the type of computation which would be required to be made would
provide an appropriate vehicle for such discussion. For purposes
of the example we applied to the resolution of outstanding
issues, where practicable, our judgment as to how such areas
would be treated under Federal contracting practices. Estimates
oi the amounts involved were based upon documentation which has
been made available to our staff which in some respects is not
adequate tor definitive computation. While we recognize that
Federal procurement practices may not directly apply to these
circumstances they nevertheless are expected to provide a source
of guidance which may assist in the final resolution of the
issues.
Based upon our reading of the contract there are five major
components which enter into a determination of baseline costs and
the contract's cost limitations. The following discussion des-cribes
each of the components and the approach we have taken to
their recognition in the example. The discussion is followed by
an example ( Exhibit 111- 3) of the computation which would be made
at such time as a l l c u r r e n t l y unresolved i s s u e s a r e concluded.
1 . O r i g i n a l Contract
The amount of the o r i g i n a l c o n t r a c t is the f i r s t component of
c o n t r a c t value and b a s e l i n e c o s t d e t e r m i n a t i o n . The amount
included i n t h e example computation f o r t h e o r i g i n a l c o n t r a c t i s
t h a t which appears in the signed c o n t r a c t . However, t h e t o t a l
c o n t r a c t value of $ 11,404,638 is not i n agreement with t h e sum of
b a s e l i n e c o s t plus i n c e n t i v e and award f e e a s shown i n the t e x t
of the c o n t r a c t , by $ 552,000.
2. - Mo difications # I and / I2
Whether the amount of t h e s e signed modifications should be
included i n the determination of c o n t r a c t value and b a s e l i n e
c o s t s is i n d i s p u t e . While it has been contended t h a t they may
not be r e c o g n i z a b l e , we have assumed f o r purposes o f the example
t h a t they a r e includable on t h e b a s i s t h a t they a r e represented
by f u l l y executed agreements.
3. Extension o f Plodification fll
Consideration of including i n the computation an amount rep-r
e s e n t a t i v e of Modification // I work performed i n Year Two
involves two c o n s i d e r a t i o n s . F i r s t the work was not covered by
an executed agreement. Secondly, t h e c o n t r a c t o r did not maintain
c o s t records s u f i i c i e n t t o i d e n t i f y c o s t s r e l a t e d t o t h i s work.
While t h e r e is o p p o s i t i o n t o allowing c o n s i d e r a t i o n of t h e s e
c o s t s , under Federal procurement p r a c t i c e s such c o s t s may be
includable t o t h e extent they r e p r e s e n t e f f o r t s t h a t were
explicitly or constructively authorized by a responsible official
of the contracting agency and are on- going requirements of the
system the contractor was to operate. Accordingly, for purposes
of this example we have estimated the amounts involved and
included them in the computation. This estimate could not be
subjected to audit verification and is based on an analysis of
the amounts agreed upon in the executed agreement for Operational
Year One.
4. Proposed Modification / I3
The issues involved in the inclusion of amounts related to
work performed in connection with proposed Modification 83 are
similar to those involved in the extension of Modification # 1 to
Year Two. Accordingly, for the same reasons cited in the case of
the extension of Modification / I1 we have assumed that such costs
are includable in the contract value and baseline costs. The
estimates were based upon a review of available documents which
were not sufficiently supported to permit audit verification.
Neither costs related to Year One or Two were covered by a
signed modification agreement, although negotiations for Year One
were being conducted at the time of termination.
5. Contract Cost Limitation Factors
Special Provision 3.4 of the contract provides the technique
for determining total contract value and baseline costs as well
as for allocation of fee and overhead reduction to costs. A
detailed calculation is only possible after determination of the
unresolved issues discussed in items 2- 4 above.
The contract provides for the increasing of the baseline
costs by 25% to arrive at the cost reimbursement limitations.
This 25% increase, however, virtually eliminates the incentive
and award fees provided in the contract.
Exhibit 111- 3 only demonstrates the potential impact on
contract monies to pay contractor costs. It does not address the
annual cost containment features of the contract-- annual opera-tional
year baseline calculations for reducing incentive and
award fees and flSGI overhead. These reduction calculations also
cannot be made until the amounts for items 2- 4 above, if any, are
established.
The presentation in Exhibit 111- 3 is provided for example and
demonstration purposes only and is not intended to represent our
expectations of the final outcome of the pending unresolved
issues, since the scope of our work did not:
o Permit a definitive determination or audit of amounts
incurred by MSG1 and estimated herein, related to
Modification / I1 costs incurred in Year Two and the
proposed Plodification t3 costs.
o Include determination of amounts by which cost
reimbursements could be reduced for work the contractor
may have been relieved of performing.
o Include a comprehensive investigation of the records and
actions of the parties for purposes of determining
whether or not new work was properly authorized.
Resolution of Outstanding Issues
In addition to the uncertainties surrounding the previously
discussed factors, resolution of the following additional factors
may result in further adjustment of the cost reimbursement. The
EXHIBIT 111- 3
AHCCCS
EXAMPLE COMPUTATION COST REIMBURSEMENT LIMITATION
( i n thousands)
Unassigned Total
Baseline Award Incentive Contract Contract
Costs Fee Fee Value Value
1. Original Contract $ 9,282 $ 1,300 $ 271 $ 552 $ 1 1,405
2. Modifications // I
and / I2
Modification / I1 2,049 2,049
Modification / I2
Totals 11,959 1,300 346 552 14,157
3. Extension of
Modification / I1 i n
Year TWO 1, loo( a)
4. Proposed Modifica-t
i o n / I3, including
$ 300,000 extension
i n Year Two 1,800
( a ) - - 1,800
( a) Would be limited t o amounts incurred.
( b) Not increased for i n f l a t i o n adjustment provision of the c o n t r a c t .
following s t e p s should be addressed t o r e s o l v e t h e i s s u e s
discussed above:
1 ) Pursue the f i n a l r e s o l u t i o n of questioned and unresolved
c o s t s a s i d e n t i f i e d i n Exhibit 111- 1 and discussed
throughout Section 111.
2) Assess t h e a c c e p t a b i l i t y of the e x t e n t and scope of
t e s t i n g performed h e r e i n and elsewhere by S t a t e
r e p r e s e n t a t i v e s and where deemed necessary extend
t e s t i n g .
3 ) Seek a r e s o l u t i o n of those c o s t l i m i t a t i o n i s s u e s
r e l a t e d t o ( i ) annual vs. aggregate b a s e l i n e c o s t
l i m i t a t i o n s ; ( i i ) a l l o c a t i o n of c o s t l i m i t a t i o n s t o
mid- year t e r m i n a t i o n s ; and, ( i i i ) the a b i l i t y of S t a t e
r e p r e s e n t a t i v e s t o o r a l l y o b l i g a t e t h e S t a t e f o r c o s t s
not contemplated i n c o n t r a c t s .
