GAB Decision 329
June 30, 1982 North Carolina Department of Human Resources; Docket No.
81-167 Ford, Cecilia; Settle, Norval Garrett, Donald
The Director, Division of Cost Allocation, Region IV of the
Department of Health and Human Services (DHHS) disallowed $552,864
claimed by the North Carolina Department of Human Resources (State) for
costs incurred in developing and implementing its "Data Assistance
Information for Social and Income Eligibility" system (DAISIE). /1/ The
State described DAISIE as "an on-line data base computer system
developed to allow each county social services office to enter directly
into State data files information concerning eligibility of recipients
of Social Services. . . ." (Appeal File (AF), Exhibit A, p. 32) The
costs in question pertained to "DSS EDP and Clerical Personnel Costs,"
"Rental of Terminals and Modems," "Rental of Telephone Lines,"
and
"Computer Charges (State Computer Center)" and had been allocated
to
nine different programs. /2/ The reasons for the disallowance were that
(1) there was no evidence that the State received prior written approval
for the project, and (2) the Assistant Secretary for Management and
Budget, DHHS, had denied the State's request for retroactive approval.
This denial was based on four factors: (a) the State worked on DAISIE
without Agency approval; (b) the State never successfully completed
DAISIE; (c) the DHHS component agencies could not determine that their
programs benefitted in any way as a result of the work done on DAIUSE;
and (d) in 1980, DHHS approved development of a system which would
perform many of the same functions that DAISIE would have.
(2) Based on the record, which includes the parties' arguments and
Exhibits A- NNN in the Appeal File, we have determined that the State
has not shown that the costs were reasonable and necessary for proper
and efficient administration of the grant programs, and we uphold the
disallowance on that basis.
BACKGROUND
1. The Approval Process
In December 1975, the State submitted to the Agengy's Regional Office
a short and general advance planning document (APD) for an automatic
data processing (ADP) system whose acronym was IRRK. The letter from
the Regional Office acknowledging receipt requested additional
information including an implementation schedule, a personnel resource
statement, and a cost breakdown for the next three years. The Regional
Office also told the State that the APD was being forwarded to the
Agency's Central Office. There is a set of documents in the file (AF,
Exhibit F) which the State claimed constituted the responses to the
Regional Office's questions. There is no date on the documents but the
Agency stated that they were sent to the Regional Office in April 1976.
An internal HHS memorandum from the Central Office to the Regional
Office states that the APD had been received and that while the Central
Office was "supportive of this concept," it noted several problems
(AF,
Exhibit Y).
By the middle of 1976, the Regional Office was aware that the APD was
being revised. The changed APD, for DAISIE, was sent to the Regional
Office in February 1977; the Regional Office acknowledged receipt a
month later.
In April 1977, the State notified the Regional Office that the
implementation schedule would be altered and that the current equipment
would be removed. After that point, there are no letters from the
Regional or Central Offices to the State in the record until August 1981
when the Central Office denied the request for retroactive approval of
the system. /3/
(3) 2. The State's Implementation of DAISIE
Starting before and overlapping the above chronology was the State's
design and implementation of DAISIE.
Prior to the fall of 1975, the State determined that some type of
automated eligibility determination system was needed. Staff from the
State Department of Human Resources did the initial planning, evaluation
and feasibility studies. Design of and changes to the system occurred
until January 1977. Requests for bids for equipment went out in
November 1975, and invoices for the equipment present in the record are
dated starting March 1976 (video display terminals) and July 1976
(modems). The contracts for the equipment were cancelled in June 1977
and the project was abandoned in October 1977 (AF, Exhibit A).
According to the APD for DAISIE, the project was to have been
implemented in four phases: the first to cover Title XIX, the second to
cover public assistance programs, the third to cover Title XX and child
welfare services, and the fourth to cover food stamps. At the point
when the contracts were cancelled, the system was only being used for
Title XIX. According to the State, DAISIE never operated on its own. ".
. .During the testing period, problems were incurred which eventually
led to the phasedown of DAISIE. At no time did the counties stop
processing manually" (Response of North Carolina Department of Human
Resources to Order to Develop the Record, p. 5).
