The Pentagon and defense contractors are in a bitter dispute over government auditors' access to corporate records. The companies have just won a major victory, but the fighting is far from over.

The issue involves cost-plus contracts, which are used for major weapons systems and under which the winning bidder is paid its actual costs in doing the work for the Defense Department, plus a profit margin. To ensure that the charges are reasonable, the Defense Department keeps a corps of auditors on the premises where major contracts are being carried out.

As Congress has become increasingly skeptical about the amounts being paid on defense contracts, those auditors have become more demanding. The controversy concerns whether their demands have gone beyond their legal authority.

The auditors work for the Defense Contract Audit Agency. In other government departments, similar auditing groups work for inspectors general, but at the Pentagon they have been kept separate. Business agrees that the inspectors general, charged with ferreting out fraud, have broad subpoena powers. But the current issue is whether the auditors have similar rights.

The Defense Contract Audit Agency has been making "deeper, broader, wider demands than ever before," said Washington lawyer John G. DeGooyer, a leader in the fight against the development. The auditors have asked for minutes of corporate directors' meetings, for communications between company officials and their lawyers, and for the right to walk up to a worker on the plant floor and ask questions.

The requests raise the hackles of company brass. But so far the most serious confrontations have involved demands for copies of internal audits by the companies. Officials of the companies said that often the audit agency's demands are coupled with at least a veiled threat that opposition will result in payments on the contracts being held up -- a threat that persuades many executives to turn over the records. But when the the audit agency subpoenaed internal audits from Newport News Shipbuilding and Dry Dock Co. in late 1986, the company decided to fight. It asked the U.S. District Court in Newport News to declare that the agency had overstepped its authority.

Judge J. Calvitt Clarke Jr. ruled just that way. Last month, the U.S. Court of Appeals in Richmond agreed.

The audits in question are essentially management documents: examinations of the way a particular department is working with recommendations for improving efficiency. They are described by the appellate court as a "subjective evaluation."

The Pentagon's position was, essentially, that because it pays for virtually everything at Newport News Shipbuilding -- 98 percent of the company's work is for the government, primarily the Navy -- agency auditors can see any corporate documents they want. But the appellate court decision handed down Jan. 19 took a much more limited view: Only records that show the expenses run up on specific contracts are fair game.

In U.S. v. Newport News Shipbuilding, the judges said: "Cost verification data, not the work product of internal auditors, is the proper subject of a DCAA subpoena. DCAA performs a critical auditing mission, but it is not running the company."

The rumor is that the audit agency, in response, has asked to have future government contracts include a provision specifically obligating the company to turn over internal audits when Pentagon auditors ask for them.

James H. Curry, the Defense Department's assistant inspector general in charge of audit policy, wants to go even further. Any list of documents that auditors have a right to see will run into trouble because "uniform or standard terminology for records and systems does not exist within the contractor community," he said. He wants an open-ended provision in Pentagon contracts obligating companies to turn over "those records, personnel and facilities required for the accomplishment of audits."

No end to the battle is in sight. In fact, Curry predicts that "the problem is not going to get better; it's going to get worse." That's because new auditing standards about to be promulgated tell every government auditor that his or her job includes not just checking cost figures, but looking for signs of fraud as well. "Everything is being viewed as a potential, or actual, criminal investigation," Curry said.

A company like Newport News Shipbuilding will continue to fight. But executives say that firms less dependent on Pentagon business may just walk away from the bidding on cost-plus contracts, rather than risk having to turn over sensitive internal documents.

"This hectoring of industry seems to drive the industrial base away," William Porter of Control Data Corp. warned at an American Bar Association meeting on the issue this month.Moskowitz covers legal affairs for McGraw-Hill World News.