4 ) Following t h e r e s o l u t i o n of i s s u e s i n ( 1 ) and ( 3) above,
consider the n e c e s s i t y t o perform a d d i t i o n a l a u d i t t e s t s
r e l a t i v e t o ( i ) a l l o c a t i o n of annual c o s t s ; ( i i ) d e t e r -
mination of a c t u a l second year c o s t s on Plodification 81
and c o s t s of Modification # 3 ; and, ( i i i ) c o s t s a s s o c i -
a t e d w i t h t a s k s t h e c o n t r a c t o r was r e l i e v e d of
performing, i f any.
5) C a l c u l a t e c o s t l i m i t a t i o n s and compare t o accepted c o s t s
t o i d e n t i f y any need f o r f u r t h e r c o s t reimbursement
adjustments.
EXHIBIT 111- 4
Page 1 of 2
KEY TERNS AND CONCEPTUAL DEFINITIONS RELATING TO
GOVERNMENTAL CONTRACT COST ACCOUNTING
The conduct of t h e a u d i t of t h e c o s t s b i l l e d r e q u i r e s a
thorough understanding o f c o s t p r i n c i p l e s , o r customary conven-t
i o n s f o r c l a s s i f y i n g , recording, a l l o c a t i n g and r e p o r t i n g c o s t s
of i n d i v i d u a l c o s t o b j e c t i v e s and c o n t r a c t s by Federal government
c o n t r a c t o r s .
Following a r e a few key terms and d e f i n i t i o n s important t o
understanding t h e context i n which c o n t r a c t c o s t a u d i t i n g is
performed.
Direct and I n d i r e c t Costs
Direct c o s t s a r e c o s t s i d e n t i f i a b l e with a s p e c i f i c f i n a l
c o s t o b j e c t i v e , e . g . , a c o n t r a c t , whereas i n d i r e c t c o s t s a r e
incurred f o r more than one cost o b j e c t i v e . Direct c o s t s of
i n s i g n i f i c a n t amounts may be t r e a t e d as i n d i r e c t c o s t s f o r
a d m i n i s t r a t i v e convenience. Consistent a p p l i c a t i o n of c r i t e r i a
f o r i d e n t i f y i n g c o s t s a s e i t h e r d i r e c t or i n d i r e c t is e s s e n t i a l .
Once a c o s t is i d e n t i f i e d as a d i r e c t c o s t t o a p a r t i c u l a r
c o n t r a c t , t h e same type of c o s t , incurred i n s i m i l a r circum-s
t a n c e s , may not be included in any i n d i r e c t expense pool
a l l o c a t e d t o t h a t c o n t r a c t or any o t h e r c o n t r a c t .
There is no prescribed manner in which c o s t s should be
accounted f o r as d i r e c t c o s t s and which a s i n d i r e c t c o s t s . The
c r i t e r i a f o r charging c o s t s as d i r e c t o r i n d i r e c t a r e based on an
a n a l y s i s of a c o n t r a c t o r ' s o r g a n i z a t i o n , businesses and con-t
r a c t s . I n d i r e c t c o s t s should be accumulated i n t o l o g i c a l c o s t
EXHIBIT 111- 4
Page 2 of 2
groupings t o permit d i s t r i b u t i o n of expenses i n r e l a t i o n t o
b e n e f i t s received by c o s t o b j e c t i v e s ( departments, c o n t r a c t s ,
etc.) .
Questioned Costs
Questioned c o s t s a r e c o s t s which a r e i d e n t i f i e d by t h e
a u d i t o r as not allowable because a) they a r e not i n conformance
with s p e c i f i c s e c t i o n s o r l i m i t a t i o n s of a p p l i c a b l e procurement
s t a t u t e s and r e g u l a t i o n s o r t h e p r o v i s i o n s of t h e c o n t r a c t s
between the p a r t i e s , b) they a r e unreasonable in t h a t a prudent
businessman would not incur such c o s t s t o achieve the r e q u i r e -
ments or o b j e c t i v e s of the c o n t r a c t between the p a r t i e s , and c)
the c o s t s a r e not a l l o c a b l e t o t h e c o n t r a c t , i . e . , they a r e not
r e l a t e d , d i r e c t l y o r i n d i r e c t l y , t o the accomplishment of t h e
requirements o r o b j e c t i v e s of the c o n t r a c t .
Unresolved Costs
Unresolved c o s t s a r e a) c o s t s f o r which s u f f i c i e n t informa-t
i o n and documentation is not a v a i l a b l e t o make a determination
as t o whether t h e c o s t is a c c e p t a b l e or q u e s t i o n a b l e and b) c o s t s
which a r e g e n e r a l l y a c c e p t a b l e except f o r t e c h n i c a l o r procedural
e r r o r s .
These c o s t s u s u a l l y have many c h a r a c t e r i s t i c s of a c c e p t a b i l -
i t y b u t , they a r e not s u f f i c i e n t l y documented t h a t they a r e
c l e a r l y a c c e p t a b l e . Frequently t h e c o n t r a c t u a l p a r t i e s with
a u t h o r i t y t o make, accept c o n t r a c t payments and s e t t l e m e n t s
n e g o t i a t e t h e s e c o s t s .
IV. PERFORMANCE FINDINGS
Our performance f i n d i n g s a r e presented in t h e form o f o u r
Pre- Audit Survey i s s u e s . They a r e divided between: Section A ,
which focuses on t h e a c t i o n s of S t a t e AHCCCS and Section R , which
p r i m a r i l y focuses on MSGI. Comments regarding both a r e made a t
times when a s u b j e c t involved both p a r t i e s e x t e n s i v e l y . Section
I11 provides summary comments regarding t h e c o n t r a c t u a l b a s i s of
t h e agreement with MSGI and t h e i m p l i c a t i o n s f o r t h e amounts
claimed by PISGI f o r i t s Administrator s e r v i c e s .
A . Performance of DHS and S t a t e AHCCCS Division i n Contract
bloni t o r inx
1 . O v e r a l l F a c t o r s A f f e c t i n g t h e Conduct of t h e
Program's Administration
While not an e x p l i c i t i s s u e i n v e s t i g a t e d in our work, we
i d e n t i f i e d t h r e e o v e r a l l f a c t o r s which s i g n i f i c a n t l y influenced
t h e a d m i n i s t r a t i o n of t h e AHCCCS program. These a r e discussed
below.
( 1 ) Findings
Two a s p e c t s of the e n a b l i n ~ l e g i s l a t i o n r e s u l t e d in
d i f f i c u l t i e s in program implementation: 1 ) t h e s i z e of t h e pro-gram
i n l i g h t of i t s numerous u n t e s t e d f e a t u r e s , and 2) t h e s h o r t
timeframe between passage of the law and program s t a r t u p .
F u r t h e r , t h e AHCCCS program was i n i t i a t e d i n an environment which
did not have i n s t i t u t i o n s o r personnel f a m i l i a r with pre- paid
h e a l t h plans or l l e d i c a i d .
( 2 ) Discussion
Our a u d i t work did not include e x t e n s i v e r e s e a r c h i n t o t h e
o r i g i n and development of the AHCCCS s t a t u t e s . However we did
i d e n t i f y a r e a s where t h e enabling l e g i s l a t i o n r e s u l t e d i n
s i g n i f i c a n t o p e r a t i o n a l problems. In p r e s e n t i n g t h i s information
we do not purport t o render judgments about t h e o v e r a l l value of
t h e AHCCCS program, but r a t h e r t o provide i n s i g h t s i n t o the
f a c t o r s which s i g n i f i c a n t l y influenced t h e program's administra-t
i o n during t h e period June 1982 through March 1984.