The State claimed the costs for personnel planning, developing,
Implementing, and evaluating DAISIE, linking it to the State Computer
Center, installing software, leasing hardware, and operating the system
during its "testing period."
WHETHER PRIOR APPROVAL WAS REQUIRED BY AGENCY REGULATION AND POLICY
Both parties submitted extensive arguments on the question of whether
the State was required to receive prior approval for DAISIE before
receiving FFP in its costs. Notwithstanding the fact that we have based
(4) our decision in this appeal on different grounds, because of the
importance attached to this issue by the parties, we briefly address it.
The Agency argued that 45 CFR Part 74, Appendix C, Part II, C.1
(1973) required prior approval for the cost of ADP services. We have
rejected that argument in California Department of Social Services,
Decision No. 316, June 28, 1982 based on the specific wording of C.1 and
the context in which it appears.
The Agency also argued that the cost principles required prior
approval for the rental of ADP equipment because prior approval for the
"acquisition" of equipment was specifically required. We do not agree;
the regulation states that the acquisition of equipment "whether by
outright purchase, rental-purchase agreement of other method of
purchase" requires prior approval. The regulation does not state that a
pure rental or lease of equipment requires prior approval.
The Agency contended that its interpretation of the regulation was
bolstered by well-established and long-standing policies and guidelines.
As evidence, it submitted a Regional Commissioner's Memorandum, a SRS
Program Instruction, and the 1965 edition of the Handbook of Public
Assistance Administration. These policies and guidelines, while not
models of clarity or consistency, do state standards and procedures for
Agency review and approval of ADP costs charged to federal grants.
Part 74 clearly states that the cost of ADP "services," in the broad
sense of all costs of an ADP system, are allowable; the cost of ADP
equipment, therefore, is allowable, but prior approval must be obtained
for equipment acquisition. The Agency had policy requirements
apparently broader than the requirements of Part 74, which pre-dated
Part 74 but which were not implemented by regulation until 1978 (45 CFR
Part 95). These policies may have stated approval requirements for the
rental of equipment and for the costs of services. A state would surely
have acted prudently if, in accordance with these policies, it kept the
Agency informed of its efforts in setting up an ADP system for which
federal reimbursement would be requested, and obtained Agency approval.
In so doing, a state might reduce the likelihood of a disallowance of
its costs based in allowability principles, such as that the costs were
not reasonable or necessary or allocable. However, given the clear
language of Part 74, we would not sustain a disallowance of ADP costs
simply because of the failure to obtain prior approval in accordance
with a general Agency policy which went beyond the specific dictates of
the regulation and which (5) was not otherwise made binding under a
particular grant; /4/ the disallowance, therefore, could only be
sustained if the costs were contray to other regulatory requirements.
WHETHER THE COSTS WERE ALLOCABLE, REASONABLE, AND NECESSARY
Of course, although 45 CFR Part 74, Appendix C, Part II, C.1 does not
require that the State obtain prior approval, the costs of the ADP
services and equipment at issue here are still subject to other
requirements in Part 74. See 45 CFR Part 74, Appendix C, Part I, C.1
and C.2. The state auditors quoted the regulation and questioned
whether DAISIE conformed to the criteria (AF, Exhibit A). Implied in
the Assistant Secretary's decision not to grant retroactive approval
because DAISIE was never successfully completed and because DHHS
component agencies could not determine whether their programs reaped any
benefit from DAISIE is the determination that the costs were not
allocable, reasonable, and necessary. The Agency's response to the
appeal specifically addressed this issue as did the briefs that
followed.
1. Whether the Costs Were Allocable to the Programs to Which They
Were Charged
The applicable regulation, Appendix C, Part I, C.2.a states:
Allocable costs. a. A cost is allocable to a particular cost
objective to the extent of benefits received by such objective.
The evidence provided by the State shows that it intended that DAISIE
would be implemented in phases and that by the end of the implementation
phase, all programs to which costs were charged would have been
benefitting from the system. In this important way, the facts in this
case differ significantly from the facts in Illinois Department of
Administrative Services, Decision No. 271, March 31, 1982 in which there
was no advance commitment by different state programs to use the system
in question, and the Board found that the developmental costs were not
allocable to all the programs to which they had been charged.
