Improper cost allocation is a more subtle version of the cross‑charging scheme.
If a company has both government contracts and private commercial contracts (like most large aircraft companies), they are supposed to spread (or “allocate”) their costs fairly among the different jobs. With direct costs, such as time a worker spends building an engine or other part for the aircraft, this is a simple matter. If the part will go into a plane for the government, the cost of building it is charged to the government job.
When the costs are less directly tied to a particular project, such as supervisors’ time, the correct allocation is a little trickier. The temptation is to shift more costs to the government, which may pay on a cost‑plus basis, and away from private customers, who simply pay the market price for the aircraft. Such cost‑shifting allows the companies to quote lower prices to their commercial customers (gaining a competitive advantage) without having to absorb the losses for such price cuts.
Companies that deliberately allocate a disproportionate share of “indirect” or “overhead” costs to the government are committing fraud.
A qui tam lawsuit brought by Phillips & Cohen on behalf of a whistleblower alleged that TRW Inc. padded bills submitted to the government under space and technology contracts, including billing the government for work done on non-government contracts. Northrop Grumman, which acquired TRW, paid $111.2 million to the federal government to settle the qui tam case.