With r e s p e c t t o the s i z e and timinq of t h e AHCCCS program,
our d i s c u s s i o n s with HCFA, MSG1 and S t a t e AHCCCS o f f i c i a l s a l l
i n d i c a t e t h a t the magnitude of t h e AHCCCS experiment, e s p e c i a l l y
when combined with the s h o r t timeframe allowed f o r program
s t a r t u p , v i r t u a l l y assured t h a t s i g n i f i c a n t o p e r a t i o n a l problems
would be experienced. Some of the c o n s i d e r a t i o n s which lead t o
t h i s conclusion a r e :
o Most of the provider plans did not e x i s t a t the time the
l e g i s l a t i o n passed, and t h e plans themselves were q u i t e
d i v e r s e , e . ~ . , county- based, f o r p r o f i t , e t c .
o Unlike many o t h e r demonstration p r o j e c t s ( even o t h e r
H110- based experiments elsewhere i n t h e c o u n t r y ) , AHCCCS
was i n s t i t u t e d on a v e r y l a r g e s c a l e . The s u b j e c t of
t h e experiment-- health care-- made it extremely s e n s i t i v e
s i n c e it d e a l t with p e o p l e ' s fundamental well being.
Under t h e s e c o n d i t i o n s t h e program could not be stopped
t o c o r r e c t o p e r a t i o n a l problems, nor s i g n i f i c a n t l y
changed without r i s k i n g d i s r u p t i o n t o t h e complex chain
of p a r t i c i p a n t s , providers and governmental u n i t s
involved in the program.
o In the same v e i n , t h e AHCCCS program was i n t e n t i o n a l l y
designed t o t e s t new approaches t o l l e d i c a i d . It was
t h e r e f o r e necessary t o make a number of assumptions
about how the program would work, not a l l of which
obviously could be a c c u r a t e . When c e r t a i n assumptions
were proven wrong ( e . ~ . , w o r k a b i l i t y of co- payment
premiums, number of f e e - f o r - s e r v i c e c l a i m s , and competi-t
i v e n e s s of i n i t i a l provider bids) t h e l a r g e s c a l e of
t h e program put t h e S t a t e a t c o n s i d e r a b l e f i n a n c i a l
r i s k . T h i s f o r c e d t h e need t o h u r r i e d l y change t h e
p o l i c i e s and procedures o f the program, with obvious
consequences f o r the smoothness of implementation and
ongoing o p e r a t i o n s .
o The AHCCCS l e g i s l a t i o n allowed only 10.5 months between
enactment and program s t a r t u p . A s a p o i n t of compari-son,
in 1984 HCFA developed a recommended t i m e t a b l e f o r
f i s c a l intermediary1MMIS procurements f o r ongoing
Medicaid programs. As can be seen i n Exhibit I V - 1 , t h i s
t i m e t a b l e has s u b s t a n t i a l l y longer periods of time f o r
t h e Administrator procurement process and f o r EDP system
development than was a v a i l a b l e f o r AHCCCS.
2. Adequacy of Contract Provisions and Contract
Execution
This a r e a of our performance a u d i t centered on these i s s u e s :
a) reviewing the c o n t r a c t documents f o r adequacy of p r e p a r a t i o n
( e s p e c i a l l y with r e s p e c t t o g o a l s , d e l i v e r a b l e s and o t h e r
measures) and comparing t h e AHCCCS c o n t r a c t documents t o o t h e r
s t a t e s , and b) a s s e s s i n g the subsequent c o n t r a c t modification
e f f o r t s which were made.
a. Review of Contract Documents and Comparison t o-
Other S t a t e s
The AHCCCS c o n t r a c t with MSGI included t h e Request f o r
Proposals ( RFP) f o r an Administrator, t h e Cost and Technical
Proposals of MSGI, t h e c o n t r a c t , and c e r t a i n correspondence
exchanged during c o n t r a c t n e g o t i a t i o n s . We a l s o reviewed tape
recordings and t r a n s c r i p t s of t h e n e g o t i a t i o n s e s s i o n s .
EXHIBIT IV- 1
OF 1984 HCFA GUIDELINES TO AHCCCS TIMETABLE
Event HCFA Recommendation Actual AHCCCS Timine
RFP Preparation 2 t o 3 months 2 months
Proposal Up t o 90 days, but no 32 days
Submission Date l e s s than 60 days a f t e r
RFP release date
Evaluation of 60 days
Proposals
Contract Award 6 months a f t e r RFP
Date ( Signing) r e l e a s e d a t e
48 days
5 months a f t e r
release date
I n s t a l l a t i o n 180 days a f t e r contract 57 days, despite
Period award. More time i f major new systems
major sys tem changes design requirements
are being implemented.
Operational 1 year a f t e r RFP
Date release date
7 months a f t e r
RFP release date
( 1 ) Findings
The - RFP was d e f i c i e n t by t a k i n g a c o s t reimbursement approach
f o r a l l work t o be performed, and it f a i l e d t o provide or r e q u i r e
i d e n t i f i c a t i o n of assumptions with r e s p e c t t o a n t i c i p a t e d work-load
and a s s o c i a t e d l e v e l s of e f f o r t .
MSGI's proposal was vague i n many r e s p e c t s and assumed a
minimal number of s t a f f required t o perform as t h e Administrator.
The proposal e v a l u a t o r s of the S t a t e did n o t c o n s i d e r t h e
c o s t p e r l a b o r u n i t provided when considering the c o s t s proposed
by MSG1 and the o t h e r firms bidding.
The c o n t r a c t documents c o n s i s t e n t l y f a i l e d t o d e f i n e and
s p e c i f y t h e c o n t r a c t u a l requirements o f t h e Administrator. The
i n c e n t i v e payment device was overburdened by t r y i n g t o serve too
many o b j e c t i v e s , such as cost containment and reward f o r s u p e r i o r
performance. The S t a t e f e l l i n t o the posture of saying it needed
s u b s t a n t i a l f l e x i b i l i t y f o r change while never having firmly
e s t a b l i s h e d a base s e t of t a s k s and a s s o c i a t e d resource l e v e l s
from which s h i f t s could be measured. A trend was e s t a b l i s h e d of
r o l l i n g forward the time a t which agreements would be made on t h e
complex i s s u e s of d e f i n i t i v e t a s k s , d e l i v e r a b l e s , d e a d l i n e s and
r e s o u r c e s , and performance m e a s u r e s l i n c e n t i v e s . T h i s t r e n d would
c o n t i n u e d u r i n g the o p e r a t i o n a l phase of t h e program.
The f a i l u r e t o d e f i n e s p e c i f i c t a s k s w i t h a s s o c i a t e d l e v e l s
of e f f o r t l e f t the S t a t e w i t h o u t adequate benchmarks a g a i n s t
which t o measure c o n t r a c t o r c o s t performance. Use of a s o l e l y
c o s t reimbursement approach exposed t h e S t a t e t o s i g n i f i c a n t cost
i n c r e a s e s a s s p e c i f i c t a s k s and program requirements were
g r a d u a l l y formed.