(6) Here, not only did the Assistant Secretary determine that the
costs were not allocable based on the reasons stated above, but the
Agency argued further that since the APD for DAISIE only specifically
requested approval for the first two phases of implementation, there was
no basis for providing FFP for costs allocated to the programs involved
in the third and fourth phases. We reject the Agency's argument that
because one document requested approval of only the initial phases of a
large, all-encompassing system the costs are not allocable to the other
programs even though the State clearly contemplated using DAISIE for all
its programs.
The State admitted that at the time the system closed down in 1977,
the system was being tested only for the Medicaid program. For the same
reason that we reject the Agency's argument, we cannot find that because
the system was tested on one program, development costs would not be
allocable to all programs which were to eventually benefit from the
system.
2. Necessary and Reasonable Costs
The State, however, has not shown that the claimed costs were
"necessary and reasonable for proper and efficient administration of the
grant program. . ." (Appendix C, Part I, C.1.a). In so finding, we are
distinguishing the facts here from those in California Department of
Social Services, Decision No. 316, June 28, 1982. In that decision, we
stated (page 6):
The Agency did not point to any regulation that stipulated that
before the costs of ADP services could be allowable that they must be a
part of a computerized system free from all imperfections. Further,
absent clear support in a regulation, the Board will not impose a
standard on the computerized system that does not allow for any
imperfection. We find that the imperfection in the computerized system
here was not sufficient to indicate that the costs were not necessary.
While we affirm the principle stated above, we cannot determine that
we are dealing with mere "imperfections" in the instant appeal. The
DAISIE experience was one, by the State's own findings, in which hasty
development and implementation led to the identification of problems so
major that the system was shut down. For example, the director of the
Division of Social Services within the Department of Human Resources
stated that he decided to "shut down the system until proper
developmental foundations had been laid" (AF, Exhibit X).
(7) The evidence presented by both parties pertains to computer
hardware and software: what was learned from the brief life of DAISIE
and what expertise and actual equipment was used in the new systems for
which FFP is now being given. In finding that the State has not shown
that the costs were necessary and reasonable, we considered not only the
fact that the system was never fully implemented and was closed down but
also other descriptive documents in the file.
The operational audit dated February 1978 done by the North Carolina
Department of State Audit (AF, Exhibit X) stated:
We believe the software (computer programs and procedures) resulting
from these rush efforts suffered because of the lack of adequate advance
planning and sufficient time for proper tests to be conducted. The
"bugs" in the program caused may problems in the system, and the
attempts used to short-cut the customary procedures often resulted in
further complications. Moreover, over one hundred computer terminals
were placed in the county offices before proper tests could be run and
before all county employees were trained in the coorect use of the
equipment. These efforts reulted in a system which never became
reliable enough to replace the previous system. . . (p. 6)
. . .In addition, the data base which resulted from the DAISIE system
could not be used to generate the Medicaid labels and public assistance
checks. This problem resulted because the data file would not interface
with the programs designed to perform these tasks. Hours of expensive
computer time would have been required to convert the data into usable
form each time the labels and checks were to be produced. . . (p. 7)
In a section titled "Program Results and Recommendations," the audit
stated:
Looking backward, we believe that the DAISIE project was unsuccessful
because management failed to ensure adequate advanced planning for this
program. We also believe that outside influences contributed to the
original time frame restrictions which prevented proper planning,
review, and testing of the system. Also, personnel assigned to the
project apparently lacked the expertise to design and implement such a
complex program. As a result, the DAISIE project cost the taxpayers in
excess of one million dollars, and it is difficult to determine what, if
any, benefit the State received in return. (p. 8)
(8) In its comments to the Assistant Secretary on the question of
retroactive approval of DAISIE, the Social Security Administration
indirectly addressed the question of reasonableness of the costs. After
reviewing the 1977 APD, it said:
The deficiencies found give some possible clues as to why the system
failed. The most glaring example is listed as number 4 below and can be
categorized as poor planning. Our findings resulting from this recent
review of DAISIE are as follows:
1) The five-year life of the system is too short for the amount of
money expended for development and operation. ($4,030,000)
2) There is no plan for distributing costs that cannot be directly
charged such as training, travel, supplies. These costs are included in
the Federal share, but how North Carolina intends them to be distributed
is not defined.
