Westinghouse should benefit by $180,000 of this amount and Newport News the remaining $13,000.

The draft report recommends that Navy (1) effect recovery of the overcharge and (2) bring this case to the attention of contracting officials.

B. NAVY STATEMENT

1. In General

The Westinghouse subcontract was awarded by Newport News after completion of procurement processes fully in accord with the policies and practices which had been reviewed and approved by the Navy. These policies and practices were consistent with the requirements of the Armed Services Procurement Regulation which, as Navy pointed out in response to a previous GAO report, did not require cost analysis in cases where the competition present, when coupled with appropriate price analysis, was deemed to be adequate for the purpose of assuring the reasonableness of prices.

As Navy stated, the determination of what constitutes "adequate" competition has always been, and in the final analysis will continue to be, a matter for the exercise of judgment in individual cases. Until recently, no guidelines had been promulgated to aid the contracting officer in making such judgments. Following enactment of P.L. 87-653, the Department of Defense devoted a great deal of effort to the development of guidelines, now published in ASPR 3-807.1, for making judgments as to the existence of "adequate" competition.

In connection with the award of the Westinghouse subcontract, the proposed price was evaluated on the basis of competition plus price analysis, as discussed more fully below. Whether or not current standards would today require, in addition, the obtaining and analysis of cost or pricing data would, of course, depend on the circumstances of the particular case. The point, however, is that it would be inappropriate to apply the standards in effect today in examining the reasonableness of actions which, at the time they were taken, were fully consistent with the standards that were then in effect and that had widespread acceptance and approval.

2. Position

For reasons to be stated, the Navy considers that the actions of Newport News and the Bureau of Ships were neither imprudent nor unreasonable when viewed in the light of the circumstances and of standards then existing. Thus, the Navy does not propose to seek a refund.

Because of the widespread dissemination which the new guidelines have received as the result of publication in ASPR, it is considered that no useful purpose would be accomplished by bringing this particular report to the attention of pricing activities.

*GAO Draft Report of 31 March 1964 on Overpricing of Nuclear Components from Combustion Engineering (OSD Case #1879)

3. The Procurement Action

As indicated in the draft report, there were only two qualified suppliers of aircraft elevator machinery: Otis Elevator Company and the Elevator Division of Westinghouse Electric Corporation. To obtain this machinery Newport News was limited, therefore, to two sources from which it could solicit offers. The new ASPR-prescribed guidelines recognize, however, that such a limitation, in itself, neither precludes adequate competition nor the reasonableness of prices.

Between 1952 and 1958, when the aircraft elevator machinery for the ENTERPRISE was awarded, Westinghouse or Otis had supplied such machinery for six aircraft carriers, for two of which Newport News was the prime contractor. Both suppliers submitted proposals on each of these six procurements and, as might be expected, sometimes Otis won the award, sometimes Westinghouse. In this sense each had a reasonable expectation of participating on a competitive basis in the procurement of the aircraft elevator machinery for the ENTERPRISE. They had repeatedly demonstrated a strong desire to obtain this business.

More significant, however, is the fact that at the time here pertinent the backlog of work of each supplier was far below normal. In such circumstances, each had the strongest incentive to be aggressively competitive. The fact that the ENTERPRISE was the first nuclear carrier to be built provided another important incentive as this meant that each supplier's prestige and competitive position in a new program were at stake.

In addition, as the draft report indicates, Navy approved the award to Westinghouse based, in part, on a price anlysis which indicated that the price compared favorably with prices previously paid for elevator machinery. The proposed price of Westinghouse submitted for approval was $2,922,000, subject to escalation. Previous prices paid for similar machinery included $2,979,000 for the U.S.S. FORRESTAL and $2,715,000 for the U.S.S. RANGER.

In the foregoing circumstances, review of the Westinghouse cost estimates was not considered necessary. Accordingly, it is not considered that it was imprudent or unreasonable for Newport News to make the award and for the Bureau of Ships to consent thereto, without such review.

The fact that Newport News acted as a subcontractor to one of its suppliers ordinarily would be considered unusual, but in this case it was necessary. By reason of their union agreements both Otis and Westinghouse were required to quote on a furnish and install basis only, which is in accordance with standard practice of the elevator industry. Newport News was not precluded under the prime contract from buying the elevator machinery without engines and reserving the engines for itself, but such industry practice made this arrangement impracticable. Thus, if Newport News were to successfully compete for the engines it was compelled, as here, to accept a second-tier subcontract.

Finally, Navy does not agree with the GAO suggestion that Newport News should have attempted to obtain a reduction in Westinghouse's price when Newport News reduced its price proposal to Westinghouse for the engines. Presumably, Newport News would not have received the award in the absence of a price reduction. Its initial quotation was an "approximate price" that was higher than a firm price quotation of its competitor, Baldwin-LimaHamilton Corporation. The competitor's lower price, GAO notes, was used by Westinghouse in preparing its price quotation to Newport News for the elevators. Also, as GAO indicates, Newport News would not have been aware of the amount Westinghouse had included in the price negotiated for the elevator engines. Thus, the lower price quoted by Newport News was not a gratuitous concession but a competitive figure aimed at obtaining an order that could well have gone to another firm. Under these circumstances, the submission by Newport News of a lower quotation to Westinghouse obviously afforded no basis for Newport News to request a price reduction from Westinghouse. If Newport News had attempted to obtain a price reduction, it is probable that the engines would have been awarded to another source.

APPENDIXES 4A-4C—ADDITIONAL STATEMENTS FOR

THE RECORD BY CONTRACTORS

APPENDIX 4A-STATEMENT BY HONEYWELL, INC.