( 2) Discussion
- RFP
The RFP was developed i n l a r g e p a r t over a t h r e e week period
i n mid- January 1982. Because of t h e lengthy time requirements
f o r each of the s t e p s i n procuring an Administrator ( i . e . , RFP
i s s u a n c e , question and answer s e s s i o n s , p r e p a r a t i o n of p r o p o s a l s ,
e v a l u a t i o n and s e l e c t i o n , c o n t r a c t n e g o t i a t i o n , Arizona Attorney
General and HCFA review and f i n a l l y award), t h e r e was a p r e s s i n g
need t o i n i t i a t e the p r o c e s s q u i c k l y . The firm of Compass
Consulting Group was given a small c o n t r a c t t o a s s i s t t h e S t a t e
s t a f f t o d r a f t an RFP.
During t h i s time t h e r e was a g e n e r a l agreement t h a t t h e
AHCCCS program was c h a r t i n g a new course f o r which t h e r e were few
precedents. AHCCCS was e s t a b l i s h e d as an experiment. F u r t h e r ,
l e g i s l a t i o n adding the important enrollment function t o t h e
A d m i n i s t r a t o r ' s d u t i e s was passed a f t e r the bidders had responded
t o the RFP. In a d d i t i o n , t h e r u l e s and r e g u l a t i o n s of the pro-gram
had s i g n i f i c a n t i m p l i c a t i o n s f o r program execution. They
were q u i t e voluminous and s u b j e c t t o an e x t e n s i v e p u b l i c hearings
process. They would not be i n i t i a l l y issued u n t i l a f t e r t h e
A d m i n i s t r a t o r ' s c o n t r a c t had been signed.
In l i g h t of the above, a f t e r broadly d i s c u s s i n g t h e
A d m i n i s t r a t o r ' s d u t i e s , t h e RFP s t a t e d t h i s guidance:
o " The s p e c i f i c scope o f a c t i v i t i e s under t h e s e c a t e g o r i e s
of performance is and w i l l continue t o be s u b j e c t t o
development and/ or change during t h e p e r i o d o f
performance under t h i s c o n t r a c t . ' '
o " The S t a t e , i n s e l e c t i n g t h e Administrator, w i l l a s s e s s
the p r o p o s e r ' s understanding and w i l l i n g n e s s t o modify
or develop a l t e r n a t i v e s , as well as h i s c a p a b i l i t y t o
respond t o new c o n t r a c t u a l demands."
With r e s p e c t t o t h e b a s i s f o r payments t o the Administrator,
t h e RFP s a i d : " A c o s t reimbursement type c o n t r a c t with
negotiated i n c e n t i v e payments is a n t i c i p a t e d . "
The RFP a l s o s t a t e d t h a t bidders should p r e s e n t t h e i r
proposed c o s t s by c o s t account and major f u n c t i o n , t o include
broad a c t i v i t i e s such a s q u a l i t y assurance, claims processing,
and provider s o l i c i t a t i o n and management. This information did
not e a s i l y lend i t s e l f t o a task or u n i t of output type of
c o s t i n g o r c o n t r o l . This f a c t o r became a major source of
d i f f i c u l t y i n subsequent c o n t r a c t modification e f f o r t s .
While it is c l e a r t h a t many important elements of t h e AHCCCS
program were s t i l l taking shape when t h e RFP was d r a f t e d , much
more could have been done i n t h e RFP t o e s t a b l i s h parameters f o r
t h e program:
o In the May, 1980 Report on Medicare Contracting by t h e
P r e s i d e n t ' s Management Improvement Council it was
recommended t h a t f i s c a l intermediary c o n t r a c t s be a
mixture of fixed p r i c e and c o s t reimbursement. The
Council s a i d t h a t i n some a r e a s of u n c e r t a i n t y fixed
p r i c e s f o r d i f f e r e n t ranges o f e s t i m a t e d workload could
be u t i l i z e d .
o C e r t a i n t a s k s were s u s c e p t i b l e t o e s t i m a t i n g , f o r
example: the number of medical q u a l i t y assurance
reviews and f i n a n c i a l a u d i t s t o be conducted per y e a r ,
t h e e f f o r t required t o design and implement t h e claims
processing system elements, t h e number of s t a f f expected
t o be used f o r public r e l a t i o n s and t o maintain t h e MMIS
a f t e r i n s t a l l a t i o n , and the l e v e l of t e c h n i c a l a s s i s -
tance t o be afforded t o p r o v i d e r s .
o I f the S t a t e was u n c e r t a i n with r e s p e c t t o the l e v e l s of
e f f o r t needed, it could have required bidders t o s p e c i f -
i c a l l y s t a t e the assumptions they used t o develop t h e i r
c o s t proposals. Without s t a t e d assumptions by e i t h e r
s i d e , comparative e v a l u a t i o n of c o s t e s t i m a t e s became
extremely d i f f i c u l t .
MSGI Proposals
MSGI's proposals appear t o have c o n s i s t e n t l y estimated the
minimal s t a f f l e v e l s needed t o f u l f i l l t h e f u n c t i o n s defined i n
the RFP, based on both t h e assumption of near optimal c o n d i t i o n s
and only r e f l e c t i n g the resources needed f o r t h e l i m i t e d s p e c i f i c
requirements defined i n the RFP. This conclusion is based on our
p r o f e s s i o n a l judgment and comparison t o the o t h e r b i d s received.
No record remains of t h e b a s i s f o r MSGI's a c t u a l assumptions.
The MSGI proposal c l e a r l y assumes t h a t t h e c o n t r a c t w i l l be
run on a task b a s i s as evidenced by the s p e c i f i c s i n t h e Manage-ment
Section of the proposal. As proposed, new t a s k s would be
estimated before work began and a c t u a l t a s k expenditures would be
prepared on a monthly b a s i s . However, t h e r e was a general
vagueness i n MSGI's proposal with r e s p e c t t o t h e q u a n t i f i c a t i o n
of numbers of s t a f f t o be devoted t o s p e c i f i c t a s k s , d a t e s f o r
d e l i v e r y of work products ( beyond t h e Implementation P e r i o d ) , and
u n i t s of output or workload expected. The proposal f r e q u e n t l y
included sweeping g e n e r a l i t i e s i n i t s commitments, such as
" Systems w i l l provide f u l l c a p a b i l i t y f o r e n r o l l i n g members,
c o l l e c t i n g premiums, e n r o l l i n g and paying c a p i t a t e d p r o v i d e r s ,
and providing the information r e p o r t i n g requirements of AHCCCS"
and a l s o s t a t i n g the " AHCCCS requirements can be met with minimum
development e f f o r t . " The s t a f f i n g l e v e l s presented i n t h e c o s t
proposal combined numerous c a p a b i l i t i e s w i t h i n any given func-t
i o n a l a r e a . This made it impossible t o determine t h e a c t u a l
s t a f f i n g l e v e l s proposed on a given t a s k .