3) The APD does not specify that matching State funds are available.
4) There is no Implementation Schedule provision for decision/
approval points. Also, the schedule shows a standard identical
functional approach for development of all programs. It seems to be
only a generalized approach in which there are no specific program
objectives or benefits (except that Public Assistance recipients'
records will be maintained in a common data base).
In response to the Agency's argument that no benefits from DAISIE had
been received, the State provided documents which is said described what
had been learned from the DAISIE failure and how those lessons were put
to use in the systems now receiving FFP. The State also argued that
some of the same hardware and software were used in the new systems (AF,
Exhibits L, M, QQ). The State asked that we consider DAISIE as a
"partial failure of one developmental state of an ultimately successful
ADP project. . ." (Response of North Carolina Department of Human
Resources to Order to Develop the Record, p. 15).
In response, the Agency noted that many of the lessons seem
elementary, and we agree that they appear to be basic, common sense
rules of sound management. For example, Exhibit L lists such lessons as
"there needs to be management review of system progress and for
establishing priorities," "the data processing hardware and software
is
to be selected (9) based upon the requirement of the welfare program
needs," "adequate time for training of the data processing staff in
new
methods of data handling must be allowed." The rest of that document
indicates that tangibles were being used in 1981 which were related in
varying degrees to those for DAISIE, but we cannot determine that this
description indicates that the earlier costs were reasonable. Exhibit M
merely states the Regional HCFA Administrator's conclusion that she
agreed with the State that some benefit was received; she does not
elaborate as to the specific benefits. Exhibit QQ appears to be a 1977
document from the State to the Agency explaining that DAISIE
implementation was being changed and how the system was going to be
implemented through 1979. Once again, we cannot conclude from this
document that the earlier costs should be considered reasonable and
necessary. Exhibit KKK presents a somewhat technical description by a
State official of how the currently-approved ADP projects evolved from
DAISIE.This document indicates that changes did occur, e.g. from a
"transaction driven process" to a "form driven process"
and from a
client based system to a family unit based system. We, therefore,
cannot determine that the old and new systems are so similar that the
earlier costs should be considered reasonable and necessary. /5/
CONCLUSION
For the reasons stated above, we uphold the disallowance of $552,864
pertaining to DAISIE. /1/ Because of the length of time that the
question of the approval of DAISIE was pending -- from
submission of the first request for approval of the automatic data
processing system to our decision -- many offices within DHHS have been
involved. Unless specifically identified, the word "Agency", depending
on the context, will be used to mean the office within the Department
dealing with the case, or to counsel for the Department. /2/
Titles IV-A, IV-D, XIX, XX, XX Training, Child Welfare Services, Family
Planning, Food Stamps, and WIN. /3/ Much of the parties' briefs
and evidence revolves around the question of whether the State ever
actually received approval of the system. The State alleged that it had
received approval from a Regional Official but had no contemporaneous
evidence whatsoever of such approval, nor did it even have
after-the-fact evidence of specifically when and by whom approval was
given. There is evidence that a Regional official stated subsequent to
1978 that he thought that the system had been approved (AF, Exhibits FF
- II), although not by him, but when he refreshed his recollections by
reviewing Agency files, he found no evidence of prior approval (AF,
Exhibit VV). Because our decision is based on other reasons, we do not
address the issue of whether approval was in fact given. /4/ We
recognize that the Agency may have a legitimate need to place
requirements on a grant or a class of grants which are different from
the requirements of Part 74 and the cost principles. The regulations
allow for this through the deviation procedures set forth in 45 CFR
74.6. However, the Agency has not argued here that it intended to
deviate from the the otherwise applicable regulations. /5/ The
Agency implied that FFP in the new systems may in fact include some of
the DAISIE costs characterized as developmental costs of the new systems
(Respondent's Response to the Board's Order to Develop the Record, p.
13).
OCTOBER 22, 1983