Hon. CHET HOLIFIELD,

HONEYWELL, INC., AERONAUTICAL DIVISION, Minneapolis, Minn., July 10, 1965.

Chairman, Military Operations Subcommittee on Government Operations, House of Representatives.

DEAR MR. CHAIRMAN: We have reviewed the testimony of the General Accounting Office on July 8, 1965, concerning report B-146761 and would appreciate the opportunity to add a few brief comments to be included in the record of the hearings concerning the Comptroller General reports to Congress on audits of defense contracts.

We are pleased to note that the General Accounting Office testimony on July 8, 1965, concerning report B-146761 apparently accepts the long-term pricing method utilized by the Aeronautical Division of Honeywell, Inc.

However, two points are brought out in the July 8, 1965, GAO testimony to the House Military Operations Subcommittee which should be clarified.

I. Page 48 of the GAO testimony states:

"However, this company generally refused to furnish cost data to the Government's prime contractors and subcontractors or permit representatives of the military departments and the National Aeronautics and Space Administration to review its records of costs previously experienced in producing these gyroscopes."

Honeywell did not allow access to its records because prices were not established based on an evaluation of current costs. Prices were the same to all customers, or lower on subsequent procurements, and were not on the basis of current cost. There is no doubt that our prices would have been accepted for early procurements when we were in a loss or nominal profit position. However, we were extremely concerned that current cost would be utilized later to reduce our prices below the competitive level when costs were at a lower point on the learning curve; this would prohibit achieving a fair return even if the predicted market materialized.

This problem was discussed with Government personnel many times. It was evident that Government representatives were not willing to accept the long-term pricing concept because procurement regulations did not prohibit this approach but they also did not clearly and positively recognize this pricing concept. Of course, this problem is now resolved as a result of the long-term pricing agreement with DOD and NASA.

II. Page 49 of the GAO testimony states:

"Since production for the Government has absorbed a substantial portion of the development costs of the GG-49 gyros through overhead charges, recovery of such costs under subsequent contracts and subcontracts would result in duplicate payment of the contractor for these costs."

This statement infers that Honeywell may have recovered the same costs twice. This is completely erroneous. Any cost once recovered through overhead was not again charged to the GG-49 gyroscope. The GG-49 gyroscope costs, as reported in the GAO report and the costs reported by Honeywell, include only costs specifically inventoried and charged to this product plus the proper and applicable share of divisional and corporate overhead.

Inasmuch as our reply dated March 12, 1964, to the GAO report B-146761 and included as appendix II in the report as well as our testimony to the House Military Operations Subcommittee on June 1, 1965, specifically set forth Honeywell's position in detail, it does not appear necessary to comment further.

Sincerely,

W. T. NOLL,

Vice President and General Manager.

1072

APPENDIX 4B-STATEMENT BY MELPAR, INC.

Hon. CHET HOLIFIELD,

MELPAR, INC.,

Falls Church Va., July 16, 1965.

Chairman, Military Operations Subcommittee, Committee on Government Operations, House of Representatives, Washington, D.C.

MY DEAR MR. CONGRESSMAN: I appeared before your subcommittee on June 3 and presented a statement regarding GAO audit report B-118695. On June 17, 1965, the Comptroller General filed letter B-155327 with your subcommittee in which he commented, among other things, on this audit report. In view of his further statement on the subject, I am enclosing a one-page supplementary comment for inclusion in the printed record, if you would be good enough to include it. Thank you very much for the opportunity afforded by your subcommittee to air this GAO audit report in public. We feel that the audit report was most unfair in its content and publicity, and we hope that the enclosure will help to rectify the situation.

Respectfully yours,

Enclosure.

AUSTIN G. ROE, House Counsel.

SUPPLEMENTARY STATEMENT BY AUSTIN G. ROE, HOUSE COUNSEL, MELPAR, INC., TO THE MILITARY OPERATIONS SUBCOMMITTEE, COMMITTEE ON GOVERNMENT OPERATIONS, HOUSE OF REPRESENTATIVES

The public hearings with respect to GAO audit reports, which includes audit report B-118695, dated February 7, 1964, appear to have reduced the issues in this report to two matters:

1. Whether Melpar's records at the time of pricing subcontract P.O. 509 were suitable for use in projecting future labor costs for purposes of pricing a subcontract on a firm fixed-price basis, and

2. Whether Melpar was contractually authorized to place orders for materials from suppliers prior to the subcontract pricing negotiations which took place on October 10-12, 1960.

The first issue involves solely a matter of judgment on which opinions may differ. Melpar's accounting and records system had the approval of the Defense Department auditors. The after-the-fact opinion of the GAO auditors that the records should have been different is hardly a sound basis for advocating a reopening of a contract.

The second issue involves simply a question as to whether in fact Letter Contract 509 was issued by General Dynamics to Melpar on August 26, 1960 as represented by the GAO (Reference: p. 79 of GAO letter B-155327, dated June 17, 1965, to the chairman, House Military Operations Subcommittee). The letter contract was dated August 26, 1960 by General Dynamics and sent to the AF contracting officer for approval; his approval was given on the 17th of October; the letter contract was then sent to Melpar, signed and returned to General Dynamics on the 27th of October. (A photocopy of the date and signature pages is attached). It is clear that Melpar did not have the authority to place orders for the materials prior to the subcontract pricing negotiations as represented by the GAO.

This is one example of the kind of mistake which underlies the audit report. There have been three audits and three supplementary audits of the subcontract. It would seem that there should be an end to this.