MSG1 consciously accepted a s u b s t a n t i a l element of r i s k i n
i t s p u r s u i t of t h e o p t i o n a l p a r t of the RFP which c a l l e d f o r
o f f e r o r s t o propose i n c e n t i v e payment arrangements. In i t s
proposal, MSGI s a i d " MSGI proposes a costing arrangement which i s
designed t o put MSGI a t r i s k f o r f a i l i n g t o achieve the program
o b j e c t i v e s and w i l l concurrently reward it i f AHCCCS achieves the
r e s u l t s sought by the S t a t e of Arizona." MSGI's proposal pre-sented
some suggested i n c e n t i v e s , but recognized t h a t f u r t h e r
d i s c u s s i o n would l i k e l y be needed before agreement could be
reached with the S t a t e . The i n c e n t i v e s r e p r e s e n t another impor-t
a n t element, along with d e l i v e r a b l e schedules, l e v e l s of e f f o r t
and o t h e r components which would have t o be s e t t l e d a t the time
of t h e c o n t r a c t signing or even l a t e r .
Proposal Evaluation
The RFP s t a t e d t h a t 25% of the t o t a l points assigned by the
S t a t e ' s proposal e v a l u a t o r s were t o be awarded on the c o s t b i d s .
The o r i g i n a l c o s t p r o p o s a l s r e c e i v e d ranged between $ 7.5 m i l l i o n
and $ 21.55 m i l l i o n f o r the t h r e e years plus s t a r t - u p p e r i o d , as
follows:
Jurgovan and B l a i r $ 21 ,556,400
Hancock - Dikewood $ 1 8,872,000
EDS $ 15,726,330
CSC $ 13,558,300
MSG1 $ 9,386,000 *
Blue Cross/ Blue Shield $ 7,524,718
* Including $ 1 ,123,000 i n i n c e n t i v e s
The S t a t e ' s proposal review committee awarded MSGI points in
l i n e with i t s proposed c o s t , which was the second lowest of the
s i x responsive bids received. In making t h i s d e c i s i o n the com-m
i t t e e did n o t c o n s i d e r the cost p e r l a b o r u n i t proposed ( i . e . ,
MSGI proposed an o p e r a t i o n a l s t a f f of 47, whereas the o t h e r bids
ranged from 63 t o 116).
Between the time the RFP was prepared and when it was issued
an o f f i c i a l AHCCCS d i r e c t o r was named, Henry Foley. He has s a i d
t h a t h i s previous involvement was one of providing comments over
the phone, and t h a t he had i n d i c a t e d he f e l t t h e RFP lacked
s p e c i f i c i t y . However, on h i s f i r s t day i n o f f i c e he approved
public r e l e a s e of t h e RFP. He l a t e r became chairman o f a group
of t h r e e which rendered f i n a l judgment on the s e l e c t i o n of MSGI.
Contract
The AHCCCS A d m i n i s t r a t o r ' s c o n t r a c t was a cost reimbursable
t y p e , with a d d i t i o n a l award and i n c e n t i v e f e e f e a t u r e s . It too
did not c l a r i f y the s p e c i f i c t a s k s t o be accomplished and asso-c
i a t e d l e v e l s of resources or the performance m e a s u r e s / i n c e n t i u e s
t o be used beyond the f i r s t few months. These c r i t i c a l items
were supposed t o be i d e n t i f i e d l a t e r i n d e t a i l e d workplans
developed and n e g o t i a t e d annually.
The i n c e n t i v e f e e device appears t o have been overburdened by
t h e terms of the f i n a l c o n t r a c t . The i n c e n t i v e s were o r i g i n a l l y
conceived i n t h e RFP as being a means o f encouraging attainment
of important o b j e c t i v e s . MSGI embraced t h i s concept in i t s pro-posal
and made it t h e ma, jor o p p o r t u n i t y f o r p r o f i t . The con-t
r a c t , however, added the concept o f i n c e n t i v e s s e r v i n g as an
o v e r a l l c o n t r a c t o r c o s t containment t o o l . F u r t h e r , t h e c o n t r a c t
r e f e r r e d t o the i n c e n t i v e payments as being " based upon s u p e r i o r
performance." This l a s t r e f e r e n c e was t o c a u s e confusion among
S t a t e AHCCCS s t a f f l a t e r , when some f e l t t h a t i n c e n t i v e payments
should not be made when o p e r a t i o n a l problems were b e i n g e x p e r i -
enced. Our review of o t h e r s t a t e Medicaid c o n t r a c t s i n d i c a t e s
i n c e n t i v e s a r e u s u a l l y n o t u s e d , and e s p e c i a l l y not given such an
important r o l e .
During t h e taped c o n t r a c t n e g o t i a t i o n s t h e r e was much concern
evidenced by S t a t e r e p r e s e n t a t i v e s about t h e a b i l i t y of MSGI t o
perform i t s d u t i e s within t h e proposed c o s t . MSG1 r e p e a t e d l y
s t a t e d t h e i r f i g u r e was r e a l i s t i c . To address t h i s concern, a
capping mechanism was i n t r o d u c e d , w i t h o f f s e t t i n g reductions of
the i n c e n t i v e s and award f e e s i f t h e c o s t exceeded t h a t proposed.
However, t h e c o n t r a c t u a l b a s i s f o r s e t t i n g t h i s cap was t h e
o v e r a l l bid p r i c e a s it r e l a t e s t o t h e t a s k s and d e l i v e r a b l e s
within e i t h e r : 1) any of t h e c o n t r a c t documents o r 2) t h e to- be-agreed-
upon workplans. The vagueness of t h e c o n t r a c t documents,
t h e f a i l u r e t o agree t o workplans and subsequent d i r e c t i v e s from
t h e S t a t e expanding MSGI's scope of work made t h e 125% capping
device i n e f f e c t i v e . It is a l s o c l e a r from l i s t e n i n g t o the tapes
of t h e c o n t r a c t n e g o t i a t i o n s t h a t the two p a r t i e s never r e a l l y
came t o a j o i n t understanding of what t h e c o n t r a c t u a l b a s i s
a c t u a l l y was. The S t a t e saw f i x e d p r i c e elements i n i t s 125%
capping mechanism and incentivelaward f e e o f f s e t s . MSGI viewed
it much more as a simple c o s t reimbursement c o n t r a c t .
The s i x o t h e r s t a t e RFPs and c o n t r a c t s which we surveyed and
HCFA model RFP recommendations ( i s s u e d i n 1984) contain a con-s
i s t e n t l y higher degree of s p e c i f i c i t y and c o n t r a c t o r r e q u i r e -
ments than do the AHCCCS c o n t r a c t documents. Appendix B provides
a d e t a i l e d d e s c r i p t i o n of t h e r e s u l t s of our comparisons. Again,
it was t h e s t a t e ' s perception t h a t l i t t l e could be defined con-cerning
t h e d e t a i l s of the AHCCCS program t h a t r e s u l t e d in few
specifics and requirements being included in the AHCCCS contract
documents.
