The AAR principles

Info:This section of the SSRO's guidance was revised in 2019. The rationale for change and the outcome of the consultation process are set out on the SSRO's website.

3.1

A contractor’s costs (which include those already incurred and those which are anticipated) are Allowable Costs in a QDC or QSC to the extent they are appropriate, attributable to the contract and reasonable in the circumstances. These three requirements apply whether the contractor’s costs are estimated or actual, and whether they are applied to the contract as a direct cost or as an indirect cost.

3.2

The guidance in this section sets out the typical characteristics of costs that meet the requirements of Allowable Costs. The relevant parties should consider the characteristics when evaluating whether a particular cost incurred by the contractor meets each requirement.

3.3

Determining whether each requirement of Allowable Costs is met calls for judgement to be applied by the Secretary of State and the contractor or sub-contractor, as the case may be. This includes judgement regarding:

1. the relative importance of the characteristics identified in the guidance to the particular cost under consideration, taking account of the circumstances of the case; and
2. the type and standard of information required to be satisfied that the particular cost demonstrates the characteristics identified in the guidance.

3.4

In determining whether each requirement is met, the relevant parties may place differing emphasis on the characteristics described in the guidance and require different information to be satisfied that the cost demonstrates the characteristics. It is unlikely, however, that a requirement will be met where the relevant parties cannot conclude positively that the particular cost possesses at least one of the related characteristics.

3.5

Section 5 of this document provides additional guidance related to the evaluation of specific categories of cost including, in some cases, the types of evidence that should be considered.

3.6

This guidance is intended to assist the parties to determine the Allowable Costs for a QDC or QSC in a way that supports the SSRO’s statutory aims of ensuring that:

1. good value for money is obtained in government expenditure on qualifying defence contracts, and
2. persons (other than the Secretary of State) who are parties to qualifying defence contracts are paid a fair and reasonable price under those contracts.

3.7

The relevant parties should have regard to these aims when applying the guidance and considering whether costs meet the requirements to be appropriate, attributable to the contract and reasonable in the circumstances.

3.8

References in this guidance to costs that ‘enable the performance of the contract’ include those suitably and necessarily incurred by the contractor to:

1. deliver the contract in question; or
2. deliver multiple contracts including the contract in question and equitably apportioned to those contracts.

3.9

Delivering the contract in question may require sustaining an essential or desirable capability.

3.10

References in this guidance to costs which ‘would withstand public scrutiny’ include those which meet high standards of regularity, propriety and prudence, such that the relevant standards expected by Parliament of the Ministry of Defence can be met.

3.11

A cost is appropriate if it is of a type and arising from an activity that:

1. a reasonable person informed of the facts would consider enables the performance of the QDC or QSC in question; and
2. would withstand public scrutiny.

3.12

A cost is attributable to the contract if it:

1. is incurred by the contractor;
2. enables the performance of the QDC or QSC in question;
3. is applied directly or indirectly to the contract on a basis that is consistent with the contractor’s overarching cost accounting practices or using a methodology agreed with the Secretary of State; and
4. has not been and is not anticipated to be recovered, directly or indirectly, from another source, as Allowable Costs must only be recovered once.

3.13

A cost is reasonable in the circumstances if it is of an amount that:

1. a reasonable person informed of the facts would consider consistent with enabling the performance of the QDC or QSC in question;
2. would withstand public scrutiny;
3. is consistent with costs incurred by the contractor in similar circumstances; and
4. demonstrates due regard for economy and efficiency in the use of resources.

3.14

Consideration must be given to the circumstances of the case when determining whether costs are reasonable. Circumstances which may influence costs, and which may, therefore, be considered when determining if a cost is reasonable in the circumstances, include, but are not limited to:

1. the level of competitiveness and/or market testing undertaken in the supply chain;
2. the particular specification and performance requirements of the contract;
3. the capability necessary to perform the contract;
4. uncertainty and risk affecting estimated costs;
5. the impact on actual costs of events which were not anticipated at the time of agreement;
6. the economic environment;
7. the statutory provisions in place at the time of contracting; and
8. any alternative options available, for example, to justify decisions as to whether to subcontract or undertake work ‘in-house’.