In addition, our review of other state contracts noted that
the New York contract with MSGI contains another particular item
which the Arizona contract does not have-- it clearly states that
McDonnell Douglas Corporation is the ultimate contracting party,
not just the small subsidiary-- with correspondingly small assets
-- which MSGI is. This point has been a subject of litigation in
Arizona.
b. Development of Workplans and Contract
Modifications
There were two important elements of the contract which we
identified for detailed review for State AHCCCS adherence to
contractual requirements: annual workplan approval and
modification of the contracts. Associated with the workplan
development were the respective roles identified for the State
AHCCCS and MSGI groups.
( 1) Findings
Although the contract negotiations and the contract itself
placed great significance on the need to develop and agree upon
detailed workplans, this was not accomplished beyond the initial
Implementation Period. Incentive criteria were also never final-ized
for Operational Years One and Two, thus failing to supply
the important motivating force envisioned in the contract docu-ments.
An associated problem was the failure thoughout the
contract period to adequately define the respective roles of MSGI
and the State AHCCCS Division.
In the absence of definitive contract documents and approved
workplans, determination of what was within or outside of the
contractor's scope of work and decisions about contract modifica-tions
became extremely difficult. The newness of the program,
the crisis atmosphere which often prevailed and the high degree
of change of top officials from both MSGI and the State units
also contributed to this problem, and to a lack of timeliness in
seeking formal contract amendments as required in the contract
and by HCFA.
( 2) Discussion
Workplans
The contract called for workplans to be developed and agreed
upon two weeks before the start of each operational year. A plan
for the Implementation Period was to be finalized shortly after
the contract was signed, which did occur. The Implementation
Period consisted of start- up tasks which were covered in consid-erable
detail in MSGI's proposal. This detail served as the
basis for the workplan.
MSGI did not provide a Year One workplan to State AHCCCS
until October 18, 1982-- five weeks after agreement was to have
been reached. The following events took place subsequently:
o Henry Foley distributed the plan to his staff for
comment .
o Foley's initial reaction to the plan was negative
because MSGI was behind schedule on the Implementation
Period tasks. He felt it was somewhat pointless to
establish a Year One workplan while startup tasks were
still underway ( this work was completed in December).
o The State staff responded to Foley by noting that a
number of areas in the proposed plan were already, or
would soon be, behind schedule. They felt other areas
lacked detail, and some required change due to the many
programmatic decisions being made.
o A series of meetings were scheduled to discuss the plan
but not held due to various timing conflicts. ( Foley
wanted MSGI's Executive Vice- President, Howard Waltman,
to attend as well as MSGI's on- site project director,
Richard Kline.)
o MSGI, meanwhile, continued to perform duties along these
lines: 1) conducting regularly scheduled activities
which were known ( e. g., claims processing), 2) respond-ing
to various short term crises and problems which were
steadily arising as the program developed, 3) reacting
to decisions made at meetings between Foley and Kline,
and 4) pursuing some of the work items identified in the
contract documents, e. g., design of the MMIS.
o Foley then decided to develop a joint StatelMSG1 plan.
This was done, but not shared with MSGI for several
weeks. It was prepared without MSGI input, was not
detailed and did not cover all the activities underway.
o By mid- February 1983 the leadership of State AHCCCS
began to be shared by Foley, Sam Thurmond ( Governor
Babbitt's special representative for AHCCCS), a
Governor's Working Group consisting of executive and
legislative branch representatives, and Don Mathis
( later named to head the DHS). The focus was on several
pressing policy issues which required prompt resolution,
not on development of a longer term workplan.
o Upon taking over as head of DHS in April 1983 Don Mathis
felt there were major problems confronting the program
involving open enrollment and rebidding of provider
contracts for the coming fall. Further, Operational
Year One was more than half over. In May, MSGI's Kline
left, further disrupting program continuity. Mathis
became convinced that the existing contract was both
complex and unspecific, and that a new one should be
negotiated. Top priority was therefore not given to
development of a plan for the remainder of Year One.
The Year Two plan was not submitted by MSGI until October 21,
1983. Extensive amounts of both MSGI and State AHCCCS staff time
were devoted to this plan, the preparation of the proposed
Modification # 3 , and Year Two incentives. State AHCCCS staff
raised a number of issues regarding the Year Two plan as well as
Modification # 3, which dealt with MSGI's perceptions about the
verbal and written directives it had received during Year One.
The Year Two plan represented a mix of functional activity
costing, as was presented in MSGI's proposal, and task based
costing. In late 1983 the Attorney General's office became
involved in the Modification / I3 issue and took the position that
all costs had to be traced back to the original contract docu-ments.
The Year Two plan, the incentives for Year Two and
Modification H3 all became viewed as interdependent, and the
negotiations now involved three parties, with involvement from
the Legislature as well.
Roles of MSG1 and State AHCCCS
The AHCCCS legislation said: " The Administrator will have
full operations responsibilities, subject to the Director's
supervision." Nevertheless a broad range of activities needed to
be accomplished to get AHCCCS underway in a short time, so in
December 1981 DHS established a team of 12 temporarily assigned
staff. This group was later enlarged to about 25 and was respon-sible
for many operational tasks that required intensive effort
since an Administrator did not start work until June 1982. How-ever
as of that October the State's role in these activities was
to theoretically stop, and an overall monitoring posture was to
be adopted. In practice this became quite difficult to do:
o Several of the State's start- up activities, such as the
preparation of rules and regulations, were still under
development.
o There were inquiries from many quarters about the
program, ranging from policy and operating questions
from the Legislature and HCFA to detailed individual
member problems. It was impossible to merely refer all
these to MSGI.
o DHSIAHCCCS clearly had to officially approve many acti-vities,
such as the RFPs and contracts with providers
and policy statements.
o Critical interagency problems and coordination needs
arose, such as the transfer of eligibility information
from the Department of Economic Security's data files.
These required representation by State AHCCCS officials
as well as MSGI.
o Input was necessary on technical as well as policy
issues raised by MSGI. New ground was frequently being
broken here. ( In fact the State's delay in making
policy decisions at times significantly hindered MSGI's
activities.)
As these items pressed for attention and, as operational
problems were experienced by MSGI, the State AHCCCS staff vacil-lated
between an oversight and operational role. An example of
duplication of duties is in DHS's second annual report on AHCCCS:
" Although the Administrator maintains a 24 hour telephone line to
answer recipient questions about the program, the AHCCCS Division
also performs this role. Division staff act as intermediaries
between recipients and the Administrator, health plans and
government agencies to resolve the inevitable problems which
result from a complicated new program."
The blurring of roles led to significant problems in policy
analysis and decisionmaking. State AHCCCS staff looked to MSGI
to fully analyze issues and problems and develop alternatives,
while MSGI felt the AHCCCS Division, as the State's representa-tive,
was responsible for determining policy and decisionmaking.
Because they were not directly involved in operational problems
( in a program that was new and rapidly evolving), DHS staff
sometimes lacked the knowledge to respond on a timely basis to
queries for direction. Instead their reaction was frequently to
request further information. This led to frustration and delays
on all sides.
Contract Modifications
The contract documents envisioned that significant, ongoing
changes would be needed to the AHCCCS program and its administra-tion.
They stated that all modifications would have to be
approved in writing by the State. The State AHCCCS project
director was given the authority to modify the scope of work and
associated costs.
During the first several months of the project MSGI and the
State utilized a Transmittal Memorandum procedure for policy
communication. As time passed this procedure became overused,
with subjects of varying importance raised by both sides. Elany
of the transmittals from the State give guidance to MSGI on
policy decision, comment on a deliverable, call attention to
problems, raise an issue for urgent attention, etc. It becomes
difficult to sort out among these memoranda what is in or outside
of original work scope, and most do not provide guidance on what
should be of lower priority or - not done if the task being
discussed is pursued immediately. However several of these
transmittals - do specifically discuss Year One budget levels,
while Henry Foley directed AHCCCS. In two of these, MSGI's
project director stated:
o " MSG1 intends to stay within the total operational
budget as defined by you." ( This was $ 4.023 million, in
January 1983. )
o In a later MSG1 memo to Don Mathis the same approved
budget allocation is specified.
Subsequent interviews have i n d i c a t e d t h a t both Foley and
Kline f e l t t h a t the transmittal- approved l e v e l s a s of February
1983 would be adhered t o by MSGI f o r Year One. However, s e v e r a l
f a c t o r s intervened t o cloud t h i s apparently c l e a r budget
l i m i t a t i o n :
o Many people from both MSG1 and DHSIAHCCCS agree t h a t
v e r b a l d i r e c t i v e s were f r e q u e n t l y given t o MSGI without
regard t o the " new work" i s s u e .
o D i r e c t i o n of MSG1 came p a r t l y under Sam Thurmond f o r a
time, then Don Mathis and l a t e r Greg Fahey. Thurmond
wrote some d i r e c t i v e s t o MSGI independent of Mathis.
Both Fahey and Mathis agree t h a t MSGI did considerable
new work during 1983.
o S e v e r a l of t h e t r a n s m i t t a l s appear t o contain new
d i r e c t i v e s . Examples a r e l i s t e d i n Exhibit IV- 2.
Contract amendments were not made and formal modifications
were not submitted t o HCFA u n t i l many months had passed, even
when t r a n s m i t t a l s could have been used as a b a s i s f o r doing s o .
The reason f o r t h i s appears p a r t l y t o be t h a t the S t a t e AHCCCS
l e a d e r s h i p expected t o change t h e n a t u r e of the c o n t r a c t during
the summer of 1983, but l a t e r learned t h a t HCFA would not approve
a r a d i c a l r e v i s i o n o r r e s t r u c t u r i n g without a f u l l recompetition.
The S t a t e was remiss i n executing t h e c o n t r a c t p r o v i s i o n s
c a l l i n g f o r formal c o n t r a c t amendments t o be made f o r new work.
Contract changes were informally made and not through t h e
amendment process r e q u i r e d i n the c o n t r a c t . This c o n t r i b u t e d t o
allowing t h e s i z e of MSGI's monthly expenditures ( and b i l l s paid)
t o grow f a r beyond t h a t o f f i c i a l l y budgeted. Other s t a t e s with
f i s c a l i n t e r m e d i a r i e s f o l l o w a p r a c t i c e of concurrently reviewing
a proposed modification i n t e r n a l l y and s u b m i t t i n g a d r a f t r e q u e s t
t o HCFA. Another d e v i c e , used t o avoid t h e need f o r f r e q u e n t
m o d i f i c a t i o n s , is t o m a i n t a i n a c e r t a i n number of d a t a processing
EXHIBIT IV- 2
EXAMPLES OF TRANSMITTAL MEMORANDA
o A June 19, 1983 transmittal from Mathis to Skelton
authorizes MSGI to add up to S25,000 to the work of
Milliman and Robertson.
o A November 23, 1982 transmittal, Foley to Kline, deals
with 24 hour emergency coverage.
o A December 2, 1982 transmittal, Foley to Kline, tracks
several transmittals, including two dealinq with Native
Americans and Lonq- Term Care.
o A December 3, 1982 transmittal advises MSG1 on the need
to devote more staff attention to case management.
o A November 30, 1982 transmittal, Foley to Kline,
requests MSGI to initiate new procedures in the quality
assurance area.
o A December 8, 1982 transmittal Foley to Kline, requests
more MSGI staff resources be devoted to county- by- county
implementation and operations plans.
o A December 20, 1982 tranmittal, Folev to Kline, stated
that as a result of discussions on Native Americans with
the State Legislature and the Governor's Office, a new
policy was being implemented by AHCCCS which would alter
MSGI's procedures.
o A March 23, 1983 transmittal, Foley to Kline, stated
that " the AHCCCS Division has decided to include the
provision of dentures as a covered benefit..." Again,
MSGI procedures were to be changed.
o Transmittals on March 15, 18 and 29, 1983, between Foley
and Kline, brouqht MSG1 into a more active role in
Newborn Care.
o On April 1, 1983, Foley to Kline, a transmittal stated
that as a result of negotiations with HCFA, the AHCCCS
Division agreed to expand coverage of medically
necessary transportation. Once again MSGI was given
additional duties.
personnel i n a s e p a r a t e t a s k group which is t o be used only f o r
short- term and/ or high p r i o r i t y p r o j e c t s . C a l i f o r n i a has used
t h i s method and has reduced tremendously t h e number of c o n t r a c t
amendments needed.
3. Monitoring and Control of t h e Administrator
In t h i s p a r t of our review we examined the adequacy of the
f i n a n c i a l and management c o n t r o l s u t i l i z e d by t h e S t a t e t o
monitor MSGI.
( 1 ) Findings
S t a t e AHCCCS did not e s t a b l i s h c o n s i s t e n t , e f f e c t i v e finan-c
i a l and management c o n t r o l s so as t o enable it t o e f f e c t i v e l y
oversee MSGI's o p e r a t i o n s and e x p e n d i t u r e s . I t did not have an
adequate grasp of some important c o n t r a c t u a l i s s u e s and as a
r e s u l t l e t c r i t i c a l c o n t r a c t r e l a t e d problems and adverse trends
continue even a f t e r they were i d e n t i f i e d . It lacked experienced
personnel in s e v e r a l a r e a s .
( 2 ) Discussion
Financial and Management Controls
In terms of f i n a n c i a l and management c o n t r o l s , we noted t h e
following:
o The S t a t e d i d n o t r e q u i r e MSG1 t o submit a monthly
spending plan f o r Year One. Neither did it r e q u i r e
monthly r e p o r t s on MSGI s t a f f l e v e l s . Had it done s o ,
t h e " cost overrun" and " v e r b a l m o d i f i c a t i o n " i s s u e s
would have been i d e n t i f i e d much e a r l i e r i n 1983 than
they were. E a r l i e r i d e n t i f i c a t i o n might have permitted
the c o n t r a c t u a l i s s u e s t o be r a i s e d , addressed and
resolved before they became multi- million dollar
disputes.
o An audit of MSGI's first quarter billings for Year One
- was conducted and identified some significant concerns,
e. g., MSGI use of non- Phoenix staff who were billed at
much higher overhead rates. However this effort was
hurried, was not completed and was not repeated for
subsequent periods. The issue identified was not
resolved.
o State AHCCCS did not insist that those reports promised
in MSGI's proposal be delivered, thus missing important
information on program and administrative costs.
o No master list of deliverables was prepared based upon
the contract documents. We have only found one partial
attempt to identify such items. Consequently, consis-tent
monitoring of MSGI's requirements under the
contract was not performed. The Implementation Period
- was closely monitored by the State, but significantly
this is the only period for which a work plan had been
agreed upon.
The reasons for these deficiencies cover a gamut of items:
insufficient experience, frequently changing leadership, pressure
of a continuing crisis atmosphere, frequent statutory and policy
changes, an expectation that a new contract would redefine the
details of the MSGI relationship, and a lack of definition of
duties within AHCCCS staff with respect to monitoring MSGI.
Contractual Issues
State AHCCCS demonstrated a lack- of understanding in ter- m- s of
the contractual rights and workings of the contract. Examples
include :
o The concept of " direct costs" was misunderstood. The
State felt that any costs incurred would be charged only
the 3% general and administrative rate bid by MSGI.
However, overhead costs incurred by other MSGI divi-sions,
other McDonnell Douglas Corporation units, and
subcontractors are not subject to this limitatiorl.
o All the State Directors paid MSG1 on the basis of the
payments being " subject to audit." This term was used
to mean that some future audit would recover any costs
not allowable under the contract. However this over-looked:
1) the possibility that the State simply mis-understood
provisions such as " direct costs" and the
susceptibility of the contract to modification from
transmittals and verbal directives, and 2) the
difficulty of conducting such an audit in a dynamic
environment with no workplans and specific, task driven
budgets.
o State AHCCCS staff raised questions about their ability
to direct MSGI to undertake organizational changes,
influence the location of MSGI's computer processing
activities and other issues. These questions were
usually not resolved.
Personnel Experience
State AHCCCS staff lacked sufficient expertise in several
vital areas including: data processing ( EDP) systems design,
fiscal intermediary oversight and to some degree in the Medicaid
program itself. EDP systems expertise was a particularly soft
spot within DHSIAHCCCS. Mike Savino was hired in December 1982
to become the systems monitor, however he actually was an auditor
with only a little systems experience and in addition was also
given multiple assignments. Aldona Vaitkus was then assigned
this responsibility but she similarly did not have a technical
EDP background and also was involved in many other projects. In
the period February through August 1983 Sam Thurmond had inter-mittent
involvement with AHCCCS-- first concentrating on the
systems design work but later becoming involved in numerous other
issues. He - did have a systems background, but was not perma-nently
assigned to AHCCCS. By the end of 1983 DHSIAHCCCS still
had no permanent systems monitoring expertise.
A major cause, a s well as a symptom of AHCCCS's problems, i s
t h e heavy turnover of top S t a t e and MSG1 management. Exhibit
I V - 3 provides a summary of t h i s s i t u a t i o n .
B. Performance Audit of MSGI's Activities
This part of our report covers five areas related to MSGI's
performance as AHCCCS Administrator:
1) Compliance with the Administrator Contract
2) Efficiency of MSGI's Major Activities
3) EDP Systems Development and Operations
4) Assessment of the Amount of New Work Performed
5) Use of Subcontractors
1. Compliance with the Administrator Contract
This discussion responds to the question of how well MSGI
fulfilled its contractual responsibilities with respect to major
tasks and deliverables. The MSGI work on EDP systems development
is discussed separately.
( 1) Findings
MSGI appears to have substantially completed many of the
responsibilities required under the Administrator's contract,
though several key tasks were not performed. The key tasks that
were not performed, however, had a significant impact on MSGI's
and State AHCCCS' ability to manage and operate the AHCCCS
program. In all areas the timeliness and degree of completion of
certain tasks were not performed as proposed.
( 2 ) Discussion
As noted e a r l i e r , the c o n t r a c t documents were g e n e r a l l y vague
with r e s p e c t t o s p e c i f i c d e l i v e r a b l e s , l e v e l s of e f f o r t and dead-l
i n e s . However, we conducted a d e t a i l e d review of these docu-ments
t o a s s e s s MSGI's compliance with those a r e a s which - were
s p e c i f i e d . This review r e l i e d n e c e s s a r i l y on the t e c h n i c a l
p r o p o s a l , RFP and implementation workplan. Workplans f o r Opera-t
i o n a l Years One and Two were submitted though never approved.
The d i s c u s s i o n of new work performed is presented i n s e c t i o n 4
( below). Furthermore, none of the submitted workplans contained
performance s t a n d a r d s , as proposed.
Presented below is a summary d i s c u s s i o n of the major t a s k s
and d e l i v e r a b l e s proposed t h a t were completed or not completed by
MSGI. Appendix C p r e s e n t s a d e t a i l e d summary of t h e i r c o n t r a c t
d e l i v e r a b l e compliance.
Management and Control
MSGI proposed very d e t a i l e d and very well defined s t e p s t h a t
would be followed t o ensure proper management and c o n t r o l of the
AHCCCS p r o j e c t . Some of t h e s e s t e p s ( such a s t h e use of t r a n s -
m i t t a l s ) were taken but most were not r e s u l t i n g i n an o v e r a l l
lack of c o n t r o l .
Formal w r i t t e n progress r e p o r t i n g from MSGI t o S t a t e AHCCCS
was not implemented on an ongoing b a s i s . MSGI's t e c h n i c a l
proposal s t a t e d t h a t weekly, monthly and q u a r t e r l y progress and
s t a t u s r e p o r t s would be provided t o S t a t e AHCCCS. However, no
monthly or q u a r t e r l y s t a t u s r e p o r t s were prepared and only s i x
biweekly s t a t u s r e p o r t s ( November 1982 through February 1983)
have been i d e n t i f i e d . Discussions with MSGI p r o j e c t d i r e c t o r s
have indicated that this was not considered a high priority by
either State AHCCCS or MSGI.
Project reporting even within MSGI was very intermittent.
. Some managers required weekly status reports from their staff and
followed up on their contents, while others sometimes required
them and then would stop.. The use of project reporting appears
to have depended on the individual manager, rather than being a
project- wide policy.
Provider Development
During the Implementation Period, MSGI was responsible for
developing the AHCCCS provider structure. This included pre- bid
solicitation, preparation of Requests for Proposals ( RFPs),
evaluating provider proposals, and drafting contract documents.
MSGI completed all of the provider development activities and in
fact performed additional tasks as required by State AHCCCS.
Under the MSGI technical proposal it was envisioned that only
one RFP would be developed and released for provider solicita-tion.
However, during summer 1982 it was determined that addi-tional
RFPs would be required for special populations, such as
the publiclprivate group, long- term care, and Native Americans.
These additional RFPs and the associated effort involved in
their development, evaluation and contract award were not antici-pated
in the MSGI proposal or contract. It is doubtful whether
any party could have anticipated the need for additional RFPs due
to the demonstration nature of this project. No other state has
attempted to devise and implement a state- wide competitive
bidding process of this nature.
Program R e l a t i o n s ( P u b l i c , Provider, and Member)
MSGI was r e s p o n s i b l e f o r developing p u b l i c r e l a t i o n s
m a t e r i a l s , and provider and member m a t e r i a l s , procedures and
t r a i n i n g during the Implementation Period.